Battle commences to define ring-fence terms

British banks' shares fell yesterday as the battle began to influence the "ring-fencing" of retail banking under proposals outlined by the Chancellor of the Exchequer last night.

Barclays was the biggest casualty, dropping by 2.7 per cent, reflecting its big Barclays Capital investment bank. Royal Bank of Scotland, which also has a large investment bank, was the next biggest faller, followed by Lloyds Banking Group and HSBC.

In his Mansion House speech, George Osborne accepted interim recommendations by the Independent Commission on Banking (ICB) that UK banks should protect retail banking from investment banking so that taxpayers protect only retail deposits in a crisis.

However, the ICB has made no detailed proposals about how to split the businesses. Some banks have argued that defining retail banking too narrowly could limit their ability to use retail deposits to lend to credit-starved companies.

Antony Jenkins, Barclays' head of retail banking, said yesterday: "It would be pointless to speculate on the best-case and worst-case [scenarios] because we don't have enough detail."

A deep split between the banks was exposed last week at the Treasury Select Committee. Lloyds, which is dominated by retail banking, supported ring-fencing, and HSBC, whose UK bank is already a subsidiary of its holding company, accepted the plan. It proposed a division to the MPs along current accounting lines so that loans held to maturity are on one side and volatile trading assets are on the other.

But Barclays argued that "universal banks" should be left intact and that critical operations, rather than parts of the balance sheet, should be housed in service companies. These companies, with their own capital and funding, would become legally independent overnight if a bank failed.

Royal Bank of Scotland's chief executive, Stephen Hester, told the MPs that ring-fencing could increase risk in the financial system because the taxpayers' guarantee of retail banking could encourage higher-risk retail lending. He argued that most banks that failed in the crisis were brought down by retail or commercial loans, which are riskier than people think, and not investment banking.

The banks have until 4 July to influence the ICB's final proposals, which are due to be published in September.