Would it be a disaster if Co-op Bank 'fails'?

Co-operative Bank

If a voluntary agreement to save Co-op Bank cannot be reached, would resolution - a formal admission that the bank had failed, and its temporary takeover by the Bank of England's Special Resolution Unit - be such a terrible thing?

Well, while this would be painful and embarrassing for the owner, Co-op Group, and some creditors, from a broader perspective it might not be such a disaster.

Here is why.

First the bank would survive as a going concern, and depositors - who have been strikingly loyal through its recent vicissitudes - would not lose any money.

Second, a useful precedent would be created that those who have provided equity and debt capital would bear the full costs of the rescue, without taxpayers having to contribute a penny.

Some would see this as an extraordinarily useful precedent, in that it would be a practical demonstration to professional investors and financial institutions that when they lend to banks they cannot count on being bailed out by the state when it all goes horribly wrong.

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The Bank of England is in a position to rescue Co-op Bank, its depositors and core functions as a going concern, while forcing holders of £1.3bn of its bonds and preferred shares to provide the needed additional capital, should that be necessary”

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It would be a healthy counterweight to the experience of that too-recent crash, when taxpayers were almost bankrupted by the costs of propping up reckless banks.

There would be a sharp and new lesson for all professional investors that when they lend to banks, when they invest in banks' debt capital, they need to properly assess the viability of the banks, and not assume that taxpayers will rescue them if the banks climb aboard the handcart to hell.

It also would mean that investors need to charge the interest rate that properly captures that risk, and not the lower interest rate they've been paid for years, viz the rate based on the implicit promise of bailout by the public sector.

Before I go on, there are two points about this I need to make.

First, there would be short-term economic costs and long-term economic benefits if banks were charged the proper rate when borrowing: in the short term, what they would charge for loans would rise (ouch); in the longer term, with funding more expensive, they would lend more carefully.

Second, the current direction of travel of EU and UK legislation on bail-ins discriminates against smaller banks, in that it would give ministers the power to waive the imposition of losses on creditors where there is a serious risk of contagion to other banks. Which gives a dangerous incentive to banks to become as big and contagious as possible.

So perhaps that is the wrong direction of travel. But that is a story for another day.

Bank powers

Let's return to the Co-op crucible.

Aficionados of the niceties of the vaunted process of "resolving" banks without recourse to taxpayers may pipe up at this point that the Bank of England does not yet have the powers to force losses at its discretion on different classes of credit.

That is a widely held view, but I am assured by a number of well-placed individuals that it is wrong.

What they say is this, that the existing 2009 Banking Act may well be adequate for the task, even though it is not explicit about the Bank of England's powers to oblige debt investors to take a quantified hit.

Which is why something else I have learned is completely fascinating, namely that if the Bank of England's Special Resolution Unit felt moved to take over Co-op Bank, it would leave nothing to chance: an already drafted legal provision giving it explicit bail-in powers would be rushed through parliament as emergency legislation (these are the relevant provisions of the Banking Reform Bill, due to become law, on the current timetable, early next year).

Or to put it another way, the Bank of England is in a position to rescue Co-op Bank, its depositors and core functions as a going concern, while forcing holders of £1.3bn of its bonds and preferred shares to provide the needed additional capital, should that be necessary.

Will it be necessary?

That is unclear. And plainly, most would say, a voluntary deal to rescue Co-op Bank would be preferable.

But right now there are three different sets of interests that are proving hard to reconcile, as the bank tries to find the £1.5bn of additional capital, to absorb losses, which the regulator, the Prudential Regulation Authority, says it needs.

Co-op Group favours a plan in which it puts £1bn into Co-op Bank and keeps a majority stake in the banks, while forcing £500m of losses on providers of £1.3bn of debt capital and preferred stock.

Meanwhile hedge funds controlling 43% of the most valuable of that debt capital, what are called lower Tier 2 capital (don't ask) want a deal in which they emerge with greater ownership of the bank.

And thousands of retail investors want an arrangement where they don't lose everything and keep some kind of bond that would pay them a reasonable annual income.

Talks to reconcile these views are reaching a critical juncture. We should have a rough idea by the end of the month whether a voluntary rescue plan is within sight.

But here is the interesting thing. If a deal cannot be agreed, the Bank of England has the power to force a compromise on them through the resolution process. And that might not be such a disaster.

Robert Peston Article written by Robert Peston Robert Peston Economics editor

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  • Comment number 163.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • rate this

    Comment number 162.

    @157 JfH The PRA did, of course, take a proactive stance against Barclays, forcing them into a rights issue to raise the necessary capital. Nothing changes... except sometimes it does!

  • rate this

    Comment number 161.

    John_from_Hendon @157
    "big 4"
    You ask: "Why?"

    Will you not acknowledge that corruption arises - inevitably to compound in extent & effects on 'the public interest' - from material conflict of interest? Of no less significance whatever our attempts to agree & enforce arbitrary maximum & minimum incomes? Do you see 'capitalist discipline' ending with informed agreement on equal partnership?

  • rate this

    Comment number 160.

    @159 Johnny Nobody
    "Why is the Co-operative Group not stepping in and sorting out their own mess?"

    To be fair, they are coming up with £1,000,000,000, which is a pretty penny. If push comes to shove, they could probably come up with another £100,000,000 or two. Then the PRA could give them a bit more time to come up with the rest out of profits, as they did with Nationwide... et voilà!

  • rate this

    Comment number 159.

    Why is the Co-operative Group not stepping in and sorting out their own mess?

    The last time I checked Co-op had a substantial supermarket chain and funeral business.

    If Co-op Group don't sort their banking subsidiary out then nationalise the whole thing.

  • rate this

    Comment number 158.

    No. It would be a pity.

    But if the owners of the plc themselves can't find the additional capital required, they must give up some control in return for investment from outside. They would still have a majority share of the strengthened bank, so I don't see any problem with that. It would not be failure of the bank; it would be failure of an attempt to retain full control of the bank.

  • rate this

    Comment number 157.

    156 R. "the FCA taking more of a proactive stance,(against Coop) compared with the FSA."

    The one group that the FCA (or PRA) will never take a proactive stance against is any of the big 4 banks.

    Ask why?

  • rate this

    Comment number 156.

    I think even if the bank survives all the troubles, the damage has left the Coop years behind the big four. With IT lagging behind, and long term efficiency savings scrapped because of short term cost, I can't see how the bank will turn a decent profit when competing against the big players. Margins will undoubtedly be squeezed with the FCA taking more of a proactive stance, compared with the FSA.

  • rate this

    Comment number 155.

    Do not think so.
    The Biggest Disaster will be when people stop buying the Daily Mail.

  • rate this

    Comment number 154.

    ". . . .when taxpayers were almost bankrupted by the costs of propping up reckless banks."

    So Mr. Peston this would suggest that in your opinion we are over the worst?.

    shocking self-serving misrepresentation by the BBC yet again.

  • rate this

    Comment number 153.

    140.Wiz No it is the zombification of the banks that has killed capitalism.

    Capitalism requires that bust business (the banks!) go bust and their assets are redistributed, as a fire sale, by the receivers.

    This correction mechanism has been deliberately and knowingly blocked and by so doing the zombie banks have and will continue to kill capitalism.

    (Not the other way round as you think!)

  • rate this

    Comment number 152.

    Since Stephanie has left, standards of impartiality have already dropped. An article entitle "How bad are US debt levels?" demonstrate this bias by faling to acknowledge that many economists don't regard government debt as "bad" at all. A league table that ignores the currency the debts are denominated in. BBC economics is biased towards Hyek and Friedman.

  • rate this

    Comment number 151.

    they will let the COOP fail because its a mutual and there is no way the political class will be able to benefit with directorships and cushy jobs after they get bored with political and fancy some easy money working in the city and its links to the labour party unlike the people who have just made hundreds of millions care of the undervalued royal mail fire sale

  • rate this

    Comment number 150.

    Don`t worry, those responsible will keep their pensions.

  • rate this

    Comment number 149.

    Coop v HedgeFunds
    HedgeFunds v Coop

    let's have a fight
    (although from your report RP the fighting has been ongoing for some weeks.)
    (with apologies to Harry Hill)

    Although of all the banks which might have failed, the rottenness of the banking system in selecting the Coop as the sacrifice creates a vibe with which I would not wish to be associated.
    Perhaps the PRC could kindly rescue?

  • rate this

    Comment number 148.

    "Would it be a disaster if Co-op Bank 'fails'?"
    Only for those who chose to invest in this business. If left alone to those people, it will not be a disaster for the rest of us.

    It would be a disaster for the rest of us if the government, again, bailed out yet another failing business, socialising the losses onto everyone, rather than allowing the usual bankruptcy process to take place.

  • rate this

    Comment number 147.

    Interesting proposition Mr Peston. However, you have failed to mention the misery this course of action would bestow on numerous retail investors (holders of subordinated debt) who were not in complete controls of the facts prior to investment - many of whom are sitting on substantial paper losses. One would hope the final outcome compensates such investors who were blind to the co-ops opaque mess

  • rate this

    Comment number 146.


    it is one thing that has astounded me from the start that people still bank with the likes of the big 4 ,weekly we see more scandals and fraud yet people in general will not move, is it loyalty ? it baffles me for sure, cant seem to find easy data to compare deposits at major banks over time, can anyone help ?

  • rate this

    Comment number 145.

    142.Geoff Berry

    I agree,although i have a good few years left in me there is not going to be any meaningful reform in my lifetime, the delaying tactics employed by parliament have ensured there will be another crash before then.,and they have something else to blame.

    We need the CoL/ parliament umbilical cut and the parachute politicians ousted before recovery can even start to happen.

  • rate this

    Comment number 144.

    I suspect many of those 'strikingly loyal' depositors and current account holders are already thinking of voting with their feet. i doubt I'll stay with them once they're no longer part of the Co-op group. I wonder how many other retail customers feel the same way, and whether anyone is actually thinking about that as they consider the bank's future value?


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