Submitted on Thursday 24th April 2008
£50bn BOE Support
Artcle written on Tuesday 22nd April 2008
The Bank of England and The Treasury has given the UK banking system massive support of £50b and there is some belief that it could end up being double that.
It has been given to stop the supply of mortgages drying up. The market needs about £100b per annum and the banks can probably meet less than half that without external funding. Because the previous sources of external funding (the market) does not now trust bundles of mortgage debt (CDOs) the government have agreed to take on bank securities iin exchange for tradeable governement bonds This allows the banks to go back to the markets with a tradeable commodity with which to raise money.
Banks (including foreign banks based in the UK) will have six months from yesterday (21st April) to take up the offer and no disclosure of participants will be made until the scheme closes, to avoid media and market influences its success . In October 2011 the assets will be swapped back and the scheme will close.
Without the Government taking this action the mortgage market would grind to a halt. This would raise the barriers to entry into the housing market even higher for first time buyers and would cause many existing homeowners to face hardship when their special rates come to an end and their existing lender can offer nothing but the standard variable rate (ironically the very situation currently facing those who have a mortgage with Northern Rock)
The scheme is seen as a relatively short term stop gap until some normality returns to the markets. Estimates of two to three years have been mentioned.
There are apparently some safeguards for the tax payer in the sense that a reasonable margin is being charged to the banks and only AAA rated assets can be used. As a part of this criteria setting, the IMF seems to have formed the opinion that the UK market is overpriced by 25-30%, which would suggest that a similar amount of equity would need to be present in bank security to negate risk. Where was the IMFs opinion when Northern Rock was lending 130% of a property value?
The net outcome for the mortgage world is it should stop the rot and stabilise the market although there will be no return to aggressive lending or cut price deals. Currently the rate that lending takes place between banks is 5.85%, a whole 0.85% above bank base. This needs to move a lot closer before all mortgage owners are feeling the benefit but for this to happen banks sitting on cash need to regain confidence and this needs time to filter back to the markets.
An improvement in the liquidity of the mortgage market should help ward off a sharp house price crash which in turn should ward off a deep recession.
This is the calculated gamble taken by the Government which is protecting its legacy as providers of low bank base rates which as we all know combined with an unprecedented availability of finance to lead to a prolonged property boom in the UK. It is ironic for a Labour government committed to wealth redistribution that hitting the news almost simultaneously is the revelation that 5 million of the poorest workers in the UK will be worse off as the removal of the 10% rate of income tax goes live, almost suggesting that they will be indirectly subsidising the bank system. Politics can be cruel.
