Pity the poor, tax the rich, protect the wealthy

In a sweet irony, the British Political Parties appear to be in a bidding war to be the most generous in their proposal to reform the deposit protection scheme following the Northern Rock crisis.

Prior to the run on Northern Rock, the deposit protection scheme provided for 100% compensation on the first £2,000 and 90% on the next £33, 000. The idea behind the structure was that the least wealthy i.e. those with less than £2k, would be completely protected; those with a little more took on some of the risk of bank failure and hence had to exercise more care in who they placed deposits with, a mechanism designed to avoid moral hazard creeping in; and above that you were an unsecured creditor without protection from the scheme.

However, as Northern Rock proved, people hate the idea of losing any money and so rushed to withdraw their savings, even if less than £2k since few believed they would be able to get access to their money (or compensation) quickly.

So, to stem the panic the Chancellor promised that deposits of up to £100k would be fully covered “during this crisis”. However, in doing so, he has set a precedent i.e. panicked politicians will be quick to dole out taxpayer cash. Indeed, the Treasury Select Committee has already advanced that £250k in savings should be protected.

So, leaving aside whether having such sums would be considered immoral in some political quarters with a tangential topic, and the desire to increase income tax on the “wealthy”, it looks like keeping large deposit in the bank will represent a “risk free” asset henceforth thanks to the taxpayer funded guarantee.

Meanwhile, the measures used by the Bank of England in 1720 to avert it’s own run (get your own staff/friends at the front of the queue and slowly pay them out in small change, before getting them to join another queue to flamboyantly deposit funds as a sign of confidence and to slow other withdrawals down) evidently don’t cut it anymore, even with the modern day version of partially closing your website.

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