'We didn't bottle it': watchdog defends 'transformative' plans

Call for big banks to hold more capital against losses but retail-investment split resisted

Banks breathed a sigh of relief yesterday as the Government's Independent Commission on Banking (ICB) stopped short of proposing radical measures to increase stability and competition in the sector.

Presenting what he called "moderate" interim recommendations on banking reform, Sir John Vickers, the ICB chairman, denied his team had gone soft.

"I absolutely reject any notion that we bottled it. These are absolutely far-reaching reforms. In the modern history of UK banking, if these reforms were implemented I think this could be absolutely transformative."

The banks have been lobbying hard in the run-up to the ICB's proposals. Barclays, HSBC and Standard Chartered have said they could move their headquarters outside Britain if the proposals cost them too much money.

Sir John said there had been "no ear bending" by politicians to tone down the proposals, but he pointed out that the ICB's remit was to consider keeping Britain competitive for business and the impact on tax and spending.

The ICB's key recommendation was that the big banks' retail banking operations should be ringfenced from investment banking to protect savers and taxpayers from losses on risky trading.

Banks have been able to raise cash cheaply in the market because their lenders believed the Government would take the hit if a bank collapsed, as happened with Royal Bank of Scotland and others during the crisis.

The ICB resisted the idea of breaking up "universal" banks like RBS and Barclays into separate investment and retail banks. Supporters of breaking up the banks include trade unions and the governor of the Bank of England.

Sir John admitted that the extra cost for the banks could lead to higher prices for customers, but insisted that the impact would be small and that the benefits to taxpayers would be worth it. He called the banks' bluff by arguing that they would find it hard to quit the UK and that their reputations would be damaged if they left to escape rules designed to make them safer. The ICB also called for big banks to hold more capital against potential losses than the amount agreed by international regulators. It recommended core capital to cover at least 10 per cent of the bank's loans. However, David Miles, a Bank of England economist, argued recently that "systemically important" banks could hold nearly double that amount to make them safer without a big impact on economic growth.

Paul Mumford, a senior fund manager at Cavendish Asset Management, said: "The banks will be breathing a sigh of relief today. Vickers and his colleagues have heeded bankers' warnings and have shied away from recommending a total split of retail and investment banking operations – the outcome banks feared the most.

"The ICB's bark has proved much worse than its bite and its recommendations won't seriously damage the competitiveness of the sector."

The credit crisis saw the disappearance of HBOS, Alliance & Leicester and Bradford & Bingley, leaving just five big high street banks. To increase competition, the ICB said it wanted Lloyds to sell "substantially" more branches than the 600 it has agreed with the European Union.

Shares in Barclays, RBS and Lloyds rose yesterday.

Dr Pete Hahn from Cass Business School, said: "Perhaps the fact banks are leading the FTSE 100 today is the best interpretation of the ICB report – the market believes nothing is likely to happen soon, if at all."