Osborne and the next crunch
We may not yet be free of the ill effects of the credit crunch, but how do we prevent it happening again? Well George Osborne has a plan β though itβs still in the work-in-progress file, which is presumably why it was unveiled many miles from home in a speech he gave last night at Harvard.
This speech may, however, turn out to be Osborneβs most significant policy speech as shadow chancellor. In it he signalled a willingness to consider radical reform of monetary policy with far-reaching consequences for the .
He said βThe credit cycle demonstrates starkly that controlling retail inflation is not enough. Recent threats to stability have come not just from the demand cycle but from the credit cycle.β
What he means is that governments and regulators across the world β but especially in the UK and the US β were wrong to regard the sharp increase in borrowing by households, companies and financial institutions as a benign phenomenon.
We were gulled into thinking our economies were stronger than they really were, he argued, by all those years of steady growth and low inflation. And because of the massively deflationary impact of the transformation of China and much of Asia into great exporting machines, central banks set interest rates at levels that sparked a great boom in borrowing.
βWe are now all discovering that the extra liquidity has flowed not into retail prices, but into asset prices and unsustainable increases in household balance sheets,β Osborne said. βFor a long time this has been good news for home-owners and investors, but it is at the core of the problems we now face.β
Or to put it another way, our economies are caught in a vicious spiral of banks realising they have lent too much to those who could never afford to repay, which is prompting those banks to rein in the credit they are providing, which is in turn precipitating a fall in the price of houses and other assets, whose poisonous effect is to turn the banksβ fears about rising losses on loans into painful reality.
So whatβs to be done? Well, Osborne believes that the monetary authorities β in our case the Bank of England β need to take greater account of inflation in the price of houses and other assets when endeavouring to promote economic stability.
But he concurs with the chairman of the , , that economic instability might actually be exacerbated if central banks were to use only interest rates to control both asset prices and consumer price inflation as conventionally measured.
Thus there may have been times in the past few years when a sharp rise in interest rates to restrict the growth of credit might have had a dangerously deflationary effect on the wider economy.
Osborne is therefore attracted to a proposal put forward last year by a former member of the Bank of Englandβs monetary policy committee, , whose effect would be to impose restrictions on how much banks can lend during years of strong economic growth and would ease those restrictions when the economic cycle turns down.
As a theory it is attractive (and, by the way, should perhaps also be adopted by the government in its management of the public finances). It would work by giving monetary authorities, such as the Bank of England, the power to oblige banks to hold more capital in their balance sheets relative to their loans or assets when the economy is growing strongly and less capital when β like now β it would help if the banks could be encouraged to lend a bit more.
So, for example, in the good years the banks could perhaps lend Β£13 for every Β£1 of capital they hold β and that could rise to Β£17 in less benign times.
Turning this banking theory into practice would not be easy, however. Determining the appropriate level for capital ratios at any particular point in the economic cycle would probably turn out to be more art than science.
And, arguably, it would be unfair, in a global market for banking, for the UK to unilaterally impose higher capital ratios on British based banks β though securing worldwide agreement on a new system of adjustable of adjustable ratios could take years.
Also, what about the shadow banking system, which over the past few years has been as big and important as the official banking system? Securitisation may be dead right now, but it will reawaken one of these days. And itβs very difficult to see how the imposition of capital constraints on regulated banks would have any impact on the provision of credit by the holders of giant pools of liquidity all over the world via their purchase of asset-backed securities.
What got us into the mess weβre in wasnβt direct lending by our banks: it was the way they packaged up loans to homeowners and highly leveraged businesses into securities for sale to investors. So unless the largely unregulated providers of credit are somehow brought into the regulatory net, itβs not clear that imposing new capital constraints on banks will have much of an impact.
PS. Traumatised by the snows of spring, this column will go into sleep mode for a few days. Hereβs hoping for warmer winds and green shoots on my return.
PPS. From 1800 on 16 April (UK time), we'll be doing some essential maintenance to all of the ΒιΆΉΤΌΕΔ's blogs. As a result of this, you won't be able to leave any comments on our blog posts from that time until early morning on 17 April. More about this on the Editors' blog.
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Great theory, doubt whether he'll get the chance to put it into practice though. The voting public must be confused, Tories proposing greater regulation than Labour or should that be opposition proposing greater regulation than government regardless of hue?
To sum that up 'Go back to the good old days of banking'. Here we're again trying to reinvent the wheel. Do we need another new system? I accept banking has changed and is now global but the principle that 'You lend to people who can afford to pay back hasn't.' This is the crux of the current crisis.
This idea sounds rather like the credit controls they tried back in the early 1970's. Anyone remember Special Deposits and the Bank of England "Corset", not to mention restrictions on Hire Purchase transactions (that wouldn't work now, would it?)
So lets see, scrap the CPI and revert back to the RPI? Well, that's probably a very good idea. Why did we change in the first place?
Its amazing how things always go back to the old traditional ways after the 'new' ways have been shown as ill-conceived. Shame how much our politicians like to change things like this.
Another thing he could do to prevent another boom and bust is to put CGT on the profits of all houses, including your primary residence and scrap stamp duty in return. If the seller had to cough up a ton of tax when they sold for a huge profit house prices would have stayed much more stable.
It's down to irresponsible lending imo. You will always have people taking up offers of cheap credit, its the those offering it that create the problem. The BoE have been very loose in their use of interest rates, we are suffering for that now. The inflation figs do not account for housing costs, they should be and never removed, it is after all the biggest expenditure of households. We have been given false impressions from a government that inflation is low, but we all know that this isnt the case. Unless we have a government of honesty and transparency, then any changes to economic management is not trusted by the populus.
Anyone who remembers the late 80's when house prices soared and the dreadful early 90's when they went down and stagnated creating negative equity on a grand scale for the first time will not have been surprised by the 'credit crunch'. These purple patches can never go on for ever and the banks only have themselves to blame for lending too much on the cheap over the long term when they are only thinking short term. The politicians are only elected for relatively short terms so with their lack of vision the lead has to come from the top people in the banking industry. One thing the politicians could do would be to try and behave responsibly by not encouraging people to believe that housing is an investment. A house is somewhere to live not an investment. We have been guilty of believing our houses are an investment to the detriment of the youth of the country who now face ridiculously high priced property. We have fallen into the trap of failing to recognise the difference between cost and value. It saddens me to have seen a labour government preside over massive numbers of 'buy-to-let' house purchases, the false demand from which has forced up prices and made it even more difficult for youngsters to get on the ladder. I would be happy for my house to be worth half what it is and for my sons to be able to afford to get on the housing ladder. I would be even happier to see the income from buy-to-lets taxed at 40% thus killing it as an investment!
Didn't a political party in Ontario Canada distinguish between Capital capital and spending capital back in the 60's? and would try to control them differently? Being just a state party the could not really implement the policy and it was in any case rubbished by everyone else.
Thats what I like about opposite politicians: its easier to state the obvious with hindsight so that voters are fooled into believing they can do better and the other lot were useless.
I think that one has to put some of the blame on everybody who happily borrowed and spent too - surely everybody has an obligation to be prudent or be prepared to suffer the consequences. It isn't as if Mervyn King et al hasn't warned about excessive lending and unsustainable house prices...
Ian Smith -
I agree, but try persuading the capitalist inside us all that there's a better way.
Osborne for more regulation! There'll be ways round this one, and all manner of dodges at the margins.
Capitalists are in denial - the crunch was caused by lenders suddenly realising that they'd been lending to people who couldn't pay back - on an enormous scale. There a=have even been suggestions that the brokers were acting out of "political correctness" in offering places on the housing ladder to the less fortunate!
It was greed.
Osborne should be promoting temperance, for sure, but he's rather hidebound by the "greed is good" brigade within his own party.
HMG should at least impose definite, visible spending constraints in years of plenty - we've got into this mess partly because the government failed to save enough cash in the good years.
You can, of course, regulate lending against UK houses properly if you wish as they are physically here and can't be moved to China/India etc. So it is one thing that our government does have control of.
I would think that it is easily done by introducing rules to be complied with before a charge over a property is registered, with an unregistered charge being unenforceable (ie worthless).
If such rules had capped LTV at, say, 80% of the purchase price actually paid before security is approved for registration, the value of UK originated housing asset back securities would be better known. So the lack of trust between the banks on these assets considerably less. I realise that would not stop overseas assets backed securities causing a credit crunch but the UK government can only sort out its own patch.
Many of the riskier housing loans wouldn't have been made so house prices would be lower and more people would be on the housing ladder. In fact the whole structure of the housing market would be different with much more social (council?) housing needed as well.
The people who would have lost out are those that speculated sucessfully on the way up and some newly become pensioners.
29 years ago Jim Callaghan said that he lost to a sea change of ideas. He said that such sea changes come along every 30 years or so. Maybe it is time to move away from the Margaret Thatcher encouraged ideas of home ownership for everyone and that the market is always right to a more stable structure.
However if we are not to have home ownership for everyone then we will have a pensions crisis. For many people houses are not just a place to live but much of their pensions savings (to be released by equity release of downsizing). However if we have long time house price falls we have a pensions crisis to deal with anyway.
So reductions in house lending and compulsory pension contributions (at at least 10% of salary) for all then.
I don't see how variable capital ratios will help future situations, as though the Bank of England is independent it would be under political pressure not to declare downturns by reduing the ratios.
And the volatility of the stock markets show that many people have different ideas on when crises are over and the good times are coming, when they can change the ratios.
If they didn't see the end to this credit cycle (isn't it the first ever?) what's to say they'll be any more observant next time round.
I would have thought restrictions on lending would have the same effect as a base rate increase. As the supply of credit is tightened the market interest rates will increase. It is simply a matter of controlling supply through price or volume.
As you say, direct lending is not the problem. Through loan syndication and bond issues, pretty much anyone can create their own flavour of money these days - not just the banks.
If this activity is not to be restricted or more tightly regulated, it certainly needs to be monitored more closely. At the moment the BoE sets reserve capital requirements for loans, while other forms of credit is simply left to incompetent ratings agencies and market forces.
Isn't this called Keynesianism?
As a former under-grad who has attended Sir Charles' lectures I have nothing but the utmost respect for him. However I doubt in a global financial market one banking authourity could restrict lending unanimously.
In times of plenty it is not the Bank or the financial-sector who should control the amount of cash within the economy, but the elected government. The Bank should focus on prices.
The government should manage taxation and spending to secure as stable economy as possible. The financial sector should arbitrage between these forces and the consumer.
Unfortunately, on both sides of the pond we have seen a spending slurge by the "State". Maybe we should look to our politicians to provide macro-economic solutions first, as opposed to fiddling their expenses!
Just as well the Tories have no chance of implementing such ideas - isn't it?
Getting back to the past means property prices at the same multiples of income as in the past (3-3.5 times).
Two ways to achieve this - a dramatic drop in property prices or - a dramatic rise in wage inflation. Neither will be Tory policy so how will this be achieved?
You can always 'kid' the people that the numeric price of their house is still going up by inflating their wages and maintaining house prices (although that in itself will require the serious restraint on the Banks as they envisage.) So I guess the Tories want a return to huge wage inflation as otherwise their sums do not add-up!
BREAKING NEWS - BREAKING NEWS -
Eton toff realises what many of us knew in the late 80s (asset boom, loose monetary policy, credit explosion) and predicted would happen this time too. Doh!
All fine and dandy but until a reconnection is made between the lender and the loan it will not be possible to make progress. If I could loan out squillions of your cash to anybody that asked for it and then 'sell' this debt onto somebody else mug enough to believe that its good value and pay me a very fat fee for the bargain why do I care when it all goes belly up? Separating cause and effect and insulating the perpetrator from the costly consequence is the prime fix that is needed.
Nice theory but as far as I can see it does nothing to solve the real problem. That is that Banks lent far too much money to people buying houses than those people could actually afford. Thus increasing bubble. If any government could do this is would simplify the problem rather than making it more complicated. Which is what this proposal appears to be doing.
How about the Government not causing inflation in the 1st place?
How about allowing the banks to set their own rates at market value?
how about getting rid of the fractional reserve system and its accompanying morla hazard?
How about trying Austrian Economics for a change, after yet another failure of the Voodoo economics known as Keynesianism?
Barking up the wrong tree. Everything is geared to finance and by now the idea that you can impose restrictions across the board is foolish. Instruments are there already to restrict lenders from having imprudently large exposures as a proportion of assets or equity, plus different limits apply depending on the security held and/or the credit rating. The real issue is having central auditors on site, supervising compliance, obtaining undertakings, giving directions or imposing penalties, but this has been surreptitiously dumped from the agenda by 'business-friendly' government getting the regulator to butt out of it on behalf of their city mates. Pinning the problem on regulation is misleading, running some balanced business scorecard is the basic, central, critical point.
I don't know why there's so much confusion of the issue. The answer is simple: tax land. If you do this then there would be no need for the average person to get into Β£100k's worth of debt this will lower the national debt burden as well as force those that speculate in the capital value of land (BTL landlords etc) to find something more constructive to do with their lives other than live of the back of others. Banks are a business like any other and so will natuarally exploit weaknesses in the system in search of a quick profit. Whilst sensible regulation is of course welcomed as banks have the ability to pass over enormous risks to the taxpayer when it goes horribly wrong, I would have thought that a thriving banking sector based, on the premise of sensible lending to those that create wealth, would be something to strive for, not restrict.
The banks are shrewd enough to see a profit opportunity when it comes along and I am sure they are happy to be seen to be going cap in hand to the Bank of England for assistance. They'll get cheaper money (but use the credit crunch as an excuse to increase their profit margins by not passing the benefit on to their customers).
The way the media is reporting the situation (and the ΒιΆΉΤΌΕΔ themselves seem very keen to sensationalise any indications of a possible recession) only goes to help the banks in their argument that they need assistance and is virtually talking people into believing there is a recession happening now.
We have a base rate at 5.25%, low inflation and high employment. These are not the ingredients of a recession, but certain people think that if they say it enough times it'll happen. Don't look at the US, what's happening here.....people are tightening their belts (which they often do when household bills increase), but don't keep looking at every bit of data and print scaremongering headlines - statistics can be interpreted in many different ways and can be used to justify virtually any conclusion you want to reach. The banks see a way to make even more money and are taking it - watch them maintain their profit levels!
Astonishing. It was the Tories that deregulated the City and let slip the dogs of greed.
Are they now suggesting they were wrong? If so then this is a major step forward.
At last a half baked policy from the Boom & Bust Party.Dont the public understand Cameron was the Tory Chancellors adviser on "Black Wed" when they tried to control the market by jacking up interest rates to 20% to save the pound .What happend George Soros took UK Ltd to the cleaners.If thats the best Osborn can come up with we dont have much to look forward to in consructive thinking.Just another PR one liner.
How do we prevent this happening again? Clamp down on Banks leverage and performance related pay. Simple.
The point is that lending too much was not the problem but the continuing lending to people who should never have had mortgages as greedy bankers desperately tried to find ways to increase their bonus. a good example of this is the housing in the North East. In the world of prudent lending we accept that we can borrow3 to 4 times our annual income therefore average hous price should be roughly 3 or 4 times average salary. so what has been happening in areas such as the North East were average wage is approx 15k and average house price is 180k this is 12 times borrowing and means just to pay the mortgage you would need at least a 7.33% yield on the property, to put this in perspective it means the average homeowner must earn 13,200 to pay a home mortgage or if the owner is a landlord he must charge in excess of 13,200 just to pay the mortgage. if the average wage is 15k it doesn't leave a lot of spare money for the year. who on earth was lending to these people and should they not be footing the bill instead of the tax payer?
'What got us into the mess weβre in wasnβt direct lending by our banks'.
Er - yes it was - too many people getting commission on loans, regardless of how those loans were to be paid back.
The only solution to this is to remove so-called 'front end loading', whereby fees and commission are paid at the start of the loan. This needs to be changed so that these monies are only paid when the loan is paid in full, or at least are paid proportionally during the life of the loan.
Post #4
"Another thing he could do to prevent another boom and bust is to put CGT on the profits of all houses, including your primary residence and scrap stamp duty in return. If the seller had to cough up a ton of tax when they sold for a huge profit house prices would have stayed much more stable."
What a ridiculous suggestion. If I am going to have to pay tax when I sell my house, I want to receive more money so that I can have a net return that matches my pre-tax expectations. As a result, house prices will increase.
If I am buying a house, and do not have to pay stamp duty, I will therefore have more funds available to pay for the house, putting me in a position where I can afford to pay more, potentially increasing prices in a competitive market.
Buy to let investors already pay CGT on their disposals, and as these owners have previously been blamed at lease in part for the general rise in house prices, therefore providing no evidence that extending tax to a wider populous would have a negative effect on prices.
>>We were gulled into thinking our economies were stronger than they really were, he argued, by all those years of steady growth and low inflation
Derr! Well George Osborne might have been gulled, but there have been acres of newsprint over the last few years pointing out the dangers - not to mention Vince Cable.
As for the 'solution', as many others have pointed out, sounds like good old fashioned credit controls - but then George is a wee bit too young to remember them. Perhaps he could meet up with Maggie and she can tell him why she got rid of them all!
This proposal is not some silver bullet. What is the definition of a "good year" in the new theory? It was actually the banks' relaxed lending that caused our recent "good year" feelings, as our asset (house) prices rose, encouraging us to spend and borrow more. Yes, they went too far, but to pretend that any financial system can be made immune from highs and lows is nonsense. Foolish investors will always find some bubble to inflate; There have been crises before without the easy credit model of recent times. Osborne is just a politican saying "vote for me, I'll put everything right" whereas Brown is just saying "Everything IS all right". Take your pick.
Imprudently large exposures can already be restricted as a proportion of the assets or equity, and different limits may apply depending on the security held and/or the credit rating. Look it up under Instruments and Requirements of Regulation. What Sir Charles really means is that central auditors have to be out there, on site and supervise for compliance, respond to breaches, obtain undertakings, give directions and impose penalties, which was part and parcel also of regulation until 'business-friendly' government diluted it on behalf of their city mates. Tinkering with the wording is of no value. Going out and running balance business scorecard is the basic, central, critical crux of the whole thing.
#24 wrote: ..."The banks see a way to make even more money and are taking it - watch them maintain their profit levels!"
What about the record profits made by the big Oil companies?
"Oil companies defend profits before Congress, reject higher taxes!"
"Oil company BP has reported annual profits of Β£8.7bn, down 20% from Β£11.3bn in 2006."
"Exxon Mobil profits soar to American record of $40bn."
"Shell's 'obscene' Β£13.9billion profit is biggest ever by British company."
Lets focus on where the problems come from - they are solely from the prolonged period of lax credit standards building up masses of bad loans.
Lax credit standards from lenders also led to an ordinary downturn much like the 1990s.
If the bad assets were contained on banks balance sheets, lending over the ability of borrowers to pay, would have meant losses. Credit would have been reigned back by the banks, till incomes and demand rose.
In this mad boom, because the ownership of the lending was not the banks concern, we have been though a period of even greater credit excess than anyone would have though possible.
The tendancy to excess, is built into the moneytary system, because of three main reasons:
(1) Savers do not 'own' thier savings.
Savers are led to believe every lender is equally safe. There is no transparency in what lenders are doing with thier savings.
There is thus no management role of discrimination between interest rates on savings and the management of these savings and the quality of loans lenders are making.
So, if that savers management role, is not taken over by the state with state credit regulations, the outcome is always laxer lending thanks to competition for deposits and higher short term returns.
(2) Banks lend many times more money in loans, due to the system of fractional reserve banking, than taken in deposits from thier savers!
This means that if the loans turn bad the greater expansion by multiplcation of credit turns into a greater contraction, with more than 100% losses wiping out savings. Hence the populations income is taken (Northern Rock) to cover losses!
(3) The BOE sets the price of credit.
The fractional deposit system is great for a cental bank, as it (normally without a shadow banking system) controls credit and its price. Low interest rates mean more lending for projects, higher rates mean a slowdown in lending for projects. The problem is that this is another source of boom and bust.
To overcome these problems will mean some form of moneytary system where
(a) Savers have to accept risk, and thus management of thier funds to lenders of varying credit and return profiles.
(b) The role of fractional reserve banking is minimised so that gross expansions and contractions of credit creating systemic risk is eliminated
(c) With (a) and (b) in place, the role of the central bank in setting the general price of credit - being able to - would be greatly reduced by the competitive forces unleashed between projects of good returns competing for mostly 100% deposits for funding and the discrimination of savers and thier agents.
The credit system would be between savers and the real world projects and thier returns to be funded with lenders being agents. The central bank would control the riskfree rate only.
The Tories having a plan? A wildly optimistic statement by far.
Reference (6) taxing buy to let @ 40% to keep house prices down .Its not buy to let people who are the issue , its clever bankers taking on sub prime debt and passing on to unknowing third parties with dubious AAA ratings . On the whole house inflation is a good thing ,it help drives aspirations , without it everyone would be renting 2up 2 downs & having tin baths. Wake up its the 21 st Century , no ones going to go back to tight credit lending , its just can't be regulated .I would suggest its a good time to pay off unwanted debit and get your deposits ready for the uplift later this year , when the banks start to open up their borrowing to get volumes up.
George Osbourne as a possible future Chancellor is quite right to signal a willingness on his part to consider a radical reform of the monetary policies adopted here in the UK. This is in direct tresponse to the fact that he now believes (as many other do) that the governments and banking regulators across the world (but more especially in the UK and USA) have managed to get it so badly wrong.
The credit crunch proves that for far too long the powers to be in the UK and USA were gulled into believing that their economies were stronger and more robust that they are. Also it is now becoming even more evident that the banking culture has, for far too long, dominated the way these contries economies have been governed. This problem was exacerbated when monetary restrictions were eased by the last Conservative goverment and then continued by the Labour party since they came into power. The majority of people working in other parts of the economy have long felt that the people working in the city were being allowed to operate independently of the wider economy regardless of any negative effects their actions might have on the rest of the economy. In many peoples eyes the city slickes were often allowed to act and behave in a way that is not acceptable to the rest of equally hard working population.
The major problem confronting George Osbourne when trying to better manage and control the economy in the way he describes lies in the broad division between Labour and Conservative thinking. This also applies to the USA where the Liberals and Democrats are equally devided. Until we have a closer consensus between both parties on how best to govern the country and better manage the country's finacial affairs, then his words will simply become Tory rehtoric. There is a much better chance of this happening in Europe where there is a much better consensus of opinion between the differnt parties on monetary policies.
Restricting British banks and their lending will only make it harder for British citizens to buy property when foreign banks will still lend to their own nationals.
I can just see the political fallout when London is full of people from around the world who could borrow to the hilt from their own national banks to fund a property, pricing native British out of the city completely.
That aside, in order to restore any normality to the market the price of property has to drop by anything up to 50%. We have a choice to make, whether to take the short-term pain for longer term stability, or maintain the status quo and take the long-term pain of an entire generation being priced out of the market.
Sooner or later I think the market will decide for us, and it's going to be ugly. I feel for those who recently got on the property ladder because they needed somewhere to live, they will be the ones to take the brunt of it.
To set a policy whereby capital constraints are loosened to help markets keep lending sounds like a recipe for prolonging unsustainable booms.
No. Do what Mervyn King suggests.
1. Make sure all the credit is visible (i.e. those off balance sheet funding vehicles constructed by banks to minimise capital requirements)
2. Make sure banks provide more capital for their lending.
That way, lending is more controlled and when there is eventually a problem, the capital is there to cover those inevitable bad loans (rather than being bailed out by you and I at the slightest hint of trouble).
Help me out here. I assume that there is a good reason why what I'm going to suggest won't work. (Otherwise I assume it would have been tried already.)
If raising interest rates on mortgages in order to control house price inflation, impacts adversely the general economy possibly leading to recession.
Is it not possible to separate out general interest rates for industry and have a different mortgage interest rate which can be raised or lowered to regulate the housing market.
This is nothing new and something similar had been tried in the seventies when we had a Labour Govt. that tried to squeeze the pips out of the business people and as the Tories call them (wealth creators). Are we to believe that all of a sudden the Tories will try to impose SOCIALIST measures on the Banks and financial institutions? Ozzy's ideas, (if at all workable) will never be accepted by the Banks and will never work in a free capitalist system, which as far as I am aware the Tories also accept! All we require are some changes to regulate better the way Banks lend money, and not more Stalinist regulation, thank you very much! Ozzyβs ideas will STRNGLE the economy just like the Dennis Healey days. Besides, the UK economy is still favoured by the IMF to climb this credit crunch + world economic turbulence, and come out of it with the least harm to the economy in general! One of the reason is this: Sterling is at the moment very weak because of low interest rates, and while it makes for more expensive imports, especially from the Euro Zone, it is a godsend to keep our manufacturing and tourist industry thriving which results into higher exports and higher employment opportunities + plus helping to reduce the negative balance of payments that we have been suffering since 1976. So far, well done Gordon!
This is quite a readable book that promotes controlling credit rather than interest rates: 'New paradigm in macroeconomics', by Richard A. Werner.
Per Capita Britain is the most indebted country in the World
1 World $ 54,310,000,000,000 2004 est.
2 United States $ 12,250,000,000,000 30 June 2007
3 United Kingdom $ 10,450,000,000,000 30 June 2007
4 Germany $ 4,489,000,000,000 30 June 2007
5 France $ 4,396,000,000,000 30 June 2007
6 Italy $ 2,345,000,000,000 30 June 2007
7 Netherlands $ 2,277,000,000,000 30 June 2007
8 Spain $ 2,047,000,000,000 30 June 2007 est.
9 Ireland $ 1,841,000,000,000 30 June 2007
10 Japan $ 1,492,000,000,000 30 June 2007
We reap what we sow.
Well, itβs all a load of meaningless waffle, from an economic illiterate.
George Osborne, in his latest, juvenile, sound bite, in reply to the GB interview, commented that he, and his lot, had been βtalking to the banks, six months ago, about the problems faced by Fixed rate Mortgage Payers, when their fixed rate deals endedβ.
In this comment, Osborne shows his deep contempt for the populous; they are, presumably, too thick, to realise that their repayments may go up, at the end of their fixed-rate term.
The point is that lending too much was not the problem but the continuing lending to people who should never have had mortgages as greedy bankers desperately tried to find ways to increase their bonus. a good example of this is the housing in the North East. In the world of prudent lending we accept that we can borrow 3 to 4 times our annual income therefore average house price should be roughly 3 or 4 times averagesalary. so what has been happening in areas such as the North East were average wage is approx 15k
and average house price is 180k this is 12 times borrowing and means just
to pay the mortgage you would need at least a 7.33% yield on the property,
to put this in perspective it means the average homeowner must earn 13,200 to pay a home mortgage or if the owner is a landlord he must charge in excess of 13,200 just to pay the mortgage. if the average wage is 15k it doesn't leave a lot of spare money for the year. who on earth was lending to these people and should they not be footing the bill instead of the tax payer?
It is interesting following this debate. There seems to be two definite issues that dominate this debate. Firstly, the supply and availability of credit. We live in a free market economy. Banks want to make a profit, individuals want to increase their wealth and the country as a whole wants to prosper. The government (and the Bank of England) are the only ones to have the power and the tools to effect changes in the natural cycles of the economy. So there actions and controls will have the most impact. Whether we like it or not, we're in there hands. Secondly, the cost/value of homes has become almost an obsessional disease with the British. Making one's wealth through the use of property is one of the least contributive ways to enrich our society and our nation. It may make individuals rich, but at what cost to those unable or unwilling to join in on the bean feast. Property taxes (Stamp Duty and Agents Fees)) in the UK are some of the lowest in Europe. CGT is payable when sold on many homes in Europe and second homes, particularly in France, come with a very high price tag. Our rental market, from rents through to tenants rights is a nightmare thanks to regulation that mostly favours landlords. Second homes/BTL's in the UK should carry heavy CGT gains and council tax should be liable on all properties whether empty or not. The cost to councils, particularly rural areas loved by the "Weekend Brigade". suffer enormously from lost revenue as a result of legitimate council tax reductions. If people want to use property as there main source of wealth, they should pay taxes that reflect that profit. For too long, making money from houses has been to the detriment of this country. This government, and future ones need to really look at the housing issues facing this country, from building the right kind of homes to reducing some of the more speculative aspects of the market and creating an inflationary environment that is more in line with CPI or RPI. I am 55 years old and this is the third significant financial crisis I have witnessed, What people don't appreciate is the deeply damaging impact it has on the lives of many because of bad government and the greed of the minority.
Time to really look at what quality of life really means.
As for greedy banks, hedge funds, private equity groups, they deserve every loss they take and more during this credit crunch. One last question. Why should Northern Rock benefit from Β£25 billion of tax payers money when countless companies in manufacturing have been allowed to die by this and previous governments. Allowing Northern Rock to collapse would have been more painful in the short term but more beneficial for the future. A lesson well learnt perhaps. C'est la Vie!!!!
The point is that lending too much was not the problem but the continuing lending to people who should never have had mortgages as greedy bankers desperately tried to find ways to increase their bonus. a good example of this is the housing in the North East. In the world of prudent lending we accept that we can borrow 3 to 4 times our annual income therefore average house price should be roughly 3 or 4 times averagesalary. so what has been happening in areas such as the North East were average wage is approx 15k
and average house price is 180k this is 12 times borrowing and means just
to pay the mortgage you would need at least a 7.33% yield on the property,
to put this in perspective it means the average homeowner must earn 13,200 to pay a home mortgage or if the owner is a landlord he must charge in excess of 13,200 just to pay the mortgage. if the average wage is 15k it doesn't leave a lot of spare money for the year. who on earth was lending to these people and should they not be footing the bill instead of the tax payer?
Hi, I am new to this blog but would like to know why no one is asking why the senior people at Moodys, S&P are not being held to task for rating the sub-prime SIVs as AAA, I believe this is true. Surely the problem is that every few years the future is "mortgaged" in a new way - Enron, Junk bonds - and now SIVs and very few top people are held accountable. It appears laudable that Barings is rescued for one pound and Bear and Stearns for $10 a share but the result of not having to enter bankruptcy is that their top management and directors can still hold top positions. When there is a genuine penalty for the job not being properly done at this level maybe we will not be having discussions as to what is wrong with the system.
Isn't the problem of excess credit largely due to the widespread acceptance of systematic and institutionalised fraud in completing credit application forms.
The people completing the application forms exaggerated their incomes and the institutions knowingly lent more than the market value of the asset to such people.
Maybe a few prosecutions for fraud and conspiracy to defraud might help prevent future excess credit (or at least until the problems caused by excess credit seem minor compared to the profits available from excess credit again)
We will NOT get out of this mess by increasing the amount of lending in the economy.
When will the banks be held accountable?
It appears that all companies are equal, but some companies are more equal than others.
It all sounds reasonable in a blindingly obvious way i.e. moving to a harmonised CPI to match the Eurozone CPI was because of the intention to move toward the Euro BUT then we decided to wait because our business cycle (read as housing and credit cycles/ structures were different). If our cycle was different (one of the main issues being that their CPI does not have to include housing because the rental and purchasing markets are different BUT our costs and economic cycle i.e. output gap, are more closely tied with housing) THEN why did we still adopt their harmonised version.
So we could have house price growth and a debt cycle but then still say we had no inflation.
HOWEVER, saying that we are not in this mess because of the direct lending by banks is a bit odd. The whole system of easy credit and the "virtuous" cycle that is now taking us back to where our lending system should have been in the first place, was driven by banks feeding people with limited intellect more money than they should have had, which then kept the asset bubble going that then allowed them to get their hands on funds to lend more. Yes, they had access to cheaper funds, but to make money from this (from broker commissions to shareholder dividends) requires lending this money out.
The more lax their lending practises the bigger the bubble but the more money they made. So lets not forget their stupidity when providing loans, or the reward system that encouraged it.
Re Osborne's 'wisdom' ;itβs all a load of meaningless waffle, from an economic illiterate.
George Osborne, in his latest, juvenile, sound bite, commenting on the GB interview, said that he, and his lot, had been βtalking to the banks, six months ago, about the problems faced by Fixed rate Mortgage Payers, when their fixed rate deals endedβ.
In this comment, Osborne shows his deep contempt for the populous; they are, presumably, too thick, to realise that their repayments may go up, at the end of their fixed-rate term.
#44
First, Ireland's population is approx 1/13th of the UK's, so you need to check your math.
Secondly, external debt does not - I believe - represent external assets and their income. Whilst we have a major problem with our balance-of-trade, our current account is slightly better.
I have not seen the current figures for the capital-account. Does anyone know the current state...?
Yes, it's surely correct that UK shouldn't have had interest rates so low for so long, a policy engineered by Gordon Brown as chancellor by pretending to make the BOE independent yet controlling the way (and means of statistics gathering) the BOE were allowed to measure inflation, ridiculously false at 2 or even 3 percent. It's more like 8% or more .... At least they quote a more honest rate in Zimbabwe!
The only trouble is, the powers-that-be are seeing the way out is to .... LOWER INTEREST RATES AGAIN !!!!
So that we can borrow more to get us out of the mess of having borrowed too much!!
Where's the sense in that ?!
HOUSE PRICES ARE TOO HIGH !!
I wish reporters would say all this, but Mr Peston does very well, especially in his documentary last week!
Some rough notes on banking for the average man on the street.
Banks are the sole cause of the financial mess we are in, and most financial messes prior, but they disguise this fact with cleverly scripted jargon and paid up apologists, known as βeconomic expertsβ.
This is how: (Greed and power is why.)
Fueled by greed, banks over-inflate the economy with corpulent excesses of credit, causing bubbles.
Bubbles eventually burst, damaging the banks that inflated them, making them more insolvent than usual.
(Theyβre insolent at all times anyway; they donβt have your savings, never did, never will, they lent it out ten times over as soon as you gave it to them to look after. Any one else trying this would be incarcerated for fraud. Bankers call this, fractional reserve banking)
After an economical crash, their insolvency is often more visible to the public. Resulting in bank runs. See Northern Rock.
To stop themselves from going bust, banks turn off the credit in an effort to rebuild their margins. Unfortunately, this sudden credit drain usually causes a major shrinking of the economy called a recession. If it goes on for a certain amount of time, it is called a depression.
For us, joe public, this usually means house repossessions, job cuts and often excess inflation. For the banks, it means they get to take your house, sell it at auction, and if it makes a loss, you make up the difference.
Unfortunately, banks will never be allowed to fail, because if one major bank falls, all fall, resulting in complete economical meltdown. So, we find ourselves stuck in a situation where we are held to ransom.
Banks are lethal parasites, if attacked, theyβd kill their host.
If you or I tried this, it would be known as blackmail, obtaining money by menaces, protection racketeering, take your pick.
Other terms of interest:
Liquidity crisis means insolvency.
SIVβs are off the balance sheet investments, or to you and I βcooking the booksβ.
Futures markets, commodity trading etc, stocks and shares, are all betting shops where bankers go to gamble with your money.
What moral hazard? Where?
For these and many more crimes, bankers are virtually never imprisoned. Instead, when they do screw up and ruin our economy, they are retired on huge bonuses. We might call this shut-up money.
This is the oldest game in the world and they have been doing it for a long time.
The answer? Who knows?
One could be to forcibly nationalize all banks, confiscate their assets and prosecute the majority shareholders and management for fraud instead of giving them peerages. Another would be to slowly wean us of fractional reserve banking and onto 100 percent reserve banking, backed by a return to the gold standard.
This will happen when pigs fly.
The current problems are caused by the end, or anticipated end, of an asset price bubble. This bubble was fuelled by low interest rates. Rates were kept low due to low consumer price inflation, but asset prices were inflating at much higher rates creating imbalances in the economy. Is there a case for changing the inflation target from the current Consumer Price Index to a General Price Index? This measure would include asset prices such as housing and shares in its "basket of goods". This would lead to higher interest rates at times of high asset price inflation, helping to curb the formation of such bubbles.
The other main cause of the current problems was the over optimistic rating of assets by the ratings agencies. This was at least negligent if not fraudulent. Packaging together thousands of sub-prime loans does not create a AAA asset, but these packages were being rated as such. Some changes must be made here whether through regulation or changes within the industry. Hopefully the banks will learn from this situation but I'm sure the same will be happening in 10 years time with institutions convincing themselves that somehow things are different this time.
Hello Mr Peston, I hope you are back after your few days of break.
I would put this whole mess simply as:
When the property prices were doubling or tripling in value, the Central Banks all over the world were making the interest rates go lower and lower. Interest rates are basically a percentage point above inflation, say 0.5%; otherwise, your capital loses value every year. As property consists half the value of total economy of a country the central banks did not include the increase in value of the property in their calculation of inflation in which case the interest rates would not have been lower and thereby no such dramatic rises in property prices.
All the central banks have to do is to look at inflation in its true form and include all factors of economy, which affect it.
A note on a related issue:
I am very certain about the danger of collapse of another part of economy lurking in the shadow(not connected to Tories) known as the dragon of the financial industry "the derivates" where leverage is many times and its exposure is in many trillions of dollars which is many times the total value of assets on this earth.
I am sure the central banks would then say, when all is doomed, that they will learn a lesson from it for the next time. When will politicians and bankers stop learning these lessons, we hear this all the time. Easy way to say is they were inept.
In conclusion, Mr Peston, I suggest you ought to make a documentary on these two issues in depth with proper research.
comment No 6
this is excellent comment and is all you need to read here. right on the mark! especially houses being homes, not investments. they just tie up capital if the price gets too infated and you can't take a brick down to Sainsburys for your butter!
I am not convinced that this step will prove necessary. Just as banks have now abandoned the policy of lending to what were then termed 3rd world nations on the basis that countries couldn't go bust; this recent experience will ensure that they will now abandon imprudent loans to people who can ill afford them. They may also find the basis of their lending under scrutiny as banks will not be able to claim that they have a plausible Corporate and Social Responsibility policy if they are putting profit ahead of the interests of their clients. Perhaps, belatedly, the banks will now return to the old, tried and tested 3 C's measure of lending, which is to consider the Character, Capital and Capability (to repay) of the potential borrower.
The buy-to-let brigade are not all in it for greed. many see pensions being raided and prefer to invest in a 2nd home, rented out, so they can sell it on to provide them with a pension thats relatively untouchable by labour.
All political parties could wake up the banks with a short sharp shock, simply refuse to prop them up with secret loans from the taxpayer's purse! if their business model fails, then another company will take it over and those high up are out on their ears.
amazing that if their business could collapse (by over stretching themselves) how focused they become on responsible lending!
The next "wave" of danger, is the weakening pound: printing money for wars and northern rock, instead of using money out of the economy, was a big mistake.
This money is now finding its way back into our economy and hitting inflation, imports, exchange rates, etc.
the pound is being gradually devalued, I dont think alistair darling or gordon brown have shown any foresight to protect us all from the damage thats coming
Hi all the word of the day is GREED, the word of the time is GREED. Those people that we look up to, admire, give respect to and put all our trust in are just greedy basta**s. The poloticians you can not trust, the banks, you can not trust, who can we trust?. My bank took me for over Β£6000.00 in charges in the last 6 years, I got it all back plus interest. I now have no overdraft, no credit cards, no check book, no debit cards, and am working towards having no debt to these so called experts, they could not run a pi*s up in a brewery, they look to their own bank balances and bonuses, or expences accouns to detemine policy for you and me. Get real people we are the ones paying for the credit crunch, not those responsible for it. They are sunbathing in the Caribian not us. As for the regulators and regulations put in place to ensure a level playing field, ok if you abide by the rules like you and me, but what if you are powerful enough not to play by the rules, you get away with it. Me and you find ourselves in court, reposesed, or in prison. Never see the real culprits in prison with all their assets stripped though, other than the odd sacrificial lamb. We need a change from bottom up, a good tradesperson is worth his weight in gold at all times, a good polotician, or banker is worth his weight in WHAT at some of the time, a good tradesman makes a reasonable wage most of the time, a good or bad polotician/banker makes a very good wage all of the time, where is the justice in that. The credit crunch lays at the very door of the people who instigated the last big crisis in the financial markets, the very same people that control and get very rich from them. How many bankers or poloticians did you see joining or receiving the dole, none I bet. Do not let these people rule your life, work towards not being enslaved to them. In the old days you may be enslaved due to colour, due to circumstance, due to background, these days we are all enslaved due to debt. We are all financial slaves, look at what you have to what you actually owe, you own nothing, you owe far more than your assets. If house prices fall a lot of people are in the sh*t. Thisis begining to look like the crash of the late 80's early 90's god help us all.
A method of restoring stability to the housing market, and thereby perhaps helping to restore consumer confidence, would be to revisit the past and for Government to allow mortgage interest relief.
I find it interesting that Alistair Darling seeks to prod the Banks to act in the way he would like, without any real chance of success, whilst omitting to provide that which the Government could do. But then it would cost the Government money to offer interest relief- prodding the Banks is free!
Perhaps if the Opposition were to take up this idea, the Government, in the usual way, would feel obliged to adopt it. It is after all a sure-fire vote winner.
Iain Reid
When I first worked in the building society indusry, mortgages were always provided in line with the number of feeder investment accounts held,for example one mortgage provided to every 4 decent investment accounts held by the society. At times restrictions were in place and safer mortgages allowed rather than the giving 100%+ loans. Banking policy is now built on greed and pure profit, which is fine in a good market, but when the down turn arrives, and bonuses and profits fall it is bad news for all, but not generally the top policy makers who walk away with big pay outs when they had master minded a great blunder.
This suggestion is little more than a license to print more money.
Clearly with regard to the banks;
All Companies Are Created Equal But Some Are More Equal Than Others ...
What is this man thinking of? All the Conservatives have to do is keep pointing the finger at Gordon Brown and blaming him for the housing bust and subsequent recession. A slump for which he is uniquely responsible no matter how he tries to fob off the blame on contagion from the US.
He doesn't have to try to come up with any answers. If he does he leaves himself open to ridicule of bad ideas thus letting Brown off the hook or outright theft of any good ideas.
All Osborne need do is keep reminding the voters that Gordon Brown, in a time of global growth and low inflation, increased national debt from 350bn to 620bn. He failed to 'fix the roof'.
He created a million massively over-paid public sector jobs that it will be political suicide for him to attempt to get rid of instead of leaving them on the much cheaper dole. All that borrowed money in the hands of a million people who should still be unemployed promptly got squandered jacking up the price of houses for everybody else.
And the newly 'rich' British public then promptly raided their house for money and went off on a borrowing and squandering binge of their own. Which suited a party that was interested in getting re-elected but if Gordon Brown was truly about taking 'difficult decisions' he'd not have borrowed 270bn (and increasing) himself.
This is what gets me so cross. He's borrowed 270bn in six or seven years and yet nobody at the ΒιΆΉΤΌΕΔ jabs him in the chest every time he goes on about having 'balanced the budget over the cycle'.
Errr, no you didn't Gordon. You overspent by 270bn. 30bn here, 30bn there, pretty soon you're talking serious money.
When Von Broon gets up and says he's going to take the difficult decisions and continue with infrastructure projects thats NU-Labour-speak for 'we're going to keep printing money'
And Osborne should be pointing that out instead of wasting time coming up with unworkable ideas that will bring down a lorry-load of derision and distraction from a grateful Brown.
Hardly rocket science.
To be honest, it beggars belief that everybody seems to be so surprised that we are in this mess. Brown has mismanaged the economy by creating a credit boom, but the Tories and Lib Dems would have done no differently. Nobody was prepared to say that you can't have our cake and eat it. We have certainly had the good times now prepare for the bad and this will last for a decade or more.
The time it all started to go "Pear shaped" was many years ago. Roughly when a bank manager became no use when a reference was needed. The next nail in the coffin was the call center, when nobody could contact their own bank by phone. Then telephone banking arrived followed by the internet.
My old man made an appointment at the bank. Had to take an hour off work to sort out what ever finances he was there for. A brew, a chat, first name terms. Both chatted about the weather family ect.
The bank new who they customer was inside and out. The bank did their "ΒιΆΉΤΌΕΔwork" not by checking on a terminal but by customer liason.
It's not hardwork. But greed will prevail. "Risk and consequences"
Some years ago new car sales were highly regulated by government with constant changes in tax etc. Didn't seem to do the car industry much good.
Simple regulation of the credit markets would help. Stop canvassing consumer credit by phone, in store and via the TV and return to lending a sensible multiple of incomes for domestic mortgages. Remember the old days of 3 time main income?
There will always be periods in which too much is lent out by banks, and too much is borrowed by individuals and businesses.
I think a higher weighting in the variable for cost of capital, if there is a variable at all, in the CPI and RPI figures, needs to be included.
That way central banks all over the world would be better able to control the amount of capital available simply through their base rates.
This would hopefully lead to more certainty, which is wanted by all buyers and investors.