The road to ruin

You know it’s something to do with US sub-prime loans but
there are gaps that need filling in? We

Following the greatest credit explosion of all time, in 2007 the credit markets began to seize up. In countries such as the US and the UK, the debt bubble had been fuelled by a mortgage-lending boom. But, as default rates soared on US "sub-prime" loans to uncreditworthy people and US interest rates rose, the bubble began to burst. The problem was that sub-prime loans had been "securitised" - bundled with other mortgages, sliced up and sold as bonds to international investors, including banks.

Many of the bond-issuing banks kept the riskiest (and highest-paying) slices for themselves. All of this had two important effects. By moving the loans off-balance-sheet, it allowed lenders to keep on lending. However, when the music stopped, it meant that, in the vitally important interbank loan market, no one knew who was sitting on how much of these "toxic" loans, so they stopped lending to each other, and to anyone else.

This was the "credit crunch" and it wasn't too long before it led to falling world trade, falling asset prices and global recession.

2007

April

New Century Financial, a leading US sub-prime mortgage lender, files for Chapter 11 bankruptcy protection.

June
The credit rating agencies Standard & Poor's and Moody's downgrade more than 100 bonds backed by sub-prime mortgages.

July

The investment bank Bear Stearns liquidates two hedge funds that invested in mortgage-backed securities.

August

BNP Paribas stops redemptions on three investment funds. Central banks begin to pump money into the banking market to improve liquidity.

September

Libor - the rate at which banks lend to each other - rises to nearly 7 per cent, far above the Bank of England's 5.75 per cent base rate. They stop lending altogether to Northern Rock, the fifth-largest UK mortgage lender. Word gets out and there is a run on the bank.

October

Banks such as the Swiss UBS and the American Citigroup begin to reveal multibillion-dollar losses from sub-prime-related investments. Senior bank executives start to resign.

December

The US enters recession, unacknowledged at the time. There is co-ordinated central bank action as the US Federal Reserve, the Bank of England and others offer large loans to banks; critics say it won't be enough. The Bank of England begins base-rate cuts, by 0.25 per cent to 5.5 per cent. By March 2009, the rate will be 0.5 per cent.

2008

January

Stock markets worldwide suffer their biggest falls since the 11 September 2001 attacks.

February

Northern Rock is nationalised.

March

JPMorgan Chase buys Bear Stearns, the fifth-largest Wall Street bank, for $2 a share - the previous week, the shares had traded at $30.

April

The Royal Bank of Scotland (RBS) announces the largest-ever write-down for a British bank and the largest-ever rights issue. The Bank of England launches its Special Liquidity Scheme.

June

Barclays shuns public money and reveals a large share issue, giving a 7.7 per cent stake to Qatar Investment Authority.

August

Nationwide says UK house prices have fallen by more than 10 per cent over the past year. The Chancellor, Alistair Darling, says the economy faces its worst crisis in 60 years.

September

The Big One - the US investment bank Lehman Brothers is pointedly not rescued, and files for Chapter 11. The crisis gains pace. The mortgage lenders Fanny Mae and Freddie Mac, with nearly half of all outstanding US mortgages, are rescued by the US government. The giant US insurer AIG is also bailed out. Merrill Lynch, another major investment bank, is taken over by Bank of America. In the UK, Lloyds TSB says it will take over the leading mortgage lender HBOS. Bradford & Bingley is nationalised. Stock markets begin an even more precipitous fall.

October

Third-quarter figures show that the UK economy shrank for the first time in 16 years. The Financial Services Authority raises compensation for bust-bank depositors from £35,000 to £50,000. The Bank of England expands its Special Liquidity Scheme, and puts together a £37bn rescue package for RBS and Lloyds TSB/HBOS (in effect, nationalising them). It also announces a credit-guarantee scheme to help banks issue bonds. US Congress finally approves a $700bn Troubled Asset Relief Programme (Tarp) to bail out banks.

November

The eurozone officially slides into recession. G20 leaders meet in Washington to discuss the crisis. The UK announces a VAT cut from 17.5 per cent to 15 per cent. Chancellor Darling admits government borrowing will rise to record levels. The British government takes a 58 per cent stake in RBS, and launches the Homeowner Mortgage Support Scheme for homeowners who have lost jobs. China announces a $585bn economic stimulus plan.

December

France announces a stimulus plan, including loans for troubled carmakers. The US bails out General Motors. The FTSE 100 Index closes down 31.3 per cent since the start of year - the biggest annual fall since the index began.

2009

January

Fourth-quarter 2008 figures show the UK in recession. The Asset Protection Scheme is launched to insure UK banks with bad loans. The US unemployment rate is the highest in 16 years. The fall in Chinese exports is the biggest in ten years. Germany unveils an economic stimulus package.

February

The new US president, Barack Obama, signs into law a $787bn stimulus plan.

March

Fears of deflation prompt the Bank of England's "quantitative easing" (QE) programme - in effect, printing money - of up to £150bn.

April

The G20 summit in London announces crisis measures worth $1.1trn. The International Monetary Fund (IMF) says financial-sector write-downs will total $4trn. Chancellor Darling says the UK economy will shrink 3.5 per cent in 2009 and predicts a £175bn Budget deficit - over 10 per cent of GDP.

May

The UK Treasury select committee says bankers made an "astonishing mess" of the financial system and warns that the effects will be felt for generations.

June

General Motors, the world's largest carmaker, files for Chapter 11. Unemployment in the UK rises to 7.1 per cent, with 2.2 million people out of work. The OECD says the world recession is nearing the bottom. Ten large US banks say they will repay Tarp money.

July

UK unemployment rises to 7.6 per cent, or nearly 2.4 million people - the highest in ten years.

August

The Bank of England expands QE to £175bn.

September

The G20 leaders meet in Pittsburgh, promising tougher bank regulation, action on bankers' bonuses and IMF reform. The FTSE 100 Index closes above 5,000 for the first time in a year.

October

The Dow Jones Index closes above 10,000 for the first time in a year.

December

Chancellor Darling says UK government borrowing will rise to £178bn (12.6 per cent of GDP) in 2009 but fall to £82bn by 2014/2015. He downgrades the 2009 growth forecast from -3.5 per cent to -4.75 per cent, but predicts 3.5 per cent increase annually over the next decade. But "Darling goes wide of credibility goalposts", says the Financial Times.

 

This article is taken from the New Statesman supplement Held To Account: What's next for UK Banking? sponsored by Barclays

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