Yes and No campaigners in Blantyre, Scotland, on September 4, 2014. Scotland’s nationalists overtook the anti-independence campaign in an opinion poll for the first time this year.
As Scotland stares history in the face, London’s financial guardians are preparing for their worst-case scenario.
Less than a week before a referendum that could see Scotland ending its 307-year political bond with the United Kingdom, officials at the Bank of England and the Treasury are gaming out how they would shore up the financial system if that happens. With the result being announced ahead of a normal trading day in the U.K., among the chief risks facing officials in the first 24 hours after any “yes” vote: a flight of deposits, a run on the pound and a drying up of bank liquidity.
Panic “grows exponentially so the key thing is to not let it start in the first place,” said David Bell, professor of economics at the University of Stirling. “As soon as rumors start getting around, it seems to me that it’s very bad news.”
While polls currently suggest Scots will opt to stay with the U.K. by a narrow margin, the vote is so close that officials are girding themselves for the possibility of the biggest shock to the financial system since the collapse of Lehman Brothers Holdings Inc. in 2008. The pound has the potential to tumble 10 percent within a month, said 61 percent of the 31 respondents in a Bloomberg News survey conducted Sept. 5-11.
Taking action
BOE Governor Mark Carney and Chancellor of the Exchequer George Osborne may need to act within hours, say former policy makers, economists, academics and government officials. That will then buy them enough time to start the 18-month negotiation process that would follow any Scottish secession.
“What Carney will be worried about initially is the potential flight of deposits,” said former deputy governor John Gieve, who was in charge of financial stability at the central bank during the run on Northern Rock Plc in 2007.
Workers fold a hand-sewn British Union flag, left, and a Scottish St. Andrew’s or Saltire flag, the national flag of Scotland, right, after completion at the Flagmakers workshop, a unit of Specialised Canvas Services Ltd., in Chesham, U.K., on Aug. 1, 2014.
In an extreme scenario, officials could implement temporary controls such as limiting the amount bank customers could withdraw each day, or closing lenders by imposing a special so-called bank holiday, said Bell at Stirling University. Authorities could also re-capitalize institutions, restructure their liabilities and help them raise funding — though Gieve said he thought such steps would not be necessary.
“Everybody will want to do the best for Scotland whatever we decide, but at the end of the day, nobody’s going to put their own savings or their own mortgage at risk,” Alistair Carmichael, the Scottish secretary in the U.K. government, said in an interview in Edinburgh this week.
Britain’s leaders will have decisions to make in the run up to the vote and in the hours immediately after it.
Mounting concern
Growing concern in government, which has so far refused to admit publicly it has contingency plans, was made apparent yesterday by Osborne’s decision to cancel his trip to the Sept. 20-21 Group of 20 meeting in Cairns, Australia. Had he traveled, he risked being uncontactable for hours in the air when the results were announced.
Asked yesterday about the plans officials had in place to avert a credit crunch in the event of a “Yes” vote, Osborne said his decision to not attend the G-20 was motivated by the “economic risks” surrounding the vote.
Carney will be in Cairns on Sept. 17 and leave the gathering early to get back to London in time for the referendum results, a spokesman for the BOE said separately.
The central government has plans in place should Scotland vote for independence and they’re just not formally written down, a government official said. The Scottish National Party, which runs the semi-autonomous government in Edinburgh, will convene its cabinet at St. Andrew’s House in the city once the result is known to figure out the next steps.
U.K. debt
To head off investors shunning U.K. assets and unloading government bonds, the Treasury may reaffirm its commitment to service all Britain’s debt to prevent gilt yields soaring, said Maeve Johnston, an economist at Capital Economics Ltd. in London. Banks may also want the government to reiterate it guarantees U.K. retail deposits through the Financial Services Compensation Scheme.
JPMorgan said in a note to clients last week the bank would expect “immediate recognition of the result by the U.K. government in the form of a commitment to begin negotiations on the exact terms of separation.”
Officials may have to continue to monitor for signs of financial distress during the period of transition toward formal independence as the negotiations between the U.K. and Scottish governments ebb and flow, Bell said.
Independence day
The Scottish government has named March 24, 2016, as its targeted date for declaring independence. Until that date, the Bank of England will remain a backstop to Scotland’s lenders.
“I can’t see how there would be necessarily a banking crisis per se given that Scotland would still be part of the U.K.” during the negotiations, Ronald MacDonald, a political economy professor at Glasgow University, said in an interview. “It’s after independence day really that the possibility of a banking crisis could arise.”
Sterling has already suffered its worst month in more than a year, falling 5.4 percent against the dollar from a five-year high in July and touching its lowest level in 10 months this week as momentum for the nationalists increased.
Away from financial markets, Cameron may also face a crisis in his own Conservative Party.
One Tory lawmaker, who asked not to be named because of the political sensitivity of the matter, said it was impossible to know how his colleagues would react to the shock of the breakup of their country after more than three centuries. While the Tories have struggled in Scotland in recent decades and have only one Westminster lawmaker there, the party brands itself as the patriots protecting the U.K.
Confidence vote
There is already a section of rebels that dislikes their leader so much that they would take any excuse to try to remove him, the lawmaker said. The question is whether others would join them, he said.
Under Tory rules, a vote of confidence in the leader is triggered if 46 lawmakers write to Graham Brady, the chairman of the 1922 committee comprising the party’s rank-and-file members of parliament. By convention, Brady refuses to discuss how many such letters are currently outstanding in his safe.
Were he to get close to the threshold, he would first call lawmakers who had written some time ago to check their wishes. He could also alert Cameron’s office, to give him the opportunity to avoid a vote by quitting.
Royal highland
All will start to become clear in the small hours of Sept. 19 after residents of Scotland cast their ballots.
Scots vote in 32 council regions between 7 a.m. and 10 p.m. local time on Sept. 18, with counting beginning at the close. Each council will report their totals to a central hub at the Royal Highland Centre in Ingliston near Edinburgh Airport, before declaring them once authorized by the chief counting officer, Mary Pitcaithly.
Pitcaithly will announce the final result once all the regions have reported, though the outcome may become apparent before that.
In terms of the final announcement, Pitcaithly has said the timing of Scottish results in parliamentary elections in 2010 and 2011 may serve as a guide, when the declarations came at 6:30 a.m. and 7:30 a.m. respectively. In a BBC television interview broadcast on Sept. 9, Pitcaithly said she expected the final announcement “around breakfast time.”
Privately commissioned exit polls, such as by television news broadcasters, can be released once polls close, though no organization has indicated they are doing so. There will be no official exit poll.
People will start making a call on the result while each vote gets counted and many markets wake up to discover whether or not Scotland has chosen to become Europe’s newest sovereign state and negotiate a division of the U.K’s assets and liabilities.
“Contingency suggests you’re contemplating losing which isn’t the political line,” said Grant Lewis, an economist at Daiwa Capital Markets in London and a former Treasury official. “But there will be contingency plans in place, as you’d expect for any big event.”
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