I was on Radio 5 Live last evening discussing the Vickers report on banking.
My argument was simple: ring fencing is not enough and for a very simple reason that does, however strike at the heart of this issue. I simply don't trust the directors of our banks not to loot the assets of ordinary people to fund their appetite for risk. The proposed ‘ring fencing' of capital within the vanilla banking parts of banks proposed by Vickers would not stop this as far as I can see. And we know from Bob Diamond that he has a renewed appetite for risk to increase returns.
There are good reasons for my concern. First, although capital preservation based on the concept of fiduciary duty is fundamental to UK company law (as my friend Tim Bush reminded the House of Lords recently, and which point they took on board) this has been forgotten by UK regulators. It has also been forgotten y UK accountants and auditors and the concept, based as it is on stewardship principles, is alien to International Accounting Standards which account on an entity basis which does not recognise capital in this form and therefore has no rules for it.
This means:
1) this principle of management has largely been forgotten and will therefore be ignored;
2) There are no accounting rules to sustain this concept in use at present — making enforcement nigh on impossible;
3) We have no accounting principles for such a ring-fence in any case — again making enforcement nigh on impossible;
4) It would be incredibly easy for management to circumvent any ring-fence precisely because all intra-group transactions are hidden from view in current reporting standards based as they are on consolidation — to which ring-fencing as heretical.
Of course, we could develop accounting concepts for ring-fencing, which are in some ways not far removed from the logics inherent in country-by-country reporting. But will we do that?
If not then this whole logic fails — precisely because of accountability — which is the last thing to which bank directors subscribe.
And for that reason the only answer is separate banks — because we can account for them and hold them accountable.
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I think we know it will suit the politicians and their paymasters, the City, to turn a blind eye to the deficiencies of ring-fencing. Fasten your seat-belts for the next crash!
The wider issues need to be taken on board as well. The ruthless drive for increasing returns Diamond style is based on racking up leverage and borrowing not only on ordinary retail banking sources but all sorts of other things. The rate of leverage on income streams is often phenomenal. The consequence is all sorts of severe collateral damage being done in many other sectors of the economy and to vast numbers of people who cannot afford it. Look at the carlex dot org dot uk for what has happened in leasehold properties. As it is the investment banks who are underwriting the fund and other speculators a very close watch needs to be kept on all of them and what they are doing. See my Banks For The Memory of Monday.
http://www.thedailymash.co.uk/news/business/bank-reforms-to-make-it-look-as-if-something-is-being-done-201104113708/
It seems like a pretty sensible approach to me.
“This could be achieved by isolating the UK retail banking operations… and placing them in a separately capitalised subsidiary”. To all intents and purposes, these are separate banks. Yes, common ownership remains – that is, I believe, a pragmatic approach to the risk question.
The point would be that an individual legal entity could not engage in both types of activity. The retail bank might be consolidated, but would also have to produce its own audited accounts.
The report goes on to state that restrictions on intra-group transactions could also be implemented. If this is in law, then it doesn’t have to be an accounting concept to come within the audit remit or to be capable of separate regulation.
The logic only works if:
a) All intra group transactions are disclosed – under IFRS that is not required
b) The bank is treated as a separate entity
c) Capital preservation becomes the focus of reporting – which it is not at present
I think all these are unlikely in a segment
Not least because there is one fiduciary duty in the combined group – and banks will abuse it
The fiduciary duty has to be separated for the board or splitting makes no sense
I’m not sure I agree… doesn’t the Companies Act requires the directors of ‘vanilla bank’ to consider that company in its own right, rather than the wider group? They must carry out their duties with respect to that company as a stand alone entity.
On IG transactions, Vickers specifically talks about possibly regulating those: it’s not an accountancy solution that would be needed here (though transactions would need to be identifiable within the accounting _records_ of that company, which IS required, again under Companies Act) but a regulatory one.
Potentially in real life there might not be enough separation between the holdco board and the vanilla bank board, and that might require directors on the vanilla bank board that are independent from the rest of the group, but I don’t think these are insurmountable problems.
It could work!
But a wholly-owned subsidiary must act in the interest of its shareholders, and that is the wider group, who will of course not be subject to the constraints imposed upon the vanilla bank.
In that case there is an absolute, and complete, conflict-of-interest inherent in these proposals without precedent in UK company law, with the directors of the subsidiary having goals conflicting with those of the group by which they are owned. This would require a radical rewrite of the law.
Surely the splitting of the banks would be so much more sensible?
“But a wholly-owned subsidiary must act in the interest of its shareholders, and that is the wider group” where is this from? This “sentiment” is not contained in CA 2006. If it were why cannot the subsidiary use this “reason” to justify an obligation to tax avoid?
This is how s176 CA 2006 will be interpreted by banks, I am sure
It is used to justify tax avoidance now, as you know
That’s wrong – but it doesn’t stop it
Do you mean s172 rather than s176?
Yes – it was 176 in the Bill and I spent so long talking about it then I still recall it as such