Cost Of The Bank Bail-Out

TUESDAY, OCTOBER 21, 2008

Cost Of The Bank Bail-Out

In real life they'd have called the taxpayer

Bailing out the banks has exposed UK taxpayers to huge potential losses. Nobody has any idea how much, but history maybe gives us a sighting shot.

The IMF has recently published a useful paper summarising what we know about that history (Systemic Banking Crises: A New Database, by Luc Laeven and Fabian Valencia). Analysing 42 previous banking crises since 1970, the authors sum up:

"Fiscal costs, net of recoveries, associated with crisis management can be substantial, averaging about 13.3 percent of GDP on average, and can be as high as 55.1 percent of GDP. Recoveries of fiscal outlays vary widely as well, with the average recovery rate reaching 18 percent of gross fiscal costs."

So if we experience the average loss, we're in the can for about £200bn. Which is £8,000 for every single household.

Of course, the loss might be less than the average. In resolving the Nordic banking crisis of the early 90s, Swedish and Norwegian taxpayers got away with a net cost of about 3% of GDP.

But on the other hand, the loss might easily be much greater. Resolving the Japanese banking crisis eventually cost Japanese taxpayers an estimated 24% of GDP. On that basis, we'd lose £350bn, or £14,000 per household.

And on top of the straight fiscal cost, the banking crisis will also whack our incomes. UK GDP is already slumping as the flow of credit dries up, and the IMF analysts say:

"Output losses (measured as deviations from trend GDP) of systemic banking crises can be large, averaging about 20 percent of GDP on average during the first four years of the crisis, and ranging from a low of 0 percent to a high of 98 percent of GDP."

20% of GDP would be around £300bn, or £12,000 per household. True, Japan got away with a bit less than that, but Sweden lost nearly 30%.

So should we have left the banks to fend for themselves?

Unfortunately not. The IMF says:

"There appears to be a negative correlation between output losses and fiscal costs, suggesting that the cost of a crisis is paid either through fiscal costs or larger output losses. Furthermore, if this correlation is proven robust, it suggests that even in the absence of significant government intervention, fiscal losses may be large due to tax revenues forgone because of higher output losses."

We're damned either way.

And the IMF averages suggest another scary debt stat to add to our last blog: if the straight fiscal cost of the bail-out is 13.3% of GDP, and GDP itself is 5% lower (= total 20% loss spread over 4 years), then, all else equal, our 2012-13 official debt-GDP ratio reaches 66%. Add in the fiscal impact of the lower GDP, and the ratio gets to 80%. And that's before a whole stack of other knock-ons, like crazy public works projects.

Unfortunately, even George's Russian billionaire can't get us out of this one.