Bank of England's Ben Broadbent warns interest rates could climb as soon as eurozone crisis is resolved
The eurozone crisis and the sucker punch it delivered to the UK banking sector is at the heart of the UK's current economic woes, a Bank of England policymaker said on Thursday, giving support to the chancellor's view that external forces are largely to blame for the country's current predicament.
Ben Broadbent, a Goldman Sachs economist who joined the central bank's monetary policy committee last year, also warned that interest rates could start to climb as soon as the eurozone crisis is resolved.
In a speech to City executives, he said an analysis of the last decade showed that dealing with the massive debts racked up by UK banks ahead of the Lehman Brothers collapse is more significant to exiting the recession than driving down household debts.
Banks faced a double whammy from the euro crisis, which triggered a second credit crunch and restricted their ability to restructure an exposure to loans across the world.
"What distinguished the UK, more than the indebtedness of its non-financial private sector, was the size of its banks' overseas balance sheets," he said.
"To the extent that any single thing can be a useful diagnostic on the state of credit markets, and the prospects for sustainable recovery, it is therefore more likely to be found directly in the UK banking system (its funding costs, for example) than in the domestic non-financial sector.
"And though the latter can affect the former, it remains the case that the most important risks facing the UK banks, and therefore the supply of domestic credit, emanate from outside the UK."
Households spent much of the 1990s and 2000s building up debts, mainly through an escalation of mortgage loans.
But older households who sold at the top of the market largely invested their gains in other savings products and pensions, leaving the net position of the household sector roughly the same as in 1990, said Broadbent. He said this development had huge implications for the intergenerational transfer of wealth from young people forced to take on larger mortgages and older people who sold their homes, but meant the rise in bank debts was related to commercial and international loans.
He said: "At the end of the 1990s, UK-owned banks had estimated overseas exposures of £500bn or so. By mid-2008 these had grown to over £2,500bn. This is significantly more than their exposure to the domestic economy, around twice (specifically) their lending to the UK non-financial private sector.
"In terms of changes, these estimates imply that overseas assets contributed almost six times more to the growth of UK-owned banks' aggregate balance sheets than did loans to domestic households and non-financial firms."
He argues that it is these overseas assets that pose the biggest risk to banks and when the global economy returns to health, so will bank balance sheets. When that happens, the Bank of England's MPC will start to raise rates.
"If we focus solely on domestic debts (residential mortgages in particular) we are in danger of being too parochial about the key risks facing the economy," he said. "What distinguished the UK was not so much the size of its mortgage market but the extent and riskiness of its banks' overseas balance sheets.
"It is there that most of the losses were made, and there still, in my view, that the larger risks reside. As such, it is perfectly possible that funding and credit conditions could improve, and a withdrawal of monetary accommodation become warranted, quite independently of the gearing of domestic creditors."