LONDON The government's bank bailout scheme seems to have triggered a palpable change in financial market sentiment but it leaves the UK taxpayer massively exposed to potentially risky assets.
Under the scheme, the government will own or part-own lenders controlling nearly 3 trillion pounds in assets and almost half the mortgage market, heightening taxpayer exposure to a faltering economy.
While the government aims eventually to sell its holdings at a profit, analysts warn it could take many years to achieve this if the banks' debt-backed securities and loan books suffer further value erosion as economic conditions deteriorate.
Northern Rock, already under state control, underscroed the concerns on Tuesday as it said 1.87 percent of its mortgages were more than three months in arrears, jumping from 1.18 percent just three months ago.
That will be a worry for government.
Banks were told to raise their original estimates of how much extra capital they needed before final levels were agreed late on Sunday, reflecting concerns over the impact of a possible recession, people familiar with the matter said.
Under Monday's bailout plan, Britain will underwrite a 15 billion pound share issue for Royal Bank of Scotland (RBS.L), and buy a further 5 billion pounds in RBS preference shares.
Merger partners Lloyds TSB (LLOY.L) and HBOS HBOS.L will receive up to 17 billion pounds in public money between them.
If existing shareholders don't participate in the rights issues, the government will be left with a 57 percent stake in RBS and a 43 percent holding in the combined Lloyds TSB-HBOS.
"The scale of the raisings is positive for the system in that it should provide a sufficient cushion for the domestic UK banks to absorb at least a 1990s style recession, if not more," James Chappell, analyst at Goldman Sachs said in a note.
Still, some commentators expressed surprise at the sheer scale of the scheme.
It makes the taxpayer the biggest shareholder in a trio of banks that sit at the heart of the UK financial system.
They hold assets of about 2.75 trillion pounds between them, easily outstripping the country's gross domestic product of 1.55 trillion pounds.
After the nationalisation earlier this year of Northern Rock and Bradford & Bingley it leaves the government owning or part-owning 45 percent of a deteriorating UK mortgage market.
The state will be heavily exposed to Britain's commercial property market, where RBS and HBOS have been big lenders, also in the grip of a sharp downturn.
RBS is by far the biggest of the banks to need state help with an asset base of 1.7 trillion pounds at mid-year.
A worsening economy also raises the prospect of possible tensions over the government's role if house repossessions rise and small businesses fail, analysts said.
The government said it will keep its bank holdings at arm's length and won't interfere with strategy, but will have representatives on boards.
Analysts reckon that even assuming a quick resolution to the credit crisis, it will be years before the government can start to think about removing itself from the banks' shareholder register altogether.
"The timescale for running down the government's stakes will probably be at least three years. But that will depend on the restoration of buoyant animal spirits among entrepreneurs and everyone else," said Derek Chambers, banking analyst at Standard & Poor's Equity Research.