A run on the bank (well, building society)

Being a bit early for an appointment yesterday, I ducked into a secondhand bookshop and emerged with a history of Countrywide Bank (by Tony Farrington, published in 1997), to add to my pile of histories of New Zealand financial institutions and major corporates.   For younger readers, perhaps unfamiliar with the name, Countrywide grew up from the building society movement, became a bank in the late 1980s after deregulation, and was taken over by the National Bank (itself later taken over by ANZ) in the late 1990s.

As I idly flicked through the book, I came across the account of one of those little episodes in financial history that (as far as I know) are not that well documented: the run on the building society, in April 1985.  Literal physical retail bank runs –  people queuing in bank branches and out onto the street – just aren’t that common.   When there was a run on Northern Rock in the UK at the start of what become the widespread financial crisis of 2008/09, the story was told that it was the first retail run in the UK for 140 years.  I am not sure if that is strictly true, but (fortunately) such runs are rare.   Deposit insurance supposedly contributes to that, but so do well-managed banks.

In April 1985, it was still the very early days of the comprehensive new wave of financial liberalisation that had begun when the Labour Party had taken office the previous July.  And it was only six weeks since the exchange rate had been floated, and five weeks or so since the extreme pressure on liquidity had seen overnight interest rates trade up towards 1000 per cent.  One-month bank bill rates peaked at about 70 per cent, and three-month rates peaked at around 35 per cent before the Reserve Bank intervened to stabilise the situation.  The overall level of interest rates had risen enormously (even post liquidity stabilisation) and anyone left sitting on (say) long-term government bonds faced very substantial mark-to-market losses.   There was a great deal of uncertainty about who might flourish, and who not, in the new environment.  And the newly-floated exchange rate was not exactly stable.

According to the Countrywide history’s account, in early April there had been rumours circulating for several days about the viability of Countrywide, which crystallised on Wednesday 10 April when an Auckland radio station ran a comment from one of their journalists that “there is no truth in the rumour that Countrywide is in financial difficulty”, which seems to have made the rumour much more widely known than it had been.

Countrywide protested to the radio station (perhaps reasonably so, but inevitably it was futile –  what was done was done), and they prepared a media release supposed to highlight their strength, but it took several days to get this in daily newspapers.  Reading the release now, with 34 years hindsight, I’m not sure that as a nervous depositor I’d have been reassured by it –  indeed when financial institutions boast about how rapidly they had been growing (in a climate of big changes in relative prices, and a great deal of uncertainty) it is probably reason for increased unease.

By this time, deposit withdrawals were already increasing significantly, and management was at pains to ensure that no branch was in danger of running out of cash even briefly.    And by this time, management had tracked down how the rumours seem to have started –  in the failure of a totally unrelated trucking company Countrywide Transport Systems Limited.  By then, the knowledge wasn’t much use to them.  They’d planned a press release explaining where the rumour had come from, but before it could run they had to deal with a development completely from left field: a Social Credit (monetary reformers) MP had issued a press statement referring to “widespread rumours about the impending collapse of a major building society” (by this time there were only two majors).

Countrywide called in the Reserve Bank and the then Governor, Spencer Russell, managed to get hold of the MP concerned –  at Wellington airport –  within 45 minutes of the statement being issued.  Morrison retracted the statement, but it was too late. As the history records “hundreds of depositors demanded their money”.

The run seems to have been focused in Wellington (and Hamilton), with queues outside several branches – 50 metres down the street outside the main Lambton Quay branch.   By the end of the day, customers had pulled out $10 million of deposits (Countrywide’s total assets then were about $445 million).  The next day, Thursday, they lost another $9 milliom in deposits (not just “mums and dads”, with withdrawals by solicitors being particularly evident.

The powers that be engaged in a significant (and successful) effort to staunch the run, with statements from the Associate Minister of Finance, the Governor of the Reserve Bank and the chief executive of the National Bank all reassured the public that Countrywide was sound.  By the Friday, it was estimated only $1 million of panic withdrawals occurred.

(These numbers don’t fully add up but) the history records that total deposit losses over the period of the run were around $30 million –  a far from insignificant share of total deposits.  Countrywide estimated that the run had involved a  direct P&L hit of around $1m, arising from the need to liquidate assets (government stock) in a rush, and additional staff, advertising, and communications costs.

And then the money flooded back –  it is recorded at times there were long queues to deposit the funds that had been withdrawn just a few days previously.   And the history mentions –  without comment –  that people were often depositing the same cheque they had taken from Countrywide only a few days previously.  I don’t really remember the run –  I was a junior Reserve Bank economist doing monetary policy stuff, and yet there is no mention of the run in my diary at all –  but that factoid was grist to the mill in debates about financial stability for years to come.  If you were so concerned about the health of your bank (building society) as to run on the bank, spend an hour in a queue, forfeit your place in the queue for mortgage eligibility (this was a thing still in 1985), why would you (a) take a cheque from the very bank you were concerned about (the danger of mugged on Lambton Quay had to be small, for example), and (b) why would you then not bank it straight away and pay for expedited clearing?  I still don’t claim to fully understand the answer to either question.

Eligibility for mortgage lending was still an issue in early-mid 1985.  Banks and building societies had been liability-constrained, and thus the practice grew up of having to have a suitable “savings record” with a specific lender to get a (first) mortgage (at least if you didn’t work for a bank, an insurance company, or the Reserve Bank).  The lender was doing you a favour not (as now to a great extent) the other way around.   Pulling your money out of the financial institution you might want to borrow from really was a big issue. Of course, better to lose your place in the mortgage queue than to lose your deposit (had it come to that), but it was a hurdle many depositors faced then that they would not face now.

As it happened, times were a changing, and the history records that Countrywide eventually “relented” (their words) and restored to their place in the mortgage queue those who had pulled their money out in the run.  Before very long, those depositors would have found other lenders competing to lend to them.

There are quite a number of unanswered questions in the Countrywide history (unsurprisingly –  geeky monetary economists weren’t the target market for the book), and I had a look at various other books on my shelves to see if I could find any other angles.  There was nothing in Roger Douglas’s book or in the biography of (then Deputy Governor) Roderick Deane, but there was a brief mention in the history of the Reserve Bank published in 2006.   Here is the relevant text.

countrywide.png

But, of course, that passage only raises further questions, including ones about how the Governor (or the Associate Minister) could be confident in their assertions about the soundness of Countrywide.  Whatever the substantive health of the institutions, were their statements well-founded in verified and verifiable data, or were the statements to some extent a confidence-trick: well-motivated, but actually based on little or no more information than the public had?    (There are readers of this blog who would pose similar questions about the style of bank supervision adopted by the Reserve Bank to this day.)   The Bank’s files may offer some answers (or maybe not).  And was the statement of support from the National Bank chief executive supported by offers on unsecured liquidity assistance (that would be a clear signal of confidence that might have encouraged the Reserve Bank).

Perhaps  the authorities made a relatively safe call –  after all, resurgent inflation meant that the value of Countrywide’s loan collateral was rising. On the other hand, like all regulated entities in those days, Countrywide had had to hold significant amounts of government securities, and government security interest rates had risen sharply.    Many institutions –  notably the trustee savings banks –  had taken big mark to market losses, and there was a strong sense that the viability of some of them would have been in jeopardy, especially if there had been timely and clear mark-to-market reporting.  Add in the high and very variable wholesale funding costs (probably only a small proportion of Countrywide’s funding) and one is left wondering how robust an analysis lay behind the official statements of support.  There was another building society run –  on competitor United –  a few years later, and the Reserve Bank history records that that time United took the view that official statements of support (Governor and Prime Minister) were tardy.    What sort of rethinking went on internally after the Countrywide episode?

I’m not playing any sort of gotcha here.  If anything, it is more a plaintive appeal for some economic and financial historian to undertake a systematic treatment of the New Zealand banking and financial sector through the liberalisation period.    There were all manner of small crises and near-crises during this period (PSIS, the devaluation “crisis”, Countrywide, United, RSL, the DFC, NZI Bank, the BNZ (twice) and probably others that don’t spring immediately to mind.  There are serious scholarly treatments of the experience in the Nordic countries with liberalisation at about the same time, but surprisingly little about New Zealand.

Not, I suppose, that historians will be able to help answer the question of why panicking depositors took their money in a cheque and then, it appears, in many cases didn’t even rush to get the cheque cleared, or to bank it at all.

I’m sure there are readers who were involved to some extent in these matters, whether at the Reserve Bank or elsewhere. I’d welcome any perspectives or insights in comments.

11 thoughts on “A run on the bank (well, building society)

  1. “Before very long, those depositors would have found other lenders competing to lend to them.”

    Suggested correction:

    Before very long, those depositors would have found other lenders competing, through their power to create money ex nihilo, (unlike building societies, which could lend out their deposits only), create ex nihilo brand new money to lend to them.

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  2. Michael: “Deposit insurance supposedly contributes to that, but so do well-managed banks.”

    There’s a typo here: it should read: “Bank bailouts heavily contributes to that.”

    Let’s not forget that bank bailouts prevent a key feature of capitalism, namely that companies can fail. And they get bigger and bigger, until one day the problem cannot be contained.

    And well-run? Who knows? They get bailed out if they fail. Competition is heavily prevented by arcane laws that only the very large banks can afford to implemented. Which only get a slap on the wrist if they fail in their implementation.

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    • Having just watched, The making of the Mob on Netflix, the depression years with 9,000 US banks allowed to fail gave the Mob a launchpad into financial lending and as a result, ownership equity into thousands of businesses throughout the US. Perhaps not a good idea to allow banks to fail.

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      • You have not heard of loan sharks that lend at 20% or 30% per annum in NZ? I believe it has an impact on poorer communities. Failure of banks in the US allowed the mob to reach deeper into the business communities. Not at all far fetched as it has happened before.

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  3. As you point out at the end of your piece, New Zealand in the 1980’s experienced a string of financial institution crisis. Countrywide was just one of them, and would appear unfairly fingered based on the troubles at other institutions. One issue was lending institutions not sticking to their knitting and wandering into areas they had no or little experience. The “off shore mortgage lending” debacle hit BNZ, (if I remember correctly), currency fluctuation risk not fully understood. DFC backed projects it knew little about, a lot of hairy stuff was going on. But history repeats itself. Between 2005 and 2009 the National Bank (then just newly bought by ANZ) offered it’s farmer customers (many of which had multi-million $ mortgages, a product called “interest rate swaps”. It was sold by bank staff who weren’t currency traders and didn’t fully understand the risks. The customers and their accountants were equally ignorant to the level of risk. When the “financial crisis” broke around 2006 and interest rates subsequently fell, those customers were left high and dry and in an expensive instrument to escape from. It was in many ways a repeat of the “off shore mortgage” blunders of the 1980’s that should have been foreseen, particularly as while rural mortgages were large like those to corporate organisations, farmers and their advisors (accountants) were much less skilled at managing and understanding these products. At the end of the day the National Bank’s diversion was about selling a sexy product to customers that it’s competitor banks didn’t have (initially, as they soon followed). So sales needs and maintaining market share took precedence over prudence.

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    • I don’t think anyone thought interest rates could fall. The RB governor Allan Bollard was pretty hawkish with OCR increases in rapid succession . Overdraft interest rates hit 10% on residential loans and farmers were staring at 12% to 15% on commercial loans. The RBNZ went nuts and drove the NZ economy into a subsequent recession.

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  4. Hello Michael
    I joined the United Building Society as their economist in 1989, about three months after they had experienced a major bank run. Needless to say, it still dominated management thinking. They lost about $150 million in deposits, between 10 and 15 percent of their total deposit base, on a Thursday and Friday after rumours spread that they were unsound. Fortunately, they didn’t have to open their doors on the Saturday or Sunday and by Sunday both the National Bank and the Reserve Bank of New Zealand had expressed their confidence in the soundness of the society, which effectively stopped the run. Better late than never, but not as good as early. (Why did it take the RBNZ so long?) However, they found it difficult to recover these deposits, which reduced their profitability so much that they were eventually taken over by the State Bank of South Australia. This was unfortunate as the SBSA subsequently went bust as it had made too many bad loans – possibly because it was run by a criminal, Tim Marcus-Clark, who was subsequently jailed for fraud.
    At the time United did not offer its own cheques as it was not a bank, and I am not sure Countrywide issued its own cheques either. Rather, it banked with the National Bank. When you obtained a bank cheque from United, it was drawn on the United Building Society’s account held at the National Bank. Since National was still honouring these cheques, I suspect many people will have been content to withdraw their savings from United using a cheque drawn on National. Obviously a United Building Society cheque drawn on National is still subject to default by UBS, but either because National was backing the Building Society or because people did not know better, people appeared to withdraw funds using cheques rather than cash.
    You should talk to the contemporary managers of the UBS. (The Managing Director became a successful businessman in Wellington and as far as I know is still here.) They certainly had views as to why the run occurred. Of course, it was ultimately their fault as a banker’s primary responsibilities are to make good loans and to maintain confidence that they have made good loans, and they failed in the second endeavour. But the back-story is interesting as they were a very innovative financial institution. In the late 1980s they developed NZ’s first flexible mortgages (the type most banks offer now) and suddenly obtained a large share of new mortgage lending – around 25%, despite being rather small (significantly less than 10% of the total bank market). A lot of this lending was very high quality as they were getting low loan-to-value-ratio customers who wanted the flexibility of these mortgages. At the same time, they originated NZ’s first offshore mortgage securitisation programme to raise funding. These securitised loans were quite different to those used in the US before the global financial crisis as (i) they were fully guaranteed by United, who was responsible for paying the interest and principal and (ii) they were backed by the mortgages and any individual mortgages that were behind were replaced. (Of course, this lowers the quality of the residual assets.) United deliberately obtained credit ratings from Moody’s (or another such organisation) to signal the quality of their book. As they could raise as many funds as they wanted it ensured United could rapidly expand its share of the market the programme. However, this may not have been well understood, causing the concerns that led to the run – or it may have been very well understood by their banking competitors, who would have concerns about their loss of market share. As I say, you should track down the contemporary management for their perspective.
    I have always been amused that I have worked at a place that had experienced a run and I used to mention he episode to my students when I taught monetary theory in the US in the early 2000s. We did a lot about bank runs and financial crises in my course, although I suspect the students didn’t understand why until after 2007. Now days I think monetary theory is well taught in most places as people focus much more about issues of creditworthiness and default than previously.
    Regards
    Andrew

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    • Thanks Andrew. I don’t think I’d realised United has lost quite that many deposits in their run. Again, an example of an episode that really should be properly documented (there aren’t many runs and we learn from the ones we have), as part of a wider modern financial/monetary history of NZ.

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  5. Interesting how the smarter people learn. The DFC, for all its faults, was the best “university” I ever attended (3 real uni’s). THe orgnaisation’s real history has never been written..Check out what happened to the people who worked there. not too manynliving on the streets!

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