The Bank of England did see the crisis coming. It did make noise about it. It did foresee a banking collapse and a house price slump. It did see the recession coming.
Given how much criticism the Bank’s Governor, Sir Mervyn King, has come in for in the wake of his mealy-mouthed apology for his shortcomings during the crisis, the above might take you rather by surprise. But contrary to the conventional wisdom, the Bank did warn of the impending crisis – all the way back in 2006.
The only problem is, the powers-that-be (and it’s unclear whether this was Sir Mervyn or others) decided not to shout this message from the rooftops – instead it chose to whisper it from deep within its walls.
I know all this because, six years ago, I was one of the journalists who heard that whisper.
Try, if you can, to cast your mind back to 2006, when the housing market boom was in full swing, the economy was growing pretty fast and inflation looked to be under control. Boom and bust, you may recall, had been eliminated.
Some were warning of the prospect of a housing crash, about the risks associated with all the debt the Government, companies and households were taking on; but few anticipated something that would prove worse for the UK than the 1930s. And the Bank’s own economic forecasts refused to countenance the notion that even if the housing market did plummet, it would trigger a recession.
Around that time, I was ushered into the Bank one day to discuss the institution’s forthcoming Financial Stability Report. This report was typically such a dry affair (who, after all, cared about the deeply unsexy subject of financial stability back in 2006?) that the Bank took the unusual step of inviting journalists into its hallowed halls to persuade them to cover the report.
So it was, one summer morning, that I found myself in one of the rooms in the central part of the Bank (the smart offices for senior officials, and the Governor, known as Parlours) being stared at by a couple of very serious-looking officials. They were jabbing their fingers energetically at one of the charts in the report – the one below, to be precise.
What’s so special about this chart? Well, it represented the first time anyone from a major institution pinpointed the fundamental problem that would trigger the financial crisis – and indeed the collapse of Britain’s banking system. Banks were lending out far more than they had in their reserves. This chart shows you the extent to which, across the UK banking system, institutions were overextending themselves, relying on short-term loans to make up the difference.
As I wrote in the Telegraph back then, “One statistic in particular shows precisely how exposed the City is to the bursting of the household debt bubble. At the beginning of 2001, our banks were not lending customers any more than the total amount of deposits they held. By the end of 2005, banks were lending customers £500bn in cash which simply wasn’t in the vaults. Should customers default on their loans, these banks could be in trouble, having to resort to borrowing chunks of money at penal interbank rates.”
This was over a year before the interbank market froze, which in turn triggered the collapse of Northern Rock, and ultimately drove RBS and Lloyds into nationalisation.
And the striking thing is that at that point no other major policymaking body – not the Financial Services Authority, not the Treasury, not even the Bank for International Settlements – was pointing towards this fundamental vulnerability in the banking system. The Bank of England did see the crisis well before most others.
But there is, of course, a major difference between spotting a trend and doing something about it. And the Bank could and should have done far more to draw attention to this vulnerability in the financial system.
Moreover, even where it did have direct powers, it didn’t necessarily use them. The Bank was in charge of monetary policy, but contrary to Sir Mervyn’s insistence in his radio interview this morning that there were no signs that the boom preceding the bust was unsustainable, the Bank did little to prevent an enormous build up in Britain’s money supply.
Money supply figures are an obscure statistic, but they do have a bearing on economic growth, and as you can see from this chart of M4 growth (the broadest measure of money), it was steadily building up well before the onset of the crisis.
Sir Mervyn did, again, make some worried noises about this, but didn’t follow them up with the action necessary to pre-empt the ultimate crash.
Now, there is certainly something in the notion that given the scale of global financial flows in the run-up to the crisis, one institution could hardly have prevented Britain from experiencing any pain.
But nonetheless, Sir Mervyn King is the only policymaker who has straddled both the boom and the bust. He has a fine record as Governor. But the fact that the Bank identified some of the risks facing the economy only underlines the fact that it failed to do more about them.
Impressive and intelligent though he undoubtedly is, some of the blame for the worst financial crisis and longest slump in British economic history has to be laid with him. And at least a touch more than he owned up to last night.