ICIS has just announced its annual Innovation Awards for the chemical industry. Perhaps ICIS might now consider establishing a separate award for central bankers? A rush of new lending facilities seems to be on the way, as they try to find new ways to unblock the pipes that allow money to flow between banks.
The latest entrant to the competition is the Bank of England. Yesterday they announced a minimum £50bn borrowing facility to help mortgage lending. Yes, £50bn – or $100bn, €125bn. If ICIS offered a special prize for multiple entries, then the BoE would win easily, having already spent another £50bn in nationalising the failed Northern Rock bank in February.
As the Bank describes it on its website, ‘with markets for many securities currently closed, banks have on their balance sheets an ‘overhang’ of these assets, which they cannot sell or pledge as security to raise funds. Their financial position has been stretched by this overhang so banks have been reluctant to make new loans, even to each other.’ The Bank goes on to say that ‘the Scheme aims to improve the liquidity position of the banking system and increase confidence in financial markets’.
I have had the privilege of judging the ICIS Awards in the past. And one crucial test that we applied was whether an innovation was commercially viable. Many early entrants for the banking Award would have failed this critical test. Who now remembers US Treasury Secretary Paulson’s much-trumpeted $80bn SIV bailout scheme from last October, for example?
The BoE’s scheme seems to pass this test. Banks already seem to be lining up to use it, and there is speculation the final lending total might well reach £100bn. This would certainly disbar the Bank from entering the SME category, currently dominated by the Japanese central bank.
The UK has a shortage of plumbers, and the Bank’s charges for its efforts to unblock the liquidity pipes reflect this situation. Today, as part of the quid pro quo for the new Scheme, the UK’s Royal Bank of Scotland has announced a £12bn rights issue, to rebuild its capital base. This is the largest European rights issue in history. More banks, including majors such as Barclays, are expected to follow with their own rights issues.
The BoE’s innovative thinking is very welcome, but it is important to remember that it is not meant to be a ‘silver bullet’ to rescue western banks from the consequences of poor lending practices. As Fed Governor Kevin Warsh noted last week, central bank supplied ‘liquidity should not be mistaken for capital’. And he warned those looking for a ‘quick fix’ that ‘the curative process is unlikely to be swift or smooth’ given the scale of current problems.