Protecting taxpayers from the banks

The Independent Commission on Banking has recommended that UK banks should have their retail banking operations ‘ring-fenced’ from riskier investment banking.

This recommendation in the interim report from the Commission on Banking is a step short of forcing the complete separation of retail and investment banking operations.

The report also recommended that Lloyds should sell off some of its branches, in order to increase levels of competition in the banking space.

We will have to wait until September to see their final recommendations, but this interim report gives a fairly good indication of the future direction for UK banking.

Whilst the government is under no obligation to accept any recommendations made by the Commission, they are likely to implement suggestions which will protect taxpayers from the cost of any bailout in the future.

Banks will not want to ringfence their retail and investment operations, as this will be a costly exercise. It is however the lower cost option than a complete separation of the two operations, which is probably the reason why banking shares have responded positively to the news this morning.

Another way in which taxpayers can be protected from the banking sector is through higher capital requirements.

The interim report recommends that banks set aside 10% of their capital to cover potential future losses. In practice this means they would need to keep £10 in reserve for every £100 they lend to businesses or consumers.

This recommendation goes further than the new European regulations which require banks to have 7% capital reserves.

Assuming the recommendations contained within this interim report are fully implemented, we can hope to avoid a repeat of the situation where banks needed urgent taxpayer support to avoid financial collapse, due in part to the contagion of retail operations with failures in investment banking.

The banking sector is likely to remain a pariah for some time to come, although steps like this should help to drag their collective reputations out of the mire.

Photo credit: Flickr/HowardLake