Cicero Policy Briefer

Issue 21, February 2008

Between a Rock and a hard place: Can the Northern Rock crisis be salvaged?

By John Rowland

Recent British history is peppered with what political scientists, in a rare example of plain speaking, call policy disasters. Academics have argued over its definition but the essence is easy to grasp. They are the definitive cock-ups, the big ticket, once-in-a-Parliament conflagrations that burst into flames and burn on for months and, even once they have been extinguished, leave behind charred reputations and smouldering piles of taxpayers’ cash.

In retrospect, these disasters become emblematic in the public’s consciousness of some perceived wider failing, a useful device for commentators wishing to make a point about a government that has lost its way. Think of the poll tax for Margaret Thatcher; sterling crashing out of the ERM for John Major; Iraq for Tony Blair. Is the Northern Rock affair a policy disaster in the making for Gordon Brown, a man who has placed great store in his record for economic competence?

At first sight it is fair to say Northern Rock has ticked quite a few boxes on the policy disaster checklist: this has already gone on for months, we are in for £60 billion in loans and guarantees and the UK’s international reputation for sound regulation has been damaged. Politically, it is providing ammunition for those who accuse the PM of being chronically indecisive.

But there are a couple of factors that might spare Brown the ignominy of being fingered as the architect of a policy disaster when we come to look back at this period. Firstly, it doesn’t quite rank up there with previous political catastrophes such as the poll tax, because the classic policy disaster has the Government as its alpha and omega; we should remember that Northern Rock’s problems did not have their genesis in Whitehall but in the imprudence of the bank’s management, coupled with a credit crunch that is way beyond the control of Downing Street. Secondly, the sale of the Rock to a private buyer with a Government-guaranteed bond sale to underpin it, while having considerable potential to go pear-shaped yet, will nonetheless take a good deal of the political heat out of the situation if it goes to plan. Something may yet be salvaged from the ashes.

This is not to say that this will be the end of the Northern Rock story. Once the Rock has been disposed of, the attention of Westminster and Whitehall will turn attention to ‘fixing’ the regulatory arrangements that ‘allowed’ this to happen in the first place. Indeed it is hard to escape the feeling that we are entering open season on banking regulation. BBA chief Angela Knight has recently opined that banking regulation “is not too clever at the moment” while the Financial Times’ Martin Wolf has argued that banking supervisors were largely regulating the wrong things. The Treasury Select Committee, the group of MPs that scrutinises the Government’s handling of the financial system, has slammed the FSA’s handling of the crisis in its inquiry in to the run on the bank, while the Government is consulting on wide-ranging proposals for regulatory reform.

It is right to ask questions of the regulatory system, but we should also be mindful of the downside risks; at a time when financial markets are in turmoil, grandstanding regulatory reform could have grim consequences. Unfortunately, it is precisely this turmoil which will spur on those who argue that something must be done. In the USA, shocking scandals such as Enron and Worldcom led to the Sarbanes-Oxley Act which, while impeccably well-intentioned, has tied businesses up in bureaucracy and has driven new listings to London. Could a similar prospect be possible here with new rules that more tightly regulate what banks can and can’t do?

At the moment the principles-based approach does not seem to be in serious question in itself. But there are a good number of MPs, particularly some members of the Treasury Select Committee who feel that the Tripartite Authorities should be taking a firmer grip on their regulatory charges, who will be advocating tougher rules. The challenge for the industry will be to ensure that in the post-Rock recriminations, the case for light touch regulation is vigorously defended. We should learn the lessons and make proportionate changes, but we mustn’t allow a Sarbox-type situation to develop.

This article was originally published in the February 2008 edition of Lending Strategy.

John Rowland can be contacted on +44 (0)20 7665 9539 or click here to email.