The FT reports today on a debate economists are having with the Bank of England (BoE). To summarise: the Bank of England does not seem bothered by falling house prices; economists are.

This is a very important debate for all those that have debts - because while house prices are falling, the debts on those houses loom larger for owners. According to the Office for National Statistics in May, unemployment is rising, and unemployment makes it hard, if not impossible, to pay off any kind of mortgage. This is the context in which the BoE is preparing to raise interest rates above the current 5% and appearing relaxed about falling house prices.
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My friend the formidable economist, Mark Weisbrot put it most succinctly.

“Since the U.S. economy showed positive growth for the last quarter, some commentators in the business press are saying that we are not necessarily going to have a recession, or that if there is one it will be mild. This is a bit like the proverbial story of the man who jumped out of a window 60 floors up, and then said “so far, so good,” as he passed the 30th floor.”

On a day when Nationwide warned that in the UK “The pace of house price falls accelerated in May as more weak economic news added to the gathering momentum of negative sentiment about the housing market,” his point is a timely warning that while the UK lags the US, nevertheless the levels of household and corporate indebtedness and the scale of our housing bubble means we still have far to fall.

Few people understand how one of the most important levers in a debt-laden economy - interest rates - are set. Many believe that the rate is simply a result of supply and demand - the supply of savings and demand for those savings. Not true. In fact in Anglo-American economies savings have precious little to do with it. Interest rates - those for short-term and long-term loans; safe loans or risky loans - are a social construct. They are decided by a committee of mostly men. In Britain, the official rate is set by the Bank of England’s Monetary Policy Committee. In the US the official rate is set by the Federal Reserve’s Open Market Committee.

But there is another, less transparent committee of men that set interest rates. They are members of the private British Banking Association, and they set a rate of interest known as the Libor rate …. as Bloomberg (27 May, 08) explains:

” Every morning the BBA, an unregulated trade group, asks member banks how much it would cost them to borrow from each other for 15 different periods, from overnight to one year, in currencies from dollars to euros and yen. It then calculates averages, throwing out the four highest and lowest quotes, and publishes them at about 11:30 a.m. in London. Three-month dollar Libor was set at 2.64 percent today.”
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The Guardian reports today that one of Tony Blair’s key allies, Phil Collins, has bravely attacked Labour’s weakened leader. Collins singles out Old Labour’s ‘faith in the ‘benign’ power of the central state’ and suggests that Ed Balls’ policies for children will set the party on a path to tragedy.

When the most ardent of ‘invisible hand’ ideologues are cheering on the bail-out of Britain’s private financial sector by the “central state” (i.e. the nationalised, albeit nominally independent, Bank of England) Collins argues that “‘the only hope for the party is to excavate its liberal treasure’.

Tell that to Sir Fred Goodwin at RBS or to Ron Sandler at Northern Rock - or indeed to their depositers - all of whom have benefitted fromabout £150 bn of taxpayer-backed largesse provided by the Old Lady of Threadneedle St.

The Economist’s latest supplement (15 May 2008) on ‘modern finance under attack’ dubs the finance sector’s critics ‘Barbarians at the vault’. The magazine’s leader writers are confident of their analysis and unequivocal: “Bubbles, excess and calamity are part of the package of Western finance. And still it is worth it.”

In the same issue writers point to research that gives some inkling of the “calamity” that faces households and businesses. In February, America’s Monetary Policy Forum suggested that if American financial institutions were to end up losing $200 billion ($285 billion is already to be written-down for sub-prime-asset-backed securities alone according to some estimates) then “credit to households and companies would contract by a whopping $910 billion. That equates to a drop in real GDP growth of 1.3 percentage points in the following year”.

That to you and me dear readers, means businesses going bankrupt, unemployment rising and people losing their homes. We wait to see how many consider such a calamity brought on by western finance as “worth it”.

The FT reported last Tuesday that ‘bugs’ in the computer model used by Moody’s the rating agency, were responsible for over-valuing certain ‘assets’ - actually parcels of debt. The foolish computer, which should have known better, rated these debt packages as AAA - i.e as safe as houses, certain to be repaid, and therefore without risk to the pension funds etc. that can only invest in AAA-rated financial products. Now it turns out that these packages of debt contained little time-bombs, threats of non-repayment…and were a lot riskier than old clever-clogs the computer imagined.

The law has very precise definitions of deception for those intending to obtain a pecuniary advantage from deceit:”To deceive is …to induce a man to believe that thing is true which is false, and which the person practising the deceit knows or believes to be false.” (J. Buckley in Re London and Global Finance, 1903.)

J. Buckley clearly lived in a computerless world. How does the law apply if the person practising the deceit is actually a ‘whizzkid’ computer confined to the back office? Dickens’ Mr. Bumble was right: the law is an ass, and takes no account of the hard and selfless work done by computers rating the fancy debt products ’structured’ so skilfully by financiers in hedge funds and investment banks.

Furthermore: do you think that when Moody’s charged a very high fee to these hedge funds for the AAA rating …do you think the hard-working computer got a slice of the action? Course not. Those would have gone to ’sales’ in the front office, and ‘risk management’ in the middle office. Our whizzkid would not even have had a bonus.

And when pensioners find their pension funds have made losses on risky investments, and that their pensions are worth less than expected, who do you think they will sue? Moody’s? No, not guilty m’lud. The smartest kid on the computer block? Aw shucks, that just would not be fair.

by Ann Pettifor, 22nd May, 2008.

There has been much huffing and puffing in the financial media about Horst Kohler’s comments that financial markets have become “a monster” that must “be put back in its place”. The German president who was MD of the IMF from 2000-2004, compared bankers with alchemists who were responsible for “massive destruction of assets”.

In comments published in the German weekly, Stern on 15th May, 2008, Kohler said: “The only good thing about the crisis is that it must now be clear to the responsible thinkers in the sector that global financial markets have become a monster that must be tamed again…We have to hold up a mirror to the finance world. They have deeply embarrassed themselves. And I still have not heard a clearly audible mea culpa”.

“The over-complexity of financial products and the possibility of undertaking huge leverage oeprations with the smallest amount of capital as security allowed the monster to grow” Kohler told Stern.

By Jo Jamison, 20th May 2008.

One in eleven people in the UK are in debt or arrears (that is separate from their mortgage) but for people with mental health problems, this figure rises to one in four says the Mind Campaign launched on 10^th May, 2008.

Worryingly, the research also found that banks are doing little to help. Of the 37% who told their banks they were suffering from mental health problems, 87% still faced payment harassment from those same banks. The report also shows that debt and mental health are inter-related; that one can cause the other. It is therefore a pertinent time in which these findings are released. As the credit crisis unravels, more people are missing debt repayments as banks raise their costs and tighten their lending due to losses on a massive scale.

So, as the middle classes join lengthening queues seeking debt advice, the question is how will the crisis unfold further and how will you be affected? Furthermore, what are we the general public going to do about it? As the burden of debt and mental health problems play a greater role in our homes, communities and national budgets, difficult questions will be in need of answering.