Banking Standards Committee calls on Government to get tougher on banks

Out-Law News | 12 Mar 2013 | 2:46 pm | 3 min. read

Parts of the Government's proposals for reform of the banking industry remain "extremely weak", according to a committee of MPs and peers.

In a critical report, published as the Government prepared to debate the Banking Reform Bill, the Parliamentary Commission on Banking Standards called for an "explicit" power to force a complete split between retail and investment banking across the industry to be included in the legislation. This power would only be exercisable "after the case for full separation ... had been considered by an independent periodic review of the effectiveness" of the current proposals, the Commission said.

However banking expert Tony Anderson of Pinsent Masons, the law firm behind Out-Law.com, backed the Government. Implementing the Commission's stricter proposals would result in the UK "kissing goodbye" a substantial part of its economy, he said.

The Commission also called on the Government to raise the 'leverage ratio' included in the Bill, which would limit the amount of risk banks would be able to take. Reducing the ratio would force banks to either raise more capital or reduce the debt on their balance sheets if they breached the limits. Its report contains draft amendments which it is calling on MPs to consider during the debate.

The Banking Reform Bill will 'ring fence' banks' retail operations into a separate subsidiary of a wider banking group from their investment activities, as recommended by Sir John Vickers' Independent Commission on Banking (ICB) in its 2011 report. Once approved by Parliament, banks will have until 2019 to comply with the requirements of the Bill. In his first speech of 2013, Chancellor of the Exchequer George Osborne said that regulators would be given the power to fully separate the activities of individual banks that do not comply with the new requirements; however the Commission has said that this new power does not go far enough.

"The Government has been at pains to make the case against the provision for full separation being implemented on the say so of the regulator," the Commission said in its report. "The Government has erected a straw man which it has then successfully demolished, because we made no such recommendation in our First Report. Instead, we envisaged that the legislative provisions would be brought into force only in the light of the recommendations of the independent review [of how ring-fencing was working in practice]."

"The Commission continues to believe that statutory provision for full separation should be included in the Bill now before Parliament ... The power would not be available to be implemented until after the case for full separation across the sector had been considered by an independent periodic review of the effectiveness of the ring-fencing framework which had come to a recommendation to that effect," the report said.

In its report, the Commission said that any decision on whether to fully separate all banks across the sector would be "a matter for Government and Parliament". The financial services regulator's views would be "of great importance in such consideration", but the regulator would not be given the separation power itself, the Commission said.

As set out in the Banking Reform Bill, the ring-fence will ensure that retail banking activities are provided by a separate subsidiary of a wider banking group. Ring-fenced banks will need to be legally and operationally distinct entities from non ring-fenced banks, and will not be able to own or hold the capital of other non ring-fenced entities within the group.

Only ring-fenced banks will be able to accept deposits from, and provide overdrafts to, retail customers. They will not be able to carry out certain pre-defined activities including international and wholesale and investment banking services, and dealing in investments as principal. However, they may be permitted to provide "simple" derivative products to their customers provided that a number of conditions are met.

Although a European Commission review, led by Bank of Finland Governor Erkki Liikanen, made similar recommendations towards the end of 2012, banking law expert Tony Anderson said that the UK was the only jurisdiction proposing full separation of retail banking from other parts of a banking group.

"Additionally the rhetoric focuses on 'retail' and 'investment' banking, but completely ignores commercial banking; which is a significant part of the UK banking industry, resides across the whole of the UK and certainly does not constitute risky or 'casino' banking," he said. "The Government's current ring-fence proposal would cleave commercial banking in half. This would create more unfortunate and unintended consequences for an economy which relies significantly on its finance sector as a measure of GDP."