I heard it again today. A friend, who should know better, stupidly claimed that UK housing crash was somehow related to the ongoing sub prime mess in the US.
When I hear this rubbish, I get mad, It is wrong and misleading. It also obscures the deeper observation that our housing crash is domestically produced. We made this mess ourselves and without any help from abroad.
The link between the UK housing crash and sub prime crisis just does not add up. At the height of the US housing bubble, the total number of adjustable rate mortgages topped out at around $1 trillion. Furthermore, the really toxic stuff - the mortgages originated in 2006 and 2007 - was only a fraction of that amount. Even assuming some really dreadful default rates, it is hard to imagine that the US sub prime crisis is going to cost more than $400 billion.
What does a loss like $400 billion mean? To give the number some perspective, the US stock market has a capitalization of around $16 trillion. A $400 billion sub prime loss would be equivalent to about 2 percent fall in the US stock market. That is the kind of loss that might make a headline or two in the financial press, but it is hardly the kind of financial sector shock that would generate a credit contraction in the UK lasting eight months.
Of course, I know that some UK banks held sub prime MBS and that some of those losses are significant. I also know that some people will be uncomfortable with comparing stock market losses with banking losses. Nevertheless, it is very hard to make any direct links between what happened here to what went on over there.
The best connection I've heard so far runs along the lines that bankers the world over started taking stupid pills, forgot about risk, and went mad on real estate. However, that is an argument based on correlation not causation.
There is a much simpler explanation for our housing crash. After years of irrational lending, last summer UK banks suddenly lost confidence in UK households. After years of pumping in billions of pounds of credit, the banks because queasy and wanted to stop.
The evidence for this sudden loss of confidence is there in the most recent bank lending data, issued by the Bank of England earlier this week.
First, in order to get an understanding of the data, it is important to grasp the importance of lending to individuals to UK banks. As of the end of March this year, loans to individuals accounted for around 38 percent of the outstanding stock. Lending to other financial corporations accounted for a similar percentage, while lending to the rest of the economy took up the remaining 23 percent. So, lending to individuals forms a huge part of bank lending activity, and most of that lending takes the form of mortgages.
So what has happened to bank lending in the first three months of the year? The banks have kept on lending to financial corporations and the rest of the economy, but they have pulled back dramatically from lending to individuals. This is, of course, the counterpart to the well-publicized observation that mortgage approvals have collapsed.
Breaking the lending data down further reveals another interesting observation. There is still some mortgage lending going on, but unsecured bank lending has virtually collapsed. If you don't have a house to use as collateral, the only unsecured consumer lending today is via a credit card.
Why have the banks suddenly lost confidence in their reliable old punter - the UK household? One day, the banks woke up, stopped taking the stupid pills, and realised that UK households were choking with debt. The threat of a housing crash was looming large, and panic took hold. Suddenly, the board room screamed from on high "stop the lending". The memo was circulated, lending standards were tightened, and the days of easy credit were over.
It was as if someone came into the room and switched off the TV. House prices needed the credit like a chat show needs C list celebrities. No credit means no show. Now, house prices are tumbling, estate agents are going out of business, and everyone else is wondering why did we ever think house prices could keep on growing at 20 percent a year.
So, don't look to sub prime for an explanation for the UK house crisis. Think local and think high street banks. Imagine a noxious blend of stupidity and greed, that is suddenly replaced with fear. Then you will understand our housing crash.