Leading article: A missed opportunity for radical reform

Share
Related Topics

Britain's banks are too important to be permitted to go bankrupt.

That fact was revealed in spectacular fashion in 2008, when the previous government rescued the sector with taxpayers' money. This was the only route available. The alternative was to see a general economic collapse, quite possibly followed by social breakdown.

But this privileged status enjoyed by the banks has created a disastrous system of incentives for the employees and managers of these institutions. These giant banks do not only take deposits and make loans – they also place large bets with borrowed money. The blanket state guarantee of banks' liabilities means that when these gambles pay off bankers generate large profits and pay themselves obscene bonuses. But when these gambles fail, as they did in spectacular fashion in 2007/08, the taxpayer ends up with the bill. Profits are thus private; losses are socialised. This is not capitalism: it is a welfare state for bankers and their financial backers. Worse, now that the state guarantee has been made explicit, bankers have a direct incentive to take ever more irresponsible risks.

The Independent Commission on Banking (ICB), established by the Coalition last June, was tasked with proposing a cure for this illness in our financial system. The commission's interim report, published yesterday, recommends the medicine of "ring-fencing". Banks' retail operations (the part that is vital to the functioning of the British economy since it administers the deposits of ordinary savers and businesses) would be turned into subsidiaries, separate from risk-taking investment-banking arms. The committee claims this will ensure that the vital retail operations of banks continue when large institutions run into difficulties. The banking arms, on the other hand, could go bust.

Will this create better incentives within the banks? That depends on how credible those who lend money to banks find ring-fencing. Will investors demand a premium for putting their money in the bonds of an investment banking subsidiary of a giant bank because they perceive it as more risky than the debt of the retail operation? If they do, the reform could be effective in imposing market discipline. But if not, it will mean that the assumption of a state rescue for a stricken investment bank has survived. The managements of those firms will then continue their business as usual. In other words, the proof of the pudding will be in the eating. Ring-fencing is probably better than the present situation, in which investment bankers can gamble with the cushion of an unlimited state guarantee. But that is not the standard against which the ICB should be measured. The crash of 2008 was the largest financial catastrophe since the First World War. The job of the ICB was to recommend ways of making the banking sector safe, not marginally less dangerous.

And the ICB had a clear alternative path: complete separation of retail and investment banking. That would have wiped out any doubt in the mind of bankers or investors about the limited nature of the state's guarantee. Yet the committee's members chose not to go down that road. The report's justifications for this are terribly weak. It hints at the "costs" of a full separation and the "benefits" of the universal banking model. Yet it does not spell out what it thinks these are, or how much they are worth.

The report reads as if it lacks the courage of its own convictions. The substance points one way, but the conclusion does not follow. The committee's chairman, Sir John Vickers, bristled yesterday at the suggestion that the ICB had "bottled" the challenge handed to it. But in its failure to explore a truly radical restructuring of Britain's dysfunctional and dangerous banking system, that is the description that is likely to stick.

React Now

Latest stories from i100
iJobs Job Widget
iJobs General

Data Analytics Manager

competitive: Progressive Recruitment: My client who are a leading organisation...

1st line call logger/ User access administrator

£9 Per Hour: Clearwater People Solutions Ltd: Our client based in Warrington a...

Shine Night Walk 2014 - 'On the night' volunteer roles

Unpaid Voluntary Work : Cancer Research UK: We need motivational volunteers to...

Accounts Assistant (Accounts Payable & Accounts Receivable)

£23000 - £25000 per annum: Ashdown Group: Accounts Assistant (Accounts Payable...

Day In a Page

Read Next
Liberia immigration officers wearing protective gloves inspect the travel documents at a border post with Sierra Leone, 30 July (EPA)  

The Ebola outbreak teaches us an important lesson about aid

Natalie Bennett
Save the tiger: The day America’s love of backyard tigers led to a horrific bloodbath

The day America’s love of backyard tigers led to a horrific bloodbath

With only six per cent of the US population of these amazing big cats held in zoos, the Zanesville incident in 2011 was inevitable
Samuel Beckett's biographer reveals secrets of the writer's time as a French Resistance spy

How Samuel Beckett became a French Resistance spy

As this year's Samuel Beckett festival opens in Enniskillen, James Knowlson, recalls how the Irish writer risked his life for liberty and narrowly escaped capture by the Gestapo
We will remember them: relatives still honour those who fought in the Great War

We will remember them

Relatives still honour those who fought in the Great War
Star Wars Episode VII is being shot on film - and now Kodak is launching a last-ditch bid to keep celluloid alive

Kodak's last-ditch bid to keep celluloid alive

Director J J Abrams and a few digital refuseniks shoot movies on film. Simon Usborne wonders what the fuss is about
Once stilted and melodramatic, Hollywood is giving acting in video games a makeover

Acting in video games gets a makeover

David Crookes meets two of the genre's most popular voices
Could our smartphones soon be diagnosing diseases via Health Kit and Google Fit?

Could smartphones soon be diagnosing diseases?

Health Kit and Google Fit have been described as "the beginning of a health revolution"
Ryanair has turned on the 'charm offensive' but can we learn to love the cut-price carrier again?

Can we learn to love Ryanair again?

Four recent travellers give their verdicts on the carrier's improved customer service
Billionaire founder of Spanx launches range of jeans that offers

Spanx launches range of jeans

The jeans come in two styles, multiple cuts and three washes and will go on sale in the UK in October
10 best over-ear headphones

Aural pleasure: 10 best over-ear headphones

Listen to your favourite tracks with this selection, offering everything from lambskin earmuffs to stainless steel
Commonwealth Games 2014: David Millar ready to serve up gold for his beloved Scotland in the end

Commonwealth Games

David Millar ready to serve up gold for his beloved Scotland in the end
UCI Mountain Bike World Cup 2014: Downhill all the way to the top for the Atherton siblings

UCI Mountain Bike World Cup

Downhill all the way to the top for the Atherton siblings
Save the tiger: The animals bred for bones on China’s tiger farms

The animals bred for bones on China’s tiger farms

The big cats kept in captivity to perform for paying audiences and then, when dead, their bodies used to fortify wine
A former custard factory, a Midlands bog and a Leeds cemetery all included in top 50 hidden spots in the UK

A former custard factory, a Midlands bog and a Leeds cemetery

Introducing the top 50 hidden spots in Britain
Ebola epidemic: Plagued by fear

Ebola epidemic: Plagued by fear

How a disease that has claimed fewer than 2,000 victims in its history has earned a place in the darkest corner of the public's imagination
Chris Pratt: From 'Parks and Recreation' to 'Guardians of the Galaxy'

From 'Parks and Recreation' to 'Guardians of the Galaxy'

He was homeless in Hawaii when he got his big break. Now the comic actor Chris Pratt is Hollywood's new favourite action star