Managing my financial journey
Managing my financial journey

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Ring-fencing banks

One immediate decision of the new coalition government was to announce that the Independent Commission on Banking (ICB) – chaired by Sir John Vickers – would investigate the structure of banking in the UK, including the case for the separation of retail (commercial) and investment banking. The argument is that the risky activities of the investment banking sector should not be set in a business environment where they could undermine the conventional banking activities, for personal and business customers.

The final report of the ICB, published in September 2011, made a number of recommendations on the issue of the financial stability of the UK banking system.

First, there should be a ring-fence between high-street or retail banking (considered to be low-risk) and investment banking activities (viewed as being high-risk). This should be reinforced by each part of a bank that combines retail and investment banking operations having its own board and being operationally segregated. The commission did not, however, recommend the complete separation of investment banking from retail banking.

Second, the ring-fenced banks (RFBs) should be required to hold more capital. This is the money banks and other financial institutions have to hold to cover for losses arising from their business, for example when borrowers fail to repay loans. The commission called for the RFBs to hold capital totalling up to 20 per cent of total liabilities, with equity capital (raised through the issue of shares) amounting to at least 10 per cent of total liabilities. The largest RFBs should hold at least 17 per cent of their liabilities in the form of equity capital to reflect the risks they are taking in their business.

In December 2011, the government announced that it would accept these proposals, which found their way onto the statute book through the Financial Services (Banking Reform) Act 2013. Compliance with the legislation by the RFBs is required by the start of 2019. The then Chancellor George Osborne stated that the UK’s big banks would be broken up (i.e. formally split into retail and investment banks) if they did not effectively comply with the ring-fencing requirements.

The decision of the government to implement the findings of the ICB – albeit with some modest dilution of the commission’s proposals – has, though, attracted both concern and criticism from within the banking sector and elsewhere. With some forecasts indicating that the cost of the ring-fencing arrangements and the higher capital requirements could cost the industry anything between £4 billion and £12 billion, some banks have started to consider whether they should relocate to other jurisdictions (Nicolson, 2011). This would be at the cost of both jobs and tax revenues in the UK. There has also been speculation that banks will seek to recoup these costs by ending free current account banking for retail customers.

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