Is there a colossal problem sneaking up on Australia?

There’s been a new leak of official information, which suggests Australia has been ignoring a problem that could have serious consequences for the country.

According to the leaked report, Australian household debt was so high before the global financial crisis (GFC), there was likely to be a tidal wave of defaults. Analysts suggest that this could have seriously hurt Australian banks and possibly led to a recession.

But remember, this was all before the GFC, and household debt has soared since then. It’s been estimated that with the current levels of household debt, our banks couldn’t handle a house price crash.

The problem is, nobody ever really talks about this kind of debt. Instead, we seem fixated on debt held by government, with terms like “the deficit,” “government debt,” and “budget emergency” bandied about so much that we start to tune out whenever we hear them.

Why is this, when government debt is almost insignificant when compared to private debt (which is owed by companies and households)?

It feels like we’ve been set up in some elaborate movie plot where government debt is acting as a decoy while private debt sneaks up behind us unnoticed.

Of course we shouldn’t forget about Greece – a whole country brought to a standstill because of debt owed by government, not the private sector. There are certainly valuable lessons to be learned from Greece’s situation, but we shouldn’t let it take all our attention.

What about the US subprime mortgage crash, or Japan’s bubble economy of the late 1980s, to name but two. In both of these cases, private debt created a bubble which eventually burst, causing massive problems for everyone — even people who thought they were protected from the bubble. When things come crashing back down to earth, banks can go broke, retirement savings plunge, and the unemployment rate shoots up.

So why the complacency given our current situation? Is Australia really a special case? One good thing about the debt Aussie households have is that it’s mostly on mortgages, not credit cards, meaning that there is an actual asset backing up the debt.

But this dependence on the housing market means that if there is even a little wobble, there is a serious problem with all that debt.

If you’re a homeowner and house prices suddenly drop, leaving you with a house that’s worth less than your mortgage, you probably just keep on living there and hope the market will pick up again before you want to move house.

For investors with an interest-only loan on a property, however, it’s a different situation. Facing a declining market, an investor is likely to decide to cut their losses and sell out, getting a little tax saving in the process thanks to the capital gains tax.

Interest-only loans recently grew by 80 per cent in a three-year period, and it’s this high proportion of interest-only loans on investment properties, which makes the housing debt stock a worry.

Of course, it’s not all doom and gloom. Although debt is high, many Australians have been taking advantage of this period of low interest rates to get ahead on their home loans. If all the debt can be paid for then there is really no problem at all. Even the head of the banking association thinks we have nothing to worry about, and they should know what they’re talking about, right?