The most recent National Institute Economic Review argues that the Government should take a more prominent role in preventing risky borrowers from falling into a debt trap, and lenders from making themselves too vulnerable to losses.

Some of the controls NIESR suggested could be used to curb credit include enforcing maximum loan-to-value limits on mortgages and a tax on credit to make it harder and more expensive to borrow.

While the group is open to letting banks put their own set of rules in place to protect both themselves and borrowers, it urges a move towards legal restrictions and the direct regulation of credit as a more proactive measure.

Lenient regulations and a government campaign to encourage risk taking on the grounds that it was fuelling the economy and therefore a positive thing have been blamed for social attitudes towards bankruptcy and leading individuals to take on debts they never had any chance of repaying.

The report lays some of the blame on America’s model, where the reliance on easy credit culminated in the collapse of the sub prime mortgage market when millions of families started defaulting on their risky home loans.

It added that the UK will not necessarily meet the same fate as the US providing steps are taken to reduce risk and discourage bankruptcy as a means of wiping off debt, as American bankruptcy law allows those facing negative equity to walk away from their mortgages with very few repercussions, putting the banking industry at risk.

The research also said that, while Britain’s economy will remain on shaky ground for some time, it will pull through and avoid a recession assuming that there are no more banking catastrophes on the scale of Northern Rock.

It predicted that UK economic growth will slow to 1.8 per cent in 2008 and 2009 as a result of the credit crisis, that inflation will rise to 8.5 per cent this year and that the Bank of England will cut interest rates further to 4.5 per cent.

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