In the U.K., Debate Over the Future of the Banking Sector Wages On

The Guardian:Banks Go On the Defense as Commission Gears Up
The Guardian: Nick Clegg Signals Support For Banks Breakup
FT: Clegg Calls For Overhaul of UK Banks
Finance News: Talks Between Government and Banks to Set Lending Targets are Delayed

U.K. Deputy Prime Minister Nick Clegg recently said that he would support the break up of British banks into a high-risk sector and a low-risk sector. Clegg said that there is a "strong case" for insulating high-risk, casino-type banking institutions from low-risk, High Street retail banking. This separation would help prevent banks from becoming "too big to fail" and protect the U.K. economy from having to bail out the banking sector again. Clegg's comments represent the most drastic call for the overhaul of the U.K. banking sector since he took office.

Clegg's remarks came on the heels of a speech from Sir John Vickers, the chairman of Britain's Independent Commission on Banking, which is currently conducting an independent review of the banking sector in the U.K. The Commission was put in place to evaluate the structural stability of the banking sector, and has a mandate to consider whether the universal banks (firms that combine retail and investment branches) need to be altered to prevent a future taxpayer bailout. The commission will also analyze whether there is enough competition in the banking sector, currently dominated by Lloyds Banking Group. It will make its final reform recommendations in September, 2011.

Vickers suggested that he would recommend an overhaul of the banks, though he stopped short of condemning high-risk investment banking. Rather, he suggested that retail banking operations could be required to make structural changes that would make them better equipped to handle a future crisis. Vickers further stated that it is unlikely that the Commission will propose radical forms of limited-purpose banking, although large banks may still be concerned that Vickers' comments will prompt the government to to require banks' retail operations to hold more capital, which could be costly.

HSBC executive Mike Geoghegan has already spoken out against the speech, challenging the logic behind the suggestion that larger banks should be required to hold more capital. Rather, Georghegan argues that capital requirements should be linked with the riskiness of the business model, not the size of the bank. Other investment banking executives have spoken out to defend their practices, including outgoing Barclays executive John Varley, who claims that Barclays does not do "the work of a casino," but rather, provides a "real economy service."

The debate over the future structure of U.K. banks is also being waged on another front. The government recently announced that discussions with the banks, the so-called Merlin Project, have reached a stalemate. These discussions are the government's attempt to get banks to agree to lending targets and pay disclosures in order to resolve some of the perceived problems that caused the financial crisis in 2008. One major source of disagreement has been David Cameron's vision of a "Big Society Bank" which would fund social enterprises and charities. However, the talks will likely resume next week.

Discussion Question: Should the government split up U.K. banks to help minimize risk? If this is the best move for the British economy, will the government be successful in achieving it?