Bank of England Offers £40 billion to Struggling Banks

The Bank of England is to launch another intervention into the faltering financial markets with an offer of at least £40 billion to cash-starved banks. The Bank usually offers loans on a monthly basis, but will hold auctions every week from Monday while the problems in wholesale credit markets remain.

The Bank of England has not revealed the amounts involved in future auctions, but they will probably be of a similar size to Monday’s if lenders snap up the funds.

Mortgage Lenders are raising loan costs because of a sudden escalation in the rate at which banks lend money to each other – as many hoard funds. Interbank three-month lending rates jumped to 6.28% on Thursday, well above the Bank of England’s 5% base rate.

Despite the Bank of England’s move, the 700 billion US dollar bail-out of the US banking system is likely to have a bigger effect in easing liquidity problems in the UK financial markets.

Financial Turmoil Hits HSBC

HSBC has just announced that it is to axe 1,100 jobs worldwide, blaming the credit crunch for the decision. HSBC employs about 335,000 people globally.

Unfortunately, about half of the cuts will take place at its global banking and markets operation in London at Canary Wharf.

Last month HSBC’s half year profits dropped by 28% to $10.2bn, due to a $14bn to write-off of bad debts in the US, and asset write-downs.

Financial institutions around the world have been coming under increased pressure from the current turmoil on the markets.

The problems have forced governments to intervene and shore up money markets. Earlier this year, the UK government was forced to purchase Northern Rock, while in the US lenders Fannie Mae and Freddie Mac had to be rescued from collapse.

Job Cuts at Bradford and Bingley

Mortgage provider Bradford & Bingley (B&B) has just announced that it is cutting 370 jobs in an attempt to rein in costs. The move comes after B&B posted losses of £26.7 million in the first half of the year.

Three hundred of the job losses will come with the closure of its mortgage processing centre in Borehamwood, Hertfordshire. The company will transfer Borehamwood’s mortgage processing work to its larger operations centre at Bingley, West Yorkshire.

The buy-to-let specialist has been hit hard by the credit crunch and rising mortgage payment arrears. B&B hopes to save £15 million a year through the move.

The company warned that further cuts were to come following a review of its head office in Bradford. B&B employs around 3,000 staff and has 300 branches. The company’s shares fell 10% today, and have slumped more than 90% during the past year.

Mortgage Loans at Record Low

Mortgage lending in August slumped to less than half of July’s figure of £4.8 billion, reaching its lowest level since February 2001.

The British Bankers’ Association (BAA) put the sharp decline down to a combination of falling property prices, the present economic problems and financial providers’ tighter lending criteria as a result of the credit crunch.

Speculation that the Government was going to suspend stamp duty also curbed demand during August, as many delayed buying a house in the hope of not having to pay the tax.

The number of mortgage approvals for property purchase continued its downward spiral during August, falling to a new record low of 21,000, 5% less than in July, and 64% less than in the same month of 2007, the BBA stated.

Widespread belief that house prices will continue to fall for some time to come also appears to be stifling housing market activity. Increasing concerns about the economy and job prospects are also contributing to the problem.

US Banks Surprise Change in Status

US investment banks Goldman Sachs and Morgan Stanley have changed their status to become bank holding companies. This will enable them to secure more funds by opening commercial banks.

The move, which is part of a massive financial restructuring effort on Wall Street, will also give these two banks access to Federal Reserve support. The US treasury has announced a $700 billion package to deal with the worst financial crisis for decades.

There had been fears, given the recent turmoil on the financial markets that Morgan Stanley and Goldman Sachs would not be able to survive.

The last few weeks have seen dramatic and surprising changes, with Merrill Lynch being bought by Bank of America and Lehman Brothers filing for bankruptcy protection. Earlier this year, Bear Stearns was acquired by JP Morgan Chase.

UK Banks Could Benefit From US Bailout

The US Treasury’s 700 billion dollar plan to buy up bad loans that are clogging the US financial system and threatening the economy could also benefit UK Banks. The plan will give the US Treasury authority to purchase bad mortgage-related loans from US financial institutions for the next two years. The debts would then be held until they can be sold off in the future.

The unveiling of the plan boosted financial markets around the world, reversing some of the substantial losses seen during what had been one of the most turbulent weeks in financial history. London’s FTSE 100 Index posted its biggest ever one day gain of nearly 9%, with banks like the Royal Bank of Scotland (RBS), Barclays and Lloyds TSB jumping more than 20% in value.

The US Treasury said that it was looking to extend the bail-out to non-US companies, if it proved necessary to stabilise markets. RBS has lost close to £6 billion pounds worth of credit crunch-related assets this year, with Barclays suffering losses of £2 billion and HBOS £1.1 billion.

The White House hopes to have the plan ratified by Congress by the time markets open on Monday.

US Government Plan to Buy Bad Mortgage-Loans Boosts Shares

Shares have recovered sharply after a proposed US government plan to buy billions of dollars of bad mortgage-related loans was announced. The Dow Jones index increased 3.8% in early trading, while London’s FTSE 100 index jumped 8.6%. In Paris, the Cac 40 was 7.6% higher. Japan’s Nikkei increased by 3.8%, while the Shanghai Composite jumped 9.5% and Hong Kong’s Hang Seng rose even higher at 10%.

Financial providers have gained the most. In London, the Royal Bank of Scotland and HBOS shares rose by as much as 50%.

Moves to restrict “short-selling” in the US and UK have also helped to boost shares. Short-selling occurs when a trader borrows shares from another trader to sell on with the view of buying them back at a lower price – thereby profiting from the difference. This practice has been blamed for the recent falls in some banking shares.

Mixed reaction

Some analysts welcomed the news. Others, however, cautioned against central banks flooding the financial system with too much liquidity. But an even bigger risk could be a loss of confidence in the American economy, due to the Government’s underwriting of the huge mortgage debt. This could devalue the dollar, and push inflation even higher.

Altruistic Banker Sent to Jail

Benedict Hancock has just been jailed after it emerged he transferred more than £7 million from rich clients’ accounts into the accounts of troubled companies, without any “direct financial gain”. Blackfriars Crown Court was told that the 39 year old had done this because he “wanted the companies to do well, for their sake rather than his.”

Hancock – who like his legendary counterpart Robin Hood is from Nottinghamshire – worked for the Royal Bank of Scotland (RBS) as a senior relationship manager. He would move money from the accounts of wealthier customers and loan it to firms who required extra cash, setting up false accounts to transfer the money.

The unauthorised loans were discovered in November 2006 when one of Hancock’s clients discovered they were £5 million short. The judge ruled that despite his altruistic motives, Hancock had benefited indirectly from the secret transactions – by boosting his profile with his employers, thus guaranteeing a substantial annual bonus.

Hancock was found guilty of 14 counts of false accounting and 1 count of abuse of position. He was sentenced to 18 months in prison.

Rate Cut Dilemma

In normal circumstances, cuts in interest rates would be a near certainty. The looming prospect of negative economic growth, together with the continuing fall in property prices, would normally be enough for the Bank of England to drop the price of borrowing.

Inflation, as measured by the Consumer Prices Index (CPI), has risen to 4.7%. The main culprits are escalating food, oil and utility bills. And therein lays the dilemma.

Global factors

Global factors driving the current surge in inflation include a sharp increase in world food prices by 40% in the year to August, and wholesale gas prices up by 90%. The Bank of England expects inflation to peak soon at about 5%, and then fall as the impact of energy and food price rises diminishes.

Fear of escalating inflation

Unfortunately escalating inflation is likely to drive elevated wage demands and settlements, further fuelling inflation. The risks of a wage and prices spiral developing are now greater than they were.

The Bank of England concludes that a period of muted economic growth is necessary to dampen pressures on prices and wages, and return inflation to the target level. In other words, although there may be two quarters of negative growth (technically a recession), there is unlikely to be any cuts in interest rates until the Bank is satisfied that the inflationary threat has passed.

More housing market pain to come

So the take home message appears to be – don’t expect any cuts in interest rates in the immediate future, no matter how painful that may be for the housing market.

UK, Germany and Spain to Fall into Recession

The European Commission has predicted that three countries will experience two negative quarters of economic growth in a row. This effectively means that they will go into recession.

The Commission also believed that economies in the 15 nation Euro bloc would only grow by 1.3% this year, against previous projections of 1.7%. The slowdown was driven by a decline in exports and consumer spending.

Gloomy outlook

Due to a stagnant housing market and volatile financial markets, the Commission predicts that the UK economy, which is not a member of the Eurozone, will contract by an annual rate of 0.2% in each of the next two quarters. A second quarter of negative growth is also expected in the German and Spanish economies, which are projected to shrink by 0.2% and 0.1%, respectively.

The gloomy news mirrors forecasts from the Organisation for Economic Cooperation and Development (OECD) released earlier this week, which were even more pessimistic. According to the latest official figures, the UK economy did not grow at all in the second quarter of 2008.

The European Commission stated that the UK economy would grow by only 1.1% in 2008. This is appreciably less than the 1.7% previously forecast, and well below the official UK Treasury forecast of 2.5%.