Sub-prime:Who will pay?

Who will pick up the bill, if the current crisis in the US sub-prime mortgage market worsens?

To an extent, central banks around the world have already answered that question, by showing that they are prepared to kick in billions to steady world financial markets.

That question, though, is still worrying authorities.

The Treasurer, Peter Costello, admitted that today.

“I think the fall out from the US sub-prime market has a considerable way to go,” he told reporters in Melbourne.

The Reserve Bank’s assistant governor (Financial System), Philip Lowe, had also broached the subject, in a talk he gave to a conference on Globalisation and Systemic Risk, in Chicago, earlier in the day.

His analysis was more detailed than the Treasurer’s

Mr Costello delivered his usual commercial for the government.

He said its good economic management had seen Australia safely through both the US recession of 2000-01 and the 1997 Asian economic crisis. Admitting that the US might well be about to “turn down” again, Mr Costello urged voters to stick with the proven performer.
“We can keep Australia strong with experienced management and good policy,” he said.

Mr Lowe said Australia’s flexible exchange rate, its open capital market and its “relatively deep securities market had helped it weather those storms.

He was too diplomatic, of course, to recall that much of the credit for that was due to a Labor Treasurer, Paul Keating, rather than to Mr Costello.

However Mr Lowe did mention a new risk, that has so far received very little, if any, public attention.

He said changes in the global financial system had “clearly run ahead of the supporting regulatory framework.”
“We are ,moving inexorably to a world of global financial institutions that are operating in global markets,” he said.

“Yet crisis management largely remains essentially local.”

The risk this presents is serious.

Mr Lowe, himself, put that very eloquently.

“Who pays for any bailout?” he asked, rhetorically.

That question has yet to be answered.

It should not, however, incite panic.

True, the Great Depression of the 1930s was produced, largely by major countries adopting beggar thy neighbour policies, when the going got tough.

But the world has learnt much since then. The integration of world financial and trading systems, under globalisation, has been both rapid and powerful.

Mr Lowe, however, has clearly done the world a great service by pointing out, so clearly, that serious risks still remain.

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