The Bank of England has begun to dismantle the protective apparatus with which it controls the markets - and interest rates - through a tiny band of specialist banks called discount houses.
The old system, until recently just as cosy in its own way as the old Stock Exchange club that was abolished in 1986, has survived with minor modifications well beyond the reforms in other markets.
This week the Bank has taken another typically slow and evolutionary step towards reform by giving a more important role to money market dealings in gilts.
One effect is to widen the number of banks and other financial institutions allowed to play a central role in the market. The Bank will now offer a fortnightly sale and repurchase agreement (a 'repo'), under which banks and building societies can borrow money directly from it. They will pledge their gilts holdings as security.
But yesterday two papers from the City Research Project, set up to report on risks to London's competitiveness, urged the Bank to introduce more radical change, warning that otherwise some of the hundreds of foreign banks in the City could be tempted to move to other European financial centres.
As well as wider use of repos, the papers call for a new private sector market in gilts repos, similar to that in the US bond markets.
They also suggest an extension of the right to borrow directly from the Bank of England to any bank. Finally, they say the Treasury's bank accounts, handling its vast flows of tax and spending, should be transferred from the Bank of England to the private clearing banks, also following a US model.
The papers were written by Norbert Schnadt, of the financial markets group at the London School of Economics, who argues that the strength of the domestic money market is an important factor in decisions about where banks locate.
But the London market system is out of line with those operated in most other financial centres, and many commercial banks are also excluded from the heart of it. They cannot, for the most part, deal directly with the Bank of England.
Mr Schnadt believes that in deciding where to do business banks will increasingly take into account how the new European central bank, based in Frankfurt, will manage a Europe-wide money market in a single currency. The faster Britain comes into line with European ideas on managing the money markets, the better for the City.
The importance of these professional markets is that they are where banks borrow and lend to each other, depending on whether their own dealings with customers leave them with either a surplus or a shortage of cash.
But central banks have a particularly keen interest in their domestic money markets because they use them to manage interest rates by controlling the supply of day-to-day cash to the banking system.
The Bank of England does this by ensuring that tax payments to the Government, channelled through the banks, always leave banks short of money every day, sometimes by as much as several billion pounds.
The banks then have to borrow from the Bank of England, which has them in an armlock - it dictates the interest rates at which they get the money. When the Bank wants to change base rates it does so by changing the rates at which it deals with the money market.
The oddity of the British system, compared with the Continent and the US, is that the Bank has always preferred to concentrate its dealings in the discount market, run by tiny banks such as Gerrard & National, Cater Allen and Union Discount. Their basic commodity is bills of exchange - short-term IOUs issued by companies and guaranteed by specialist banks, typically repayable in a few months.
Banks short of cash borrow from the discount market, which raises that cash by selling or lending its bills to the Bank of England.
The market is therefore an intermediary between the banking system and the Bank of England. But many commercial bankers think it would be more efficient to deal directly with the Bank.
Over the past decade there have been some modifications. For instance, clearing banks are allowed to deal directly with the Bank at the end of each working day if the discount market has not been able to supply all their cash needs.
Yet the basic structure has remained despite the fact that the whole business has been undermined by changes in the markets over the past couple of years. First, two of the clearers, Barclays and National Westminster, began to invest in enormous portfolios of the bills used by the discount market, which they now overshadow by the sheer size of their holdings
The very shortest-term interest rates, for overnight deposits - used for investing surplus money from one day to the next - make up a large part of money market dealings. These began to be dominated by the clearers' decisions.
Some banks, particularly foreign ones, complained they were being discriminated against because rates were unpredictably volatile at the whim of a few clearing banks and could become very high at short notice, losing them money.
Mr Schnadt said the very short-term interest rate was a 'key variable' for a bank. The rate, he added, was driven by institutional arrangements from which some banks benefited more than others.
'If it affects the banks it surely affects the banks' customers,' he added. 'If banks perceive this market is unpredictable and difficult to get a handle on they will go somewhere else.'
But, after years of protecting the discount market, a key factor prompting the Bank of England to look for changes was Black Wednesday, when Britain left the exchange rate mechanism. Billions of pounds were spent on foreign currencies to prop up the pound, the effect of which was a long-term shortage of sterling among the banks. Like still more technical forces at work in the market, this created huge shortages of money in the banking system every day that virtually swamped the old discount market.
To cope, the Bank announced a temporary monthly scheme that allowed banks and building societies to borrow cash directly without going through the discount market, with gilts put up as security. It is this scheme that has been made fortnightly and permanent and is soon to be extended to all banks.
So the biggest part of the shortages of cash in the banking system will be removed through direct dealings with any bank willing to put up bonds as securities, the method commonly used abroad.
Mr Schnadt agrees that the discount houses should survive as market-makers in short-term bills. The argument is over how far they should lose their protected status as privileged channels for the Bank of England's dealing with the banks.
Discount houses have long seen the writing on the wall and diversified into other areas - some, such as Cater Allen and Gerrard, with considerable success.
But, for the moment at least, the Bank plans to continue using their market to manage what should become much smaller daily fluctuations in the banking system - and it will still be the place where signals are given to change interest rates. This is a revolution taking a long time to arrive.
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