The case against nationalising Northern Rock

The BBC Today programme had a second go at Northern Rock this morning, and did allow Lord James to set out some of the reasons why nationalisation would be a bad thing. He reminded us that managing the Group would be very difficult for the government, there would be conflicts of interest with their role as Regulator and that there could be competition complications if a nationalised Rock used public money to take busienss away from others.

He might have added the biggest reason of all – taking on more than ??100 billion of liabilities would be a huge commitment for the taxpayer. We the taxpayers would undoubtedly lose substantial sums of money we could ill afford to lose, even if they did nationalise it for ??1 and faced down the lawsuits of aggrieved shareholders who would object to such a confiscation.

Lord James proposed something he called “work – out” instead. This is more commonly known as “run-off” in the financial world, and is used for for example for insurance companies in trouble where they have to be closed to new business. The existing book of business is then managed to a successful conclusion over the years. Of course that is the fall back option, should the current shareholders and directors fail to make a success of running it as a going concern, and if the takeover bids do not result in an agreed deal.

The governnment needs to do some straight thinking and some straight talking for a change.

IT HAS TO BE A TOUGH AND FAIR BANK MANAGER, MANAGING THE LOANS WITH A VIEW TO GETTING THEM REPAID AS QUICKLY AS POSSIBLE.

IT HAS TO REMAIN THE REGULATOR OF THE FINANCIAL MARKETS BUT SHOULD STRENGTHEN THE INDEPENDENCE OF THE BANK OF ENGLAND IN THIS FIELD WHERE IT TOOK SO MUCH OF ITS POWER AWAY TEN YEARS AGO

IT SHOULD RULE OUT BECOMING THE ONWER OF NORTHERN ROCK, AS THIS WOULD COMPROMISE ITS ROLES AS BANK MANAGER AND REGULATOR.

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5 Comments

  1. Michael Taylor
    Posted December 12, 2007 at 1:43 pm | Permalink

    Why not change the current loans into convertible preference shares excercisable to ordinary capital in, say, three years' time?

    This gives the existing shareholders (and existing management, if the shareholders keep hiring them) time to turn around the business within a sound financial structure, whilst holding the threat of dilution & nationalisation over them if they don't perform. It gives the management an incentive to generate enough cash to minimise the dilution by buying-back the govt's convertible preference shares – ie, by repaying the taxpayer.

    It minimises the market-distorting impact of the government capital by providing a strong incentive that cash generated by the business is directed towards paying down that part of their liabilities, rather than expanding their business.

    And without necessarily bailing out the shareholders, it offers the possibility of stable market conditions in which shareholders can make up their own minds about the future of the business.

    Reply: You could do that, but I think it better to concentrate on taking sufficient asset cover or collateral and setting deadlines for repayment. The taxpayer does not want to end up owning a problematic mortgage bank.

  2. Tim
    Posted December 12, 2007 at 5:33 pm | Permalink

    I have not yet seen from Vincent Cable any examples of were nationalistion of a business has led to any long term increase in the value of the business.

  3. Matthew
    Posted December 17, 2007 at 11:17 pm | Permalink

    "setting deadlines for repayment"

    Aren't those the very targets you decry in most other posts?

    Reply: Of course not. I am in favour of the Bank of England behaving like a proper bank when it lends money – that means telling the borrower when they will repay it!

  4. Matthew
    Posted December 18, 2007 at 11:55 am | Permalink

    But I don't see why this would be easier in the current limbo than under nationalisation (although Michael Taylor – is that Professor Michael Taylor, the financial regulation expert? – seems to have a better solution)

    Also when you say:

    aggrieved shareholders who would object to such a confiscation

    Do you really think there is any shareholder value left in the company, if the government pull the plug?

    Reply: I have avoided giving my view of the value of the shares for two reasons. Firstly I have pointed out that you cannot value the shares unless you know how much money the government will lend shareholders for how long. They refuse to tell us. Secondly, I do not wish to create a news story which could have any impact one way or the other on the shares as it is all so speculative..
    Aggrieved shareholders might well bring an action against nationalisation for say

  5. Matthew
    Posted December 18, 2007 at 12:00 pm | Permalink

    Also, may I just say how enjoyable this blog is – you've really got the hang of the medium.

  • About John Redwood


    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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