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Is the banking crisis over?

Created:
13 October 2008
Written by:
Oliver Ralph

Is this it for the banks? Can shareholders finally breathe a sigh of relief, safe in the knowledge that the worst is over and a rally in bank shares will finally ensue?

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For those with rose-tinted spectacles, the answer might well be yes. After all, the government has stepped in with a £39bn rescue package which should be enough to ensure that the banks won’t go bust even in the event of a nasty recession. And as a major shareholder, the government now has an interest in ensuring that the banks are profitably run (arguably, civil servants couldn’t possibly do a worse job than the institutional shareholders who have, to date, had the final say on what goes on).

And the global picture is also starting to get brighter, albeit slowly. True, the failure of the G7 finance ministers to come up with anything more concrete than a statement of principles this weekend was a disappointment. But the European governments’ commitment to solving the crisis is welcome and, if the rumoured government guarantee of interbank loans also comes to fruition, the wheels of the financial system should once again start to turn. The morning’s stock market rally suggests that investors are encouraged.

But every rose has its thorns, and the thorns connected with the banking rescue could turn out to be very long and very sharp. First, there’s the possibility that the rescue itself might not turn out to be sufficient. The banks believe that the new funds will enable them to see out a severe recession. But they also thought that the £20bn-plus raised in rights issues earlier this year would be sufficient.

Second, there are multiple dangers connected with government control. Dividends have already been cancelled and the government will understandably be demanding board representation. There were calls last week for government-controlled banks to ignore mortgage defaults. That’s unlikely to happen, but it does illustrate the type of demand that the government will face. Companies are, in general, at the centre of a three way struggle between owners, suppliers (including employees) and customers. For the banks, the government rescue shifts the balance in favour of the latter group.

Finally, we are a long way from a global solution to the banking crisis. Governments around the world are procrastinating rather than acting. Until a global solution is found, the outlook for bank shares is bleak.

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See also: Government to take a stake in UK banks

Read more IC comments on the banking crisis, by visiting http://www.investorschronicle.co.uk/BankingCrisis

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