The Chancellor’s contribution to understanding the credit crunch has been lamentable. So far he has told us it is an American problem based on bad mortgage lending in a far away country; that Northern Rock is a one off problem in a mortgage bank which has a good mortgage book; that he wants more transparency about off balance sheet financing; that he thinks banks should not be bailed out for the mistakes they have made with poor loans, and believes there should be a re-pricing of risk.
Let’s look at this in relation to his own actions:
1. Whilst lecturing banks on the need to tighten up lending because there would be no bail outs, he has offered a gurantee on all the deposits in any bank subject to financial problems in the market. Such an offer is without precedent.
2. He has through the Bank of England lent ??23 billion to Northern Rock. Recent sale documents for Northern Rock suggest taxpayers will still be lending ??6 billion to them in 2010.
3. Despite his wish for more transparency and less off balance sheet lending and borrowing, he does not put the full details of the government’s PFI/PPP borrowings onto the government balance sheet, and continues to encourage off balance sheet borrowings by government.
4. He has failed to sort out the muddled responsibilities between Treasury, the Bank and the FSA over banking regulation and money market operations.
What is wrong with his analysis?
1. This is not just a US problem. The Credit crunch in the UK will raise the mortgage failure rate here. The world banking system has bought and sold loans between banks from different countries, so it is a global problem.
2. This is not just a mortgage problem. In the UK there will be the need to write down some loans in the private equity, property and business areas as well as some mortgages. People today in the city are finding it difficult to value a range of differing debt instruments, and the property that is often the security for loans.
3. The US banks have started reporting to the market how much they think they have lost in the credit crunch so far. The UK banks do not report for a while, and are probably pondering how to value some of their assets in this volatile and constrained market. There is no sign that Darling’s call for greater transparency has resulted in any changes to reporting or reporting requirements, so why did he call for it?
Mr Darling should take better advice and understand the nature of the coming problems the banking system, the property sector and financial markets face. Property share prices are anticipating a double figure percentage fall in commercial property values in the UK. Housebuilding shares are warning that the housing market is going to be damaged. Some early indications suggest that other forms of debt are going to be marked down by a significant amount.
Mr Darling should start looking forward, and understand his overall responsbility not just for banking regulaiton but for the money and credit markets, as they are heavily influenced by what government and Bank does day to day by way of market operations, and month by month in terms of supplying cash and issuing government bonds. He cannot duck his involvement or responsibility, so he had better start learning how to carry it out. So far his record is poor and full of contradictions. The City’s reputation requires skillful handling by Treaury, Bank and FSA. Over the last 10 years financial and business services in London have been the stellar performers within the UK economy. Mr Darling still needs them to do well.
The danger for him is he allows the crunch to go on for too long, and forces an extreme re-pricing of risk which weakens credit creating institutions too much. If balance sheets are weakened too far by big write downs, then the banking system will be unable to deliver sufficient credit to the market. That will mean fewer jobs, fewer new homes and all that goes with it.