Even UK guarantee can’t stop housing crash

By J Saft
November 28, 2008

James Saft Great Debate — James Saft is a Reuters columnist. The opinions expressed are his own —

Britain needs to reflate its mortgage markets to save its economy and its banks. Problem is, few want to borrow and there is precious little money to lend.

British property prices are down about 15 percent in a year and mortgage approvals are down 52 percent. Given the freeze in the securitization market and the scarcity of savings in Britain, new net mortgage lending may even fall below zero in 2009, according to James Crosby, former head of UK mortgage bank HBOS, who authored a government report on the mortgage market.

While the Crosby report rightly points out the damage that such an unprecedented fall would do to employment and the economy, it is also worth pointing out that it would be dire indeed for another segment — the banks, which ultimately will suffer the losses as borrowers fall into negative equity and default or lose their jobs and default.

Britons simply don’t save enough to supply their banks with enough to lend to fund the debt requirement implied by their housing prices. That circle was squared in the old days by borrowing money from abroad, either through banks borrowing and re-lending or via securitization.

The solution to this advocated by Britain, as laid out in the Crosby Report and endorsed by finance minister Alistair Darling, is to plaster a government guarantee on up to 100 billion pounds of mortgage securities.

The securities would only contain house purchase loans and would be highly rated by, you guessed it, the same agencies that rated the old, now discredited stuff. The securities would also exclude nasty high loan-to-value loans, or loans made to people who have already demonstrated they are not that good at paying back money.

The theory is that investors may not want to buy mortgage backed securities, which look a bit dubious given the expected fall in house prices, or lend to British banks, which look a bit dubious for the same reason and several others, but will be very happy to buy bonds that while backed by the British government  pay a fair whack more than government debt.


There are, I think, some problems to this approach.

“I’m all in favor of finding ways of encouraging a sustainable rate of mortgage lending but I’m not entirely confident that the best way to do this is to resurrect a form of lending that for rather good reason has fallen out of favor,” Bank of England governor Mervyn King told parliament this week.

And even if we all agree to forget recent experience with securitization, there is the issue of who, exactly, is going to buy these guaranteed bonds, and who will buy all the houses these loans will fund.

The idea that there are real money or central bank investors out there who will pay a great price for these bonds is not supported by the evidence. Look at the United States, where the government has been slapping government guarantees, or wink, wink “implicit” guarantees on all sorts of financial paper.

Goldman Sachs, which used to borrow on its own name, this week sold $5 billion of bonds under a Federal Deposit Insurance Corp guarantee. The bonds paid about 200 basis points over equivalent government bonds.

That’s crazy, I hear you say. To paraphrase Keynes, the markets can stay crazy longer than you can stay solvent.

Or look at paper issued by Fannie Mae and Freddie Mac, which are under government conservatorship and enjoy an “implicit” guarantee. Their bonds have done so stunningly badly in recent weeks, as foreign central banks deserted them in droves, that the U.S. government was forced to go in and buy them up themselves.

My best guess is that, even with a fat premium, the world will have all it can handle of sterling denominated British government risk in the coming years.

On the other side of the equation, you have to wonder which buy-to-let investor or potential house buyer is out there who is a) a good risk, b) possessed of a 20 percent down payment and, c) willing to buy an asset that is losing two percent of its value a month.

So, it’s looking like the fall in British house prices will be deeper than expected, and probably deeper than deserved. If you look at the U.S. experience where a higher percentage of loans were securitized and thus tended to end up not on bank balance sheets, that is bad news for the banks.

Ask yourself what would happen to Britain’s banks under similar circumstances. It might only be as bad as the 1990s, but it could be worse.

Bank liabilities in the United States are about 20 percent of the size of the economy. In Britain, the figure is 285 percent.

Ask yourself then what might happen to Britain itself.

—¬† At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. —


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“Bank liabilities in the United States are about 20 percent of the size of the economy. In Britain, the figure is 285 percent.”

if thats true, and I have no reason to doubt that it isnt, England will be the next Iceland within 6 months

Posted by Billy | Report as abusive

This is NUTZ! We, workers in the US are losing our jobs, our homes the value of our assets and all this dumb Govt. can do is bail out and pay off the big boys. The way out just like the last depression is WW3 and then we will lose our lives. THIS SUCKS!! John

Posted by John D | Report as abusive

From an English point of view; we are is staring down a barrel of a gun. I have exprienced a fall in prices quicker than anything is reported. Lending down to Zero will put a strain on many homeowners who are forced to sell. The market is truly up for scrutiny for the next 12 weeks or so. By March ; will really tell us what will happen for 2009/2010. Many homeowners who were sitting on recent profits will be no more… This is now showing on the High street as many retail companies who i believe have not been telling us the truth as profits have been falling for year now is Highlighting big falls in profits. It had to happen sooner than later. The truth is now coming out.

Posted by Charles J | Report as abusive

It is interesting that the Funds proposed by the UK are far larger than those proposed by the US for such a program. It appears the UK recognizes the core of the problem while the US is still offering cold medicine to the symptoms every time a Banker Sneezes. The UK approach on the surface seems broadly superior and far less costly than the TARP.

This may be because the structure of the UK government apparently offers less direct avenues of interference by a powerful banking lobby and their resolution favors the consumer and citizen.

What a novel idea!

Posted by James Harris | Report as abusive

I’d love to know what James Harris is saying above.

Me, I’d say as an English guy, we are looking at an Iceland event. The take over of RBS only made it more likely.

The great british public need to wise up. I noticed however that though trading may be down, the last saturday in november along Oxford street (london) seemed busy.
hey ho. I am going to put/save cash as Euro’s.
Another note is that the English have pioneered many forms of debt, we have also lived in debt for many years not paying it off. We have not done much paying recently.

Posted by alex c | Report as abusive

That god I moved to Japan at these canny folk understand the value of savings and a proper manufacturing base! I hope the pound coninues to fall against the Yen, that’ll make summer holidays to the UK possible again! Good luck to the rest of you!

Posted by Donald | Report as abusive

If worst comes to worst, Gordon Brown can always use the Anti Terrorist Law to freeze the assets of British and foreign banks as he did with the Icelandic bank Landsbanki.

That bodes well fore the future of The City of London.

Posted by Sven | Report as abusive

James Saft is spot on,I live in the UK and can relate to this article many of my friends are struggling financially many if not are already in negative equity are just about there, with the employment situation deteriating by the day we are starting to see a snow ball effect,I dread to thing what 2009 will bring with the likes of Honda and BMW suspending production in the UK along with other sectors laying off employees the economy has ground to a halt and is now in reverse. What is more concerning is that Gorden Browns government is bankrupting the nation the difference between the Iceland going bust and the UK going bust is that the UK will drag many others down with her THE END.

Posted by Sir Colin James OBE | Report as abusive

[…] UK guarantee can

Posted by IrateNation.com|Irate Nation | Report as abusive

All’s not lost: Bernanke’s mega-rich mafia are furiously trying to create the next debt bubble so as to avoid having to deal with realities. Take your pick -lunar real estate or carbon trading.

Posted by Billy | Report as abusive

There are some very disturbing differences between the UK and Iceland which point to the UK going down in a very nasty way. While Iceland is in deep debt doo doo, it is a very nice place to be: it has a well-educated population, it is well-organised, clean, smart about design and has many natural resources to draw on. The UK on the other hand, is a toilet, with large swathes of its population feral and uneducated and ill behaved, filthy, crime-ridden streets and ghettos, terrorists at large, bad design, disorganised, terrible infrastructure – it goes on. That won’t be good in a crisis.

Posted by Bob Macdonald | Report as abusive

I totally agree with with Bob MacDonald this country is a lawless cesspit.

Posted by Sir Colin James OBE | Report as abusive

Dear Sir Colin James OBE,

Why are you using that title? You are obviously an uneducated imposter.

Posted by Ben Quinn | Report as abusive

i think bob macdonald has raised a very valid point. we have let the lowlife of the country run riot for long enough as we where all riding the wave of success. now with a depression looming i dread to think what road we will go. the goverment must install ground level work to keep industry moving. i was told many years ago by my tradesman when i was an apprentice. when times are hard the goverment should be building cars and ships, we may never use the cars and we might use the ships as target practise, but when we lose the skills they dont come back. british cars and shipping have proved this. bail out the banks, an unfortunate necessity, in my opinion they should be in front of a judge for the damage they have caused. bale out the workforce should be the priority as at the end of the day it will be the working man who saves the country.

Posted by stephen harte | Report as abusive

I heard that the shelves inside supermarkets in Iceland are bare…how many of the people in the middle and lower class in the UK have enough foresight or available cash to purchase the basic supplies they are going to need to ride this out?

I am from the US, un-employed as of the 31st of October, my only major purchases now are on non-perishable food supplies that I will preserve/keep around for my two teenagers over the next two years. I am up to my eyes in debt, house, car, credit cards (which honestly didn’t seem like a big deal until I lost my job, in fact I barely noticed the debt, it was just part of the way I lived). I think I might be able to last one more month, into January, on my savings and reserves, but my debts are like sucking black holes that I won’t be able to manage unless I find work PRONTO!

There has not been a job posting for an Architecture position, that I would qualify to submit a resume for, since Oct 03 (I was desperately looking BEFORE I was laid off)…over here the Planning profession has slowed to a complete standstill (planning does all the infrastructure so that project can be built and they usually work about 2 years prior to the architectural design profession) so that leaves me guessing that it will be greater than a two year stretch of time before my profession is healthy enough to hire again.

There are other jobs, I have applied for them, even the ones with reduced salary (honestly I would just like to work again at this point)…but almost all of the available jobs pay less than the unemployment I get and a tiny fraction of what I used to make in Architecture. I am not worried about my credit any more (your credit score was a huge part of the American way of life)…if I never bought another item in my life on credit, it would be too soon.

I am worried about more immediate problems, will we have enough food, where will we live if we don’t have a home anymore. With no job, I will be unable to qualify to rent an apartment, and even if I could get one of ‘reduced’ income jobs that are available, my rent/income ratio would be astronomical, leaving me no money for food or other necessities.

Over the last two weeks, when I figured out just how bad things were looking, I abandoned a few of my minor debts in favor of stock piling basic food supplies (especially after I heard about Iceland).

I cut all my monthly bills down to the very minimum (minimum cell plan, no cable or land line, just internet, no gym membership, no eating out, no fast or processed foods, no liquor or treats, no clothes, no trinkets, no presents, no gas I bike now). My life has RADICALLY changed, the problem is, I was a fairly big spender (obviously NOT a SAVER), so the fact that I pared out all the unnecessary spending means that my local business’ who used to depend on my financial support, won’t be getting it anymore…and they don’t know it yet…but it will begin to show up on their balance sheets. Those pitiful jobs that don’t pay anymore than my unemployment are going to start disintegrating as fewer local business’ need workers.

I always thought that the economy would get better after the first of January (when businesses had a chance to review their budgets and plan new hires) but I am not so sure of that anymore…

I want to believe, but the future scares the pants off me…one serious huge natural disaster, in the wrong country, say due to global warming, will mess with the food supply a disproportionate amount like waves on a calm pond.

Still, everyone thinks that their over leveraged government is going to ‘take care of them, provide them with shelter, food, etc’…but I wonder if some of that onus should fall on actual people now. I have been laid off for a month now and I STILL haven’t received the first unemployment check…they said it was no big deal…it is just because there are SO MANY new unemployed that the DES can’t keep up with the registration or paperwork…it is a good thing that I had my own money to tide me over in the meantime.

My other big question is when do I abandon my debt? If I am going to crash and burn, it better be sooner rather than later, when I have no resources left (what I mean is I could keep paying and paying on these enormous debts or I can decide that they are black holes and try to rescue my family before it becomes to late)…

anyone got any ideas about this…and who am I propping up anyway, when I am struggling to pay them off, some rich corporation that is charging me huge interest while enjoying a government funded bail out…it seems wrong to me.

Posted by Kiki | Report as abusive

Did anyone notice the beautiful sunrise this morning?

Posted by Peter H | Report as abusive

I love how people think that gov’t spening can possibly stem this tide. If anything, the actions of the gov’t can only make things worse. Far too few people understand just how out of whack the housing markets are with respect to personal incomes, historic norms and the costs of renting.

Politicians are afraid of being percieved as doing nothing, but nothing is the only thing which is going see us through this crisis in a most expediant fashion. The party is over, the music has stopped and a lot of people are being caught without a chair and thats tough. It sounds harsh, but unfortunatly the ones who took the short cut will have to pay the piper for their dance.

Posted by Ross | Report as abusive

A large number of the people now quacking in fright are same people who thought it would be great to ride the champagne highway of the last 10 years: fancying themselves as tycoons buying up property for let, taking out loan after loan, supporting the government’s clearly failed market-approaches to everything from house building to providing welfare.
Now they are all advising the government to act like Roosevelt in the 1930s. These pirates didn’t support manufacturing or sustainable employment in the ‘good’ times, but you can be sure they’ll be complaining about their new found “poverty” an pretending to have something in common with those who have been in poverty all this Third-way fiasco, the so-called “feral” sorts identified by some people above.

Posted by Marc | Report as abusive

Since the world’s economy is based on a fractional-reserve lending system, almost all of the money in existence is a debt.

The world’s most developed countries are the ones in the most debt.

Where exactly is the fresh money supposed to come from, in order to pay all this debt, if nobody is prepared to borrow it?

I say this with all the ambiguity a 21 year old microbe from South Africa can muster.

Posted by Gregory Smith | Report as abusive

This is a pointless article. It specifies the problem without producing a solution.

Posted by Attila the hun | Report as abusive

Who sold the last remaining Gold of the Bank of England
at the lowest price and announced the sell off in advance?

Posted by Winston | Report as abusive

Cash is king………..Gold is even better, it’s not made of paper.

Posted by Dave Krugerand | Report as abusive

Real estate markets during the past five years have been completely out of touch with reality, but until recently have been full of eager (or, shall we say, *desperate*) young buyers convinced that they have to get into the game *now*; that the market is “hot”, and that they will be able to “flip” their property for a handsome gain after a year or so. Of course, they put a paltry five or ten per cent towards the purchase, and in addition need two incomes to make the mortgage payments in the interim — no problem, right?!

Time now for a reality check, folks! Negative equity is here for the foreseeable future, as real estate makes a long-needed correction to saner, more sustainable levels.

If you’ve bought real estate in the past three years, you are going to have to hang in there for a further five years before things return to the levels of November 2007. Good luck!

Posted by LGinHfx | Report as abusive

Things are going to get very nasty indeed. The bust will be so bad in the UK that people who have lost everything will just give up, result, no binmen, no nurses, no supermarket workers, just anarchy. It will be every man or women for themselves in the UK in two years’ time.

Posted by Andrea Johnson | Report as abusive

I cannot help but be moved by the plight of Kiki, the recently unemployed architect mum who has had a sudden reckoning with the realities of the credit crunch. I suspect she may not be on her own in feeling the cold winds of the recession. It must be a huge psychological adjustment. I’m no expert Kiki, but I suggest you suspend payment on the credit cards now–and save what resources you left. As you say, what’s the use of a credit rating in a crash? AS you are lucky enough in the US to have a non-recourse loan, there’s little the banks can do against you. You are no more indebted than Citibank or the rest of the financial geniuses that got us all into this mess. Tell them you are an unemployed mother and negotiate a reduced and minimal repayment plan now before the RUSH. Good luck with your job search… What part of the US are you in? The economy is going to vary very much form place to place.

Posted by snasht | Report as abusive

Just back from Iceland: they are coping very well with this crisis. But there are some key things we need to pay attention to. The Icelanders have a very disciplined and law-abiding society. They work hard and are well educated. Looking at the UK and USA, with our legions of ill-educated and feral people, our toxic race conflicts, out-of-control immigration, and things are not going to go as well when the crunch comes. The Icelanders are keen on design and making high-quality products; not slobbing about and doing a half job. We need to change our ways if we hope to come through this.

Posted by Bob Macdonald | Report as abusive