Author: johnredwood

The Chancellor today sounded like a old cracked record that no-one wants to hear any more. Listening to him on the Today programme, I was left wondering does he really believe what he is saying or does he think we are stupid?

He told us the UK had enjoyed economic stability for ten years, including a better record on inflation than many other countries. Has he checked the figures? If you look at the UKs record on the RPI it is worse than the EU or the USA, which is why his predecessor had to switch indices to make it look less bad. Does he think the credit boom followed by the credit bust and a run on Northern Rock is proof of stability?
Is he aware that UK interest rates have been higher than US and EU rates for most of the last decade?

Worse still was his incantation that all this stability had been created and guaranteed by an independent Bank of England. Is that the same Bank of England that Mr Brown reduced in stature so badly by amputating its control over government debt and clearing bank supervision? Is that the same Bank that has to work with the FSA under the chairmanship of the Chancellor when banking problems emerge in the markets? Is that the same Bank that gets briefed against when the Chancellors tripartite system makes a mistake? Is that the same Bank that had to keep interest rates lower than it would have liked and money looser, because the former Chancellor changed the target for inflation at a crucial time when rates would otherwise have gone up? Is that the Monetary Policy Committee whose members are appointed directly by the Chancellor, or by bank officials themselves appointed by the Chancellor? Is that the same Monetary Policy Committee where we are not allowed to know why some members were renewed by the government, and some were not?

The Chancellor should learn that he cannot spin himself out of the current economic difficulty. Some figures will pop up to reveal spin. Many clever and well informed people are watching his every action, and every movement of the economy. The Chancellor would do himself a favour if he dropped the tired old fashioned wrong headed highly spun rhetoric of the Brown years, and started to understand the true nature of the problems he faces. These include:

1. An overspending state which is not getting value for all the money it is tipping into the public sector. He should immediately impose a staff freeze on all public sector posts other than front line in essential services. He should take Conservative proposals to get people back to work seriously, and do something similar himself instead of just talking about them.
2. He should try to stop the flood of public money into Northern Rock, and impose some discipline to ensure repayments.
3. A broken regulatory regime where the Bank has been undermined. He should return government debt management and day to day banking supervision to the Bank.

The Chancellor is now ransacking the files of the 1970s as he seeks to curb an inflation his predecessor and the monetary authorities allowed to get a good hold through their easy money policies of a year or so ago.

He seems to believe that lectures to groups of people will work. This week he is applying his time to lecturing the energy companies to keep the price of electricity and gas down. Has he noticed the international price of oil has just surged to a new high? Will he, like King Canute, signal to the oil market that it must recede? If he managed to hit it just as the tide was turning, he could look quite clever to the uninitiated.

Meanwhile, his mentor next door is busy lecturing MPs to vote down the independent pay award recommendation (whatever that may be), so that MPs can show solidarity with the police, whose independent pay award has been docked by the government. The Prime Minister may at last have found a popular cause with the public, but it is difficult to believe the odd percent off MPs pay will transform the inflationary problem the government faces.

You might have thought Mr Darling would be fed up with lecturing people, after his disastrous lecture on the need for bank to become more prudent without government or Bank of England intervention and assistance, just before he offered the most comprehensive assistance to banks and markets during the Northern Rock crisis.
This latest round of arguing against the energy price and pay inflation is like arguing against the weather. This inflation was made some time ago. It is not going to persist in a year or sos time, given the dreadful credit crunch we are now living through in money markets. Timing is everything.

In the 1970s a previous Labour government used to lecture everyone on how much they could earn and what they could charge for things they sold. The pay and prices policies they developed of course failed to contain inflation, and became extremely unpopular. They overspent, overborrowed and wasted money as a government, and failed to keep proper control of the money supply.

There are some worrying similarities in outlook between Labour Chancellors then and Mr Darling now. The good news is the international background is much less inflationary today, and the credit crunch means inflation is not the true enemy looking beyond the next few months. The bad news is Mr Darling does think his lectures will make a difference, at a time when he should be concentrating on getting the credit and banking markets functioning properly again. His two tasks for this week should be

1. Find a solution for Northern Rock which stops the taxpayer funding increases
2. Start controlling public spending ?? he could place strong controls to prevent recruiting extra people to the public sector other than front line people like nurses and teachers, and back that up with a moratorium on management consultancies and IT projects without very thorough examination of why they were needed

Unfortunately we have a Chancellor who sees his role as being part of the media commentary on the situation, instead of the key player trying to lift a losing team.

There are two tired and overworked phrases in this governments repertoire which we are about to hear concerning Northern Rock.

The first is ??We have learned the lessons?? of whatever catastrophe they are talking about.

The second is: ??We will make sure this will never happen again??.

Ministers usually recite these phrases instead of providing proper analysis of what went wrong, and in place of ensuring the people in whatever regulatory system they have are up to the job and empowered to make the right decisions in good time.

I remember when I was the DTI Minister responsible for financial regulation, in the days when the DTI regulated insurance and financial services itself, having to handle the occasional problem. Each time the cry would go up to change the law and regulation. I usually pointed out that what had happened was a breach of the law or regulation anyway. We werent short of laws even then and there are many more now. It was intelligent enforcement that had failed. I was also pressed to guarantee it would never happen again. I was usually careful to make no such guarantee, and to point out that in any field of human endeavour there will always be some mistakes and some lawbreakers.

This government is foolish to say there will never be another loss of data by the public sector, because there will be. They should claim instead it is much less likely. They do have to be able to say there will never be another run on a bank, as we know we can have a period of more than a hundred years without one. Something uniquely wrong has happened on their watch.

My concern with Northern Rock is that the government does not appear to have learned the lessons. It is usually wise to manage a crisis to a conclusion before attempting to learn all the lessons. This crisis is far from over. Where there is a need for earlier action ?? as there may be on a deposit guarantee scheme ?? it needs to be carried out as an interim response, not foreclosing other action to mend the regulatory system once the crisis has been resolved or is stable.

What are the lessons of Northern Rock?

It is unwise for a Chancellor and Bank Governor to lecture the banking system about the need to deal with their own banking mistakes without assistance from the authorities, just a few days before offering massive assistance on a scale never before seen in the UK. If the authorities know of an institution in trouble ?? as they did a month before the run on the Rock ?? they should avoid inflammatory statements that they might have to rescind.

It is unwise to keep the banking system starved of cash until a major institution is in deep difficulties, and then to provide money to the system after a run on a bank has begun. If money is going to be provided, it should be provided early.

A tripartite structure for responding to a banking crisis is too inflexible, and keeps the Bank starved of important hour by hour information on the state of banking markets. There should be a unified command under the Bank of England. The Bank should have to keep the Chancellor informed, and submit to his judgement if things become out of hand. The Bank needs to get back the management of government debt, and day to day banking supervision, as it had before the Brown reforms.

The Basel I capital rules did not work as intended, and Basel II may now make matters worse. The government should enter discussions with the international community about a sensible capital adequacy regime, which gives enough attention to liquidity, and which deals differently with off balance sheet items.

The world authorities should avoid seeking to increase the capital requirements rapidly at a time of banking risk aversion. Any necessary increase in banking capital requirements should be phased in, as the system stabilises and starts to function more aggressively. IT will make matters worse if we hear the sound of regulators slamming the doors on capital adequacy after the horse has bolted, against a background of damaged balance sheets and a reluctance to lend.

The government should consider changes to allow take-overs of banks in trouble to take place rapidly, with the negotiations happening in private. This may well entail changing or clarifying EU law. This should be carried out urgently.

The government has asked the private sector to come up with a better deposit guarantee scheme. This should be put into effect promptly. More importantly,. The government should work out how to climb down from its blanket guarantee of all bank deposits in the UK of any bank in trouble without triggering a further run, seeking to do this in parallel with the changes to the overall guarantee system.

The news today that London Scottish Bank is being told by the FSA that it needs to raise additional capital is a grim reminder that the credit crunch of 2007 gives 2008 a grisly hangover. London Scottish itself is a small company, led by a new cautious CEO who wants to provide for difficult conditions in the lending markets and to meet the Regulator’s requirements for capital. Understandably he wishes to write off anything he has inherited which he does not like the look of, just to be sure. The provisions can always be put back at a later date into profits if conditions improve. The importance of this small case is that it setting a standard for how much write off and provision should be made against certain types of lending. The Regulators will use it as an example of how much capital a bank now needs in these straightened times. It could mean more write offs and more capital raising by the bigger banks.

There is always a danger that worldwide regulators will seek the lock the stable door after the horse called Prudence has well and truly bolted. If they do this on any scale, they are tackling last year’s problem of excess, not this year’s problem of too little lending and confidence which will delineate the opening months of 2008. Regulators will reason that they must learn the lessons of the period of too much credit, and now demand more cautious lending as well as insisting on banks having bigger reserves and more spare capital. This impulse will intensify the downturn in lending and keep money tight in banking markets. Inspired Regulators respond to the conditions that pertain today, looking ahead to tomorrow’s problems. Other Regulators look back to past problems and try to make sure they can never happen again. They will, of course, once the Regulators have been forced to respond to the next set of problems which are the opposite of those of the period of excess.

All this has been made much more difficult for the western economy by today’s adoption of Basel II, the new regulatory capital requirements. The natural temptation for the world’s regulators will be to use these new rules as an opportunity to revisit the money banks need, and to raise the standards, demanding more liquidity and more capital for any given volume of business. If this had been done a year or two ago it would have been a very good thing, and would have reduced the excess in lending and leverage which characterised the easy money era. Done too much today, and it will deepen the crisis, reducing the amount of money available for lending in the system still further, and pushing banks into more aggressive competition to raise the regulatory capital they need to sustain their current level of business.

Regulators are very important players in this credit crunch. As I argued yesterday, the regulatory requirement for Home Information packs is distorting the UK housing market, keeping homes off the market and delaying the price adjustment. Worldwide banking regulation could reinforce the boom bust lurch in credit markets if we are not careful. In the good times Central banks and other regulators turned a blind eye to the big build up of lending and the low levels of liquidity held by some institutions. Now they might go too far the other way, demanding standards of prudence that the damaged and constrained markets will struggle to provide at sensible levels of new lending.

All this is relatively bad news for the UK economy, where government indebtedness and the huge balance of payments deficit add to the unfortunate inheritance for 2008. There is talk of further tax rises to tackle the excessive government borrowing. There should instead be talk of controlling public spending better, as the last thing the UK economy needs right now is a set of further stealth tax increases. The government could begin by showing it now understands the need to control its spending, by getting a grip on how much it will lend to Northern Rock and when it intends to receive some repayments. It could cancel the hated ID cards spending, on a day when it is revealed that the UK has come to rank in the lowest grade of countries with respect to protecting citizens’ privacy. The Privacy International Think Tank just tells us based on comparative study what many of us have known intuitively for some time – we have lost a lot of liberty, and the government is sending us the bill for all the suurveillance and form filling. There will be an economic price to pay for all this in 2008 as well as the loss of liberty.

The choices for handling Northern Rock have been narrowed to three by the spinners for the government and the Lib Dems.

The first is sale of the bank to a third party who could repay some of the government loans immediately, and take care of Northern’s financing needs thereafter. The best chance of doing this was the Lloyds expression of interest before the crisis became acute. The authorities failed to respond positively.

Since then we have not been told of any large organisation emerging as a bidder which has the balance sheet strength to take it on and solve the problem itself. The two preferred? bidders need access to substantial market funding, and one only wishes to buy a minority stake. Even Lloyds needed financial help from government and the markets, as Northern is big even for a bank the size of Lloyds. Anyone needing access to substantial market funding will face the same kind of difficulties that caused the problem in the first place the drying up of credit in markets.

Everyone agrees the sale to a third party who could solve the financing problem would be ideal, although there remains scope for disagreement about how to value the existing shareholder interest in such circumstances, and scope for disagreement about how much money taxpayers should expect to get back immediately, and for how long the remaining money could be lent to the new owners.

The second is nationalisation, the Lib Dem’s recommended solution?. The new Lib Dem leader showed his folly by rushing in to back this irresponsible proposal as one of his first acts, after appointing a pop star as an adviser! He clearly does not want to be taken seriously and does not think things through before issuing the press release.

Taking on over ??100 billion of risk in a single mortgage bank at a time of falling house prices and credit crunch is too big a bet for taxpayers. Many of us think taking on ??25 billion of risk is dangerous, but quadrupling that is absurd. The government itself has stupidly increased our risk by an amount the Chancellor told us on December 19th he could not quantify! It shows they are being far too cavalier with our money.

As the Lib Dems themselves admit, the government would not bring any especial expertise to running a mortgage bank and would need to seek professional management from the City. They say it would be temporary, leading to a sale at a later date. They forget that nationalising would mean the taxpayer had to pay for any one off losses or write downs that may be necessary on inspecting the books, and for any running losses the bank might incur under nationalised management.

If it turns out the bank cannot sustain its current level of employment, the taxpayer will have to pay for the redundancies. If the bank needs to expand its branch network or invest in new computers, the taxpayer will have to make a judgement about that use of public money as opposed to school and hospital spending. Given the scale of Northern Rock total liabilities bigger than the health budget any government would be mad to take on those risks. Just losing 1% of the assets costs more than ??1000 million.

The third is Administration. The government could demand repayment of its loans (subject to any legal promises it has made about their duration, which the government refuses to tell taxpayers and Parliament) which could trigger administration in current circumstances as there is no lender prepared to replace the taxpayer at the moment. That too would be a foolish policy. Shareholders would be aggrieved, as they have been told by the authorities that their bank is solvent and been led to believe taxpayer funding will see it over a difficult period. There is no good market in mortgages and the other principal assets Northern Rock owns, so any fire sale at these levels would guarantee the taxpayer lost money. The Administrator is no more likely to find a big buyer for the whole bank than the current auction team. There cannot be any potentially interested party in the world who is unaware of the sale process. If the government favoured this route it should have refused to lend the bank any money in the first place so no public money was at risk.

There is a fourth option which needs proper discussion. I call it the tough bank manager? approach.

The option starts from where the government has got us from the position where taxpayers have lent money and guaranteed loans but do not own the mortgage bank. It recognises that when you are in a hole you should stop digging. We have to accept that the Treasury/Bank of England combination are the principal bankers to Northern Rock. It is high time they started acting as a bank manager faced with an over borrowed client who cannot repay in a timely way.

They need to:

1. Explain the limits of their funding to Northern.
2. Set out the interest rate and interest payment dates for the loans.
3. Set out a schedule for capital repayments.
4. Take all the asset cover there is left in Northern to secure their huge loans.
5. Insist on daily cash and profit monitoring.
6. Place a cash sweep on the business that returns surplus cash to the taxpayer at regular intervals.
7. Insist on approving all increased spending of any kind on capital and revenue account.

The repayment schedule should not expect repayments currently, whilst the main banks are trying to arrange their own affairs to show strong balance sheets for the year end. It should start phased capital repayments later in 2008. It would be up to Northern’s management to decide whether these repayments could be met from trading profits and cash generated within the business, or from refinancing in commercial markets, or from selling assets. Where assets are sold, the government team needs to insist on a minimum price to protect its asset cover position.

The extraordinary thing is that apparently many of these basics of banking have not been observed by the nation’s top financial team. The Chancellor on December 19th in the news conference once again told us little. I hope they are doing more than they are saying, but there is no evidence that they done a good job on securing the taxpayers position, either by means of securing full specific asset cover or by means of repayment schedules that are tough but achievable. It’s high time they started. We are told they have asset cover for the loans, but specific questions have not been answered about how the protection works. There has been no hint of any repayment schedule.

It appears they hoped the Branson bid, and then the nationalisation idea, would reassure depositors, reducing the pressure for taxpayers to put up more money to replace lost deposits. The best way to secure the deposit base is to take strong and sensible action, so it looks as if the government as bank manager has a professional grip on its over borrowed customer, and will stand behind them until it is sorted out. If a buyer emerges who can raise the necessary money then all well and good the bank manager can agree to the sale if that is what shareholders want to do, having secured the taxpayers’ interests.

All this assumes Northern is a solvent business which we know it has to be as the regulators are letting it trade. Assuming they are right there is no need for taxpayers to lose a penny so why won’t the Prime Minister repeat his promise about that? His hesitation damages confidence. If they nationalise it the taxpayer is likely to end up with a huge bill given the past track record with nationalised businesses, as well as legal actions from unhappy shareholders assuming they offer little or no compensation to them.

I naturally wish those trying to sell Northern every success in finding a good answer, but I do want the government to protect the taxpayers’ money fully in those negotiations.

Today, at last, on the Jeremy Vine show, I was allowed to explain how the government should deal with Northern Rock, and set about getting our money back from the ailing mortgage bank. I was also allowed to debate why nationalisation would be too expensive and too risky for taxpayers with Vince Cable.

I trust also it was good radio for them. It was certainly more balanced and more lively than the Today programme’s fawning interviews with the Lib Dems, with no-one allowed to challenge their nostra.

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.