30 Jul 2013

War and peace in battles between Britain and the banking sector

It has been an extraordinary few weeks in the relationship of Britain to its banking sector.

In late June, the outgoing Bank of England Governor Sir Mervyn King used the powers invested in the Prudential Regulatory Authority (part of the BoE) to insist, essentially on an almost immediate reduction in the size of Britain’s banks in relation to the buffer capital it held.

Formally this meant a leverage ratio of 3 per cent or 33 times a bank’s capital base. This move led to what we saw today, after some tortuous discussion, u-turns and the odd threat.

To begin with, Nationwide was caught in the net, perhaps inadvertently, and angering the treasury, which felt that Nationwide was a crucial and sober supplier of mortgage finance.

A u-turn enabled Nationwide to push out having to meet the target until 2015, rather than the end of 2013.

Barclays, meanwhile, issued a thinly-veiled threat that its lending into the real economy would have to be reduced. Today it quantified the impact on its £1.5 trn balance sheet: it would have to have been reduced by £427bn.

Instead today Barclays announced today that it would meet the bulk of its target by raising £5.8bn in new capital, £2bn in other forms of debt, and an £80bn reduction in its derivative assets. Barclays’ owners may feel queasy about shelling out this cash to support a bank that has paid many billions in bonuses to its own bankers.

Chief executive Anthony Jenkins says that the shareholders he has spoken to are supportive.

Three things emerge: 1. Barclays has been obliged to raise new capital.

2. It was allowed leeway until the middle of next year to reach the target.

3. The BoE/ PRA welcomed the announcement.

Bob Diamond resisted any capital raising, but Barclays has now padded up. Banking expert Charles Goodhart described the requirement to raise capital to meet new leverage ratios as Mervyn King’s “farewell present” to the banks.

The PRA was, tough, less harsh on timing than initially communicated. So peace has broken out now.

This is the start of the end of a long war, epitomised by Mervyn King and Bob Diamond’s mutual problems. In fact, most of the public policy debates around banking have been proxy battles about Barclays: from ringfencing to Libor to the Vickers and Tyrie Commissions.

The bigger point here is that the government is very wary of the trade-off between safe and stable banks and fostering recovery. That trade-off is now internalised within the Bank of England, at the PRA and the Financial Policy Committee.

Barclays is just the first test.

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