Reining in Lloyds

By Paul Taylor
July 1, 2009

paul-taylor– Peter Thal Larsen and Paul Taylor are Reuters columnists. The views expressed are their own –

Sir Win Bischoff appears to relish a challenge. His brief spell as chairman of Citigroup was spent resisting regulators who wanted to break up the bank. If the veteran banker takes over as chairman of Lloyds Banking Group, his first fight will be with competition authorities in Brussels. This is one battle where it would be better if Sir Win did not live up to his name.

Neelie Kroes, Europe’s competition commissioner, says Lloyds and Royal Bank of Scotland could be forced to sell significant assets in order to win approval from Brussels for the vast amounts of government support they have received. Kroes has a track record in this area. Commerzbank and West LB have been forced to sell assets equivalent to about 40 percent of their balance sheets in return for EU approval of government recapitalisations.

The Commission has two objectives: to limit the duration of state aid, and minimise any competitive distortions that arise from public support. Typically, banks that receive state aid grow too big, too quickly, and have to shrink before they can stand on their own. The main question is how swiftly they should be forced to do so. Here, the Commission is prepared to be lenient. Commerzbank has apparently been given 2014 to sell its Eurohypo real estate division.

The Lloyds case is more complicated. The bank was created last September when the British government waived competition rules in an effort to prevent the collapse of HBOS, the troubled mortgage lender. Even though the government had to recapitalise the banking sector anyway, the Lloyds-HBOS deal still went ahead. The result is the worst of both worlds: a state-supported superbank, which has a third of Britain’s mortgage and current account markets.

The problem here is that forcing Lloyds to shrink dramatically would make it less, not more, viable. Reducing its balance sheet by 40 percent would not just involve selling peripheral assets, like its Clerical Medical pensions division or its Insight fund management arm. It could require Lloyds to offload core operations, possibly including part of its retail banking business and branch network or its corporate banking division.

Were it required to break up the core business, this would restrict Lloyds’s market power and limit the billions of pounds of cost savings the bank expects to generate from the deal. The government, which owns 43.5 percent of Lloyds and wants to sell at a profit, would presumably resist. Kroes would no doubt be accused of using state aid rules to meddle with a merger that was originally beyond the Commission’s remit.

Nevertheless, she should persist. Reining in Lloyds might not please the bank’s shareholders, but it would be better for customers for whom the reduction in competition would most likely result in higher prices for banking services.

(Edited by David Evans)

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