2.1 Lending, borrowing and national income

both are described as making a net acquision of nancial assets which is negativeby

()£24.6bn.

Let us summarise and then highlight some important points. Leaving aside the

minor complications of equity in pension funds and capital transfers and taxes, we

can generalise what we have just seen so that we can apply it to any sector of any

economy. Our general rule is:

(YC) INAFA

(2.2)

which says that disposable income minusconsumption (i.e. saving) minusreal

investment equalsthe sector’s net acquisition of nancial assets. Notice rstly, there-

fore, that the surpluses to which we have often referred in this book are not the same

as saving. Any nancial surplus is what is left after savinghas been usedto nance real

investment.Notice secondly that we write net acquisitionof nancial assets (NAFA).

There are two reasons for this. Firstly, if eqn 2.2 is to be really general in its application,

it has to cover cases where saving minusinvestment can be negative or positive,

i.e. cases where nancial decits or surpluses occur. By writing net acquisitionwe

mean the difference between nancial assets bought and sold. For surplus sectors (or

units) NAFAwill be positive. Secondly, it may be that our surplus sector has previously

only had decits. Therefore it will have no existing nancial assets, only debts or

nancial liabilities. Its rst surplus may be used either to buy nancial assets (debts

unchanged) or to pay off debts. Both cases are covered by our phrase. Netmeans

‘the difference between’. In the former case our surplus sector uses its surplus to buy

an asset (‘sale’ of debt 0). In the latter case it ‘sells’ debt (purchase of asset 0). In

each case, there is a (net) gain of asset over liability.

Financial surplus or decit:The difference between saving and investment in real assets.

In the case of households in 2004, therefore, we know that saving amounted

to £33.3bn, giving rise, after real investment and adjustment for capital taxes and

transfers, to a nancial decit of £24.6bn. The next question to which it would be

interesting to have an answer is: ‘how was this decit nanced?’

For this purpose, we need to turn to what is known as the sector’s ‘nancial account’.

This shows the acquisition (disposal) of nancial assets and liabilities of various types.

When we have allowed for all the acquisitions and disposals, we would expect the

nancial account to show us that the net acquisition of nancial assets exactly matched

the decit of £24.6bn. We would be quite correct to expect this, but we are again

confronted by the complexities of the real world. Information for the income/capital

account, from which we derived our nancial surplus, comes from sources which

are quite different from those on which the nancial accounts are based. (And other

accounts in the ofcial series are based on yet different sources of information.) Bear in

mind also that we are dealing with large absolute gures which represent the behaviour

of millions of households. It would be more surprising than not if gures derived from

different sources were to turn out to correspond exactly. Generally they do not, so some

adjustment is necessary in a column called ‘residual error’ or ‘statistical adjustment’.

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Chapter 2 • The nancial system and the real economy

The income/capital accounts gave us a gure for households’ nancial surplus

of £24.6bn. Income data is collected from rms and from the Inland Revenue.

Expenditure data is collected largely by survey. Most of the data contained in the

nancial accounts comes from nancial institutions which make statistical returns

to the Bank of England (in the case of deposit-taking institutions) or to their various

trade organisations (in the case of non-deposit-taking institutions). We shall see

in a moment that the nancial accounts seem able to trace only £12.8bn of the

additional liabilities acquired as a result of the decit. In other words, there is what

is called a ‘statistical discrepancy’ of £11.8bn. This may seem large, and it may even

seem shocking. However, when we look at the ‘missing’ £11.8bn in the context of

the total acquisitions of assets and liabilities it is less than 8 per cent of each and,

given the difculties of data collection we just noted, it is not altogether surprising.

There are bigger issues to worry about in reading Table 2.2.

The rst is that although households actually had a decit of £24.6bn, they managed

to acquire£122.9bn of assets. How is this possible? They could do this because they

borrowed much more than they needed to cover the decit. This is shown in the

next line as an acquisition of liabilities of £135.7bn. The way to understand this is

rstly to remember that the decit is the decit for the household sector in aggregate.

Individual households will vary widely in their surplus/decit positions. There will be

some that run a surplus, but still choose to borrow to nance some of their spending,

meaning that they can acquire more nancial assets than their surplus would allow.

(Their netacquisition must still equal the surplus, but their gross acquisition may be

larger.) There will be others that run a decit, but borrow more than they need for

this purpose. In other words, we have to distinguish the netoutcome (which in theory

should correspond to the surplus/decit) from all the individual actions which simply

reect people’s continual rearrangement of their existing wealth.

Of the assets that were acquired, £61bn consisted of notes and coin and bank and

building society deposits. These taken together are what we usually mean by ‘money’,

Table 2.2Financial account of the household sector, 2004, £bn

Acquisition of nancial assetsAcquisition of nancial liabilities

Notes and coin	2.6	Loans			75.9
Deposits with banks	45.5	Other liabilities			0.9
and building societies	12.9	Net acquisition	of	liabilities	75.0
Other deposits	5.6
Bills and bonds	2.9
UK company shares	1.2
Other shares	3.0
Mutual funds	8.2
Life assurance and pension funds	40.0
Other	3.4
Net acquisition of assets	122.9
minusAcquisition of liabilities	135.7
	12.8

Source: ONS, UK National Accounts, 2005, Table 6.1.8

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