Wednesday, July 2, 2008

Problems of Credit Crunch

The credit crunch which began nearly a year ago, shows no signs of abating. With declining economic fortunes in most OECD economies, there is also the prospect of things getting worse before getting better better. These are some of the problems stemming from the credit crunch

Shortage of Consumer Loans

Banks are seeing a decline in their reserves as the they write off bad debts. Furthermore the cost of interbank lending has shot up. The result is that lending to consumers has had to fall. In the UK, mortgage approvals has fallen to the lowest levels since records began. This shortage of consumer loans is causing:
  • Falling demand for houses and falling prices
  • Falling consumer confidence as people struggle to be able to borrow.
  • Declining profitability for banks and declining share values.
Tighter Credit Standards

The shortage of credit is causing banks to increase the cost of mortgage products. The gap between base rates and bank rates have increased as the banks seek to increase the profitability of their loans. The cost of arranging a fixed rate mortgage has increased significantly. The problem will be exacerbated when existing borrowers come to the end of their deal. Many homeowners who, until now, have been protected will face higher mortgage costs when they negotiate a new deal.

Mortgage Arrears Forecast to Rise

Because mortgage costs are rising and mortgage criteria are becoming stricter, many existing homeowners face the prospect of higher mortgage costs in the future. Combined with rising energy prices and low real wage growth, there is a likelihood of rising mortgage defaults. This is particularly a problem in the US, where rising unemployment is an additional problem. But, even in the UK, economic prospects of declined in recent months. A rise in mortgage defaults from existing levels, is the last thing that the finance system needs right now. A rise in defaults would cause further write off's leaving the balance sheets of banks looking even more dire.

See also: What Went Wrong with US economy?


1 comment:

financial directory said...

I think its fair to say the credit crunch is coming to a close now.