One reason to worry about the chancellor’s plan for deregulation in the financial services sector is the dramatic language in which she pitched it. Rachel Reeves’s metaphor in her Mansion House speech last month about regulation in too many areas acting as “a boot on the neck of business” felt wildly over the top when you remember why tougher financial rules were needed in the banking sector in the first place. It was because the light-touch regulatory era caused the whole economy to be clobbered in the collapses of 2008-09.
In the event, it took until 2019 to implement fully the centrepiece of the clean-up operation: bank ringfencing, which requires UK banks of a certain size to separate their retail and investment banking activities. Now, six years later – no time at all in the grand scheme – the Treasury, lobbied by most of the big banks, is contemplating “meaningful” changes to ringfencing in the interests of economic growth. It feels far too soon to try anything radical.
The definition of “meaningful” is vague, it should be said. Outright abolition of ringfencing is off the table, thankfully, and some of the possibilities floated by the Treasury could be viewed as innocuous. Letting banks share back-office resources across the ringfence? Yes, that could be regarded as mere housekeeping. Allowing ringfenced banks to provide more products to UK businesses? Possibly, if we’re talking about low-octane services.
But the details do matter. The danger is that, if you create too many holes in the fence, you end up defeating the purpose of the construct. There are at least three reasons why Reeves should drop the inflammatory language and err on the side of caution.
First, remember the primary goal: to ensure that the state never has to bail out banks again – at least not the riskier trading activities. The plea from reformists is that other measures, such as stiffer capital requirements and “living wills” to organise an orderly wind-down, do the same job. Yet ringfencing is surely genuinely different because it is a structural measure: the core UK deposit-taking operations have to sit inside their own legal entity. Maximum protection for the deposit-taking core still feels a sound principle given what happened in 2008-09, and how the whole of the wretched Royal Bank of Scotland was dragged down.
Second, ringfencing may lower funding costs for banks. The perception of greater resilience should, in theory, attract a funding bonus. Put another way, regulators – with their eye on the overall stability of the system – might demand even higher capital buffers if ringfencing were to be meaningfully weakened. Would-be abolitionists grumble about the costs of trapped capital. Fair enough, but they probably wouldn’t like bigger capital buffers either.
Third, if the chancellor’s aim is more growth, why make it easier for UK banks to chase higher returns outside the UK? She should listen to the commonsense point made by Andrew Bailey, the governor of the Bank of England: “Removing the ringfence would most likely have a negative effect on UK lending, both in terms of cost and quantities.” If ringfencing has meant cheaper mortgages, it would be a political risk for a chancellor to mess with the formula.
None of which is to pretend that ringfencing has been a free lunch. Friction and expense clearly exist; the big banks spent a small fortune setting up the structures and have to carry extra overheads. Competition may also have suffered as big, ringfenced banks have concentrated on UK mortgage lending, and smaller banks have been forced towards riskier lending. Visions of a post-crisis world full of dynamic “challenger” banks never materialised.
But that is just to say that trade-offs exist. For the UK, a country that simply cannot afford another financial crisis like 2008’s, financial stability should still be the priority. A few minor fiddles might be an improvement because no design is perfect. But major reform is not needed.
