Britain is hooked on car finance

Spectator

2 days ago

It's unnerving to think how close Britain came to financial disaster last Friday, ahead of a Supreme Court ruling on – of all things – car financing. In October, the Court of Appeal found that motor finance firms could be liable for hidden commission payments to car dealers. If the Supreme Court had agreed, the biggest lenders, including Lloyds Banking Group, Santander, Barclays and Close Brothers, would have been on the hook for some £44 billion, with Lloyds already putting aside £1.15 billion for compensation payments and Close Brothers selling off its asset management arm this year. In an unprecedented intervention, Rachel Reeves urged the court to avoid handing out a windfall, and the Treasury was nervously briefing that the government could pass retroactive legislation to protect lenders.
In the event, the Supreme Court ruling – delayed until markets closed to avoid stock volatility – found that the motor finance lenders were only liable for some commission payments, reducing the potential bill to between £9 billion and £18 billion – eye-watering, but not catastrophic. The stock price of Close Brothers, the most exposed lender, rose 23 per cent on Monday.
Still, it doesn't exactly bode well that one of the world's largest economies can almost be brought down by too many people buying Audis on credit. Since 2008, economists have been on the lookout for the cause of the next financial crash. As it turns out, it could have been parked in your driveway.
In retrospect, it should have been obvious that something strange is going on with the UK car market. I've been obsessed for a while now by the sheer number of Land Rovers, Audis and BWMs on the roads. In the small town where I live (average salary £40,000), it sometimes feels as though almost every other car is a new Range Rover (RRP £100,000). The owners of these huge SUVs have normal jobs and one assumes normal incomes. How is anyone affording this?
The answer is normally a Personal Contract Purchase (PCP), a type of loan which has become increasingly popular. With a PCP there is a lower monthly fee than with other payment options – because you're not paying for the car itself, just the depreciation of its value, plus interest.
At the end of the contract, you can decide to pay a 'balloon payment' to buy the car you've been driving, walk away with nothing, or as I suspect most people do, upgrade to a newer, nicer car on PCP for a higher monthly fee. Which is fine if you can afford the payments, but one wonders how many people end up driving round in a new Merc with an ever-decreasing disposable income.
The data certainly seems to suggest that people are borrowing increasing amounts for nicer cars. In 2017, the Bank of England and Financial Conduct Authority were sounding the alarm when yearly car loans reached a record £31.6 billion. In the year to this May, it rose to just under £40 billion, outpacing car sales, according to Finance and Leasing Association figures. The typical loan for a new car was £28,400 – a smidge under the average worker's yearly earnings after taxes.
Those of us who smugly avoid financing deals like to tell ourselves that all this is unsustainable, but then Brits have been loading up on personal debt for years without any major problems for the economy. What the car finance ruling really seems to show is not that people are borrowing too much (although they probably are), but that the era of sky-high personal debt may not be able to survive the Martin Lewis-ification of society.
It may be a little unfair to single out Lewis here. For many, he's simply the friendly face of parsimony, with his MoneySavingExpert site helping us save some pennies. But he's also probably done more than anyone else to create a compensation culture in Britain. Consumers are determined to wring every pound out of the businesses and government departments they deal with – and now know how to make it happen. In the past, if a car finance company owed you money, you'd be on your own. Now, thanks to the likes of Lewis, you can jump aboard the compensation gravy train with millions of others.
This wouldn't be such a bad thing if we were dealing with small amounts of money. But the size of UK household debt – £2 trillion – means that when lenders inevitably behave badly, a single court ruling can lead to compensation payouts of tens, even hundreds, of billions. Which means that every credit card or car loan has the potential to become the next subprime mortgage scandal.