Ring-fencing rules are not necessary to put an end to bank bailouts
Loyal readers will know that this newspaper has never been a fan of bailouts, and certainly not those that were distributed to certain banks in the wake of the credit crunch and subsequent financial crisis. Indeed, the lack of a robust bankruptcy code for large financial organisations was a factor (albeit only one) behind the crisis itself.
Lacking a mechanism for orderly wind-down, people knew that banks were effectively backed by the state – a situation that created extreme moral hazard, and encouraged senior executives to leverage their banks to the max and push risk-taking to extremes.
Tory MP Andrew Tyrie, the bullish head of the Treasury Select Committee, is therefore quite right to raise concerns regarding Britain’s progress in ending “too big to fail”. And he is right when he says, as he did during a speech in the City last night, that public tolerance for any future bailouts would be “wafer thin”.
The very notion of state bailouts is offensive to anyone who believes in the benefits of liberal markets, which themselves depend on the fact that businesses can fail, as well as succeed.
However, it is not so clear – as Tyrie argues – that ringfencing rules, currently being developed by the government and regulators, are necessary to put an end to bailouts. Such measures are based on fallacies, for example the belief that reckless “casino banking” brought down banks (when in reality, ringfencing would have done nothing to protect failed retail operations like Northern Rock, Bradford & Bingley, et cetera).
Another is the idea that retail banking was made more dangerous by “cross contamination” from investment banks – a neat piece of rhetoric with little evidence to back it up.
Tyrie insists that ringfencing will make it easier to clean up a failed bank yet admits that there is no reason in principle why this must be the case – “some years later” the need for ringfencing could be re-considered, he says.
But in the meantime the authorities have got themselves into a sticky situation. By proposing complex and inevitably unpopular measures, they are now having to deploy defiant language and the lingering threat of enforced break-ups for any banks that “game” the rules.
Instead of simply delivering a clear-cut, legally robust system for banks to fail, authorities have muddied the waters, combining this crucial issue with their desire to correct “conduct failings” and influence how banks are managed. Their insistence on ringfencing banks is in danger of producing more questions than answers.