It’s time to sell off Britain's broken banks
Matthew Lynn Aug 05, 2011
A good rule of thumb for the financial markets was that, if Gordon Brown sold something, the price was too low, and if he bought something, the price was too high. He sold off a lot of Britain’s gold at less than $300 an ounce, compared to the $1,600 it’s worth now.
In 2008, he paid billions for an 83% stake in Royal Bank of Scotland (RBS) and a 41% stake in Lloyds TSB when both banks looked on the brink of collapse. Just as he sold out of gold, it went into a bull market, and it now looks as if he bought into UK banking just as the industry was going into long-term decline.
On Monday, for example, HSBC reported respectable results. But revenues were stagnant and the group announced it was cutting 30,000 jobs to trim its cost base – not usually the sign of a company confident about the future. On Tuesday, Barclays reported a sharp drop in profits. It too was planning to slash jobs. RBS slipped back into losses.
True, bank results are always highly cyclical. Profits go up and down. The industry, more than most, is dependent on the state of the rest of the economy.
Yet these results pose a tricky dilemma for the government. It is still a major shareholder in two of the largest banks, Lloyds and RBS. Two months ago, there were widely leaked details of plans to start selling shares in May next year. If that was the Treasury strategy, it is hardly going according to plan. It would have been hoping for steadily rising profits to create the right conditions for a sale. Nobody wants to sell equity in a business struggling to maintain profitability. Who’s going to buy into that?
The trouble is, it is very hard to believe that either Lloyds or RBS will be looking in much better shape in May than they are now. The most obvious strategy is to hang on and hope something turns up. Just wait another year or two and the performance of both may well have perked up. But that would be a mistake. The truth is that both banks are unlikely to recover any time soon. In fact, the prospects for the entire retail banking industry look as bad as at any time in a generation.
Lead indicators for Britain's economy
All of the banks are hugely exposed to the UK consumer financial services market. But it is hard to see how that is going to recover any time soon. The average person knows they’ve taken on too much debt and is paying it down, not ramping it up. Home ownership looks to have reached a historic peak of 70.9% all the way back in 2003 and is now in steady decline. Home owners need lots of financial products, such as mortgages and insurance, that renters don’t.
Next, the sovereign debt crisis is rolling forward from country to country. One minute the US is on the brink of default. As that gets fixed – for now – Cyprus looks as if it is about to blow up. The reality is that every government in the developed world has taken on too much debt and is going to be paying it down for a generation. There will be an endless series of downgrades, and each one will create massive losses for the banks.
Finally, ultra-low interest rates have allowed the retail banks to widen their margins. Try getting a mortgage at the bank rate – 0.5% – or anything close to it. Or an overdraft. Bank margins are fatter than ever. But it would be foolish to count on that continuing. If margins are squeezed, profits will fall further.
In reality, the retail banks, just like the investment banks, boomed during the three decades that individuals, governments and corporations ramped up their debt. During the great de-leveraging that will dominate the next decade it is more likely the banking industry will shrink, rather than grow.
If the Treasury thinks it will get a better price for RBS and Lloyds in 2013 and 2014 it is kidding itself. Instead, the government should look again at plans to give the shares to the British people. So far, that idea has only been kicked around in think tanks. Nick Clegg has supported it – but that probably makes it even more of a joke. No one else has taken it seriously.
Yet if the government is never going to make a decent profit on its bank shares, surely it makes sense to use them to achieve something else. Giving the shares to every citizen would be a bold move, and one that would widen share ownership considerably. It would force the banks to behave differently: you’d be reluctant to pay huge bonuses when you had 20 or 30 million shareholders on your back. And who knows, people might eventually make some money out of it as well.
It would cost some money – creating the share register would be a huge administrative task. But it has to beat sitting around waiting for the share prices to recover – particularly when there is little reason for thinking they ever will.
• This article was originally published in MoneyWeek magazine issue number 549 on 5 August 2011, and was available exclusively to magazine subscribers. To read all our subscriber-only articles right away, sign up for a three-week free trial now.
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