Monday, November 03, 2008

Should Taxpayers Bet On Junk Banks?

We're still on the line

As we know, retail punters are now formally guaranteed on all their bank deposits up to £50K with FSA authorised banks. The guarantee is provided by the Financial Services Compensation Scheme (FSCS), which describes itself as:

"...the UK's statutory fund of last resort for customers of authorised financial services firms. This means that FSCS can pay compensation if a firm is unable, or likely to be unable, to pay claims against it. FSCS is an independent body, set up under the Financial Services and Markets Act 2000 (FSMA). Our service is free to consumers."

Free to consumers maybe. But what about taxpayers?

Because in the event of the guarantee being called, all the money comes initially from us. Thus, when Mssrs Bradford and Bingley lost their bowler hats recently, we had to stump up £14bn to fund the FSCS pay-out on their guaranteed deposits (not to mention a further £4bn we stumped up to cover their non-guaranteed depos).

But not to worry, because hopefully the loan will eventually be repaid out of the assets of the defaulting bank. So one day we get our money back.

Ah, but what if the assets don't cover it? After all, they are the assets from a defaulting bank so they can't be that great.

Not to worry, because the second line of defence is that any shortfall will be recovered from an ex-post levy on solvent banks and financial institutions. To operate in the UK they all need to be authorised by the FSA, and they can only get authorisation if they become members of this FSCS levy guarantee scheme.

Job done.

Except... suppose you're a bank that's just been through the biggest financial earthquake since the thirties; you're desperately trying to rebuild your balance sheet, while at the same time repaying the government's dividend-blocking preference shares. The FSCS comes along and demands several hundred mill as your share of the mess one of your reckless incompetently regulated ex-competitors created. How do you react?

Exactly. You say, hey, you say, that's hardly fair. We always knew Mssrs B & B were a couple of clowns, maxxing out on buy-to-let and self-cert mortgages etc, and if you plonkers at the FSA had been doing your job properly, they'd have been stopped long before the ordure hit the wossname. Why should we pay? Especially since you retrospectively increased the guarantee to £50K. And while we're on the subject, we don't want to pay for all those dodgy overseas banks you let operate here in the UK even though they had diving credit ratings and were clearly heading for the mountainside.

Tricky. Could easily end up with taxpayers being forced to agree levy repayments spread out over a very very long period indeed: a couple of hundred years, say. In other words, taxpayers could easily end up paying for the lot.

But at least our regulators are on the case now, right? At least now they will be making absolutely sure that the banks operating here are sound. That any bank included in the guarantee scheme is of good credit quality. Just in case.

Well check this out. According to a list helpfully provided by, one of the FSA's currently authorised banks is junk. FirstSave Bank of Nigeria has an S&P credit rating of BB-, which means it is literally junk bond grade. And a couple of others aren't a lot better: both ICICI Bank and State Bank of India have an S&P rating of BBB-, just one notch above junk.

WTF is the FSA doing? Don't they look at credit ratings? Why are these banks still authorised? How would our other banks react if anything unfortunate should befall them, adding to the future FSCS levy?

And who do you think would finally have to pick up the pieces?

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