Going North

According the FT on 27/4/17 local councils are borrowing from the Treasury at about 2.5% to fund real estate yielding around 8%. The net interest income being used to fund spending. The balance sheet of some councils now being dominated by this carry trade. On 2/5/17 The Times reported an investigation into the motor industry. Have PCP contracts been mis-sold? Credit cards have also come into the spotlight. Is new business being written at rates that will fail to cover future defaults? These things appear to be unconnected. But in truth they result from depressed interest rates. At this point in the economic cycle and without policy intervention rates would be 2%-4% higher. The resultant higher borrowing costs would deter additional marginal financing. Whilst rates are so low the normal questions about loan affordability are suspended. The longer this continues the bigger the eventual problem. Once rates head North defaults will rise. Mitigating action can be taken. Affordability tests and increased capital requirements slow down marginal lending. But “fine tuning” like this has never been that successful. Surely a better solution would be slightly higher rates now.