Turner warns break-ups to hit stability

THE forced break up of the &ldquo;too big to fail&rdquo; banks into retail and casino institutions would actually increase instability in the financial sector and worsen the economic impact of future banking crises, the City watchdog warned yesterday.<br /><br />Lord Adair Turner, chairman of the Financial Services Authority (FSA), said proposals to separate traditional banking operations from riskier investment banking and trading functions would leave the financial system even more vulnerable to meltdown.<br /><br />Turner&rsquo;s comments came as Lloyds and RBS prepared to outlined their disposal plans to satisfy competition concerns. He did not directly comment on the shape of those break ups but criticised proposals for a so-called &ldquo;narrow banking&rdquo; model where banks that serve the consumer invested only in government bonds while the rest of the system was deregulated but must operate without any prospect of a taxpayer safety net.<br /><br />He said: &ldquo;The extreme narrow banking proposal is clearly doable in practical terms, a law could be passed which achieved this effect, but I believe would fail to address the most vital problem and could produce a financial system even more vulnerable to instability than today&rsquo;s&rdquo;.<br /><br />He instead advocated tightening capital requirements placed on trading activities rather than creating laws &ldquo;prohibiting some activities and allowing others&rdquo;.<br /><br />While the cost to the taxpayer of bailing out banks attracted most attention, he said the biggest cost was to the economy, a fact ignored by proponents of reining banks in to the narrow operating model.<br /><br />He also challenged assumptions that size matters in terms of bank failures, saying: &ldquo;Amid our current concerns about &lsquo;too-big-to- fail&rsquo;, we must not forget that&nbsp; problems can arise among mid- or small-size banks which have such similar business models that the failure of one inevitably creates concerns about the sustainability of others &ndash; Northern Rock&rsquo;s failure posing immediate questions about the sustainability of Bradford and Bingley&rdquo;.<br /><br />RBS declined to comment but its chief executive Stephen Hester is believed to be among a group of bank bosses opposed to the speed and severity of the break ups being pushed by the authorities.<br /><br />City of London Corporation policy chairman, Stuart Fraser described Lord Turner&rsquo;s speech as &ldquo;welcome, measured and comprehensive&rdquo;.