Banks erect Barings safety net

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Financial Correspondent

A financial safety net to ensure there is no run on the deposits of merchant banks in the wake of the Barings collapse has been set up by the large high street clearers. It is understood that the stand-by loan facilities have been orchestrated by the Bank of England.

The move is to forestall a possible domino effect from the Barings collapse as banks and other customers switch their money to large banks, which they believe are the safest.

One merchant banker yesterday referred to the flight to quality as "the IBM syndrome. It used to be that nobody ever got sacked for buying a computer from IBM, the biggest supplier in the world."

The main clearing banks and big overseas banks in London have already had an inflow of deposits of hundreds of millions of pounds.

One European bank said last Thursday it had had its biggest influx of deposits this year, all from small British merchant banks.

The biggest risk, according to banking sources, is that the withdrawal of funds is a slow-burning fuse. The crunch will come as term deposits mature. Fund managers depositing client money are the keenest to be seen to be seeking the safest haven for their funds.

Only a third of Barings' money was repayable on demand, and the rest repayable from weeks up to a period of five years.

The Bank of England has asked the clearing banks to provide the merchant banks with reasonably priced money over the next six months.

Another source of pressure is a rush by investment managers to remove cash deposits from their own in-house banks in the wake of the Barings disaster.

A senior clearing bank source said: "The loan facilites extended to merchant banks have not been taken up so far but they have been extended to provide reassurance that there will be no shortage of funds if the need arises."

The Bank of England formed a much more formal banking "lifeboat" for secondary banks following the Johnson Matthey collapse in the 1980s. A number of small merchant banks with Third World connections caused concern by failing in the wake of the BCCI scandal.

This time the Bank has advised those merchant banks most under pressure to reduce the activities they fund from such deposits. Any outflow of deposits will damage their ability to boost their liquidity in the short term to take positions in bonds and equities, for example.

It will also make lending much harder. Banking sources point out that lending is peripheral to most of the merchant banks' activities. Some may well give up their banking licences, and concentrate solely on classical merchant banking such as corporate finance, which requires little capital.

Banking sources suggest that this winding-down period will last about six months, after which the high street banks will no longer have to provide the cheap funds to their merchant banking colleagues.

Everything is being done beind the scenes, one fund manager said. "It was a very nervous week last week. We all wondered whether we would get our money back from Barings. When ING bought Barings there was a palpable sigh of relief. Now everyone wants to put deposits with the big credit- worthy banks, including the German banks.The Bank of England has been acting `like a modest lady behind her skirts'."

Not everyone was delighted by the ING deal. Bondholders who invested £100m in Barings' subordinated perpetual bonds have formed a pressure group after being paid £7.5m by ING. The Barings Perpetual Noteholders' Action Group wants to work with Barings' administrators, Ernst & Young, to see if legal action can be taken against Barings or its advisers.