This ‘credit crunch’ is the consequence of problems in the American sub prime mortgages market. Last year many low income mortgage holders, defaulted after years of steady interest rate rises, combined with house prices flattening, meant banks had to write off sub prime loans valuing millions of pounds.
The Bank of England’s recent decision to put up £5 billion of emergency three-day loans heightened the sense of unease. The fund for British banks to borrow; to ease credit fears was five times over-subscribed. Banks were so fearful of each other’s solvency, that they were charging more than 25 basis points above the Bank’s leading rate for loans of even just one day.
Financial Economist Chris Gilchrist said, “Fear had taken over the markets, making it hard to predict what will happen next. The bottom line is sooner or later, there is going to be one piece of news which turns the psychology from negative to positive.”
Many economists have issued warnings of the threat to the world economy, this credit crunch will have. On the surface, the UK has all the problems of the United States with a housing market that is slowing down and an indebted consumer. Alarm bells are ringing with UK consumer debt totalling £1.3billion, more than the entire national output. Consequently, there is a feeling that the UK could next be in trouble. Speculation is now mounting as to whom is the next casualty in the British banking sector, following the demise of Northern Rock.
The point all speculators seem to agree on, is that they don’t actually know the full extent of the problem-no one does! Even the banks don’t know exactly how much their most risky asset types will fall in value; estimate range the losses to the banking system of between £40 billion-£500 billion.
It is far too early to predict what will happen, but the turning point will be the tightening criteria for consumer credit and the cost of mortgages increasing. The key to the housing market beginning to pulling through early in 2009 will be the Government’s tight reign on spending in the next two years. Secondly the Monetary Policy Committee’s handling of interest rates whilst maintaining a satisfactory inflation rate and thirdly consumer spending.
Editor: Simon Weston-www.myfirsthomeltd.co.uk
- UK mortgage approval rise but total lending weakest since March (telegraph.co.uk)
- Bank plans to cap risky mortgages (telegraph.co.uk)