Margareta Pagano: Can the Nicky Clarke of Threadneedle Street snip his way out of this credit crisis?

It's gridlock in the lending market and Mervyn King wants to get things moving. One option is for the Bank of England to do some 'haircutting'
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The Independent Online

Mervyn King, the Governor of the Bank of England, is hunting for new haircuts. Not for his own distinctive locks but as a way of breaking the gridlock in the inter-bank lending market. Like any good hairdresser, King is looking at much sharper styles, ways of making his clients not just look good but start lending to each other again. A number one comes to mind. But more of that later.

King himself is looking much snappier than he did only weeks ago. His performance at the Treasury Select Committee last week was far more fluent. Paradoxically, his openness to Parliament about the severity of the financial crisis actually cheered the markets up (The one-month Libor rate dropped a bit), as did his admission that interest rates would soon be cut.

But it was King's disclosure that he is working with the big clearing banks to find radical ways to resolve the credit crunch that is winning him brownie points.

King and the banks have taken a vow of silence on what they are cooking up – they want to make sure the ingredients work first. So what will get them selling the assets on their balance sheets to each other again?

Clearly, pumping in liquidity has not been enough. Nor is it enough to say the UK's banks are solvent. King needs to find a starter-handle to get this market, which is quite literally seized up, moving again.

One way is for the Bank to extend lending to the banks by widening the sort of collateral that it will accept in return, and also the amounts. This could be done by haircutting – a market term which describes the way the Bank lends assets to the clearers. At its simplest, this is when the Bank lends at a discount to the full price of an asset: when assets are used as collateral securities, they will generally be devalued since a cushion (the haircut) is needed by the lender in case market values fall.

The Bank already lends to the banks against mortgage-backed assets, but only triple-A rated assets. It can do this by swapping illiquid mortgages, mortgage securities and other asset-backed securities, such as corporate bonds, on the banks' books for liquid assets the Bank will provide. But the caveat here would be that the clearing banks must take the risk should those loans turn bad.

There are other options being discussed: the banks could issue new bonds for the Bank to buy, or the Bank could buy the mortgages on the banks' books at a small discount to face value. This would require the banks agreeing that they would insure the central bank against any of those loans. Quite rightly, King is adamant that neither the taxpayer nor the shareholders of the banks take any losses if these loans do go sour. Which route the Bank and its clearing banks have chosen should be known shortly, if not in days.

King will also continue with his short-term operations to inject more money into the markets, rolling over the January auction into April. But one of the myths the Bank wants to smash is that it has been a lame duck compared with the tougher and bigger moves by the mighty US Federal Reserve and the European Central Bank. For the record, the Bank says it has lent exactly the same, proportionately, as the ECB in terms of banking reserves; it just seems much less because the ECB is so much bigger – with €200bn (£157bn) in reserves. But as this crisis is as much about perception as action, it's time for King to show his leadership even more, which may mean coming across much stronger in public.

What is bizarre, though, is the continuing silence from Westminster. Neither Gordon Brown nor Alistair Darling have said anything to reassure the financial markets. Is this because they have nothing to say? Borrowing King's words used at the Select Committee last week – are they the ones suffering from hubris?

Why the FSA should put down its spreadsheets and have a good old gossip

When I talked to Jack Welch, the iconic ex-boss of GE, shortly after the Enron crisis some years ago, he said that all the regulators and rules in the world couldn't make up for people who had "the nose" to sniff out wrongdoing in companies. What Welch meant was that all the rules in the world couldn't stop bad directors if they wanted to act fraudulently.

Welch was not saying that we shouldn't bother with bureaucratic regulators – just that usually the best way of tracking down misdemeanours comes from more basic animal instincts.

Welch's nose came back to me while reading the report by the Financial Services Authority into its handling of the Northern Rock disaster. FSA chief executive Hector Sants has done a forensic job of scrutinising the behaviour of FSA supervisors over Rock. He admits they got everything wrong: they didn't spend any time with the company's directors, nor did they look in any detail at the business model, despite the bank's extraordinary growth over the past few years. In the FSA's defence, it is easy with hindsight to suggest that the warning lights were there to show Rock was borrowing far more than it had on deposit. All the time there was only the one Credit Suisse analyst who flagged up his concerns.

But that's not the point. What the FSA's report shows starkly is that its supervisors didn't even have Rock on their radar, let alone being anywhere close enough to sniff out what might have been going wrong. But, for a banking supervisor, the signs were there: astonishing growth, soaring share price, unbelievably generous mortgage deals offering punters loans of 125 per cent, and so on. Someone with market experience would have sussed out that those numbers just didn't add up.

Sants, an ex-investment banker, recognises this. Still new in the job, he knows he must change the FSA's culture from policy maker to risk-based, snarling watchdog. He will need to recruit more people with real market experience – traders and bankers who exchange market gossip rather than just pore over data. Teeth as well as nose is what is required.



Back by popular demand: Laura Ashley blooms again

Gorgeous Marilyn rose print dresses are flying out of Laura Ashley's shops, defying both the cold weather and the economic storms being forecast by the money men.

Soaring sales of the retailer's 1950s-style tea dresses and grown-up frocks are behind the leap in profits revealed last week. Under its talented chief executive Lillian Tan, Laura Ashley is once again becoming a trend-setter with both its fashion and furniture.

On this one, customers are ahead of the City analysts. The Malaysian-owned group, which has 200 stores worldwide, has just won the Retailer of the Year award for the second year running. It didn't enter itself but was voted by readers of 'Homes & Gardens' magazine out of a shortlist including John Lewis and Bhs.

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