The treasury solution . . .hands off and hope for the best THE VIEW

0 Comments | Sunday Herald, The, Mar 23, 2008 | by JAMES CUSICK

EASTER in biblical terms is supposed to be about death and surprise resurrection, just the kind of positive message of optimism that leading Treasury politicians and finance chiefs in London, Washington and New York hope they will find when they return from their seasonal break next week.

The mood at the Treasury in London appears relaxed, with Alistair Darling believed to be taking advantage of the Easter break. Although the chancellor is said to have spent time on the telephone last week in numerous calls to US Treasury secretary, Hank Paulson, and held meetings with the Bank of England governor, Mervyn King, and Financial Services Authority (FSA) chief executive, Hector Sants, the Treasury insists that Darling has no plans for emergency calls or emergency meetings over the holiday weekend.

The public message from the Treasury is that calm is returning after the 30 minutes of mayhem in London last Wednesday, when the share price of HBOS, the UK's biggest mortgage lender, went into rumour-driven freefall.

If Northern Rock was a crisis, then this was potentially worse. The rumour mill among traders suggested that HBOS had sought emergency funding and that it was lining itself up as the next major casualty in the global credit crunch.

The FSA, whose board is appointed by the Treasury and is responsible for promoting efficiency in UK markets and helping consumers achieve a fair deal, turned detective and announced an inquiry into market manipulation centred on the deliberate creation of "false" rumours.

Unlike Darling, the FSA will not be having a quiet weekend. In order to get to the source of the false rumours the FSA's Sabre 2 computer system will be sifting through the full details of the millions of trades carried out last week. On Tuesday the FSA will have the first round of analysis from Sabre, and the first hint of what it thinks is "rumour zero".

A second search may follow, extending to the tracing of anonymous emails sent from within identified firms, and even emails sent from internet cafes anywhere in the world. A criminal prosecution could follow, but most traders know the FSA is unlikely to come up with evidence that passes the test of reaching a court and likely to get a conviction that is "beyond reasonable doubt".

The reality for both the FSA and the Treasury is that in the current banking crisis, where even blue-chip banking firms look vulnerable, any rumour carries possible credibility.

While Darling would love to be able to tell the Commons that the culprit behind the HBOS rumour is being dealt with, the Treasury under the division of responsibility between itself and an independent Bank of England has to leave the detective work to the FSA, be patient and hope it can take the credit if the investigation pays off.

One City analyst described Darling and the Treasury as being in an "overwatch" position. "Darling is like the head of a large hospital. If the surgeons do their job, the hospital's reputation rises. If people die, he gets fired. At the moment there are ill companies all over the place and the bodies are threatening to pile up. So you pray for a cure, or you pray for a miracle." On both sides of the Atlantic last week, routine financial casualty wards were in danger of becoming intensive care units where companies would be lost unless new life-support systems were brought in and quickly. The US Federal Reserve ditched any hope of a miracle and tried to invent a new cure that focused more on raw survival rather than complete rehabilitation.

THE Fed's decision on Tuesday to cut interest rates, but not by as much as was widely forecast, was taken as a sign that things were not as bad as expected. A mini-rally on Wall Street should have been the cue for London to follow. It didn't. Instead the HBOS crisis followed, with the Bank of England forced to do what many never expected to see it do namely, ring round news organisations and deny it had held emergency meetings to discuss the viability of certain banks in the UK.

The Treasury's key objective, stated in its own literature, is to "promote financial stability".

Darling's Budget speech two weeks ago was designed to ensure that "stability" was still there, regardless of the jitters elsewhere. But the global credit crunch is testing the structure that has been in place since 1997 with the Treasury, an independent Bank of England and the FSA all playing inter-connecting roles in trying to achieve continuing stability.

After the Bank of England's governor, Mervyn King, met with senior executives from Britain's "big five" banks, the BoE made its second move in three days to inject more cash into struggling money markets, and then listened to appeals from the banks to extend its money market operations and act more like the Fed or the European Central Bank by accepting a wider range of collateral in return for larger loan. A source inside the Treasury said that although "there was a perception that it is sometimes difficult for the Treasury to say what it was doing at any one time" this was going to change.