At a time when the Federal Reserve in Washington keeps dropping interest rates, a report in the Wall Street Journal by Kelly Evans and David Enrich (February 5 2008) illustrates how limited are the controls that central banks can exercise, even including the largest central bank of all.
Even Blind Freddie knows without being told that the Fed having been extremely tardy in initially cutting interest rates, only to be heavily criticised by market observers, now wants to speed them up. So having slashed the federal funds rate to 3 per cent, the Fed intends to quickly follow the early 1990s lead of former chairman Alan Greenspan, in slicing them down further in two or three moves to 1 per cent.
The Fed will then sit down and ponder what to do, if only other than jawboning, it knew what to do. But it can’t do much. With the deregulated financial markets, central banks can only control the price of credit (that is interest rates), but they can’t control the availability of credit.
So we have cheaper interest rates, at a time when banks are tightening lending standards on commercial and industrial businesses. A Fed survey of senior bank loan officers shows that the credit crunch is spreading, at a time when companies’ demand for credit is weakening. The survey also showed that 80 per cent of American banks are tightening terms on commercial real estate loans.
Daniel Pimlott and Gillian Tett of the Financial Times (February 5 2008) have been monitoring the risk of commercial property defaults, which are growing. They say that American property companies, with big short term loans to finance acquisitions in the past couple of years at low-interest rates are now struggling to refinance their debt, as banks curb lending and commercial property prices fall.
With credit tightening particularly noticeable since last August, and banks reluctant to lend to other banks, commercial property prices have fallen 10 per cent in some areas.
David Oakley reporting for Financial Times (February 3) says that “heavily indebted European and US companies are facing growing financial difficulties, because they cannot refinance their borrowings due to the continuing closure of the credit markets.” Companies’ inability to borrow is raising the spectre of defaults, particularly among the most highly leveraged companies in sectors such as property.
Oakley reinforces the tight credit availability, with the comment that the US high yield bond market has been closed since July, the longest closure since 2003, while the leveraged loan market has also slowed to a trickle.
Another astute observer Henny Sender (Financial Times January 24) said that while so far the rout in the debt markets has been linked to the American subprime mortgage debacle, many hedge funds are betting there is worse to come in the corporate debt market as well.
Companies that are particularly sensitive to a downturn are particularly affected, such as everything related to housing including retail, building materials, real estate and big ticket consumption items such as cars.
Where will it all end, I hate to say.
