Friday, January 04, 2008

Darling's Bank Reforms

Not there yet

With 2008 looking uglier by the day, Darling spent Xmas on his reforms to head off another Crock crisis. According to the FT, (interview transcript here) he wants:

  • Special bank insolvency regime- modelled on the US system, the authorities would be able to intervene in a failing bank before the queues started to form, "to seize and protect depositors’ cash when a bank gets into serious difficulty, heading off the risk of a run on the bank"
  • Clearer decision making- intervention to be determined by "trigger points" (see below), with prime responsibility in the hands of a "Cobra-style" committee headed by the Chancellor
  • Deposit security- "Treasury officials said the deposits would be immediately secured and could then be repaid quickly or parcelled off to another bank, including to the original bank if it had been successfully restructured. The FSA would then oversee the future of the failed bank"
  • Deposit guarantee- limit likely be raised from £35,000, but not by as much as some have suggested: maybe only to £50,000, maybe even less

What should taxpayers make of it?

Setting aside the fact that key details are still missing, there are three immediate thoughts:

First, the special insolvency regime is a necessary step. And of course, it needs broadening to capture banks which pursue high risk liquidity strategies like the Crock's. But the authorities need to develop routine monitoring measures- waiting until a problem bank is forced to access lender of the last resort facilities is a recipe for panic and taxpayer bail-out. The FSA's supine approach to liquidity monitoring over the last few years has cost us a packet.

Second, Darling's plan envisages a deal too much political involvement. We criticised the Cobra decision making structure when it was first proposed, because the key decision maker is the Chancellor. Not only do politicians always put politics first, recent incumbents of No 11 have not impressed during crises.

In the US system, decision making is in the hands of the Federal Deposit Insurance Corporation (FDIC), who operate outside politics and on the basis of clear trigger points based on risk-based capitalisation ratios (eg see here). Banks know that if their capitalisation strength drops through the critical trigger point, the FDIC will act. Rules not discretion, just as we like it on BOM (eg see this blog).

Darling says in the Cobra approach there would be “no political discretion and very clear ground rules”. We say hmmm.

Third, with the limit on deposit guarantees, it sounds like Darling is caving in to the banks. They don't want to increase the limit too much, because they will have to fund it via their insurance premia (just like with the FDIC). But for taxpayers, a higher limit funded by the banks is exactly what we want. We know that depositors queuing on pavements to get out their money because it's over the guarantee limit spells politicians panicking and chucking £50bn of our money into Big Black Holes. We've had enough of that.

So for taxpayers, there's still some way to go: we need to see clearer rules, politicians taken out of the decision making, and the commercial banks made to bear more of the cost.