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Thursday, 25 September 2008

Let's get a few things straight

Global Economic Crisis?
Where are the French banks in distress, the Swedish, German, Italian, Japanese, Spanish, Brazilian banks hovering on the verge of collapse? There are none. The truth is this is a UK/US affair, probably the last remnant of the "special relationship.

It's all the fault of short sellers
Err, no. There were no short sellers in Northern Rock, or at least not that anybody noticed. Depositors queued to get their money back without any prompting from the stock market. HBOS' share price declined from £11 to £1.50 in a year and in the last week before it was bought by Lloyds only 2.75% of its shares had been lent to short sellers, less than the average for a bearish stock and much less than the 5% of Barclay's stock that was being lent at the same time. Did their share price go down? Thought not.

The problem for HBOS and NR was a classic liquidity squeeze brought about by an overreliance on securitisation, which gave their liabilities book a shorter duration than their asset book. It was clear they would have problems when the market that they had relied on dried up. Think of it as a bank taking hundreds of billions of term deposits from a single depositor. If the depositor changes his mind and starts taking away his funds as the deposits mature then the bank will have a problem. So that's nil points for the HBOS management, but also nil points for the FSA who said in their own report on NR they thought it was the Bank of England's job to spot any liquidity problems. What a shame that nobody told the Bank of England.

Actually there was plenty of short selling of Northern Rock stock. In fact 20% of it was being lent out. The difference was that the regulators found it easier to blame the board of Northern Rock. When HBOS went down, the management was also at fault and arguably should have seen it coming and worked harder to avoid the problem. But then so should the FSA, so Victor Sants got a dose of ants in his pants and pointed the finger at the evil short sellers. Cue assorted Archbishops discursing on "almost unimaginable wealth ... generated by equally unimaginable levels of fiction" without a hint of irony.

Wall Street is full of crooks
Now this is more credible. After all they seem to be getting off with light sentances. Instead of providing banking to US industry and promoting economic growth in the USA, US banks have been expanding their commercial banking operations to Asia to assist Asian industry. But at the same time they have lending ever more ridiculous amounts to the poorer members of US society who have become increasingly unable to repay those loans as US industry shuts down.

Still that didn't matter so long as the loans could be repackaged and sold to a sucker. And what was left was simply called high yield paper. Trouble was when the music stopped and the parcels were unwrapped, the yield went to zero and everybody found they had bought a pup.

But Wall Street doesn't have a monopoly on shysterism. Some of the blame has to fall on the rating agencies who were giving this stuff a clean bill of health - "it's complicated but trust me, this really is the same risk as a AAA company". And Mr Paulson, the banker's friend, is all too keen to get the US tax payer buy the banks' bad assets at face value to recapitalise the banks, so that they can carry on as before.

There will no doubt be new regulations, but the only regulation needed in the US is "Don't make stupid loans" and the only new rule needed in the UK is "Don't get schmoozed by investment bankers offering low cost securitisation to fund your mortgage loan book: Get your hands dirty, employ some staff, open some branches and take some deposits."

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