What is it about banks?

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FionaK
view post Posted on 12/3/2013, 01:51 by: FionaK




The Parliamentary Commission on Banking Standards has produced its second report.

www.publications.parliament.uk/pa/j...cbs/126/126.pdf

It is quite interesting and I wonder how it reaches the conclusions it does: presumably the "art of the possible" given the nature of our current government?

The point of these reports is to put in place structural reforms which aim to prevent another finanical disaster such as the one in 2008. The Commission do not think the government response to the first report is adequate, and hence this second report which considers the actions the government propose in response to the first.

It is clear from this report that the members are well aware that bankers are always crooked if they can be. For example, at the very start of the report, the first sentence of the introduction reads:

QUOTE
. In our First Report, we found convincing evidence on the benefits of structural reform, not only on grounds of financial stability but also for its potential to change the culture of banks for the better

An immediate admission that the culture in the banks is bad and the problems are not down to a few individuals where such frauds as the manipulation of Libor etc are concerned. They say that they want the reforms to be durable and they identify the threat to that stability as coming from the banks themselves, who will most likely seek to undermine or get around the "ring fence". They note that attempts at such structural separation between retail and investment arms have been frustrated by the banks in the past and point to the experience of america to support that view

QUOTE
The US has twice endeavoured to establish a far greater degree of organisational separation than is envisaged under the ring-fence, as early as the National Bank Act of 1866,17 and again—in the aftermath of the Wall
Street Crash—in the Glass-Steagall Act of 1933. Both of these attempts were eventually
frustrated, by banks establishing investment affiliates to get around the prohibition,18 and by bank lobbying which led to the repeal of key provisions of the Glass-Steagall Act in 1999. Drawing on evidence from the Governor of the Bank of England, we identified a
risk that banks would view the new framework and the rules that flowed from it as basis for negotiation rather than a line in the sand. The Financial Secretary to the Treasury has
observed that “the history of financial regulation shows that banks have been able to
discover ways of circumventing the rules”.

To my mind this is not a risk: it is a stone cold certainty. Yet the commission wants to give the bankers another chance. All they are recommending is that should there be a "disincentive" for them to do this in the form of a power to enforce institutional separation if they don't behave. They call this "electrification" of the ring fence, and they think it is important. To me it is long past the time for "threats": if we are going to deal with banks in this way, rather than by nationalisation, then we need to enforce that separation unequivocally. We have more than enough evidence to show that banks behave badly if given the chance: and that denying them that opportunity is a minimum requirement for effective regulation. I suspect it is the best they could get, but I have no faith at all that it will lead the banks to
QUOTE
comply not just with the rules of the ring-fence, but also with their spirit.

.

The discussion of those "reserve powers" contained in this report reinforce my view that this is flim flam.

The first "reserve power" recommended is a power to enforce separation of a particular bank if it does not respect the ring fence. Enforced separation is going to require the regulator to jump through hoops and is ultimately decided by the Treasury, not by the regulator. The banks' lobby group, the BBA, have been whining that such a power increases uncertainty for them and that, in turn, makes it harder for them to raise money to lend to small businesses: like they are trying???? Self serving rubbish, IMO. The commission agrees, and notes the source of this objection and the basis for it: it quotes Sir John Vickers (hardly a radical in terms of his views on banks) as saying

QUOTE
The only way I can see it increasing uncertainty is if banks intend to play around the boundary, flirting with it.

Quite. Of course that is what they intend, and of course that is the basis of their objection: and that is precisely why separation should be complete and should be robustly enforced right now: not after they have again cheated and after a lengthy process to establish that they have. Nobody had any idea what they were up to when they caused the crash: or so we are told. Why would it be any different in the future?

Interestingly the banks themselves did not agree with the BBA position when asked as individuals: they said they supported "electrification". All that tells me is that it won't work, and they know it won't. I am too cynical to take at face value this quote from a banker:

QUOTE
The reason why I support your proposal is that, if we think that for society as a whole it is better to have ring-fencing, both from a financial stability point of view and from a cultural point of view, I absolutely agree that you should have strong enforcement and strong incentives in order for that to happen.

Aye, right!

The government has now accepted this first reserve power, in principle: but has not agreed the corollary which is a system of independent review of the banks' compliance. So there will be rules but no enforcement, unless they change their minds: that always works so well, doesn't it? To be fair there will be annual reviews of the compliance by something called the Prudential Regulation Authority: but not the statutory independent reviews the commission recommends. It would be nice to be able to agree that second tier is not required:but the capture of the government by the financial institutions makes it impossible to have confidence in such a body. The regulators have not exactly impressed with their rigour and independence to date.

The second reserve power proposed is one which would threaten enforced separation across the banking sector as a whole, rather than individual naughty banks. The government has rejected that on the rather curious grounds 1. that they do not think the ring fence will fail, and so adopting that as a reserve power would run counter to that belief. 2. There is no need to legislate for this now as it is a decision better taken by parliament when the problem arises and 3. They don't think that is a decision for the regulator

The first is just mind boggling
The second is absurd
The third is, in the words of the Commission:

QUOTE
The Government has been at pains to make the case against the provision for full separation being implemented on the say so of the regulator. The Government has
erected a straw man which it has then successfully demolished, because we made no
such recommendation in our First Report. Instead, we envisaged that the legislative
provisions would be brought into force only in the light of the recommendations of the
independent review.

But, of course, there is as yet no agreement that there will be an independent review body: so the problem is not a straw man: it is real and created by the government itself

There is no better evidence for the view that this government (like its predecessor, IMO) is working on behalf of banks and not in the interests of those who elected them and who are having to pay the bill for the behaviour which the commission now seeks to constrain. Remember this is not even a proposal to separate the banks by statute: it is a proposal to threaten to do that if the banks do not voluntarily behave in a responsible fashion: like they have not done since 1866 and are never likely to do.

There is another telling paragraph in this report. The government said it wanted to deal with issues of
QUOTE
absorbing losses, reducing the costs and difficulties of
resolution and curbing incentives for excessive risk-taking

But in the proposed legislation none of that was there: only an objective of
QUOTE
protecting the continuity of the provision of core services

. That is disingenuous. As we saw in the case of the ultra vires decision by IDS, the law relates to what is in the statute: an Act which specified that as the objective would provide no basis at all for the regulator to tackle the risk taking etc that got us into this mess. I expect they thought the commission wouldn't notice: luckily they did. It remains clear that the government deliberately sought to ensure that the banks would not be legally constrained in any way, so long as the put cash in the ATM's and did not lose the money in your current account. The Act would be spun as tackling the wider issues but would not actually do it. Now,having failed to smuggle in this attempt to undermine the whole point of the legislation, they have apparently agreed to include the other objectives: whether they will do so properly is an open question, since they obviously do not want to; and they have failed to publish a draft of the secondary legislation they propose at the same time as the bill. The conclusion is inescapable, given they also sought to put as little as possible into the primary legislation and to leave much to the same kind of statutory instrument that Ian Duncan Smith so abused wrt workfare. The Commission came to the same conclusion as shown by this statement

QUOTE
We concluded that the heavy reliance on secondary legislation left open too many questions of significant policy importance, creating uncertainty for the
regulators charged with making the framework operational and for the banks required to
operate within it. In consequence, the jury was still out on whether the Government would implement the letter and the spirit of the ring-fence as then proposed.

Neither the government nor the banks have any intention that the banks should comply with the "spirit", and they are doing their level best to make sure the "letter" allows them not to, so far as I can see. They also tried to dilute the commission's recommendations on exemptions, to the same end. And, as with the workfare regulations they have also tried to ensure that there is very little parliamentary scrutiny of any changes to the regulations which may arise in the future. That too has been noticed and they say they will change their proposals: we will see.The changes are not adequate in the Commission's view as is clear when they say

QUOTE
the recommendations we devised to ensure greater transparency for secondary legislation which could move the ring-fence have been rejected by the Government in a single sentence: “The Government does not consider that an additional Parliamentary scrutiny process is necessary”

So that is all right, is it?

The report also notes that and earlier body had recommended that ring fenced banks (that is the retail banks we all use) should not be allowed to sell derivatives directly. The government wants the retail banks to be able to sell "simple derivatives" The Commission accepts there is a case for that so long as "simple derivatives" can be adequately defined (some hope); there are "adequate safeguards to prevent miselling"; and there are "limits on the proportion of a bank's balance sheet taken up by those derivatives". the mere list shows what is wrong with this and that is perhaps what the commission intend: but if they wish to be subtle in the hope that the government will get the message I think they are deluded: No, is the answer here. No room for compromise. In evidence to the commission one contributor put it more graphically

QUOTE
I can’t see the point of having a fence round the chicken coop, electrifying it to keep the foxes out and then inviting a family of tame foxes to live inside it [...] My views on this have hardened, and I think that, if you allow derivatives inside the fence, you weaken it, and even with the electrification proposals, you end up somewhere worse
off than Vickers mark 1

Yet the Commission wants to allow this, so long as there are safeguards: it is a measure of how far they are themselves in thrall to the banking industry, given that they started with a concern that the banks will use any wedge to try to circumvent the policy objective. Derivatives are surely just such a wedge.

The Commission does not think that investment banks should be allowed to own ring fenced banks directly: the government disagrees.

The Commission wants specific rules to prevent the shifting of liabilities between ring fenced and non ring fenced entities in a group. (amazingly, it thinks the risk of this happening is small, but worth explicit rules nonetheless). The government thinks there is no risk and so no need for a safeguard. In face of all the evidence of creative accounting and fraud designed to hide the reality of the bank's bankruptcy it doesn't seem all that unlikely to me: especially if an investment bank owns a retail bank, but there you are. In this connection the commission says:

QUOTE
6 Given the evidence that we have received about the capacity of the banking sector for creative accounting alongside restructuring in the past, we believe that even a small risk should, where it has been identified, be addressed through legislation.

I do not see how anyone can honestly disagree with that. Especially when some of these banks are to pay fines for fraud: how likely is it that those fines will fall on the retail bank and not the big money spinner, if they are free to decide who is liable? You decide.

This is a damning report. The government is doing it all it can to protect its paymasters: the Commission is alert to what they are up to but is not empowered to do much more than make a fuss: the bright spot is that public anger is enough to force the government to do something. It remains to be seen how far they can be forced to do something effective

On wider questions the report accepts that the risk lies ultimately with the public purse: they do not appear to have learned anything from Iceland and the outcome of the court case I outlined in another thread. That may be because international rules have changed for the worse since then; the judgement implied that was the case. If so, one might ask why those changes have been agreed; if not, or not completely, then I see no reason at all to accept any responsibility for failed banks. I do not think it is enough to talk of "bail ins", though those would be welcome if they ever come into being

Edited by FionaK - 12/3/2013, 01:35
 
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