I was asked to write a piece on what the government should do next in the Northern Rock refinancing saga. Those most closely involved – the company, shareholders, the Bank of England and the government – will need to take professional advice on the legal, tax and investment complexities they have dug themselves into. The general position however, remains much simpler than those who clamour for nationalisation suppose. The government as main lender has all the power it needs to protect taxpayers, whcih should be its prime aim. I sent the following to the Guardian:
The government seems to have been mesmerised by shareholder power. I donâ€™t know why. The truth of the position is simple. Northern Rock needs access to large sums of public money to keep its business going. There is no other source for this money in the short term. The government can therefore set out its terms.
It is wise to seek agreement with shareholders and the mortgage Bank, but foolish to underestimate the power in the governmentâ€™s position. The taxpayer wants the government and the Bank of England to do a good deal, which saves the bank and ensures the taxpayer will get early repayment of the large sums with interest. The taxpayer should also be rewarded with stock warrants or options to give the taxpayer some share in success, if the rescue works well and the shares recover.
The rumoured decision to demand the end of the guarantee in three years rather than the originally floated five years changes the nature of the task any owner of Northern Rock faces. It means they need to generate more cash more quickly, or to be sure they can raise private finance more quickly. Assuming the government changed the terms on offer like this, it should ensure all potential bidders know, and each bidder has to be given a chance to change their bid in the light of the new circumstances. Presumably the government realises if they press for a shorter repayment period it will increase the pressure on management to cut costs, and may result in a smaller business. This does not mean it is wrong, as the taxpayer does want to know the money will be repaid sooner rather than later.
In order to decide between the competing bids, the shareholder representatives have to satisfy themselves they are recommending the best bid in the circumstances to improve shareholder value and give the business the best chance of future prosperity. It is not for the government to decide which bidder, but it is for the government to make its terms as Bank manager clear to all bidders. Given the scale of lending to the company the government has an effective veto on any bidder, as the government could decide (only if there were good reason) that a particular bidder did not satisfy the government that it was likely to be able to repay the loans in good time.
From the beginning the government has failed to tell us how much it has lent, what interest rate it will charge, when it will b e repaid and how much security it has taken for the loans. These are all elementary parts of good banking. Let us hope these necessary arrangements were made to protect the taxpayersâ€™ interests. Now there is the chance of shareholders putting more money in, or a of a new plan by management to develop and finance the bank, the company needs to make a decision. To do so it needs to be sure how much money it can borrow for how long on what terms from the government. That will then help determine how quickly the business will have to be reduced in size to repay borrowings, and how much scope there is to try and trade their way out of cash shortage.