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Churchill said Americans could always be relied upon to do the right thing, after they had first tried and failed with everything else. But in the current financial crisis this truth applies not just to Americans but to governments around the world. None of them has got it right. Most have been prompted by the sight of the banking system crumbling before their eyes to take action in some form. But no one has ever seen anything like this before, so they are making it up as they go along. As a result, much of what they have done so far has contrived to make things worse.
Stock markets round the world realised this yesterday and reacted with a global sell-off of equities, which led to the biggest one-day fall in London since 1987, the biggest ever one day fall in Paris, and extreme nervousness and pessimism to come. Short term at least that is likely to continue.
It is a measure of how difficult these problems are that this is particularly true about what is undoubtedly their most popular measure — namely the guaranteeing of depositors' money in banking systems here and in many other countries. When people were seen on television queueing to make withdrawals from Northern Rock, the British Government stepped in to guarantee the safety of retail deposits up to a certain threshold and stopped what could easily have turned into a mass panic.
It was applauded on all sides for doing so because the alternative at the time was simply too awful to contemplate. But it is now obvious, unfortunately, that such moves that put retail deposits at the head of the queue by definition push other deposits to the back. Among those relegated to division two are the loans made between banks — one to another — that in normal times are the very lifeblood of the system.
It is the freezing up of this inter-bank activity that is the reason why the crisis rumbles on and on. Banks no longer trust each other because they do not know who is solvent and who is not. That of itself makes them reluctant to lend. But knowing in addition that they are last in the queue of depositors if a bank does go under turns them off the flow completely.
So as governments around the world — Greece and Ireland one day, Germany the next — succumb to the pressure to protect their voters' money in its entirety, they inadvertently add to the global problem. As Simon Gleeson, a lawyer at Clifford Chance, said yesterday: “What makes good sense in local electoral terms is quite disastrous for the system.”
Part of the problem in Europe is that these bank failures are often too big for one country to handle because the assets and liabilities of the banks in trouble are far larger than the national income of the countries concerned. Aid of a kind was patched together between Belgium, Holland and Luxembourg to help Fortis, the biggest bank in Belgium, but that falls well short of a solution for the whole Continent. Yet when the politicians from Europe's largest economies met last weekend
to see what they could thrash out in terms of a co-operative deal, they got nowhere.
There is something not quite right, however, in the way in which the financial markets are turning on Europe's politicians for their failure to come up with a cross-border plan. In this country, at least, many of the loudest critics of this political “failure” are the very people who for years have led the Eurosceptic charge against everything emanating from Brussels and have vehemently opposed each and every attempt by the European Union to create supra-national institutions. Now one is desperately needed. We have a Europe-wide crisis that is beyond the scope of individual governments to deal with and a vacuum where the power should be. Meanwhile, the ball is back in the court of national governments to deal with a global crisis — and it is not a fair fight.
There are still things governments can do but they need to step up a gear. One of the best-argued plans doing the rounds was drafted by Hugh Osmond, chief executive of Pearl, the insurance group, and a well-known business figure. If people are worried that banks are going bust, then the solution is for government to inject a sufficiently large slice of new share capital into them to remove that fear. It would not nationalise the banks but it would recapitalise them. This would restore trust between banks, get them dealing with each other again and gradually confidence would return. As confidence returned, and the banks were restored to health, the cash would be repaid to government at a profit. Even better than this, it would give complete security to depositors.
Something on these lines is certainly under consideration, if only because it was how Sweden solved its banking crisis in the early 1990s; it is not dissimilar from what Warren Buffett has done as a private individual with Goldman Sachs. The hesitation, however, is twofold.
First, there is some reluctance to take a step towards what critics would claim was a partial nationalisation of the whole banking system, not just because of the political fallout but also because it could, in foreign eyes, undermine the long-term status of the City as a financial centre — given that its freedom and flexibility were among its major selling points. In spite of everything that has happened, this is still something the authorities want to preserve.
Second, there is the uncomfortable feeling that the injection of equity capital is the last shot in the locker and once such a plan is announced it would have to work — because there is nothing left after that. Accordingly, at the very least, if government is to go down this road it would like to do so in a co-ordinated fashion with the other leading powers in Europe. However, as last weekend's abortive talks between the leaders proved, it is not there yet.
Perhaps, then, there is a need for an even grander solution, and one that is genuinely global. No one has listened much to Gordon Brown over the years when he has talked about using the International Monetary Fund to act as a global policeman to the world's financial system. Now, however, it could be an idea whose time has come. The IMF has its own capital and the power to raise much more. It is used to making loans and bailing out failing nations, so it should be able to get its mind around a bank balance sheet and do the same for them.
It thinks and acts globally, and it does not have much on its hands at the moment. Also next weekend it and the world's bankers will meet for their annual conference in Washington where the crisis is bound to overshadow everything else. What better launch platform could they have?
Reader views (3)
If the answer is more EU government, you are asking the wrong question. The EU regulations on overnight liquidity have largely caused the retail banking mess. They can't withdraw them quickly, because they have enshrined them in their absurd creed. EU politicians are up to their necks in self promotion, and hubris junkies. The EU is a mad delusion, and this may speed its demise, as depositors come to learn their governments were PREVENTED from acting quickly and decisively by the fools in Brussels.
- George Edwards, Beijing, China
Charles. The answer is the opposite of what you say. The problem is due to the unacceptable face of internationalised capitalism (recklessness using funny money) plus inadequate national regulation (cf FSA). We need to renationalise the supply of credit, expanding it in line with production growth and protect the public from international institutions that work for vested interests, not those of the British people. Give vital power away and you'll never get it back.
Have you noticed that, not content with having its superstate treaty rejected in a popular vote, the EU is trying to stop Ireland looking after its own people's economic interests?
- Jools, London
When even Germany is not big enough to take on the balance sheet of Deutsche Bank with €1.4trn of assets (after netting-off derivatives), then the banks have become too big for one European country to save individually and credibly.
Countries going it alone expose themselves to the risk of becoming another Iceland, which is now being bailed out by the Russians. In order to resolve the crisis in Europe we need to underpin all the 50 or so systematically important banks otherwise tax payers money will still be at risk of contagion from a collapse of one these banks. Any capital that had been injected would be lost.
Rather that trying to get global agreement which could take too long, the US House is in no mood to approve another bailout that would be even less popular with US voters than the last one. The EU leaders could, should, must use the European Investment Bank as the rescue vehicle. It has €160bn of subscribed capital available. This is about 8x the market capitalisation of RBS and coupled with the ability to borrow more, would be sufficient to re-assure and re-capitalise the system.
Anthony is right about the Eurosceptics now having egg on their collective faces as they realise the futility of national solutions in this international world.
- Charles, London UK
