Bailed-out banks are feeding off savings

In only four months, state investment in Royal Bank of Scotland (RBS) and Lloyds Banking Group has swung from a big loss, on paper, to a tidy profit of £10 billion (Dh56.74 billion).

So, we taxpayers are set to make a big profit on our stakes in Lloyds and RBS. In only four months, our investment has swung from a big loss, on paper, to a profit.

This is quite a turnaround. Two questions follow. How has it happened? And why isn't the Labour government, in the throes of an election campaign, crowing more about its apparent skill as an investor?

The answer to the first is that low interest rates have worked magic. The recovery may still feel fragile; and a sustained period of cheap money may create greater dangers if another speculative mania is unleashed. But from the point of view of banks, there's a lot to be happy about.

A year ago, they were making big provisions not just against duff investments in the past but against losses that recession would produce. Now, if anything, these banks look over-provisioned.

Where are the new bad debts? Over the next couple of weeks, banks will give first-quarter trading updates. But Lloyds let cat out of the bag last month on a critical point: it expects to make a profit this year. That is not what it said three weeks earlier when it unveiled its 2009 figures. Lending margins, it seems, currently look fatter than the banks could have imagined a few months ago. Better still for them, property, which is the security behind many loans, is rising again.

RBS does not expect to make a profit this year. But some analysts think the bank's balance sheet will be transformed if current trends persist.

Merrill Lynch said recently that RBS could have surplus capital of £15 billion by 2012. Fund managers, having dismissed RBS as a state-owned relic they could ignore for a while, now fear they've missed a new plot line: the result is the 75 per cent surge in RBS' share price since mid-February.

Why isn't the government bragging? Up to a point, it is. Chancellor Alistair Darling makes the fair point that actions taken at the height of the crisis have been vindicated. Taxpayers should indeed turn a profit from their adventure in bank shares.

It's just that this profit will feel illusory to one core constituency of voters. Savers, who outnumber borrowers by six to one, are earning next to nothing on their billions of pounds sitting in cash ISAs. For them, ultra-low interest rates are not a cause for celebration.

Jeremy Grantham of investment house GMO, writing in a US context, makes the point in a letter to investors: "Collectively, we forego hundreds of billions of potential interest, but at least we can feel noble because we are helping to restore the health of the banks and bankers, who under these conditions could not fail to make a fortune even if brain dead."