Monday, 1 December 2008


Sense would suggest that now is a good time to be free of debt and have a load of cash in the bank. Think again.

Democratically-induced politicians across the western world are looking at their electoral chances and weighing up options. The easiest solution to the impending downturn is a fiscal stimulus paid for by tomorrow’s people. And in an ideal world, this will prevent a slump by maintaining employment levels as excess credit/liquidity/money drains away.

The second option is to focus help out all those indebted householders. Firstly, by making sure that there is a mortgage market even as the securitisation market collapses. And then by pressuring central banks to cut interest rates sharply, allowing banks to re-invent their old pre-securitisation business model, while keeping people’s mortgage payments low, and allowing back in a bit of inflation. Deflation, they say, is now the main enemy. A little inflation, on the other hand, is benign because it will reduce debts.

(Those that argue that deflation is looming are not wrong. However, the jury's still out on whether it will actually occur. But what is certain is that policymakers do not mind if there is more inflation in the system than they would have accepted previously.)

Savers and retail investors, meanwhile, are stuffed. Equity prices are through the floor (with little sign of a recovery for at least six to nine months) while banks are not willing to pay for savings.

There was a moment, around the summer, when banks’ wholesale funding costs rose so high they started to
pay savers a healthy rate of return for deposits. This has now ended, and rising inflation means that savers have to work hard to make any money at all from their funds. The savings rate for a good bank is around 4-5%, and only if you look around. The retail price index is also around 4-5%. Therefore saving money in an average bad savings account will actually lose you money. (That is, if you can open one!)

The phrase moral hazard keeps springing to mind. Or in normal English: why are people being punished for making the right choices while others rewarded for making bad decisions? Debtors are being bailed out while savers are being stymied.

There are those that say we should simply save more and spend less. But this would be likely to worsen the downturn in the short- to medium-term. The ideal ('goldilocks') solution for the economy would be for the savings rate to steadily increase whilst offsetting the troubles in the economy through sensible long-term fiscal boosts.

Restoring banks' profits by stuffing savers with sub-inflation rates and poor investment options whilst reinflating asset bubbles aint gonna help any. And dumping cash into a bank aint gonna do much. The only option is to invest it somewhere (be brave!) or to spend it. Tough times.


Sam Dooley said...

Whether there's inflation or deflation, paying down your mortgage is likely to be a good investment now. If inflation, you won't be paying the higher mortgage rates in a few years time, if deflation you won't owe more on a declining asset than its value.

T1 said...

But what if you have no debt, no mortgage? What if you are, say, a prospective first-time buyer (needing to raise £30k+ for a deposit) or a pensioner?

MAR said...

In a deflationary environment earning 4-5% is a good deal. The real interest rate could be as high as 8+%.

Anonymous said...

"The savings rate for a good bank is around 4-5%, and only if you look around".

You quite sure about that? I only last week shoved a decent five figure sum into an above 6 percent savings vehicle. They are there if you dig them out.

The real screwface for a saver is a) currency and b) the sneary attitude of gold bugs.

My personal feeling is that this loser joke of a government is spending to high heaven and now can't attract the investors needed to buy out the debt. I have a faint feeling we might be going a little Weimer soon as they start printing money while everything falls through the floor. Now there would be a paradigm that bucks the rules.

In that case, as a pensioner, I suggest buying bags of pasta and UHT milk, moving to a semi rural area and investing in a solid fuel stove.

For an FTB ... sorry, luv, you are pretty fcuked.