This morning the UK Government took dramatic action to try and save the banking system and to restore confidence in the economy. What were the main measures?
1) It has set up a £50bn fund which it has made available to several of the most important UK banking groups. If they apply for these funds the UK government will inturn be awarded preference shares giving them an equity stake in the banks. In addition there will be controls on any payments from these banks to their shareholders and managers. Put simply, the UK banks will at least be partially moving from the private sector to the public sector. We will all own part of them.
2) The government has also made £250bn available to act as guarantees for interbank loans.
3) Finally the Bank of England will supply an extra £100bn of short-term loans to the UK Banking system.
In a related move the Bank of England reduced the Repo Rate by 50 basis points to 4.5%. Similar moves came from the ECB, the Fed and the Central Bank of China.
And now we must watch nervously to see if this works. The key thing to keep your eye on is the London Interbank Offered Rate (see Topic 12 in the book). If this remains well above the new Repo Rate then the measures have failed and we should all start to panic. The economy will be heading into a deep recession and the government finances will be in a dreadful state. It is time to start praying very hard!
Oct 8, 2008
UK Government plays final card....
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4 comments:
Fascinating stuff Kevin. This is all very high flown finance but the one thing that I don't see much analysis of is exactly where and when the Government's cash might flow.
For example the £250bn fund to support the inter bank lending: how and when will this be USED. Making it available may simply have the benefit of bolstering confidence in the system. In that case, it might never actually be used. This makes it a lot like the nuclear defence argument: as long as I have nuclear weapons, no one will dare attack me ... this breeds confidence in my ability to defend myself and so I never go to war.
I assume the preference shares you talk about in this and another blog entry have been paid for in cash. Interesting to see that an ordinary dividend cannot be paid until the preference shares have been redeemed: can't say I've heard of that before. Is it legal???
And so on: all avoidable of course but now we are here we have to deal with it. Moreover, the size of the UK package is actually larger than the US package but that apparent fact seems to have attracted much less attention than the bru ha ha surrounding the Yankee $700 bn.
Duncan Williamson
Hi Duncan,
Thanks so much for your comment on the blogs. You make some excellent points.
1) I think you are 100% correct that the £250bn fund will be used by the banks as they need it. It is very much designed to "breed confidence" as you suggest.
2) Yes the Preference shares will be paid for in much needed cash. The banks are currently fighting to stop the Government restricting their financial policies. This includes the payment of any ordinary dividend. And yes it would be legal to restict the ordinary dividend through some kind of covenant attached to the new preference shares. This is not that unusual. They are often attached to new bond issues.
Thanks again - I hope you are finding the book/website useful.
Best Regards
Kevin
Dear Kevin,
reference to your blog about the government's rescue plan.
1) You mention that the government could restrict the payment of any ordinary dividend and in this morning’s lecture you said they could even cut the dividend at all. This move by the government seems to me not justifiable. The Chancellor makes very clear in his Statement from October 13th that £8.5bn and £4.5bn would be invested into newly issued ordinary shares of HBOS and Lloyds TSB, respectively. In addition they intend to spend £15bn into ordinary shares of RBS and £5bn into preference shares resulting potentially in a 63% stake. This means in simple terms that they buy the banks or at least have a stake majority. But Gordon Brown has been saying he does not want to nationalise the banks and also the Chancellor Alistair Darling said, “the Government does not want to run Britain’s banks – it wants to rebuild them.“ (http://www.hm-treasury.gov.uk/statement_chx_131008.htm)
Why don’t they buy then non-voting preference shares? Why does the government would restrict the payments of any ordinary dividend if it invests so much money itself? Is that fair to the actual owners of the business?
2) With this move to buy ordinary shares the government is entitled to vote at the AGMs regarding corporate policies, appointment of board (whereas one condition of this scheme is the government to agree with the appointment of new independent non-executive directors).
Is the government going to use these voting rights? If so, who will represent the government in persona and make the decisions?
3) Reference 2) If the government will make use of their voting rights is that not nationalising one bank (or rather 8) whilst other banks are free of any superior influence?
4) Even if the government is not going to have any voting rights, the taking of ordinary shares leads to share dilution and is not in the interest of other shareholders. Why is the government not taking preference shares only and hence would give other institutions or people the chance of buying ordinary shares, leading to overall more equity capital?
5) Finally, is it not the main aim of this capital injection for the banks to absorb their losses? If so, why does the government not regulate it in any form of bonds (secured, unsecured or even specialised for this occasion)? That would have the effect of real capital injection and still be in the shareholders interest, wouldn’t it?
With kind regards,
Felix
NB: Personally I find this blog or rather the website very useful!
Hi Felix,
A number of very detailed and interesting comments from you. My answers are as follows:
1) I agree that the Government's actions are rather different to their words. They seem reluctant to admit that they are nationalising the banks. They are reluctant to use this very political label.
2) The Govt will appoint representatives to vote on their behalf. It is not clear who they will be yet.
3) The banks that need Government financial support have little choice. They do not want political interference but that is the price of gaining the cash.
4) I guess they want to gain from any later rise in the ordinary share price.
5) You can expect a number of new regulations on the banking sector.
Thanks for your kind comments
Kevin
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