ColdFusion - Things Aren't Looking Great for the UK

Starting point is 00:00:00 The British pound hitting an all-time low today against the dollar. One pound equaling about a dollar three cents. It's now back up to like a buck seven. Hi. Welcome to another episode of Coldfusion. Last week, the world witnessed one of the most troubling financial situations in quite some time. The UK's pound, the fourth most traded currency in the world, had declined more than 5% in one day, essentially reaching parity with the US dollar.

Starting point is 00:00:29 Imagine losing 5% of your savings overnight. This was the lowest point that the UK currency had ever reached in its history. The crash threatened to blow up almost 50% of the nation's private pension savings, only to be averted just at the last second. So what happened? In this episode, we'll take a look. To get the full picture, we must go back a few months. During that time, the United Kingdom started facing a cost of living crisis.

Starting point is 00:01:02 Energy prices in Europe were rising due to the ongoing. Russia-Ukraine war. Inflation reached 10% in August, the highest level in 40 years. Amongst this backdrop, the newly elected government headed by the new Prime Minister, Liz Truss, unveiled two policies that played a key role in the events of last week. The first policy announced on September 8th was the energy price guarantee. The aim was for the government to cap energy expenses for the average family at around 2,500 pounds per year for the next two years. years. Supposedly, this would be a saving of £1,000 per year. The scheme is poised to cost £100 billion during the first year. Without having the budget to sustain such costs,

Starting point is 00:01:48 the policy will be financed exclusively by government debt in the form of bond issuance, which you guessed it, is inflationary. The second policy was announced on September 23rd by Kwasi Quoteng, the new finance minister. It was supposed to be a historic tax cut plan, both for individuals and companies. The intention was to alleviate pressure and give the economy a boost, ensuring steady growth. This policy was going to be funded by government borrowing,

Starting point is 00:02:15 and this was going to cost an additional £45 billion. But despite the noble intention of protecting those who are more impoverished, the policy was heavily criticised. As some research points out, the rich were going to benefit two times more than the poor. The international market looked at this, and it drove them into a panic. The thinking was, all of these schemes are just going to increase inflation, basically causing more problems than they solve.

Starting point is 00:02:42 It led to a lack of faith in the UK currency. All of this leads to September 26th and the famous decline in the value of the UK pound. There was a negative response and much scepticism over the effects of these new policies and their effects on the UK economy. This all led investors to sell their great British pound denominated assets. The result was a large decline in the value of the British pound, as it was a large decline in the value of the British pound, as it was exchanged for other, quote, safer currencies. As the markets turn red, certain financial institutions weren't prepared to handle such a large decline in value.

Starting point is 00:03:22 This was the case for the majority of pension funds in the UK. In total, they held almost half of the private savings in the country. The problem originated from a niche financial product that investment banks offered to pension funds. These products involve leverage, which amplifies losses, And this leverage also required collateral, and a large part of the collateral was held in UK national bonds. As asset prices started to decline due to the previously mentioned policy announcements, the banks began to ask for more collateral. This forced pension funds to sell some of their assets to meet the obligations.

Starting point is 00:04:04 Soon, the market was full of pension funds looking to sell their government bonds as they attempted to meet their new collateral requirements. With little demand and a lot of supply, the prices started to nosedive, putting the entire financial system in distress. It was the start of a doom cycle, and if it completely blew up, almost 50% of private savings in the UK would have been decimated. But a crisis in Britain's pension system is a crisis for the whole financial system. Pension funds were suddenly faced with the need to raise collateral money that they needed to pay. the companies that they had taken out contracts with on an immediate basis. So they were actually adding to the vicious spiral by selling gilts in the market as well, which then made prices go even lower.

Starting point is 00:05:00 Very soon after the chaos began, the Central Bank of England was forced to step in. They did so by promising to purchase $65 billion worth of government bonds over 13 days. This essentially put a flaw on the prices of UK bond. As a result, they were able to stabilize the bond market and prevent a doom cycle. This is where supply exceeds demand by so much that the prices go to zero and assets become a liquid. As crazy as this sounds, very possibly the UK economy narrowly avoided crashing in the fashion of a third world nation.

Starting point is 00:05:34 A warning from the IMF, central bank intervention, disorderly currency movements. You would expect the combination you just cited. to appear in a struggling developing country with weak institutions. So, with the help of the Bank of England, the crash seems to be averted for now. As of the production of this video, the British pound has recovered to its previous levels, and the bond market slowly stabilized. But with that being said, the UK economy isn't out of the woods yet. A currency plunge followed by a mortgage spike and now a threat to the very plumbing that sits beneath our economy.

Starting point is 00:06:13 What happens next is anyone's guess. Inflation rages on, and there's still an air of encouraging businesses and individuals to spend more, pushing up demand, adding to inflation. As a result, imports will be more expensive, and energy costs will rise. There's also an escalating fear that inflation would make the Bank of England raise interest rates even further. In fact, Andrew Bailey, the governor of the Central Bank, affirmed that they will, quote, not hesitate increasing rates by as much as needed. This will in turn make borrowing more difficult for businesses as well as regular people.

Starting point is 00:06:52 The mortgage market is familiar with this pain. Since the whole debacle, mortgage lenders have withdrawn 40% of their new and available mortgages from the market, while at least 20 providers have extended their fixed rate programs. For the new buyers, this has made purchasing a home virtually impossible, while existing homeowners with fixed-rate products, remortgaging could double their interest payments, adding more than £2,000 a year to annual expenses. In the UK, 40% of all mortgage dollars are interest-only arms that will reset in January to around 4%. 40%. Can you imagine how upside down the UK economy is going to be when people have to spend three and four times more to keep their home?

Starting point is 00:07:39 As for the UK government, they've panicked and already reversed the tax cut policy. Admitting failure after all of this commotion and after just being sworn in is a terrible look for the current administration. The panicked price spike in the UK bond market has also cooled, so is the worst over. No, markets are calmed for now by the Bank of England's £65 billion band-aid and a report that Prime Minister Liz Truss will consult more widely on her bonkers plan to borrow money to cut taxes for the rich

Starting point is 00:08:12 but the market's desperately hoping that the lady is for turning. Meanwhile, so much money is flowing out of the London Stock Exchange the footsie is again getting close to losing its position as Europe's biggest stock market to France. So it's not just the UK that's in trouble. There's a lot going on in the financial world right now and I do want to make episodes on a lot of these but I'll summarise it here.

Starting point is 00:08:36 To start, two major financial institutions are in trouble, Credit Suisse and Deutsche Bank, and their stock prices have recently fallen by 40%. These are international systemic banks with $2.7 trillion in assets between them. These institutions are linked to other critically global financial institutions. So if they give out, many experts say that it might be another 2008 Lehman Brothers event. But at this point, nobody can be sure. It just looks risky. China is also having issues.

Starting point is 00:09:10 Their currency has fallen and the property market is shaky. Zero COVID policies are reducing economic output and causing pockets of civil unrest and there's much, much more. Globally, interest rates are rising, putting strain on the massive amounts of debt held by nations, companies and individuals. Investors are getting scared and running into the US dollar for safety, causing it to rise and become a wrecking ball, decimating the relative value. the relative value of other currencies, and because the US dollar is the reserve currency, pretty much all other countries needed to pay for basically anything, so it's a major problem. If things get bad enough, other central banks may reverse course, just like the Bank of England. They'll lower rates again and print more money.

Starting point is 00:09:52 It could stave off a possible depression, but at the sacrifice of all of our currencies. Alright, so that's a lot, so I'll stop cramming in the info here. But to wrap it up, back to the topic of this video. I'd like to hear from those in the UK. What are the conversations like among your friends and family? What does everyone think about the government's mishap? I'm very interested to see your comments. If you want to see another financial video,

Starting point is 00:10:17 I've made one on how money is created. And in watching it, you might see some things I mentioned happen already starting to happen. It's kind of interesting. Anyway, that's about it from me. Thanks for watching. My name is Dago, and you've been watching Cold Fusion. And I'll catch you again soon for the next episode.

Starting point is 00:10:34 Cheers guys. Have a good luck.

ColdFusion - Things Aren't Looking Great for the UK

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