Consumer spending is likely to slow significantly because of tighter credit conditions, according to Tim Besley, an external member of the Bank of England's monetary policy committee.
Small increases in the price of credit can significantly deter households from borrowing and spending, Professor Besley argued after a speech in London. With credit conditions becoming much tighter, he agreed with the Bank's assessment that consumption growth would be "very weak" in 2008.
He estimated that a rise in the gap between mortgage rates and official interest rates of just 0.2 percentage points in any year appeared to reduce the growth rate of consumption by around 1.1 per cent.
This meant that, had mortgage rates been just 0.2 percentage points higher in 2007, the average household savings rate would have been close to 4.5 per cent of disposable income, rather than last year's official rate of 3.4 per cent.
Generally known as one of the MPC members most eager to keep interest rates high, Prof Besley said his speech aimed to fill a gap in an analysis of consumption that he outlined last July.
He stuck to his view that households like to smooth their day-to-day consumption even if their incomes are fluctuating, but said that this process would be highly influenced by their ability to borrow and the price at which credit was available.
He said that while he did not like the terms hawk and dove, at times "where credit conditions are relaxed I might appear hawkish, and in conditions that are tighter I may appear more dovish".
Regarding the current closure of many credit markets and the sudden plunge in mortgage approvals, he said it was very difficult to know what was temporary and what conditions might look like when the markets settle down.
But he said that if credit conditions were tighter, this was likely to be "highly statistically significant" and "quantitatively important" in limiting consumption growth.
He said he arrived at this view after examining the links between consumer spending growth and credit conditions for the riskiest borrowers since 1975.
He found a strong and significant link with borrowing terms, indicating that when credit conditions were loosened, households used external finance much more to meet their consumption desires, rather than relying on their incomes and what they could save.