6.3.3 Your household balance sheet – gearing
Another important balance sheet ratio is gearing, which is usually worked out as a percentage and is simply:
Gearing = Total liabilities / Total assets × 100
You may have heard a lot in the news about whether government debt levels are too high and need to come down. In the same way, household debt levels can be too high as well. Why does it matter?
Consider the two household balance sheets. Use the formula to work out the gearing for each household. Then assume that house prices fall by 20%. Adjust the balance sheets for the new lower property values and comment on how each household has weathered this shock.
| LIQUID ASSETS | £30,200 |
| OTHER ASSETS | |
| Home | £435,000 |
| Other | £132,000 |
| TOTAL ASSETS | £597,200 |
| SHORT-TERM LIABILITIES | £5400 |
| OTHER LIABILITIES | |
| Mortgage | £62,000 |
| 3-year car loan | £6500 |
| TOTAL LIABILITIES | £73,900 |
| LIQUID ASSETS | £2050 |
| OTHER ASSETS | |
| Home | £180,000 |
| Other | £30,000 |
| TOTAL ASSETS | £212,050 |
| SHORT-TERM LIABILITIES | £3800 |
| OTHER LIABILITIES | |
| Student loans | £9400 |
| Mortgage | £164,000 |
| TOTAL LIABILITIES | £177,200 |
Looking at your own household balance sheet, you can now have a go at calculating your gearing using the guidance set out above.
Why do you think measuring gearing can provide an insight into how exposed to risk your household balance sheet is?