The scale of losses and the economic fallout from the credit crunch may not be as bad as feared and sub-prime write-offs could end up costing less than half market forecasts, the Bank of England said today.
The credit crunch has frozen money markets and rattled consumers around the world, pushing the global economy to the edge of a sharp slowdown after banks lost confidence in each other due to defaults on sub-prime mortgages in the US.
If the fallout from the crisis turns out to be not as drastic as many fear, the implications for global interest rate - and fiscal - policy will be significant.
Current market estimates of sub-prime mortgages amount to nearly $400 billion and the IMF has said the wider cost to the financial sector could rise to $1 trillion.
'All of them are potentially significant overestimates of the losses within the wider economy associated with the financial market crisis,' the Bank of England said in its twice-yearly Financial Stability Report, estimating actual losses could be closer to $170 billion.
The Bank of England has been criticised for taking an unsympathetic line on the lending squeeze. The US Federal Reserve has drastically cut interest rates and, along with the European Central Bank, made cash much easier for banks to get hold of.
However, the bank did respond to pressure to ease the squeeze last week, announcing an unprecedented £50 billion sterling swap scheme under which banks can trade in their hard to shift assets for risk-free government debt, which is now going to plan.
BoE policymakers say they are wary of rescuing institutions from the consequences of their own risky behaviour and have to balance the very real threat of rising inflation against the harder to gauge prospect of a decelerating economy.
There is strong evidence to suggest the British economy is already suffering at the hands of the credit crunch, with house prices falling, home loan approvals at record lows and consumer confidence at 15 year lows.
