Sub-prime woes to hurt more than just
the City Boys, by Carl Malways
those who haven’t been around for the past couple of weeks the
stock markets have been going through absolute turmoil. The fall out
from the sub-prime lending market in the United States has had ramifications
not only in the United States but across the global financial system.
How long this crisis will last is yet to be seen and the wider outcome
is yet to be known. However don’t be fooled into thinking this
is not going to have an impact upon those outside the financial markets,
those who don’t know the current market turmoil has been
created by a problem in the United States sub-prime mortgage
market. The sub-prime mortgage market is where banks lend to
people with a poor credit rating at a higher interest rate –
in the hope of higher returns. However, the market became too
loose and too overstretched. As base interest rates rose in
the United States and the economy slowed, borrowers saw mortgage
payments rise at a point when jobs were being cut and wage growth
slowing. As a result defaults on mortgages increased rapidly.
So why didn’t
the problem stop with the mortgage lenders? The problem has
had wider consequences because those banks that lent in the
sub-prime market packaged up some of this debt as a financial
product and sold it to willing buyers in the international financial
market. This was done as an insurance measure against widespread
defaults. However, the selling of sub-prime mortgages went too
far and rather than acting as an insurance against the risk,
international financial markets have been pulled into the crisis.
The result is that financial markets have seen billions of dollars
wiped off them in August. Several hedge funds have been closed
and many of the major banks have suffered huge losses. This
crisis has also led to a steep drop in confidence. Banks are
no-longer willing to take the risk and lend to one another.
As a result this has created a credit crunch where investors
have not been able to borrow credit and as a result of a falling
credit supply the cost of borrowing has risen rapidly. The Fed,
the European Central Bank and other major banks have reacted
strongly by cutting interest rates and by pumping credit into
the markets. This has helped to temporarily stabilise markets
but volatility remains high and no-one is yet saying things
are in the clear.
forward to the rest of the year and into 2008 it seems likely
that the impact of the sub-prime market will run on and on in
a number of different forms. Businesses are likely to find it
increasingly difficult to find credit, especially the cheap
credit they’ve been used to in recent years. This will
reduce the ability of businesses to expand and capitalise on
opportunities as and when they arise. Consequently business
activity will be reduced, which will hit GDP growth.
reduction in business activity will also hit employees. The
first people hit are likely to be the City Boys who are not
going to see the same bonus payments they have become used to.
It has already been estimated that city bonuses may be reduced
by up to 20 per cent in 2007. Jobs in financial services are
also likely to suffer, with slowing headcount additions and
even with a net loss of jobs.
in business activity will also hit employees. The first people
hit are likely to be the City Boys who are not going to see
the same bonus payments they have become used to. It has already
been estimated that city bonuses may be reduced by up to 20
per cent in 2007. Jobs in financial services are also likely
to suffer, with slowing headcount additions and even with a
net loss of jobs.
with slowing business activity and reduced consumer demand from
those working in financial services, the impact will be felt
by every sector of the economy. There are few that will not
be affected by the current financial crisis; jobs will be lost
in all sectors. Those businesses which are not able to grow
will not be able to increase the amount they spend on suppliers.
Those thinking that the sub-prime mortgage crisis is something
that only those working in finance need worry about should think
twice. Get ready for higher unemployment, slower wage growth and
ultimately a difficult couple of years.