Northern Rock Bank Nationalized

Which Bank will be Next?

by Nadeem Walayat, TheMarketOracle.co.uk | February 19, 2008

On Sunday Gordon's Darling released the statement that the UK Government would nationalize Northern Rock Bank before Mondays stock market open, as the two takeover proposals virtually guaranteed huge profits for the bidders such as Branson's Virgin group, whilst the government would have been stuck with the debt of as much as �50 billions, sat to wait patiently for upwards of 25 years for the debt to slowly be repaid if at all.

At mid-day today, Gordon Brown the British Prime minister waded in to support the decision to nationalize the bank in the face of shareholder protests, and said that the delays were necessary so as to weigh potential private sector alternatives to nationalization.

Therefore, as I have pointed out several times over the last few months, under the circumstances the government had very little option but to nationalize the bank with a view to seeking the revenues to primarily concentrate on the repayment of the government debt as well as seeking to sell off significant chunks of the bank to hasten the process and therefore as long as there is no meltdown in the UK housing market, the government would aim to get back all of its cash over the next 3 to 4 years. Something that would not have happened with either of the private bidders.

The tactics that the Northern Rock Bank could use to cut the amount it owes to the government is to raise the mortgage interest rates on borrowers which will force the prime mortgage borrowers to remortgage elsewhere at lower interest rates and therefore clearing their mortgage debt with Northern Rock Bank. However this will result in mortgage interest rates rising across the UK mortgage sector despite Bank of England interest rate cuts as Northern Rock Bank accounts for a fifth of the UK's mortgage business.

However, the risk now is which other banks will follow Northern Rock into the arms of the Government. The UK Government has in effect increased the national debt by about �50 billions, the impact of which has been directly felt in the foreign exchange markets with the pound plunging from a high of �/$ 2.13 to the current lows of �/$ 1.94 on fears that further bailouts will lead to a surge in bond issues and hence resulting in higher long-term interest rates coupled with falling bond prices.

The reason why there will be further bank failures is because the global credit crisis is deepening as the US monoline debt default insurers face failure and thus magnify the original estimates of total bank losses of $140 billion to potentially ten fold ! That's well over $1 trillion in losses, more than enough to wipe out the capital base of many of Britain's and the worlds biggest banks! This regardless of good money thrown after bad by the Sovereign Wealth Funds.

The real initial losers are the shareholders who will probably see little more than the 90p the shares closed at last Friday. Many are declaring intentions of suing the government demanding compensation of as much as �4.25. Especially vocal are the two hedge funds that scaled into Northern Rock following the share price crash at an average price of �2.50 per share.

The prospects for the UK mortgage sector looks increasingly dire, with the UK housing market having barely begun to feel the impact from the credit crisis, lagging some 12 months behind the US in terms of the housing market trend. Mortgage banks such as Bradford and Bingley, Alliance and Leicester and even the mighty HBOS will feel the pain from a forecast downtrend of a 15% drop over 2 years as of August 2007.

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