How will the government implement the ICB banking reforms?

Sir John Vickers, the architect of the recommendations contained in the Independent Commission on Banking (ICB) has criticised the Chancellor for watering down some of the reforms he outlined in his initial report.

Responding to a white paper outlining the government’s plans to implement the recommendations from the ICB report, he said: “The white paper proposals are far-reaching, but on some points – such as limits on the leverage of big banks – we believe they should go further.”

Sir John urged the government to resist pressure to water down the reforms further. The government decided not to implement tough new proposals on leverage ratios, the amount of equity in relation to total assets, because of the extra costs to the banks.

Although most of the ICB’s proposals on separating banks’ retail and investment operations have been implemented, banks are now to be allowed to include certain derivative products which are used to hedge interest rate and currency fluctuations. The government has been persuaded that these changes will help small businesses in their normal operations.

The government said it was “conscious of the need to balance stability with the economic recovery.”

In total the reforms are expected to cost the banks between £4 billion and £7 billion, plus an initial one-off charge of £2.5 billion.

The white paper was presented to the House of Commons by Mark Hoban, the city minister who said that events in the eurozone made banking reform “more, not less important.”

The four main reforms that the ICB report recommended be implemented were ring-fencing of banking operations, changes to capital buffers that banks hold, protection of savers funds and increased competition in the retail banking sector.

Here is how the original recommendations are likely to be implemented:-

Ring-fencing

Retail and investment banking operations are to be separated and protected with a further layer of core tier one capital. One important concession is that a wider range of activities will be allowed within the ring-fence, concessions that will particularly help Santander and Lloyds bank.

Capital buffers

Larger ring-fenced banks will have to hold an additional three per cent of equity, in addition to the seven per cent required under the Basel III agreement. There have been two main concessions to the proposals outlined by the Vickers report.

Banks won’t have to adhere to a tougher leverage ratio that would raise equity compared to total assets from three to 4.06 per cent and banks will not have to meet loss-absorbing debt requirements on overseas assets.

Deposit protection

Retail savers will now have first call on any capital available from failed banks, ahead of bondholders and other creditors. Savers will receive a maximum of £85,000 from the Financial Services Compensation Scheme (FSCS) from any one bank if it fails. Banks say this will push up funding costs and consequently the rates they charge on loans and mortgages.

Competition

The government has agreed that a new current account switching service will be available by 2013 and the ability to compare various accounts electronically will be available. Reform to the payments system and the sale of Lloyds Banking Groups branches will create a strong new competitor in the UK banking sector.

The original proposals are likely to be taken on board but they have been criticised as being the weakest element of the ICB report.

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