The emperor has no clothes

In the four months since the advent of the credit crunch in the global financial markets caught Northern Rock with its pants down, the chorus of ritual assurances about the soundness of the economic fundamentals has given way to doom-laden panic. A recent “emperor-has-no-clothes” statement from former US Treasury Secretary Lawrence Summers opened the floodgates on admissions about the depth and breadth of the worsening crisis, together with dire predictions and warnings about its damaging effects.

Summers says that even if “necessary changes” in policy were implemented, the “odds now favour a US recession that slows growth significantly on a global basis”. He also believes that without stronger policy responses than have been observed to date, “there is the risk that the adverse impacts will be felt for the rest of this decade and beyond”. His assessment of the US housing market brings into the open predictions which had so far only been muted murmurs on the sidelines. Summers says that “indicators suggest that the housing sector may be in free-fall from what felt like the basement levels of a few months ago” and predicts prices could fall by as much as 25%.

In a shocking admission of the uselessness of the economic models used by forecasters, Summers is concerned that “we do not have comparable experiences on which to base predictions about what this will mean for the overall economy”. Put another way, the people who supposedly run the economy have no idea what the future holds.

Meanwhile, in Britain the Financial Services Authority (FSA) says there is "a very real prospect" that financial conditions will worsen next year because of the global credit crunch. The implication is that a number of smaller mortgage companies could go under because of difficulties in raising cash. An key indicator of the crisis is the soaring inter-bank lending rate, which is far higher than the official bank rate. .

As for debt-laden “home owners”, prospects are bleak indeed. Clive Briault, the FSA's retail managing director, says that more than 1.4 million borrowers on fixed-rate, short-term mortgages are due to come off their favourable terms next year. Many of them will have to pay higher interest rates as a result, which will contribute to the pressure on consumer spending. Other may not be so fortunate. Briault said that at the bottom end of market, the so-called sub-prime sector that focused on people with poor or non-existent credit histories, many borrowers "may not have access to the market at any price". Bluntly, they face losing their homes.

A House of Cards, our new publication, lays bare the intimate, mutually-dependent connection between the emergence of a web of transnational corporations during the uneven period of global growth, and the vast clouds of credit and debt needed to make it happen. There’s no pleasure in history proving us right, but it does mean that we’re able to see beyond the current crisis. A House of Cards offers the outlines of solutions based on collective ownership, self-management and replacing the profit motive with production for need. Get yourself a copy!

Gerry Gold
Economics editor

Painful times for borrowers

Those driven into insolvency as they try to keep a roof over their heads will take little comfort from the knowledge that they are the victims of a crisis that is spreading rapidly throughout the world’s financial markets. More than 100,000 people in the UK will be declared insolvent during 2007. In the second quarter alone 26,596 were added to the total. Many more will be in increasing difficulty as the effects of interest rate rises, and the ending of their period of fixed-rate mortgages bite. A large proportion of these will be the victims of pressure selling of credit by lenders hoping to profit from house prices spiralling as bonus-rich City traders and overseas investors continue to pile in to the buy-to-let market, especially in London.

Secured lending on homes at the end of June 2007 stood at £1,131bn, by far the greater part of total UK personal debt. Housing debt increased 11.2% in the last 12 months – much faster than both overall inflation and earnings, straining the budgets of many households to breaking point. No surprise then that mortgage arrears and repossessions have been increasing. According to the Council of Mortgage Lenders, although relatively low by historical standards, 1,400 properties were repossessed during the first half of 2007, an 18% increase on the second-half of 2006, and an increase of almost 30% on the first-half of 2006.

According to the Financial Services Authority (FSA) the situation is being exacerbated by lenders and mortgage brokers lending irresponsibly to those with a record of debt and credit problems. The FSA expects this kind of lending, known as sub-prime, to increase the level of repossession. Its view is supported by Moneyfacts, the financial data analyst, which has reported that some borrowers with poor credit histories are being asked to pay interest rates of up to 11.35% for a home loan.

Those driven into insolvency as they try to keep a roof over their heads will take little comfort from the knowledge that they are the victims of a crisis that is spreading rapidly throughout the world’s financial markets. The impact of mortgage over-selling which has been ravaging the US for many months is now affecting Asian, Australian and European banks and finance houses including the French giant AXA insurance company, all of which have been involved in lending to the US market.
Share markets declined rapidly last week when Sam Molinari, chief financial officer of Bear Stearns, the investment bank at the centre of the US crisis, compared it to 1998, when hedge fund Long-Term Capital Management collapsed and Russia defaulted on its debt.

Availability of easy credit worldwide has dried up. Lenders have taken fright. The big private equity deals that have dominated headlines over the last year have ceased. With the car market over-supplied, global giant DaimlerChrysler has been trying to offload its Chrysler subsidiary to Cerberus, one of the biggest of the fund managers. But now, Daimler has to supply US$1.5 billion of the debt needed to finance the deal.It’s like having to pay the scrap yard to take your car way, but on a much bigger scale.

Gerry Gold, economics editor