Financial And Property Markets Threaten Economy
As Britain faces a slowdown in the property market both house prices and mortgage lending are likewise undergoing a downward trend. These two factors are thought to be the biggest short-term threats to the economy leaving little for the Bank of England's Monetary Policy Committee to do in the way of prevention.
According to Kate Barker, member of the MPC, it would be difficult to justify any further rate cuts amidst the pressures of inflation. It is therefore essential that the Bank of England shifts its attention towards the financial and property markets in order to keep prices in check.
Speaking out Ms Barker said, "The risk I believe to be of most concern is around the interplay between the property market and the financial sector resulting from the credit turmoil."
She told the North Staffordshire Chamber of Commerce: "If credit tightening were to prove more severe than in the MPC's present central projection, leading to a significant fall in lending to households and companies, this could prompt a further decline in property values.
"The consequent adverse impact on growth could prove difficult to turn around quickly, potentially resulting in a protracted period of low output growth and below target inflation."
Already, alarm bells have been sounded by the Council of Mortgage Lenders (CML), who last year warned of a possible credit squeeze in the financial markets. They claimed that the crisis in the financial markets would greatly affect mortgage lenders as banks would have insufficient funds to lend out this year. Tighter borrowing conditions could only mean the "mortgage tap" would run dry.
Ms Barker went on to say that should house prices drop by 15%, only 5% of mortgage holders would actually find themselves in negative equity. Negative equity occurs when houses are worth less than the mortgage taken out on them. Reduced lending and declining property prices would still nevertheless have considerable effect on the economy as a whole.
"A prolongation of the present difficulties in accessing wholesale funds could restrict the quantity of mortgage lending during 2008," she said.
"In this case, the mortgage market could become less competitive and more expensive, feeding back into a decline in the housing market, somewhat lower consumer spending, and also into lenders' balance sheets, reducing lending capacity further."
Consumer price inflation is targeted at 2.0% and the Bank of England's Monetary Policy Committee is faced with the difficult task of keeping inflation under control whilst juggling a flagging economy with the pressures of rising prices.
Ms Barker believes that, "The consequent adverse impact on growth could prove difficult to turn around quickly, potentially resulting in a protracted period of low output growth and below-target inflation."
Suggestions have been made that further interest rate cuts could ward off this possibility. However as inflationary pressures increase, the BoE's inflation target is looking less likely. It is expected to be around 3% by mid-year with the GDP (gross domestic product) growth to fall below 2% by the end of the year.
In conclusion, the short-term outlook of the economy looks set to experience "an overall sharp slowdown in output growth."
Published on February 21, 2008
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