Savings and safety nets: low savings in the context of the poverty premium

Last week our head of corporate engagement, Carl Packman, presented at a conference hosted by the Centre for Research in the Arts, Social Sciences and Humanities (CRASSH) at Cambridge University on the topic of High-Cost Credit in an Age of Austerity.

What follows is a write-up of the notes from his presentation connecting low savings as an example of a “poverty penalty” to the concept of the poverty premium.

Since the conference, Gingerbread, the single parents charity, has published new figures on the topic of low income households’ savings habits, which shows that:

— 67% of those surveyed could not afford any of eight essential items (including heating their homes and replacing major electrical appliances) without making cut-backs elsewhere

— 53% reported a gross income below the Minimum Income Standard for single adults

— Faced with an unexpected bill of £300, 45% would need to generate additional funds (by using credit or borrowing from family and friends) in order to pay it

— 71% know how much money they have to the nearest £50, compared with 56% of a recent sample of UK adults of working age.

These figures, and the report, follow on from a Toynbee Hall report, Savings for the Future, from which I borrow figures for the broader population:

— People were saving less of their incomes in 2017 than at any time in the past 20 years.

— The household saving ratio in 2017 was half the level it had reached in 2009

— In 2016/17, about one in eight (13% equating to 6.5 million) UK adults had no cash savings whatsoever.

— A further quarter (24%) had savings that were less than £1,000 in total.

Yet borrowing is growing:

— In 2014–16, nearly half (47 per cent) of the population had some form of unsecured lending with credit and charge cards the most popular followed by formal loans, hire purchase and overdrafts

— Net consumer credit lending (excluding credit cards and student loans) is now growing at a rate of about 9 per cent per year.

— This rate of growth fell slightly in 2017/18 but was at a similar level to that witnessed just before the credit crunch in 2004/5.

We are a nation of borrowers.

To quote the FT recently: “British households have “historically low” amounts of disposable income available to save, and have been net borrowers for the longest period on record, according to new data which will add to fears that recent growth in spending is becoming unsustainable.”

According to the ONS: “The UK households have seen their outgoings surpass their income for the first time in nearly 30 years, our data have shown. On average, each UK household spent or invested around £900 more than they received in income in 2017; amounting to almost £25 billion (or about one-fifth of the annual NHS budget in England).”

The impact here is quite clear: the financial conditions in the UK are such that borrowing is either easier or preferable for borrowing than it is for saving.

But there’s more to this story: the impact of this situation, where it is easier or more preferable to borrow than to save, is not the same for everyone.

And that difference is marked by a difference in incomes and experiences. A theme I will develop.

Low/no savings and its relation to the poverty premium

Among people on low incomes the problem could be twofold:

  1. An inability to save due to income constraints, and/or
  2. Small sum saving/informal saving not cutting it against emergency financial situations.

In the former, this is a poverty penalty: the cost of living has outpaced the level of wages which has resulted in an inability to provide a financial cushion for unexpected events.

In the latter, small sum saving/informal saving is less than the money needed to weather an emergency, often requiring additional borrowing.

For many people on low incomes this borrowing comes at a price: borrowing from friends and family is often a one-off method that people seldom want to repeat (for more on this see Coventry University and Toynbee Hall’s work looking at the impacts of the cap on payday loans from 2018), while for others it could include borrowing, from a payday lender, home credit provider, “sub-prime” credit card provider, or another form of high cost credit.

For this reason not having savings precipitates the poverty premium.

So I’ll explain more about the differences.

The poverty penalty:

Very simply, owing to the fact that wages very often fall lower than the pace of the costs of living, this means the ability to save money becomes that much harder.

This has been a particular problem among those on low incomes. And a term which helps us describe the problem is: negative budget (or deficit income).

StepChange, the debt advice charity, found in 2018 that three in ten of their clients has a negative budget, where monthly expenditure exceeds monthly income — even after the advice and budgeting process.

This means even when someone has taken steps to use debt advice — which is by no means everyone that would benefit from it — 30% will have a shortfall even after adjustments are made.

The poverty premium:

The best way to explain the poverty premium is through Vimes’ Boots Theory:

In Terry Pratchet’s book Men at Arms, Captain Samuel Vimes figures that the difference between those people with a very high status and those with a very low status is their spending habits, although not in the way you might expect.

“The reason that the rich were so rich,” he says, “was because they managed to spend less money.” The narrator expounds by focusing on Vimes’s boot buying habits:

“[Vimes] earned 38 dollars a month plus allowances. A really good pair of leather boots cost 50 dollars. But an affordable pair of boots, which were OK for a season or two and then leaked like hell when the cardboard gave out, cost about 10 dollars… A man who could afford 50 dollars had a pair of boots that’d still be keeping his feet dry in 10 years’ time, while the poor man who could only afford cheap boots would have spent 100 dollars on boots in the same time and would still have wet feet.”

Rather than just footwear, the poverty premium describes the extra costs for particular essential items including financial services, insurance, and energy.

The most notable examples of the poverty premium include:

— the higher costs of credit from a high cost credit provider,

— the inability for a variety of reasons to search around for the best energy deal — which includes time poverty, as well as digital exclusion, and

— the higher premium costs to insure household items.

To date, the most detailed paper on the poverty premium is from researchers at the Personal Finance Research Centre at the University of Bristol.

In their report they find that the average cost of the poverty premium stands at £490 per year. However, they evaluated that low income households varied in their exposure to different premiums, and the premium could be as much as £750 for some households.

So, how does this interact with low savings?

The Money Advice Service has previously assessed the financial lives of those that are ‘struggling’ — a segment that earns on average £21,000, a quarter of whom earn between £0-£11,500:

— 58 per cent do have savings (compared with 75 per cent of the UK population as a whole), and

— the median value of which is £50 (compared with the average for the UK: £1,000).

They also assessed the cost of unexpected emergency bills:

— The mean overall cost of unexpected bills (including everything that survey respondents said they have had to pay for unexpectedly) is £1,545.

— The most typical unexpected cost was for car repairs, the mean cost of which came to £1,341.

— The least expensive unexpected mean cost, for a mobile phone breakdown, is £120.

— For context MAS at the time of their analysis found that 29 per cent of the working age population have less than £1,000 saved.

For a growing number of people savings, in the context of a negative or near-negative budget, are impossible to achieve.

Small sum savings, when they are achieved, may contribute positively to financial resilience and “good” financial behaviours. But very often the value of these savings don’t stand up to emergencies — a popular reason for why people decide to save at all.

This inability to save is doubly problematic for some consumers: a lack of savings requires borrowing, and borrowing is more expensive. Indeed the average additional cost of borrowing from a payday lender for a low income household is estimated to be £540 per year.

This is the interaction of the poverty penalty and the poverty premium.

This then begs the question: to increase savings rates, which issue do we prioritise? The poverty penalty or the poverty premium?

Of course these two should not be mutually exclusive. But we feel that to most effectively tackle the often unaffordable expense of saving money, rather than hoping nudges or incentives alone will work, we need to bring down the extra costs of essentials for those people with low incomes.

That represents a far bigger saving on balance. Our roadmap describes how, and with whom, we at Fair By Design are advocating solutions to eliminate the poverty premium.

For businesses we are calling for the better application of “user-centred design” principles (particularly COMPASS principles) in the design of new and existing services and products, as well as the establishment of design sprints and “hackathons” to ensure internal innovation is used toward a good social purpose.

For regulators and trade bodies we want to see a broadening of the cap on the cost of credit be applied to other forms of high cost credit, and applied at a reasonable rate (for both borrowers and lenders) to overdrafts and credit cards, as well as making elimination of the poverty premium a central focus of new or already established accelerator hubs and innovation sandboxes.

Finally, for government we want an inquiry into the poverty premium and why essential services have multi-tiered pricing systems that disproportionately disadvantage low income consumers, who often have the least time to constantly “compare the market” for the better deals, find themselves paying excessive risk premiums, or defaulting to high cost price tariffs.