The Independent Commission on Banking in the United Kingdom - Essay Example

Retail Ring-Fencing
One of the most controversial recommendations of the Vickers Commission is that the banks’ retail operations should be ring-fenced. Banks will be required to establish a separate legal entity within their corporate structure to provide retail and commercial banking services all over the country. The reason behind this is to protect retail banking operations from risk-oriented financial activities and to ensure the continuous provision of retail banking services by ring-fenced banks, with reduced bail-out costs for taxpayers.
The government agreed with Vickers Commission that banks should have relative freedom in respect of their investment. Banks will be permitted to continue copyrighted trading. The logic is that investment of UK banks should operate without an implicit government guarantee and be allowed to fail in an orderly manner in case they enter into a financial crisis.

It is also predicted that the banks in the UK will face challenges in implementing ring-fencing requirements, given their current corporate structures. Any restructuring is likely to be an expensive process and can also create complexity. The recommendation that intra-group transactions take place on a commercial basis may result in burdensome administrative requirements on banking groups. The government has stated that it will consult further on the requirements necessary to implement this approach.

There are certain doubts that exist as far as the effectiveness of recommendations is concerned. The large exposure limits that are recommended in the report are designed to reduce the exposure a ring-fenced bank will have to other entities within its group. However, allowing secured exposure up to 45% of capital may prove unproductive in light of the write-downs of sovereign and asset-backed debts in the financial drawbacks (Kevin, 2007).

Raise bank capital requirements
The Vickers Commission has separately made various recommendations intended to raise the capital requirements of the banks in the United Kingdom. It is also an attempt to increase the ability of banks to absorb losses or any other financial crisis.

The ratio of equity to RWAs proposed by the Vickers Report for ring-fenced banks (of 10%) is higher than that proposed in Basel. The requirement for banks to have a loss-absorbing capacity of 17% is essentially more burdensome than under Basel III (Patrick, 2011). Therefore important banks will be required to hold capital at 11.5-13% of RWAs (Michael & Bernard, 2007). The government of the UK agreed that 17% is the appropriate number for large institutions, subject to further consultation. Moreover, an accommodative tax regime will be required subject to capital instruments subordinated debt for banks so that they could use these instruments to meet their enhanced capital ratios. HMRC is currently looking at ways to ensure these instruments work effectively and therefore reduce tax on interest payments.

An important concession has been made by the government to UK-based multinational banks. The Vickers Report had proposed that such banks were required to have primary loss-absorbing capital equal to 17% across all their operations. However, the government has stated that as long as a bank can assure that any non-UK operations do not pose a risk to the financial stability of the country, the requirement will not be applied to such operations. Such a bank could evidence this by making a credible plan for the resolution of foreign operations separately from its UK operations. This proposal is thought to benefit large banks whose corporate structure consists of separate subsidiaries for their operations in different markets all over the globe.

The proposal to accord insured retail deposits status would establish the most essential change to the hierarchy of creditors in UK insolvency law since the Enterprise Act. The government supports this recommendation, though further consultation will be required on the scope of change. Depending on the amount of an organization’s insured deposits, this could reduce the recovery of a floating charge holder and unsecured creditor out of an administration, with an unavoidable impact on the funding costs of retail banks.