On 21 April 2008, Bank of England governor Mervyn King stood at the top of a steep, snow-covered hill. He rolled some snow into a snowball, placed it on the ground, and gave it a little push.
The name he gave to this "snowball" was the special liquidity scheme (SLS). This, you’ll recall, was supposed to be the Bank’s solution to the gummed up mortgage lending market.
The original plan was to swap £50 billion of government bonds for mortgage-backed assets. Treasury sources at the time hinted that the level of funding could be upped to £100 billion.
As I wrote on the day, this is how the plan was meant to work:
- The banks swap mortgage-backed assets for government bonds.
- The banks can then borrow from each other using those bonds as collateral.
- The interest rate at which banks lend to each other will come down, as they all know there’s now "good stuff" on the banks’ balance sheets, so lending to another bank is seen as less risky.
- The banks can then use the money they borrow to make more loans, at a more reasonable rate.
- John and Jane First Time Buyer can now finally get that mortgage.
Two things have happened since the SLS was launched. House prices have continued to slide, with would-be first-time buyers still struggling to get on the ladder.
And Mervyn King’s snowball has got a lot bigger. We don’t know how big, of course. One of its key features is that banks can access the SLS in secret.
But we do have estimates. UBS reckons as much as £200 billion worth of mortgage-backed securities have been exchanged for Treasuries. A more conservative estimate, backed by data from the Bank for International Settlements, is between £80 billion and £100 billion.
Either way, though, it has already overshot the original £50 billion provision. This was expected. But... the snowball is still rolling down the hill...
We can’t know how big it will eventually get. It already dwarfs the £1.6 billion the government pledged on Tuesday it would use to help home owners.
Now, I realise we’re not comparing like with like. The money the government will spend (or, in the case of the stamp duty holiday, forfeit) directly impacts on the public accounts. Assistance given via the SLS does not have so direct an effect. Banks that use the scheme provide collateral - albeit collateral of questionable worth.
Ultimately, though, it all points to the same thing. Taxpayers are taking more weight on their shoulders - in the form of increased spending and exposure to increased risk.
The Bank of England has made it clear that when the SLS ends, something else will take its place. Mervyn’s snowball looks set to keep on rolling - potentially placing greater strain on the public purse.
This will leave the government with even less room for manoeuvre. Not only that, it will further undermine confidence in the British economy, and in sterling. We’ve already seen the pound take a big hit this week. But I believe we’re yet to see the worst.
Tomorrow I’ll be revealing details of how you can prepare yourself for a full blown sterling crisis. Make sure you don’t miss out!
Your chance to invest in technology that could solve the oil shortage puzzle
"This stock market minnow could make a huge difference to the ability of oil companies to pinpoint oil and gas reserves," writes Tom Bulford in today’s Penny Sleuth. "It could help prevent them from drilling so many dry wells. And it could help solve the oil shortage puzzle."
The technology Tom’s talking about could enable those looking for oil make much better use of seismic data. As such, it could greatly reduce one of the most significant costs associated with finding new oil.
Find out more about how this new technology could speed up the discovery of new oil - as well as how you can invest in it
Until tomorrow,
Ben Traynor
Selected articles:
Tom Bulford on investing in a new technology that could help discover new oil reserves
Garry White on why investors should buy uranium now
The Daily Reckoning - Bonds, stocks and cash offer no margin of safety
Not much action in the markets yesterday...but we don’t have any time to reckon with it anyway.
Gold plunged all the way down to $806. Now analysts are starting to talk about oil below $100 and gold below $750.
Meanwhile, Goldman Sacks predicts that oil will go all the way back to $149 before the end of the year.
Go figure.
You can read the Daily Reckoning in full here
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