British Prime Minister Gordon Brown defended his reputation for sound economic management on Monday in the face of mounting criticism over his decision to nationalize ailing bank Northern Rock Plc. Rock needs EU okay to operate, shrinkage likely.
Brown, who helped transform the Labor Party in the 1990s by ditching an attachment to state ownership, has been accused of dithering in a five-month crisis in which the government lent around £25 billion ($49 billion) to keep Northern Rock afloat, while it cast around for private bidders. “We did the right thing, at the right time for the right reasons,” Brown told a news conference. “We have contained the problems. It has not spread across to the rest of the economy.” The government, which rejected two private sector-led bids for the bank this weekend, announced legislation allowing it to take over Britain’s fifth-largest mortgage bank. “It was right to look at all the options available to us,” Brown said, dismissing questions over why he took months to come to a decision. “We have lost nothing in doing so.”
The government has consistently said the nationalization -- the first in Britain since engine-maker Rolls-Royce was brought under public ownership in 1971 by the then ruling Conservatives -- would be only temporary. But the government declined to comment on Monday on how long public ownership could last. “We can’t have a timetable when we’re talking about the return of better market conditions as a first step,” Brown said. Even a temporary state role, however, will carry political and financial risks for a government already tarnished by the debacle, linking its fate to a shrinking mortgage bank at a turbulent time for Britain’s housing market, with home repossessions, bad loans and job cuts all likely to increase. Both Brown and finance minister Alistair Darling said the bank would be run at arms’ length and on a commercial basis.
The government also faces the threat of a drawn-out legal battle with disgruntled shareholders, reminiscent of the damaging fight with investors over the effective re-nationalization of Railtrack less than a decade ago. Shareholders in Northern Rock, who stand to lose all their investment, reacted with anger as the suspension of the bank’s shares left them unable to sell their stock. “We will wait to see the details of the nationalization bill and after that we will pursue all ... actions available to us to secure value for shareholders,” Jon Wood, founder of the bank’s top shareholder SRM Capital, was quoted as saying by the Daily Telegraph. The UK shareholders’ association said it would not accept a solution, which could allow an eventual buyer to profit. An independent audit is set to determine the value of the shares and how much the government will pay shareholders.
Northern Rock has been put on the government’s books, classified as around £90 billion ($175.6 billion) of public debt, and the focus will now shift to how soon a buyer or buyers can be found for its assets. Analysts say that could be easier if lending slows over coming years, shrinking the mortgage book as many of its customers re-mortgage with other banks, and as the funding model becomes driven by retail deposits and not capital markets. But the outcome will still depend on wider markets and could take years. Rolls-Royce, for example, took 16 years to refloat.
Darling, who himself has a Northern Rock mortgage, said he would welcome approaches. “We remain confident ... that the Bank of England will be able to get its money back,” he told the BBC. Opposition politicians blame Brown for the crisis, pointing to the regulatory framework he put in place a decade ago when he was finance minister under Tony Blair. While the government has criticized Northern Rock’s business model, Brown blames the bank’s woes on a credit crisis that started with risky mortgage lending in the US and has since spread throughout the world’s banking system. He argues the British economy is better placed than many to withstand the fallout from global financial market turmoil and the government said on Sunday nationalization was only temporary and in the best interest of taxpayers.
Shares in British banks rose, with mortgage lender HBOS up 3.9% by 12.40 GMT. Analysts at investment bank Bear Stearns said a smaller Northern Rock, once one of the most aggressive competitors, could ease competition in the mortgage market. Sterling, however, dropped to a two-week low against the euro as worries over the nationalization and associated costs added to concerns about the UK economy. Northern Rock was more reliant on borrowing money on financial markets to make home loans than its rivals and ran aground when the credit crunch meant it couldn’t raise cash.
Financial groups such as Citigroup Inc, Merrill Lynch & Co Inc, UBS AG and Bank of America Corp. have all taken multi-billion dollar hits on bad mortgage investments, while Germany is rescuing corporate lender IKB. Day-to-day running of Northern Rock will pass to Ron Sandler, the troubleshooter, who rescued Lloyd’s of London from the brink of collapse. He will visit the bank’s headquarters in Newcastle, northeast England, on Monday.
The European Commission is likely to force Northern Rock Plc to downsize in compensation for receiving government aid, British and EU officials said on Monday. Such a step is standard treatment for troubled companies -- publicly or privately owned -- that obtain significant government aid for restructuring. “The conditions under which Northern Rock will do business have to be approved under the (EU’s) state aid rules, which are deliberately designed to stop there being unfair competition from something that has the state standing behind it," British finance minister Alistair Darling told a new conference. Darling said he understood the concerns of rival banks. The EU rules are designed to deal with the concerns of competitors, who see government aid going to a rival.
Northern Rock faces a March 17 deadline to pay back about £25 billion of emergency aid authorized by the European Commission for no more than six months. But it will be unable to do so. The British government as a result must ask the EU executive to convert that emergency aid into restructuring aid, which is given only under stringent conditions. “Restructuring aid requires the company to be restored to viability so it can survive in the future without any further injections of public money,” Commission spokesman Jonathan Todd said in Brussels. He added: “There must be compensatory measures to offset the distortion of competition caused by the subsidy, and normally that’s a reduction of capacity.” It was unclear, what form the downsizing may take – fewer employees, branches, loans, customers or a combination of those. The Commission cleared a €2.5 billion ($3.7 billion) restructuring of French heavy engineering firm Alstom in 2004, but the company had to find industrial partners to share investment and decision-making on a 50-50 basis in major sectors. It also had to sell €1.6 billion worth of businesses, including a locomotive arm and an industrial boilers operation. (Reuters)