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A couple of weeks ago two senior figures in the private-equity industry - two of the most red-blooded capitalists I know - asked what I thought of a state-owned bank.
Their view was that the major problem the economy faces is that credit has dried up, and without credit businesses cannot function. It is not simply that there is no money for expansion - there is not enough money for the day-to-day needs of business either, so the current level of activity simply cannot be supported.
Without bank finance, companies have insufficient working capital to buy and hold the raw materials to make things, and cannot afford to wait for customers to pay them on the goods they have already sold and delivered. If they cannot find the cash from other sources - selling assets, or cost-cutting - they have to retrench or go out of business.
It was hoped that once the banks had been recapitalised, with billions from home and abroad, that things would get better. Perhaps they have a bit - Libor has certainly fallen, which implies that the banks are little more willing to lend to each other at least.
Overall, however, the system is not functioning as it should. Hence the question from my lunch companions. Why not simply create a massive state bank and use it to lend to industry and commerce instead?
Two weeks ago, the state going fully into the banking business - rather than simply running off the likes of Northern Rock and Bradford & Bingley - seemed an outrageous idea. Now I am not so sure.
Each day brings more stories of how the banking system continues not to function as it is supposed to, and there seem to be only two things that can be done about it.
One is nationalisation as just outlined, with the state taking the banks over - or creating one of its own - and then doing what needs to be done to meet the commercial needs of the nation. The alternative is to do nothing other than to wait for however long it may take for the banking system to heal itself.
The difficulty with the latter solution is not only that it could take a very long time indeed - and at the moment no one knows exactly how long that will be. The second and associated problem is that we may well find when we get there that the level of economic activity that is compatible with "normal" banking behaviour will be lower, and could be massively lower than the levels we have grown used to in recent times.
That implies an equally massive contraction of credit and a huge amount of economic dislocation. Faced with that choice, nationalisation doesn't sound such an outrageous idea after all.
Reader views (4)
The essence of the current problem is that the regulatory and accounting regime which has developed in the last few years is intensely pro-cyclical. The Basle II regulatory regime requires banks to hold more capital as credit risk increases. Marking assets to market eats into bank capital as assets are marked down (even where the assets are expected to return par). On top of that, regulators have also now forced banks to run a higher Tier 1 capital ratio. As a result, notwithstanding the significant capital raisings which have occured recently (or are projected to occur), banks are not able to lend -even where they are very comfortable with the credit risk, because they are unable to lend without negatively impacting their capital ratios.
In particular, recent requirements for banks to have a higher Tier 1 ratio, mean that none of the capital which they have (so expensively) raised is available for new lending activity. Yet the purpose of capital is to absorb losses - so one would have thought that the better approach would have been for regulators to require banks to recapitalise, but then to allow the banks to reduce their Tier 1 capital ratios on the basis that banks would expect their capital ratios to reduce in a down cycle. This would also allow banks to lend again. And in case regulators are concerned that banks will lend to people/companies which can't repay, even banks aren't that foolish - they may repeat the same mistake, but not right away.
- Alex Wei, London, UK, 18/11/2008 23:00
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As a first step the banking empires should be forced to divest themselves of their salable assets. Only then will we know if what is left needs support. Why doe snot RBS sell Coutts - this is a very valuable asset. Why does not HBOS sell Clerical and Medical?
This be conducive to competition. And there is no evidence that these takeovers and others have delivered enhanced value to either shareholder or customers.
- Michael Corby, London UK, 18/11/2008 22:26
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Sorry, but the UK govt is busted, broke. Where will all of this money come from for a UK Bank? Mid 2009 foreign lenders will dictate to the UK what rates you will pay for continued record (and increasingly risky) govt & personal borrowing. The days of Brown telling lenders what interest he will pay is quickly coming to an end. You are close to passing a very dangerous point. Now you wish to start a national bank as well financed with further billions borrowed from abroad?? Wake up Mr. Hilton, the UK will have no choice but to start behaving as an irresponsible debtor who now must repay its grotesque loans. Your economic activity will be greatly reduced in any event as spending borrowed money is not the same as wealth, as you will no doubt recognise. Of course you seem to believe the solution is further borrowing at all levels to continue pretending the UK is wealthy.
- Kr, Florence ITALY, 18/11/2008 15:47
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The only way to release credit into the small business is for the government to create a debt facility for business customers, based on realistic commercial rates. This would cut the control over the depth of the recession away from the banks who would either have to match the rates or face losing another revenue stream, something they can't afford to do.
Currently there is no leadership in the financial community and no responsibility has beeen taken by any of the banks for the grievious misuse of their trusted position in society. Therefore it is unlikely that they will do anything other than further threaten the global economy by maintaining the current credit squeeze which is seeing businesses fold by the hundreds everyday.
Their mistakes combined with the greedy actions of the government have created this situation, but they to my well informed knowledge have no desire to take the necessary action to prevent it worsening... depression here we come.
- Anon, Huntingdon, 18/11/2008 14:53
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