The economics of Northern Rock look better than the politics. The "n" word may still be toxic politically, but nationalisation is not only the least bad outcome to this sorry tale. It is just possible, with one huge caveat, that the taxpayer might end up making a profit on the deal. The real charge against the Government is not the mishandling of Northern Rock, though it has not covered itself with glory. It is the much bigger issue of its mishandling of public finances more generally.
There is not a lot of point in crawling over the past. Of course wiser and more experienced regulators could have tried to curb Northern Rock before it went off the rails. Of course the Government should have got rid of the management last autumn in exchange for the guarantees it was forced to extend. Of course it should have tried harder to do a deal earlier, when it could have got better terms. But we are where we are. This is better than putting the thing into administration and having a fire sale of its assets. The important thing now, if taxpayers are to get most or all of their money back, is to get the next series of decisions right.
Decision one will be compensation for shareholders. That is being decided independently, but the harsh reality is that without the government guarantees the business would be bust and the shares worthless. Morally, however, that feels too harsh. What I hope will happen is that shareholders get some token payment now, then further payments depending on the final terms at which the Government can extract itself. The Government, aka the taxpayer, is taking all the risk so should get most of the reward, if there is any. But it is normal with a rescue that shareholders should have some benefit if things turn out well.
Decision two is how to run the business. There are two separate problems with Northern Rock. One is the well-known one that it has only a small branch network collecting retail deposits and has been unable to supplement that, as it could until last summer, by borrowing large deposits on the wholesale money markets. The other, less-well known one is that while most of its mortgage book – the loans that it has made on homes – looks solid, there is a flaky chunk of loans made in the past year or so that don't look too good. The terms on which they were made were more generous than those of other banks and building societies and, if house prices fall significantly, they will be larger than the properties on which they are secured. That is when borrowers are most likely to default.
Ron Sandler, the new executive chairman, has to fix both problems. We don't know the detail of the numbers, but I do understand that despite the government guarantees, the deposit base of Northern Rock shrank alarmingly towards the end of last year. That was one of the reasons why all the mainstream bidders pulled out.
At the moment, Northern Rock is offering higher rates for retail deposits than other banks, in some case far higher. It is, so to speak, the "best buy" for anyone with spare cash. That says to me that it is desperate to get retail deposits. Unless it can start to attract cash at a reasonable rate, maybe some premium to other banks but not a huge one, it is in dire trouble.
The other problem is what to do with the stock of loans. The bank has to shrink, but you don't want to flog off these loans at a knock-down price. That was what the then Chancellor, Gordon Brown, did with most of Britain's gold reserves, and I hope he learnt from that. Fortunately, in any case, it is not directly his decision, and the new management team under Ron Sandler will be calm and sensible. In four or five years' time, when the housing market has recovered, loans that look dodgy now may be rescued by rising house prices. This is a game to play long.
That leads to the caveat I noted above. There is one set of circumstances that would mean the taxpayer ends up losing a lot of money: if there is a housing crash. But provided house prices remain more or less stable, then Northern Rock will recover and there will be a real business to be sold. It may take five years to get a decent price, and that will be embarrassing for the Government. It may well mean that the final sale takes place under another administration, and if that happens, so be it. My wild guess is that at best the taxpayer could end up with a profit of a billion or two.
And at worst? Forget about the notional exposure of £100bn or more. Even with a housing crash, in which case there would be many worries even bigger than Northern Rock, I cannot see the taxpayer losing more than £5bn, OK, maybe £10bn if house prices fall by 20 per cent over the next three years and don't recover.
In public finance terms, that would be big, but not absolutely catastrophic. To put it in context, £10bn will be roughly the difference between what Gordon Brown told us he would have to borrow in the current year when he gave his Budget last March and what Alistair Darling will admit he is having to borrow when he presents his first Budget next month. The additional cost of support for Northern Rock shows on the National Debt, but that is an accounting transfer. The much more worrying thing is the underlying deterioration of the day-to-day fiscal position, which has happened completely irrespective of the Northern Rock transactions.
That is the big point. The Government has handled Northern Rock badly, sure. But it is not easy to do these things well, and the blame that rightly accrues to the Treasury should also accrue to the Bank of England and the Financial Services Authority. Let's hope the three of them have all learnt some lessons.
The much more substantial charge is that the Government has mishandled public finances, borrowing far more than it planned, year after year. We are heading into a global downturn, with a bigger fiscal deficit of more than 3 per cent of Gross Domestic Product. That is bigger than that any other large developed nation. We have a government that spends £11 for every £10 that it receives in taxation, borrowing the balance at higher interest rates than the US, Germany or France. And there is every prospect of our national finances getting worse as our economy slows. Northern Rock is a cock-up; our public finances are a disaster.
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