Hoping to stem financial meltdown and avoid a deep recession, the British government on Oct. 13 moved to take stakes in three of the five largest British banks at a cost of $62.5 billion. So far, Royal Bank of Scotland (RBS), Lloyds TSB (LYG), and HBOS (HBOS.L) have agreed to take government funding, while Barclays (BCS) continues to resist. The move was part of a three-point British plan that also includes a $338 billion Bank of England facility to boost liquidity and up to $422 billion in possible guarantees for interbank lending.
At this point the news has been well-received by the markets, which had been under relentless selling pressure. The benchmark FTSE 100 index ended the day up nearly 8.3%, though shares of the three banks opting for government ownership were all down. HBOS was hardest hit, falling about 27% on news that Lloyds TSB would be lowering an outstanding offering price to take over the mortgage lender.
While part-nationalization of the banking system is not an appealing prospect for investors, it looks like the only alternative to avoid continued erosion in the value of bank shares—and even, quite possibly, major bank failures. "The British government's plan was the only thing that could help support the banking industry," says Peter Hahn, a fellow at Cass Business School in London and a former Citigroup (C) banker.
With these moves, which were first outlined Oct. 8 (BusinessWeek.com, 10/8/08), the British government has taken the pole position in trying to solve what has rapidly become a global financial crisis. On Oct. 12 other European countries signed on to what appeared to be the general outlines of the British approach. Germany, for instance, outlined a program on Oct. 13 to provide up to $672 billion in loan guarantees and possible capital injections, while French President Nicolas Sarkozy announced a similar plan the same day at a cost of up to $491 billion. The British also seem to be having some influence in the U.S., where the Bush Administration is considering modifying its bailout plan to provide capital injections into troubled institutions.A Boost for Brown
The British initiative has also immensely improved the domestic political standing of Prime Minister Gordon Brown, who has been transformed in a matter of weeks from a leader facing huge poll deficits and calls for a leadership contest from members of his own party in Parliament to an international financial statesman. Whether Brown can win the next election, which must be held by 2010, is still in question, but he is in his best political shape in more than a year with the critics, at least temporarily, silenced. On Oct. 13, Brown, reveling in this new status, called on the world to build a "new Bretton Woods…a new international financial architecture" appropriate for the age of globalized finance.
There is immense pressure on Britain and Brown to prevent an implosion of the world financial system. Along with New York, London has been one of the key drivers—and beneficiaries—of the financial innovations of the past two decades. Of the British banks targeted by Brown's plan, only Barclays is a major player in the trading, corporate finance, and merger advisory that form the core of activity in the City of London, Europe's closest equivalent to Wall Street. Instead, the City is mainly dominated by the likes of Morgan Stanley (MS), Goldman Sachs (GS), Deutsche Bank (DB), and UBS (UBS). If they are allowed to fail or fall into steep decline, Britain will be hurt, but Brown needs other financial powers—especially the U.S.—to help support those banks.
France stepped up to the plate Oct. 13 with a plan to make $491 billion available to aid banks and insurers, including as much as $54.6 billion that could be used to recapitalize banks. At a news conference, Finance Minister Christine Lagarde said the government either would take direct stakes in distressed banks or in other cases provide capital to healthier banks to boost their so-called Tier 1 capital ratios to at least 9%. That would "level the playing field" with British banks, which are expected to achieve a roughly 9% capital ratio under that country's bank bailout plan, Lagarde said. The remaining $436.4 billion in the aid package would be for government guarantees of interbank loans for up to 5 years. "If we did nothing, the financing of households and businesses would be in danger," she said.
Whether the bold steps taken by Britain and other governments will turn the tide is still very much in doubt. One top British business figure said he thought the government had "not done enough, nor early enough," to keep confidence from being lost. He said he thought the coming recession was likely to be much worse than the downturns of the early 1990s and early 1970s, which are still remembered with shudders. And he noted that bank lending officers remain "panic-struck" while blue chip companies are still having trouble rolling over debt. Indeed, despite the trillions of dollars in promised bailouts, interbank lending rates remained stubbornly high on Oct. 13. The key three-month dollar LIBOR rate, for instance, only fell slightly, to 4.75%, from about 4.82% on Oct. 10.