Sep 28th 2008
From The Economist print edition
Another small bank capsizes in a storm-tossed sea
AFTER a frenetic weekend spent trying to rustle up a buyer for Bradford & Bingley, a small British bank down on its luck, Britain’s government was poised, late on Sunday September 28th, to nationalise its second bank in a year. To the last minute talks were continuing to find buyers for some parts the bank. Potential purchasers included Spain’s Santander and a clutch of big British banks. But efforts to find a buyer for all of it had foundered, leaving little choice but to take it into public ownership to prevent a run on deposits, which had already started at the weekend, gathering pace when branches reopened.
This is the fourth British bank to have crumpled in the face of ongoing turmoil in the credit markets. Northern Rock was nationalised in February and both HBOS, Britain’s biggest mortgage lender, and Alliance & Leicester, a small bank, have since sought refuge in takeovers by bigger banks amid worries that they would not be able to raise new loans to repay existing debts.
This particular failure, however, is a sign of more than just the fear and uncertainty roiling international credit markets. It also marks another worrying point in the credit crisis. For much of the past year attention has been on bad debts arising from American mortgages and how losses on them have been spread around the world’s financial system by a bewildering array of credit derivatives. Bradford & Bingley’s problems, in contrast, are largely homegrown and raise the worrying possibility that the international banking system will face a second wave of losses as housing markets and economies wilt around the world.
To some extent Bradford & Bingley’s injuries were self-inflicted. The institution was a boring mortgage lender that was owned by its members until it transformed itself into a private company in 2000. It then became an early and enthusiastic proponent of the raciest type of mortgage lending in Britain. Last year more than three-quarters of its new loans were either made to landlords or were “self-certified” mortgages, which are commonly known as “liars’ loans” because borrowers are not asked to prove their income or employment. Moreover it was a keen buyer of mortgages that other banks had written. Even so, its failure sounds a warning for large mortgage lenders and for regulators in countries such as Spain and Ireland, where housing bubbles have also been pricked.
During Britain’s long housing boom Bradford & Bingley seemed to do no wrong. Losses on its loans were trifling because borrowers, often landlords, had every reason to avoid foreclosure and could always sell their properties at a profit if they struggled with repayments. Now that Britain’s housing markets has turned, however, the bank’s strategy is unravelling. Arrears are rising with alarming speed and the values of homes underpinning mortgages are falling just as quickly. The bank has also struggled to borrow from anyone but the central bank as credit-rating agencies have repeatedly cut its rating, most recently last week, on worries about the quality of its loan book. A crucial point was reached last week when, amid worries over its ability to keep funding itself and, if needed, raise additional capital, its share price slumped. At one point the bank was valued at just £289m ($533m), less than a tenth of its peak of £3.2 billion in 2006. By Saturday depositors were bombarding its website and starting to queue at its branches.
The government’s (likely) swift action suggests that it has learned some important lessons from the failure of Northern Rock. A year ago regulators at the Financial Services Authority seemed to have been asleep at the wheel. This time they have been watching closely. The Treasury, which dithered as Northern Rock floundered, letting worries about the funding of one of Britain’s smaller lenders develop into a full-blown bank run that threatened the stability of all banks, is also moving swiftly. A quick nationalisation should halt a run on the bank and avert wider panic. Just as regulators and governments studied the Northern Rock fiasco closely as an example of how not to rescue banks, this nationalisation will also be examined in countries that may soon have to put its lessons into practice.