Transcript Some Implications of Credit Spending

Some Implications of Credit
Spending: A Brunei Case Study
Dr Teo Siew Yean &
Mr Gabriel Yong
Contemporary Issues in Economic
Development of Small States
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Definition of “Consumption”
Consumption is normally the largest Gross
Domestic Product (GDP) component
 There are two definitions of consumption. First,
consumption may be divided according to the
durability of the purchased objects, for example,
durable goods (such as cars, refrigerators,
televisions)
 non-durable goods (such as groceries) and
services (laundry service, restaurant expenditure)

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Why we spend?

consumption is classified according to
individual needs, and a commonly
defined classification is:
 C = F + CL + Ho + R + U
+ AP + P + WH + E + ET
where   = 
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We spend on:
•
•
•
•
•
•
(a)
(b)
(c)
(d)
(e)
(f)
•
•
•
•
(g)
(h)
(i)
(j)
food
clothing and foot wear
housing
cars
utility bills
furniture, household appliances and services such as
plumbing services, changing bulbs, etc.
communication technology and phone, internet bills
wellness and hobbies
education
entertainment
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How far can we spend:
Cash (monthly earnings, bonus,
dividends, gifts & charity, winnings,
etc.)
 Credit (personal loan, car loan,
mortgage, credit card)

This empirical model is available upon request...
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Credit Spending?
Credit is a growing part of our day-to-day lives,
especially in urban cities
 Most of us have loans, or other credit, which can
be managed without difficulty if the person has the
discipline to repay a minimal amount every month
 Borrowing can be a useful tool to help households
smooth their expenditure over time

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Debt Vs Over-Indebtedness

Debt is not the same as over-indebtedness

Debt only becomes a problem when people
cannot afford the repayments. It becomes a
problem when it turns to over-indebtedness
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Debt Vs Over-indebtedness, cont.
Over-indebtedness has a cost:
(a) a cost to consumer in terms of running the
risk of personal bankruptcy
(b) a cost to banks/creditors in terms of outstanding loans
(c) a cost to businesses in terms of profits cut
(d) a cost to the Government in terms of debt collection and
enforcement
(e) a cost to the overall economy in terms of job cuts and
economic instability
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Credit performance in Brunei:

Reported by random phone
interviews, about 45- 50 percent of
Brunei bank customers apply for credit
facilities (personal loan, car loan,
mortgage, credit card/s) from bank
which they keep their savings account
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COMMON ASSERTIONS
Credit spending drives
economic growth
But credit expansion leads
only to short term growth
Credit-spending keeps
consumers in perpetual debt
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Comparison between Brunei &
Singapore:

Singapore Straits Times (reported 1st
January 2005):
credit card holders = 2.95 million
=> an average 1.2 S’porean owns a credit
card/ 1 person owns more than a card
Total credit = 2.64 billion
=> an average of SGD895 amount owed
per card holder
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Comparison between Brunei & Singapore, Cont:
•Brunei Fiscal & Monetary Report, 2004
Credit card holders as at Sept 2004=
94,211
=> an average of 25 percent of Brunei
population owns credit card/s
Total rollover credit as at Sept 2004 =
160 million
=> an average of BND1698 credit card
debt per card holder
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The main objective of this paper is to find
out how credit consumption affect the economy
CCS = Am – R + I
(1)
where CCS = cumulative credit spending
AM = amount owed
R is the monthly repayment
I is the interest rate charged on amount owed every month
Rt+1 = m.CCSt+1
(2)
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Cont’
A future oriented consumer is more likely want to settle his credit
debt promptly so he could avoid to pay huge interest on amount owed
and also enable himself to spend more in the future. Consumers in this
category are more likely to have higher rate of repayment.
There is a direct relationship between R and m.
On the other hand, a present oriented consumer does not mind to pay
more on interest rate charges to maintain his spending power.
In this scenario, the consumer pays a smaller m and has a high CCS.
However, he has to compromise this “high availability to spend” by
paying higher rate of interest each month.
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Cont’
It+1 = [ (0.24/12). (CCS - Rt+1) ]
(3)
AS t+1 = Y - CCSt+1
(4)
Therefore, available spending, AS t+, depends on the level of income Y
and CCSt+1. We hypothesise that people spent on credit because they
believe they can pay off the debt with future earnings.
And as their level of CCS falls, they would tend to save more of their
income for the future.
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Simulation exercise: BND 1,200, credit limit= BND5,000
2500
2000
1500
1000
500
0
01
nJa
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Simulation exercise: BND2,600, credit limit = BND8,000
6000
5000
4000
3000
2000
1000
0
01
nJa
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Simulation exercise: BND3,500, credit limit = BND10,000
12000
10000
8000
6000
4000
2000
0
01
nJa
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Findings from previous figures:
•According to random phone interviews, findings
showed that about 70 percent of consumers are
disciplined spenders, that is, they do make
repayments (fixed - BND40 or minimal - 5 percent)
on their loan every month
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However, there are a few implications that
have to take into consideration to prevent
the “anaconda” effect:
1.
creates a short-term expansionary effect that likely to end up with
inflationary pressure or an overheated economic growth that leads to a
collapse in profitability. As level of profits fall, employment and retail
sales would be cut, and consequently the sluggish economy will bring
about excess capacity and rising inventories. The Korean and Chinese
economy has resorted to increased consumer spending to revitalise the
economy. Unfortunately, the ”fake” wealth will not resolve the
fundamental economic imbalances. Instead, the decline in interest rate
that resulted from credit expansion might cause more economic problems
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2.
NOT ALL CONSUMERS (IF AT ALL) BEHAVE
RATIONALLY
E.g. Some choose to consume harmful - instead of
healthful - substance (eg. cigarette, oily food, artificial
favours, etc.) --> conditions that need treatment (at a
cost)
Inappropriate choices undermines spending
capacity reinforcing indebtedness
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Cont’
3. ACTION AND REPERCUSSION
An irrational act, e.g. gambling and losing a large sum
of money, affects other consumers - family and
friends are first in line
In an urban setting, large losses send out a
destructive wave undermining a larger
number of consumer’s capacity to meet their
own needs
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4.
Closed Economy

Y=C+I+G
 Y = National Income
C = Consumption spending
I = Investment spending
G = Government spending
 Increase national income,
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Cont’
Open economy with international
Trade
• Y = C + I + G + (X - M)
where X = values of export
M = values of import
• If consumers borrow to spend in
neighbouring countries, then C
will not be recorded fully in our
GDP
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1. Credit spending is
necessary because of
changing needs
associated with
changing living
environment,
paradigms and
mechanisms for
transaction
2. In Brunei, credit
spending is unlikely to
lead to economic
growth because a
significant amount is
spent outside the
local economy (as is
evident from the
sluggish retail sector
over the past 5 years)
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
If credit spending is to invigorate the
local economy, there is a need to
divert spending outside Brunei to
within Brunei
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
Note: HSBC’s credit redemption
scheme is a good start; as is the
Economic Planning Unit’s “Brunei
Grand Sales”, but needs to coordinate with travel industry,
retailers, financial institutions at
deeper levels of planning to make
Brunei a more attractive place to
spend
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• Retailers & authorities need to look
closer at the range of consumer’s
needs without preconception - if
local retailers are to supply
consumers’ demand
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• Efforts to improve quality of life,
nurture and protect the self-esteem
and dignity of individuals/groups,
protect consumers from
environmental threats - added to
education on money matters is likely
(from our analysis) to create a more
conducive condition for credit-driven
economic growth
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……….
It is not only about how you
spend, it is also about where you
spend.
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Thank you
Endnote: The purpose of this paper is to give implications on credit consumption in
small states such as Brunei to see if the current consumption pattern would sustain in
the long run, but by no means it wants to motivate consumers to spend beyond their
means.
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