Disaster awaits if the finance sector fails to give consumers a better deal

Unless it tackles indebtedness, the level of unproductive debt will result in people retiring without any assets

SA, we have a problem. Much of the lending industry has evolved into something that harms rather than helps the financial position of the average client. Over the past four decades, consumer debt has shifted from largely productive borrowing that supported the accumulation of real assets into largely unproductive financing of consumption. As a result, we are creating a future in which millions of South Africans will be retiring with insolvent personal balance sheets, saved from abject poverty only by meagre state pensions.

In the 1970s the average savings rate of households was about 9.45% of disposable income. At the advent of democracy it was about 4%. From 2005 to 2017 the rate was less than zero, meaning that households have been spending more than they earn, cutting into their savings or borrowing to do it.

At the same time, total debt held by South Africans has climbed. Debt reached a peak in 2008 just prior to the global financial crisis at 86.4% of disposable income. That has since gradually improved and was at 72% in 2017.

This recovery has given some hope that the dire state of the consumer balance sheet is improving. But what is often missed in this gross figure is the make-up of that debt: it has shifted from mortgage debt to other forms of debt, largely unsecured personal loans.

According to Reserve Bank figures, since 2009 mortgage debt has sharply declined as a percentage of total debt, from 61% to 48%. From this we can assume that more of the borrowing South Africans are doing is funding depreciating assets or consumption rather than assets that appreciate. While some of this non-mortgage debt is used productively for education and asset accumulation, it is inevitably on average less productive than mortgage debt. And the average masks the fact that it is mostly the poor with unproductive debt while the wealthy access productive debt, compounding inequality.

Non-mortgage debt costs more. According to analysis by Intellidex, it is also more profitable for the banking industry, particularly after the profit shock of the global financial crisis, which resulted in home loan businesses incurring massive losses as property values fell. Banks have been shifting their lending from home loans into higher-margin unsecured lending. In 2008, for every rand the banking industry lent in personal loans it lent R11.80 to home borrowers. By 2018 that had fallen to R4.60 for every rand of personal lending. This is a function of the competitiveness of the market – if one bank can increase its profitability by shifting clients into unsecured loans rather than mortgage loans, the rest have to follow suit or face shrinking market shares and investor interest.

While banks have shifted their lending into unsecured loans, many non-bank lenders have also entered the market. The only thing that has saved consumers from a crippling increase in debt service costs is that interest rates are at their lowest level for almost 40 years. That has meant the total cash flow South Africans expend on servicing their debt has fallen since 2007, when interest rates began to drop.

However, this relief in debt service costs has been partly swamped by the rotation into more expensive debt. In 1998, when prime interest rates hit record levels of 25%, triggering massive financial distress, debt service costs consumed 12.4% of disposable income.

Now prime is below 10% and debt service costs consume 9.4% of disposable income. It would not take much of an interest rate increase to push consumer debt service costs back to those 1998 levels.

While in most banking markets consumers are a source of funding for banks, in SA it is the corporate sector that provides the funding while consumers are the source of assets. The problem with this inversion is that consumers have finite life spans and don’t have access to equity when they need to repair their insolvent balance sheets. This creates consumer financial fragility, a state in which consumers are unable to live good lives because their financial situations are so dire.

The National Credit Regulator says 9-million of 25-million credit-active consumers have impaired credit records, and many of those not impaired may be struggling to meet their obligations. This is a major problem on its own, but even more concerning is that even those able to service their debt are not accumulating assets. As consumers age and approach retirement, those who are accumulating unsecured debt and funding consumption will find themselves in a desperate situation. Creditors will pursue them for whatever assets they have and the cash received from the state pension and other social grants.

This creates political risk for the financial system. We have already seen consumer distress become a political issue through the credit information amnesty in 2014. That had a modest effect on the lending industry by deleting certain categories of adverse credit history from the records held by credit bureaus. But a far more serious and populist debt forgiveness campaign could well take hold in SA.

In India in 2017, following protests in which six died, $5bn of debt relief was granted to farmers. Locally, the Department of Trade and Industry in 2017 proposed amendments to the National Credit Act to give the minister the ability to grant debt relief in certain circumstances. A draft bill is now being considered.

We need a financial services industry that works to improve the balance sheets of consumers. Tackling indebtedness is one part of what’s needed. This could be achieved by the industry itself – there are examples around the world, such as Bangladesh, where the industry has come together to work to reduce client overindebtedness, though the market there is dominated by non-profits.

However, we also need to worry about the asset side of the balance sheet. The Treasury’s taxfree savings account capability, introduced in 2015, is a welcome push in the right direction. But we need the financial services industry to take this opportunity to ordinary South Africans.

This requires not just the development of products, but also an engagement with consumers that will shift behaviour. It is not just about better personal finance, but about nudging consumers towards behaviour that provides long-term financial stability.

Fintech is part of the answer. Technology can play the role of financial adviser to make it cheaper for consumers to access guidance on how to save for their goals. There are now lowcost products in the market that allow customers to save at various risk tiers. This means consumers with only small amounts can start saving, including into equity-based products to maximise return prospects.

To avoid the disaster that surely awaits us if the current generation reaches retirement with no assets, we need a national conversation. It needs to include the financial services industry that, while having caused the problem, is also the provider of solutions. Competitive efforts between providers to meet the needs of consumers can go a long way. The question is how to ensure the best interests of consumers are genuinely pursued.