The drivers of households’ declining optimism during the quarter weren’t hard to deduce. With inflation eating into real incomes and further rises in interest rates and energy prices looming, consumers were battening down the hatches.

The need to rein in their spending was underlined by UK Finance’s projections on “wiggle room” for the average mortgaged household. 1.3 million borrowers reached the end of their fixed rate deal this year, and UK Finance calculated that households refinancing their mortgages were likely to see their disposable income fall by around seven per cent. Many lower-income households would be impacted even more severely.

Within hours of the Review’s publication in early September, the household spending landscape shifted with the announcement of the government’s Energy Price Guarantee.

That was launched on 1 October, but by that date the (then) chancellor’s “mini-budget” had already triggered turbulence in the markets and an uptick in interest rates. This pushed the average two-year fixed mortgage rate to a peak of around six per cent, compared to just 2.3 per cent as recently as December last year.

The effect was that while the Household Finance Review for Q2 predicted significant strains ahead, these are now set to be greater than it projected even though a level of (at least temporary and comparative) calm has now been restored following the more recent government changes. Higher mortgage rates in particular will substantially move the needle.

So where does this leave UK households at various income levels? Our new analysis* of figures from the Office for National Statistics (ONS) provides some answers. For example, it’s estimated that the average working family with two children will see their income eroded¹ by 13 per cent in 2023. Meanwhile the lowest-earning households² – those in the first income decile – have already seen their costs associated with housing, heating and eating rise by about 20 per cent since 2021. It is likely that these will increase further in the coming year, significantly reducing if not completely eroding their disposable income.

While the severity of the impact will vary with income level, what’s clear is that – regardless of any action the government might take – UK households are facing their tightest cost-of-living squeeze for many years. For banks, this presents both challenges and opportunities – with credit losses and other provisions potentially impacting profitability on the one hand, while on the other interest rate rises and other dynamics offer potential tailwinds.

Faced with this situation, I believe banks need to take a two-pronged approach. One aspect is to remain vigilant for signs of financial distress among customers and make provisions accordingly. The other involves harnessing the same insights into customers’ financial position to help them ride out the storm.

How? With many consumers reportedly reverting to physical cash to better control their spending, there’s a pressing need – and immediate opportunity – for banks to continue to offer clear information to help improve financial literacy, and to make digital transactions and financial management tools transparent and easy to use. Beyond this, more transformational changes may also be considered in the future, for example through using predictive data and analytics to build enhanced monitoring capabilities and support identification of at-risk customers.

There is no question that household finances are entering a very challenging period. For banks it presents a real opportunity to demonstrate their customer-centricity and pro-actively support them through a really difficult time.