Trevor Law: Is debt really a problem?

Feb 18 2010 By Trevor Law

We have all seen the huge numbers that have been calculated showing that the UK is at the top of the charts for the amount of debt that we are presently carrying. This has caused many commentators to declare us bankrupt and to suggest that the game is really up for UK PLC.

Our national debt figures in the first decade of the 21st century do make pretty grim reading. Back in 2002 after a period of financial restraint, national debt as a per cent of GDP fell to 29 per cent.

By 2007, it had increased to 37 per cent despite a long period of economic expansion as the government spent more on health and education.

Then the effects of the economic crisis saw the figure rise to 61.7 per cent – £870 billion – of national GDP last November, according to the figures published by the Office for National Statistics.

Now according to ukpublicspending.co.uk, this figure has risen again so the debt percentage is now beyond 70 per cent.

Before one gets too depressed, it is worth recalling that current figures are nowhere near unprecedented.

Going back to the years of the Great Depression, the ukpublicspending.co.uk table has the 1933 national debt figure at 177.57 per cent. In the post-war years when Britain was paying a heavy economic price for the Allied victory in the Second World War, the 1947 figure at a stratospheric 237.93 per cent.

Even in those swinging sixties when everybody seemed so well off well-off the debt figure ranged from a high of 98.94 per cent in 1962 to a low of 72.49 per cent in 1969.

The reality is the level of debt that we carry should always be considered against the assets to which they are secured. Further, if the debt is serviceable and managed properly under control then it is not a serious issue.

There is no doubt that in this country huge levels of debt have been incurred by Government, businesses and individuals. However, whether this becomes the downfall for us all is how we deal with this debt going forward.

Fortunately extremely low levels of interest rates have taken the pressure off. The danger is becoming complacent and maintaining this debt because it is serviceable at present interest rates, which are not always going to exist.

So, reducing our existing debt obligations and insuring that the rate of interest can be serviced is how we should tackle the problem going forward.

For private individuals, already significant amounts of personal debt have been reduced and as long as consumer spending is not reduced significantly to a degree that the economy grinds to a halt, then a measured controlled reduction of personal debt in the coming years will not create too many problems.

We all carry excesses and are guilty of waste.

With the debt culture of recent decades, it would be unrealistic to expect a return to past values and a society in which many regarded getting into debt with some dread.

But simply cutting much of our excessive spending and having a proper plan to deal with debt will go a long way to solving the problem.

Businesses have been reducing their debt obligations, some have been forced to it by their banks, others have looked at their overheads and recognised costs that can be cut

Unfortunately, some of these costs may be job related, and the impact of freezing or reducing wages or even jobs altogether could have an impact on consumers’ ability outlined above to reduce personal debt.

Finally, we all know that the Government has a massive debt problem. Where does the Government get its income from? Predominantly taxes on both the corporate and personal sector.

Hence if businesses and consumers are clobbered with higher rates of taxes, including National Insurance and rates, they will not be able to put their own house in order.

So everything stems from the Government.

Has Gordon Brown got the means to tackle this problem over the next five years? Does David Cameron have a better plan for making the tough decisions that will doubtless need to be taken to sensibly deal with debt in the coming years?

There is no doubt that interest rates will have to remain low for perhaps three to five years. this gives everyone a chance to get their house in order.

The impact on investors will of course mean that deposit rates will be very low but it could be good news for fixed interest and corporate bond investors.

Also equity income investors who take advantage of extremely attractive levels of dividend yield on undervalued shares could benefit as long as they are prepared to ride volatility over the next three to five years.

More than ever, investors must be prepared to take a five year view, accept some volatility and I believe that in the current environment, whichever government is in power, they will be rewarded with returns well above the rates of cash deposits.

-Trevor Law is a director with Montpelier Group (Europe), the privately-owned independent financial advisers located near Solihull.