Bad bank is only solution to crisis.
Posted on January 19th 2009
Calls for a ‘Bad Bank’ have been increasing over the last few weeks as it becomes clear that the government’s strategy for avoiding the worst ravages of a recession are failing.
The recent cuts in interest rates to their lowest levels in 314 years is welcome but insufficient. Despite the government calling on lenders to maintain the supply of credit to small businesses and homeowners it is clear that lenders are still too fragile to comply. Lenders are being hit by a volley of body blows coming from all sides. They are being asked to lend more whilst being forced to improve capital ratios. They are being asked to pass on rate cuts and also look after savers. These demands are all contradictory and extremely difficult to achieve.
Until a Bad Bank is launched with the objective of removing the most toxic assets lenders will continue to see their balance sheets deteriorate. They therefore will have to use capital to shore up further losses and as a result are in no position to lend more money. The Bad Bank would take a long term view on these toxic assets holding them to maturity by which time house price depreciation and unemployment will have subsided.
One way or another the tax payer will end up underwriting the most toxic assets; either by the launch of a Bad Bank or the complete nationalisation of the majority of the UK banking sector.
