Northern Rock: Gordon Brown's big gamble

Gordon Brown put his political credibility on the line yesterday by taking the unprecedented step of guaranteeing all savings in Northern Rock accounts.

With every previous attempt to reassure the bank’s customers ending in failure, the Prime Minister took the gamble of putting up £21billion of taxpayers’ money to halt the panic withdrawals.

The Government was forced to act after Northern Rock branches were besieged for a third day by thousands of customers queueing all day to empty their accounts. By the end of trading £1billion had been withdrawn, taking the total to £3billion since last Friday.

As the bank’s share price continued to fall, anxiety in the City spread to other mortgage lenders. Almost a third was wiped off the value of Alliance & Leicester shares, while Bradford & Bingley shares suffered a 15·4 per cent slump.

As the Government’s attempts to shore up public confidence in the banking system became increasingly desperate, the Treasury said it would also act as a guarantor for any other lenders that got into similar difficulties, leaving it open to an almost limitless financial liability. The acid test for Mr Brown’s high-risk strategy will come when the banks open for business today and discover if the Government’s reassurances have worked. If the queues return — or, worse still, spread to other banks — it will amount to a public vote of no confidence in Mr Brown’s strategy, as well as seriously damaging his authority.

Google Map: Worried customers queue for hours advertisementYesterday’s announcement was made by Alistair Darling, the Chancellor, who had earlier been criticised for adding to the confusion of Northern Rock customers by sending out mixed messages over the extent to which their money was guaranteed.

He said: “I want to put the matter beyond doubt … should it be necessary we, with the Bank of England, would put in place arrangements that would guarantee all the existing deposits in Northern Rock during the current instability in the financial markets.

“This means that people can continue to take their money out of Northern Rock. ''But if they choose to leave their money in Northern Rock, it will be guaranteed safe and secure.”

Senior Treasury sources later added that the same guarantee would extend to any other bank in a situation similar to Northern Rock, which asked the Bank of England for help after experiencing cash flow problems following the worldwide squeeze on credit. Peter Spencer, economic adviser to the Ernst & Young Item Club think-tank, said: “The next 24 hours will be critical. If the Darling guarantee works, the banking system should find itself on an even keel.

“If it doesn’t, there is a risk the contagion spreads to other institutions. Then life will get very difficult.” The Daily Telegraph understands that Mervyn King, the Governor of the Bank of England, could be forced out of his job as a result of the crisis.

Mr King, who has made no public statements since the bank agreed to underwrite Northern Rock last Thursday, has a five-year contract that is up for review in November. If he is not appointed for a second term, he will be the first governor to suffer that fate for more than 40 years.

Peter Viggers, a Conservative member of Parliament’s Treasury select committee, admitted that Mr King could be made a sacrificial lamb by the Government in an attempt to draw a line under the crisis.

“His renewal is coming up and … there is some question over whether he should be reappointed,” said Mr Viggers. The City has repeatedly criticised the Bank of England’s “Victorian” reaction to the Northern Rock affair, after it refused to pump money into the financial system when problems first emerged in early August.

As the political fall-out over the Northern Rock debacle escalated, both Mr Brown and Mr Darling were under pressure to make a public statement explaining when they were first told that the bank was in trouble. George Osborne, the shadow chancellor, called on Mr Darling to make a “comprehensive statement” on his handling of the crisis, which he blamed on “a decade of debt” under Labour.

David Cameron, the Tory leader, said: “The immediate priority must be to reassure people about the situation and the safety of their deposits. In a period of financial turbulence, it is vital that we establish the facts and avoid speculation. “It is incumbent on the Chancellor to set out the Government’s view on these matters and I hope that he will take the opportunity to do so this week.”

Economists cast doubt on whether the Government would be able to honour its promise to prop up any ailing bank, and pointed out that such a guarantee could make the problems even worse. Northern Rock still has £21 billion in savings accounts, despite another day of frantic withdrawals yesterday.

Jonathan Said, of the Centre for Economics and Business Research, said: “The Government could never guarantee every bank. All they are trying to do is stop people panicking and taking their money out of the banks. “There is also an inherent danger in saying the Treasury will bail out any bank, as it could lead to banks taking bigger risks.

When they are worried about losing money they don’t take big risks, but if they know someone is underwriting them they are more likely to take a gamble.” Northern Rock shares tumbled by a further 35 per cent yesterday, meaning £1·5billion had been wiped off the value of the company since it announced its problems last week.

advertisementShares are now worth about one fifth of their value in February. Analysts said the bank was unlikely to survive as a stand-alone business, but no buyer had come forward so far. House-builders also suffered falls in share prices amid concerns that more expensive mortgages stemming from Northern Rock’s difficulties could put the brakes on the housing market. Northern Rock began its own fightback by promising that any customers who had paid penalties through early withdrawals of fixed-term bonds would have the money refunded if they put their money back in by Oct 5.

The bank also took out a series of full-page newspaper advertisements promising: “Your money is safe with us.” Despite their falling share price, Alliance & Leicester and Bradford & Bingley said they had seen no signs of panic withdrawals at their branches, and financial analysts said there was no reason for savers to take out their money.

While Northern Rock had a high ratio of mortgage lending compared with the amount of money in its savings accounts, Alliance & Leicester and Bradford & Bingley had far healthier loan-to-deposit ratios and would not find themselves in the same difficulties as Northern Rock, analysts said. David Buik, of the City spread betting firm Cantor Index, said: “A&L has been treated savagely on the stock market today and doesn’t deserve it. “Fear and uncertainty is a toxic combination and we’re now seeing panic selling as a result.”

The City has repeatedly criticised the Bank of England’s “Victorian” reaction to the Northern Rock affair, after it refused to pump money into the financial system when problems first emerged in early August.

They expect too much - pouring money into the system only reward irresponsible lending, and will lead to dreadful inflation.

A wise man once said that if you have to stand in line to get your money out of a bank, you have already lost.

” The incredible thing about all this is that no one has actually lost any money yet. “

Technically correct — no money is actually lost - or made - unless assets are exchanged....

But more and more of us are finding out that our assets - including cash - are, in real terms, worth less than we thought they were......

During the early 30s banks would put their cash in the front window to reassure depositors.

That is what the central banks have been doing now for over a month, and it hasn't helped - the crisis keeps growing. Investors are on the sidelines with their popcorn.

Asset prices must collapse to clean out the excesses of the past 10 years.

Or, the currencies will collapse (against gold and commodities).

Take your pick.

BUMP

Or, the currencies will collapse (against gold and commodities).

A fair point. Gold and oil are already sharply rising, against other indicators (unless, it is because of rumours of a new war in the Middle East.) So the inflation of currency, which you mention, might already be happening.

the inflation of currency, which you mention, might already be happening.

"When a confidence game is being run nothing is more important than confidence"

BUMP

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