The Bank of England's financial backing for Northern Rock is rapidly approaching £13bn, according to New Star economist Simon Ward.
Ward says the ‘other assets’ category on the Bank’s balance sheet – usually a fairly static figure – has risen by another £2.3bn this week and now stands at £12.9bn since the Northern Rock debacle began.
Although the Bank has not clarified what the ‘other assets’ category represents, Ward says it provides the “best available estimate of the Bank’s support”.
Ward adds the Bank’s injection of funds into Northern Rock has contributed to an easing of money market conditions in recent weeks.
He points out reserves at the Bank rose from £19.8bn on 12 September, just before the run on the mortgage bank, to £29bn a week later and £29.2bn on 26 September, before falling back to £26.8bn on 3 October and £20.8bn this week.
Ward says Northern Rock has used the funds advanced by the Bank at a penalty rate to repay its retail depositors and other creditors.
“Rather than stash cash under the mattress, these customers have mostly re-deposited their savings with other banks and building societies, which have thereby enjoyed an infusion of liquidity without having to pay the Bank’s penalty rate for emergency borrowing,” he says.
“This Northern Rock liquidity effect helps to explain why banks have spurned the Bank of England’s offer to supply them with additional three-month funds based on looser collateral requirements but at an interest rate at least 1% above Bank rate.
“In effect, Northern Rock’s shareholders have paid the penalty demanded by the Bank to supply the banking system as a whole with greater liquidity.
“More controversially, it could be argued that the current structure of incentives has created another form of “moral hazard”; by refusing to lend to Northern Rock, other banks have forced the BoE to supply additional liquidity, which they have been able to access at non-penalty rates."
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