The ludicrously labelled “sub-prime” lending crisis in the US should have come as no surprise. It has happened many times before and doubtless will again. Equally predictable is the likelihood that it will be followed by a cutback in domestic low-cost lending, which in turn will prompt cuts in consumer client marketing expenditure.
So Sir Martin Sorrell’s prophecy of good times ahead for the marketing industry as the 2008 Olympic Games approaches may now need to be tempered by the potentially negative impact of reduced money supply.
Nobody should be fooled by the ability of businessmen to invent new names for old diseases. In 1973 the sub-prime disease was called a secondary banking crisis, but its cause was the same. Both crises arose from the simple and naive belief that lots of money can be made by lending at very high rates to impoverished people whose credit rating would never allow them through the front door of a mainstream lending institution.
Of course, if lenders charge enough for their money, profits may be sufficient to absorb the inevitable losses when a large proportion of borrowers default. But history shows that in a relatively short space of time, this optimistic outlook proves to be unsustainable. Greed, ignorance and ambition result in the promoters of these businesses tending to lend too much money relative to the risk of not getting it back. Worse still, so-called “respectable” banking institutions start lending funds to the secondary operators in the belief that they too will make a useful turn without being seen to operate directly in such a dubious credit market.
Talk to those respectable bankers today and they will pooh-pooh the notion that a credit squeeze will come. But looking at the chart below, it’s hard to avoid the conclusion that it will. Maybe not this year, but it will come as certainly as night follows day.
The only time when an advertising slowdown has not followed some form of economic crisis – namely around 1980 – may be partly due to a distortion in the reported figures. From 1980 onwards, the total advertising expenditure includes that incurred on direct mail. However, the more significant explanation is the fact that the downturn in gross domestic product was caused by the miners’ strike and other industrial disputes in the early Thatcher years, which hurt manufacturing but actually strengthened the financial sector, to the potential benefit of consumers. Advertising expenditure continued virtually unchecked.
When bankers start losing money in a big way, they react entirely predictably. They become more cautious about who they lend their money to and they charge much more for doing so. That’s one reason why Northern Rock found it difficult to raise more funds from the banking community to finance its mortgage lending business.
Once inter-bank lending becomes more restrained, it leads to a reduction in the amount of cash swirling around in the economy and eventually to a fall in consumer demand. Many have argued that advertisers should spend their way out of such recessions, but few are bold enough to do so. Instead they take the “safe” option and cut their expenditure to match their projected fall in revenues.
This week, most advertising agency bosses are saying they have not seen any signs of forthcoming cutbacks in clients’ ad spend – either in the financial sector or among mainstream consumer brands. Perhaps it is too soon to detect what advertisers will do.
Or perhaps it’s just possible that the detachment of the Bank of England from the apron strings of the Chancellor of the Exchequer has reduced the extent to which short-term political decisions will have had an excessive (normally adverse) influence on money supply and credit policy, allowing a more measured and long-term strategy to have been pursued by the BoE that will be less vulnerable to the knock-on effect from the problems that have arisen in the US.
That would be in stark contrast to the events that followed the stock market crash in 1987 when the authorities, fearing a repeat of the worldwide slump that followed the Wall Street crash of 1929, increased money supply so much that it fuelled a housing boom that collapsed a few years later as the economy slowed down.
Optimists would argue that, if indeed our national finances have been under better management in recent years, the likelihood of a credit squeeze may have been reduced to something akin to a credit pinch – short, sharp and of no lasting significance. But don’t hold your breath.
Bob Willott is editor of Marketing Services Financial Intelligence (www.fintellect.com) and formerly a special professor at the University of Nottingham Business School