Sunday, 2 March 2008

Working on making things worse

Past, present or future - politicians, banks and central bankers are falling over themselves to make things worse than they should be.

Bad decisions from the past: UK banks write off household debts.

The banks are finally beginning to confront those past bad lending decisions, at least their unsecured lending mistakes. For far too long, banks lent out too much to customer who were unlikely to repay. The banks are now starting to write off those unrecoverable loans. Last year, banks wrote off some £6.8 billion of individual debts. It is the biggest annual total since records began in 1993.

After the crazy christmas of 2005, banks realized that they went too far with credit cards and unsecured loans. Since then, banks have been pulling bank. The volume of unsecured credit has declined slightly while lending standards have tightened up. As the banks pulled back, the bad loans piled up on their balance sheets.

You might have thought that the banks would have learnt something from their experiences with those feckless consumers. Sadly no, the banks moved effortlessly from over-extending themselves on unsecured credit to lending out huge amounts of easy credit secured on housing.

Now, this larger and more dangerous problem is about to jump on them. Default rates on mortgages have begun to climb. With house prices falling and the economy slowing, the banks will inevitably see the quality of their secured lending deteriorate.

Unsecured lending put a serious dent into UK bank balance sheets. As bad as those losses are today, worse is to come. The housing crash will see to that.

Today's bad decisions: Bernanke pushes for more inflation

In today's Times, Irwin Stelzer provides a schizophrenic article on the prospects of the US economy. On the one hand, he points out that "Bernanke has decided that inflation is the lesser evil" relative to an economic slowdown. Despite this stark choice between economic evils, Stelzer also claims to be optimistic about the US. He thinks that it will be quite a result if the US economy grows "between 1.3percent and 2.0 percent" while unemployment "rises to 5.3 percent".

Perhaps, his editor chopped off a few paragraphs from his piece. A slowdown in growth and a rise in unemployment alone does not provide much of a platform for optimism. Nevertheless, Stelzer is right to point out Bernanke's inflationary tendencies.

The logic behind Bernanke's inflationary escape plan is simplistic. If house prices are out of line with prices in the rest of the economy, then Bernanke intends to pull all other prices up to meet the overinflated housing market. A little nominal wage growth would certainly help. With more money, more people could meet their mortgage payments and so ease the pressure on house prices coming from foreclosures.

However, US inflation is largely driven by higher fuel and food prices, while wage growth has largely remained stagnant. The Fed's interest rate cuts have weakened the dollar, threatening to push up import inflation further. Bernanke must also be disappointed in the banks. Despite the falling Federal funds rate, mortgage interest rates have barely moved, leaving hard pressed house debtors unable to refinance their bone-crushing debts.

After Bernanke succeeds in rescuing the housing market with a bout of inflation, what will he do next? Higher inflation will bail out debtors at the expense of savers. Over time, savers will demand higher interest rates, which will discourage investment and ultimately reduce growth. Sooner or later, the US will get the recession that it deserves.

Working on future bad ideas: Brown will "curb second home ownership"

The Prime Minister wants to make rural home ownership affordable for the peasants. Given his controlling tendencies, he wants local authorities to have the power to prevent outsiders buying property they do not intend to make their main residence. In future, those seeking to buy country boltholes that deprive local residents of houses would be forced to apply to the council for approval.

Unfortunately for Brown, this idea is almost certainly illegal. When the UK signed up for the EU, it agreed to the "free movement of people". Any law that allowed the state to approve who lives where would contravene this principle.

Brown and the other sailors on his ship of fools obviously know of this requirement. So today's announcement must be little more than a headline grabbing Sunday morning spinner.

1 comment:

traderboy said...

the rural housing problem is tricky. i suspect if the government did nothing, it would sort itself out as the economy slows and mortgage lending tightens, so putting more supply back on the market.

or the govt should stop allowing rental income to offset mortgage payments prior to paying tax on it.

or they should maybe loosen planning regulations...there is plenty land in the UK to build on, if they allowed housing to go up on some of the fields out there, you could easily increase the inventory of rural property and hence make housing affordable for locals.