Month: December 2007

I am an optimist by nature. I would like 2008 to be so much better than last year, as there is much we can achieve together. I hope you have all had a happy and relaxing Christmas ?? or have now recovered from the exertions of catering for families reunited around the Christmas tables. I wish you and yours a prosperous and happy new year.

This year I want to see the government lift its nasty credit squeeze. The run on Northern Rock was just the most visible sign of distress in our economy. The new year is ushered in against a background of falling commercial property prices, fears about house prices, and difficulties for people seeking mortgages. High fuel prices, high taxes ?? with a further National Insurance rise to come for many ?? and general rises in the cost of running a home are all taking the shine off the new year even as it dawns. If the authorities cut interest rates and make more cash available to the banks we can avoid too sharp a downturn.

I have been very moved by the fact that there are still people unable to live in their own homes following last summers floods, and have been angered by the slow response of the authorities to the need to improve the flood protections. Too much building on low lying land in decision after decision taken over local heads by government Inspectors has put too many homes at risk. I will press the agencies and government more to try to get them to take preventative action for the future.

I am glad our troops will be coming home from Iraq after long and arduous tours of duty. I hope the US and the UK governments will put more effort this year into peace initiatives in the Middle East ?? it is time for jaw jaw, not war war. Fear, distrust and jealousy generates conflict: being positive, talking through problems, and trying to see the other persons point of view can make things better.

The government has lost its reputation for economic stability, and has seen a massive hole blown in its spin that it created an independent Bank of England, as a result of the convulsions in credit markets and the run on Northern Rock.

Ever since Gordon Brown took over as Prime Minister, things have gone badly awry in banking markets. We have lived through the end of the long financial bubble of easy credit he created as Chancellor by keeping interest rates too low and agreeing to the Basel rules for banking capital which encouraged banks to lend and lend through off balance sheet devices. The great army of regulators looked on approvingly, as all their boxes were being ticked.

This summer some in the City and I through my website, www.johnredwood.com, told the authorities that money was by then too tight. We urged them to lower interest rates and make more money available to the banking system. They ignored us, and told any bank in trouble that it served the bank right. The banks were on their own and had to sort out their own difficulties. The Chancellor was sending out this tough message on the eve of the run on Northern Rock.

Northern Rock changed all that. For the first time a UK government offered to stand behind all the bank deposits in the country if need arose. For the first time the taxpayer lent more than ?25 billion to a single company as a rescue. Late in the day interest rate cuts and extra liquidity became available. It became obvious to all that far from having an independent Bank of England, the Brown reforms had taken away important functions from the Bank that helped it regulate banking markets well.

To me, the urgent question today is how will the taxpayer get all the money back that has been lent to Northern Rock, or offered as guarantee. That should be the overriding concern of the Chancellor, representing a government which said originally that all the money would be repaid. The choices for handling Northern Rock have been narrowed to three by the spinners for the government and the Lib Dems.

The first is sale of the bank to a third party who could repay some of the government loans immediately, and take care of Northerns financing needs thereafter. The best chance of doing this was the Lloyds expression of interest before the crisis became acute. The authorities failed to respond positively.

Since then we have not been told of any large organisation emerging as a bidder which has the balance sheet strength to take it on and solve the problem itself. The two ??preferred?? bidders need access to substantial market funding, and one only wishes to buy a minority stake. Even Lloyds needed financial help from government and the markets, as Northern is big even for a bank the size of Lloyds. Anyone needing access to substantial market funding will face the same kind of difficulties that caused the problem in the first place ?? the drying up of credit in markets.

Everyone agrees the sale to a third party who could solve the financing problem would be ideal, although there remains scope for disagreement about how to value the existing shareholder interest in such circumstances, and scope for disagreement about how much money taxpayers should expect to get back immediately, and for how long the remaining money could be lent to the new owners.

The second is nationalisation, the Lib Dems recommended ??solution??. The new Lib Dem leader showed his folly by rushing in to back this irresponsible proposal as one of his first acts, after appointing a pop star as an adviser! He clearly does not want to be taken seriously and does not think things through before issuing the press release.

Taking on over ?100 billion of risk in a single mortgage bank at a time of falling house prices and credit crunch is too big a bet for taxpayers. Many of us think taking on ?25 billion of risk is dangerous, but quadrupling that is absurd. The government itself has stupidly increased our risk by an amount the Chancellor told us on December 19th he could not quantify! It shows they are being far too cavalier with our money.

As the Lib Dems themselves admit, the government would not bring any especial expertise to running a mortgage bank and would need to seek professional management from the City. They say it would be temporary, leading to a sale at a later date. They forget that nationalising would mean the taxpayer had to pay for any one off losses or write downs that may be necessary on inspecting the books, and for any running losses the bank might incur under nationalised management.

If it turns out the bank cannot sustain its current level of employment, the taxpayer will have to pay for the redundancies. If the bank needs to expand its branch network or invest in new computers, the taxpayer will have to make a judgement about that use of public money as opposed to school and hospital spending. Given the scale of Northern Rock ?? total liabilities bigger than the health budget ?? any government would be mad to take on those risks. Just losing 1% of the assets costs more than ?1000 million.

The third is Administration. The government could demand repayment of its loans (subject to any legal promises it has made about their duration, which the government refuses to tell taxpayers and Parliament) which could trigger administration in current circumstances as there is no lender prepared to replace the taxpayer at the moment. That too would be a foolish policy. Shareholders would be aggrieved, as they have been told by the authorities that their bank is solvent and been led to believe taxpayer funding will see it over a difficult period. There is no good market in mortgages and the other principal assets Northern Rock owns, so any fire sale at these levels would guarantee the taxpayer lost money. The Administrator is no more likely to find a big buyer for the whole bank than the current auction team. There cannot be any potentially interested party in the world who is unaware of the sale process. If the government favoured this route it should have refused to lend the bank any money in the first place so no public money was at risk.
There is a fourth option which needs proper discussion. I call it the ??tough bank manager?? approach.

The option starts from where the government has got us ?? from the position where taxpayers have lent money and guaranteed loans but do not own the mortgage bank. It recognises that when you are in a hole you should stop digging. We have to accept that the Treasury/Bank of England combination are the principal bankers to Northern Rock. It is high time they started acting as a bank manager faced with an over borrowed client who cannot repay in a timely way.
They need to:

1. Explain the limits of their funding to Northern.
2. Set out the interest rate and interest payment dates for the loans.
3. Set out a schedule for capital repayments.
4. Take all the asset cover there is left in Northern to secure their huge loans.
5. Insist on daily cash and profit monitoring.
6. Place a cash sweep on the business that returns surplus cash to the taxpayer at regular intervals.
7. Insist on approving all increased spending of any kind on capital and revenue account.

The repayment schedule should not expect repayments currently, whilst the main banks are trying to arrange their own affairs to show strong balance sheets for the year end. It should start phased capital repayments later in 2008. It would be up to Northerns management to decide whether these repayments could be met from trading profits and cash generated within the business, or from refinancing in commercial markets, or from selling assets. Where assets are sold, the government team needs to insist on a minimum price to protect its asset cover position.

The extraordinary thing is that apparently many of these basics of banking have not been observed by the nations top financial team. The Chancellor on December 19th in the news conference once again told us little. I hope they are doing more than they are saying, but there is no evidence that they done a good job on securing the taxpayers position, either by means of securing full specific asset cover or by means of repayment schedules that are tough but achievable. Its high time they started. We are told they have asset cover for the loans, but specific questions have not been answered about how the protection works. There has been no hint of any repayment schedule.

It appears they hoped the Branson bid, and then the nationalisation idea, would reassure depositors, reducing the pressure for taxpayers to put up more money to replace lost deposits. The best way to secure the deposit base is to take strong and sensible action, so it looks as if the government as bank manager has a professional grip on its over borrowed customer, and will stand behind them until it is sorted out. If a buyer emerges who can raise the necessary money then all well and good ?? the bank manager can agree to the sale if that is what shareholders want to do, having secured the taxpayers interests.

All this assumes Northern is a solvent business ?? which we know it has to be as the regulators are letting it trade. Assuming they are right there is no need for taxpayers to lose a penny ?? so why wont the Prime Minister repeat his promise about that? His hesitation damages confidence. If they nationalise it the taxpayer is likely to end up with a huge bill given the past track record with nationalised businesses, as well as legal actions from unhappy shareholders assuming they offer little or no compensation to them.

I naturally wish those trying to sell Northern every success in finding a good answer, but I do want the government to protect the taxpayers money fully in those negotiations.

In the last couple of weeks I have visited several sites that were badly affected by floods last summer. In several cases people did not have their homes back in use for Christmas, as builders scrambled to complete the new plastering ,wiring and other tasks to restore the properties.

Each location has a different version of the common problem. In some inadequate surface drainage led to sewers overflowing as well, in others proximity to a river or stream bursting its banks just engulfed the low lying areas in flood water. In each case there is an argument between the authorities over who is responsible for the maintenance and improvement of the drainage.

The Environment Agency, after a series of meetings, has accepted that it is responsible for the Emm and for the Loddon. However, responsibility does not mean that riparian owners, the Highways Authority and others are free of all duties. The Agency does seem to accept that too much water can try to come through the Emm brook, and spill over into homes at pinch points along the stream. They have suggested an improvement scheme to hold surplus water away from homes, releasing it at a manageable rate. I am keen they should press on with working this up into a firm proposal and putting it in their budgets.

Thames Water is still reluctant to commit to spending where its facilities have been overwhelmed by flood water, taking out pumps or exposing inadequate capacity in pipes and manholes. I do think that where foul water reaches into peoples homes they should move quickly to improve facilities to prevent that happening again. I will keep at the task of trying to persuade them to do something to sort it out.

In some places ditches, culverts and drains have not been kept clean. In other places they are simply not large enough. We seem to have plenty of lawyers, administrators, assessors and experts writing letters and arguing over liability. It is high time more of the budget was spent on some people to go out and scour the ditches and widen and deepen the watercourses so next time heavy rain hits people can be assured it will not come into their living rooms.

The Environment Agency itself did not maintain its systems to a sufficiently high standard, and had to admit as much in its annual report. It now has extra money from the government for anti flood investment for later years, but needs to get more out of its current ?1,000 million a year budget to reassure us. Many of the schemes we need locally are small and relatively cheap. I want to see a greater sense of urgency. It is no good just spending money on putting all our homes on maps on the internet, and placing lines around the unlucky ones to say they are prone to flooding.

This government has been particularly keen to require more and more homes be built in places like Wokingham. Much of the land is low lying. Much of the open land that remains is flood plain. Planners have a duty to consider the impact more tarmac and concrete will have on the rate of water run off when it rains, and the impact converting flood plain into housing estate will have on the neighbours as well as on the new properties. It is heart breaking to see peoples dreams shattered when their brand new homes are awash with dirty water. It is high time the authorities sanctioned fewer houses, and improved our flood defences. This is not global warming, this is bad planning.