Balance Sheets and Foreign Lending
The problem with the current high street banks is the sheer size of their balance sheets.
The Royal Bank of Scotland in particular is a concern: it has assets of around £3.7 trillion. Quite a lot of this is abroad.
A small change in asset quality will lead to a large loss. This means that their scarce capital will be tied up insuring themselves against existing losses, rather than being able to be deployed to cover new lending.
This poses problems for the government too. If the banks were small domestic institutions with most of their assets being domestic then that would be one thing. But they are large international institutions with large operations abroad. The governement will have enough on it's plate insuring uk depositors (given the matched up the uncertain value of uk mortgages), without having to insure ABN's depositors (matched up against the uncertain value of ABN assets).
Good Bank / Bad Bank
The logic of a good bank / bad bank solution to the British banks is that the good bank can lend without being infected by the uncertainties associated with the 'bad bank'. There is a way of achieving this, which I will come to in the next post.