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liquidity support for northern rock September 14, 2007

Posted by Bradley in : Uncategorized , trackback

The UK Treasury, the Bank of England and the Financial Services Authority issued a statement about the liquidity support provided to Northern Rock, the 5th largest mortgage lender in the UK, by the Bank of England. Northern Rock issued its own statement. Depositors panicked and Northern Rock kept branches open late. Northern Rock’s share price fell sharply.
The regulators have emphasised that the problem is one of liquidity rather than of asset quality. Clearly there is not universal confidence in this view. Deposits who deposit up to £35,000 are protected, and would receive most of their money back if they deposit money in a bank that fails. Perhaps UK depositors are thinking of the collapse of the Farepak Christmas savings scheme towards the end of 2006.

Northern Rock used to be a building society, but transformed itself from a mutual business into a for profit enterprise. Northern Rock relies more heavily on capital markets to fund loans than its competitors do, and this contributes to its current liquidity problems: if it can’t raise funds in the market it can’t continue to lend. But although this may be more of an issue for Northern Rock than for other lenders one visible trend over recent years has been an increased reliance by lenders on the financial markets as a source of funds for their lending business.

Willem Buiter critiques the Bank of England’s actions here and here.

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