PANIC – What can be done?

The meltdown in the markets yesterday saw investors give up on buying shares or anything risky. Wall Street plunged again. Fears are now swirling round yet more large financial institutions, just a day after the announced merger of HBOS and Lloyds. Only a few days have passed since Lehman sought bankruptcy protection before selling a big part of its business to Barclays and after Merrill Lynch announced merger plans.

At such times of crisis there is an understandable desire to blame someone, and a wish to find a simple solution. In this case the finger of blame is pointing at Hedge Fund Managers who have shorted bank shares, making money out of the misery. Mr Cable – and others in the UK – thinks the answer is to use regulatory means to stop Hedge funds and others selling shares they do not own.

If only it were that easy. Yesterday Wall Street financial stocks plunged despite tight rules on selling short. Such regulation has not stopped the problem in New York. The truth is many different people are selling, and many people and institutions are selling who do own the shares. No regulator can stop them doing that, sort of announcing that Stock markets have been abolished and everyone is now locked in to whatever they happen to be owning at the time.

This panic is not just the result of some smart operators exploiting bad news and fear. It the result of a deep inner uncertainty that has gripped the world’s markets. Individuals are selling small holdings in savings schemes, some pension funds are cutting their losses, many people are holding off buying to see what happens next. Banks and other financial institutions do not want to deal with each other and prefer financial assets with governments underwriting them.

Just as a few weeks ago at the top of the oil market I wrote that in some senses many people were oil speculators then, so today in some sense the many are selling the share markets or failing to support them now. There has been a huge lurch from fear of shortage of commodities to fear of losses in shares and other financial instruments. The more the markets fall, the more the fear spreads.

So what might help to stabilise the position? In the UK the Conservative proposal to rush through a better deposit compensation scheme would help. If most people knew their money was safe there would be no need to fear a run on any bank.

Offering more cash to the banking system to keep them more liquid is necessary. I am glad the UK authorities are joining in today in a concerted effort by Central Banks to do this.

Facilitating the takeover of weaker or exposed institutions by stronger may sometimes be a regrettable necessity. It weakens markets in the longer term, reducing competition and its benign effects, but can be a lesser evil than another institution going under or being nationalised.

Listening to the Chancellor this morning, I just wished he had shown the present degree of commitment to dealing with the problems in the money markets 13 months ago when some of us first sought aciton from the authorities to prevent a run on Northern Rock. If he had done then what he is doing now, he could have prevented the Rock disaster. Our banking system is weaker for having Rock in public ownership, unable to offer new loans and forced to halve its size.

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8 Comments

  1. Kevin Lohse
    Posted September 18, 2008 at 10:01 am | Permalink

    John. Are you arguing for a bi-partisan approach to this problem? What ever transpires in the run-up to Christmas, it will probably take at least a decade for UK Plc to recover. It would make a great deal of sense if party politics were temporarily forgotten for long-term decisions and plans to be made with the three major parties contributing in a "national unity" Parliamentary Committee. Is the self-styled slayer of "Boom and Bust" sufficiently interested in the Nation to take this hit on his legacy?

    Reply: Yes, I am suggesting – as is George Osborne – that the Oppposition should co-operate with any sensible measure to restore stability.

    • DBC Reed
      Posted September 18, 2008 at 12:07 pm | Permalink

      The most sensible measures to be taken on a cross-party basis are: lower interest rates but not before you have instituted a land value tax to stop all the cheap credit inflating another housing bubble.
      This is blinkin' bleedin' obvious in my view and the main reason that the political parties have n't taken this course on their own, is because they fear being done over by the opposing parties in elections.
      The Conservatives should take the lead in this as they are the ones who in 1963 got rid of the last effectual tax on property Schedule A which taxed the rental value of houses straight out of Income. Come Heath and Barber and their give-away budget and the era of flat house prices, two decades long ,came to an end and ushered in the present uncivilised dog- eat-dog world where the economy consists of everybody trying to sell their houses to each other and to foist crippling mortgage burdens on the young.Good riddance to all that.

  2. Kit
    Posted September 18, 2008 at 11:00 am | Permalink

    "It weakens markets in the longer term" – nope. It is called creative destruction. Surviving banks will be wiser, leaner and more efficient. A new generation banks* will be created which will innovate and invigorate the financial sector.

    *unless rushed and ill-thought out regulations prevent new entrants.

  3. Stuart Mark Turner
    Posted September 18, 2008 at 11:39 am | Permalink

    John. There has been much talk recently about injecting liquidity into the banking system, however this money will no doubt be tax payers money. Firstly how can we make sure that this money will eventually be paid back in full? Secondly if the extra liquidity injected into the markets is used to prop up institutions which encouraged risky lending, surely that will send out a message that the rules of business have changed and no matter what business model you choose to follow, provided your banking insitution is of sufficient size and importance the government will not allow you to fail.
    As painful as it might be banks have to be allowed to fail, the realities of business are the best and least restrictive regulation for the markets.

    Reply: Money is made available on terms that should enable the Bank to be repaid.

  4. APL
    Posted September 18, 2008 at 12:19 pm | Permalink

    JR: "Fears are now swirling round yet more large financial institutions, just a day after the announced merger of HBOS and Lloyds."

    Unfortunately John, this is the direct result of government interference attempting to support the market.

    Hedge funds may well be shorting stock in anticipation of a government bail out.

    Shorts drive the price down, government bails the company, shorts make a killing.

    This is not a fault of the shorts this is a fault of the Government and a consaquence of moral hazard.

    The government has esentially given the shorts permission to extort tax revenue.

    One of the biggest hedge funds in the world made huge profits from the government bail out of Freddie & Fannie, the same fund lost a packet on Lehman, what is the difference? Government bailed on and let the other crash.

    Kevin Lohse: "It would make a great deal of sense if party politics were temporarily forgotten for long-term decisions and plans to be made with the three major parties contributing in a “national unity” Parliamentary Committee."

    Please god, No! The first time in ten years the Tories have the opportunity to control the country, and they are going to share it with the same party that screwed the economy. Destroyed pensions, sold off the Gold reserves, increased the Quangocracy, over – extended the military.

    These incompetants should never be let near government again.

  5. Neil Craig
    Posted September 18, 2008 at 2:04 pm | Permalink

    We are told that the drop in the HBoS share value was not the result of massive selling but of quite small amounts of stock changing hands. This is the 3rd time this happened to this firm recently, the 2nd being when days before a stock issue the share price was driven below the issue price.

    This reminds me of when Ernest Saunders arranged with Ivan Boesky to do some selective buying of Guiness shares to ramp up the price so they could afford to pay for United Distillers in Guiness shares.

    I don't know enough to say whether short selling itself can or should be prevented but certainly hope a thorough investigation is done into by whom & why this short selling took place. Those sellers who sold at under the price Lloyds TSB offered will have lost millions. I wonder if their heads will role & if not why not.

  6. mikestallard
    Posted September 18, 2008 at 6:02 pm | Permalink

    If you look at the Labour Front bench, and I include the Chancellor here, you see a lot of lawyers and professional politicians. I do not see one person who has first hand experience of the banking world. I thought all those left with Tony Blair – or before that. These men and women are simply not capable of fine tuning the banking system. And I do not see many Labour back benchers, with their TU affiliation perhaps, fine tuning it fairly either. Taxing it, yes.
    Today in the Telegraph the FSA was also shown to be an encumbrance in a situation, where you need subtlety and surgical skills.
    Banking contains some of the finest minds on this planet in our greedy, materialist society. That is why it should be left to the bankers to clear up their own mess whenever possible, maybe under the Bank of England. The Unseen Hand, of course, will do a lot of the clearing.

    The other thing is that, in times of economic melt down, people come forward with the "obvious" answers. Last time round it was the Rev A Hitler, the Venerable Monsignor B Mussolini and Comrade, the People's Friend, J. V. Stalin.
    "And what rough beast, his hour come round at last,/Slouches towards Bethlehem to be born?"

  7. Adrian Peirson
    Posted September 19, 2008 at 2:51 am | Permalink

    The secret Bilderberg Government in America causing the Problems behind the scenes.
    Mergers are a precursor to a One world government, One world, one government, one people, One Bank. http://www.infowars.com/?p=4619#comment-548233

  • 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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