THE rescue of Northern Rock, and the subsequent injections of taxpayers’ money into RBS and the forced merger of HBOS and Lloyds, stemmed from a clear failure of Ed Balls and Labour’s tripartite regulatory structure for financial services. And when a Liberal Democrat trade secretary and a Conservative chancellor came together to try to agree a policy on banking reform last year, they found agreement on how to improve the regulation no easier.
So Vince Cable and George Osborne turned to Sir John Vickers to come up with a solution. Vickers recommended the separation of investment banking from retail banking and the imposition of reserve ratios for banks to hold in the event of the markets turning on their investments. On Monday, these recommendations were largely adopted.
But do they pass the acid test? Will this prevent the taxpayer from ever having to step in again? Unlikely. The moral hazard remains: even under these reforms, banks that go bust may still call on British taxpayers to bail them out.
Capitalism requires that private companies take their own investment decisions, and the taxpayer should neither be too prescriptive with bankers nor underwrite their activities. We need to return to the principle where banks are proper limited liability companies that are wound up if they fail – just like any other company.
Responsibility for the risks banks take should sit on the shoulders of the directors (who act for those putting up the risk capital). And if we tell banks they will be allowed to fail, they will have to make their operations and charging structures more transparent to customers to earn their trust.
A clear statement from the government that it will never again step in to bail out a bank, combined with some gentle encouragement to the banks to be more transparent, might result in three styles of banking:
1. Deposit account retail banking, where you are guaranteed to get your money back when you want it. You may pay a fee for this, but it’s safer than stuffing your money under a mattress.
2. Loan or bond account banking, where the bank admits that your money is not on deposit, but is actually loaned to it in return for an agreed interest rate.
3. Money market or investment banking, where the money is invested in the stock market, managed funds or other complex financial instruments. Your money can be professionally managed or customers who show they understand the risks can have the freedom to invest as they want. These accounts may yield higher returns but the downside is that the value of your investment can go down as well as up – even to zero.
Of course, even if you shift all the risk profile overnight, you can’t restructure the shape of the banking system in the same timescale.
It will be a long time before we can replace the deposit guarantee and investor compensation schemes with alternatives that do not place the burden on taxpayers, such as investor insurance.
But we should make a start on getting banks run again by directors who exercise a genuine duty of care to their shareholders. We need to find a way to allow a more competitive banking system, where both bankers and savers act more diligently.
Syed Kamall is Conservative MEP for London and sits on the Economic and Monetary Affairs Committee of the European Parliament.