4 Aug 2010

Lloyds’ hard-won confidence is essential

At the top of Lloyds Towers the superlatives were being spread about liberally.

Chairman Win Bischoff said that he was “immensely proud for having achieved profit”. Chief executive Eric Daniels was “delighted” that the government now has “optionality” on when to sell its 42 per cent stake, now that the share price was up above its 63p purchase price.

The Lloyds top team exuded confidence after a £1.6bn profit in the first half of this year, compared with a £4bn loss in the same period last year.

And confidence has a vitally important purpose here. Costs have been cut, yes, bad loans are well down as well, and the margin Lloyds takes (the difference between the interest rate it charges for loans versus what it pays for deposits) has also surged.

But make no mistake, Lloyds may be off life support, but it’s still wandering around the hospital attached to a drip.

Tens of billions of state funding through the Bank of England liquidity scheme, and the taxpayers’ guarantee of its funding gets switched off in 18 months time, and it needs to replace that, as well as some of the HBOS legacy funding.

Lloyds has made some progress, but that number is still £132 billion. In addition, the international money markets have most of the UK banks, including Lloyds on a very short leash, lending to them only over very short timeframes.

That is why conveying hard-won confidence is essential for Lloyds. It will kick start a virtuous circle of cheaper, longer term international funding that will in turn help to solve Lloyds most intractable problem.

If this doesn’t happen, and to be clear it is an issue facing many banks worldwide, then something has to give when the public drip of funding gets switched off.

Either some of form of credit crunch returns, or the government will have to renew part of the bank bailout. A simply awful set of options for the Chancellor.