BEHAVE International Conference Households in the Financial Crisis: Consumer credit and policy

1. BEHAVE International Conference Households in the Financial Crisis: Consumer credit and policy January 17, 2014 The political economy of household debt: putting household indebtedness into a financialised context Ana Cordeiro Santos (CES, UC)

2. 1. A political economy approach to household debt: starting point Individual decisions are never made in an unconstrained environment, the overall socioeconomic context influences the relative position and the alternatives available to individuals • Need to consider the social and political institutions that determine how resources are produced and distributed among different social groups, and how these arrangements impact on dominant social norms and values • Need to consider the socio-economic conditions under which credit operates

3. 1. Financialisation and households: the increased economic and political relevance of the financial sector 1) The extraordinary expansion of financial assets and financial activity relative to the rest of the economy; 2) The proliferation of different types of assets, including financial products based on credit, e.g. mortgage backed securities (MBS) and credit default swaps (CDS); 3) The absolute and relative expansion of speculative as opposed to or at the expense of real investment; 4) A shift in the balance of productive to financial imperatives within the private sector (e.g. the maximisation of shareholder value);

4. 1. Financialisation and households: : the increased economic and political relevance of the financial sector 5) Increasing income inequality due to financial rewards and wage stagnation; 6) Consumer-led booms based on credit; 7) The penetration of finance into ever more areas of economic and social life such as pensions, education, health, and provision of economic and social infrastructure; 8) The emergence of a culture of reliance upon markets and private capital and corresponding opposition to state-led provision, though the state has been a key player in promoting financialisation.

5. 1. Financialisation and households: the increased economic and political relevance of the financial sector • The construction of the EMU: expansion of the financial sector - privatisation, which has led to the expansion of stock markets; - liberalization, which opened markets, especially to international players; • deregulation on the financial sphere enabling the emergence of new actors (such as hedge funds), products (the multitude of derivatives) and markets (student loans) • Fiscal constraints imposed by EMU: leading to the retreat of the welfares states and the privatisation of social provision, e.g. health, education, pensions - Maastricht Treaty (1992), Stability Pact (1998), European Fiscal Compact (2011), EC/ECB/IMF Economic Adjustment Programmes for Ireland (2010), Greece (2010), Portugal (2011).

6. 2. Financialisation and households: debt and financial assets • Faced with new consumption norms and real income stagnation, low and medium-income households incurred in rising levels of debt in order to keep up with consumer demands emerging in an increasingly unequal society marked by the growing privatisation of public provision • Note: UK, USA, Spain, Greece, Ireland (Barba and Pivetti, 2009; Hein, 2012) • The expansion of housing and consumer credit is a generalised trend in Europe • The systemic character of this process is also expressed in householdasset acquisition: growing levels of household holdings of shares, bonds, and pension funds and securities (especially among wealthier households) (Santos and Teles, 2013)

7. 3. Recent trends in the EU Total household debt 1998-2011 (% GDP) Source: ECRI

8. 3. Recent trends in the EU Housing loans to total household debt 2000 vs 2011(%) Source: ECRI

9. 3. Recent trends in the EU Life insurance and pension funds reserves 1995-2012 (% GDP) Source: Eurostat

10. 3. Recent trends in the EU Household financial wealth and debt, 2010 (% of household disposable income) Source: Eurostat and ECRI

11. 3. Recent trends in the EU Participation in financial markets by household income threshold 2009-10 (% of households) Source: HFCS Housing loans Voluntary pension plans Bottom income group Top income group

12. 3. Recent trends in the EU Financial intermediation & real state vs manufacturing 1991-2010(millions of euro) Source: EUROSTAT Manufacturing Financial intermediation & real state

13. 3. Recent trends in the EU: what does it mean for households? 2. Financialisation and households: debt and financial assets • Transformation of citizens into consumers of financial products, where collectively earned individual rights are being replaced by increased access to financial markets • Individuals, especially younger generations, are required to increasingly take more responsibility for their own welfare, including education, planning of their own retirement, and the coverage of their health care needs (e.g. focus on financial literacy in schools) • More aspects of individual and collective lives have become prone to volatility from finance (e.g. evolution of interest rates, evolution housing prices, profitability of pension funds) • New sources of inequality stemming from the differentiated relations of individuals and households with the financial markets, potentially benefiting those that have access to more favourable credit conditions and are more protected from adverse outcomes (high-income workers, wealthier households)

14. 3. Recent trends in the EU: what does it mean for households 2. Financialisation and households: debt and financial assets A generalised common trend of growth of the financial sector is producing and magnifying inequality among countries (e.g. countries most hit by the financial crisis, e.g. Southern and Eastern European countries) and within countries (e.g. most vulnerable groups in each country, such as the long-term unemployed, indebted households).

15. 4. Policy implications: Revising key assumptions about financial markets Markets as the most effective and efficient allocation mechanism • The expansion of financial markets promotes competition and supplies more and better quality, through quasi-tailored made, financial products • Consumer welfare is promoted by market expansion: individuals will be better off by having more and better to choose from • Strong resistance to measures that restrain demand and supply (e.g. regulation) • The expansion of financial markets has been detrimental to the economy (economic instability, unemployment) and to many areas of social provision (reduction in quality and quantity of public provision)

16. 4. Policy implications: Revising key assumptions about individual choice Individuals are rational utility maximisers, have perfect information, well-defined and fixed preferences • Consumer credit is rational, it allows smoothing consumption during individuals’ life cycle: borrow when income is lower and save when it is higher than expected average income • The growth of household debt is the result of consumers’ rational responses to new incentives: easier access to cheap credit • Social problems tend to be perceived the outcome of deficient, uniformed individual market choices: consumers did not quite understood the risk associated with financial products, low-income segments have lived beyond their means

17. 4. Policy implications: Revising key assumptions about individual choice • systemic causes pertaining to the recent evolution of capitalist economies (as discussed above) • the role of the current economic crisis: radical alteration of household circumstances brought by unprecedented levels of unemployment and cuts of wages, social benefits and also of pensions (which could not have been predicted before the crisis) • the role of the state: underdeveloped renting housing market, fiscal policy incentives to the acquisition of houses on credit • the role of creditors (who are in an asymmetric relation with debtors): granted credit to low income and high-risk households • The impact of the social context on preferences: changing social norms, e.g. common sense that it’s rational to purchase homes on credit rather than renting on the private market

18. 4. Policy implications: conclusion • Consumer protection policy must go beyond fixing individual decision-making deficiencies, e.g. through information disclosure and financial education initiatives • It must take into account the structures that lead individuals and households into debt and financial vulnerability, otherwise it perpetuates extant constraints promoting unsustainable levels of household debt (e.g. unemployment rates, the presence of safety nets for households that may fall into arrears) • It requires a more informed view about the nature of credit decisions (e.g. their inter-temporal dimension and inherent uncertainty) and actual individual decision-making, which is more complex than the mere choice of the best alternative available (social norms, the differentiated needs of the members of the household, the role of advertising, the role of financial counsellors)

19. Thank You!