Australia’s debt crisis will slow the economic recovery from COVID-19

Australia debt crisis slow recovery COVID-19 coronavirus household government
Debt levels in Australia are reaching alarming levels.

One of the most worrying things about the recovery from COVID-19 is the level of debt within Australia.

There has been a lot of focus on government debt and for good reason – it is barrelling higher at an unprecedented rate as both State and Federal Governments effectively turn large sectors of what was the private sector economy into an arm of the public service through massive income support measures.

Government debt at the Federal and State level is certainly a big concern as it rises so rapidly but arguably household debt is an even greater problem because it is so intractable.

Households can’t raise incomes easily

If Governments need more money, they can put up taxes or introduce new ones.

And compared to many other countries, our Government debts are still relatively low, albeit rising fast at the moment.

Households have no such luxury and they went into this crisis loaded up with an unprecedented amount of debt – an amazing amount that is almost double annual income and also about double the average amount held by US households.

Running at around 120% of GDP, Australia has been jostling with the Swiss to be the world champion for household debt, which has almost trebled since Australia’s last recession almost 30 years ago.

It would not be a surprise if this crisis finally took us past the Swiss to collect the dubious honour of becoming world champions, given the likely plunge in household income as unemployment skyrockets and the fall in GDP as household debt continues to rise.

Banks have been relaxed about household debt levels

Until now everybody has been remarkably relaxed about this level of household debt.

Banks and economists point out that the debt is held by people who can afford to service it – something that may be tested in the current circumstances as incomes fall and property values begin to fall.

To be fair, central bankers such as our own Dr Philip Lowe have pointed out that the high level of household debt could be inhibiting spending even as interest rates fell but bankers have generally been very relaxed, saying that housing debt is running at around half of what the house is worth.

That is a number that brings cheer to bankers because it means they are unlikely to take a loss on the house if the former occupants can’t pay the mortgage and it needs to be sold.

Households are feeling the squeeze

But it is far from a reassuring fact for households, many of which have now suffered a massive income shock at the same time as the banks have been outdoing each other with predictions that house prices could fall by as much as 32% over the next couple of years.

Furthermore, the response of the average household – and many thousands of households are far from average with much higher debts and million-dollar plus mortgages – has been to go further into debt to survive the crisis.

There is really little choice, particularly for those poor souls who for a variety of reasons are excluded from the JobKeeper scheme and have lost their jobs.

That high level of household debt must be serviced to keep a roof over the head so superannuation is being raided at up to $20,000 over two years and bank offers of six-month mortgage “holidays’’ that in reality are anything but have been gleefully grabbed with both hands.

That means that debts are rising and repayment periods are lengthening even as current and future incomes are falling and the unfamiliar spectre of a recession arrives with very little warning.

At the same time government debt is rising rapidly at all levels with even local councils spending up trying to stimulate activity.

Government spending up, revenue down

Government revenue streams are also being simultaneously crushed as stimulus and unemployment payments are ramping endlessly upwards even as stamp duty, income tax, land tax, payroll tax, gambling taxes and the GST are plummeting.

In Victoria, for example, Treasurer Tim Pallas is planning to spend an extra $24.5 billion over two years to fight the virus and try to hold back the recession – at a time when State borrowings were already on the rise to fund major infrastructure projects.

It is hard to be definitive at this stage but we should be prepared for state deficit in the multi-billions if things go well.

The Federal Government has moved from plans for surpluses this financial year and next and making a start to paying down foreign debt to deficits which are likely to be well above $100 billion and foreign debt that is increasing markedly.

If governments try to make good their losses on the tax and expenditure side they will need to hit already heavily indebted households harder at a time when household debt is rising and income is shrinking.

It is an unpalatable triple whammy of debt that will filter its way down to millions of kitchen tables around Australia.

While wealth is meant to “trickle down’’ when those at the top earn astronomical amounts, you can be much more certain that the effects of rising debts levels will really ‘’trickle down’’.