When Alistair Darling decided to recapitalise Royal Bank of Scotland in October 2008 he made a deliberate decision not to fully nationalise the bank. The then chancellor did so to make a future privatisation easier. Returning the banks to the private sector has, however, taken much longer than expected. But RBS and Lloyds are now in the final stages of their financial rehabilitation. With both returning to profitability this year, the time has arrived to start the process of privatisation.
The arguments against this are weak. Proposals to fully nationalise RBS or to split it into a “good” and a “bad” bank are five years too late. To do it now would incur a cost that is unnecessary and may not even achieve its aims because of EU competition and state aid rules.
The belief that we need to wait to recoup the initial investment in the banks is also misplaced. First, the decision to recapitalise the banks was not made as an investment. It was made to save the financial system and, hence, the economy. From that perspective it has worked.
Second, the 503p per share for RBS and 73.5p for Lloyds that was paid five years ago is not necessarily the relevant benchmark. The shares were actually recorded in the national accounts not at the price paid but at the market price on the day of purchase. For RBS that is 407p and Lloyds 61p. If we further deduct the fees that RBS and Lloyds have paid to be part of the Asset Protection Scheme, and RBS will pay to buy back the Dividend Access Share, the price for Lloyds drops to 53p and RBS to 360p. The government would actually make a small profit if it sold today in comparison to those prices.
So there is no need to wait. The question is how best to do it.
The right approach is for the government to exit the vast majority of its shareholding in one go. That rules out a staged sale to institutions because it would simply take too long. A traditional privatisation would also be difficult to do in one step simply because of the size of the transaction. As for the idea of giving the shares away the cost to the exchequer of close on £50bn makes it a non-starter.
We are therefore proposing that the chancellor uses a scheme that distributes around 70 per cent of the shares to the taxpayer. This would allow any taxpayer to apply for shares in the banks. Those shares would be allocated equally among applicants – and for no upfront payment. If 30m people applied we estimate they would receive up to £1,100 of shares.
These applicants would eventually pay for the shares at a price fixed via a traditional offering of shares to both institutional and retail investors which would happen alongside the distribution. That traditional placing can also be much larger than it otherwise would be because the distribution of the shares to taxpayers will produce a reweighting of the shares in the key stock market indices that institutions have to track. We estimate that this could mean around 35 per cent of the government’s stake in RBS and 15 per cent of that in Lloyds would be required by institutional investors to meet the higher weightings. That should enable the government to place up to 30 per cent of its stakes in the banks alongside the distribution, raising about £14bn at current prices.
If, as in previous privatisations, the government ensures that the institutions cannot buy as many shares as they need in the placing, they would be forced to buy the remainder from the distributed holders, thereby supporting the stock in the after-market. We also propose that the taxpayers could opt for an automated sales process, indicating the level above which they would sell. That would ensure that shares gradually enter the market as the share price rises, which would eventually shift the shareholding from the public to the institutions.
The government could use this scheme for both Lloyds and RBS. It enables both privatisations to be done at the same time, well ahead of the election. It is the best mechanism for ensuring the highest price in the near term and a stable share price in the after-market. It also enables a sizeable initial raise of money for the Treasury. Finally and most importantly it gives the taxpayer the chance to benefit properly from the recovery in both banks.
This article originally appeared on the Financial Times’s website (£)