Sunday 13 June 2010

Currents in the sea of debt

Michael Panzner, author of "Financial Armageddon" (a book I reviewed 3 years ago when I began to relay advance warnings of the credit crisis), is a great miner of news and comment. Here he has unearthed an article that analyses the apparent improvement in USA household debt figures.

It seems that there has been over $400 billion in defaults; and many of those who haven't defaulted (yet) have continued to increase their debt. If the economy continues to struggle, perhaps a portion of the latter will also renege on their financial obligations.

One coming blow to the US economy is a fresh wave of mortgage problems. Traditionally (and unlike in the UK), domestic mortgages were fixed for the entire term of the loan, but in the late greedy rush to make fortunes in fees, banks and brokers offered housebuyers "option ARMs" (adjustable rate mortgages with an initial very low interest rate fixed for a few years). These loans are due to start coming off their "teaser rates" over the next couple of years.

That's when many homeowners may either be forced to default, or choose to do so because they calculate that falling house prices will catch them in a negative equity trap. In many (not all) cases, they may be able to default and leave their credit problems behind, because the loan may be of a kind that is attached to the property only - the lender can't pursue the borrower for any debt left over after selling the house. So all the beleaguered borrower has to do is send back the keys - the slang for this is "jingle mail".

Lots of American houses are built of wood. Standing empty and uncared for, they are likely to deteriorate quickly, even if they haven't been trashed by resentful ex-owners as a parting slap to the repossession teams. And there is still plenty of land to build new houses, so an existing property in poor condition may never find a new buyer - especially if it's in an area blighted by unemployment and rising crime, like former "Car City" Detroit.

The bankers have been sustained by huge financial backing from the government, but it may not be possible to light that match twice. Put "financial crisis" and "second wave" into your Web browser and you'll find lots of material to support the view that we are merely in the eye of the storm (another phrase now frequently used, e.g. by Tim Wood here).

I therefore remain cautious about investment, yet fearful that governments will try to escape their obligations through inflation.

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