The great bank hold up

The 40-year-old accountant gets into his Ford Focus, which was leased from RBS's Lombard car finance business and insured through a deal with Churchill, one of the bank's two big insurers.

On his drive to work, Jason stops by his local Tesco, which has just been refitted by Styles & Wood - RBS recently took a 17% stake in the shopfitter following another debt-swap deal.

He grabs a few groceries and some flowers for his mum. She has just moved into a nursing home run by Four Seasons, which is 40%-owned by RBS as a result of a complicated debt-swap deal that cost the chain's bankers hundreds of millions of pounds.

When he finally gets to his office, next to a giant Walkabout pub, the remnants from the night before are still being cleared away. Regent Inns, the company that owns the pub chain, as well as the Jongleurs comedy clubs, went through a pre-pack administration recently that will see RBS emerge as its biggest shareholder.

Jason Strong is a fictional character but his experiences could easily be real. RBS owns huge chunks of the British economy and lends money to most of the rest.

RBS already owns the freeholds on more than 1,000 pubs, including Guy Ritchie's Punch Bowl in Mayfair. It has backed private equity deals running to billions of pounds.

Some of these loans are now likely to be among the £240 billion of loans insured by the taxpayer under the controversial Government Asset Protection Scheme (GAPS), along with thousands of mortgages in negative equity.

If RBS loses more than £60 billion on this pool of loans, the taxpayer will foot the bill directly. Even if the bank doesn't need to claim on the insurance scheme, the value of the taxpayer's stake in the bank is dependent on how it manages these risks.

Lloyds is also a burden. Although the bank last week escaped the toxic asset scheme by launching a record corporate fundraising, the taxpayer still owns 43% of the bank.

The taxpayer has invested a net sum of £63 billion in the two banks, even allowing for fees and interest payments that have been kicked back to the Treasury.

Through RBS and Lloyds the taxpayer is now one of Britain's biggest housebuilders and one of its biggest restaurateurs, and is owed money on office blocks and industrial estates in almost every town in the country.

To get that money back depends not just on the banks returning to profitability but on all the businesses they own and support grinding through the recession - a giant gamble.

"By bailing out the banks the government is making an enormous double-or-quits bet on the UK economy," said one credit analyst at a US investment bank. "That has come at the expense of the public finances. At the moment it looks like a great idea. Will it still look like one in 10 years' time?"

TREASURY officials were feeling rather pleased with themselves last week. Not only did Alistair Darling seize on the demands by Brussels for a partial break-up of RBS and Lloyds and present it as an initiative of his own, but media coverage of the announcements was more extensive than they had anticipated. The plan to use the partial break-up to create three banks by of splitting off parts of RBS, Lloyds and Northern Rock was briefed to financial journalists 12 days ago and fully reported the following day. Then the same story got a second lease of life last weekend, making Darling's announcement more of an event than he had expected.

While George Osborne mocked Darling over RBS for setting "a new world record for the biggest bailout of any single bank in any country", the chancellor insisted it was a good deal for the taxpayer.

Treasury officials point out that having Lloyds out of GAPS altogether and reducing the value of RBS assets in it has cut potential taxpayer liabilities by £300 billion.

The public finance projections in the budget put the potential net taxpayer cost of rescuing the banks at £50 billion but Darling expects to revise this figure down in his pre-budget report. If this happens it will be a small step on the road back to fiscal normality, which both the IMF and European Commission warned last week would take many years.

An assessment by Moody's, the credit rating agency, took the gloss off the Treasury's positive spin. It said that the deal, while "positive in principle" left the threat to Britain's AAA sovereign debt rating unaffected.

While it was good news that Lloyds was outside GAPS, Moody's view was that if the bank needed further assistance, the government would still step in to provide it. The guarantee was implicit if not explicit, Moody's said.

"The effect of these agreements on the government's balance sheet and the government's credit, while positive in principle, is limited," it said in a report. "Their main consequence is to shift the exposure of the government to the performance of the banks and their assets across its balance sheet, from the (contingent) liability side towards the asset side."

While the Treasury was unveiling its plans for the banks, the Bank of England was readying itself for another injection of money into the economy. On Thursday, the Bank's monetary policy committee (MPC) announced a further £25 billion of asset purchases, taking the total up to £200 billion.

The prospect was for only a slow recovery in the economy, the Bank said, because of loss of lending capacity and high levels of debt. "The point of a financial system, and of quantitative easing when that system breaks down, is to keep credit flowing," said Adam Posen, an MPC member, in a recent speech.

It is the lack of lending that is frustrating many in business, who say that neither quantitative easing nor the government's bank rescues are getting money flowing through to industry.

The Bank says that lending is only one of many channels through which the policy has an impact on the economy. It has, for example, made it easier for companies to raise funds in the equity and corporate-bond markets. Lending to businesses might have been even weaker without it. Many, however, are unconvinced.

A conference last week organised by the Engineering Employers Federation (EEF), the manufacturing body, heard impassioned calls for the creation of an industrial bank in Britain, with initial capital of £5 billion to £10 billion, to support innovative manufacturing businesses.

Such industrial banks have been successful elsewhere in Europe, most notably in France and Germany, and economists say they may be a necessary ingredient in rebalancing the economy. Gordon Brown talked about a £1 billion "national investment corporation" in his party conference speech six weeks ago but there are doubts about whether it will see the light of day.

For the Bank's MPC, thoughts will soon start to turn to its exit strategy. When will it start to sell the assets it has purchased back into the markets, and will it be forced to do so at a substantial loss?

For the Treasury, the question will be whether the government can make a profit out of its involvement with the banks, as the PM claimed last week. Whether or not it can do so depends on the economy, and on RBS.

STEPHEN HESTER, the RBS chief executive, was in a despondent mood last Tuesday morning as he talked to investors in the bank about its admission into the government toxic loan scheme and the stringent competition penalties doled out by Brussels.

RBS had been left battered by negotiations with Neelie Kroes, the European Competition Commissioner, and the end results were worse than he had feared.

It had been willing to give up part of its retail network. The extra penalty of selling off its insurance businesses Direct Line and Churchill were unhelpful.

As for edicts demanding that RBS hack apart its investment banking business, that was simply counterproductive.

These measures "don't improve competition and don't improve our ability to pay back the shareholder - ie the taxpayer," Hester said, truculently.

RBS has received more government bailout cash than any other bank in the world: £45.5 billion at the last count.

The competition restrictions imposed on the bank by Brussels make it harder for RBS to make profits, which in turn makes it harder for it to stand on its own two feet again.

UK Financial Investments (UKFI), the government body handling the national stake in RBS, needs to sell its shares at prices above 50p to break even. The shares closed on Friday at 37p.

Lloyds has already taken steps towards returning taxpayer cash. By launching the world's biggest rights issue it has ducked clear of the Treasury's toxic loan insurance programme and stopped the government stake in the bank increasing from 43% to 62%. The new plan has also cost the government £10 billion less than the old one.

Lord Myners, the City minister, hinted last week that it may not be long before UKFI can start to offload its Lloyds shares. These are still a long way from the government's breakeven point. The final figure won't be known until Lloyds' rights issue is complete but before last week's deals the shares stood at £1.22. They closed on Friday at 84.8p.

Alastair Ryan, a banking analyst at UBS, expects Lloyds to return to profitability next year and that the build-up of excess capital will then become an issue. "Ultimately, we would not be surprised to see this distributed via dividends or providing a mechanism to redeem the shares held by the UK government," he said.

If everything goes to plan, the government could potentially make huge profits on its stakes in the banks. If not, we'll be left with the bill regardless.

Arturo De Frias at Evolution Securities is bullish. "With most major uncertainties out of the way, we strongly reiterate our 'buy' as our investment case is 100% intact," he said.

The government, with its massive stake in the banks, will be hoping he is right.