A word for 2012: Liquidation

Just as deleveraging was the watchword for the first stage of the banking crisis, we are now seeing the roots of the second stage: Liquidation.

 

While “deleveraging” is too ugly a word, unable to compete with the suave “austerity” to be the word of last year, this year the word will be liquidation, writes Left Foot Forward’s Cormac Hollingsworth

As we’ve been arguing on Left Foot Forward, most recently in Ann Pettifor’s piece, since August we have been back in a new financial crisis. Liquidation is the next phase of this crisis, and that next phase is about to begin.

Liquidation was treasury secretary Andrew Mellon’s infamous advice to President Hoover:

“Liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate, [because] it will purge the rottenness out of the system. High costs of living and high living will come down.

“People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up from less competent people.”

Over the past six months banks have been deleveraging, selling off loans and assets to raise money and reducing their leverage. UK banks have large amounts of wholesale loans to repay in the next two years.

RBS has £36 billion due in 2012, Barclays has £17 billion and Lloyds has £26 billion, a total of £79 billion. That is £4 billion more than the Bank of England’s £75 billion of quantitative easing, so don’t hold your breath about that expanding credit.

But then in 2013 RBS must repay £16 billion, Barclays £8 billion, and Lloyds £12 billion. By then the government’s guarantee scheme will be up and running, for only £20 billion versus £36 billion of repayments.

Unfortunately guarantees are no good if banks can’t raise the money in the banking market. Given that banks borrowed €489 billion from the ECB last week, don’t hold your breath about that expanding credit either.

These stresses are all despite UK bank deposits being at record levels.

Andrew Tyrie has made a complaint on the liquidity rules impeding lending, but the data from the Bank of England shows the opposite.

Deposits in August 2011 were almost 220 per cent of GDP. In 2006 the number was 196 per cent of GDP, and it fell in 2007 to 181 per cent of GDP as part of the overall credit crunch. Clearly, this 181 per cent level is the danger level where we should worry, but we remain 40 per cent of GDP away from it.

Because banks can’t refinance their own borrowings, their only alternative is to start reducing their number of loans.

The first stage of this is selling loans and investments, and this is what banks had started doing in October when we reported on the signs for a banking crisis. However the report from the market is that the selling has reached an impasse. Marketable securities are not so marketable. So banks must look elsewhere.

The second stage of the reducing loans is to put pressure on other businesses for those businesses to repay. We are now seeing evidence for this in the UK, and this is the real flashing red signal of a coming crunch. This is the liquidation stage of deleveraging.

Take RBS for example. It has managed to detonate two debt bombs in the last month. First at DTZ, a company that was once worth £500 million, that is now worth only £8 million. RBS called in advisors in September to look at how RBS could recover its loan.

A fortnight later, RBS was one of the banks that asked Thomas Cook for its loan back. Since then, Thomas Cook has negotiated a £200 million line from the bankers, but it’s not that it hasn’t had to sweat. RBS, HSBC, Barclays and Unicredito (the number one Italian bank) are all lenders to Thomas Cook.

This isn’t isolated to RBS. Last month saw another retail story related to one of HBOS’s largest borrower, Arcadia, the holding company of Philip Green’s Topshop retail empire.

Back in October 2005, Arcadia borrowed £1 billion in October 2005 (£) so that it could pay Sir Philip’s Monaco-based wife a £1.3 billion dividend. The financing was in the form of a seven-and-a-half year loan from HBOS, Royal Bank of Scotland, HSBC, Barclays, Lloyds TSB and Bank of Ireland.

Over the last few years, Arcadia has steadily paid down the debt. In 2010, he had said he had a target to pay down Arcadia’s debt by 2012. At that time, the Arcadia’s debt was £464 million. Sir Philip was very confident that he would be able to get to zero debt by 2012 – that’s the deadline on the loan.

However, a month ago Sir Philip announced that while Arcadia remains profitable, profits were down 38 per cent, and additionally in the accounts it’s possible to see that this year Arcadia was only able to repay £19.5 million back of the loan. He has two years to pay back the remaining £444.5 million.

This pressure to repay provides an alternative explanation as to why Sir Philip announced he was closing 260 stores.  It may seem perverse that Sir Philip is reducing revenues to pay off debt, unless his announcement of exiting the 260 stores is his opener for negotiations for lower rents on the store leases.

A lower rent cost will have the effect he needs which is to generate enough profits to pay down the loan by 2012. Given that Arcadia’s profit for the past year was only £190 million, he’s got to take some actions if he going to pay back the remaining debt by 2012.

These threats are a sign of the pressure the whole business sector is under, now that loans are no longer available from the banks. In 2005, Philip Green could borrow a billion for a dividend. Now he knows he must repay. But these isolated cases are just the pre-tremors of the earthquake we’ve warned is coming.

In November, the incoming Chairman of the Financial Stability Board made his first speech on this topic, predicting that Eurozone banks would reduce their loans in the next two years by between $2-3 trillion.

Morgan Stanley, reproduced at the FT Alphaville (£) has produced analysis of which country is most exposed. The reduction in UK bank balance sheets is expected to be the second highest after Germany.

German banks are expected to reduce loans by €500 billion, UK banks by €400 billion. This doesn’t take into account home-bias in the loan reductions. In a year with many forms of economic protectionism, we can expect that it won’t be German companies that the German banks look to get cash back from first, it may well be in the UK.

As we warned in October, the coalition’s banking policy has left us completely unprepared for the coming storm. Their postponing of any change to banking regulations has left the banks exposed. Their pursuit of austerity at the expense of growth means that UK companies are struggling as it is, without having to worry about paying back bank loans.

It’s difficult to calculate the real economy effect, because one never knows when governments will step in and intervene. The problem for policy makers is that no-one can predict which company is next to be under threat. No-one can predict whether that company will find a lifeline (Thomas Cook did, DTZ didn’t). No-one can predict when it will stop.

The most recent small-ish liquidation we’ve seen was the recent Icelandic bank collapse sent shock waves through retail, as the receiver tried to recover money from borrowers. The major collapsed bank, Kaupthing bank, had a balance sheet of €55 billion.

UK banks will deleverage seven times that much. It will represent a five per cent reduction in the lending of UK banks, and depending how quickly it happens, the output drop could be one for one – a per cent drop in UK output in 2012 as a result.

There is a solution for the UK banks and that is a repeat of the Labour government’s 2008 package of capital raisings, debt and liquidity guarantees. There is minimal cost to the tax payer, UK banks were properly capitalized in 2008, and the European Banking Authority that regularly updates its stress tests persistently puts the UK banking sector at needing zero capital.

Therefore, all that is needed is for the UK government to restart the scheme again for UK banks. However, there is no pressure to do that from within the coalition government because the coalition’s narrative relies on this package having been a mistake. It will turn out to have been a much bigger mistake that they didn’t do that. Liquidation is coming in 2012.

See also:

The UK isn’t Greece, it’s IcelandAlex Hern, December 21st 2011

Implementing Vickers won’t stop the next crisisJosh Ryan Collins, December 20th 2011

Cameron’s excuses don’t add upCormac Hollingsworth, December 13th 2011

Trouble ahead for Cameron: Majority of Euro rebels were from class of 2010Shamik Das, October 25th 2011

A damp squib or quiet radicalism from the Vickers Commission?Ben Fox, September 13th 2011

33 Responses to “A word for 2012: Liquidation”

  1. Cormac Hollingsworth

    On the morning of @nextofficial disappointing results on @leftfootfwd I warn that the word for 2012 will be Liquidation http://t.co/tRssSLw6

  2. David Taylor

    On the morning of @nextofficial disappointing results on @leftfootfwd I warn that the word for 2012 will be Liquidation http://t.co/tRssSLw6

  3. Trakgalvis

    RT @leftfootfwd: A word for 2012: Liquidation: http://t.co/9dcf84O6 by @CormacHolly #NewsClub

  4. Patron Press - #P2

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  5. Jo

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  6. Delora Bay

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  7. Political Planet

    A word for 2012: Liquidation: Just as deleveraging was the watchword for the first stage of the banking crisis, … http://t.co/kQ5qtIC2

  8. leftlinks

    Left Foot Forward – A word for 2012: Liquidation http://t.co/5Y3MNj4B

  9. Prateek Buch

    the year ahead will be tough 4 banks & business, says @CormacHolly RT @leftfootfwd: A word for 2012: Liquidation http://t.co/vUgsR3r1

  10. Anonymous

    Over the past six months banks have been deleveraging, selling off loans and assets to raise money and reducing their leverage

    ========

    They have. However, you ascribe this as to being the decision of the banks. It isn’t. It’s the government who has forced them to do this.

    1. Increase capital. In other words, lend money to the government or you will be shut down.

    2. The regulator finally looks at systemic risk. [Risk the failure of one bank takes out other banks].

    That means interbank loans must be reduced.

    3. Lack of savings. With no savings [people are spending it], there is no money to loan.

    4. Risk is up, so loans have to come down.

    It may seem perverse that Sir Philip is reducing revenues to pay off debt,

    Not perverse at all if those stores aren’t making a profit. Mind you accounting never has been a strong point with Labour. For example, 6,000 bn of off the book debts left as Labour’s legacy.

    These threats are a sign of the pressure the whole business sector is under, now that loans are no longer available from the banks.

    Yep, and next on the list will be governments. What happens when there is no money to finance governments overspend? No money to roll over loans? What are you going to cut to get 200 bn off the spending?

    It’s difficult to calculate the real economy effect, because one never knows when governments will step in and intervene.

    With what? The banks have run out of cash. More QE, more bad debts on the tax payer, and more funny money back to the government and more inflation. No wonder Mervyn King put his pension in inflation linked gilts.

    There is a solution for the UK banks and that is a repeat of the Labour government’s 2008 package of capital raisings, debt and liquidity guarantees.

    1. Capital Raisings.

    Put on the hat of an investor. Why invest when you are saying we are going to tax bankers profits? Take all the money. …

    Tell me. Why don’t you put all your pension money into investing in banks? Take on the debt of NR toxic bank book? Somehow I don’t think you will, but you want to force others.

    2. Guarantees.

    Ah you mean more guarantees for who ever is in powers mates? Corporate croynism and rent seeking at the expense of the taxpayer.

    3. The only bit that makes sense is the liquidity guarantee. However, here the better solution is to centralise clearing of products. Liquidity guarantees are only a temporary measure.

    The real solution – let them go bust.

    The real problem, as always isn’t being mentioned.

    50% of the UK’s income is going to the government who spends it. No investment in things that produce savings (cuts in spending) or income (HS2 has a negative return). As such people can’t save. Add on top 7,000 bn of debts, and its a bust.

  11. James Johnson

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  12. John D Clare

    Left Foot Forward – A word for 2012: Liquidation http://t.co/5Y3MNj4B

  13. Geoff Smith

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  14. Lawyerocracy

    #UK : A word for 2012: Liquidation http://t.co/fhqPaam1

  15. Dwayne thomas

    A word for 2012: Liquidation: “Liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate, [bec… http://t.co/l92hFzdJ

  16. AWA

    This year the word will be liquidation, writes Left Foot Forward’s Cormac Hollingsworth. @leftfootfwd http://t.co/6RtgidIs

  17. Lynda

    RT if you weren't up at 8am: A word for 2012: Liquidation: http://t.co/pzV7877c by @CormacHolly

  18. Keith Shamblin

    A word for 2012: Liquidation | Left Foot Forward: Just as deleveraging was the watchword for the first stage of … http://t.co/UKJnAh8s

  19. Jeni Parsons

    RT @leftfootfwd: A word for 2012: Liquidation http://t.co/MFMpoGlP #otmp #occupylondon

  20. nikki turner

    RT @leftfootfwd: A word for 2012: Liquidation http://t.co/gGXNyDDf Yes the banks will close more businesses down to cover their own mistakes

  21. bankingfodder

    A word for 2012: Liquidation – Left Foot Forward: A word for 2012: LiquidationLeft Foot ForwardThe financing was… http://t.co/SuA9ULpq

  22. roger watts

    A word for 2012: Liquidation http://t.co/UnmrLXVd via @zite

  23. Anonymous

    Sigh the solution to this is far more complex but there is too much dogma and politics in the way both in the banking sector which has failed to sort itself out and has left itself at the beck and call of political change by people who have no idea what they are doing with only one or two exceptions. The whole way this is being examined is utter madness and the solution (from my discussions with people in the “know” and those who are not) resides with the initial causation.

    The answers also lie in how we define money and how it is used and how it circulates the economy. The saddest aspect to the current situation is that it protects toxic investments, pensions and to a lesser degree china. There is political dogma preventing politicians doing what they should have been doing in the first instance and that is ensuring the flow of money strengthens the EU countries, that wealth is grown here rather than plowed onto the unsustainable furnace that is built upon International economic imbalances themselves derived upon a ridiculous role ascribed to the form and function of the “Global Economy”. When the chips are down you do not hear politicians talking about that any more do you? The real economy has been neglected in the UK and other places for far too long and if the Labour political elite come out of this unscathed it will be more, far more than they deserve. Most of whom are still ignorant, stuck-up little brats with no idea about anything whatsoever and zero morality.

    In the meantime work is going on in isolated areas where people are trying new methods to create more equitable relationships in business that are fairer. Unfortunately without the correct political economic framework these methods are limited due to the effort in setting them up and the lack of a more solidarity based argument in our economics though this has been discussed by certain writers in the Financial Times.

    Also the way in which we as a society deal with money needs to be addressed, businesses are not very dogmatic they sell the cheaper produce as enthusiastically as the more expensive because money in is money, this is a pragmatism that is beyond the dogma of politicos trying their best to impress us all with their economic nonce, a nonce which is swiftly exposed as vacuous as they stick to their pre-written briefs and express no real views of their own. As one Labour Mp did on Newsnight and was caught out easily by Paxman.

    Labour is not ready to be the Party for economic change, MPs who make Government property magically disappear, fail to associate with the “masses” and cling to their farcical First Class train tickets as though we give a damn who they are, embarrass their own party with expenses and cheap prostitution by lobbying cannot be trusted with money. Also as we have seen with the promotion of the new Leader from a conveniently narrow selection they do not understand meritocracy and democracy only privilege, scroungers promoting their pals and family to senior positions, they couldn’t even manage to handle 21st Century democracy as it stands. Never mind take a lead in reforming and refounding anything other than the political machinery formed upon the limitations of the volunteers required to foolishly gullible or blinded by what they hope the Party will become in a manner that does them great credit but in a Party that would spit them out faster than a Tory would a Socialist if they expressed a political viewpoint of their own or some originality of forethought. Unless of course the feudal leadership could steal such ideas and lay claim to their originality that is beyond their wildest dreams or imaginings. But then stealing is something that comes so well to them. A party becoming more like Fagans’ Operation than a progressive, moral force in the abyss that is our body politic at the moment.

    No trust then on any of the essential levels that a Party needs. So no economic development available to us, a Party that exists only for the greed of its porcine Leadership and not for the public good, and as a consequence the economy either.

  24. Newsbot9

    Still lying about the 50%?
    No, we’re not a Nordic country. Unfortunately.

    And no, “cutting” things which save cash isn’t “saving”. Shame you Tories never realised this before you went on a flamethrower spree, and are now seeing costs rise as a result.

  25. Nick Leaton

    Not a Tory. They are just as bad.

    So what’s the pay off for these ‘investments’.

    Are we going to get the investment back from the claimants paid 170K a year in Westminster and Kensington to sit on their arses?

    Are we going to get savings from the investments in the NHS?

    Is the NHS going to start generating cash?

    How are you going to pay your 225,000 pounds of debt off?

  26. "We are spiralling into a prolonged and ghastly depression": The economy in 2012 | Left Foot Forward

    […] also: • A word for 2012: Liquidation – Cormac Hollingsworth, January 4th […]

  27. Newsbot9

    So, shoot everyone with less than 225k in cash then?

    And right, the Tories are FAR too left-wing for you. My bad.

  28. Knut Cayce

    RT @leftfootfwd: A word for #2012: #Liquidation http://t.co/iLtk4fdU

  29. Phreaked

    A word for 2012: Liquidation: http://t.co/dzfNdbIy #world #economy

  30. A

    A word for 2012: Liquidation: http://t.co/dzfNdbIy #world #economy

  31. We must stand with shareholders that want a better economy | Left Foot Forward

    […] who’d rather sit in an igloo and watch the market collapse, as if that would cathartic (£) might scoff, but that option is irresponsible, […]

  32. Alex Braithwaite

    Far from being out of the Danger Zone, Liquidation beckons given these poor economic figures: http://t.co/YJ0e2A4P #pmqs

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