The main aim is to allow bad banks to fail safely without harming other institutions or retail customers, and to remove the implicit state backing to the largest banks in the sector.
Retail banks will be separated from investment banks by a ring-fence, capital requirements will rise and resolution procedures will be reformed to make sure bondholders, rather than depositors or the taxpayer, loses out in the event of any bank collapse, as proposed by the Vickers report last Autumn.
However, some of Vickers’ plans were recognised as threatening the quality of services offered, and undermining the UK’s industry compared to less heavily regulated industries in other countries.
Under the new proposals, basic hedging products will be allowed within the ring-fenced banks, giving SMEs access to instruments which manage their risk exposures but were banned under Vickers’ plan.
However, in exchange for that the banks will have to step up their risk management procedures.
Similarly the limit on retail banks’ access to wholesale funding markets will not be as strict as Vickers envisaged – international guidelines are still being determined, and the government says it does not want to make funding conditions more difficult for UK banks than their international rivals. The new proposals also back a three per cent leverage limit, not Vickers’ four per cent, keeping in line with the Basel plans and again stopping UK firms’ competitiveness being undermined.
The City of London Corporation welcomed the changes, arguing: “Leverage standards should be agreed within an international framework otherwise Britain could be placed at a competitive disadvantage.”
But Sir John Vickers disagreed, saying the limits on leverage “should go further,” and urging the government “to resist pressure to weaken [the plans’] effectiveness.”
WHAT IS IN THE WHITE PAPER?
Retail banking operations will be ring-fenced, with operations core to consumer and small business services separated from investment banking.
Those ring-fenced operations will face limits on exposures to other banks – they will only be allowed to carry out tasks like facilitating other institutions’ payments and managing liquidity.
The biggest banks will hold 17 per cent of risk-weighted assets as primary loss-absorbing capital.
Bail-in bonds will be used to make creditors cover some of the cost of a bank failing, without a full collapse.
But depositors will still be protected and will have a senior claim to bondholders, as well as a legal guarantee on deposits up to £85,000.
Banks must comply with Basel III’s three per cent tier one leverage ratio.
Differences from Vickers
The binding leverage ratio of three per cent is in line with other countries but allows more borrowing than Vickers’ proposed four per cent, as the tighter limit would make UK banks less competitive than their foreign rivals.
Ring-fenced retail banks will be able to sell some “vanilla” derivative products, like interest rate swaps, to small firms – vickers did not want this to happen, but it enables SMEs to better manage risk exposures.
Limits on ring-fenced banks’ wholesale funding operations will not be a strict as Vickers planned, again because of competitiveness concerns.
Building societies will be exempt from ring-fencing rules.
Guidelines have been issued regarding overseas capital exemptions, becoming more accommodating to big banks and giving regulators more certainty.