Leading article: Dodgy loans, banks and bail-outs

Share

Across the world, the financial trading screens turned red again yesterday as stock markets from Wall Street to Tokyo took a hammering. More than £100bn has been wiped off the value of the FTSE100 since last Wednesday. And there is more carnage to come. The inevitable downgrading of ratings on more credit instruments - as the American sub-prime mortgage market unravels - will create more dislocation in the credit markets. And this in turn will continue to undermine confidence in equities.

But however loud the scalded hedge-fund managers and bankers scream, it is vital that central bankers resist the pressure to push through interest rate cuts beyond very short-term injections of liquidity. Recession is not a serious prospect with the global economy growing at a healthy rate. Moreover, any free market needs the prospect of failure if it is to function properly. Those financial institutions that have left themselves overexposed on account of their imprudent borrowing or lending must be left to deal with the consequences. Cutting interest rates to inject confidence artificially into the system would make financial speculation a one-way bet.

Unwise investors and borrowers in the City and Wall Street have been bailed out too often in this way in the past by central banks. And unjustifiably low interest rates for an extended period of time have contributed to the present mess. Put simply, if you make money too cheap, people will get greedy and begin to make misjudgements. This is what has happened over the past five years.

But there are some wider lessons here, beyond the failures of monetary management by central banks. Regulatory failure is another important part of this story. As mortgage lenders, particularly in the US, come under pressure, it becomes increasingly clear that the performance of the credit rating agencies has been less than impressive. Too many dodgy loans were given a decent rating.

The new debt investment packages devised by the banks in recent years are also in need of serious scrutiny. The greater securitisation of debt (the selling on of debts by banks) has on the whole been a good thing. It has made global markets more liquid, something that has helped to deliver strong growth. But when no one knows who holds the ultimate liability (as has been the case with many of these complex debt instruments), it becomes a dangerously destabilising influence. The same is true of private equity deals. In many of these highly leveraged takeovers, it is far from clear who holds the risk if it all ends badly.

Such ignorance has made the present panic worse. Free markets need the risk of failure, but transparency is just as important.

React Now

Latest stories from i100
iJobs Job Widget
iJobs General

Recruitment Genius: Accounts Assistant - Fixed Term Contract - 6 Months

£15000 per annum: Recruitment Genius: One of the largest hospitality companies...

Recruitment Genius: Electricians - Fixed Wire Testing

£28000 - £32000 per annum: Recruitment Genius: As a result of significant cont...

Recruitment Genius: Customer Service Advisor

£16575 - £19000 per annum: Recruitment Genius: An excellent opportunity is ava...

Recruitment Genius: Senior Digital Marketing Executive

£30000 - £35000 per annum: Recruitment Genius: This leading and innovative con...

Day In a Page

Read Next
Alan Titchmarsh MP?  

Alan Titchmarsh MP? His independent manifesto gets my vote

Jane Merrick
 

I’ll support England’s women, but it’s not like men’s football – and that’s a good thing

Matthew Norman
How to stop an asteroid hitting Earth: Would people co-operate to face down a global peril?

How to stop an asteroid hitting Earth

Would people cooperate to face a global peril?
Just one day to find €1.6bn: Greece edges nearer euro exit

One day to find €1.6bn

Greece is edging inexorably towards an exit from the euro
New 'Iron Man' augmented reality technology could help surgeons and firefighters, say scientists

'Iron Man' augmented reality technology could become reality

Holographic projections would provide extra information on objects in a person's visual field in real time
Sugary drinks 'are killing 184,000 adults around the world every year'

Sugary drinks are killing 184,000 adults around the world every year

The drinks that should be eliminated from people's diets
Pride of Place: Historians map out untold LGBT histories of locations throughout UK

Historians map out untold LGBT histories

Public are being asked to help improve the map
Lionel, Patti, Burt and The Who rock Glasto

Lionel, Patti, Burt and The Who rock Glasto

This was the year of 24-carat Golden Oldies
Paris Fashion Week

Paris Fashion Week

Thom Browne's scarecrows offer a rare beacon in commercial offerings
A year of the caliphate:

Isis, a year of the caliphate

Who can defeat the so-called 'Islamic State' – and how?
Marks and Spencer: Can a new team of designers put the spark back into the high-street brand?

Marks and Spencer

Can a new team of designers put the spark back into the high-street brand?
'We haven't invaded France': Italy's Prime Minister 'reclaims' Europe's highest peak

'We haven't invaded France'

Italy's Prime Minister 'reclaims' Europe's highest peak
Isis in Kobani: Why we ignore the worst of the massacres

Why do we ignore the worst of the massacres?

The West’s determination not to offend its Sunni allies helps Isis and puts us all at risk, says Patrick Cockburn
7/7 bombings 10 years on: Four emergency workers who saved lives recall the shocking day that 52 people were killed

Remembering 7/7 ten years on

Four emergency workers recall their memories of that day – and reveal how it's affected them ever since
Humans: Are the scientists developing robots in danger of replicating the hit Channel 4 drama?

They’re here to help

We want robots to do our drudge work, and to look enough like us for comfort. But are the scientists developing artificial intelligence in danger of replicating the TV drama Humans?
Time to lay these myths about the Deep South to rest

Time to lay these myths about the Deep South to rest

'Heritage' is a loaded word in the Dixie, but the Charleston killings show how dangerous it is to cling to a deadly past, says Rupert Cornwell
What exactly does 'one' mean? Court of Appeal passes judgement on thorny mathematical issue

What exactly does 'one' mean?

Court of Appeal passes judgement on thorny mathematical issue