The thing that caused the current financial crisis, appears to have been a bubble, much like the tech stocks bubble, or the tulip bubble. Of course, we would be the ones ending up living through another financial system bubble (like the one in 1923 or 1873).
During a bubble everyone pays over the odds for some commodity, believing that the *fundamentals of the market have changed*. The correct response is of course that *no they haven’t*, at least not by that much. Anyway, when the bubble bursts, the thing that everyone was paying ridiculous amounts of money for, they now won’t touch with a barge pole.
When the tulip bubble burst in 1636, the bulbs became worthless almost overnight. Even the really pretty ones. Now, I don’t know if you’ve been to a gardening centre lately, but they don’t exactly give away tulip bulbs. They aren’t even the cheapest bulbs you can buy – especially the variegated ones that caused the bubble in the first place. After prices have become overhyped, the market corrects goes a bit too far (everyone hates to lose) and eventually they find a stable value.
In this case, the things that have been overvalued is certain types of debt. People paid too much money for debts, and now they don’t want to pay any money for them at all. It gets a little bit into head-splitting territory because there are negative numbers floating all over the place, but essentially paying too much money for a debt is equivalent to charging too little interest on it and/or loaning the money too freely. Similarly, not wanting to pay any money for debts is equivalent to charging high interest on it, and/or refusing to loan money at all. This is the situation now.
What does this mean?
As far as high finance and the banking system goes, I wouldn’t have a clue. But maybe I’ve got some ideas about how it might affect ordinary people.
I suspect that for some time it may be more difficult to take out any form of loan. This means it will be harder to get a mortgage, a car loan, a credit card, a personal loan or an overdraft. What can we do?
- save up a bigger deposit
- provide more proof of income for loans (e.g. wait until you’ve done your tax return)
- keep on top of credit scores and reports
- keep up to date with loan repayments
- inform your bank etc at the first sign of a problem
- live within your means
We all know anyway that consumer debt is bad. It’s always a great time to pay off excess debt and now is no exception. A lack of available credit shouldn’t affect too many sensible personal finance people. If you’re hoping to buy a house in the near future, or take out a car loan then you need to be more careful about your credit report – make sure it’s accurate and don’t incur any unnecessary dings on it. You should also have more income documentation especially if you’re self-employed and it can’t hurt to have a bigger deposit saved up.
As soon as you think that your debts might start to become a problem contact your bank / credit card company etc and explain. Anecdotal evidence suggests that they are less accommodating than they used to be, but they are always more helpful if you approach them sooner rather than later.
Finally, living within your means is the golden rule of finance. Not needing any debt is extremely helpful if debt is hard to come by.