Today saw the release of the much-trailed report from the Independent Commission on Banking. Unfortunately it misses the main point
Set up to look at reforming banking regulation in the UK, the Commission’s report should have been a blueprint for how a bank could fail and be wound up with minimal disruption to the wider economy and at no cost to the taxpayer.
It could have set out what various scenarios would look like and have provided an indication of who bares the risks. Instead it seems to have bypassed these crucial issues and instead focused on the distraction of ‘ring-fencing’.
It would be wonderful if such a move did make it clear there would be no more taxpayer bailouts, but it does not. Neither does putting a firewall between the retail and investment sections of a bank mean it is less likely to fail; if it did then, who knows, maybe some cautious banks would have already structured themselves this way. We certainly would not have seen Northern Rock decimated.
Banks should be allowed to fail in as similar a fashion as possible to other businesses. The question is how can they do so, without risking another colossal taxpayer bailout and a crash in the economy? It is after all not that long ago that regular bank failure in the UK was an accepted part of the system, indeed even in the US banks fail regularly with hardly a fuss. It was the idea of implicit bailout encouraging risky lending that caused the system to falter on such a monumental scale.
The problem here is not bank failure and neither is it under-regulation. It is a lack of clarity about who bears the risk in our banking system. This report fudges this central issue again.
As the government considers what to do here it should work out what it is trying to achieve. Is it a banking system where banks will never fail? It should not be but even if it is these reforms will not make this less likely. Is it the orderly wind up of banks when they do fail? This is what their focus should be and this is what Sir John Vickers’ report fails to achieve.
If only the simplest answer was the right one. Unfortunately, when it comes to banking reform, it is not. The government needs the courage to look for it instead of going after the easy option.
Mark Littlewood is director general of the Institute of Economic Affairs