How government and the Bank of England exacerbated the credit crunch
4:35pm
The credit crunch is global. So why has there only been a run on the banks in Britain? Alistair Darling suggests Northern Rock is a mere domino in a chain which started in America. But John Redwood’s blog points out that the first domino was knocked over by the clumsy fingers of the Labour government. Only in Britain did the central bank refuse to boost liquidity by lending at a non-penalty rate (unlike the ECB, the Fed, the Norwegians, Swiss, Russians etc).
The next bit sounds nerdy, so was the ERM crisis so stay with me. Exacerbated by the BoE’s intransigence, the de facto cost of bank borrowing, three-month LIBOR, has risen from 6% to 6.85%. These costs will be passed on to customers. People are about to feel the pain of a problem which could have been assuaged by better judgement at the Bank of England and more vision from our ministers who failed to realise what would happen.
I spoke to Ross Walker, an economist at RBS, who had this to say: “I do think we will see mortgage rates rise further. As a rough rule of thumb it will be at least by a quarter point.” But he says the credit crunch “will come in other forms as well, there will be new restrictions. Banks will decide not to grant loans, where once they could have. A lot of the time, people’s mortgage rates are advertised as being fixed to the bank rate. But if you read the small print, is this the Bank of England base rate or is it a commercial bank rate?” I hate to admit that with my mortgage I have no idea.
There has been much patronising criticism of the folk queuing outside Northern Rock today, as if they don’t know what they’re doing. A rather well-heeled friend of mine in the City took his cash away from Northern Rock last month, fearing precisely this. The City saw a while ago what our ministers are only realising now. It’s worth keeping an eye on Redwood’s blog in the next few days. The debt chicken may be finally coming home to roost.
Previous
Tory Lady
September 15th, 2007 11:31pm Report this commentThe Bank of England fearful of the clunking fist is desperate to keep interest rates low. The Real Money Market however is pushing rates up. I believe a General Election is certainly around the corner and perhaps pinpointed to sod up the Tory Conference. To win Brown is desperate to keep rates down against the market pressures. Notice too that Darling is trying to put the blame of this credit crunch on the Americans and British Bankers.
mitch
September 16th, 2007 12:12pm Report this commentGordos house of cards economy has just had a mild breeze hit it and the sky is falling,wait till the storm gets here the winter of discontent will seem like a bad weekend the sound of buy to letters will be like hail hitting the floor.
DR ANDREW JOHN KITCHING
September 16th, 2007 3:25pm Report this commentYes, I think he'll have to go for a General Election this October, or he'll be stuck with May/June 2010- it'll take that long for the economic mess to sort itself out.
Chris Paul
September 16th, 2007 3:37pm Report this commentRun on the bank_s_ plural? Do you know more than you're tapping? Or are you simply exaggerating wildly? At least doubling the problem and to most people turning a particular case into a general problem for the industry.
Seems to me the right want the banks etc to have freedom AND be bailed out whenever they freely mess up.
Can't buy that myself.
tier one's gone
September 16th, 2007 5:30pm Report this commentGordon split the B of E in two in 1997. Now its the B of E AND the FSA that's responsible for the banking system. Now cry my beloved country, because the people who once would have banged heads in Threadneedle Street, over the weekend, are instead all away for the weekend, hoping that someone else would sort it. Banking confidence will, like our Great Civilization, slip through the fingers of this media flotsom and jetsome that has somehow taken control and calls itself our government.
marcelo
September 16th, 2007 7:29pm Report this commentWhen a bank that has good (not subprime mortgages, or "no strings attached" loans in which the value of the collateral is inferior to the value of the loan) cannot access liquidity in the market because other banks do not want to lend beacuse they might want to hoard liquidity or do not trust the other banks. In this instance it is perfectly fine, moral, appropriate, etc., for the monetary authority to lend to the banks. The second situation is when the value of the collateral pledged, or accessible to the bank is below the value of the loan. In this case the bank incurrs losses that may render it insolvent. Lending money to such institution is throwing money down the drain, a notorious specialty of British government. As to the seed of the problem, it lies in the way the regulators delegated the responsibility for how much reserve capital to apply when lending money. The banking authorities allowed the amount of capital to be allocated to depend on the credit rating. Once this happened banks behaved rationally from ana economic point of view: the choice between a much higher rate on a pool of subprime mortgages with the same rating as a normal mortgage is obviously preferable.
Fraser Nelson
September 17th, 2007 9:13am Report this commentChris, at the time of blogging id picked up reports of queues at other banks. This may have come to nothing. You're right that most on the right think the BoE acted wisely in refusing, Bagehot-style, to drop the penalty rate. I differ in that I think the state has a duty to move heaven and earth to keep liquidity flowing if it thinks we can stop a crisis such as that we're now facing. I come back to my point: why has the rest of the world seemed to shrug off the global credit crunch, while Britain is at panic stations?
alex popplewell
September 18th, 2007 9:17pm Report this commentwell.the rest of the world isn't unscathed-lots of US mortgage brokers and originators have gone bust,the germans have had to bail out/crunch together a number of dodgy institutions and there are big write-offs to come from chinese banks-though i expect few queues to retrieve deposits there...
Back to top