Banks’ rescue has barely begun

They should be more careful about what they wish for. The reason banks don't "fess up", and politicians do not know the size of the problem, is that the sums beggar belief. Those of you of a strong disposition might care to share in the back- of-the-envelope calculation handed to me yesterday by one of those few people in London who was in the thick of the boom and really does understand what was going on.

His starting point is that about 20 banks in the world (still) have more than $1 trillion of assets, and there are a further 40 banks with more than $500 billion each. So the biggest banks in the world have an asset pool of at least $40 trillion between them. This is a conservative figure, the more so because it ignores all the stuff owned by smaller banks, insurance companies, pension funds, hedge funds private-equity houses and end investors.

Asset values have dropped by at least 25% across the board — which is again being conservative, given that some of this toxic stuff will be worth a lot less than that. That means those big banks have to grapple with writedowns of about $10 trillion. So far, the sums injected into the banking system in cash or by way of guarantees and insurance by governments and everyone else are estimated at about $2 trillion. On that basis, we are a mere fifth of the way there.

Figures such as these also underline why it will not be easy, and may not be desirable, for government to take over all the bad loans and
put them in a "bad bank", even if it wanted to.

Most British banks are huge organisations with operations and customers all over the world. This toxic debt may not be located in this country — it could quite easily be in a foreign jurisdiction, and loaned or owned by an overseas subsidiary. Some of the write-offs by RBS yesterday related to its ABN Amro acquisition, so in that case we have deals made by a Dutch bank in jurisdictions far even from its shores.

So why should the British taxpayer pick up the responsibility for these losses — and indeed have they the legal right to take on these loans, given the price would be heavily marked down?

Scary stuff, but it does help explain why the market's response to yesterday's rescue package was unenthusiastic. It also adds weight to the view that the piecemeal policy actions and rescues by government are becoming less and less effective, and that more drastic action may be needed sooner rather than later.

The solution increasingly looks like full nationalisation of all the British banks, Barclays included, because only the strength of a government's balance sheet behind them will give investors sufficient confidence that they will ride out the storm.

If this is too much for people yet to contemplate, the only possible way to get to a private-sector solution would be to lower significantly the capital adequacy requirements of the banks so that they could use their given amount of capital to support much more lending — and incentivise their shareholders to make them get on with it.

The piecemeal alternative we have at the moment seeks to tread a path between these two extremes, satisfying nobody. It also risks giving the opportunity to deliver thumping long-term profits to arbitragers — for example, the Middle East investors in Barclays who benefit indirectly from the guarantees on deposits and lending without having to pay or be restricted by them.

It therefore does not seem to be the last word on the matter. There is more that still needs to be done before the banks can properly be thought of as rescued.