Britain's Chancellor of the Exchequer Alistair Darling with U.S. Treasury Secretary Henry Paulson
For savers at British bank Northern Rock, the days of worry may be waning. But it took a bold intervention by the U.K government to accomplish. Hoping to stem depositors' panic about the Northern Rock's solvency after it announced last week that it had requested an emergency line of credit from the Bank of England (lengthy lines of customers waiting to withdraw their savings have been a frequent sight outside Northern Rock branches for days), Alistair Darling, Britain's Chancellor of the Exchequer announced yesterday that the government itself would guarantee the bank's customers' money in the (very unlikely) event it failed. His office, he said, would "put in place arrangements that would guarantee all the existing deposits in Northern Rock during the current instability in the financial markets."
That dramatic, gilt-edged guarantee (since, even theoretically, it has put U.K. taxpayers on the hook to bail out a business that supposedly lived and died in the free market) was enough to calm the markets Tuesday. While some of the Newcastle-based bank's savers still waited in lines to withdraw their cash, the bank's stock rose 11% in early trading, halting the freefall that has halved its share price since Thursday.
Northern Rock, the U.K.'s fifth-biggest mortgage provider, came unstuck when the wholesale loan markets it leans on for a huge slice of its funds dried up amid the global squeeze on credit triggered last month. An emergency, short-term credit line, agreed with the Bank of England late last week, was supposed to reassure savers their cash was safe. Northern Rock, insisted the Financial Services Authority over the weekend, was "open for business."
Until Monday's grand gesture, the more the authorities tried to sooth, it seemed, the greater the panic. With no sign of the run on Northern Rock ending — savers have so far yanked out well over $4 billion — the panic began to spread. Alliance & Leicester's stock plummeted by almost a third on Monday despite a statement insisting its business was solid; shares in Bradford & Bingley dropped by 15%. Desperate to restore order, the U.K. Treasury put its own money (meaning the public's money) down. "I want to put the matter beyond doubt," Darling said. Customers' cash held by the bank "will be guaranteed safe and secure." Shares in Alliance & Leicester and Bradford & Bingley recovered somewhat on Tuesday as well.
Why the jitters among savers? "When people hear the words 'emergency' and 'bail out,' then concerns outweigh statements saying 'the bank's solvent,'" says Nic Clarke, banking analyst at Charles Stanley in London. "When it comes to their life savings, when they've got the choice of seven or eight other banks in the High Street where they can walk next door and deposit funds and consider them safe, the majority will do it. It doesn't really matter if the rationale is right or wrong, they're voting with their feet."
The U.K.'s system for insuring customers' bank deposits also muddled the authorities' message for calm. Should a bank fail, savings of up to around $60,000 are protected. For those customers with bigger deposits, the safeguards are less clearly defined. If authorities are to reassure savers in the event of another bank hitting the buffers, they'd do well to reform this system says Alex Potter, an analyst at Collins Stewart in London. For now, though, Northern Rock is trying to get back to business. "These have been troubled times," CEO Adam Applegarth said in full-page newspaper ads published today. "But Northern Rock will prevail."