3-month Sterling LIBOR has today been set at 4.49625pc. Before yesterday’s headline-shaking 150 basis point cut in the Base Rate 3-month LIBOR, the interbank lending rate most commonly used by banks, had been set at 5.56125pc. This means the rate is now 106.5 basis points lower than the pre-cut level yesterday.

Before the conclusion of yesterday’s two-day meeting of the Monetary Policy Committee LIBOR had already been drifting lower on the assumption of a minimum 50 basis point cut and had, in effect, priced in part of yesterday’s cut. Which makes any accusations of “not passing on the full cut” as nothing more than attempts to grab headlines. However,  Abbey and LTSB were quick yesterday to say they’d pass on the full cut to their Standard Variable Rate mortgagors, though that might be more about PR-induced protection.

Whilst the substantial drop in 3-month LIBOR is welcome, it is still just shy of 150bp more than the Base Rate. This compared to the 16bp before the Credit Crunch.

What is needed now is liquidity to ease up. In the short-term this may prove to be difficult given the continued global deleveraging and need to strengthen the balance sheets for the end of the year.

The continued contraction of the UK economy, per capita GDP has been contracting since Q2, will provide another stumbling block and increase the unwillingness to lend to consumers who have anything but pristine credit. Until the LTVs of mortgages are increased, the housing market will continue to struggle to find any volume.

For now the news on LIBOR is good and has the potential to provide a little pre-Christmas shot in the arm to the stockmarkets if nothing else. However, without the increased availability of credit yesterday’s Base Rate cut and today’s LIBOR fix are moot. After all, it doesn’t matter how low rates are if no one is lending.

The Bank of England’s Monetary Policy Committee concluded the monthly two-day meeting by surprising the market with a gargantuan 1.5 percentage point cut in the Base Rate, reducing it to 3.00% and storming through the previous multi-generational low hit in 2003 as the rate hit its lowest point in 54 years.

Media and economists had been debating all week whether the 50 basis point cut which had been baked in would be topped with something as inconceivably as large as a full percentage point. In the end the chatter was meaningless as 150 basis points sliced off the rate in one go, the biggest single meeting cut since 1981.

At midday the Base Rate was suddenly a third less than it was at 11:59.

Rationally speaking you can see why such a large cut, however belated many may consider it being. The difference between LIBOR, the London InterBank Offered Rate, and the Base Rate has widened tremendously since the Credit Crunch commenced. From a pre-Crunch premium of just 16bp for on the 3-month LIBOR rate, the rate banks most commonly borrow at, to a recent peak around 180bp, it is this rate which is impacting what consumers end up paying when they borrow.

It is hoped that such a substantial cut in the Base Rate will drag interbank rates down, both on a nominal and relative basis. providing some relief for borrowers whilst still allowing banks to gradually rebuild their balance sheets.

With the economy already in recession, per capita GDP contracted by 0.15% in the second quarter of the year, and house prices dropping like the proverbial stone, something was needed to try to make people feel better. No doubt the hope is that such a sizable rate cut will encourage lenders to lend and borrowers to borrow, reinvigorating the consumer and putting a floor under the housing market, though higher LTV mortgages will be needed for the latter.

As for the by-election in Glenrothes, I doubt any potential impact at on the outcome was high on the list when the MPC made its decision.

Earlier today the Danish Central Bank raised the key interest rate by 50 basis points to 5.50%. In a statement the bank said:

“As a result of continued intervention to support the Danish krone, Denmark’s Nationalbank increases the lending rate and the rate of interest for certificates and deposits from 5 percent to 5.5 percent”.

The move is designed to protect the currency, which is pegged to the Euro, in the face of recent foreign exchange outflows.

It is the second hike in the key interest rate in three weeks, the rate was hiked by 40bp on October 7th from 4.60% to 5.00%. However, today the discount rate and the current account rate were kept unchanged at 4.50%.

Denmark’s rate increase comes just a couple of days after the Hungarian Central Bank, Magyar Nemzeti Bank, raised their base rate by 300 bp from 8.50% to 11.50% , in an attempt to defend the Forint.

During a time when it would appear that Central Bankers are competing to see who can weaken their currency the fastest, such defensive hikes in interest rates may be a warning sign of even more severe problems ahead.

At one point today Sterling was down by over 10% on the day against the Yen, less than 140 Yen for your Pound. On Monday you could get close to 180. In August you could get 215. Last year the peak was 250. Against the US Dollar, things are less terrible. Five year lows only mean a slightly less than 25% drop in the number of Dollars-per-Pound from the year highs.

However, there is a point when the pursuit of devaluation by a bankrupt Government, interprate that how you will, goes too far and the world turns round and says it wants nothing to do with your currency. It is a fine line between the intentional devaluation of a currency and the unintentional collapse.

At that point, the Central Bank would have to dramatically raise rates or face a rout of the currency. The thought of ERM 2 must have reached the minds of some of those in Threadneedle Street today. How would the market react if, at the start of a recession, they suddenly do a 180 and ramp up interest rates?

This all begs a question. Which global player has the currency most likely to go in to crisis? And, just as importantly, when might that crisis be?

With all respect to Denmark, Hungary and Iceland, who have even more problems, these country’s currencies are not key players on the global stage. However, as history has shown, before any big blow up there will be warnings from the periphery.

Think the Bear Stearns hedge funds in February 2007 . . . Warning. Or closer to home, how new build flats signalled an impending turn in UK property prices in September 2006, when some were selling at 40% off . . . Warning. How UK GDP growth rates confirmed a very negative trend change in 2007 . . . Warning.

Could it be the same with what has happened over the last few days and weeks with the assorted European currencies? The foreshadowing of a bigger and badder currency crisis to come.

If it is, then it could mean that the toppling of Crisis Domino number 5 is closer than was thought. Though the declines in Sterling could be classed as a dramatic devaluation.

Whenever the Currency Crisis Domino topples, my guess is that it will be a G7 currency. Be it this year, next year or, which would have been my guess a few months ago, when all the monetary inflation recently created finally comes home to roost a few years from now.

For now, the battered currencies are due a breather. The overdue technical bounce in the stockmarkets should help many of those currencies beaten up in recent weeks to stage a partial recovery. However, the fundamentals haven’t changed.

The massive personal debt accumulated by consumers in Anglo-Saxon economies hasn’t gone away. The mountains of debts and unfunded liabilities created by profligate western governments is still there. The transition of power from the West to the East is continuing. The big picture stuff is still the same. The Yen and Yuan are still in secular bulls. Sterling and the US Dollar are still in secular bears.

The warning signs are there. Iceland, Hungary and Denmark are hinting at the dangers, and surprises, that might lay ahead. As the massive liquidations continue amidst the Great Deleveraging the only thing that seems to be certain is the uncertainty.

It has been on the cards for months, if not since the run on Northern Rock, the over-extended, securitisation-dependent lender cannot go on alone. The announcement of £26 million of losses by the buy-to-let lender on August 29 cemented the downward spiral for the once respected building society.

The solution, as reported across the full spectrum of media, comes in the form of banking, Government style. Nationalisation.

One thing the media isn’t mentioning, just as it didn’t bother to point it out when the run on Northern Rock occurred, is that these banks based their business models on the one which the Government was keen on Building Societies emulating.

On July 11th 2007 H. M. Treasury issued a press notice - http://www.hm-treasury.gov.uk/newsroom_and_speeches/press/2007/press_76_07.cfm - concerning mortgages.

Following on from statements made by Prime Minister Gordon Brown, Chancellor Alistair Darling, admittedly not long in the job, announced a number of initiatives to improve the way that the mortgage markets works.

Whilst still pushing the 20 and 25-year mortgage mantra, as well as some form of UK version of Fannie Mae, “yes really”, it was the content lower down which should have had media types calling for Government heads on spikes when Northern Rock happened, let alone with Bradford & Bingley today.

Whilst the real meat is in the “Notes to Editors”, particularly points 3 and 4, this part of the release should have been worth the sacrifice of at least one Government scapegoat.

There is a statutory requirement on building societies to raise at least 50 per cent of their funds in the form of shares held by individual members of building societies. The Government is supporting a Private Members Bill currently before Parliament, which proposes to increase the proportion of funds which may be raised from sources other than individual’s shares up to 75 per cent. This will give building societies greater flexibility to raise funds in wholesale markets, if they wish to do so.

That actually means reducing the level of deposits from 50% to 25%. Put that another way, debt:deposits goes from 1:1 to 3:1.

So, it would appear they wanted Building Societies to:

• Treble their debt
• Rely on the wholesale money markets
• Borrow short and lend long

Instead of a 50% loss on bad debts wiping out savers, the Government proposals of 11th July 2007 would have only required a 25% loss to leave all those depositor-owners of the mutual building society with nothing, except for the £35,000 the Government guarantees. Though at the time the old 100% of the first £2,000 and 90% of the next £33,000 applied.

Just focus on the key proposals the Government was making to the boring, and not-heavily-indebted, Building Societies . . .

• Borrowings to Deposits of 3-to-1 . . . Like Northern Rock
• Rely on the money markets and not deposits for funding . . . Like Northern Rock
• Borrow short and lend long . . . Like Northern Rock

Which begs the question, how many more Northern Rocks are there?

After all, here we are about a year on from the run on Northern Rock and Bradford & BIngley is apparently being nationalised. Cheshire and Derbyshire building societies announced a couple of weeks ago that they were being subsumed into Nationwide. Then we have the headline grabbing takeover of HBoS by LTSB, which is still subject to wrangling.

Are there building societies out there who did what Alistair and Gordon wanted? Who borrowed heavily in the wholesale money markets? Who borrowed short and lent long? Who are now in possible trouble as a result? Who will end up being swallowed up by a competitor or the State?

Which brings me back to the title of this post and the ‘Government Style Banking’ bit. Is Nationalisation the Government’s style of banking? Or, is a highly indebted, securitising, borrow-short-lend-long approach the Government style?

Midday came and went, and with it the annoncement that the Bank of England’s Monetary Policy Committee had kept the base rate at 5%. The September meeting was over and nothing had changed.

With commodity prices having peaked and now in a consolidation phase, let alone what is happening to house prices and real per capita GDP, I had hoped that they’d surprise and cut. Adding some wind to Darling’s housing hodge podge from Tuesday.

I was wrong.

Now we need to wait a fortnight for the publication of the minutes to see who voted for what. The question being, how many voted for a 25bp cut and how many, if any, voted for a 50bp cut?

Given how far price inflation is above the Bank of England’s, ignored, target reason would suggest a hold.

However, I see four possible flies in the no-cut ointment.

1. Having finally dawned on King that the economy has been deteriorating since last year, he now decides to play catch up. Look at the change since the May Inflation Report. As a result he gives in, listens to David Blanchflower and, might even, go overboard.

2. Price inflation is close to peaking, if it hasn’t already. Last year the Commodity Index indicated it would peak Q2-Q3 this year. It did. The trend is down and sideways for another year-and-change, at least. Which also fits with the pattern of the 1959-1975 RPI secular bull.

3. A co-ordinated effort to provide base rate back-up to the hodge podge of “panic” housing measures announced yesterday.

4. It is now accepted as a given that they won’t cut. It is not on anyone’s radar. So surprise factor might count for something. The contrarian in me suggests that adds weight to the cut argument.

The economy is tanking. Per capita RPI adjusted GDP contracted about 1.12% in the year ending Q2. Even per capita GDP using the Government’s calculation method contracted 0.15% quarter-on-quarter in Q2.

Sterling is already going down the crapper, after all the real value of the currency is slightly less than toilet paper anyway.

Sterling weakness certainly makes a good case for not cutting. Then again a weak currency would be good for exports. And exports are the only chance of having anything good happening with the GDP figures.

The Japan-deflation scenario that I put at a 1-in-10 chance in October 2006 and which fell to even money at the start of this year is now looking odds on as the chill winds of the Kondratieff Winter bite.

All this suggests to me that there is more chance of a cut than is being accounted for. Which is why “I think there is a 60% chance they’ll surprise and cut“. Which forces me in to the “they’ll cut” camp.

Whether they cut tomorrow or next month, there is one thing you need to pencil in to your economic almanac.  Prepare now for Sterling and the US Dollar to fight it out to be the carry trade currency of the next decade.

Although I have only taken a cursory look, the measures would appear to be inadequate and likely to be long-term detrimental to the housing market.

The HomeBuy Direct scheme. Providing financial incentives for first-time buyers to buy the unwanted housing stock sitting on the developers’ books,  seems to have the immediate negative effect of making it more difficult for existing homeowners who want to move up the property ladder to sell their homes to FTBs.

0% Stamp Duty Threshold Raised to £175,000. Weak. Pathetic. Meaningless. The pernicious tax that is Stamp Duty should have been completed reformed. Greed stopped them. I guess the incumbents, though for how much longer they will have that title is open to debate, still think things will bounce back and the obscene amounts that came in pre-bust will start flowing through the door once more. It won’t. Wake up and smell the secular bear. It is a new game with new rules. Stop holding on to the past.

Councils Buying Unsellable Properties From Developers. So the taxpayer, one way or the other, is to fund the Nationalisation, that is what it is make no mistake, of the properties that actual buyers don’t want to buy.

Which makes me think that an awful lot of those “lifestyle” city centre flats could end up in Council hands. Given how many flats in certain blocks are unsold, we could be looking at the sink estates of the future. Blocks of flats filled with everything from the genuinely housing-list needy, to the latest migrant workers and, what I call, the benefitionados.

Just a thought, if you own a flat in one of those blocks now might be a good time to start panicking.

I think that the above also signals a potential body blow for buy-to-let. Not the death knell . . . yet.

There is more to the Government’s panic measures than the above. This is only a cursory review. But it all plays in to the Secular Bear in Homeownership that I have spoken about before and that, hopefully very soon, there’ll be a free downloadable report on.

The last couple of weeks have seen a myriad of headlines expressing a fear of recession, asking will we go in to recession and, if so, when the recession will start. Rather than asking the when and if, why aren’t they asking how the when and if are calculated?

Adjusting GDP for RPI inflation makes the growth rate instantly negative. Real GDP is in the midst of a veritable contractionfest. In Q2 RPI adjusted GDP contracted 1.56% on the previous quarter. But that is aggregate GDP. What about per capita GDP?

If the population is getting bigger, GDP should be expanding anyway. The most recent population figures from the ONS put it at 60,975,000 at mid-2007, up 388,000 from mid-2006, a 0.64% increase.

On our provisional estimates the year ending June 2008 will see a 0.6% annual growth rate, about 366,000. The combination of continued indigenous population growth and the change in the mix of migrant labour.

On those estimates we get the following:

You can see the difference calculation method can have on perceived GDP growth rate and, therefore, whether you can claim recession or not.

The Government’s preferred method of calculating GDP growth is to apply the “GDP Expenditure Deflator”, a name with obfuscation built right in. Coincidentally, this method shows the GDP growth figures in the best light, 1.4% on the year for aggregate GDP. Use CPI or RPI inflation and the result is completely different. Only 0.67% growth applying the CPI and a 0.53% contraction applying the RPI.

Switch to per capita GDP from aggregate and things look even worse. Even the Government-friendly version shrinks to 0.80% annual GDP growth. CPI adjusted growth barely manages to stumble in to positive territory at 0.07% and RPI adjusted GDP contracts 1.12% on the year.

Whether you want to accept the Government’s numbers, any of those above or do your own calculations, is up to you.

At the end of the day, media prognosticating of when the recession will hit is meaningless. What you want to know is, “when will it hit you?” Having a clearer idea of what is really happening to the GDP’s growth rate may help you ascertain that.

At first glance the statistics on buy-to-let mortgages, arrears and repossessions, released yesterday by the Council of Mortgage Lenders, would seem not that bad. That BTLers are weathering the current market better than encumbered owner-occupiers. Closer inspection would suggest that the BTL sector is deteriorating . . . and fast.

To start we shall look at the most impressive part of the data, the continued growth in the number of BTL mortgages.

The total number of BTL mortgages outstanding rose by 78,700 in the first half of 2008, to 1,103,000. Even more impressive when you think that the number of residential mortgages actually contracted by 81,000 in the same period. Though it needs to be kept in mind that the residential market is ahead of the BTL-curve in repossessions and properties becoming unencumbered.

The good news seems to end there.

The press release made a point of the arrears, especially focusing on the percentage being less those being experienced by their enmortgaged residential counterparts.

Unlike the residential stats, the BTL numbers only quote percentages. A little math and the truth behind the percentages becomes clearer, even if it is approximate.

You can see how the total number of mortgages in 3+ months arrears, the blue columns, have risen dramatically in the last 9 months. Since 2006 Q3 quarterly stats have been released which also include a breakdown of the number of properties being repossessed, the green column. Knowing that gives us another, more revealing, number.

A property is not going to be repossessed spontaneously. For the situation to deteriorate that far many mortgage payments are likely to be missed. In whcih case, those properties that were repossessed this quarter were most likely in the arrears column in the previous quarter. Which means . . .

Increase in total arrears plus Repossessions equals Actual new arrears. Which is the red column.

Technically, there could be more new arrears as some previous arrears have been paid off. But the calculation above makes sense as a general rule of thumb.

What we get are figures for new arrears even larger than the surging numbers the naked stats would have you believe. It is also far removed from the rose-tinted BTL world being painted.

To emphasise the point, the chart below compares how the last three quarter’s arrears stack up against those which had accrued previously

The rapid increase in delinquencies could not be more obvious.

As of Q3 2007 the total number of BTL mortgages with 3+ months of arrears was 5,974. In Q4 the total number increased by 1,518, the largest increase in the history of BTL. The largest until Q1 2008, which saw a 2,149 increase. Which was then trumped by Q2 2008 with a 2,499 increase. In percentage terms those are increases of 25.4%, 28.7% and 26% respectively.

Using the ‘new arrears’ numbers instead things look even bleaker. 2,122 new arrears cases in Q3 2007, 3,015 in Q1 2008 and 3,421 in Q2 2008. All record busting numbers. Increases of 35.5%, 40.2% and 35.5% on total arrears respectively.

What does this trend suggest?

Unless the market improves and criteria loosen, unlikely, the second half of the year promises:

1. 9,000 new ‘3+ months’ arrears cases;
2. 7,000 increase in total arrears;
3. 2,000 repossessions.

Revised GDP growth figures, released earlier today, put reduced
quarter-on-quarter GDP growth to zero, from a previous 0.2%, taking the year-on-year growth rate down to 1.4%.

The problem I have is that those figures use the Government’s preferred method of calculation, applying their GDP Expenditure Deflator. A deflator which is substantially less than CPI, let alone RPI inflation. It all has a vibe very similar to the non-core CPI figure, i.e. that it is an inflation figure with most the inflationary things taken out.

If you apply RPI inflation to the GDP figure you get a different picture.

RPI-adjusted (RPIa) GDP contracted 0.53% compared to the same period last year. The biggest year-on-year drop since Q1 1991.

The quarter-on-quarter figures are even worse. A contraction in RPIa GDP of 1.56%, the largest since Q2 1981. This is the biggest quarterly drop in 27 years.

But here’s the kicker. Both those 1991 and 1981 figures were when coming out the other side of their respective recessions. That means there is more down to come before the up begins.

That gives at least 4 to 6 percentage points of contraction in RPIa GDP still to come, and I mean at least. Which is all in line with what I wrote in Recession in 2008 a Certainty, back in October last year.

As has been observed before, the RPIa GDP growth chart tends to lead the Government’s version of the GDP growth rate in either direction.

Something to keep in mind whilst waiting for opportunities to present themselves.