It’s hard to overstate the scale of Britain’s financial troubles, and the world found itself this week because of that financial burden.
“Global financial crisis Mark 2” is just around the corner. It’s not an exaggeration.
Towards the end of 2008, it was clear that many Wall Street investment banks were on the brink of collapse.
They sat on tens of billions of dollars worth of garbage assets, mortgage-backed securities attached to real estate that were plummeting in value.
A credit crisis was triggered when the US government allowed Lehman Brothers to collapse. sat on many of these worthless assets.
Suddenly it wasn’t clear who could and who couldn’t pay off the loan.
I’ve played around with scenarios of similar scale.
The problem now is, well, the cheating isn’t over.
comedy of errors
Liz Truss – who succeeded Boris Johnson as Prime Minister of the United Kingdom – inherited an economy at risk of slipping into a deep and prolonged recession.
The Truss announced last week a “mini-budget” offering more government spending and the biggest package of tax cuts in 50 years to stimulate the economy.
It is good, is not it? Well, not so much. With the UK budget deficit (or net borrowing) already in the hundreds of billions of pounds, financial markets have responded with the obvious question: “How are you going to pay for this?”
The BBC reported conservative lawmakers walking down the corridors in “shock” after the mini-budget was passed.
The final reaction from financial markets was a vote of no confidence in fiscal policy. The bond market was “sold”. Bond prices in the bond market plummeted.
When bond prices fall, yields rise. You don’t really need to understand the tricks of the bond market here, but it’s important to understand:
This means that interest rates must not suddenly become too high for the UK pension system to work or continue as a going concern.
The fund realized that it could not pay the annuity because it had lost so much on its investments.
To stop this, the Bank of England bought up bonds on a massive scale to raise their prices and lower the interest rates on those bonds.
“To achieve this, the Bank will make temporary purchases of long-term UK government bonds from 28 September. The objective of these purchases is to restore an orderly market environment,” the Bank of England said in a statement. rice field.
“The purchase will be carried out on the scale necessary to bring about this outcome. The operation will be fully indemnified by the UK Treasury.”
But here’s the killer line.
“If this market dysfunction persists or worsens, it will pose significant risks to the UK’s financial stability.”
Henry Jennings, a former City of London trader, said the Bank of England had hinted that these funds were at risk of being called for margin calls when bond markets rocked against them. This means that it was exposed to
So many funds were borrowing money to make more money. They were heavily in debt to boost their earnings.
They were about to be asked to “pay”.
If asked to pay, they would have been forced to liquidate their assets, which would have led to a “death spiral” in financial markets, he says.
In Jennings’ opinion, the sheer volume of global assets sold would have led to a global “confidence crisis.”
The Bank of England’s relief to the UK pension system is limited.
“these are [bond] BofE said the purchase would be strictly time-bound. The auction starts today and he runs until October 14th. ”
So what happens when they stop buying gold coins and British bonds?
The chief economist at National Australia Bank says the forces that have pushed the UK financial system to the brink remain firmly in place.
“The market is getting a little worried,” says Alan Oster.
He said UK interest rates will continue to rise and could rise very aggressively in the coming months.
“[Markets] They’re talking — scary, they’re talking about a 1.25% or 1.5% interest rate hike, starting with a 2% cash rate. [at the next Bank of England meeting]”.
“It’s extraordinary and of course the pounds are completely killed.”
In other words, the problems facing the pension fund system are about to return.
It’s heavy stuff, so let’s stop briefly at this point and check it out.
The UK remains at risk of a financial crisis. This is because major investment schemes remain vulnerable to the bond market, which is still at risk of a plunge due to the UK’s economic woes (partly created by a disastrous mini-budget). .
All this is reflected in the recent crash of the pound.
Analysts say the UK financial crisis will lead to the collapse of the global economy.
Is Australia immune?
The short answer is no.
The Australian dollar is at its lowest level in two years against the US dollar and the stock market is down 15% from peak to trough.
We are nudging towards a “bear market” in equities.
This has obvious implications for retirees and those approaching retirement.
But more broadly, destabilization of the global financial system will produce the same shockwaves as in 2008 and 2009.
It leads to higher unemployment and recession.
The problem this time is that the Australian government, and indeed the Reserve Bank, are not in a position to engage in a special economic stimulus package.
But…so far so good
However, the majority of Australians now appear to have the financial capacity to carry on with their lives in a relatively normal way.
Australian retail sales rose 0.6% in August, according to retail figures released earlier this week by the Australian Bureau of Statistics.
August’s rise was the eighth consecutive rise, following a 1.3% rise in July and a 0.2% rise in June.
Ben Dover, head of retail statistics at ABS, said: “This month’s gains were driven by a combined increase in food-related industries of 1.3% in cafes, restaurants and takeout food service, and 1.1% in food retail. He said.
A dark cloud over the cost of living for over millions Australians is ‘balanced by people saying ‘well, I’m not going to lose my job’,’ says NAB chief economist Alan Oster .
“The economy is doing really well.”
But as big as it is, he ominously says, “The next four weeks are going to be interesting.”
This is a reference to the fact that most of the Reserve Bank rate hikes already announced will hit bank accounts over the next few months.
It is unclear to most observers how and exactly what damage this will do to the Australian economy.
That said, work is already underway to help policymakers make the right decisions when pulling levers.
For example, ABS currently provides monthly inflation or cost of living data.
The first monthly consumer price index (CPI) indicator rose 7.0% in the year to July and 6.8% through August.
The biggest contributors in the 12 months to August were new home construction, up 20.7%, and motor fuel, up 15.0%.
Now the Reserve Bank is in a better or more timely position to see how the tightening of policy is affecting prices in the economy.
This is actually to avoid interest rates rising too high.
The RBA will meet on Tuesday.
At this point, it’s a coin toss whether banks will raise their cash rate target by 0.25% or 0.5%.
How serious is this?
Naturally, at major financial events, the question is: Should I be concerned about this?
The answer is that we have to keep watching this story unfold.
AMP chief economist Shane Oliver said the Bank of England’s short-term efforts to pull the UK’s financial system back from the brink had paid off, but that the UK’s financial system could soon get back on track. suggests that it is set.
“The Bank of England’s intervention to calm the gold market, which has threatened the financial troubles of the UK’s pension funds, has been seen both directly within the UK and indirectly elsewhere by indicating that the authorities will still intervene. It helped calm things down. It’s a crisis,” Dr. Oliver said.
“Unfortunately, the return to QE [bond buying] Inflationary pressures could rise if sustained over the long term, and even higher rate hikes will be needed when the BoE holds its next meeting in early November and many are talking about a 1.25% rate hike. may become. Relax and tighten at the same time. ”
So the options are either the Bank of England continues to rescue the UK financial system at the risk of exacerbating inflation and raising interest rates significantly, or it is taken over by the market and risks a full-blown financial crisis. The crisis of the bond market collapsing again.
Australia appears to be in a reasonable position to manage financial shocks now, but it is unclear whether that will still be the case in the coming weeks.
A big risk remains.
Printing trillions of dollars of money around the world to support the global economy during the pandemic has always been risky.
As it stands, that financial support cannot be removed without the entire system collapsing, but it must be removed before it causes even greater economic problems.
It’s a very inconvenient position.