Weaknesses in the financial systems highlighted by the run on Northern Rock

Here in the UK, we pride ourselves by the strength of our financial systems.  After all, until the run on Northen Rock, there has not been a similar, systematic, run on a bank for a long, long time.

I believe the run on Northern Rock has highlighted some deep seated weaknesses in our systems caused by the huge levels of personal debt and our reliance on maintaining public confidence in our systems.

Sure, Northern Rock’s business model is different to many of the other banks: they are more reliant than others on borrowing money from the markets and they do an awful lot of lending, at low margins, to the sub-prime or near sub-prime market.  But they have been around for a long time and in the eyes of Joe and Joanne Public have a reasonable reputation.  Yet over the course of just a few days, despite repeated assurances from NR management, the Bank of England and the government, investors queued up to take out an estimated £2 billion of savings, in what was near hysteria.

This highlighted to me just how reliant the UK’s banking system is on the confidence of the public, how easily that confidence can be dented, and that despite assurances from our lords and masters, once confidence has started to deteriorate, just how quickly that can accelerate across a wide front.  Surely all the banks must be worried that there for the grace of God go they and will be holding talks with the Bank of England over how such a situation can be avoided n the future.

It was only a few months ago that the Bank of England produced a lengthy paper assessing the risks faced by the UK banking industry.  Then the Bank of England concluded that while personal debt, now £1.4 trillion and growing at three times the rate of inflation, was an issue, on balance they did not foresee any major issues which would cause difficulties or a near collapse of the UK banking sector.  Yet they failed to pick up on the exposure that became so evident here in the Northern Rock run.  And if they can fail to pick up on this, what else have they missed, and just how robust are the conclusions they have drawn in that report?  After all, in that report they concluded that the level of personal debt could bring about huge losses to the banking sector, on a worst case basis ten times the sum the Bank of England appears to have plugged into NR.

It makes you wonder, doesn’t it, whether the experts truly understand the full extent of the risks the UK financial institutions are facing as a result of both their UK or global dealings.

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