MSE News: Savers' deposits to be ring-fenced from banks' investment arms

CLAPTON

Gentoo365 wrote: »

I think that it is absolutely the right thing to gather opinions from bankers. The banks will outline the possible impacts of this move and explain the negatives for both the British economy and their customers.

Then it is up to the government (on behalf of the voters) to decide if the price is worth paying to have a more sustainable banking sector.

I agree with some of the suggestions, and disagree with some others. I also have strong opinions on other solutions.

Briefly,

1) Financial services regulations and compensation schemes will mean that the impact of a bank failure will not be felt by savings customers. Whilst this is a good thing it introduces moral hazard. Savings customers will no longer care if their bank is risk averse, nor will they worry too much about the customer service standards. This is because all banks will have to act in the exact same way. Timescales will be mandated, account terms will be equivalent and risk to consumers will be low.

2) If customers only care about rate, the banks that collect the most deposits will be those that can obtain a highest rates. If you assume that returns on investment depend on risk taken then the result is that the banks that take the highest risk will be the most successful at obtaining deposits.

3) Banks that are risk averse, or manage risk well, will be in the opposite situation. They will lose customers. They will be unable to obtain the required return on investment to pay the rates that customers demand. They will therefore either have to change their business model, or fail.

4) Without access to investment banks, insurance companies and wholesale markets the retail banks will have to make a larger percentage of their income from mortgages.

5) Due to combinations of the above facts the banks that survive will be those that take the greatest risk with lending. This is under the assumption that higher net income (after provisions and defaults) will only come from mis-pricing the risk. Again the 'winners curse' results in the bank that charges the lowest mortgage rate in relation to the customers risk profile being the one that wins the business.

6) Some banks will decide to be risk averse when lending. In the hope that the income lost from higher rates will be gained from lower defaults. However in the long run these banks will lose market share from lenders that are willing to reduce rates further. To the point that the mortgages are loss making.

7) The result will therefore be a banking system where the winners are those that take the most risk and the losers are those that price risk correctly.

8) This is not significantly different to what happened prior to 2008. It just changes the investments from wholesale to retail.

9) Therefore a further solution is needed. One that ensures that the moral hazard is removed. As we are unwilling to pass risk to consumers the solution must therefore be to limit the possibility of a more risky bank out competing a risk averse bank.

10) I believe the solution is therefore to limit the rate at which banks can offer to customers who have insured deposits. One possible limit is the BoE rate. One is a new rate set by the regulator.

11) This, I believe would result in risk averse banks being able to take deposits without having to offer unsustainable rates. There will still be banks that take undue risks with lending and investments in order to increase profit, however this impact of those failures will not be spread to the sustainable banks. As risky banks will not be able to 'steal' the customers by offering higher rates to tempt them away.

12) In addition, some banks will offer higher rate accounts, but those will not be insured. Hence the government will not have to bail them out, nor will they have to intervene. Regulation will ensure that (as with investment ISAs) customers are aware that these accounts have a different risk profile.

By the way, I have no idea why I numbered these points. Also I agree about the seniority of insured depositors over bondholders, but that is a whole other post.

I assume you are talking about 'ordinary' people's savings here and not business savings.

If the banks can't compete then there really is no point, from a savers perspective, of having more than one.

So maybe just have a government bank.. we could call it National Saving and Investments in which all saving are guarenteed and the rest have no guarentee.

Obviously the rest would have no retail savings in them and so would only compete in the non retail market.

Gentoo365

I mean specifically the savings that are covered by the Financial Services Compensation Scheme (or whatever equivalent exists in the future).

This currently includes consumer deposits and the deposits of some small businesses.

The banks will be able to compete. The spread between savings rates and mortgage rates will still exist. So there will be profit to be made. The fixing of the cash deposit rate will make savings accounts more reliable as a source of funding. Leaving the bank to compete on mortgage rates, efficiency, customer services and other products.

The difference is that there will be less risk of the 'Icelandic Bank' situation, where a competitor offers unsustainable rates which then results in other (safer) banks losing deposits and having to use other, less stable. sources of funding.

Basically, the idea is that a risk averse bank is less affected by the events leading up to the failure of a risky bank.

I base this idea on the fact that the UK side of the banking crisis was initially a 'funding crisis' rather than a 'credit crisis'. The two are related of course. However it seems to me that UK mortgages are not the main issue. The issue that the banks face is a run on deposits. This will be mitigated by limiting the savings rate.

There are a few issues I can see. One being that a rational consumer will switch to the insured products as soon as they see risk increasing. So there is scope for complicated products that 'auto-switch' from uninsured to insured on certain triggers.

Also there is the 'free market' debate, where a rate set centrally will be used as a political tool and be a part of policy. Which puts banks in an awkward position, as they may end up paying more than they can afford.

But these are details that can be overcome I am sure.

Chomeur

Amazing the reams and reams of regulation that banks are subject to and yet this common sense measure is not in place. Plus we're told it will take seven years to put in place. Anyone know if it used to be the case in the UK, or was there just Glass Steagall in the US?

talexuser

Chomeur wrote: »

Anyone know if it used to be the case in the UK, or was there just Glass Steagall in the US?

We had the "big bang" under the Thatcher government which de-regulated the City, and some argue started the "debt-fuelled" growth which followed for the next 20 years and led to so much of GDP being concentrated in the financial sector instead of manufacturing which declined over the same period? Banks were allowed to buy stockbrokers and start gambling so maybe it is kind of analogous? However it did lead to many city firms being bought out by foreign and US banks and importing their culture.

bigadaj

crankers wrote: »

LOL this is meaningless, it was mortgage lending which destroyed the economy, the housing bubble, that lending will continue as before, so basically it is no change.



So had these measure been in place previously we would still have had the housing boom and bust which destroyed the economy.

I think you need to give telex users info more credence, it's wasn't just mortgages in the uk, unlike Ireland or Spain.

Different banks lent for different reasons, rbs went bust because they overpaid for expansion ie laid too much for accruing other banks, lloyds primary problem came from bos lending money commercially recklessly to busineses wand private equity, northern oak was a housing bubble.

None of the banks came through unscathed, hsbc lost billions on household in the us but were big enough to swallow it, barclays dido a deal with middle east investors at punitive rates to avoid getting rescued.

As other such as gadget mind have pointed out previously, we have created moral hazard within the. Big banks. the truly shocking statistic is that over the past decade nine out of ten pounds generated by barclays has gone on remuneration, ie the shareholders have received a tenth of the return, a patently bankrupt system that needs reform.

sabretoothtigger

BOS was not part of Lloyds at that point or they'd not have been allowed most likely.
For a decade Lloyds was criticised for 'falling behind' young guns like Goodwin and then they go put their foot right in the middle at the end

There is an alternative to regulation and its very obvious. You let banks opt out of the system and invest money but give zero guarantee to savers with those banks.

That might be what they are doing, hedge funds will still take depositors money and gamble with it. However any bank on a high street wont be allowed. Like Bradford & Bingley put up a lady in a bowler hat for savers but never mentioned she would take that money and put it into USA sub prime debt.

Its going to force Barclays who do the friendly adverts also to cut loose their risky dealers into another entity and they will only get money from rich people and money markets

In USA I think anyone who puts in more then 100k signs a form to say they are a professional and you then allowed to go ahead.

The ironic thing is all that worry about Santander, I think they already do close to this. Each unit they run is unlinked to the others.
Its such a giant bank they must have some sort high finance trading unit somewhere but I dont believe its using UK high street funds

GeorgeHowell

Lloyds TSB was leaned on by Gordon Brown to save HBOS in order to save his bacon in a Scottish by-election the loss of which might have resulted in his political demise (or in hindshight accelerated it). It didn't take much leaning because the lust for corporate power and kudos on the part of the Lloyds senior management apparently made them bite his hand off when waiving of the usual competition concerns was offered. It is difficult to believe that the due diligence was diligent in any meaningful sense of the word. the Chairman and CEO of Lloyds HBOS were subsequently apparently and rightly fired. The public cost of saving Lloyds HBOS was in effect another example of the Brown regime trying to buy votes (esp in Scotland) with taxpayers' money.

sabretoothtigger

They'll turn a profit on that eventually so long as everyone pays off their mortgage its a good return for them. It just was far more then they could actually afford at the time due to lack of lending all of a sudden post lehman

Lloyds was blocked from a merger previously by the FSA, I think they had talked to Halifax before