How likely would run on banks be after Yes vote?

History has shown that small depositors will queue to withdraw their money from a bank even when those deposits are fully guaranteed. Picture: PA

IN THAT brilliant Christmas movie classic It’s A Wonderful Life, George Bailey (played by Jimmy Stewart) memorably witnesses a run on the Bailey Building and Loan bank in Bedford Falls, which threatens its survival. George staves off a banking collapse by using $2,000 that he had intended to spend on his honeymoon to meet the depositors’ demands for cash.

It was a scene that came to mind last week when Mark Carney, the governor of the Bank of England (BoE), spoke out amid the sea of uncertainty lapping around Scotland’s currency after independence.

Movie-star looks may be the only thing Carney has in common with Jimmy Stewart, but he is the one cast in the George Bailey role as the referendum looms and the position of Scotland’s banks looks – to some eyes – precarious.

The big question is whether Scotland’s banks can avoid financial disaster and emerge, like the movie, with a happy ending.

Last week, it was left to that doughty veteran of the 2008 financial crisis – Labour’s John McFall – to express what many were thinking, but dared not say publicly. The veteran politician was the first to mention the possibility of “a run on Scotland’s banks” – a phrase containing few words, but powerful enough to send a shiver up the spine of every hard-working Scottish saver.

Lord McFall of Alchuith was reacting to Carney’s announcement that “contingency” plans had been drawn up to deal with the threat to the economy caused by Alex Salmond’s currency policy.

“It’s clear that the Bank of England is putting plans in place to prevent a run on Scotland’s banks that would be caused by Alex Salmond’s complete failure to set out a credible position on currency,” said McFall, the former chair of the Commons Treasury Select Committee, who sifted through the wreckage of the 2008 financial crisis.

“This would put the livelihoods of millions of Scots at risk,” he added.

Other public figures were reluctant to even acknowledge the prospect of a bank run, fearing that even the tiniest suggestion of such a disastrous eventuality would spread fear and alarm and risk the creation of a destructive self-fulfilling prophecy, which can only end in financial ruin.

Sometimes it just takes the smallest spark to ignite panic. Panic then spreads like a contagious disease through the financial system as the public rushes to withdraw cash driven by the belief that banks are about to fail and their precious savings are to be lost.

As a political neutral, Carney’s words, of course, were far more measured than McFall’s.

“Uncertainty about the currency arrangements could raise financial stability issues. We will as you would expect us to have, contingency plans for various possibilities,” Carney said.

His words may have been measured, but they were also quite deliberate. They were specially chosen to steady a economic ship, which is in danger of crashing on to the rocks moulded by the great currency stand-off between Salmond and his political rivals.

Carney’s actions in the coming months will be closely watched, as will his priorities. His primary responsibility is the stability of the British financial and monetary system. He needs to guard against currency speculators deciding that uncertainty over the economic and political governance of sterling makes it too much of a risk at the moment, and selling it in favour of other currencies. To make the pound more attractive in these circumstances he could, for example, raise interest rates.

He also has a responsibility to protect the health of British banks – including, at least until independence day, those domiciled in Scotland. But crucially, he has no responsibility to keep those Scottish banks domiciled in Scotland. In fact, there may come a moment where to protect the British banking system after a Yes vote, he may think it necessary to assist Scottish banks with a move to England, in order to preserve a lender of last resort.

Salmond has warmly welcomed Carney’s every intervention in the currency debate so far – but Carney’s priorities and the priorities of the First Minister may diverge in the future.

In this febrile atmosphere, it is worth attempting to examine just how far Scotland lies from banking disaster, just one month away from the vote that will decide the country’s future.

Has, for example, Carney’s intervention last week removed any immediate threat to the banks? What contingency plans will he put in place as we move forward? And what of the long term if Scotland does decide to become independent?

For those with an interest in referenda history, it is easy to see why there could be unease in Scotland at the moment. One only has to look back to 1995 in Canada, when a bid for independence by Quebec was defeated by only the narrowest margin. As Scotland sails into similar political waters, it is tempting to draw parallels.

When the polls narrowed in Canada suggesting the nationalists had nudged in front, Quebecers who were desperate to remain in Canada jammed passport offices to renew their passports. Their desire to get their money out of Quebec triggered a run on the banks.

Banks were hit with a record surge in requests to transfer funds out of the province. Turmoil in the financial market was only eased when the provincial government bought up hundreds of millions of Canadian dollars in an attempt to stabilise the currency, and raised interest rates to make the currency more attractive.

Scotland is not near that state of panic yet, but Carney’s words were an acknowledgement that he needed to indicate that, as lender of last resort, the BoE was still standing right behind Scotland’s banks.

According to those who have been at the sharp end of financial crises, Carney had little option but to say something after the Swiss financial giant UBS said savers would be reluctant to keep their deposits in Scotland without the Bank of England backing them up.

UBS’s statement was a response to the uncertainty caused by the threat of Scottish independence and the failure of both sides of the debate to come to an agreement on currency.

Salmond has insisted that an independent Scotland should keep the pound by entering a formal currency union with the rest of the UK, which would see the BoE remain as lender of last resort north of the Border.

His pro-United Kingdom rivals, however, have ruled out such an arrangement, arguing that it would not be acceptable to the people of England, Wales and Northern Ireland and would not work anyway.

The currency issue reached a head when Salmond failed to outline a Plan B when questioned remorselessly by former chancellor and Better Together leader Alistair Darling during the STV televised debate.

Although Salmond has remained coy about his Plan B, there have been strong suggestions that it will be “sterlingisation” – an option that involves keeping the pound, but outwith a formal currency union, and without Bank of England back up as a lender of last resort.

According to eminent economists, Carney’s remarks last week have offered some certainty for the short-term. By signalling BoE support in Scotland, Carney hopes to lay the ghost of a bank run until beyond the referendum.

If there is a Yes vote, the BoE will continue supporting Scottish-banks – of which the two largest are the bailed out RBS and HBOS – through the independence negotiations until independence day itself on 24 March 2016.

“On referendum day you don’t have two sovereign states from day one, no matter the outcome. You have this long period in which you have to pass laws, statutes and acts to make Scotland become independent,” said Dr Angus Armstrong, director of macroeconomic research at the National Institute of Economic and Social Research.

“What Mark Carney has basically said is we are going to be in control and all of the UK’s financial institutions are still in place until such time as these acts are passed. What that means is deposit insurance is in place for Scotland, just as much as it is in place for the English. So my view is that I don’t see this dramatic risk of deposit flight.”

There are others who would disagree, notably UBS whose analysis said: “It probably does not matter that the Bank of England will act as lender of last resort during the transition period, history has shown that small depositors will queue to withdraw their money from a bank even when those deposits are fully guaranteed.”

Therein lies the challenge for BoE ensuring that Scots feel confident in their banks, despite the uncertainty ahead.

For ordinary savers as well as the custodians of the UK economy, the memories of the last bank run are only too fresh.

In 2007, the queues that formed outside Northern Rock, the country’s fifth-biggest mortgage lender, represented the first bank run in Britain since 1866.

Chaos reigned, until the then chancellor Darling took the step of giving a taxpayer-backed guarantee that all existing deposits at the bank were safe.

According to Professor Ronnie MacDonald, an adviser to central banks and holder of the Adam Smith Chair of Political Economy at Glasgow University, this reassuring role is the one that the BoE is now playing.

“If we are talking about the period after a Yes vote until the occurrence of independence, we would have to refer to what Mark Carney said this week.

“They will give 100 per cent fire-power to prevent [a run on the banks] happening.

“The big Scottish banks, most of their customers are in the rest of the UK, so they are not going to let that happen. In that period, I think the banks are safe.”

After independence day, however, the situation changes dramatically. According to those in the know, the BoE is constantly monitoring deposits moving south of the Border.

The central bank will also be communicating with Scotland’s domestic banks, particularly the big two, RBS and HBOS. Some have suggested that Scottish banks would have to offer higher interest rates to encourage depositors to stay.

Others believe the only possible outcome is that they will have to move their headquarters south of the Border to keep within the jurisdiction of a BoE, backed by the UK government.

Given the size of both banks and their large number of customers from outside Scotland, the BoE would be keen to remain their lender of last resort – so that it could provide emergency liquidity in the event of a crash.

“I think that the sort of contingency plans the Bank of England would be putting in place is that redomicile process,” Armstrong said.

“Their contingency planning will want that to be as smooth as possible.”

An alternative would be to find a half-way house solution that would see RBS and HBOS set up subsidiaries in England. These would move around 80 per cent of the banks’ activities south of the Border and would be very heavily capitalised in order to reduce the chances of a run.

They would also be independently governed, to prevent the Scottish headquarters from moving large amounts of cash out of the subsidiary.

But there is another compelling reason for moving headquarters out of Edinburgh. Credit rating agencies have suggested that the birth of a new sovereign Scotland would give it a lower rating than the rest of the UK. That would have a knock-on affect on the banks’ ratings making it more expensive for them to raise funds while based in Scotland.

There are some who might argue that independence gives Scotland the chance to say “good riddance” to two fat, taxpayer-funded banks. According to Armstrong that view does not take into account the negative effect such a move would have on the Scottish economy.

Financial services are Scotland’s biggest on-shore export.

“It is annoying that people treat this as a trivial thing – saying it is just brass-plating,” Armstrong said. “The trouble is you are no longer an exporter of services. You are an importer of financial services. That matters because you have now got more money leaving the country than coming in. If you have got more money leaving your country than coming in, under a fixed exchange rate, then that means incomes will start to decline in an independent Scotland.”

So even if Scotland and the BoE are successful in negotiating the financial hazards on the constitutional road, in common with George Bailey of It’s A Wonderful Life there is unlikely to be a honeymoon. «

Twitter: @TomPeterkin