The UK Treasury this month set out
its plans to implement the Independent Commission on
Bankings (ICB) reforms for the UK banking sector. But
lawyers have raised doubts on several key points, with some
even calling for a rethink of the entire approach.
White Paper on Banking Reform was published on June 14 in
response to recommendations by the ICB to ring-fence retail and
investment banking activities of so-called too big to fail
The ICB, chaired by Sir John Vickers, suggested the
government would only prop up the ring-fenced part, making it
affordable for the country and fairer for the UK tax payer. But
in its White Paper the Treasury suggested initially
ring-fencing deposits owned by individuals and small and
medium-sized businesses, rather than other products such as
Lawyers in the UK have, however, criticised the reports
lack of detail.
Linklaters Benedict James said a lot of the proposals
sounded quite good on paper, until you tried to figure out how
they would work in practice.
The requirement, stipulated within the report, that banks
within the ring fence only make loans to EEA entities was cited
as one fundamental problem.
Assuming the idea is, at least in part, that the UK
taxpayer shouldnt be standing behind foreign business,
does the government really think the UK taxpayer actually feels
any better about loans in Poland or Slovenia than loans to the
US or Jersey, which are outside the EEA? asked one City
Its difficult to see how this proposal would work with
an English company with a high percentage of its assets outside
of the UK or the EEA, for example. It remains unclear as to
whether it would be viewed as an EEA company that banks inside
the ring fence can make loans to.
But, according to Simon Gleeson of Clifford Chance, the
matter could be easily resolved if companies place of
incorporation was used to determine its standing in this
James, meanwhile, branded the depositor preference proposal
as a mistake. It reverses the sensible trend of removing
preferred creditors so that everyone ranks pari
passu, he said.
Suddenly weve got depositors ranking
ahead, he said. He questioned whether it was sensible to
overtly protect UK deposits ahead of internationally-held
bonds, at a time when banks were desperately trying to rebuild
their balance sheets.
Gleeson said such depositor preference ensured no uninsured
depositor would ever deposit with that bank because they are
subordinated to all the preferred depositors.
Insured banks with depositor protection can only raise money
from either retail deposits or from repo-ing securities.
Gleeson said this meant that the corporate banking business had
to stay in the real bank. It means the ring-fenced bank
is a very retail bank indeed, he said. I think
That the proposals would also seemingly make every bank
operate two sets of payment infrastructure systems - one for
the ring-fenced bank and one for the real bank could
present another potential issue, Gleeson said.
For the ring-fenced bank to be resolvable, it must have its
own independent access to payment systems.
This could make retail payments a lot more
expensive, Gleeson said. In the long-term this
might encourage the development of mobile phone-based and other
non-bank payment systems.
Proposals to let ring fences offer so-called simple
derivative products to its clients have also drawn criticism
around how they will work in reality.
James said banks do not currently hedge item by item.
They hedge on a macro basis across their whole
book, he said. Banks will now need to spend an
awful lot of time with lawyers trying to work out what is
permitted hedging and what isnt, within a macro position
Shearman & Sterlings Barney Reynolds questioned
whether or not the Treasury had taken the right approach.
He believed we were reaching the end of the line in terms of
regulating the too big to fail issue.
I dont think we can keep layering on much more
without killing the industry or completely changing it,
he said. And I dont think we can have an entirely
The market now needed consider whether the biggest banks
should never go insolvent, he said.
The idea of just adding more equity capital and cost
to keep banks going, come what may, has run its course,
said Reynolds. We need to start changing the
Why is there this presumption that everyone can sue to
the last drop and the whole thing has to go through an
insolvency process? he asked.
Within the shipping industry, a ship owner can set up a
limitation fund ensuring that when an incident occurs, everyone
can sue for their stake but they have to sue against this
limitation fund. Ship owners can therefore only lose a
pre-defined amount and thereby carry on business.
There needs to be something similar for banks, Reynolds
But Gleeson said making banks limited recourse would fail to
address the fundamental problem.
We need to keep banks going not just because of
credit, but also to keep money flowing around the payment
system, he said.
The collapse of a major bank does such damage because the
bank performs as a transmission mechanism for ordinary
commercial business. For a bank to continue to be able to do
that, it needs access to payment systems.
The trouble with limiting the recourse of banks is
that no sane payment system will allow a bank configured this
way to be a member of it and will certainly close out its
access immediately upon the event occurring, said
Responses to the UK government must be submitted by
September 6 2012.