BoE King throws another grenade into bank-regulation debate in bid to shape legacy

By:
Sid Verma
Published on:

Outgoing Bank of England governor Mervyn King's calls for a tigher leverage ratio swims with the popular tide in favour of stronger bank regulation and sets Carney up for a showdown with the UK Treasury.

UK bank regulation has been a consistently moving target during the past four years, triggering investor flight from banks’ equity and bond products, amid fears that new rules will render business models uneconomic. As a result, large-cap UK banks have traded at a discount to their respective book values, partly amid a ‘regulatory uncertainty’ premium, exacerbated by shifting sands at Basel and at the European level.

What’s more, UK regulators have given mixed signals about how to balance the need to boost credit growth while stabilizing the financial system. On the one hand, the UK continues to pursue a stricter capital requirement than its European partners, while calling for a quicker transition period for Basel III compliance. UK authorities impose a 10% core tier 1 binding ratio – versus Europe’s c7% to 9% target – to be supplemented with an additional 7% bail-in debt requirement. What’s more, the Bank of England (BoE) has publicly beaten up banks over their inadequate reporting and apparently disingenuous risk-weighting for mortgage portfolios, in particular, triggering investor fears over the quality and level of provisioning of retail-focused lenders.

As one analyst says: “With Vince Cable [UK business secretary] calling the City a ‘cesspit’ and the BoE questioning what banks have on their books, it’s fairly obvious why credit supply has been weak and why banks’ share prices are trading at cheap levels, despite the slightly improved economic backdrop.”

 
 Carney (L) & King; Source: Reuters
On the other hand, in January, Mervyn King, the outgoing BoE governor, supposedly embarked on a road-to-Damascus conversion in favour of pro-bank regulatory norms by spearheading Basel’s shift to a diluted liquidity coverage ratio. However, the move immediately sparked accusations of regulatory capture, while UK chancellor of the exchequer George Osborne’s humiliating isolation in Europe this week, in rejecting a cap on bankers’ bonuses, has reignited populist ire over the banking reform push.

What’s more, various BoE initiatives, to counter the pro-cyclical tightening in financial conditions, have frequently been derided as a banking subsidy rather than a credit boost for borrowers in the real economy, such as the hitherto disappointing Funding for Lending Scheme and extended liquidity facilities, with both seen as a boost to banks’ net interest margins rather than as a fillip to loan growth.

In addition, the flurry of recent scandals, such as the mis-selling of insurance products and Libor manipulation, have reinforced calls for ever-tighter financial regulation to reduce the incentives for risk-taking, and reignited the question whether universal banks are still too complex to manage or simply too big. Despite the public opprobrium, Osborne has rejected the full separation of banks’ investment and retail units in the upcoming banking bill.

It’s this populist fervor against banks and regulators that formed the backdrop to King’s last appearance at the UK parliamentary committee on banking standards on Wednesday, where he lashed out against bank lobbying, and called for a punitive leverage ratio as well as the full nationalization of RBS to ensure the troubled lender can be broken up into a “good” and “bad” bank.

Here are some choice highlights of his testimony, courtesy of Reuters, and ask yourself if it is still 2009: 

King on so-called ‘regulatory capture’:

"I was surprised at the degree of access of bank executives to people at the very top – it was certainly easier access to people at the very top than the regulators had."

"[Before 2007, regulators] knew that if they were tough on a bank the chief executive could go straight to Number 10 ... Over time this has changed clearly since then, but the access probably hasn't."

Leverage ratio:

"I would be much happier with leverage ratios of 10 to 20 than I would be with 25 or 33."

"There are some aspects, particularly on leverage, where the financial policy committee would like to have greater powers and where we feel that the original Vickers proposals on leverage were the right ones and that the concessionary leverage that's been made was a mistake and it would be better to go back to the original Vickers proposals."

Too big to fail:

"The unknown question is whether the powers that we've been given will in fact be adequate to get rid of the too-important-to-fail problem."

"My own personal view is that it would be sensible to have a proper review after four or five years not just of the ring-fence but of a whole range of issues that I would put under the umbrella heading 'Has the United Kingdom solved the too-big-to-fail problem'."



When the levy breaks

Some analysts were left distinctly unimpressed by King’s appearance. Dan Davies, a bank analyst at Exane BNP, tells Euromoney: “This was a slightly mischievous appearance by King. On the one hand, we are meant to believe massive changes to the liquidity ratio was a sensible and technocrat-led initiative while the dilution of the leverage ratio is a result of bank lobbying. In other words, it leaves the impression that things that are sensible can be credited to King while less popular things are other people’s fault.”