It was British banks, not British borrowers, that crashed our economy

Ben Chu

hammond1 150x150 It was British banks, not British borrowers, that crashed our economyThe Defence Secretary Philip Hammond tells The Daily Telegraph today that ordinary people are blaming the banks for Britain’s economic bust when they should be blaming themselves.

“People say to me, ‘it was the banks’. I say, ‘hang on, the banks had to lend to someone’. People feel in a sense that someone else is responsible for the decisions they made. Of course, if banks don’t offer credit, people can’t take it. [But] there were two consenting adults in all these transactions, a borrower and a lender, and they may both have made wrong calls. Some people are unwilling to accept responsibility for the consequences of their own choices.”

Mr Hammond, who was part of David Cameron’s economic team in opposition, also suggested that it is the public’s desire to pay down huge debt levels now that is holding back the economy.

I’m skeptical about this for two reasons. First, and most important, the UK’s banking crisis was not a consequence of bad loans made to British households or companies. Second, it is far from clear that UK households were disastrously overly indebted in the years preceding the crisis.

Let’s deal with the banks first.

Ben Broadbent, the former Goldman Sachs economist who now sits as an external member of the Bank of England’s Monetary Policy Committee, last month gave a speech in which he showed our largest banks got into trouble in 2008 because of their bad loans made to the rest of the world, not their UK lending.

This chart demonstrates the point:

Untitled 14 It was British banks, not British borrowers, that crashed our economy

75% of the banks’ losses were from their non-UK lending books. As Broadbent points out, the major UK banks were hit 15 times harder by losses on non-UK mortgages than duff UK home loans.

There’s no question that UK banks became perilously overextended in the years after the turn of the millennium. Their total assets reached 350% of our annual GDP, almost doubling over a decade. But let’s be clear: this massive expansion of lending was not a consequence of loans to British households. Much of it was lending to other banks (both here in the UK and abroad) as their casino trading arms engaged in an orgy of socially useless speculation.

This chart, again from Mr Broadbent’s speech, shows that lending to the British non-financial sector remained pretty constant as a share of GDP over the decade, at around 80%:

Untitled 2 It was British banks, not British borrowers, that crashed our economy

So what can we draw from this? Britain’s largest banks went bust, helping to plunge the UK into the deepest slump since the 1930s, because they overextended themselves. But bad loans made to British households were a minor part of their total losses. The banks did not go bust because ordinary Britons borrowed too much.

Now let’s address the idea that – even if it didn’t cause the banking bust – British households borrowed too much in the boom years and that these debt levels are now weighing down on our economy, stifling recovery.

This has become conventional wisdom. Proponents point to graphs such as these (courtesy of Fact Check), showing that debt as a share of household disposable income in the UK rose to 170%, much higher than in other advanced countries:

Untitled 3 It was British banks, not British borrowers, that crashed our economy

Case closed? Not necessarily. Ben Broadbent has some very interesting things to say on this area in his speech too.

He pointed out that the majority of the extra debt incurred by British households was mortgage debt, as this shows:

Untitled 4 It was British banks, not British borrowers, that crashed our economy

Secured lending here is mainly mortgage borrowing.

And when one considers mortgage debt one also needs to consider the other side of the balance sheet: housing values, which exploded over the decade.

When one factors in rising house values, the net financial position of UK households during the last decade looks much less alarming:

Untitled 5 It was British banks, not British borrowers, that crashed our economy

As Broadbent points out, UK households’ net financial wealth was no lower in 2008 than it was in 1992.

Ah, but didn’t we have a massive housing bubble? Hasn’t much of the value of those “assets” been wiped out, proving that we did borrow too much after all? The answer to that is that we don’t know yet.

House prices have fallen from the pre-crisis peak by around 15%. But that is nothing like the collapse witnessed in bust housing markets such as the US and Spain, where values are down by something close to 50%:

Untitled 6 It was British banks, not British borrowers, that crashed our economy

House prices may be on their way down again here in the UK, and this will cause further problems for the banks, but this is by no means certain. In the past I’ve argued that the only way is down for the market, with prices still well above historic income to value ratios. But now I’m beginning to think that there’s such a shortage of housing supply in this country that values could well remain elevated, despite the weak economy.

Reasonable people can take different views on this subject.

It is also reasonable to point out that unsecured lending – credit card debt – rose in the years running up to the recession and that this is likely to be weighing on consumer spending now as people seek to pay off debt:

Untitled 7 It was British banks, not British borrowers, that crashed our economy

But be wary of those who confidently assert that our present economy malaise is a consequence of high household debt levels. And certainly don’t accept for a moment that British banks fell over in 2008 because they lent too much to us.

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  • andyholmes

    You’re correct in that the damaging deregulation was the repeal of Glass Steagall, removing the firewall between investment and retail banking.

    However it was passed in 1999 by Bill Clinton, and copied by New Labour in the UK.

    Many people automatically jump to the conclusion that banking deregulation responsible for this crisis, was a part of the much heralded big bang regulations of 1986, but it’s just not true.
    The only contribution to our current problem from the earlier regulations was a reduction in capital reserve requirements. However those lower requirements were still sufficient to protect our banks during the 1990-1 recession, despite it being caused by a property bubble. They only became insufficient after banks were allowed to use retail banking deposits for investment purposes after 1999.

  • andyholmes

     Well you wouldn’t.

    It doesn’t fit into Ben Chu’s political narrative.

  • Peter Wicks

    But what about that other vile human condition called GREED?….when is enough ever enough for some?….just look at bonus time in any of the rotten banks and can someone plot a graph that measures Greed and its consequences?

  • ElRoberto

    I would have expected [Broadbent and Chu] to know that debt payments can be
    unaffordable even if collateral maintains or increases in value, and
    that households will cut discretionary spending to maintain mortgage
    payments. It is that decline in discretionary spending that is killing
    the UK retail sector at the moment.
    Spot on!  I am amazed by this article.  The chutzpah of those claiming there was no [unsustainble] boom is depressing.  It shows that there are regulators and economists who have learned absolutely nothing.

    This is the reason I was against the Osborne radical cuts agenda, and why I am not surprised it’s not working particularly well.  There is not enough money in the private sector to compensate for such a deep retrenchment of the public sector.  The private sector recovery is handicapped by the excessive personal debts times two.

    One: The indebted have a lot of paying down of debt to do and are getting on with it.
    Two: The excessive debt is THE reason foir high house prices, not some mythical jump in population (larger mortgages mean people have the money to bid higher for a house and did so for a decade).  Those high house prices mean the younger generation (up to 40-yr olds even) cannot spend either as they are saving up the enormous amounts required for a home.

    So therefore personal consumption side of the UK economy is not spending – both mortgage and non-mortgage holders.  And all for the reason that Mr Chu denies even exists.  Pitiful!

    Banks should be forced to realise losses in the mortgage market, repossess and get the market moving again.  The we’ll see the truth about UK losses and bad dbts.  Also, the housing market will move again as FTBS could buy.  There may be a cooling off period as househunters may be wary, but it would become a sustainble business again.  And people would have finances for that discretionary spending.

    If banks fail, nationalise them for zero pence compensation, and reform them.  Return them to the private sector when it is ready, while RBS could become a nationalised investment bank.

  • MrVeryAngry

    Strictly speaking it was universal mis-reg-yew-lay-shun of Banking that bust them…Note well that that mis-reg-yew-lay-shun was constituted (in the UK at least) as ‘nationalisation by reg-yew-lay-shun’.

  • MrVeryAngry

    Strictly speaking it was universal mis-reg-yew-lay-shun of Banking that bust them…Note well that that mis-reg-yew-lay-shun was constituted (in the UK at least) as ‘nationalisation by reg-yew-lay-shun’.

  • Frances_Coppola

    The Bank of England is NOT privately-owned like the FED. The Bank was nationalised in 1946 and is now wholly owned by HM Treasury. It has operational independence only, mandated by Parliament, and is accountable to the Chancellor. 

    As far as the UK is concerned money printing cannot be done by private banks, except for the non-legal tender notes produced by the Scottish and Northern Irish banks. The monetary base (M0), which is the liabilities of the central bank, is therefore entirely under state control. However, M4 broad money – which is the total amount of all forms of money and money-like instruments in circulation – is not under state control as the vast majority of it is created by commercial banks, much of it in the shadow banking network. This is not “money printing”, it is credit creation, but I agree that in the era of electronic money the difference is negligible.  


    Thought so, thanks.

  • Old Git Tom

     Mr Coppola,

    like most traditionalists, you take outward facades & formalities for substance. Control IS ownership. The director-bananas of the BofE are global bankers, plus the odd gov nominee who is part messenger-boy, part nodding dog. Ergo, private bankers own the BofE. They decide money-supply issues, according to their rapacious self-interest, not the nation’s.

    The Bof E is only formally accountable to Parliament, which in turn is run by two/three parties owned/controlled by bankers. Any contentious policy is quickly solved by a Morgan-Sachs/Big R rep – always on hand. How terribly civilized & British!

    The BofE runs on the standing lie that it (as the private banks) must lend governments money to fund their operations, or s/thing terrible would happen. No: a small gov department could easily arrange the printing of real government currency – thus taxpayers would not be burdened by compounding & ultimately unpayable debt.

    Monstrously increasing indebtedness to banks is an arithmetical inevitability of the rotten system you are suckered into defending. Yes, the BofE was nationalized by Labour in 1946, but it was given back to Big R’s boys/gals after the usual aetherial but pitiless financial blackmail – the kind that forced the Federal Reserve racket on the once proud, prosperous & democratic USA. The result in both cases is the inevtiable slide into oligarchy, & prolly hi-tech, neo-feudalism.

    ‘Usury age-old & age-thick,
    And liars in public places’ (Ezra Pound)


  • Ben Chu

    You make a fair point about HBOS, which failed because of dodgy domestic commercial loans. However the fact remains that UK banks and building societies have lost relatively little on the UK mortgage books. Northern Rock went under not because it was a subprime lender, but because it was funding itself in the wholesale markets, which seized up in 07. Also Barclays might not have been bailed out by the UK state, but it did fail, writing off almost as much as RBS in the crash. Those writeoffs where not on UK mortgages. Ditto HSBC, which lost money on US subprime.

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