Solutions for Northern Rock

The government has to be very careful in how it handles the Northern Rock situation. This morning on the Today programme there was a call for them to nationalise Northern Rock, offering no compensation to shareholders. That is not an attractive proposition for either taxpayers or the remaining shareholders. It could fall foul of the government’s general duty to be fair to the shareholders of a company it is lending money to and of EU competition rules if they then give the bank favoured access to funding. The shareholders would think they had been robbed, as the market currently ascribes a value to their shares. Taxpayers would be on the hook for the long haul, with a new owner with no expertise at running a mortgage bank and all the problems of nationalised industry control.

The problem has arisen because of the actions of the government so far. The current share price of Northern Rock is based on the continuation of loans from the Bank of England and the deposit protection put in place by the government. Those who think the shares have value must believe either the Bank of England will continue to lend the money for as long as necessary, or that there will be a private sector rescue which will ascribe value to the shares (which also probably requires some continuation of government/Bank of England support). In other words, in the immediate future the value of the shares is heavily influenced by what the government and the Bank do over the financing of Northern Rock. If Northern Rock were capable of refinancing its Bank of England loans in the private sector market it would resumably do so.

If the Bank of England is too generous in its loans and guarantees to Northern Rock, then a private buyer may well emerge who can make money out of the situation, benefitting from the taxpayer support. If the Bank is too severe in removing funding from the mortgage bank before there is a suitable alternative available then it retriggers the problems it has been trying to avert.

So what are the government’s options from here?

The first is the completion of a sale to the private sector that the shareholders accept. The government does have to set out what its position is on how much money will be lent to Northern Rock under new ownership for how long. Presumably the government’s interest in a sale is to reduce both the quantity and duration of the loans it makes to Northern Rock. The Chancellor should make an early statement so we the public and Parliament know, as well as presumably making some statement in the Sale Memorandum drawn up on behalf of Northern Rock shareholders. If a buyer can be found who has the balance sheet strength or the access to funding to repay all the current public loans, that would be ideal.

The second is to agree a schedule of repayments and lending reductions with the new Board of an independent Northern Rock, as they have to believe they can trade themselves out of their problems, and can gradually replace public sector loans with normal market borrowings.

The third is to impose a date for the repayment of some or all of the loans, and leave it to the Board of Northern Rock to decide how they are going to meet this, with or without a takeover or new partners.

It is difficult getting accurate information about this on the media. The BBC this morning told us that the Board of Northern Rock had resigned, and this meant a deal must be imminent otherwise Northern Rock was left without a board. Yet the Times says this morning that two new Non executive Directors joined the Chairman on the Board whilst Mr Applegarth, the outgoing CEO, had agreed to stay on for a further two months to help with the sale process. The Times on this occasion sounds more reliable than the BBC. That news is compatible with the view that there is no immediate deal but that serious negotiations are underway with a view to sell the bank. The deal will still need shareholder approval.

From the taxpayers point of view, we need to to be told why so much of our money has now been committed and how the Chancellor expects to get it back and when.

The immediate questions for him are:

1. Where did the ??25 billion advanced so far by the Bank of England come from?
2. What guarantees/ comfort letter has been issued by the Treasury to the Bank of England to enable it to take on so large a commitment in relation to its own size?
3. How long is the money going to be available to the Northern Rock?
4. How does the government envisage it being repaid?
5. When will there be a loan agreement which we the taxpayers can see, with the security, covenants and repayment schedules that one would expect in a large commercial loan?

It is high time Parliament was told more about this huge taxpayer commitment, now bigger than the annual defence budget.

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5 Comments

  1. Nick
    Posted November 17, 2007 at 1:08 pm | Permalink

    The problem is this.

    NR are borrowing at penal rates.

    To pay those rates, the money has to come from somewhere.

    It isn’t the shareholders. NR are not issuing more shares so there is no new money coming in.

    Depositors have and are leaving. The borrowing requirement from the government is going up.

    That leaves one choice. NR has no choice but to increase its mortgage rate. Then the mortgage payers will on a whole try and leave. When they leave, NR can start paying off the government loans.

    The balance, is to not force people into bankruptcy, just to force them to leave ship.

    Nick

  2. cityunslicker
    Posted November 17, 2007 at 2:55 pm | Permalink

    A great summary of the situation which the Government now faces. As it is really quite unlikley a useful bid will be found I think it quite probable that we will have a new chancellor of the exchequer in short order.

  3. Neil Wallace
    Posted November 17, 2007 at 3:37 pm | Permalink

    I am not sure if you are being 'nice' or running scared of an insolvency.

    The shareholders should receive nothing if it is envisaged that the liabilities exceed its assets. It is not the taxpayers job to bail out the shareholders of a profligate company. It sends all the wrong signals.

    In this matter it would appear that there is

  4. Wat Tyler
    Posted November 17, 2007 at 11:04 pm | Permalink

    John

    Interesting post (as always).

    But as a taxpayer, what worries me is that we could bail out the shareholders for very little benefit to us.

    Of course, we all feel sympathy for the grannies who are sitting on devalued shares from demutualisation. But let's remember, to all intents and purposes, it was a windfall for them in the first place.

    And in any case, the bulk of the shareholders are not grannies. In fact, a good chunk of them are now meat eating hedge funds who have picked up the smell of taxpayers' blood in the water (cf G Soros 1992). They have bought in because they reckon they can face down Brown and Darling (and btw in the process they've also kept the share price off the floor). One of the leanest meanest funds around now owns 6.2%.

    Obviously, none of us would start from here, but I'd favour something like the Anatole Kaletsky plan- a clear statement that all loans (including that rolled up penal interest) must be repaid by end-Feb, backed with a legislated plan to nationalise on 1 March if necessary. If it comes to nationalisation, the depositors to be paid out, the assets to be sold- even if we have to take a discount- and the operational platform sold or closed down.

    However we cut it, we taxpayers are likely to take a loss, but the shareholders must surely lose everything first.

    I'm fed up with politicians using my taxes to make sharp operators rich.

    Reply: I would not have started from here, as this blog makes clear. I would not have let Northern Rock get into the position it reached, and would not have needed to guarantee deposits in the way the government had to, as readers of this blog in August and Septemebr would know. My latest piece just tries to think through the options for the government, given what they have done. As you say, there is only one way to nationalise the bank without compensating shareholders, and that is to first withdraw the Bank of England credit and then be prepared to take it all over for

  5. Casey
    Posted August 9, 2008 at 12:21 am | Permalink

    There is a way to help america, and I'm sure that Greenspan would have officially approve it. Thats called smart fiscal cash flow management by the individuals. There is a way that every mortgage home owner in america CAN own their home outright free and clear.

    Its called managing their bank accounts wisely. There is a little known bankers loophole that is legal, and if you structure your accounts well (easy as a phone call) you can tap into "reverse compounding interest" by utilizing a special type of an account, and it will reverse the aging of interest and create from $15,000 to $50,000 + EQUITY per year instead of that being interest paid.

    See this great company out of california, that sells the mortgage solution software called "Mortgage Secret Planning Software" that teaches and instructs you all the way to payoff. There is no refinance needed and they will not try and offer mortgages unless you request one.

    See the website: http://www.mortgagesecret.us

    Reply: You are right that the best way to avoid grief in the housing market is to plan your finances sensibly. This site does not recommend any particular commercial solution and I have not checked out the offer you refer to, on which people would need to take advice to satisfy themselves of how it worked and if it is good value.

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    John Redwood won a free place at Kent College, Canterbury, and graduated from Magdalen College Oxford. He is a Distinguished fellow of All Souls, Oxford. A businessman by background, he has set up an investment management business, was both executive and non executive chairman of a quoted industrial PLC, and chaired a manufacturing company with factories in Birmingham, Chicago, India and China. He is the MP for Wokingham, first elected in 1987.

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