Some Implications of Credit Spending: A Brunei Case Study

1. Some Implications of Credit Spending: A Brunei Case Study Dr Teo Siew Yean & Mr Gabriel Yong Contemporary Issues in Economic Development of Small States

2. 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) Contemporary Issues in Economic Development of Small States

3. 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   =  Contemporary Issues in Economic Development of Small States

4. We spend on: • (a) food • (b) clothing and foot wear • (c) housing • (d) cars • (e) utility bills • (f) furniture, household appliances and services such as plumbing services, changing bulbs, etc. • (g) communication technology and phone, internet bills • (h) wellness and hobbies • (i) education • (j) entertainment Contemporary Issues in Economic Development of Small States

5. 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... Contemporary Issues in Economic Development of Small States

6. 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 Contemporary Issues in Economic Development of Small States

7. 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 Contemporary Issues in Economic Development of Small States

8. Debt Vs Over-indebtedness, cont. Over-indebtedness has a cost: (a) a cost to consumer in terms of running the risk of personal bankruptcy • a cost to banks/creditors in terms of outstanding loans • a cost to businesses in terms of profits cut • a cost to the Government in terms of debt collection and enforcement • a cost to the overall economy in terms of job cuts and economic instability Contemporary Issues in Economic Development of Small States

9. 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 Contemporary Issues in Economic Development of Small States

10. COMMON ASSERTIONS Credit spending drives economic growth But credit expansion leads only to short term growth Credit-spending keeps consumers in perpetual debt Contemporary Issues in Economic Development of Small States

11. Contemporary Issues in Economic Development of Small States

12. 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 Contemporary Issues in Economic Development of Small States

13. 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 Contemporary Issues in Economic Development of Small States

14. 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) Contemporary Issues in Economic Development of Small States

15. 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 Rand 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. Contemporary Issues in Economic Development of Small States

16. 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. Contemporary Issues in Economic Development of Small States

17. Simulation exercise: BND 1,200, credit limit= BND5,000 Contemporary Issues in Economic Development of Small States

18. Simulation exercise: BND2,600, credit limit = BND8,000 Contemporary Issues in Economic Development of Small States

19. Simulation exercise: BND3,500, credit limit = BND10,000 Contemporary Issues in Economic Development of Small States

20. 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 Contemporary Issues in Economic Development of Small States

21. 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 Contemporary Issues in Economic Development of Small States

22. 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 Contemporary Issues in Economic Development of Small States

23. 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 Contemporary Issues in Economic Development of Small States

24. 4.Closed Economy • Y = C + I + G • Y = National Income C = Consumption spending I = Investment spending G = Government spending • Increase national income, C Contemporary Issues in Economic Development of Small States

25. 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 Contemporary Issues in Economic Development of Small States

26. 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) Contemporary Issues in Economic Development of Small States

27. If credit spending is to invigorate the local economy, there is a need to divert spending outside Brunei to within Brunei Contemporary Issues in Economic Development of Small States

28. Note: HSBC’s credit redemption scheme is a good start; as is the Economic Planning Unit’s “Brunei Grand Sales”, but needs to co-ordinate with travel industry, retailers, financial institutions at deeper levels of planning to make Brunei a more attractive place to spend Contemporary Issues in Economic Development of Small States

29. Retailers & authorities need to look closer at the range of consumer’s needs without preconception - if local retailers are to supply consumers’ demand Contemporary Issues in Economic Development of Small States

30. 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 Contemporary Issues in Economic Development of Small States

31. ………. It is not only about how you spend, it is also about where you spend. Contemporary Issues in Economic Development of Small States

32. 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. Contemporary Issues in Economic Development of Small States