Northern Crock

According to the BBC (here), the government/Bank of England commitment to Northern Rock amounts to £57 billion. Sounds a lot, doesn't it? It is a lot. But when sums get that big, they are beyond the comprehension of ordinary mortals. I could tell you that £57 billion would buy every man, woman and child in the UK an HD flat screen telly, or that £57 billion would buy 19 road bridges across the Forth (with associated road links and at 2016 prices) or that £57 billion would buy 11 new trident submarines (without missiles), but it would not really make the amount any more meaningful. So just accept that it is an awful lot of money.

How did the Treasury and the Bank of England get into this mess? Well, you begin by seeking to stave off a run on the bank, leading to a guarantee to retail depositors of their savings - because otherwise the entire banking system might be in danger. But it doesn't end there; as nobody will lend to Northern Rock and as its business model depends upon continued lending, the Bank of England has to step in and make more funds available. And then still hoping that a white knight will come along and take it over, the Government has to extend its guarantees to cover commercial lenders, which it did yesterday.

Where will it end? The Government appears to be hoping that inter-bank lending (now virtually suspended in the light of the Credit Crunch) will settle down and that the system will return to the status quo ante, so that Northern Rock can return to its usual practices, repay its Bank of England loans and continue on its merry way. But what if the Northern Rock business model is irredeemably broken? At what point do the authorities say enough is enough and no more Bank of England loans or guarantees -even if that forces them to write off the loans and guarantees offered up until now? Or do they just keep pouring loans and guarantees into the black hole, running ever-greater risks in so doing?

It will end in tears.