Life after credit rationing

My 7 year old son has 2 close friends, J and S. Like my son, J has been unrestricted with his access to his Ipad while S has been limited to 1 hour surfing per day. When the 3 boys get together, J and my son spend most of their time running, riding their scooters, jumping on the trampoline, swimming and generally being active. S, on the other hand, is addicted to the Ipad – frequently letting his friends run, jump and swim while he sits quietly playing with the technology. Clearly, S’s 1 hour Ipad ration per day is insufficient to satisfy his interest in the Ipad while my son and J consume enough Ipad during other times of the day, such that they choose physical activity and social interaction instead. Contrary to the beliefs of some parenting guides, unlimited access to their Ipad does NOT cause children to stop physical activity or become anti-social. J and my son demonstrate that there is a natural equilibrium that balances Ipad and exercise which children can find for themselves.

A number of Central Banks have adopted ‘Prudential Controls’ to restrict lending for private housing. This has been driven by perceived overheating (some say bubble) in the domestic real estate market. There is nothing ‘prudent’ about a ‘prudential control’, since it is simply a method for rationing access to credit, with unintended side effects. While in place, prudential controls actually harm the people they are designed to help. The average man-in-the-street may well observe that housing is more affordable, but he is a ‘lower-credit’ relative to his richer compatriots, and so his application is rejected when he asks for a loan. Housing may be more affordable under the rationing policy, but it is not obtainable.

Another side-effect of the credit rationing policies that are in vogue is that investor’s portfolios become concentrated and locked. Borrowing against property to spread risk across a range of asset classes helps diversify and reduce risk. Borrowing against property to fund productive investments generates growth and wealth. Debt is actually a good thing and an important function of the capital markets. Credit rationing impedes this process.

But the little story about my son and his friends forebodes an ugly policy dilemma for the regulators who have championed credit rationing. The story shows that while rationing can restrict quantities and prices in the short-term, unsatisfied demand will build up. Once the credit constraint is relaxed, this pent-up demand gets released with housing prices and trading volumes potentially exploding as the housing market re-equilibrates after years of suppression. Like it or not, while little S may be starved of his Ipad at home, he will eat his fill outside those confines whenever he can!