British banking would be poorer without a Co-operative challenge

When the Manchester-based Co-operative Bank was announced last July as the buyer of 632 Lloyds branches, tripling the size of its own network, I hailed the news as a step forward for  ‘banking biodiversity’. In February, George Osborne was still praising the deal, codenamed Project Verde, as one that would ‘shake up the established players’. But last month it fell apart — and the superfluous Lloyds outlets, which Brussels insists must be disposed of as a condition of the 2008 Lloyds-HBOS merger, are now likely to be repackaged as a revived Trustee Savings Bank. Meanwhile, the news got worse for the Co-op: after losses last year of £674 -million, it has been downgraded to junk status by the Moody’s ratings agency and has parted company with chief executive Barry Tootell, who was appointed two years ago to drive Verde to completion.

The problem is that the Co-op’s loan book has deteriorated as the circumstances of its borrowers have failed to improve while Verde has been on the negotiating table. By the end of last year, the bank was carrying £3.7 billion of ‘impaired’ credit exposures against £1.8 billion of ‘Tier 1’ capital — the most troublesome portion of its portfolio being the legacy of its takeover in 2009 of the Britannia Building Society, which had lent large on high-risk commercial real estate. Like the Lloyds-HBOS fiasco, this is a lesson for next time: quick-fix merger solutions, waved through by ministers and regulators, defer problems but don’t magic them away. It’s also a reminder that lurking within the bigger balance sheets of the major banks are undeclared volumes of doubtful domestic loans waiting to be cleaned up.

‘We haven’t sought nor do we need government support,’ said the Co-op Bank last week — but it does need an urgent capital injection of at least £1 billion.