Will ring-fencing make UK banks safer?

Since 1 January 2019, large UK banks have been required to put a protective barrier around their retail services to comply with Vickers reform
by Phil Thornton 

As Britain emerged from its worst financial crisis for generations, the incoming Coalition Government set up an independent commission in June 2010 to look at reforming the banking sector.

The sector was on the ropes after Royal Bank of Scotland (RBS) had to be rescued with a £45bn taxpayer bailout. Launching the Independent Commission on Banking (ICB), then Chancellor George Osborne said: “There are fundamental issues of protection for an economy still reeling from a crisis that in Britain saw the biggest bank bailout in the world.”

The commission, chaired by Sir John Vickers, former director general of the Office of Fair Trading, was set goals of ensuring banks were more resilient against future crises, safeguarding core high street banks, and ensuring vigorous competition.
Ring-fence, not break upAlthough there was pressure to break up the big banks, the ICB and the government favoured creating a ‘ring fence’, with each bank keeping retail operations separate from investment banking, with their own boards, balance sheet and regulatory obligations. The aim was to end the problem of banks being ‘too big to fail’ by isolating and protecting those services where continuous provision is critical.

After the passage of the Financial Services (Banking Reform) Act 2013, the new model went live on 1 January 2019. Ring-fencing applies to banks with more than £25bn of retail deposits, so embraces Barclays, HSBC, Lloyds Banking Group, RBS and Santander.

All the banks affected have created a ring-fenced entity to hold retail and small business accounts. In 2018, Barclays completed the transfer in March, HSBC in July, and RBS in August. Santander and Lloyds Banking Group say they met the deadline.
Changing the landscape Banks have been given some discretion to adapt the rules to suit their models but the ICB estimates that between £1.5tn and £2.5tn of assets will be held behind the ring fence. “The basic need to set up the viable entity has been one of the drivers of the discretion they had about where they sited the fence within the group,” says John Liver, head of financial services regulation at EY. “For all the banks it has been a major project – there is no question about that.”

Banks had to take specific steps to reorganise the structure of their organisations. One example is RBS. It created a holding company – NatWest Holdings – that contains five licensed banks: Royal Bank of Scotland; National Westminster Bank; Ulster Bank Ireland DAC; Ulster Bank Limited; and Coutts and Company. Outside the ring fence are its investment banking activities in NatWest Markets, and its activities in the non-European Economic Area, at Royal Bank of Scotland International and Isle of Man Bank.

Banks had to adjust their existing operating model or implement a new one, alongside supporting organisation design for the ring-fenced and non-ring-fenced banks. This involved not just establishing clear roles and structures, but also determining how the different component parts of the bank continued to interact. A key consideration was how each bank’s operational and corporate core functions, including HR, would provide services to both banks. Within the organisation design, the split of responsibilities needed to be determined in order to make sure that the entities were able to demonstrate independence. Rather than have complete operational separation, banks opted to find a way for the two banks to share back-office support functions. However, each entity should have full and effective corporate governance and a culture that meets the new requirements expected within the differing ring-fencing structures.

Other steps included transferring customers’ sort codes and account numbers between entities and setting up new risk and decision-making processes. “They were large, complex and demanding pieces of work and certainly it was a major devourer of resource, capability and thinking, both strategically and operationally,” John says.

Brandon Davies, lecturer in banking at the University of Buckingham and former treasurer at Barclays retail bank, says banks needed to update technology and processes anyway. “The implementation of new regulation has been costly, but much smaller than the cost of additional capital, which was I think inevitable under any new regulatory requirements,” he says.

The full-length version of this article was originally published in the Q1 2019 print edition of The Review. All members, excluding student members, are eligible to receive the quarterly print edition of the magazine. Members can opt in to receive the print edition by logging in to MyCISI, clicking on My account, then clicking the Communications tab and selecting ‘Yes’.

Once you have read the print edition, keep coming back to the digital edition of The Review, which is updated regularly with news, features and comment about the Institute and the financial services sector.

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Published: 29 May 2019
  • Compliance, Regulation & Risk
  • The Review
  • ring-fence
  • Vickers reform
  • Regulation
  • compliance

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