TEN years ago, a relatively obscure French bank, BNP Paribas, blocked withdrawals from two hedge funds. It was the beginning of the biggest financial crisis in 80 years. Within days, queues of worried savers were forming outside Northern Rock, a British bank that had specialised in lending 125% mortgages. Its rocky business model depended on short-term loans, which other banks were no longer prepared to provide because they no longer trusted its ability to pay them back. Soon banks stopped lending to each other altogether as they realised that the entire system was busted, insolvent, kaput.
The proximate cause of the global financial crisis was sub-prime mortgage-lending. Throughout years of irrational exuberance in the property market, banks had begun lending to people with little or no assets. In America, you could famously get a mortgage even if you were a “ninja” – no income, no job and no assets. Banks connived with borrowers to misrepresent their financial means in order to sell mortgages, or “liar loans”. Bankers believed property values would rise for ever and cover the debts. So when prices collapsed across America and the UK, the banks were left with oceans of bad “non-performing loans”, ie unrepayable debts.
Thanks to something called “securitization” it wasn’t clear exactly who was holding the debt losses. Toxic loans had been packaged up with viable ones and sold on to investors as interest-bearing bonds, or Collateralised Debt Obligations. Famously, neither the buyers nor the sellers of these packages of mortgages really understood how these obscure investment products worked. However, it was clear that some banks, such as RBS, were fully aware that sub-prime lending involved passing on excessive risks. RBS is still paying the cost today.
Last month the bank, which had to be nationalised during the financial crisis, agreed to pay US authorities £4.2bn for selling sub-prime mortgage bonds before the financial crash. Royal Bank of Scotland was one of the biggest banks in the world in 2007 with a balance sheet bigger than the entire GDP of the UK. Under its buccaneering boss, Fred “the Shred” Goodwin, it became synonymous with risky lending and marketing dubious financial products. Scotland had the unhappy distinction of lending its name to two of the worst banks in the world. HBOS (Halifax Bank of Scotland) also fell victim to the consequences of its own excessive lending and collapsed in 2008.
The former Governor of the Bank of England, Mervyn King, assessed the scale of the government bail-out of the UK banks at £1.1 trillion. The government had no choice but to step in. When the banks collapsed like ninepins in the autumn of 2008, the then Labour Chancellor, Alistair Darling, had to pour public money into the banks or risk seeing ATMs drying up and economic activity grinding to a halt because of lack of cash and credit.
The vast bulk of the £1.1 trillion allocated to the rescue of the banks in the form of loans, liquidity and capital injections was subsequently recovered. The direct losses will probably end up as tens of billions, not hundreds of billions. But that doesn’t alter the fact that every adult in Britain had to put £25,000 at risk to save the banks from the consequences of their own folly. And what can never be recovered is the lost output in the recession that followed the crash, which the Bank of England estimated as between £2 and £7 trillion in the UK alone. Wages have undergone a lost decade of stagnation, unmatched since the 1860s.
But we should be wary of guestimating the final cost of the financial crisis because in many ways it is still with us. The Government saved the financial system by throwing vast sums of public money at it and hoping for the best. It was panic, not policy, and left us with a financial system founded on moral hazard. The lesson of 2007 is that if a bank is big enough then it can be confident that the Government will always step in to prevent it from going bust.
In 2013, Mervyn King said: “It is not in our national interest to have banks that are too big to fail, too big to jail or simply too big” – and he should know. But far from being broken up, banks like Lloyds got even bigger as a result of mergers following the crash. Bank behaviour has not changed; in many respects it has got worse.
Unsecured lending – that is, on things like credit cards, overdrafts and car loans – has increased inexorably, and rose by 10 per cent last year alone. UK consumers now owe over £200 billion for the first time in history. You can’t get 125 per cent mortgages any more, but you hardly need them since banks will lend at ever-increasing multiples of earnings. One in ten home loans in Britain are at multiples of over 4.5 times annual earnings, compared with one in fifteen back in 2007. The Bank of International Settlement, a kind of global bank regulator, warned in June that the seeds of another financial crash may already have been sown.
The banks do not fear another crisis, as they did in 2007, partly because they have bigger reserves, but mainly because they know that the taxpayer will always pick up the bill. After the Great Recession, governments started to dismantle the welfare state through austerity policies, while constructing a welfare state for the banks. Hundreds of billions have been created through quantitative easing – effectively the printing of money. The banks get almost free money and then charge 3 per cent interest on lending it.
Banking has become a zero-risk activity that is incompatible with any concept of how a capitalist market economy is supposed to work. Businesses are supposed to operate in a competitive environment, in which the threat of failure makes them innovate and increase efficiency. Bankers just hand out loans willy-nilly and then play golf.
Meanwhile many of the rest of us are lapsing into a form of debt peonage – paying an ever-greater share of our wilting incomes to the financial sector, whether through credit cards, mortgage payments, tuition fees (in England) or rents. We are becoming a little like serfs in the Middle Ages, who were forced to work for a parasitical land-owning class.
Feudal serfs lost their freedom when the land was stolen from under them; our freedom is at risk because the financial kleptocracy has effectively hijacked the fiscal resources of the state. Owning financial assets is now a sure way to get rich without working. Inequality has been turbocharged by the crash. The top 1,000 families in the UK have seen their wealth increase by 112 per cent since 2007 according to the Sunday Times Rich List. They now own £547bn – more than all the bottom 40 per cent of households.
An ever-greater share of wealth is going to capital (financial assets), while millions of workers have been plunged into low-wage insecurity. History may judge that what really happened after 2007 was that the wealthy manipulated a financial crisis to re-engineer society in their interests. We have emerged poorer, more divided, more unequal, and more insecure. For many, especially the under-35s, the real financial crash is only beginning.
Adapted from Sunday Herald.