Credit Crunch One Year On
One year after the term ‘credit crunch’ entered into daily lexicon, the economy and housing market have both taken a remarkable change of direction.
12 months ago, Gordon Brown was delivering self congratulatory speeches with an impressive regularity. His smug self congratulation was not entirely unfounded he could point to
- low inflation
- high growth of 3%.
- The longest period of unbroken economic growth since records began
- Low unemployment
True there were some mutterings about the level of consumer debt, overvalued asset prices but, in perspective you could argue - ‘you have never had it so good’
Credit Crunch 12 months Later
- Inflation has broken the government’s target and CPI inflation is heading towards 5%. Even worse, people increasingly disbelieve the official inflation statistics. Rising petrol and energy prices mean that many feel inflation of double figures is more appropriate.
- Unemployment is rising at the fastest rate since 1991
- Economic growth is slowing sharply; recession is forecast.
- House prices have fallen by over £15,000 leading to a collapse in consumer confidence and spending. (Why house prices are falling)
- Even first time buyers have not benefited from falling house prices - mortgage availability has frozen up keeping many out of the housing market. Estate agents and the construction industry have been hard hit by the slowdown.
- The Mortgage industry has changed remarkably. Gone are the 125% and 100% mortgages in their place banks are asking for deposits of upto 25%.
- Government debt has defied optimistic forecasts and has broken the government’s own limits. (see debt levels)
- The Government had to bail out a major bank (Northern Rock) for first time in a generation. Today Northern Rock announced losses of £585million for the first 6 months of the year. Others fear that the worst of the bank debts is not over.
Why Has Credit Crunch Caused So Many Problems?
- The extent of bad sub prime debt which was written off is very extensive. Because this sub prime debt was sold on in mortgage bundles around the financial system, few banks have been able to escape. This led to a fall in interbank lending and write-offs which hit bank’s balance sheets.
- It is difficult to raise finance for new loans. Banks became reliant on securing their loans by selling to other banks. The credit crunch has made this very difficult, therefore, banks are struggling to just maintain their existing loans let alone create new loans.
- Coincided with a peak in House Prices. On the back of new types of mortgages, the housing market retained a rising demand enabling price to earnings ratios to rise to record levels. When the mortgage sector shrank, demand for buying houses evaporated.
- Coincided with rising oil prices. The credit crunch has coincided with another unexpected shock - rising oil prices which have pushed inflation to levels not seen for many years. This has created a double squeeze on living standards and consumer confidence.
- Global Nature of Economic Shock. Although the developing world is taking a bigger share of exports, the US economy still has the capacity to influence the world economy. As the US and EU economy slows down it has exacerbated the UK economic slowdown.
Is the Worst Still to Come in 2009?
There are tentative signs that interbank lending is returning to normal. However, there are still concerns about the balance sheets of banks. Falling house prices mean that mortgage defaults will cause huge losses for banks. So far, the federal authorities have been able to bail out banks in trouble, but, it is not clear how much they can keep doing this.
The Good News
- Economies do tend to be cyclical, there is no evidence that this recession will be any worse than previous recessions; there is still reasonable hope the recession may be relatively short.
- Interest rates are low. Falling house prices does not increase cost of mortgage payments. Mortgage defaults in the UK are unlikely to reach 1991 levels when interest rates were nearly double current levels
- Oil prices may stabilise.
- With a slowing economy it is likely oil price rises may slow, if not fall. This will enable lower inflation and therefore, lower interest rates to boost economic growth.
- Falling house prices have some benefits.
See also
Original post by Tejvan R Pettinger