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This party’s well and truly over

Christopher Fildes looks back on a turbulent year in the markets and recalls some immutable laws of banking

12 December 2007

12:35 PM

12 December 2007

12:35 PM

The old ones are the best, so allow me to remind you of Sibley’s Law. Giving capital to a bank (said that worldly banker, Nicholas Sibley) is like giving a gallon of beer to a drunk. You know what will become of it, but you can’t know which wall he will choose. By now we have some of the answers, and if the inundations are extensive, it was, after all, quite a party.

At the head of the world’s biggest banking group, Charles ‘Chuck’ Prince was enjoying himself to the end — when his bank, Citigroup, admitted to losses of $11 billion, not counting the mere $42 million that he took with him when he was chucked out. Other banks’ chiefs have followed, and on Canary Wharf, where Citi maintains a 12,000-seat corral, there will soon be empty saddles.

Bankers can be heard to complain that their troubles are unprecedented and were unforeseeable. Others might have told them (and did, in fact, tell them) that the banking cycle had not been abolished for a single privileged generation. Last time round, less than two decades ago, Citi had to be shored up with money from Saudi Arabia. This time, the money comes from Abu Dhabi.

How short and self-serving a market’s memory can be. When Northern Rock sent up distress signals, we were told that nothing like this had happened to a British bank since Queen Victoria’s day. This would have surprised the lifeboatmen who in the 1970s went out to dozens of foundering banks. The National Westminster had to announce that it was still afloat. Fraud went on to hole Johnson Matthey and sink Barings and the Bank of Cocaine and Colombia.

Perhaps all this was before Adam Applegarth’s time, and perhaps since Northern Rock’s shaven-headed boy-wonder never trained as a banker, no one told him, least of all the local worthies on the Rock’s board. Among them was Sir Derek Wanless, who had run NatWest for eight years before his colleagues, trying to fend off a bid, threw him overboard. He then took to writing reports for Gordon Brown saying that the NHS represented a suitable model. No doubt he thought the same about Applegarth’s model. This assumed that the Rock could motor along and top up with money whenever it needed to, with no reserve tank. Soon enough, it had to freewheel to the Threadneedle Street garage. There it was observed on the forecourt and word went around that it had broken down. So indeed it had. A bank that runs out of cash is out of business. The lesson is as old as banking but apparently has to be learned every time.

Ten years earlier, another Brown model had set the Financial Services Authority to watch over individual banks, but left the Bank of England to watch over the banking system, with the Treasury at the third corner of the triangle. I asked then which would be the first bank to fall through the hole in the middle. Now we know. In front of the Treasury select committee, Mervyn King, the Bank’s Governor, was asked a simple question: at the critical moment, who was in charge? There could be no one answer to that.

Now rancour and recrimination have spread round the triangle, and the Rock’s doors have had to be kept open with public guarantees and public loans. The search is on for a suitable new owner — ideally, no doubt, with unquestioned credit, transparent accounts and an ingrained experience of banking. But since the early running has been made by Sir Richard Branson, I think I may challenge him with a bid of my own.

In exchange for free shares, I and some City cronies would take over at the Rock. We would tell the customers that in the changed circumstances, we were passing on the increased cost of money and hoisting the mortgage rate by 4 per cent. To soften the blow, we would waive penalties for early repayment. Our customers would be encouraged to take their business to the Nationwide, which has cash in hand. The repaid mortgage loans would come flooding back into the Rock, we would pay off the Bank of England, and with any luck would have something left over to pay ourselves.

At that, we might be pushing our luck. Lending money on mortgage is or was the Rock’s core business, and buying property with borrowed money is not, after all, the sure thing it was supposed to be. The price of commercial property has cracked, and the price of houses is cracking. In a buyers’ market, there will be forced sellers. It has all happened before. This time, we can expect casualties among the punters who borrowed money and bought property to let or to sell or, if all went well, both. They took to buying flats in Mongolia sight unseen, and used Swiss francs to invest in Hungary. Now they will experience the hazards of being an absentee landlord.

When the borrowers suffer, their pain is referred to the lenders, and old-fashioned virtues — a strong capital base, ready access to cash — come back into their own. It may now be convenient, says Governor King, that in the last three years our five biggest banks made £100 billion between them. Greedy banks pose him less of a problem than needy banks, such as the Rock.

Greed itself may go to something of a discount. For years now, financial markets have produced fabulous returns, enough to keep the banks’ shareholders happy after their dealers and managers have staggered home with their bonuses. Experience tells us that such seams of gold run out, that profits revert to the mean, and we can see now that this seam was laced with fools’ gold. When the wise Dennis Weatherstone ran JP Morgan, he gave his financial engineers three chances to explain their new inventions to him. If they failed that test, the inventions failed, too. More recent bankers have been less selective.

They could always try blaming the central bankers who made money so plentiful and inflated the prices of assets all over the world, from Picassos to property and from soya beans to securities. William Martin once defined his job as chairman of the US Federal Reserve Board: ‘I’m the man who takes away the punchbowl when the party’s getting good.’ Alan Greenspan in the Fed’s chair was more concerned to keep the party going. What we have to show for it now is a choice of wet walls.

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