Friday, 11 July 2008

The banks need more help

I saw this ominous headline in the Times:

Banks press for terms of lending to be widened in liquidity scheme

The article seems to be the first shot in a renewed campaign to force the Bank of England to begin a more serious bailout of UK banks. According to the Times:

The banks are reported to be pushing for the terms of lending to be widened, and are expected to argue that the scheme has not done enough to restore confidence among banks, which remain cautious about lending money to each other and customers.

The key demand from the Banks is spelt out with shocking clarity:

The banks will arrive armed with a number of propsoals. It is thought that one of these is the possibility of extending the scheme to include mortgages written this year.

If the banks get their way, then the public sector would be drawn into a scheme specifically designed to keep credit flowing to the housing market. Recent home loans will be bundled up into mortgage backed securities and sold the the government. Since credit is the lifeblood of the bubble, the extended scheme would be a crude attempt to prop up housing prices.

It is scandalous stuff, but in the current desperate environment, the Bank of England and the government are probably ready to consider anything. The Banks are likely to get their way.

Even if the scheme is extended, it won't provide much long term relief for the housing market. The fundamental issue is asset overvaluation. Houses cost too much relative to home buyer's income. Any bank issuing a high LTV mortgage today runs an unacceptably high risk of default.

The lack of housing credit is the solution not the problem. Once home sellers cut their prices to more reasonable levels, banks can again begin to lend. Of course, bank balance sheets are in terrible condition. However, the answer to this problem is not more bad lending, even if the banks manage to shift some of the risk to the taxpayer.


huntse said...

This is extremely depressing. The market will clear if it is allowed to, and that goes both for house prices and for funding. Prices have to fall to the point where people are willing to buy and likewise, rates for lending have to rise to reflect a sufficient risk premium to attract lenders. There will be liquidity when these processes are allowed to take place.

Wasting taxpayers money bailing out imprudent banks is a total disgrace. All that is happening is capital destruction on a massive scale in a futile effort to delay the inevitable and prevent markets from doing what they do best, which is to clear.

Anonymous said...


Tie this in to
1) The EU has just rapped the UK for grotesque public deficit / spending imbalances
2) The Fed just surprising no-one by announcing they'll extend the temporary pawn shop for investment banks further

I'm hoping (REALLY hoping) that the UK is simply too broke to proceed with such a bailout and that this is really just a load of special pleading and political grandstanding.

Henry Paulson pretty much admitted as much on the Freddie issue.