The budget looked insignificant and irrelevant the day it was announced. It looks absurd this morning.
The near collapse of the 5th largest investment bank in the US and the rapid action taken by the US authorities to avert a crash in the wider mortgage and banking markets matters to us as well as to Americans. We are all in this together. If major US institutions run out of money or stop trading, London based financial institutions will take some of the hit.
Those who think this is just a worry to highly paid people in finance who have good times for too long should also think again. If the banks run out of money, in the end we all run out of money. Many businesses and individuals need access to borrowing to keep trading, to buy homes, to buy new equipment. Borrowing will be getting even scarcer if the authorities do not sort out the banking problems.
We still have very different attitudes either side of the Atlantic. In the US, the President, the Head of the Federal Reserve Board, and the Treasury Secretary are all of one mind. This is a serious crisis in the mortgage and banking areas, and everything has to be done to prevent a collapse. We have seen big cuts in interest rates already â€“ we should expect more. We have seen big sums offered to markets to buy up good quality paper that the market no longer trusts â€“ we should expect more when needed. We have now seen direct lending to a bank in trouble, and should expect similar support if market bear raiders try it on with another institution.
In the UK we have had lectures from the Chancellor and the Bank Governor that the banks have been guilty of bad lending and there will be no bail outs. We had a steely performance last summer, until the Northern Rock problems got out of control, when they announced a comprehensive bail out for one mortgage bank, leading to its eventual nationalisation. In the last week the Bank of England did join in concerted central bank operations to make more money available to distressed markets, but it was on a modest scale, suggesting a friendly intent but a lack of conviction in what they were doing. It may also show that after Northern Rock, where UK handling has led them to take on more liability than I think they need have done, they are short of fire power.
The problem remains at base a simple one. We all know that banks have made too many loans, and that some of those loans will turn out to be bad ones where the borrowers will be unable to repay the money. The trouble is no-one knows just how many loans will turn out to be bad, and which of the banks has too many of them. Whilst banks are increasing their provisions against bad debts in the future, and raising new capital to strengthen their balance sheets, fear stalks the markets. People are now worrying that perfectly good loans and mortgages will turn out to be worthless. Investors are dumping investments in good loans as well as bad, driving the value of all a bankâ€™s loans down.
That is why there is a serious threat to the world banking system. Banks only work because most people trust them, and most depositors are happy to leave their money in their accounts knowing they can get their money out when they want it because not everyone will want their money at the same time.. They work because they can play a numbers game, knowing they will do well if say only 1 in 100 loans goes bad, and still survive if 4 in a 100 go wrong. If depositors no longer believe they can get their money out, and if investors believe large numbers of usually good loans will go wrong, the system breaks down. The authorities prime duty is to make sure we never reach such a self defeating set of attitudes. It is after all in the end our own ability to save and spend, to make payments and earn interest that is at stake here. The US authorities once again did the right thing this week. They have shown they understand the gravity of the threat to the system, and showed they are resolute in defending peopleâ€™s money. Next week they are likely to continue their good and essential work to reassure markets, and therefore move to underpin everyoneâ€™s bank account.
Listening to the deafening silence of the Chancellor this week, I was left asking myself â€œDoesnâ€™t he know there is a credit crunch?â€. Yes, he said he understood there were storms in the world economy, but then he raised a childrenâ€™s umbrella and plodded on. He should show some urgency in tackling the overspending and overborrowing in the UK public sector. He should produce a statement on how the Bank of Englandâ€™s powers in money markets will be urgently restored, learning the hard lessons of the combined failure to avert the Northern Rock crisis last summer. Behind the scenes, instead of playing silly politics with drink and green issues, he should be devoting his sole attention to international collaboration, to make sure the world authorities get ahead and remain ahead of the pack of bears seeking to make money out of bringing down other financial institutions and financial products.
The world system does need to cut its over borrowed state, but in an orderly way at a sustainable rate.