Yet another top economist says house prices will fall by 30% unless the government does something. And they know what they need to do. But will they do it?
As we reported here, UK mortgage approvals fell for the fourteenth month in a row in June to a new low of 36,000. First-time buyers are pretty well frozen out of the market. Higher requirements for deposits, stiffer 'affordability' tests and higher interest rates are together deterring potential buyers.
The Treasury commissioned a report on the problem and what could be done. But the report by Sir James Crosby makes one proposal that has put the government in a bind. This is that the Treasury should guarantee a new category of 'securitised' loans to make them attractive to investors. Such a move would kick-start the market by making a lot more finance available on reasonable terms. But it is a political hot potato.
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Lack of funding is the problem
Already this idea has been rubbished by the Lib Dems and by the Council of Mortgage Lenders (CML). There's little doubt it would work. If the Treasury said that the interest payments on a new 'gold standard' of mortgage were guaranteed by the government, banks would be able to sell them to pension funds and the like, thus raising lots more money for mortgage lending - and the lack of that funding is what's causing the famine.
But critics fear the plan would create 'moral hazard', and encourage lenders to lend too much, just as they did two years ago before the credit crunch ended the party by taking all the booze away.
Why are we in this pickle? Because mortgage lending and indeed banking has changed. In the old way of banking, your bank manager wanted to know you well enough to be confident about your ability to repay before offering you a loan. Today, banks lend, then package up their loans into bundles and sell them to investors - and it's investors, not your bank, who take the risk that you'll default on the loan. In the American 'sub-prime' crisis, investors discovered they'd been sold piles of high-risk loans and were likely to lose a bundle as a result of defaults. Investors now distrust almost any mortgage loan package offered by banks.
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A second plan
A government guarantee on mortgage loan packages would change that. But the Crosby report has another proposal that would also work. This is the extension of the Bank of England's 'special liquidity scheme', where the Bank provides loans against the security of bundles of mortgages. At the moment, the loans are only short-term and the amounts are restricted. It wouldn't be hard to tweak the scheme so it provided more support for lenders, which is what the CML wants. Since this would leave the Bank holding the baby, and this is not really consistent with its role in monetary policy and controlling inflation, it's likely to resist the idea.
What's obvious is that there isn't a purely market-based solution to the current mortgage funding problem. It requires actions by the Treasury and the Bank to prevent the mortgage famine continuing and causing a further fall in property prices. Politically, the government can't afford to be attacked for not doing anything. So once the period of consultation on his proposals ends, Crosby will put forward firm proposals in the autumn, and I'm sure they will contain recommendations for action by the Treasury and the Bank.
The trouble is that none of the regulatory authorities- the Treasury, the Bank or the Financial Services Authority - wants to end up owning this problem, and will do all they can to push the responsibility onto the others. So a watered-down set of proposals that won't work but gives each of the regulators the chance to blame the others for it not working is what any game theorist would now bet on as the most likely outcome.
The real problem is that the key decision-maker, the Treasury, is itself is now part of the problem, and the obviously out-of-his-depth Chancellor Darling is pretty sure to flunk this as he has all his other challenges so far. Only a strong Prime Minister is capable of overriding the hordes of buck-dodging bureaucrats and pushing through a policy change that will actually work. So maybe this will turn out to be a real test of Gordon Brown's ability to do anything useful.
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