IMF warns on precarious state of household finances

Record levels of mortgage and credit card debt have left families "potentially vulnerable" to a sudden economic shock, the International Monetary Fund warned yesterday.

The world's chief financial watchdog said households in countries such as the UK and US were exposed to asset prices such as housing that were being used as collateral for their debts.

"These developments increasingly expose the household sector to the performance of asset markets," it said in its biannual review of financial stability. "Most likely, substantial asset price declines would undermine consumer confidence and reduce personal consumption."

It pointed at the recent rise in personal insolvencies from very low levels and to a rise in the number of British banks raising their provisions for bad debts.

"At the end of 2004, household debt represented 102 per cent of GDP, and 150 per cent of annual household income, pointing to some potential vulnerability in household balance sheets," it said. Total household debt hit the £1 trillion mark this year, although the pace of increase has slowed since then.

The slowdown has been most dramatic in the housing market. The annual rate of house price inflation fell to just 2.5 per cent last month, compared with 21.3 per cent in the same period a year earlier. Mortgage approvals in May 2005 were down 24 per cent from a year ago, while mortgage equity withdrawal - raising money against the value of a home - has fallen from £17.5bn to £6.5bn between the end of 2003 and the start of this year. "A decline in mortgage equity withdrawal may signal an increased reluctance of households to borrow for consumption and could be followed by a more pronounced slowdown in consumer borrowing," the IMF said.

The warning came as new figures showed retail spending ground to a halt in August.

The IMF is likely to reiterate its concerns next week, when it is expected to cut its forecasts for growth in the UK and the rest of the world after surging oil prices. But it said the factors that had bolstered stability - low inflation and interest rates, solid growth and low-risk premiums - had sparked a global boom in debt and asset prices that presented a medium-term risk.