British banks shun £10bn cash auction Page 1 of 2 WORLD

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British banks shun £10bn cash auction
By Chris Giles, Economics Editor
Published: September 26 2007 14:14 | Last updated: September 26 2007 21:14
British banks shunned the Bank of England’s auction of three-month money on Wednesday,
with none submitting bids to borrow the £10bn on offer.
The dearth of demand in a market that has been so strained of late was the result of “a
significant fall in three-month interbank rates which made the auction look expensive”, the Bank
Equities and sterling rose on the news as it appeared to indicate that problems in the banking
sector were not of a severity to force British banks to borrow at an interest rate of at least 6.75
per cent, one percentage point above the official rate.
But heavy demand in a European Central Bank money market auction on Tuesday appeared to
be driven in part by UK banks accessing these facilities through their subsidiaries on the
continent. That suggests there may be other explanations for Wednesday’s apparent lack of
appetite – ones that could limit future room for manoeuvre by Mervyn King, Bank governor,
while casting further doubt over his handling of the credit squeeze.
By acting to release the money into the three-month markets only after the run on Northern
Rock Mr King may in effect have removed this weapon against financial instability from the
Bank’s arsenal because there is now a stigma associated with bidding for the cash.
Many banks may have been afraid that their borrowing would be taken as evidence that they
were in trouble. Borrowing on the facility is supposed to be confidential, but rumours would
have abounded, and in the past the identity of borrowers has leaked.
Yesterday’s auction allowed banks to swap much lower quality collateral for Bank of England
cash, a U-turn for the central bank which had previously insisted on only top-notch assets in its
auctions – with the sole caveat that “in exceptional circumstances” it may extend its list of
eligible collateral to include US Treasury bonds.
The Bank confirmed yesterday that it would continue with its plans for further auctions of threemonth money at at least one percentage point above its official rate of 5.75 per cent.
Despite the lack of bidders, the Bank said it felt it had struck the right balance between
providing a safety valve and minimising moral hazard – bailing out banks that had risky
business strategies. It said: “The auction was designed as a safety valve in the light of concerns
that arose about potential pressures in the banking system more generally as a result of
Northern Rock.”
The British Bankers’ Association declined to comment, saying it was a matter for individual
banks, while Ben Broadbent of Goldman Sachs said the lack of demand was “clearly good
While it was possible that banks had been scared off by fears of reputational damage “if some
banks faced an urgent need for liquidity, they would presumably have overcome these qualms”.
Interbank interest rates have fallen fast in the past week following the rescue of Northern Rock.
Three-month Libor rates dropped to 6.32 per cent on Wednesday, well below the 6.75 per cent
quoted rate on the day before the Bank announced this facility last Wednesday. But reports
from money markets suggest that some smaller banks still cannot borrow at these rates.
The Bank has come under fire from commercial bankers who have accused it of failing to offer
help when it was needed and providing assistance only once the worst had passed.,dwp_uuid=f4ebc... 27.09.2007 print article
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But those who backed Mr King’s initial refusal to bail out banks and were dismayed by the
recent volte-face have a different perspective. They worry that, given the lack of takers for the
Bank’s largesse on Wednesday, Mr King may have sacrificed his reputation for consistency to
no good purpose.
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