Alistair Darling stopped short of calling for an outright ban on shorting bank shares yesterday, as news emerged that the US government was preparing plans to crack down on the practice.
This came on the day that the Liberal Democrat Treasury spokesman, Vince Cable, called for the regulators to outlaw the shorting of banks to stop hedge funds "betting against the taxpayer".
The knives are out once more for the short sellers, a strategy predominantly carried out by the hedge fund industry, designed to profit from a decline in a company's share price.
On the BBC's Today programme, Mr Darling turned on those who use the strategy illegally. "I'm extremely anxious that we avoid a situation where people can manipulate markets, causing huge harm that is totally unjustified," he said.
The Financial Services Authority (FSA) had identified the problem this year and was trying to stop it, he added. The FSA said: "We are continuing to work with the Chancellor's High Level Group looking at what work we can still do around rights issues, which will continue to look at short selling. We believe short selling is a legitimate tool."
The Securities and Exchange Commission (SEC), the US market regulator, is preparing to enact measures this month that protect companies against abusive short selling. The changes could include tightening the rules governing fraud, potentially cutting the days traders have to deliver stock. It was predominantly to block a practice called "naked shorting", which involves selling the shares without actually borrowing them. Traders look to cover their positions after selling.
In June, Dick Fuld had supposedly threatened behind closed doors to rip the arms off the short sellers he believed were ganging up to destroy Lehman Brothers' share price. He called on the SEC to outlaw the practice, and the regulator implemented emergency measures to protect certain stocks, including Lehman, against naked shorting.
Short selling has been a political hot potato since HBOS's collapse in value earlier this year, which prompted an FSA investigation over market manipulation. However, its investigation failed to unearth any wrongdoers.
Elsewhere, speaking at the Liberal Democrat conference, Mr Cable blamed hedge funds as HBOS's share price fell a further 33 per cent at one stage yesterday. He said: "The FSA has intervened before to stop hedge funds wrecking rights issues for the banks. They must step in now."
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