Ring-fencing raises fresh challenges for UK banks
Ring-fencing rules in the UK are creating yet more challenges for cross-border banks, which are seeing their operations further fragmented by the new rules.
UK banks will look very different after ring-fencing – both from each other as well as from US and European banks. This is one more aspect of banking regulation that is undergoing a 'Balkanised' approach that will make comparing the relative safety of different banks and different banking systems ever more difficult.
Two UK banks – Lloyds and Royal Bank of Scotland – are likely to have most of their operations inside the ring-fence, maybe as much as 90%. This situation has prompted Lloyds to request exemption from the need to have separate boards for the parent group and the ring-fenced bank, according to a report in the Financial Times.
By contrast, Barclays and HSBC as international rather than domestic UK players will put most of their activities outside the ring-fence including, in the case of Barclays, Barclaycard. The logic here is reduced funding costs since ring-fenced entities could be required to hold more capital in a bid to protect customer deposits.
The challenge for both banks and the regulator is to come up with satisfactory arrangements in three key areas – legal structure, governance and shared services and IT. This last one is particularly tricky as the authorities will want to see that IT systems can be disentangled so that, for example, the ring-fenced entity can continue operations unimpeded even if there are problems with the part of the bank outside the ring-fence.
UK banks with more than £25bn in deposits were due to submit their proposals to the Bank of England on January 6, 2015, with implementation set for January 2019. Expect some serious negotiation between the two parties between now and then and, given that this will lead to changes and exceptions, some very different looking approaches at the end of the process.
But, not only will UK banks look very different from each other, they will also as a group look very different from European and US banks, which are taking their own approaches to the question of structure. The US is further along the road with the Volcker Rule, banning proprietary trading from banks insured by the Federal Deposit Insurance Corporation, which is due for implementation by July 2015.
By contrast, the EU has yet to reach agreement about the shape of its structural reforms and the European Parliament is reconsidering the earlier Liikanen proposals to separate out trading activities. Once again the final result is likely to be altered by negotiation, have its own unique character and lead to a debate about how well it fits or does not fit with the UK approach.
No-one can tell the success of the various models until one is tested out in a crisis but, for sure, bank analysis is becoming more challenging. Says ratings agency Standard & Poor’s in a report on UK ring-fencing: “…the final picture of reform remains incomplete, and the existence of multiple regulatory reform workstreams, differences in their timing, and varying approaches across jurisdictions heightens the potential for inconsistencies in regulation.”
Brian Caplen is the editor of The Banker.
