George Kerevan: More bank woes and questions

He began by praising the organisation: “You have always understood that ethics of responsibility, co-operation and stewardship must be at the heart of what we do. That’s one of the reasons why the Co-op Bank has in the last week seen a 25 per cent rise in applications for accounts.”

But yesterday the Manchester-based bank announced it was halting loans to all new business customers. The emergency is necessitated by the need to repair a big hole in its capital reserves that has already caused Moody’s to downgrade the bank’s credit rating to “junk” status. The shortfall could be as high as £1.8 billion.

This drives a proverbial coach and horses through two shibboleths of current banking policy. One: the government’s declared aim to boost lending to SMEs. Two: the need for more bank competition on the high street.

It also raises doubts about the new Prudential Regulation Authority (PRA), successor to the discredited  Financial Services Authority.

Only a month ago the PRA was ready to wave though the Co-op’s takeover of 632 branches owned by Lloyds. The deal was abandoned at the last second – another indication all is not well at the bank.

The fundamentals of the Co-op Bank are questionable. In 2012 it generated income of £1.4bn on operating costs of £713 million. But impairment losses, plus £150m for payment protection insurance claims, produced a huge loss of £662m.

Impairments may increase, especially in the bank’s commercial property portfolio. If it were listed, the shares would have tanked.

The roots of the Co-op’s problems lie in its ill-advised takeover in 2009 of the Britannia building society. With other high street banks wounded by imprudent borrowing, the “ethical” Co-op saw a chance to grab market share.

It was egged on by the Labour government – Ed Balls, the shadow chancellor, is a Co-op MP. Unfortunately, Britannia came with a subsidiary that had granted self-certificate mortgages. Arrears on these loans are running at twice the industry average.

So why did no one press the alarm? With 6.5 million customers and 1.5 per cent of current accounts, the Co-op was seen by the government as its best chance of creating a competitor to the big four high street banks.

Along the way, the Treasury and the PRA may have been guilty of turning a blind eye to the bank’s internal weaknesses.

After the link-up with Britannia, the new chief executive of the merged group was Neville Richardson, Britannia’s ex-boss – in retrospect, perhaps not the wisest choice. Richardson left under a cloud in 2011, with a £5m payoff.

In the short-run, the bank is following the well-worn path of selling assets and curbing loans. It is also in crisis talks with the PRA. Conceivably, that might lead to a split between “good” and “bad” wings, hiving off the toxic assets.

Fortunately, the Co-op Bank is in no imminent danger. Its parent group has amassed assets of £82bn, including a cash pile of £7bn, from its supermarkets-to-funerals business.

But don’t underestimate the impact of the debacle. The new boss of the overall Co-op Group, Euan Sutherland, is rumoured to want to pull out of banking altogether.

Lesson: UK banking needs less political posturing and more commercial savvy.