Andreas Whittam Smith: Reject the bids and nationalise Northern Rock

The bank estimated its profit in 2007 should come out at over 500
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The Independent Online

Whether Northern Rock is nationalised or not, it will have to shrink. So will Britain's other banks that specialise in providing home loans; so too will the building societies. This is an industry trend. It arises not only because the housing market is entering a quieter period. It comes about also because the abundance of deposits that banks and building societies were able to attract until this summer will not quickly return.

Turning to Northern Rock, we find a curious fact. It is still making reasonable profits. How can this be so when the bank suffered a run in the summer and had to be rescued? I'll give the figures briefly. In September, a month after the crisis broke, the bank estimated that underlying profits in 2007 should come out at over 500m.

This forecast was left to stand in a financial statement the company made last week. Of this figure some 170m will have been booked in the six months that ends on 31 December. Yet if the Government had not stopped the run with guarantees and loans, Northern Rock would have rapidly become insolvent, ceased lending, declared its entire staff redundant and sold off its assets for whatever prices a fire sale would have realised.

Taxpayers, then, are taking risks for the benefit of shareholders. How much risk? The Government has now made approximately 30bn worth of loans to Northern Rock. These comprise two separate lines of credit. About half appears to be secured on high-quality mortgages. Except that a proportion of these will have been granted at the peak of the housing boom in the earlier part of this year when there was an extraordinary explosion in Northern Rock's lending. As house prices soften, some of these loans will no longer be worth their face value. This impairs taxpayers' security.

The other line of credit has been secured on a more general pool of assets. These are holdings of lower quality. Some of them have already been written down to a fraction of their original value.

Tax payers, therefore, are taking a significant risk for no reward other than a standard rate of interest. The unfairness of this is one reason why I favour taking Northern Rock into state ownership for a brief period. Only a nominal price need be paid for Northern Rock shares seeing that they would be worthless without the rescue funds.

Moreover the viability of Northern Rock's business would be enhanced during the period of nationalisation by the Government's ability to borrow more cheaply than Northern Rock has been able to do in private ownership. What would have been secured by temporary state ownership would be a profitable breathing space.

Some questions about nationalisation were raised during a good debate in the Commons last week. What would be the objective? Is it to secure Northern Rock's future as a growing business, headquartered in north-east England? Yes, attempting to retain Northern Rock as a self-sustaining, substantial financial services business in the North-east should be one of the two objectives. Repaying the funds that taxpayers have committed is the other one.

It is not just that Northern Rock is a major employer with about 3,500 staff in Newcastle and some 1,500 in Sunderland. We have in Northern Rock an important business, in a growing part of the British economy, headquartered in our region, where there are few big firms.

Under nationalisation, would Northern Rock continue to accept deposits? As I conceive it, yes. Would it continue to offer mortgages? Again yes.

On the test of what would be good for the North-east, I would rule out the two bidders. Sir Richard Branson's Virgin-led consortium comprises partners such as a US distressed-debt investor, a hedge fund and a Hong Kong investment group. They would be concerned only with the bottom line. Ditto Luqman Arnold's Olivant group, a consortium of private-equity investors. They likewise, would have no particular interest in the North-east and would concentrate solely on what return they could hope to obtain. This is not immoral. It is how things are.

I would rule them out too because both would leave taxpayers to take the greater risks. What they have said is that they will refinance the loans that have good backing but that the government must continue to lend against the weaker security of the remaining assets.

I think the two consortia will eventually withdraw from the bidding. And that would mean, whatever Government ministers think, Northern Rock will have to be nationalised for a short period, say two to five years. It would be the best outcome. It would protect the North-east. It would secure taxpayers' interests.

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