Vericool Finance

The financial markets were meant to view the UK’s second giant bank bailout as a path towards the resumption of normal lending. What we saw instead was open speculation on the chances of further nationalisation – and not just of the Royal Bank of Scotland.

During the turmoil, Lloyds HBOS lost 54% of its value in two days; and the markets were having none of Barclays protestations about how well it is doing either. The overwhelming impression is left that the banks still haven’t come clean about the risk on their books. And while that remains the case, private-sector investors will continue to pass on offers to pump in more capital.

The Government’s ambition of limiting the state’s involvement is well intentioned: the further we go in, the harder it will be to get out. But it should recognise which way the breezes are blowing.

A bad bank approach would have been a more direct and transparent method of quantifying and cleaning the smelliest items from the banks’ balance sheets. But maybe the Government was worried about seeing another multi-billion pound figure in the headlines.

The insurance policy is a politically palatable compromise, but until the details are clear it’s impossible to tell how adequate the package will be. That’s far from ideal : as every parent knows, “wait and see” is the least effective way of keeping impatient children quiet. Indeed, if Lloyds and Barclays are going to stand any chance of putting a floor under their shares, they must bring forward the announcement of their audited results.

Confidence is deteriorating fast and the Government’s scolding attitude isn’t helping. If Gordon Brown thinks nationalisation is the right solution, he should get on with it. But if he wants a commercially driven banking sector, he must start acting like he means it. You cannot hope to rebuild confidence in the banking system by constantly punishing its shareholders. No wonder investors are deserting the sector en masse. Ministers are doing their level best to make it worthless.

There are three main reasons why the Government might yet take control of the banks: to halt a bank run; to respond to the need for further capital injections; or to gain full control of bank lending to prevent the economy from falling into an abyss. As things stand, all three look inlikely. The market is pricing in survival probabilities of only 10%-20% fro RBS, and 25%-40% for Lloyds and Barclays, according to Bernstein Research.

A lot depends on the length of the recession and the generosity of the loss-guarantee scheme, but there’s still a chance of a rosier outcome.