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The clause deals with the bridge bank option, which is the least familiar to the Committee. We all know what temporary public ownership is, and we all know about the private sector. I want to speak about some of the tensions that there might be in running a bridge bank. We touched on them briefly when dealing with the code. The arrangements generated a reasonable amount of comment during the consultation process, but there is concern about how a bridge bank might operate in practice.
In response to the July consultation, the British Bankers Association said:
Under the bridge bank model the Bank of England would play a key role in setting strategic objectives and overseeing the management. Inevitably having the central bank involved in matters of commercial positioning, possibly with the bank also receiving public financial support, could raise competition policy issues.
The code suggests that the Bank would be run on a conservative basis.
The City of London Law Society, in its response, said:
We would...welcome further clarification regarding what a bridge bank would be able to do in terms of banking functions. Is it envisaged that it will be able to accept new deposits or to accept new business? There is a real risk that allowing it to carry out traditional banking activities could distort the inter-bank market.
Not LIBOR in that context, but competition between banks. The society noted that it could be arguedas we did earlier this year in the context of Northern Rockthat because of the bridge banks healthy and attractive balance sheet and because it is in effect supported by the Authorities, there is the chance that it will have a competitive edge over other banks.
In terms of running a bank on a conservative basisI use the language of the codeto what extent will a bridge bank be able to carry out the normal activities of a bank? Will it be open to accepting new business? Will it be open to innovative competition with other banks?
One objective of the bridge bank is to try to facilitate a private sector purchase. It would clearly need to maintain the franchise value of the failing bank. Would that be maintained if the bank is run in a conservative fashion, or would it always be at the bottom end of the market? If so, that position could stifle it over time and limit its ability to grow. In the long term, it could reduce its franchise value, although that depends on how long it remains as a bridge bank. These issues would not necessarily be relevant if it was a bridge bank for only a month, but the rules for the reports that the bank would need to make allow for the possibility of the bridge bank lasting for more than a year. I would like a better understanding of the constraints under which a bridge bank would function.
Another aspect is who would run the bridge bank. The Bank of England is in charge of appointing a new board of directors, subject to the approval of the Financial Services Authority. The City of London Law Society said in its representation:
The directors may be selected by the Bank of England from amongst the existing directors of the failing bank... but there is clearly a question as to whether such directors would be willing to take on the corporate governance of the bridge bank...to whom would they owe their duty of carethe Authorities or the failing banks creditors?
The code says that the bridge banks board may or may not include employees of the bank, and that it will be decided case by case. However, according to the July consultation on the special resolution regime, the Bank of England is expected to weed out from the board of the failing bank the directors who contributed to its downfall. The example of Northern Rock may be instructive. The chief executive and the chairman resigned fairly quickly and new senior directors were appointed, but not all the executive members of the board of Northern Rock were replaced.
The third element to pick up on is how the bridge bank will be run at arms length from the Bank of England. Arms length is defined by the code as
leaving day to day management of the bridge bank to its board of directors and keeping shareholder involvement at a strategic level.
It later states that
the Bank shall work with the board of directors to decide upon how the bridge bank should be operated... where appropriate the board shall produce a business plan setting out how the directors intend to operate the bridge bank in a manner pursuant to meeting the objectives.
If the primary objective is to sell the bank on, how will that be reconciled with the challenge of the competitive issues? The arms length relationship the bank will have with the directors as the sole shareholder is the right place to start, but there is also the potential move towards deciding how the bridge bank should be operated and where the division is to be drawn between the arms length relationship and the operational decisions. The Minister will not be immune to some of his colleagues comments about the actions that Northern Rock should be taking in the context of repossessions. When the Government take a controlling stake in RBS and a large minority stake in Lloyds HBOS, pressure will be placed on them as a significant shareholder to become involved in the day-to-day operations of the bank. How will the arrangements for bridge banks work to prevent that day-to-day interference?