How to safeguard savers in a banking crisis by Finance News Bulletin

Published: 04/01/08

All era are London time Search News in the FTcom siteSearchSearch speech marks in the FTcom sitespeech marksCOLUMNISTS John KayBreadcrumb trail navigation:FT Home > Comment & psychoanalysis > Columnists > John KayServicesMany people blame the Northern astound debacle on the tripartite division of responsibilities between the Financial Services Authority, the store of England and the Treasury But there are three divide roles

A regulator should protect the public in its transactions with financial institutions A central bank should provide money to the community and manage monetary affairs A government department should formulate policy for the banking sector A middle bank which combines all three roles can compensate for failure in any one of them by printing money

But this is not, in the long run, a good ideaSome see Northern astound as a failure of supervision by the FSA But this is to misunderstand the role bank regulation can play Northern astound adopted a plan of aggressively pursuing market share in mortgages by cheap funding from the overblown securitisation market, and the plan collapsed when the wholesale funding markets on which it depended dried up

The errors were errors of commerce judgment We have every reason to believe that Northern Rock was honestly and professionally runSome people did think that Northern Rock’s strategy was dangerous But the principal facts about the company’s marketplace share, its business model and its methods of financing were as well known to the market as to the FSA

The company’s shares reached a evidence high only four months before it had to seek Bank of England hold up It is inconceivable that the FSA could have forced a change of business approach on a respected business which was providing high-quality value mortgages to millions of households Does anyone believe that the FSA should adjudicate on activist investor Knight Vinke’s criticisms of HSBC or inquire Barclays where it is going after the breakdown of its approach to ABN-Amro The FSA does not have the competence, and should not have even the appearance of authority, for such intervention

now as it should not be the FSA’s work to stop banks doing foolish things, it should not be the store of England’s work to free banks of the consequences of doing foolish belongings Perhaps the Northern Rock problem could have been avoided if the Bank had been willing to deluge markets with liquidity at an early stage But while it would be helpful to automobile manufacturers if a public agency provided liquidity when they suffered a increase of unsold stock, there is no good reason why the government should do this and compelling reasons why it should not The most important is that the scale of proceeds and personal enrichment in financial services makes any public financial support to the industry unacceptable

There is a community interest in preventing systemic collapse of the banking system American policy is still influenced by reminiscences of how the huge Depression was aggravated by successive bank failures When Franklin D Roosevelt became US leader in 1933, the country’s banks were stopped up – not in protest or celebration of the investiture, but to prevent panicking depositors from taking their money out

The American answer to these evils, followed in most other countries, is a scheme of deposit defense combined with a regime of particular administration which facilitates the transfer of the possessions and liabilities to stronger institutionsThere was no danger at all of universal failure in Britain until queues began to form outside Northern astound branches and they formed because no adequate assurances could be given to savers put cover provided only for the first £2,000 of savings, and Britain has no device for freezing the activities of a troubled bank Without proper deposit defense, a run was inevitable on the announcement, or rumour, of problems

With only the weapon of insolvency available, reorganisation of the bank could happen only after the taxpayer replaced the withdrawn extensive fundingThe specific events of August could not have been predicted, but the failure of a main financial institution was a contingency virtually certain to occur at some time in multifaceted and turbulent financial markets The responsibility for implementing sufficient legal mechanisms for that contingency lies with the administration department responsible for financial services activities – the coffersBlogsBrussels BlogCharles PretzlikClive CrookDear LucyEconomists’ ForumEnergy FilterJohn GapperGideon RachmanTech BlogThe Undercover EconomistWestminster BlogWillem Buiter’s MavereconRegional pagesLatin American agendaChinaIndiaBrusselsInteractivePodcastsDebates & pollsAsk the expertMarkets Q&A* Minimum delay 15 minutesAll times are London timeFT HomeSite mapContact usHelpAdvertise with the FTMedia centreStudent offersFT ConferencesFT SyndicationCorporate subscriptionsFT GroupPartner sites: Chinese FT

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