Banking StandardsWritten evidence from Schroders

Objectives and General Approach

We believe that the UK banking sector is in need of reform. However, we are concerned about the speed with which this legislation is being introduced. This is very complex legislation with far reaching ramifications. Ring fences have not been introduced on this scale in any other countries. The short timetable and lack of wide public consultation creates the risk that flaws and loop holes are not spotted which could lead to damaging unintended consequences.

The amount that has been deferred to secondary legislation makes it difficult for us to comment on the overall impact of the proposals. For example key issues over the “height” and the “scope” of the ring fence are yet to be determined.

While we realise this is an Enabling Bill, we have concerns about the amount of powers that the Treasury is being given to implement policy through secondary legislation. In particular we have concerns that section 142E Power of Treasury to impose prohibitions, is too wide ranging.

Developments since the ICB’s report.

We are concerned that UK’s proposed ring fencing of retail and SME deposits is not fully comparable with the Liikanen recommendations. The High-level Expert Group endorses ring-fencing, but takes the opposite approach of the UK by proposing the ring-fencing of trading activities rather than “essential activities.” We believe that there is a risk that the EU and UK move in incompatible directions. In the long run UK banks could face enormous complexities of administering different ring fences.

In addition we believe that any ring fence or decisions on depositor preference should be compatible with the final version of the EU’s Recovery and Resolution Directive (RRD), which is due to get European Parliament approval in late November. We would advocate delaying legislation to ensure that ring fences are developed in parallel and a level playing field is maintained.

Specific Issues

Intragroup Funding

We note that the bill calls for the regulator to set tough intra group large exposure limits. We continue to believe that this is an area that requires consideration, particularly in the context of the potential volatility of funding which could result from the presence of the ring fence. We propose that collateralised exposures do not count towards large exposure limits where collateral is of appropriate quality with appropriate and regular haircuts in line with existing third party limits and posted daily. We are concerned that without this the presence of a ring fence could materially increase liquidity risk for banks in times of crisis.

Capital

We agree that PLAC of up to 17% of risk RWA for the EEA operations of UK headquartered banks is appropriate. While the government’s views on the type of instruments that count toward this are sensible and consistent with the RRD, we would urge delaying a final decision until the EC has finalised rules. We are encouraged that the RRD Rapporteur report has endorsed a risk-weighted asset based calibration of required bail-inable capital and debt. 

Depositor Preference

We understand that it is likely the RRD will effectively reject depositor preference by including provisions for the bail-in of the deposit guarantee schemes. The FSCS insurance already provides effective preferred status to insured depositors from their point of view, and we do not believe an additional benefit is gained by giving preferred creditor status to the insurance scheme itself and would put the UK at odds with the EU. We are concerned that at the margin that the proposals in the Draft Bill could increase the cost of wholesale funding for UK banks’ ring-fenced entities against European competitors, at a time when these entities already have to undertake additional wholesale funding to meet standalone PLAC requirements.

Covered bonds

We also seek more clarity on the issue of covered bonds issued out of the ring fenced entity and how they would rank in relation to the FSCS, in the event that the FSCS had preferred status. We feel that this is likely to become an issue given the likelihood of the mortgage book sitting within a ring fence.

16 October 2012

Prepared 2nd January 2013