Central bankers go for broke

The unprecedented intervention in the financial markets by the world’s five largest central banks is the most dramatic illustration yet of the scale of the credit crisis. Already, doubts are surfacing about how effective the decision to pump billions into money markets will be because the underlying problems remain.

There is an air of desperation about the plan to make $100 billion (a comparative drop in the ocean) available to banks that are facing massive losses or that are unable to borrow on money markets and face collapse like Northern Rock. Earlier this week, both the Federal Reserve in the US and the Bank of England cut interest rates in a bid to restore confidence. They failed. Shares fell and mortgage companies were in no hurry to pass the cuts on to borrowers. So the central banks have gone for broke with their new plan.

The largely symbolic intervention by the banks drew a mixed response. Julian Jessop, the chief European economist at Capital Economics, said the move did “not address the underlying imbalances threatening the world economy - notably the impact the US housing slump will still have” while Julian Jessop, chief international economist at Capital Economics, concludes: “Risk premia are likely to remain permanently higher after the excesses of the last few years. The world economy is still facing a marked US-led slowdown in 2008.”

The pro-business Daily Telegraph for one is not sure whether the banks’ intervention will work because the problem is not one of liquidity – financial institutions are, according to the paper, “flush with assets”. The reason they won’t lend to each other is because no one really knows the extent of sub-prime losses competitors carry. For example, only this week, Swiss bank UBS took a $10 billion sub-prime hit and the Federal Home Mortgage Corporation (Freddie Mac), America's second biggest guarantor of mortgages, revealed $12 billion in losses. Some estimates suggest that a total $3,000 billion in sub-prime debts is lurking in the global financial system.

Says the Telegraph: “There is a nagging fear that we have seen only the tip of the sub-prime iceberg and until a clearer picture emerges of the scale of exposure, banks will continue to sit on their hands, and their assets. Given that capitalism is built on bank lending and lending has always involved an element of risk, how is that lost confidence to be restored?” That’s a good question.

Behind the intervention is the worry that the credit crunch is now affecting the economy in general. US investment bank Morgan Stanley this week forecast a deep recession in America. Consumer spending is falling everywhere as mortgage and credit conditions get tighter. And that is the real crisis for capitalism. If people won’t and can’t spend on credit, the products of the global corporations stay on the shelves and this will trigger a worldwide slump. This is the process we are bang in the middle of now.

In Britain, repossessions are forecast to soar in 2008 as millions on low, fixed-rate mortgages face steep rises in repayments. House prices are falling throughout the country in the absence of buyers. Profit warnings are coming thick and fast as retailers fear poor Christmas sales. What the Telegraph calls a “credit craze fuelled by cheap and plentiful money which underpinned the boom” is over. The wheels have come off the global capitalist, profit-driven economy, with threatening consequences for jobs, homes and international stability. There are, however, not-for-profit alternatives which we outline in our new book, A House of Cards. Make sure these receive the widest circulation and discussion.

Paul Feldman
Communications editor