Happy new year is the traditional refrain for January. Except this year, it seems very inappopriate – this may be anything but a happy 2009.
All those who spent their youthful years warning that we had a casino economy, built on a pack of cards (sorry for the mixed metaphors), has been proved right. But being right is of no help to anyone. The diagnosis is one issue. Finding a cure is a completely different challenge.
So even though co-operatives and other mutuals operate to a large extent on a parallel economic plain, this will do little to help them withstand the turbulent storms that are blowing. We have already seen the loss of a few independent, smaller, building societies. These were the societies whose capital base was too small, or which made some wrong calls about where they put their money – in Icelandic banks, in the case of the Barnsley.
It seems unlikely that this is the end of the story. We recently had both HSBC and Santander crowing about how their tight approach to investment and risk had meant they had lost little from the global crisis. But as confidence falls, loans have to be repaid in a hurry and investors pull their cash. As they do so, less secure and dodgy institutions become unveiled.
In this way the alleged Madoff fraud was exposed – it was, say the US regulatory authorities, a Ponzi scheme. It claimed low risk investments were earning 10% returns a year, but in fact early investors were merely paid ‘profits’ from the capital being invested by later investors. This could only last while more investors put money in than took money out. Those who were conned included HSBC ($1bn) and Santander ($3bn), which look to have lost a large fortune between them.
It is not only the fraudsters who are found out. The Presbyterian Mutual Society in Belfast similarly suffered a depositors’ run, not because, apparently, the society was badly managed or insolvent, but because investors became worried that it was not covered by a government guarantee. So they moved their money out and into state-guaranteed institutions. In this way, the predictions became self-fulfilling and the society was unable to repay further investor calls for their cash back. Charities are among those who cannot recover their money, putting on hold aid projects in Africa.
But lack of confidence and rumours are dangerous things. Because the Presbyterian is a mutual and was not covered by guarantee, there are now widespread mis-reports that other mutuals – including building societies and credit unions – are not covered by guarantees. They are. The Presbyterian was not covered because it was not regulated by the Financial Services Authority and was not open to investments from lay individuals.
The continuing mistaken rumours surrounding the Presbyterian could now seriously undermine other mutual organisations. If the false talk spreads more widely they could yet cause runs on other mutuals and we have the risk of sound institutions collapsing or being forced into mergers if too many investors require their money back.
Similarly, we are yet to see the full ripple effect of the Madoff fraud, or even the collapse of the Lehman Brothers and Icelandic banks. We do not yet know all who invested in funds that invested in Madoff or Lehman or Iceland – and who may yet be taken down as a result. The second, third and even fourth link in the chain can still be fatal. And that is without the additional impact of potentially very high rates of mortgage defaults, to which some building societies are particularly exposed. The probability is that more financial mutuals will yet go to the wall.
The biggest threat is in the Irish Republic, where there are widespread predictions that the only two surviving large building societies will both lose their independence within weeks, or perhaps days. They have been caught out by the parallel pressures of mounting bad debts, lack of access to capital on the inter-bank markets and falling values of the capital assets on which their loans to individuals and businesses are secured. We could see something very similar with some of the English building societies that have set-up subsidiary companies to take on higher risk specialised lending.
Co-operatives also face severe challenges in the coming months and we could yet see further consolidation and rationalisation in the consumer co-op sector. Just how well will some of the smaller co-ops cope with, say, a fall in turnover of 10% to 20%? That is an entirely feasible collapse of trade in some areas. We can expect Asda and Tesco, in particular, to adopt an aggressive price-cutting strategy this year that will both win trade from some co-op societies and also squeeze margins badly. This could be a grim year for retailers.
Workers’ co-operatives may also be badly squeezed. All small firms are finding working capital more difficult to obtain and retain. Banks have increased interest rates on loans to what they regard as higher risk clients – especially those that have no security for lending, which is typical of the workers’ co-op sector. Banks are also much more likely to refuse overdraft facilities. It is noticeable that underused credit facilities – both overdrafts and credit card balance limits – have been withdrawn in recent months. This means that businesses have much less room for manouevre and are unlikely to cope if a large debtor goes to the wall. As business failures mount, this is likely to take out some of the workers’ co-op sector.
There will also be severe pressure on mutual insurers and friendly societies in the coming period, as more people claim on policies for unemployment and illness. At best, their profits will be squeezed. It is likely that this will increase pressure for mergers between mutuals of different types that have, until now, been prevented from coming together. Look out for mergers between mutual insurers and friendly societies in the coming months.
In its recently published first Mutuals Yearbook, Mutuo included housing associations as a type of mutual – though the definition is not universally accepted. And there is now a severe threat to the survival of housing associations. Many associations have been very entrepreneurial in recent years – engaging in joint ventures with the private sector for new developments that comprise both affordable homes and houses for sale. These schemes are now, typically, a financial disaster.
The collapse of the housing association sector is unimaginable. But its survival could require extensive government support, both financially and through intervention to force rescue mergers. We may also see local authorities actively involved in partnership projects with housing associations to ensure their continuation – but councils’ ability to help is very restricted by their own serious financial difficulties.
But in times of trouble, solidarity can be both a consolation and a solution. (I was surprised to hear communities secretary Hazel Blears talk of ‘solidarity’ the other day – I thought it was only allowed to be talked about at Brussels, or when discussing the history of the labour movement.) Even right-wing Conservative local authorities are looking to create mutual financial institutions to give them the strength to operate both effectively and with less risk in the financial markets. And building societies and credit unions have benefited overwhelmingly from the lack of confidence in banks. So there remain reasons for hope, if not optimism.
Happy new year? I don’t think so, for most of us. But make the best of it that you can. And remember that where there are the biggest challenges also lie the biggest opportunities. Let us wish that many mutuals find new and more profitable ways of doing business.