The Role of Law and the Failure of Northern Rock
Edited by Joanna Gray and Orkun Akseli
Chapter 4: State Aid Law Meets Financial Regulation
Francesco De Cecco INTRODUCTION The origins of Northern Rock’s troubles and the events that followed are well documented. The bank financed its loans through asset securitization and through wholesale funding: if the securitization channel was to dry up, the wholesale money markets would compensate. It did not account for the possibility that both channels would become suddenly and simultaneously unviable, a risk which, in the words of the Bank of England’s Financial Stability Report,1 ‘crystallized, with unexpected ferocity’ in the summer of 2007. When the US sub-prime mortgage crisis brought the mortgage securitization markets to a stand-still, and the wholesale money markets seized up, Northern Rock found itself unable to raise sufficient funds in order to carry out its day-to-day operations. After unsuccessfully exploring a private market solution, the bank eventually sought, and obtained, liquidity support from the Bank of England as lender of last resort. When the news was made public, a bank run followed, which gradually came to an end after the Treasury announced guarantee arrangements for all existing accounts in Northern Rock, and, subsequently, agreed to cover all new retail deposits as well. In the months that followed, the government and the ailing bank attempted in vain to find a private sector solution (a merger or a takeover). After it had become abundantly clear that no market player would step in without a substantial contribution from the public purse, in February 2008 the UK government finally decided to nationalise the bank. In the period that followed...
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