Irresponsible investing is the main problem
Posted on 21 April 2008 by
In yesterday's "Sunday Programme" on GMTV Vince Cable repeated his claim that the current problems in the UK mortgage market have been caused by "irresponsible lending." He is wrong about this and it is disappointing that a senior politician who is also an economist doesn't understand that the real cause of the problem is very different.
Although "iresponsible lending" by UK lenders might be a tiny part of the problem, the amount of "irresponsible lending" in the UK is small and indeed if that was the extent of the problem it would have been easily containable. The latest statistics produced by the Council of Mortgage Lenders (CML) demonstrate this clearly. They show that at the end of last year just 1.2% of UK mortgages were in arrears by at least 3 months and although I expect some increase in this figure during 2008 it is hard to equate such a low level of arrears with any significant degree of "irresponsible lending."
The real problem is irresponsible investing, not irresponsible lending. I expect UK lenders to increase provisions for bad debts on their mortgage lending this year, mainly because property prices are now falling and consequently any repossessions are more likely to result in a loss. However, such increases in bad debt provision are easily containable.
The reason banks are having to write off such huge amounts is appallingly bad investment decisions. They invested on a large scale in US residential mortgage backed securities (RMBS) without exercising proper due diligence before making the purchases. As long as one of the discredited rating agencies, who had been paid by the RMBS issuer to rate their bonds, had given a bond a AAA rating, investment managers were prepared to invest tens of millions of pounds in these bonds without making their own assessment of the real quality of the mortgages supporting these bonds.
Outsoucing certain administrative functions sometimes makes sense. Effectively outsoucing basic management decisions, such as what to invest in, to a company paid not by the investor but by the company wanting the funds is crass stupidity. It is comparable to a lender agreeing to offer a mortgage to a potential borrower purely on the strength of that person signing a certificate stating they can afford the mortgage and doing no checks whatsoever. It is just as stupid as the basis on which some of the mortgages supporting the RMBS the banks bought were made.
The common sense of NINJA (no income no job or assets) mortgage borrowers in the US is about on a par with the common sense of directors of banks who allowed their funds to be invested in RBMS supported by such mortgages! The difference is the bank directors are meant to understand finance, whereas it appears some of the US borrowers were misled by those peddling such mortgages. If there had not been enough stupid, or perhaps greedy, investors prepared to buy the RMBS supporting bad mortgages such lending would never have taken place!
Categories: Property market, Bank of England, Mortgages
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