December 5, 2023

U.K. Banks Brace for Restrictions

LONDON — As Wall Street banks fight to fend off further regulation, the battle in Britain over how best to manage financial institutions considered too big to fail is just beginning.

On Monday, a volley will be fired at the country’s politically and economically powerful financial sector by a government-backed commission, which is expected to propose that Britain’s largest banks take steps to separate their trading and deposit-taking functions.

The proposals from the panel, the Independent Commission on Banking, will not be definitive; the commission is to produce a final recommendation to the government in September. But its expected recommendations on how to handle the systemic risks that large banks pose to the health and well-being of the economy are in many respects a more direct challenge for British banks than the similarly intended Dodd-Frank law has been for their U.S. counterparts.

The British banks, which during the peak of the boom generated, in corporate and individual taxes, roughly a third of their country’s tax take, are not taking the assault lightly. Some have hinted darkly that they might even move their base of operations to New York or Hong Kong from London.

Last week, Robert E. Diamond Jr., the chief executive of Barclays, issued a full-throated defense of keeping riskier investment banking and supersafe deposit taking under the same roof.

“It’s the model,” he said, “that’s enabled us to build a bank that’s diversified by business, by geography, by customers and by funding sources.”

But already leaders of the commission have called into question the argument — one that has long served as a core maxim of international banking — that universal banks like Barclays and Royal Bank of Scotland in Britain and Citigroup and Bank of America in the United States provide a public benefit due to their size, diverse range of services and ability to attract low-cost capital.

“In this regard,” John Vickers, a former chief economist for the Bank of England who is chairman of the banking commission, said during a speech this year, “it seems quite hard to identify and quantify real efficiencies as distinct from purely private gains.”

Mr. Vickers’s tone may be more subtle than that used by the country’s chief bank critic, the Bank of England governor, Mervyn A. King, in arguing that banks in Britain are still too large for the country’s good. But the broader message is clear: The drive for profits in large banks surpasses the drive for efficiencies and the result is that such actions continue to pose a systemic risk to the national and global economy.

With the British banking sector much larger as a share of the national economy than its U.S. counterpart, it is no surprise that the debate has been more pointed in Britain than in Washington.

“This is a midsized country with an oversized bank system,” said Peter Hahn, a former investment banker at Citigroup who teaches finance at the Cass Business School in London. “We need to figure out a scalable bank system for the taxpayer to back.”

The three largest British banks built on the universal banking model — HSBC, Barclays and Royal Bank of Scotland — alone had assets in 2010 that exceeded Britain’s economic output of about £1.4 trillion, or about $2.3 trillion. In the United States, the assets of the top five banks represent around 60 percent of a G.D.P. of about $14.9 trillion.

Two of these banks, Barclays and Royal Bank of Scotland, had investment securities books, which include the types of toxic securities that caused banks on both sides of the Atlantic to come close to failing in 2008, larger than their outstanding loans. The British government remains a majority owner of Royal Bank of Scotland and Lloyds.

The most far-reaching option under consideration would separate, or ring fence, the deposit taking areas of the banks from the investment banking side. The commission is not considering requiring them to separate into independent companies, as happened in the United States in the Depression of the 1930s, but to operate as distinct subsidiaries with their own balance sheets belonging to a broader holding company.

That proposal, which would make it considerably more expensive to raise capital for investment banking, would be much more painful for Britain’s banks than the so-called Volcker Rule in the United States. Under the U.S. approach, originally advocated in a stronger form by Paul A. Volcker, the former Federal Reserve chairman who served as a White House adviser to President Barack Obama, banks’ freedom to trade with their own capital and manage hedge funds would be limited. But they would still be able to borrow money economically, since their balance sheets would remain unified.

For some experts in Britain, the U.S. approach simply isn’t strong enough.

“In the end, you just can’t regulate these banks — they have too much money and too many lawyers,” said Andrew Hilton, the director of CSFI in London, a financial services research group. “We should be prepared to split the casino bank from the utility bank.”

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