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When the banks get reckless, who pays the fees?

Maybe it wasn’t easy to see the early signs of this crisis, says a noted British commentator, but there’s no excuse for reckless banks now.

A year and a half after the subprime crisis surfaced, we still can’t pick up all the pieces.

In fact, nobody seems to be sure how many pieces there are to pick up. On Wall Street, some of the world’s biggest financial institutions keep going back to Washington for more money to fill up the cracks.

For years, banks and other financial firms across the world bought up repackaged debt that has turned from black ink to red ink on their books. And it’s an unprecedented flood of red ink.

In retrospect, it is hard to describe this behaviour as anything but reckless. That’s the word used by a seasoned observer on the financial scene from his vantage point in London.

He applies it to a specific act by a specific bank. But a lot of banks have been tarred with the same brush.

The bank is Barclays and the observer is William Rees-Mogg, more properly known as Baron Rees-Mogg. He has remarked on the financial and political scene in Britain for over half a century.

Long a writer for the Financial Times and editor of the venerable Times newspaper, he has also been a governor at the BBC, a candidate for the Conservative Party and even High Sheriff of Somerset.

Writing in The Fleet Street Letter, he remarks first on whether or not more people in a position to know should have known better.

Then he turns to a decision made one of Britain’s biggest banks and what it tells us about the mess we’re in today.

A certain horror

Lord Rees-Mogg has been a director at more than one company himself. And as he watched a parade of British bankers being grilled by the Treasury Committee of the House of Commons, he felt “a certain horror,” he tells us.

“Few people can be sure that they would be able to withstand cross examination on their major business decisions.”

He has also been a director at a bank. “When I asked myself whether I would have seen the dangers of the banking crisis in time to protect a bank, my only answer would be ‘perhaps yes, but perhaps, no’.”

He saw his role, he says, as “that of the friendly inquisitor, asking awkward questions without being afraid to expose one’s ignorance.”

He also cites the late Victor Lord Rothschild about his time as a director on the board of Shell Oil. “He said the business of the company was so complex and on such a scale that even an executive director, giving his whole time to it, could not regard himself as fully informed.”

Can you ever know enough? “I must doubt whether I would have been able to contradict the banking fashion of the last few years, particularly as the flood of interbank credit had given most bank managements an aura of success and immense self-confidence.”

But that wouldn’t amount to a blank cheque. There are decisions, His Lordship says, “particularly those made late in the development of the crisis, which I cannot imagine myself as supporting.”

Staggering figures

There may have been every excuse for bank directors to be optimistic in the early months of 2007, Lord Rees-Mogg admits.

“But many banks went on through the summer of 2008, even past the fatal date, 15 September, when Lehman Brothers went bankrupt, as though banking was still free to expand as it had in 2006 or early 2007.”

And that brings us to the extraordinary decision made by Barclays Bank in 2008. It purchased the North American assets of Lehman Brothers.

Now the figures have surfaced on Barclays’ books and they are “staggering,” says Lord Rees-Mogg.

The bank has doubled its balance sheet with the Lehman assets. Total Barclays’ assets now amount to more than £2 trillion, greater than the UK’s gross domestic product of £1.4 trillion!

The Times commented that “in theory it would need only 1% deterioration in the banks’ £2.05 trillion in assets o wipe out the capital cushion of £17 billion and require the bank to seek more capital.”

And all this has nothing to do with what Barclays normally does.

A worrying risk

Barclays is a major retail bank, His Lordship points out. The Lehman Brothers assets are appropriate for an investment bank.

“They mainly consist of hundreds of millions of dollars of Lehman’s derivative positions. It should be noted that the purchase of the Lehman assets occurred in the utmost hurry at the time of Lehman’s bankruptcy.”

How much time was there for due diligence? “There may have been central banking reassurances if the Lehman assets proved to be worth less than their book value, but no such reassurance has been reported,” says this commentator.

As far as he knows, no one resigned from Barclays’ board because they disagreed with this purchase. And what will the bank do next? Slim down to a £1 trillion bank or try to stay big?

“I preferred Barclays in its old guise, as a retail bank playing a large part in the finance of small and medium-size British companies,” Lord Rees-Mogg says almost wistfully.

“Unless there is some deal to reinsure Barclays against contagion from Lehman’s, they are taking a worrying risk by doubling their size in a single acquisition,” he concludes. “I hope this gamble comes off. But I do not see how the Bank of England could find the money to bail out a two trillion pound bank.”

The evidence so far is that attempts to save banks from their own recklessness have come up short. And when all the pieces have finally been picked up, who is going to pay?