Could the Bank of England have prevented the calamity of Northern Rock by providing more generalised assistance to markets at an earlier stage? With the credit crunch possibly moving into a second phase, the question has taken on renewed importance.
The case for the defence relies largely on the fact that, when you look at the numbers, the Bank of England proportionately provided just as much as the Federal Reserve in the US and arguably a good deal more than the European Central Bank. What's more, Northern Rock was left in such a parlous state when the credit markets began to freeze up in mid-August that only a massive injection of three-month liquidity – which was where the problem was for Northern Rock – would have worked.
The argument is perfectly correct with regard to the amount of support offered by the three central banks. Even including three-month money, the ECB's net boost to liquidity over August and September was precisely zero. What went out has now come back in again. With the Fed, it was a bit more, but, taking account of the massive size of the US banking system, proportionately still less than the £4.4bn of temporary reserves the Bank of England added in September, an increase of 25 per cent.
There is, however, a key difference between the system as it operates in Britain and the one that rules in Europe and the US. In Britain, banks have to ask for more reserves under a rigid, monthly procedure. As it happens, there is one of these monthly reserving sessions coming up next week. In the US and Europe, the reserves are offered freely when the central bank thinks they are needed.
As for the provision of three-month money, the ECB's actions would, if applied to Britain, have amounted to a "mere" £230m per bank, which is obviously not to be sneezed at but would have been a drop in the ocean of the £30bn of financing needs that Northern Rock was facing by the end of the year back in September.
It would therefore have required a truly massive injection of three-month money to have satisfied Northern Rock's needs without alerting markets to the fact that there was a problem there. The provision of such support might furthermore have spooked markets into believing there were about to be multiple insolvencies in the banking system.
If it is accepted that the Bank couldn't have done anything to head off the Northern Rock collapse through money market operations, then the sequence of events became written in stone from the moment credit markets froze in mid-August. Faults in Britain's system of deposit insurance meant that Northern Rock couldn't be allowed to fail without catastrophic consequences for depositors. This led directly to the provision of the lender-of- last-resort facility and the Treasury guarantee.
Convinced? Well, maybe. Yet the argument that Northern Rock could have been saved lies not so much in the idea that the Bank could have provided covert support, but that a little bit of liquidity to markets at an earlier stage might have underwritten confidence and therefore kept the credit markets open. Northern Rock might then have met with more success in financing itself as normal.
They are great fun, these "what if" versions of history, but in reality fairly worthless because nobody will ever know what would have happened had different decisions been made. What is no doubt true is that the "no bail out", hair-shirt message that the Bank of England deliberately put into the marketplace didn't help matters. Bankers who are told that there are to be no rescues and no assistance will be more cautious still about lending to each other.
This is, by the way, the message that the City regularly sends out to virtually every other sector of the economy, but the hypocrisy of the bankers' position, and the self-interested defence of bonuses which has been at the centre of their bleatings for more liquidity, is a subject for another column.
The rumour mill was in full swing again yesterday, with Barclays said to be ready to follow Northern Rock in seeking emergency Bank of England funding. This is, of course, completely untrue, as presumably is the related rumour of massive write-offs to come with the third-quarter trading update later this month.
There's actually been no attempt to guide market expectations below the depressed levels they are already at. If things had deteriorated further, Barclays would have been forced to put out a profits warning. I'm assured that there isn't one coming. Conscious of what happened last time, the Bank of England might none the less be thinking of providing some uncalled-for addition of reserves to markets at next week's session.
British Airways flying high
Soaring fuel costs have failed to dent the British Airways recovery story, with first-half profits unveiled yesterday up 26 per cent to £593m. However, the great bulk of this surge is down to cost-cutting, and the effect of the weak dollar, which though it depresses sterling revenues has the effect of quite considerably lowering the company's US and other dollar costs. Turnover was actually marginally lower, despite strong premium travel bookings.
Dollar weakness will continue to depress top-line growth in the second half. As a consequence, Willie Walsh, the chief executive, has been forced to lower his revenue growth guidance for the year as a whole from 4 per cent to between 3 and 3.5 per cent. This is not much of a cut, but it was enough to send the shares nearly 3 per cent lower in an already nervous market.
The long-awaited move to Terminal Five at Heathrow is likely to make 2008 another year of consolidation for British Airways with the real drive for growth as fleet renewal kicks in not scheduled to get fully under way until the year after. None the less, compared with where British Airways was just a few years back, the turnaround is a remarkable one. The pensions monster has been largely tamed, investment grade has been restored, and – famous last words here – even notoriously poor labour relations don't look so bad at the moment.
There's progress too on the one-piece-of-hand-luggage-at-Heathrow rule, which, though it applies equitably between airlines, is a real bone of contention with BA's premium paying customers. Terminal Five too offers a terrific opportunity for BA to raise its game, though also potential to incite another damaging deterioration in labour relations.
What might spoil this sunny disposition? The shares have been weak all year on fears over the soaring oil price and worries about the world economy. On the first of these concerns, BA seems to be weathering the new era of high fuel costs relatively well. The total fuel bill for this year will be £2bn, or about £100m more than the year before. Hedging and cost-cutting elsewhere is limiting the damage to the bottom line.
As for a business downturn, there is no sign of that yet, with October traffic up 2.2 per cent, boosted by a 10.4 per cent rise in premium-fare travellers. Forward bookings for November and December also indicate continued buoyancy in the business market. Even so, fast-slowing growth in the US is bound to have some effect, as too are the still uncertain long-term consequences of the credit crunch.
The real killer would be an American strike on Iranian nuclear facilities, which is a threat to stability that in my view is seriously underestimated by mainstream political and market analysts. There is no sector more exposed to the consequences of a fresh meltdown in the Middle East than international air travel.
The US tightened sanctions against Iran this week, but it is hard to see why, with a booming oil price, this should do anything to deter Iran's nuclear ambitions. Iran wants the bomb and is determined to have it. There is an almost unanimous political consensus in America that it shouldn't be allowed. This is not a standoff likely to be resolved by diplomatic means. Still, for the time being, BA is flying high.Reuse content