Wednesday, 2 April 2008

Banking supervision for beginners

As I have said time and again, you can't have an asset price bubble without a credit bubble; they are two sides of the same coin. When one goes pop then so does the other*.

I have enthused at length about the merits of a tax on the speculative element of property values to keep property prices low and stable - especially as this would enable us to get rid of existing UK property taxes, that are a repulsive mixture of Poll Taxes and jealousy surcharges. But for a change, let's have a quick look at the other side of the equation, the credit bubble. I do not believe in regulation; it is usually unenforceable, counter-productive and/or circumventable**. However a bit of sensible banking supervision won't do any harm.

I discovered this delightful document on UK Mortgage Margins, published by the Bank of England back in 1997. The authors, Niall Gallagher and Alistair Milne, conclude very sensibly that "...concern could still arise over individual institutions ... who pursue a strategy of aggressive wholesale funded expansion".

A bit like Northern Rock, then? Whose share of net mortgage lending of 8.4% and total assets of £57 bn in in mid-2004 had miraculously increased to 18.9% and £119 bn by mid-2007? I won't bore you with stat's on the extent to which it depended on wholesale funding.

* When history has been re-written, the Yanks will no doubt say that the slide in house prices, which had already fallen by 6% in the year to October 2007 led to the sub-prime crisis; the Brits will say that we were doing fine until the sub-prime crisis in mid/late 2007 triggered a house price crash in the UK. Such is life.

** If that's a word.


Andrew said...

Hi Mark,

I've read quite a few of your blog posts now (originally followed a link from the HPC news blog). Well done for digging up this little nugget. The problem for the regulators is hiring competent staff - somebody with inside knowledge of banking will nearly always choose to work in the lucrative banking sector rather than the comparatively underpaid civil service. The cat is always playing catch-up against the mice.

On the idea of land value tax, I am broadly in favour. However there is one major objection: if the housing market is rising 10% a year then that increase easily dwarfs any LVT, so I'm not convinced it would discourage speculation.

I understand Denmark uses a form of LVT but that hasn't stopped their housing market from being swept up in the global asset price boom.

Hong Kong also derives a large proportion of its tax revenues from LVT, but again there are wild swings in house prices there too.

Look forward to reading more! Cheers

Mark Wadsworth said...

An outline of my plan is here.

Let's assume that this had been introduced in 1995, when average property was worth £62,000 (total value £1,240 bilion) and total receipts from Council Tax, IHT, Stamp Duty etc were only about £15 bn (such a tax would replace all these).

There are two extreme possibilites:

1. House prices would have only increased in line with inflation (to be fair, the base value would be indexed up), so an average house prices would now be £83,000 and total receipts would be nil. Storming result.

2. House prices would still have reached today's levels, so the bill for an average house would be £12,000 (unlikely scenario!). Annual receipts would be £230 bn, quite enough to get rid of VAT, National Insurance, reduce income/corporation tax to about 20% and increase the personal allowance to about £15,000. Also a storming result.

I tried to work out what the system in Denmark i, it is woefully complicated and also a property value tax at a low rate rather than a land value tax at a high rate, so obviously not very impactful.