The Business Secretary Vince Cable is demanding the immediate introduction of proposals to force the banks to ring-fence their high street and riskier investment arms that are due to be published by the Independent Commission on Banking on 12 September.
But David Cameron and George Osborne, the Chancellor, are sympathetic to the banks' demand for them to be given several years to build the "Chinese walls" to be proposed by the commission chaired by Sir John Vickers – which could see the reforms delayed until after the next general election.
Nick Clegg is backing Mr Cable and the timing of the reforms threatens to provoke a power struggle at the top of the Government.
The Chancellor is expected to endorse the Vickers blueprint, which will be based on ring-fencing the banks' retail and investment – or "casino" – arms, rather than the full separation originally favoured by the Liberal Democrats. More demands on the banks to ensure that the "Chinese walls" actually work may be added to the proposals in the commission's interim report issued in April. The retail arms would be forced to hold more capital in reserve so the banks would never need another government bailout.
But the banks have launched a huge lobbying exercise, extending to 10 Downing Street as well as the Treasury. They are hopeful of persuading Mr Osborne to delay the ring-fencing for years.
"There is a battle under way now inside the Coalition. It is all about timing," a Whitehall source said yesterday. The Business Secretary wants the changes added to the Financial Services Bill, which is already going through Parliament and will set up a new regulatory system for the City of London. He is worried that shelving the Vickers plan until after the next general election could mean it is never implemented. He suspects that bankers are citing the current uncertainty in the global economy as an excuse for delay in the hope that the reforms will be kicked into the long grass, never to emerge again.
Mr Cable will demand the Government uses its stake in the Royal Bank of Scotland and the Lloyds Banking Group to force the pair to ring-fence their high street and investment operations as soon as possible.
Yesterday Lord Oakeshott, a Liberal Democrat peer and close ally of Mr Cable, accused the banks of behaving "like car manufacturers who say they cannot afford proper brakes".
He told The Independent: "We cannot afford to wait. How many more banking crises will there be before 2019? The risks to the banks from the world economy are as high today as they were in 2009. Every day that goes by with no action on the Vickers report puts the British economy at more risk."
Lord Oakeshott argued that the risks in the global economy were a reason to act quickly, not to delay the reforms. He said the EU's response to the Greek crisis reflected the exposure of European banks to Greek debt, rather than the needs of the Greek economy.
The Confederation of British Industry (CBI) threw its weight behind the campaign by the British Bankers' Association to delay the shake-up.
John Cridland, the CBI's director general, warned that changes imposed on the banks could jeopardise Britain's already fragile recovery. "Taking action at this moment – this moment of growth peril, which weakens the ability of banks in Britain to provide the finance that business needs to grow – is just to me barking mad," he declared.
Mr Cridland said that political pressure for reform after the bailout of the banks should not drive the timing and scale of reform.
"We don't want to force some of our remaining world-class British companies to shift away from a focus on the UK because the rules have been set unilaterally in the UK," he said.
Mr Cridland's comments come a day after Angela Knight, the chief executive of the British Bankers' Association (BBA), said that plans to reform the sector should be put on hold until the economy has recovered and taxpayers have been repaid for bailing out the banks. She said: "This is the time to concentrate on economic recovery and paying back... the Government and taxpayers.
"By all means think about new regulation but now is not the time to add that as an overlay with respect to costs, uncertainty or whether it is going to do anything beneficial anyway."
But leaders of small businesses, who are anxious to secure more lending by the banks, called for the Vickers proposals to be acted upon swiftly.
Andrew Cave, spokesman for the Federation of Small Businesses, said: "We need reform of the banking structure now more than ever, and we have a window in time to achieve this... We absolutely need this to ensure that there are more routes to finance and that the competition drives down the cost of lending."
Banking reform: who's for – and who's against
Vince Cable Business Secretary
"The status quo is not an option that will survive this period ... It is essential to put the new arrangements in place as quickly as possible. We can't wait for another banking crisis to cause more damage."
Lord Oakeshott Lib Dem peer
"The banks are like car-makers who say they cannot afford proper brakes. There is no possible excuse for delay. Every day that goes by with no action on the Vickers report puts the British economy at more risk."
Andrew Cave Head of policy and public affairs, Federation of Small Businesses
"We need reform of the banking structure more now than ever, and we have a window in time to achieve this... We absolutely need this to ensure that there are more routes to finance and that the competition drives down the cost of lending."
John Cridland Director general, Confederation of British Industry
"Taking action at this moment – this moment of growth peril, which weakens the ability of banks in Britain to provide the finance that business needs to grow – is just to me barking mad."
Angela Knight Chief executive, British Bankers' Association
"We are in for a very difficult autumn. This is, therefore, the time to concentrate on economic recovery and paying back the Government and taxpayers. By all means think about new regulation but now is not the time to add that as an overlay with respect to costs, uncertainty or whether it is going to do anything beneficial anyway."
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