Whether to be mutual or corporate, that's the question

Chiara Cavaglieri analyses Labour's plans for Northern Rock
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The Independent Online

Labour's plans for the failed Northern Rock bank could see it return to its former building society status, it was revealed in the party's election manifesto last week.

This option has been proposed as an alternative to the bank being sold privately or refloated on the stock market. But although the decision is not yet set in stone, it has the full support of organisations, such as the Building Societies Association, which have been campaigning for mutuals to have a bigger role in the financial sector.

Bailed out by the Government and then nationalised in February 2008, the Rock became a by-word for poor management and extravagant lending. But more than two years on, and after steadily reducing its mortgage book, the bank still owes taxpayers nearly £11bn. Many voters will understandably be more concerned that the Government generates as much money as possible. So can returning it to a building society be that simple?

"If you just wanted to get value for it, you take the money and go, but if we're trying to achieve the stable utility banking people say they want, you must take a longer view," says Matthew Bullock, the chief executive of Norwich & Peterborough BS.

In a bid to make it more appealing to potential buyers, the nationalised bank's assets have been split into two parts; Northern Rock and Northern Rock Asset Management. The former, formed in January this year, holds all pre-existing accounts and offers new savings and mortgage products. The latter, the "bad bank", holds the pre-existing mortgage book and does not take deposits or offer any new mortgage lending. This arm is set to be integrated with Bradford & Bingley.

If the bank were simply sold to the highest bidder, Mr Bullock argues, the focus would not be on developing it to the benefit of customers, but rather on making short-term gains.

"The commercial banks aren't interested in personal business; they make a higher return from commercial dealings and will typically look to see what they get out of it rather than grow it," he says.

So, if taxpayers are willing to wait to get their money back, what other benefits could a strengthened mutual sector bring to the table?

Arguably, it will move the banking sector away from risky practices that led to the credit crunch and encourage it to build up equity from customers, instead of capital markets. Because they are owned by members, the primary concern for a mutual should be fair pricing for members, not shareholder profits. But in the long run, a diversified financial sector should be good news for the consumer, and if the Rock is kept independent of the big retail banks, consumers should see increased competition.

As things stand, Northern Rock has a fairly active mortgage arm and is still a big savings provider. Melanie Bien, a director of the mortgage broker Savills Private Finance, says that a stronger, revitalised mutual sector should provide more options for borrowers and drive down mortgage rates.

"Mutuals offer some of the most competitive rates, topping the bestbuy tables. They are known for treating customers fairly, being transparent in their offering and benefiting their local communities," she says.

Ms Bien adds that, as a building society, Northern Rock may be better equipped to help the 4 per cent of its customers still in arrears and the many more trapped in negative equity.

However, critics point out that the mutuals sector has seen more than its fair share of problems in the wake of the banking crisis. Few societies were left unscathed and a number were forced to merge, or were taken over.

At London & Country, David Hollingworth's day-to-day experience as a mortgage broker causes him to doubt that mutuals invariably offer the best deals to their customers. "On some occasions, mutual societies will offer extremely competitive products, but not across the board. Some of the more consistently aggressive lenders have been the likes of Barclays, Santander and HSBC," he says.

One of the biggest problems that a remutualised Northern Rock could face is raising enough capital to expand. The costs associated with acquiring and retaining retail deposits are high, and with building societies having limited access to wholesale money-market funding, this reliance on customer cash has posed significant difficulties for many.

"The rates mutuals have offered for customer cash have been bid up to levels that many regard as uneconomic (although this is good news for savers)," says David Black, the head of banking at the analysts Defaqto.

There are also still only a small number of lenders doing much in the way of net mortgage lending.

"Many of those lenders will be heavily reliant on the earnings from their back book of mortgages. If they have a substantial back book of tracker mortgages at relatively low margins above base rate, it will severely affect their margins," says Mr Black.

If the Rock is remutualised, it will take much longer for the taxpayer to be repaid.

"The manifesto seems to suggest that they can return Northern Rock to a mutual and also raise money for the taxpayer, but it's difficult to see how those are mutually compatible," says Gavin Oldham, the chief executive of The Share Centre, who argues that floating the shares of Northern Rock on to the stock market is the best way forward.

Expert View

Gavin Oldham, Chief executive, The Share Centre

"The best way forward would be to float the shares of Northern Rock Mark II on the stock market, with at least half the shares going to personal investors. That way, anyone who wants to subscribe for a stake in their future can do so confident in the knowledge that they can exit when they want to. The bank will be able to raise fresh money, the taxpayer will be repaid, and the regulators can ensure that the bank sticks to responsible lending."

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