Banks should be scaled down, says Bank of England

18 June 2009

The head of the Bank of England has called for financial institutions to be scaled down with retail banking arms potentially being split off from the riskier investment side.

Mervyn King's comments highlight tensions between the government and the central bank, with each holding contrasting views on the future of the system that regulates banks.

Speaking at Mansion House during an annual addresses to the City, King said: "If some banks are thought to be too big to fail, then, in the words of a distinguished American economist, they are too big. It is not sensible to allow large banks to combine high street retail banking with risky investment banking or funding strategies, and then provide an implicit state guarantee against failure."

King also floated the idea that riskier banks be forced to hold more capital, and suggested designing a comprehensive plan of action as to how a bank could be wound up in an orderly manner in the event it fails. “Making a will should be as much a part of good housekeeping for banks as it is for the rest of us,” he said.
His views were in contrast to those expressed by the chancellor Alistair Darling, who believes that while the banking system needs to be tightened, it shouldn't be fundamentally reformed.
“Many people talk about how to deal with the big banks – banks so important to the financial system that they cannot be allowed to fail," Darling said. "But the solution is not as simple, as some have suggested, as restricting the size the banks."
The chancellor wants regulators to consider the wider picture rather than concentrate on individual institutions: "This crisis has taught us that it is not enough to pass an individual firm as healthy. Regulators and central banks need to look more carefully at the system as a whole.”
However, he put the burden of blame firmly on the shoulders of the boards of the banks rather than the regulatory system - a view which King hotly disputes.
The Bank of England governor countered: "Blaming individuals is no substitute for acknowledging the failure of a system, of a certain type of banking. We have a real opportunity now to put that right and regain the trust that has been lost."
He also voiced concerns over the “limits” of the new powers awarded to the Bank of England since the downfall of Northern Rock. Although it oversees financial stability, the central bank falls to the regulator, the Financial Services Authority, to decide if a bank is failing.
“The Bank of England finds itself in a position rather like that of a church whose congregation attends weddings and burials, but ignores the sermons in between," King said.
"It is not entirely clear how the Bank of England will be able to discharge its new statutory responsibility if we can do no more than issue sermons or organise burials," King added.

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