Credit
Crunch Fallout
Begins To spread
By Nick Beams
24 August, 2007
WSWS.org
While
stock markets have stabilised—at least for the time being—the
effects of the credit crunch sparked by the crisis in the US subprime
mortgage market are now working their way through the banks and financial
institutions and the economy as a whole.
This week, the financial
fallout spread to Britain where HBOS, the owner of Halifax and Bank
of Scotland, announced that it would extend credit to Grampian, a $37
billion debt-financed fund, or conduit, which deals in repackaged loans,
including mortgages, credit cards, and motor loans. The bank said the
funding would continue until market finance improved to an acceptable
level.
In Germany, where two banks
IKB and SachsenLB have already been hit by the liquidity crisis, it
is clear that the problems extend deep into the financial system. As
a report in Monday’s Financial Times noted: “SachsenLB and
IKB may have been small players but the impact of their downfall and
the embarrassment faced by the Bundesbank [Germany’s central bank]
have spread far beyond Germany. Financial markets and policymakers have
been left worrying whether further bank crises are lurking and whether
bank regulators are really in command of the facts.”
According to Alexander Stuhlmann,
the chief executive of WestLB, another state-owned regional bank, the
situation facing the German banks was “not uncritical.”
“We sense a reluctance on the part of foreign partners to extend
credit to German banks,” he said. “If we have a banking
crisis in Germany with other countries cutting us off, then other banks
will also face difficulties.”
The German banking system
has been among the hardest hit by the credit crisis because of the moves
over recent years by smaller banks, particularly the state-owned Landesbanken,
to counteract the effects of a downturn in the domestic market and increased
competition pressures by engaging in riskier financial investments.
While the major Landesbanken are outside the top 30 of Europe’s
biggest banks, they all rank among the top 30 conduit sponsors.
The problems in the banking
sector have led to calls from industry for the European Central Bank
[ECB] to cancel a rise in interest rates planned for next month. According
to the German Chamber of Industry and Commerce (DIHK), banks had already
tightened lending standards and raised borrowing costs for small companies.
Issuing a plea that the ECB
not raise rates, DIHK chief economist Axel Nitschke said: “What
we are seeing in the credit markets is likely to have a major effect,
damping economic dynamism in coming months, not just in Germany but
across the world.” He said the DIHK had been receiving distress
calls from middle-sized German companies back in June.
The flow-on effects of the
crisis on the broader economy were also the subject of a warning by
John Lipsky, the number two official at the International Monetary Fund.
Speaking to the Financial Times, the IMF first deputy managing director
warned that the financial market turmoil would “undoubtedly dampen
economic growth”. While so-called “emerging markets”
had so far withstood the crisis, he added, it was “far too optimistic”
to assume that there would be no impact at all.
There would be no quick end
to the turmoil because of the uncertainty as to how much damage it would
do to economic growth. There were also dangers for the entire financial
system caused by the lack of transparency on the part of the banks as
to the true extent of their exposure to riskier investments.
“Lack of transparency
can create doubts that translate into market volatility,” Lipsky
said. “We are finding that in some cases regulated financial institutions
are carrying off-balance-sheet risks that have indirect implications
for those institutions.” This had caused uncertainty about the
level of risk born by major institutions, which contributed to the drying
up of liquidity in parts of the financial market.
As far as the broader economy
is concern, the chief fear is that the slump in the US housing market
will lead to a fall in consumption spending and the onset of a recession.
On Thursday, Countrywide Financial’s chief executive Angelo Mozilo
warned that the housing market was showing no signs of improvement.
Asked if this could bring about a recession, he said: “I think
so ... I can’t believe ... that doesn’t have a material
effect.” There was a “very serious situation” in the
US housing market and the environment was “certainly not getting
better.”
The latest industry figures
and surveys bear this out. The median price of new homes has fallen
from $262,000 in March to $237,000 in June—a decline of nearly
10 percent in just three months—while the overhang of unsold homes
is equivalent to 7.8 months’ supply.
According to the data firm
RealtyTrac, the number of US homes facing foreclosure increased by 58
percent in the first six months of the year. In all, 573,397 properties
faced some kind of foreclosure activity in the first half the year,
including notices of default, auction sale notices, or repossession
by lenders. And the number of foreclosure filings could rise to 2 million
by the end of the year.
The housing slump is impacting
on other areas of the economy as profit warnings by Wal-Mart, Home Depot
and Macy’s indicate. Car sales in July were the lowest in nine
years.
Some of the processes at
work in the mortgage crisis and in the US economy as a whole were revealed
in an article on income figures published in the New York Times on Monday.
An analysis of tax statistics revealed that the average income in 2005
was still 1 percent less than in 2000 after adjusting for inflation.
This was the fifth consecutive year that American wage-earners had made
less money than at the peak of the last cycle of economic expansion
in 2000. This was a “totally new experience” in the post-war
period, which saw total incomes listed on tax returns grow every year,
with a single-year exception, until 2001.
These statistics make clear
why the housing bubble, which played such a decisive role in the growth
of the US economy since the recession of 2000-2001, was destined to
collapse. While house prices and consumption spending in general were
being inflated by the expansion of credit and lower interest rates,
real income for the vast majority of working people in the US was going
in the opposite direction, creating the conditions for a “scissors
crisis.” Now the bursting of the bubble has set in motion economic
forces that could bring a recession not only in the US, but in the world
economy as a whole.
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