Banking crisis: Is Britain heading for the worst recession since the 1930s?

[loki]

By Gordon Rayner, Chief Reporter
Last Updated: 11:17pm BST 15/09/2008

Just two weeks ago, the Chancellor, Alistair Darling, was being roundly condemned for exaggerating the size of Britain's economic crisis by saying it was the worst for 60 years.

But with the collapse of Lehman Brothers, his doom-laden predictions are beginning to look optimistic, with many respected City figures openly comparing events with the Wall Street Crash of 1929.

Although no-one is predicting another Great Depression, the crisis is widely seen as the worst in living memory and Alan Greenspan, the former chairman of the US Federal Reserve, described the Lehman failure as "a once in a half-century, probably once in a century type of event" which was the worst "by far" he had seen in a career spanning five decades.

Jonathan Loynes, chief European economist for Capital Economics, predicts a million job losses in the next two to three years and a further slump in house prices before recovery begins. "The collapse of Lehman Brothers will only prolong the uncertainty in the financial markets, meaning banks will remain reluctant to lend to each other and the credit crunch will continue for a long time to come," he said.

"If people can't get loans the housing market will continue to fall and I think house prices have got a lot further to go before they hit bottom. They will probably keep coming down for another year or two.

"We also think the economy will contract next year and around a million people will lose their jobs.

"The only light at the end of the tunnel is that it looks as though inflation will fall back because oil prices have come down, but we know from previous recessions that it can take a long time to turn the economy around even if inflation goes down."

John Moulton, founder of the private equity firm Alchemy, said Lehman's demise "makes the probability of a deep recession more likely, rather than less likely", while Terry Smith, chief executive of the inter-broker dealer Tullet Prebon, described the Lehman collapse as a "seismic event".

The worldwide recession which followed the Wall Street Crash of 1929 lasted throughout the 1930s, with unemployment in the UK rocketing from one million to 2.5 million in the space of a year.

The effect on share prices, meanwhile, was so profound that the Dow Jones did not recover to its pre-1930 levels until 1954.

Like the credit crisis, the Wall Street Crash was caused by irresponsible lending, as hundreds of thousands of Americans, reassured that they could only make money by investing in shares, borrowed heavily to invest in the stock market.

As a result, the total value of loans exceeded the amount of cash in the US banking system and the economic bubble burst with catastrophic effect, helping to cause a recession which lasted until the Second World War in the UK.

But whilst the current crisis may be the worst since the Wall Street Crash, it is not as bad as the Wall Street Crash, when stock markets went into freefall for an entire month.

By comparison, the FTSE 100 index dropped by a relatively modest 3.92 per cent yesterday, and even rallied during the afternoon, remaining above this year's low point which came in July.

Angela Knight, chief executive of the British Bankers' Association, said comparisons with 1929 were wide of the mark.

"No UK bank is in a similar situation (to Lehman Brothers)," she said. "As far as UK High Street banks are concerned, they have been recapitalising themselves in the last few months.

"Whilst it is not going to be a particularly comfortable day, the issue is one of a major US investment bank which has got into difficulty. Lehman brothers is a relatively small player in the UK."

http://www.telegraph.co.uk/money/mai...cession115.xml