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The Govenor is classically right to leave the problem to the banks to sort out themselves. Perhaps now they will have a better undertstanding of business that the real world has to live with every working day and not be so irresponsible.
This whols problem has a source and that above all else is the unlimited greed that appears to know no limit. A greed that has developed using derivitive instruments few if any really understand and a demented sublime belief that the Yen carry trade could continue unabted forever.
Until banks and investment institutions declare the true ownership of this worthless paper, the Bank of England should sit on its hands and do nothing.
fgurther when the real numbers do come out the banks should have only noiminal help with day to day operations. A loss is a loss and bno onbe will shed a tear for the banks that have make the excessive profits at the expense of UK business and the general public over the last 5 years.
As the phrase has it they made thor beds they must well and truly lay in them.

One thing I still really don't understand about all this is why a huge level of bad debts in the sub-prime mortgage market has been such a problem. Aren't mortgages secured against people's houses? If someone defaults on a loan, then the lender may well be out of pocket to some extent as reposession no doubt has costs attached, but surely they will get most of their money back? Can anyone explain to me why so much more money has gone missing than my naive analysis would suggest?

It completely beggars belief that institutional investors were taken in by this whole Sub Prime CDO thing. These are meant to be intelligent people yet they bought "assets" which most people would have run a mile from. The only thing that can happen is for an asset correction to take place - which means a significant devaluation for all of those assets which kept the illusion of prosperity going for so long. Perhaps this will cause people to be more realistic when it comes to price of risk in the future - but I doubt it.

For a long time, the lender of a delinquent mortgage was able to avoid losses due to an extremely robust housing market. When this faltered and stumbled in the US, this rather cavalier approach to lending led to losses and write-downs in value.

Since all these mortgages have been a little more correllated in their under-performance than models had suggested was likely, even the more senior tranches of CMOs took a big hit.

This is still working its way through the system, and has developed into a full blown run on the banks: as more funds, conduits and other vehicles are forced to call on their credit lines, banks are looking increasingly shaky. They have no way of knowing the full extent of the drawdowns yet to come, so they're having to hoard liquidity for themselves.

As for the rest of the economy, it'll spread there if either the cost of borrowing for regular corporates rises too high, or more importantly, if the consumer slows or stops spending due to job insecurity or a lack of cheap credit.

It could be over by Christmas, but the possible downside is a long and very cold winter recession.

Let's see if King will truely allow the banks to be punished for their foolishness. The difficulty is lots of private investors took advantage of low interest rate in the past to take on leveraged speculations, including buy to let and anything one can think of, so banks actually can bring down many individuals with them.

For a long time, the lender of a delinquent mortgage was able to avoid losses due to an extremely robust housing market. When this faltered and stumbled in the US, this rather cavalier approach to lending led to losses and write-downs in value.

Since all these mortgages have been a little more correllated in their under-performance than models had suggested was likely, even the more senior tranches of CMOs took a big hit.

This is still working its way through the system, and has developed into a full blown run on the banks: as more funds, conduits and other vehicles are forced to call on their credit lines, banks are looking increasingly shaky. They have no way of knowing the full extent of the drawdowns yet to come, so they're having to hoard liquidity for themselves.

As for the rest of the economy, it'll spread there if either the cost of borrowing for regular corporates rises too high, or more importantly, if the consumer slows or stops spending due to job insecurity or a lack of cheap credit.

It could be over by Christmas, but the possible downside is a long and very cold winter recession.

So there you have it folks. Why is the savings rate so awful in the UK?. People don't get paid enough to put anything away after they pay for their life. This increasing cost of living is the result of an increasing money supply and hence inflation. Banks are dependent on engineering debt to continue huge profits to satisfy shareholders and ensure bonuses. This availability of loose credit increases the purchasing power of the consumer who then chases limited resources and hence price increases. Higher prices, less savings, inflated asset markets versus large tax revenues, hidden inflation tax, big city bonuses, inflated asset prices and the subsequent capital gains for the invested class. The regulators and governments have little interest in limiting such destructive "free market" processes. Heres the rub though, it isnt really a free market when the Central Banks fix the price of money instead of letting the market decide its value. This only serves to fuel inefficient non productive speculative investment. So its more of a socialism/ welfare for big business and a free market globalism for the average person. The Central Banks are bailing out the greedy city bankers at your expense and the dice is firmly loaded so that the big house always wins. Don't hear too many politicians or economists talking about these issues. I believe in a free market that is inclusive and non exploitative not the current model of socialism we currently endure.

The banks and others should not be bailed out..

Hopefully they will get their long overdue comeuppance for having failed miserably to support UK start-ups and spin-outs, put their (our) cash into real productive industry.

This bunch of comedians have contributed directly to the ever expanding trade gap and huge levels of household debt.. They don't deserve any help whatsoever and if Mervyn King gives them any it will just prove what I've always thought which is that the BoE dances to the tune of the City and doesn't operate in the interests of the UK as a whole.. If it did then interest rates would have 10% two years ago.

Adam, unlike the UK the floor has fallen out of the US housing market. The notional of the loans held by sub-prime borrowers is - in many cases - significantly less than the value of their property. The asset can't be sold to cover the outstanding debt, hence it is the issuer who loses out.

For God's sake please spell check before posting here - yes I'm talking to you robert marshall! To help you next time these are the words you need to check: govenor, undertstanding, whols, derivitive, unabted, fgurther, noiminal, bno, onbe, thor.

I think apparently some of the sub-prime loans were fraudulant so there is now no house to sell.

In addition to the whole crisis making it difficult to sell the home that the mortgage was secured against. It becomes a domino effect.

In response to Adams post (re debt being backed by the value of houses)this is the real worry that no one has dared to mention yet, i.e. that the "collateral" backing these debt bonds are houses - whose value has been massively overstated by lenders, estate agents and so forth. If foreclosed houses are sold and fail to reach the price that everyone seems to think they are worth, the whole value of bonds are called into doubt - no one wants them.

Also the house prices have fallen dramatically in recent months the in the States so the value of the property will not cover the total amount borrowed, even if you did sell it - then the banks lose out.

Adam: I do not pretend to be an expert on this matter but I believe that the price of US housing has reduced recently causing a 100% mortgage borrower (which many sub-primes are) to be in negative equity almost immediately. Therefore after repossession the Lender will be unable to recover the debt simply by selling the property. Also consider that there are usually several months of default on payments before repossession causing further losses. However, I agree that the figures involved still seem very high.

The bank of England is right to do nothing. Banks need to admit to the market what losses they have made from the US subprime fallout.
This will restore trust into the inter-bank lending system bringing down the interest rates they charge each other.
Some investors will buy funds that have made huge losses by extracting what is worthwhile from them making a nice profit, banks and lenders will tighten up lending criteria around the world to stop a repeat of this happening again as well.
No banks yet have looked at how risky its UK lending has been though, can self-certified mortgage payers afford the rates they are paying once the introductory deal ends? Why are people defaulting on credit card payments and loans when we have low unemployment?
The new question is with 1.6 million people seeking debt advice and 2 million households in the UK coming off cheap 2-3 year low interest mortgage rate deals into a marketplace with rising mortgage rates and a government set on below inflation pay deals for public sector workers what effect is this going to have on the economy?

The problem Adam is relatively simple but quite clearly beyond the so called rocket scientists at many of the big banks.

Sub-prime is a huge problem because it has grown so phenomenally over the last ten years or so.

In an ordered house market a relatively fixed number of houses come on to the market at each time as people die, divorce, downsize as children leave home or emigrate. The housing market reaches a degree of equilibrium where supply (i.e people selling) and demand (people wanting to buy) match up at a fair market price.

For a number of reasons the demand for housing has outgrown supply. NIMBYism, the rising rate of divorce and single person households have all fed this. As prices have risen this virtuous (or vicious depending on whether you want to buy or sell) circle has pushed prices up.

There has also been a growth in homeownership due to the perceived status of property ownership and sheer and simple greed.

Banks have had an increasing amount of money to lend and so have sought to lend it out to people more at the fringes of credit worthyness. This has also been driven by companies seeking to sell non traditional mortgages to people who previously could not have got credit. They then sell the debt on which means they have more money to lend out again and so it continues.

Adam you are right that the banks will get much of their money back, eventually. In the meantime we have people desperately seeking to stay in properties they simply cannot afford and because lending has now become more difficult cannot sell as a smaller number of people can get credit. All these people spned more money on their mortgages so have less to spend on other goods and services which then struggle.

On top of this many people have subsidised both the property boom and expenditure by means of personal loans and credit cards which they cannot now pay back.

No one really know which financial organisations have been left with the dud loans or will have a higher rates of defaults on their personal loan or credit card books. For every piece of bad news that comes out many people believe there must be more and worse to come.

You may have noticed that many banks have raised their savings rates for long terms deposits i.e. a year or more to try to shore up their positions over the last week or so.

It is all well and good having lots of loans out to people but if they cannot pay the interest or default or go bankrupt then they are in trouble and so is the bank.

It may well happen here if you believe the figures yesterday from Citizens Advice about the growth in the number of enquiries re debts. To be honest there really is no reason to doubt them.

Houses take a long time to sell when the market goes bad and people will move away from property into safer more liquid assets like cash and gold. The price of gold has risen 6% in the last week by the way!

Adam,

Could it be they paid too much in hope of future gains?

Adam: my understanding of this is that if many sub-prime mortgage-takers default, there will be many more houses on the market as a result of repossessions, possibly more than there is demand for, thereby driving down house prices. The lender is then out of pocket by the cost of repossession, plus the loss in capital value (i.e the value of the house) - possibly quite a large amount, if a large increase in housing supply causes a housing price bust (this would happen in the US). This doesn't matter to the lender though, as the debt has been bundled with other debt and then sold on to investors (the securitisation Robert mentions above).

This, in turn, causes widespread anxiety in investors because debt they thought was a safe investment (AAA-rated by the ratings agencies such as S&P) turns out not to be so safe; because the sub-prime loans have been bundled with other debt, it is hard for investors to quantify exactly what their exposure to sub-prime is (i.e. how much they stand to lose or have already lost as a result of buying assets of which sub-prime mortgages are a component). The investors want to get rid of these potentially risky assets, but no-one wants to buy them; so the prices of these assets fall, leaving the investors further out of pocket. This leaves them with the choice of either selling at a loss or to keep borrowing short-term (the maturity mismatch Robert mentions above); but no-one wants to lend to finance these assets, because credit is already in shorter supply due to the losses linked to sub-prime, and because lenders are worried that they might lose their money if the investors holding the bad assets go bust; hence the credit crunch.

That's my laymans understanding of it anyway, any corrections are welcome.

The loans were secured against the value of real houses. The issue is that the value of the houses was inflated by speculative buying funded by irresponsible lending. When the house prices started falling, the banks were not able to get their money out by selling the house and it is the banks' losses.

Really? Really?

Mervyn has the balls to tell Gordon that they're not going inflate, that they're going to let the crash happen? With an election coming inside 18 months?

Call me a skeptic...

Eureka, the Bank of England now discovers what small time laymen like myself could see 2 years ago.

The world is riddled with personal and corporate debt, so much debt that the banks and other financial institutions are afraid to come clean on their exposure to losses for fear of more severe effects on the global economy.

When the new 'Merv the Swerve' does not know from which direction the ball or the next tackle is coming he is right to do nothing, being a civil servant he should be good at that.

What I have learned from this emerging crisis: believe nothing of what you hear and about 5% of what you read about the city!

It appears that the BoE is acting with the utmost caution and probity. Will this work out to the benefit of the UK in the long term though, when we have the ECB pumping billions into the markets to bail out banks in the Eurozone?

I agree with Mervyn King that there should be no bailouts, and would commend him for taking this line.

What puzzles me though is why three month money at 6.9% is sustainable when overnight LIBOR is 5.9% and just 15bps over the BoE repo rate. Why aren't the banks happy to keep rolling over overnight borrowing? I cannot believe that anyone thinks that the BoE are going to raise the repo rate signficantly in the next three months, so do the banks think that the repo-LIBOR spread is going to blow out soon?

To attempt to answer Adam's (#2) question, I believe that sub-prime has just been the straw that broke the camel's back. The conduit/SIV business model of investing long and borrowing short with little capital was always vulnerable to breakdown if the short-term lenders to the SIVs doubted the value of the long term investments. The long term investments included sub-prime loans, and losses on these raised that doubt. This has trigged a larger problem where the SIVs are forced to either sell long term investments as their short term funding dries up, or borrow from the banks. The prices that the SIVs would get for their investments as forced sellers would probably leave a bigger hole than the sub-prime losses will amount to, so they would rather borrow from the banks (hence the funding demand that is raising LIBOR) and sell more gradually. I hope that helps.

Isn't this another great example of how imperfect the banking market is? I am a low risk lender of money (both in a personal and business context). I borrow for a mortgage on a relatively low multiple of income and do the same in business. I have an excellent credit history, but unfortunately I'm not important (or indebted) enough to justify a credit rating of my own, so I'm bundled in with the rest of 'Joe Public' when getting a mortgage rate.

The banks, however, feel free to take whatever risk they like, knowing that they'll be able to recover the cost of their mistakes from reponsible individuals like me. In a business context, my loans are referenced to LIBOR, so I'm currently paying more than 1% above the BoE's base rate.

It's alarming to realise that the regulated market is so utterly ineffective in preventing banks being stupid and over-committing themselves to such an extent it sends shock waves round the world, and equally annoying that there's so few alternatives to chose from - particularly in a commercial context.

Perhaps if the market was less regulated (and easier for more sensible people to operate in) there would be greater appreciation of risk, and more demand for truly less risky customers, like me....

I think that the regulatory authorities in the UK have a lot to answer for. My experience of them was always that they devoted far too much time to nonsensical fault finding nitty gritty. Clearly the biggest scenario for a quarter of a century passed them by.Here you have probable fraud and massive stupidity by bankers. At least in America the authorities will jail a few people. Here in five to seven years time we will be told that no action will be taken. We all know that this is what will happen.

OK, some investment companies will get a bloody nose from this and may be weaker. As Robert mentioned, they will be aquired or will fail, but the Market will play on.

Any talk of a housing crash sounds like the foaming ravings of the Daily Mail. Stay steady and hold on to your hats.

NOTE TO MODERATOR: this is actually for Robert Preston rather than part of the BoE discussion, but I hope you can pass it on:

Robert, I watch World Business Report on 成人论坛 World every weekday, but have never seen you on it. Wonder why. I for one would far prefer your clear and incisive brand of comment than the talking-head stuff we usually get from BNP Paribas or whoever else WBR is locked into using. There is a world audience out here that wants to hear the thoughts of keen minds like yours on TV.
Niels, Denmark

It's not just the subprime/default issue that has investors scared. It's the game of musical chairs certain markets have played with home values.

Idiots who couldn't afford the house they were buying financed them interest only for a short period of time. Greedy mortgage brokers made these deals and didn't care about credit or whether the home was too expensive for someone because they were not going to own the loan long-term.

Home PRICES also have scared investors. Sure, the loans are collateralized. BUT, if that $1,000,000 home was financed with NO MONEY DOWN, and the value of the home drops to $750,000, the bank has just lost $250,000 of collateral.

Housing prices and collateral valuation are essential for banks and investors to feel comfortable with default risk in the housing market.

This greed has to be paid for and these fly-by-night mortgage brokers are going to be out of business.

Thank goodness that we don't have a sub-prime market in the UK - that all those self-certified and interest only mortgages and short term low interest deals represent sound lending practice...............

Another problem is that investors didn't read enough about the collateral securing their bonds THEN, and they're not doing it NOW. There are lots of asset-backed securities backed by the government (student loans come to mind) that investors DUMPED, despite this industry not having the same mechanics of the housing market. This has screwed up more than just housing asset-backed securities because investors over-reacted and pulled their money from more than just housing bonds. The "flight to quality" showed when the T-bill rate dropped to 1.5% recently because so many investors wanted guaranteed assets.

Investors seem to still behave like a flock of dodo birds.

Problem is that if Banks are hurting they will put up lending rates... so at the end of the day its your average joe who is going to pay the price not the banks. If Mr. King wants rates one full percent higher then he should hike the base rate there and then provide all the liquidity the market needs at that rate... to have the base rate disconnect from the interbank unsecured lending rate is plain and simply the wrong approach because it hurts those who are not at fault. It is funny how the ECB is trumpeting its actions of providing liquidity (along with US, CAD, AUD etc) as being the right decision, while Mr. King says it creates moral hazard and refuses to do the same... one or the other approach will prove to be right but not both! Thing is liquidity provided in EUR or USD can easily be converted to GBP if necessary so there will be no way to tell right from wrong in the end.

I'm with Colin Smith. I think the BoE would cave in and come to the banks' rescue if this mess spirals out of control and takes the UK economy down with it.

However, it is still good to hear Mervyn King preach about responsibility and taking foolish risks.

"It is funny how the ECB is trumpeting its actions of providing liquidity (along with US, CAD, AUD etc) as being the right decision, while Mr. King says it creates moral hazard and refuses to do the same... one or the other approach will prove to be right but not both!"

It's not a question of right or wrong. It's a question of who pays the bill. The people who invested irresponsibly or, everyone else.

It's very easy. Expedient even, to simply inflate and assume there are no losers, but it's not true. There are losers.

Well. Maybe then it is a question of right or wrong after all.

If Mr. King has the cohones to stand his ground then I applaud him for it.

Mr King has said what many of us have thought for a while, these immature city types need taking to task, it would be good to see some serious job losses and statutory minimum redundancy packages..... just like the British Manufacturing Industry has suffered over the last 20 years due to the short termism of "our" great city institutions.

But who will really pay... yes Mr Average Joe who works every day, may lose his job... his house...his savings or more!!

Will any one tell us if any of our High Street Banks and Building Soc are at risk of collapse... are we at risk of losing our savings, many will say HSBC is so big it can not fail... but Enron was big, very big... but greed made the share certificates worth less than the paper they were printed on.

Come on 成人论坛 tell us if our savings are at risk, if our jobs are at risk, go on name and shame them, give us chance to buy some shoes because we may be needing the shoe boxes to stash our cash in under our beds soon.

I believe there is a difference between liquidity and cheap money. I dont think that hiking a full percentage point but providing liquidity at that rate will, as you say, 'reflate'. Sure if you cut rates to 2% and provide all the liquidity the market needs you would 'reflate'. Liquidity can mean many things; the one im using here is the ability to establish a fair price. When markets are illiquid it is hard to know what the right price is because there are so few participants willing to trade on either side.

Dont worry Richard, there will be lots of over-paid (not sure all are immature)city types hitting the street pretty soon if this does not get resolved pretty soon. Next we should tackle the over-paid footballers, actors, musicians etc. and dont get me started on all those non-doms who are taking advantage of the UK tax system, or those british guys who fly in and out of the UK every week to avoid residency status! Why should I pay so much Tax while these guys get away scott free? Maybe we should be dropping all these little balls and turning our attention to the Government?

If the problem started with sub prime mortages in the USA and we are starting to see a small fall in prices outside the South East of the UK how many 125% mortages and self cert mortages are there in the UK. Now with the banks putting up interest rates on there own, are they pricing in a potential increase from Bank of England already, or will they add any increase the the BOE may amke in the near future. If so and we have higher levels of bankrupcies and a lareg volume of low interest rate mortages about to expire could be interesting time ahead.

So, if I understand it correctly, Mr. King will not bail out banks who are having indigestion pains from all the bad asset backed securities they have underwritten but he will lend them short term money at a higher rate than usual to conduct normal bank business, if they are otherwise profitable.

Excuse my cynicism but isn't this just another wheeze to bail out the miscreants but call it something else more respectable?

To the gentleman who was asking why all the kerfuffle, since the problem loans were ultimately secured by REAL property, the trouble is they were indeed thusly secured but property prices in the US have taken a dive and the loans were often being rolled over and over and over to hide the truth that they were being used to pay the interest on them and eventually the mortgages grew to be much greater than the value of the collateral. Now picture a row of empty houses with For Sale signs and think how much they might be worth. Now imagine THAT picture in London, or Manchester, or ...

Congratulations to Mr. Peston for pinch hitting so effectively for the Old Lady. Oh well, we all have to eat.

Mervy King why on this earth did you go along with the double digit growth in the money supply M3. Why?

You tried to talk your way out of the inflation figures and interest rates when you said that the RPI was a better reflection on the economy but still opted for the CPI.

You and this corrupt government are top blame for this debacle, along with the incorrect version of monetarism.

I would just like to remind everybody that the Bank of England is a privately owned business out to make as much profit as poss. I suppose it must be seen to care about the UK economy and it probably does to the extent of protecting its interests, but ultimately it only cares for its self.
Don't forget: during financial upheavals money is not destroyed but merely transfered.

All Central banks have a remit to focus on one thing, inflation. Resources are pretty much fixed, but printing money has become dead easy. Even to the point where the validity of banking profits is deemed to be of greater importance than issues like taking measures of inflation seriously. This is what Jay writes about above and more and more ordinary people can see worthless money coming, a mile off.
Lending money against property for the cynical purpose of forcing up property prices so that more can be lent is a situation we've been in before 1985-1990. Now it's happened again. The financial establishment, estate agents, the insurance industry and media advertising all gang up on individuals putting them at a massive disadvantage. If this keeps happening and in the end it keeps taking the economy down isn't it time it was stopped? Controls on the amount that is lent for property purchases should be re-introduced.

Disintermediation?

Securitisation?

What happened to simple, easily pronounced words like SCAM.

the answer to all of this seems simple, the big banks should stop making billions in profit each year and start caring about their customers not their share holders. and yes max SCAM seems to be the perfect word for all of this as does RIP OFF maybe by lowering the intrest rates banks charge us not so many people would default...

Yet again, the credit story is misreported as "bad lending on a colossal scale to US homebuyers with dodgy credit histories, the infamous sub-prime lending" and "special financial vehicles purchased hundreds of billions of dollars of this stinky US debt."

It is not just US subprime that is "stinky" and contaminating other, immaculately wise lending. The story that is being missed is that the exuberance affected many sectors, private equity and infrastructure being just two of them. All that's special about subprime is that it was the first place where the pong got noticed.