Viewpoint: When the Bank is buying car loans, you know this is a crisis

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Nils Pratley: You have to wonder whether any student or car loan originating in the US can seriously be considered a top-notch asset

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Re: Viewpoint: When the Bank is buying car loans, you know this is a crisis

When the Bank is buying car loans, you know this is a crisis

• 
• • Nils Pratley
  • The Guardian,
  • Saturday October 4 2008
  • Article history

We swap US student loans for cash for three months. No, this is not an offer from a Bayswater money-changer. It comes directly from the Bank of England, which is now accepting some eye-catching forms of collateral.
Car loans and equipment leases also make the grade. These assets, it should be said, must carry the imprint of a triple-A rating. But you have to wonder whether any student or car loan originating in the US can seriously be considered a top-notch asset.
Never mind, the banks are enduring "extraordinary market conditions", says Mervyn King, the Bank's governor, whose appearance on an announcement about repo (repurchase agreement) operations is also extraordinary. It was prompted by the need to show that the Bank, like Gordon Brown, is prepared to take "all actions necessary" to support the banking system. Concerns about moral hazard will have to wait; the situation is too serious.
To see how far King has moved, recall what he told the Treasury select committee three weeks ago: "It is not the purpose of central bank liquidity insurance to provide a source of long-term funding to the financial system - indeed, it cannot do that."
The Bank can argue that it is not providing long-term wholesale funding - just liquidity to help the banks through a sticky patch.
Technically, it is right. All the cash has to come back to the Bank and the banks are being charged a penalty rate. But consider the scale of the Bank's support.
Last week it provided £40bn to the banks. On Tuesday, it will offer another £40bn against the wider pool of collateral. Then it will hold another six weekly auctions of undetermined size. Then there is $70bn lent in overnight, six-day and one-week operations. Add it all up and it seems that the Bank has essentially replaced the gummed-up wholesale funding market. It is the only guy in town prepared to lend.
But the fact that the bar has been lowered on collateral is worrying. It may suggest the banks are running out of top-quality assets to pledge. But is it all banks, just a few, or maybe one in particular?
That question was being asked in the City yesterday for a reason. There is an understandable tendency to think that the Bank, when it makes big interventions in the money markets, knows that a piece of bad news is coming down the slipway. Last Monday's £40bn auction, for example, coincided with the nationalisation of Bradford & Bingley.
We shall see, but it is equally possible to regard yesterday's move as an effort to keep up with events we already know about. The collapse three weeks ago of Lehman Brothers, it is now clear, provoked a chain of events that took the US authorities by surprise. Within a week, treasury secretary Hank Paulson was asking Congress for permission to spend $700bn and the detail of his thinking ran to only three pages - it was pure panic.
The UK authorities seem to be trying to avoid a situation where they are similarly panicked. Throwing cash at the three-month money market reinforces confidence that Lloyds TSB's takeover of HBOS will proceed. It helps Royal Bank of Scotland, whose wobbly share price is adding to the market's nerves. It buys some time to lower banks' funding costs by reducing interest rates - the market assumes a cut will come next week or in November.
Most of all, it allows emergency plans to be worked on. All manner of bail-out schemes have been suggested: a Paulson-style purchase of distressed assets; a recapitalisation of banks through partial nationalisation; an Irish-style blanket guarantee; and coordinated action by the EU. We must assume the Treasury is weighing all these ideas - that's what "doing whatever it takes" means. But, now that we are down to student loans, the moment of emergency seems horribly close.
nils.pratley@guardian.co.uk