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My Two Cents

Minsky Moments Take a Long Time

Chris Farrell Aug 19, 2007

A reasonable set of forecasts by George Magnus, senior economic adviser at UBS Investment Bank in London. It’s dated August 10. (I had set it aside and just got to it. The points he makes hold up well.)

(1) Losses will continue to mount and surface. This is particularly true in the
sub-prime and Atl-A mortgage markets, as noted by our US Mortgage Research Head, Laurie Goodman. Losses will build (to around 12% in the
sub-prime market) as the riskier 2006 ‘vintages’ are scrutinized. Also,
given the geographic and institutional dispersion of MBS and other credit
positions, losses are likely to emerge sporadically and over time, rather
than in one cathartic event.

(2) Market volatility will remain elevated. Insofar as high volatility typically
persists, this is a fairly straightforward conclusion. But also, given the slow
recognition of losses (as discussed above), adverse surprises are likely to
shock markets episodically over the coming weeks, if not for longer.

(3) Central banks and regulators will act. Already central banks have
demonstrated their willingness to provide liquidity, as needed. But equally,
financial regulators of all stripes and locations will move to identify
problem areas. This is likely to result in increased disclosure of losses, even if the process may be lengthy.

(4) Credit conditions will not revert to the status quo ante. Even when
market conditions stabilize, easy credit conditions will not resume. This is
particularly true in challenged markets such as sub-prime or undocumented
mortgage lending, but will probably be the case other areas of credit as
well. In the US housing market, the ongoing adjustment of excess
inventories and associated downward pressure on house prices make it
improbable for lenders to offer, for example, 100% financing. Equally,
borrowers will not be able to rely on equity gains to collateralize
expenditures as they have to date.

(5) Economic activity to slow. The world economy was probably already at a growth inflection point at mid-2007, but consensus forecasts are likely to
be shaved should tighter credit conditions persist. We and our regional
teams will closely monitor financial conditions and the possible impact on
activity in the weeks ahead before making determinations about the
magnitude of the real economy effects from today’s financial market

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