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Proposals to ringfence retail banking from investment arms will give Britain a safer, more competitive banking system
It is the most radical proposed transformation of a western banking system since US President Roosevelt's reforms of the early 1930s. If the ringfencing of retail and commercial banking from the wilder fringes of financial exotica goes forward as proposed by the Independent Commission on Banking, Britain will be left with a safer, more competitive banking system that is more likely to support small and medium-sized enterprise.
For someone who has long regarded the biases in British finance as one of the most disabling handicaps to our growth and prosperity, this is a moment to savour. Sir John Vickers and his fellow commissioners have produced an economically and financially robust case that has won the public support of a Conservative chancellor of the exchequer for a hitherto Tory no-go area – City reform. Britain is creating at least one of the necessary preconditions for a half-decent economy.
But inevitably there is an army of critics – bankers who warn the proposals will inhibit recovery, economists who argue that the proposals would not have prevented the financial crisis of 2008 and others who regard the plans as a weak-kneed sell-out. All are wrong.
The case that the proposals will hinder recovery rests on multiple misconceptions. Preserving the current banking business model, in which banks are free to bet the last pound of their capital on wild financial products while neglecting their own hinterland, will not aid recovery. A glance at the plunging levels of new credit advanced to British business is evidence of that. In fact, ringfencing will oblige banks to use scarce capital to support UK lending for fear of losing domestic business.
But at what cost, say critics? Requiring banks to hold more capital – even £17 to £20 for every £100 they lend, as Vickers proposes, instead of the old £4 – will only make the average cost of each parcel of lending more expensive, they say. The banks will pass that on to consumers and business so they will borrow even less – just when recovery needs them to borrow more.
First, the evidence is that in normal economic conditions 17% to 20% capital is optimal and will have no impact on the overall cost of funds. But these are not normal times. If capital were now pitched at that appropriate level, there would be good grounds for relaxing the requirement to help banks lend more – which is why it is right to delay full implementation of the capital rule to 2019. It also makes it extremely unlikely that any bank will leave the UK. The timing of introducing new capital requirements and ringfencing are two very different questions.
The argument that the proposals would not have prevented the banking crisis is no less feeble. In a ringfenced world, because the riskier business would be much more obvious and less cross-subsidised by ordinary depositors and taxpayers, any non-ringfenced bank would have had to pay a great deal more for its huge cash deposits in the inter-bank markets and also hold much more capital to reassure depositors and shareholders. Moreover we would have asked the banks to hold even more capital as the boom came to its peak. Sir Fred Goodwin's antics at RBS would have been close to impossible.
Vickers has established a crucial principle: banks should not privatise wild profits and socialise losses. I would have liked a tougher timetable: Vickers has left too much scope for the government to weasel out of if its commitment. But for those who think it's a sell-out, I wonder if they think any Labour business secretary under Blair or Brown could have achieved as much as Vince Cable, who has stuck to his guns throughout. This is a big moment, and we should be big enough to recognise it.
Will Hutton
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