Cameron's Credit Runs Out

There has been a persistent rumour in the market for the last few days that a credit rating agency is about to downgrade UK Sovereign debt. Despite denials of the rumour by some of the agencies themselves, the rumour has not gone away. Yesterday, S&P downgraded Spain's sovereign debt again, to AA-, and placed it on negative watch for a further downgrade. Italy was downgraded again not long before.

Today, the ECB has been busy again in the Bond Markets buying up Spanish and Italian Bonds, to prop up their prices. At the same time, today, the G20 is holding the first of three meetings, in Paris, to try to sort out the European Debt Crisis, which will require the leveraging up of the European Financial Security Fund (EFSF) in order for it to be able to recapitalise European Banks, so as to withstand the inevitable Greek default on its debt to them, and to provide the resources needed to bail-out the other peripheral economies with sovereign debt problems. Last week, the Credit Agencies downgraded twelve UK Banks. They said it was not because the financial position of those banks had deteriorated, but because they believed that the UK Government was in a worse position, and less likely to intervene to support them, should the need arise. If time is running out for European politicians to overcome the political crisis crippling Europe, to deal with the debt crisis, it is running out even faster for Cameron. In the last week, the Yield on the UK 10 Year Gilt has risen from 2.2% to 2.6% and rising. That may not seem much, but in percentage terms it is a near 25% rise. Imagine your monthly mortgage payment rising by a quarter, and you see its significance.

Of course, the Liberal-Tories have tried to run with the narrative that the low yields on UK Gilts has been down to their austerity measures, with controlling the deficit. That is nonsense. At the beginning of 2010 the Yield on the 10 Year Gilt stood at 3.2%, and was falling.

After Osborne's June 2010 Austerity Budget, yields rose. By later in 2010 they had risen by nearly 20% to 3.8%. What caused Yields to fall was not the Liberal-Tory austerity measures to cut the deficit – in fact, because those measures have tanked economic activity by frightening consumers and businesses to death, even before the real impact is felt, the deficit is increasing as tax falls and benefits rise, and the percentage of debt to GDP is bound to rise, not fall, because of a shrinking or stagnant economy – but, the fear that gripped global Capital Markets, about the potential for sovereign defaults. The same fear led to money being taken out of Equity Markets.

It had to go somewhere, and so Money Capitalists and Managers put it where it was relatively safe. They put it into Deposit Funds that paid virtually no interest, they put it into the Bonds of those economies who everyone knew would not default, because they had the ability to print money to pay their debts, they put it into Gold and Silver, because of its intrinsic value, and so on. The more those things were bought, the higher their prices went, and, because Bond Yields are inversely related to Bond prices, higher Bond prices meant lower yields.

But, as some of that fear has slipped out of the markets in the last week, so Stock Markets have risen, and Bond prices have fallen, pushing yields higher. The situation is much more serious, however, when you come to look at the credit position of the Banks and Financial Institutions themselves, as opposed to the sovereigns.

Its been clear for some months that concern over the European Debt Crisis was spreading out into concern over European Banks, and how they might be affected by it. US Banks, began to withdraw funds, and to refuse to provide short term lending for UK and European Banks at anything other than very high rates. Asian Banks then began to do the same. In other words a new Credit Crunch developed.

In his blog Paul Mason, provides this graph of credit insurance costs for European Banks.

It shows those costs higher now than in 2008, and, as he says, the conditions exist for a worse Credit Crunch now than then. The following chart provided by Bloomberg also shows the consequences of this for UK Banks. The purple line at the bottom shows that 3 month Libor – the interest rate charged by Banks to each other for short term lending – has been rising sharply since August.

In fact, its risen by around 80%, since the low point after the first credit crunch! So, whatever the rate at which the Government can borrow on international markets, whatever the Bank of England decides in terms of setting interest rates, the fact is that the interest rate that UK Banks have to pay to borrow money is rising sharply. In 2008 the Credit Crunch eventually broke out when that rate rose so sharply that Banks began to hoard whatever money they had, and were not prepared to lend at any price. This is important.

Its important for individuals, because, as Northern Rock showed, and as the Credit crunch of 2008 showed, if those Banks either cannot borrow, or else their borrowing costs rise sharply, it means that they either stop providing mortgages and loans, or else the interest charged on those loans rises sharply itself.

Going back to the point I made at the beginning, a few decimals of a percentage point rise may not seem like much, but when those few decimals amount to a 25-50% increase in the amount of interest you have to pay, the real amount becomes clear. When interest rates were slashed after 2008, the average mortgage payer saw their payments fall by around £7,000 p.a. At a time when disposable incomes are being squeezed sharply, due to falling wages, and rising prices, the average mortgage payer may well find a 25-50%, or more increase in their monthly payments more than they can stand. But, just as that fact, in relation to Greece not being able to pay its debts, poses a severe problem for European Banks, who lent that money to them, imagine the problem those Banks, especially UK Banks, face if they are faced with millions of mortgage payers defaulting on their loans!!! Greece owes around £250 billion to its creditors, but UK private debt amounts to ten times that, at around £2 Trillion, most of it in mortgage debt!!!

Its no wonder that at the Tory Party Conference, Cameron wanted to implore people to pay off this debt to his friends in the Banking industry. He wants them to get their money back before individuals start defaulting on their mortgages, credit cards, student loans and other debt in the same way that Greece will default on its debt.

And, just as the likelihood of a Greek default has undermined the possibility of raising funds through privatisation of Greek assets, because the prices of those assets has been crushed by the combination of them being sold in a firesale, and of them becoming worth less due to the cratering of the Greek economy, so it is inevitable that the houses against which the banks and Building Societies gave loans will become worthless, due to the same causes. The more people default on their mortgages, and walk away from their homes, the more Banks begin to foreclose because they need the cash that mortgage payers are not paying them, the more a firesale of those houses will crush their prices, as it has done in the US, in Ireland and as it did on a smaller scale in Britain in 1990, when house prices dipped by 40%, which will seem mild by comparison. (See: House Price Crash)

But, of course, Cameron had to withdraw his call for people to pay off their debts, because all of the small businesses that he relies on, were up in arms about the likelihood that such a move would further demolish the demand for their trade, which was already being destroyed by the Liberal-Tories austerity policies.

But, it is why Cameron has had to recognise that the Credit Crunch is here, and that the Capital Markets cannot be relied upon. It is why they are attempting to circumvent the Capital Markets by getting the Bank of England to print money, to buy up Government Bonds; it is why Osborne is proposing “Credit Easing”, so he can simply hand over taxpayers money directly to the Bankers in return for them buying up and trading a new Sub-prime Derivate, made up of bundles of iffy loans to small businesses.

None of that will deal with the Financial and Political Crisis. The only real solution will be to reverse the austerity measures, and to create a Europe wide programme for capital restructuring and growth. That cannot be done effectively in the kind of of bureaucratic, nation by nation manner currently being adopted. It will require the establishment of a United States of Europe, which is the demand that the European working-class and Labour Movement should begin to raise, and fight for, because the bosses and their political representatives clearly cannot be relied upon to bring it about. It certainly will not be achieved by the kind of reactionary, 18th century, Little Englander approach that dominates the Tory Party.

The Liberal-Tories have been marked by the most astounding level of incompetence from Day One, as I set out in my blog A Bit Of A Pickle, but their incompetence in relation to the economy and the Financial Crisis, and to the Political Crisis in Europe, plumbs new depths. The fact that this Government is facing almost daily new political challenges suggests that sections of the ruling class may be tiring of it too. The daily revelations over Liam Fox, read like the pages of a Dan Browne novel, whereas the antics of Oliver Letwin appear more like farce.

It is reminiscent of the last days of Rome. If we had the kind of class conscious, disciplined and organised Labour Movement that Marx and Engels left us all the tools to build, this shower, and the system they represent would already be either in the dustbin of history, or bagged up ready to deposit. Its to our shame that we have not done so.