Imprudent borrowing will help lead us to financial ruin

FRIDAY, NOV. 16: It is a strange situation, but it is not new. Two major on-island institutions are doing nothing wrong. Both are acting commercially correctly. But they are enabling and abetting like someone who hears several loud sharp cracks but does not call police because he genuinely does not know what they are — but they turn out to be fatal gunshots.

That person is ultimately wrong, but can rightly and properly claim that he genuinely did not know what gunshots sounded like.

I stress that the two institutions are not, in any way, behaving incorrectly. Both are doing exactly what their commercial charters, bye-laws, directors, and shareholders require and expect them to do. But both are helping to create a problem situation.

Who, finally, is supposed to call a stop to financial activities that will clearly and absolutely result in financial ruin?

The subprime mortgage crisis in the US happened because most financial institutions kept loaning money until imprudent borrowers had gone well beyond their ability to carry the debt that the law of contracts said that they had lawfully incurred. When these imprudent borrowers failed to meet their contractual financial obligations, the lenders began seizing their properties. That’s when the US real estate market began imploding.

That implosion sucked the world’s biggest economy into its vortex. The rest of the world then got sucked into that whirling downward-spiralling financial disaster.

Between 2006 and 2012, Government revenue levelled off. In 2006/07 Government revenue was $883.7 million. Six years later, in 2012/13, though budgeted at $910 million, Government revenue will actually come in around $885 million. After factoring for local inflation, compared to 2006/07, that $885 million revenue of 2012/13 will only have the buying power of $735 million*.

In 2006/07, Debt Service Costs [DSC] were $18.3 million and 2% of revenue. This left Government with $0.98 out of every dollar.

But in 2012/13, DSC were $115.8 million and now a much higher thirteen 13% of revenue. Now Government only has $0.87 left out of every revenue dollar. 

Worse? In 2012/13, a total of [$85m Interest + $30.8m Sinking Fund] $115.8 million must first be extracted to cover DSC. This means that in final buying power, there is only [$735m in value - $115m] $620 million in value left as 2012/13’s real buying power. This relative buying power of $620m of 2012/13 must be compared to real buying power of $865m in 2006/07.

In 2006/07, Government’s net buying power [$883.7m Rev - $18.3m DSC] was $865.4 million. In 2012/13 Government’s net buying power is more like $620 million. That $245m reduction in real buying power is one helluva plunge!

It’s the kind of real revenue change that should send prudent bankers and wise lenders scrambling to slam and lock their doors in the face of that borrower – or borrowers.

But here at 32N64W, that is not happening. Instead, the major institutions are putting their names out there ‘running the book’ for new and additional national loans, and sending the resulting fees and commissions straight to their bottom lines.

Again, I state — unequivocally — the lending institutions are not doing anything wrong. They are following the diktat of commercial banking which is to lend and broker at a profit to the institution. Which is exactly what all the thousands of lenders in the ‘sub-prime mortgage crisis’ were doing.

However, with the slow forward roll of history, financial, economic, and social historians, analysts, and writers are now finding and fixing fault and laying blame. The clear eyes and dispassionate pens of honest social and financial historians are not finding cause for exoneration. Instead, they consistently find genuine cause for excoriation.

The June 2012 Fitch Ratings Report highlighted Government’s “deteriorating” Debt to Revenue ratio. Going forward, the proportion of each revenue dollar that must be expensed to DSC will continue rising. It will certainly rise to $0.15 in 2013/14. The “deterioriation” will continue.

Ultimately, absolutely, and shortly, this kind of negative change will result in an extremely sharp and unpleasant national financial reverse – a national implosion similar to what happened in the sub-prime mortgage crisis.

Once that happens, the financial institutions that are currently seen as doing no wrong will come in for strong excoriation that will last forever. 

As the sun rolls around heaven on this day and in the days just ahead, these financial institutions are simply following their commercial diktats. They are doing no wrong.

But history lies ahead.

* “This means that the basket of goods and services that cost $100.00 in April 2006 now cost $120.50” Department of Statistics [DoS] — Consumer Price Index report issued in August 2012.