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Fixing the Credit Crisis

Posted by James Plaskitt, MP for Warwick and Leamington, at 15:32, Fri 30 January 2009:

Fixing the global credit crunch is no easy task. This is not simply a ‘recession’ in the traditional sense of the word. What we are seeing is the first truly worldwide financial crisis of the global age, which demonstrates just how interrelated global economies have become.

It is now widely understood that the crisis began in the United States, where lax lending practices resulted in many ‘bad debts’ being accumulated by banks. When the bad debts came to light with the decline in the housing market, serious doubts were cast on the reliability of the banks’ financial base. As is normal, these American banks had also leant money to other banks around the world, including here in the UK, meaning that virtually every banking system in the world became affected by this crisis of confidence. The result was that banks stopped lending to each other, and also stopped lending to homeowners and businesses.

The figures sometimes appear frighteningly large – the headlines talk about billions being ‘put into the banks’. But not a penny is being given away. These billions are mostly loans and guarantees, made on a commercial basis, with fees to pay and repayment schedules to meet. The government is also imposing conditions, for example, on bonus policies for top bankers.

To protect our economy, the government has taken action on three fronts:

First, in October last year we moved quickly to recapitalise the banks (see www.jamesplaskitt.com/financial_crisis). As confidence in the banks faltered, there was a very serious danger that our entire banking system would collapse – as happened in Iceland – threatening the accounts of millions of savers. The government took emergency action to extend Treasury loans to our banks. The action worked: no British banks collapsed, and no savers lost their money.

Second, having ensured the banking system was safe, we moved to increase spending in our economy. This has been termed a ‘fiscal stimulus’ – literally, putting money back into our economy through tax breaks and government spending plans. The measures were announced by the Chancellor in November: more money for pensioners, families and those on low and middle incomes (see www.jamesplaskitt.com/pbr08). We also announced that we would bring forward several government spending programmes, on projects such as infrastructure and home-building, helping to put money into the economy and safeguard British jobs.

Finally, we had to address the root cause of the downturn and get banks lending again. These measures were announced in an ambitious package unveiled by Peter Mandelson in January. In effect, the government has offered the banks insurance against any extreme losses. In return, the banks agree to pay an excess (just like on any insurance policy), a premium and agree to meet strict requirements on lending. This is the equivalent of taking any bad assets off the banks’ books, removing the uncertainty about the banks’ past investments and enabling them to lend again. This week, RBS – which is now 70% state owned – announced that it would be quick to take up this offer.

Our action is being replicated by almost every country in the world. Around the world governments, opposition parties, economists, academics, business leaders now agree that a large fiscal stimulus is needed to get us out of the downturn. While it may mean borrowing more (see how we can afford it at www.jamesplaskitt.com/borrowing_can_we_afford_it), if we do nothing the effect on our economy – and on people’s lives - will be far greater.

Amazingly, David Cameron and the Conservative Party disagree with this global consensus. They still don’t understand the nature and scale of the challenge our country is facing. First, they refuse to see that this is a uniquely global crisis, instead trying to blame the downturn on poor regulation in the UK. But in a global economy, if one country tightens its regulation the money simply goes elsewhere. What is needed is tougher global regulation – something the UK has been campaigning for internationally for years. In November I held a debate in Parliament on this subject, which you can read about at www.jamesplaskitt.com/economic_debate. And instead of supporting a fiscal stimulus, the Conservatives have now said that they would actually cut public spending by 1% if they were elected. They have pledged to cut back on investment at a time when our economy needs it the most. Instead, they would, in their words “allow the recession to run its course”. This means battening down the hatches, and allowing firms to go bust, homes to be repossessed and workers to lose their jobs.

I remember, as many people do, the effects of the last time the Conservatives took this approach. They allowed interest rates to soar to 15%, put three million people out of work, allowed hundreds of thousands of homes to be repossessed and declared that it was "a price worth paying".

The global downturn poses a stark choice for governments: do nothing and let the markets sort themselves out. Or take action, invest now to protect people and make the downturn shorter and less painful.

It's an obvious choice.

(Keep up to date with the latest on the Credit Crunch through my dedicated webpage www.jamesplaskitt.com/creditcrunch)