Author: johnredwood

The government’s bodged sale/reorganisation of Northern Rock has a new complication today.

We learn that one mortgage bank is interested in buying the mortgages. Maybe others would be too. The response depends on the price they are prepared to offer, and on whether there will be a successful new owner/lead shareholder or not.

My advice is to say to anyone interested in buying the mortgages that there will be a competition to sell some of them if after a suitable period there is no successful bidder for the whole business. This is a decision which has to be taken by the Northern Rock board, but one which should be influenced by the Bank of England telling them they want some of the taxpayers money back soon.

It would be quite wrong to enter discussions with just one buyer of mortgages, without allowing others to bid. It would be wrong to force the sale of good mortgages at a large discount under the pressure of circumstance. There should be a reserve price which protects the taxpayers’ interest. That is why we need a timetable for repayment which allows this immediate market crisis to pass, and allows some sense to return to the market in second hand mortgages, so the shareholders and taxpayers get proper value for their asset and their security.

At a time when even the Bank of England acknowledges there is insufficient market liquidity, it must be obvious to the authorities they will not get a good price for anything being sold in distressed conditions. First sort out the worst of the credit crunch, by making markets more liquid, and getting banks through their year end book squaring, then see what can be realised to cut the debt mountain at Northern Rock.

Meanwhile the ECB is upping its intervention in markets substantially, as it sees how serious the squeeze has become. The Fed is taking all sorts of action ,trying to repackage off balance sheet debts, cutting interest rates and making cash available. It is still the Bank of England that is doing too little very late, as it still seems to be in denial over how dramatic this year end credit crunch is.

We will not know until the new year whether the banks will feel able to lend a bit more once their year ends are out of the way, or whether their balance sheet stretch is such that current restricted lending is the new norm. Some people say that of course there must be a long period of much restricted lending, as the west has overblown the credit for too long.

Whilst agreeing that money was far too loose, and agreeing that the Basel rules encouraged all sorts of off balance sheet lending that the regulators allowed to happen on too large a scale, I do not agree that we want to live through a long period of little new credit being advanced.

I want to live in a country where young people have a chance of raising a mortgage on their incomes to be able to buy a house. I want new businesses starting up and existing businesses wanting to expand to be able to borrow money to grow and create jobs. It is not evil to lend and to borrow. It is crucial to a successful enterprise ecomnomy, and it is beneficial both to those of us with savings in our pensions or elsewhere to lend, and those in need of borrowings to get started.

Wrong, wrong, wrong.

The latest decision to guarantee most of the liabilities of Northern Rock is a clanger.

There is no statement to Parliament, no statement of how much is now at risk, and no statement on how long our money is to be at risk.

Why cannot the government understand that it has to be tough bank manager to Northern Rock, lending the least it can get away with, imposing strict repayment timetables, and monitoring cashflow daily to ensure that all surplus cash is used for debt containment or repayment?

This government seems to think the taxpayer is made of money. Although Northern Rock is not a huge bank by international standards, judged in relation to the size of the Bank of England it is a collosus, and in relation to the UK public sector it is large.
Guaranteeing maybe ??100 billion is the equivalent of one fifth of stated total public debt, the same as the annual NHS budget, and almost one fifth of total public spending. They are crazy to do that.

Every one percent of error or loss on the whole Rock balance sheet is ??1 billion! Before this move 1% of taxpayers exposure was a mere ??250-300 million, already large but just about within the government’s command.

Northern Rock is too large to nationalise, and too large for us to guarantee all its liabilities. Unfortunately you cannot help some people – they are just determined to get it wrong.

Additional comment: we are now learning that maybe so far we are “only” guaranteeing ??60 billion. It is outrageous that Parliament and markets cannot be told how much is being guaranteed, and on what basis. The authorities lecture other banks about the need for transparency, and then commit the taxpayer to these large risks and vast sums without any proper explanation of how much, for how long, and on what basis.

Today’s news that the Bank of England is making liquidity available to the markets is a sensible move, but we should not expect too much of it. The mismanagement of the Northern Rock liquidity crisis has made UK based banks very worried about borrowing from the Bank of England, at the very time when they need to without fear of anyone concluding they are in difficulties because they are so borrowing. This is a tight year end for most banks, which accounts for their reluctance to lend to each other when they need to conserve cash to show stronger balance sheets in their December 31st Reports.

The Bank’s traditional weapons to fight a credit squeeze of cutting interest rates and offering liquidity in money markets have been blunted by the Northern Rock disaster. The Chancellor and Bank need to take other action at the same time as easing money to rebuild confidence. Without confidence, offering liquidity and cutting rates will not be enough to end the squeeze.

The first thing the Chancellor should do is to convene a meeting with the FSA and the Bank and work out a new regulatory structure for the money markets and main banks. We read in the press that the government thinks the right answer is to set up a Cobra type crisis committee chaired by the Chancellor the next time there is a run on a bank or some such similar problem. Far from rebuilding confidence, this type of irresponsible briefing to newspapers undermines it further.

We do not want to hear they are planning to handle a run on a bank better next time. We want to hear they are taking regulatory action to prevent a run on a bank. We do not want to hear that the second most important politician in the government is to be given the job of day by day supervision of money markets and banking as well as all his other duties. We do want a thought through response to the crisis, set out in a Statement to Parliament and followed promptly by whatever institutional reform is necessary.

I would suggest that the government does the following:

1. Give management of government debt back to the Bank of England, so the Bank sees all the government transactions in money and debt markets and influences the timing of them.
2. Give day by day supervision of the main banks back to the Bank of England: not because the FSA did badly, as they alerted the system to the crisis weeks before it became critical, but because the Bank of England needs to see day by day the positions of each bank in money market and debt instruments to inform its decisions about the needs of the system.
3. Reaffirm the Bank’s central role in ensuring a liquid and functioning money market, as the complement to its role in inflation fighting and establishing interest rates
4. To remind people that the Chancellor needs to be kept informed on a regular basis of general progress and urgently if there is a major problem as he has to explain the Bank’s actions to Parliament and has to make the decision on appointments to the top of the Bank.

Items 1 and 2 recreate the more powerful Bank before Brown’s reforms. The misnaming of these reforms as creating an independent Bank of England? has been particularly damaging, as they did the opposite in the crucial areas of debt management, bank supervision and running effective money market activities.

The government then needs to sort out Northern Rock. Some transparency would help. Taxpayers and markets need to know how much has been lent by the Bank to the Rock, when it will be repaid and what security has been taken to protect the taxpayer. If the government offers us more transparency of its own actions, it then has the moral authority to demand the greater transparency it says it is seeking from clearing banks over the valuation of their off balance sheet items. It should not nationalise Northern Rock, but act as its tough but concerned bank manager.

Restoring confidence does require market participants to be able to assess the damage done to the financial system by the decline in asset values on both sides of the Atlantic. The government must not kid itself that this is just a sub prime US crisis. UK market participants also want to know what impact the decline in UK commercial property values already well underway will have on bank balance sheets and the collateral they have taken for loans. They also wish to form a better view of how far residential property prices in the UK might fall, and what impact this could have ?along with job losses and the personal income squeeze on UK mortgage assets and loans held by banks.

There is a lot to do to relax the squeeze. It may be that once the year end is out of the way for the banks, and we have seen their year end balance sheets, things will start to loosen. To be sure they do the government needs to make that statement on the future regulatory position, and needs to get on with leading the market to greater transparency by explaining its own ?and the Bank’s complex and large transactions in markets since the Northern Rock run began.

The Central banks concerted action is a move in the right direction, and better late than never. It is part action and part spin, as it is designed to rebuild confidence to get banks lending to each other.

The reason they will not is that they are all worried about meeting their regulatory requirements.

It was the capital requirements placed on banks by regulators that led so many of them to bundle mortgages and other loans up into special vehicles and funds, and spread them around the market. Under the regulators’ rules this enabled banks to lend more with less capital. Encouraged by very low interest rates, they did this on a huge scale, with the regulators watching them and saying nothing. The regulators should have limited the amount of this lending by scoring it differently for capital purposes, or by demanding a more prudent valuation of the packages.

When interest rates were hiked by the Central Banks in the US, Europe and the UK, this started to undermine some of the loans made to individuals who struggled to pay. This in turn undermined the value of the packages of loans spread all round the banking system by regulatory requirement. This has now led banks to need to husband their own cash, limit their new lending and try to tidy up their own balance sheets, to offset the large losses they are having to report. No wonder they do not have money to lend to other banks. Now the regulatory system is doubling up the impact of the higher interest rates, and making banks sit on cash instead of lending it.The Regulators are effectively tightening after the damage has been done.

This is a massive disaster for the world’s regulatory system for banks, made far worse by the lurch of the Bank of England and the other main Central Banks from boom to bust in their approaches to interest rates and monetary management. The Fed has been more decisive in trying to correct for too much tightness. The Bank of England is still a long way behind the plot.

It is high time there was proper recognition of the crucial role played in this sorry story by the regulators. They designed a system which powered huge off balance sheet lending. They allowed it to be valued on a favourable basis with relaxed capital requirements on banks. Now they are doing the opposite, at the very time when they need to relax a bit to get banks able to lend to each other again to keep the system going.

There is at the moment a fashionable syllogism:

Regulation is there to prevent individual banks crashing and to prevent system failure

We have a tightly regulated system which has just witnessed 2 German banks and 1 UK bank get into trouble, and has witnessed a freezing of the markets

Therefore we need more regulation!

This is another area where we do not want more regulation. It is an area where we need governments to show some skill and some understanding of where they are in the credit cycle. At the moment we have boom and bust governments, allowing skewed regulatory requirements when money is too loose, and threatening too tight a regulation when money is too tight.That is the way to make a bad situation worse.

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.

Today was vintage “Today”. We had the plug for Vince Cable’s idiotic idea that we should nationalise Northern Rock, with no alternative comment or criticism. No-one has explained how taking over responsibility for all ??100 billion of the Rock’s liabilities would be better for taxpayers than merely lending them less than a third of that sum against security from their assets.

Then we had an interview with some inarticulate government Minister about forthcoming cuts in physics departments in Universities. Aggressive repititon of the same question – would the Minister cough up an extra ??80 million which someone had said they would like – wrecked any chance of the rest of us understanding the issues or the problem. His repitiatious statement that the cash available had increased did not advance our understanding much either. Neither questioner Sarah nor interviewee Minister had anything to say about where all the money that had been approved was going, and why the “cuts” all have to fall on physics teaching. It is pathetic that public debate is reduced to a slanging match or a dialogue of the deaf, with one side saying the money has gone up and the other saying it’s not enough. There is never analysis of how much is spent, how it is spent and how efficient and effective the recipient is. Politics should be about priorities, not about sandbagging the taxpayer at every available opportunity.

It was yet again a very expensive Today programme for taxpayers- after wanting to take on ??100 billion of Rock risk saving some physics for ??80 million was a bargain! Will they never give voice to those of us who want to save the taxpayers money and run puiblic services better?

Vince Cable is given endless airtime by the BBC to rubbish any bid or serious interest in Northern Rock and to propose nationalisation. It is typical of the BBC’s bias that they invite him, and refuse comment from those of us who have positive proposals to salvage the taxpayers money.

Mr Cable’s wish to nationalise is fatuous. His logic is flawed. He tells us rightly that ??30 billion at risk for the taxpayers is a lot of money,and the risks are considerable. He then concludes that the taxpayer should put ??100 billion at risk by taking over the whole balance sheet of Northern Rock! If he thinks the Rock is a bad bet, why does he want to more than treble it?

Nationalisation is the last thing we should want to do. Northern Rock’s assets will be worth more when the credit squeeze abates. The issue is how to get them through the worst part of the squeeze at least cost to the taxpayer. Nationalisation would maximise the risk and cost.

What we need is a Bank of England which acts as a strict bank manager, rationing the credit, setting repayment schedules and monitoring the use of the cash. They should not be letting Northern Rock put up pay, award bonuses, or make other unnecessary payments. Every action at the Rock should be husbanding cash, to maximise the repayments. Meanwhile the taxpayer needs to take plenty of collateral or asset protection. If we took over the lot, we would have to suffer the losses on the less desirable assets. That is not a game taxpayers should be playing.

Mr Cable should be ashamed of himself, rubbishing every sensible effort to save the bank, and recommending such a dangerous and stupid approach for the taxpayer.

The authorities stumbled forwards yesterday as they sought to tackle the twin and related crises of Northern Rock and broken money markets.

The 25 basis point (0.25%) off the MPC interest rate was a belated and hesitant step in the right direction. It just goes to show if we all shout loudly enough at our so-called independent MPC they throw their economic essays out of the window, eat the words of their recent speeches, and change their minds. We need to do it more often.

Cutting interest rates on its own is not going to correct all the damage to bank balance sheets that the MPC and the regulators have done,but it does help begin the repair job needed. It means fewer people defaulting, which in turn means a better value in the market for packages of loans, which in turn gives stressed banks another option to raise cash.

The government should now tell the international community it cannot press on with the Basel II regulations, which compound the folly of encouraging banks to take on off balance sheet instruments which lie behind the current international banking difficulties.

The arrival of the Olivant bid for Northern Rock has perked up some of the shareholders, who think it offers better value for them than the Virgin bid. It means there is now some healthy competition to take over the distressed bank.

The tragedy is the failure of the government to use this situation to get a better deal for the taxpayers. According to today’s media accounts of the rival bids, the improvement in Olivant over Virgin has come in the terms to shareholders, not in the terms to the taxpayer.

The government is making us all pay for its own incompetence. Either it should have set out tough requirements for repayments in advance that all bidders had to hit – tougher than those offered so far, or it had to demand that bidders bid on how much money they could repay how quickly and tell the shareholders that otherwise the government would demand early repayment.

The government has failed in its duties to both taxpayers and Parliament.
It has failed to act as a responsbile bank manager, lending cautiously, taking plenty of security and insisting on repayment timetables.
It has failed to tell Parliament – and the market – what it expects from an owner of Northern Rock.
It has failed to tell Parliament how much it has lent on what basis, or to seek Parliamentary approval for this massive sum.

Putting some fo these mistakes right would still help the government dig itself out of the hole, as well as creating a more orderly market in Northern Rock’s shares and expediting the auction process.

Presumably Virgin now loses its preferred bidder status, unless that had some legal force we have not been told about.

Oil prices down – you read it here first!
House prices down.
Commercial property prices down.
Mortgages down.
New borrowing for everyone down.
People’s spending squeezed.

How can the Bank think this is the background to higher inflation in a year or so?

Overall price increases are still a bit above target – that’s because the Bank and the MPC got it wrong a couple of years ago, keeping interest rates too low for too long. It is also because the government owned or influenced monopolies like railway fares, Council tax and fuel tax have gone up.

Yesterday sterling fell and the UK Stock market rose sharply. Markets are clearly expecting an interest rate cut today.

Whether the Bank does or does not cut rates, expectations of more cuts will build up in the days ahead, as no-one in the markets thinks the Bank can remain unconcerned about what is going on in the banking sector for much longer. Today’s problems for the banks are tomorrow’s problems for everyone else, as money makes the economy go round and banks supply the money.

If the Monetary Policy Committee of the Bank of England wishes to be anything more than overpaid members of an academic seminar watching as the money markets go their own way, they need to cut interest rates tomorrow.

Market rates are almost 100 basis points or 1% above the MPC’s rate. Money policy is far too tight. The MPC is not in control of the markets.

If the MPC dithers and concentrates on the short term increases in prices, it will make the credit crunch worse. It will be as incompetent as the rest of the Brown government. House prices are falling, commercial property prices are falling, consumer confidence is falling. What more do they want? How much damage do they want to do?

Surely by now MPC members have learnt that changes in interest rates have an impact many months into the future. The inflation we are living with today is the result of keeping interest rates too low many months ago, and the consequence of ill considered banking regulations that encouraged off balance sheet excess. When will the regulators of the world revisit their folly, the Basel rules? When will they start to take some of the blame for the mess?

Today the credit crunch is the result of the unravelling of that mistaken banking regulatory model, and the result of interest rates that are too high.
The Bank of England, shorn of its old responsibilities to manage the public debt and to monitor the day by day balance sheets of the clearing banks, has lost its touch in the money markets. Gordon Brown’s botched “reforms” of the Bank of England did not make the Bank more independent, they made it less powerful.

IT IS VERY EASY : CUT RATES, CUT THEM BY AT LEAST 50 BASIS POINTS, CUT THEM NOW.