Mervyn King calls for clear split in banking functions
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Bank of England governor Mervyn King has called for banks to be split between utility banking operations and more risky activities.
Speaking to Scottish business organisations in Edinburgh last night, King warned current UK Government and G20 policies of increased regulation and forcing institutions to hold more capital may not be enough to reform the sector.
King said it was hard to see how the existence of institutions that are “too important to fail” is consistent with firms being in the private sector.
“To paraphrase a great wartime leader, never in the field of financial endeavour has so much money been owed by so few to so many. And, one might add, so far with little real reform,” he said.
King said increased capital requirements reduce, but not eliminate, the need for taxpayers to provide catastrophe insurance.
He added: “The ‘riskiness’ of a bank’s activities and the liquidity of its funding can change suddenly and radically as market expectations shift. This means that what appeared to be an adequate capital or liquidity cushion one day appears wholly inadequate the next.”
Instead, King advocated drawing a clear distinction between the different activities that a bank undertakes.
He said: “The banking system provides two crucial services to the rest of the economy: providing companies and households a ready means by which they can make payments for goods and services and intermediating flows of savings to finance investment. Those are the utility aspects of banking where we all have a common interest in ensuring continuity of service. And for this reason they are quite different in nature from some of the riskier financial activities that banks undertake, such as proprietary trading.”
King rejected recent suggestions from some that a clear split would be impractical and predicted that the current behaviour of the banks will make such a move inevitable.
He said: “The sheer creative imagination of the financial sector to think up new ways of taking risk will in the end, I believe, force us to confront the “too important to fail” question. The belief that appropriate regulation can ensure that speculative activities do not result in failures is a delusion.”
BBA chief executive Angela Knight rejects King’s analysis and says a mixed banking model must be retained. She says:”We believe the key issue is not one of breaking up banks but of financing the economy. Our mixed banking model provides choice: big businesses may want big banks which offer a range of products and services while individuals may look to something smaller. There is a clear and unambiguous requirement for universal banks and that is acknowledged by authorities in all countries.”
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Readers' comments (5)
Evan Owen | 21 Oct 2009 10:14 am
Is Angela Knight missing a point? Proprietary trading is not a 'utility' service using customers own money whether they be private individuals or large corporations, it is supposed to be an activity carried out using the bank's own money, the problem is how do you separate the activities in order to keep the funds apart and if you cannot then how do you prevent one from bringing the other down and ending up as we are today, up the creek without a paddle? Or am I also missing the point?
If you create one regime in the UK while the rest of the planet carries on as before will the banks move their riskier activities offshore? Would we care?
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Simon Mansell - Open Letter to Mervyn King | 21 Oct 2009 10:18 am
Mr King
Open Letter to Mervyn King, Bank of England Governor - “Banks & Moral Hazards”
As Bank of England Governor you have warned (20/10/) about the dangers posed by banks that are “too important to fail.” You discuss the risk of economic disaster, resulting from the over centralisation of power in a small number of big banks. You say this will result in the “biggest moral hazard in history”. I agree!
Your solution is to split up banks and separate riskier activities from more stable businesses such as taking deposits. I understand that you views are at odds with that of Chancellor of the Exchequer Alistair Darling, Chancellor, head of the Treasury and also master of the Financial Services Authority (although this is denied).
Yet Darling and Brown plan even greater risks with further over-centralisation of power within the large banks, increasing the risks of failure yet further! The FSA wants to hand over independent distribution of financial services to the banks. They are doing this on the false premise of consumer advantage!
In 2007 FSA representation said Independent Financial Advisers generated 48.3% of financial service distribution compared to banks at 36.2%. The FSA Retail Distribution Review threatens to kill off independent financial advice in the UK for all but the wealthy and hand over IFA distribution to bank-based advisers - those primarily responsible for PPI misselling, endowment mis-selling, investment mis-selling and generally poor advice all round! The very “moral hazards”that you warn against!
FINANCIAL OMBUDSMAN SERVICE COMPLAINTS 2008/09
banks: 59%
independent financial advisers (IFAs): 3%*
Ernst & Young's says: "Given the changing dynamics we foresee a reduction to approximately 10,000 IFAs by 2013, the majority of this reduction happening towards the end of 2012 but there will be casualties in the shorter term too." A study by Aviva comes to a similar conclusion and claims that the number of Independent Financial Advisers (IFAs) operating in the UK will fall to 10,000 by 2013.
If each IFA has only 200* clients and if 10,000 leave the industry, then 2 million clients will be forced into the hands of the large banks.
This is FSA policy,
This is Treasury policy
This is Darling and Brown’s policy.
I assume this is not your policy! I hope that your warnings will be listened too and extended to the planned Retail Distribution Review - better named as Retail Redistribution Review?
*David Cox - SuuqeaMarch 2009 "Two million clients could be left without an IFA after RDR - 40% could leave the industry"
* Paul Selly HBOS "Bancassurers set to benefit"
Yours sincerely
SIMON MANSELL
TEMPLE BAR IFA LTD
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John Harding | 21 Oct 2009 1:22 pm
I have previously been critical of Mervyn King over his interest rate policy during late 2007 and the first two quarters of 2008 but he is quite right in his present assessment of the potential systemic risks posed by the worlds largest banks.
Angel Knight has her corner to fight, it presumably being part of her job description that she does so.
The problems go right back to the definition of a 'Bank' and 'Banking'
A Bank is a firm that carries out the business of Banking.
Banking is defined as the business carried out by a ......Bank!
A virtuous circle that allows anything to be undertaken.
Proprietary trading by most banks is actually nothing of the sort. It is not the 'Proprietors' ( ie. shareholders) money that is being risked by this trading. The banks rest on their reputation and the fact that they normally have sufficient funds to meet their liabilities. They now as Mervyn King points out, are even more secure because the worlds taxpayers have reluctantly been forced to come to their rescue.
The Governor is also absolutely right in stating that while separating out the high risk operations from the Banks is going to prove extremely difficult not doing so will mean that another crisis will appear and we shall have to go through this all over again.
So what do we need to do.
The risky trading must be extracted from 'Banks' to businesses with Partners who are genuinely risking their OWN money and therefore can be highly rewarded when they make a 'good' call, because THEY loose if the call goes against them. Nick Leeson bet and the Baring family lost their Bank. The last 18 months has shown that the 'Joint Stock' Banks have been doing the same but this time we had to bail them out. Senior managers, with very few exceptions, haven't even been held to account for crashing their banks and are still in place. And I don't just mean in the Banks that have had to accept UKFI as a shareholder. The same things are still going on in most other Banks (cannot think why but Barclays just came to mind) and they should be thankful that the Govt. managed to get a package together JIT as car manufacturers would say. Barclays got away by the skin of its teeth, not because it was any better than the others. It also wanted to buy a certain Low Countries Bank that RBS just pipped it to. Had this not happened the roles would probably have been reversed. With hindsight that we can say that this was a good Dutch auction to loose.
A small aside on bonuses. Why should so called 'Bankers' receive large bonuses when their deals rest on their position in a Bank? Their ability to operate trading systems is hardly exclusive to them! In their gambling if it was their own money that was riding on each deal would they be so cavalier? I doubt it!
Perhaps though this indicates a possible way forward from this. If all dealers were given a sum of money by their employers and they were allowed to trade until they had doubled this money their employer could take back his original stake and the dealer would then have his own account with his own money. The employer would then allow him to trade within the company and take say 80/90% of future profits. The dealer would thus continue trading, now with his own money, and the company would limit the trader to deals covered by the size his, hopefully gradually growing, 'pot'. The employer could pay a nominal salary and for traders with a good record they may arrange to increase this and/or take a smaller cut of trading profits. As a very strict, audited, rule ALL losses must be deducted from the traders 'pot'.
Perhaps Mervyn King could devise a scheme for dealers and 'traders' requiring them to trade with their OWN money.
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Nick Green | 22 Oct 2009 8:16 am
I am 100% behind Mervyn King on this but it will never happen whilst Banks remain major contributors to all three of the main political parties.We will never get honest politics until we find an alternative method of funding political parties.
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Jogga | 30 Oct 2009 10:46 am
Think service, think..PUBLIC SERVICE and act likewise...everything will be the right result.
Whatever results or cosequencies we are reaping are a product of surley an intention of and for those results...or the politicains and senior public servants must consider themselves...incompetent and give themselves the sack and find someone more able than thenselves...country bankrupt...so much cash injected...and it all still fails...is nothing to be proud of and be suited and booted about...get a sackcloth and sit in ashes...may helpt to clear a mind and soul that still gets paid full salary...that goes for all the top public servants responsible for the failures and grief to our society at large...
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