Thursday, January 22, 2009

Bailing out the banks

There is now a serious cry from the left (and not just from the left) that the entire British banking sector be taken into state ownership, ‘nationalised’, in order to prevent its complete collapse and to ‘restore lending’. Without needing to go to Randian levels of objectivism, there are a few obvious arguments against this. The first is, as John Gapper points out, that Governments do not have a good track record as bank owners. Seumas Milne unwittingly demonstrates why here, while attempting to discount the possibility of politically directed lending:

In any case, public ownership doesn't imply political control of individual loans, though it does offer the chance of steering finance into more productive and socially valuable parts of the economy.

You may have noticed that the second half of this sentence explicitly contradicts the first. But then, as the second string to this argument goes, the private sector have hardly demonstrated terrific ability in its handling of the banks has it? Well, no they haven’t – although it’s worth pointing out to those salivating for show trials and the prosecution of CEO Byng that the cause of the financial crisis has been a repudiation more of financial whiz-kiddery than it has been of capitalism or free markets. And apart from that, the fact that private sector management has made a mess of things absolutely does not mean that the public sector would be any better. British Leyland ringing any bells here?

In fact lets have a little case-study, for we do after all have a nationalised bank in Britain at the moment. What's happened to Northern Rock's lending patterns since it was taken into Public ownership?

Since nationalisation, the Rock has not only sought to deter new customers by offering a small and uncompetitive mortgage range (it does not have a single tracker deal), it has also tried to encourage existing borrowers to leave by refusing to cut its standard variable rate in line with falls in the official Bank rate.

The resulting speed and scale with which the Rock's loan book has shrunk has been dramatic. In 2007, the Newcastle-based bank was the country's fifth biggest lender with gross mortgage lending of almost £30 billion. Last year, this fell by 90 per cent to about £3 billion.

There is an intellectual dislocation between the arguments over what caused the credit crunch, and the proposals to get us out of recession. The credit crunch, it is argued, was caused by too much lending, based on too little capital – exaggerated by the utter collapse in asset value of much of the banking sectors’ assets. So in order to get us out of recession the banks need to lend more. Well, you cannot simultaneously expect the banks to increase lending, shore up their balance sheets and ‘pass on’ interest rate cuts that bear no relation to the cost of the banks’ borrowing – it’s impossible. Burble on about ‘greedy’ bankers and ‘irresponsible’ hedge funds all you like, but don’t simultaneously demand that they lend you money at lower rates than they themselves can borrow it.

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