Finance & economics | Britain's banking supremo

King plays God

The governor of the Bank of England wants to reinvent finance

When central-bank governors attack
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When central-bank governors attack

WHEN central bankers talk about interest rates they are famously obscure. Not so when it comes to discussing banks. In a speech on October 25th at The Economist's Buttonwood Gathering in New York, Mervyn King savaged big banks and criticised the new Basel 3 rules as too soft. Then he said what he really thought, arguing that “of all the many ways of organising banking, the worst is the one we have today.” Possible remedies included not just breaking up banks, but also “eliminating fractional reserve banking”—the centuries-old practice of banks taking in deposits and lending most of them out in riskier and longer-term loans. Having ignored finance for a decade the Bank of England now seems to want to reinvent it.

That is, admittedly, more fun than shifting base rates by 25 basis points once in a while. But since the Bank will take over bank supervision in Britain from the Financial Services Authority (FSA), Mr King's stance is deeply controversial. At the Bank there seems to be a lack of unanimity. Mr King and Andy Haldane, the author of some imaginative papers on finance, are radicals. Paul Tucker, a deputy governor who helped negotiate the new Basel 3 rules, is thought to be more pragmatic, as is Adair Turner, the chairman of the FSA.

The British government isn't keen on breaking up big firms—even if that proves to be the recommendation of a committee of wise men it has asked to review banking reforms. Beyond Britain, no major regulator agrees with Mr King. The Swiss authorities, which also face the problem of giant banks based in a medium-sized country, recently rejected structural reform of Credit Suisse and UBS in favour of a big layer of “contingent capital” on top of the Basel 3 regime (see article). A similar requirement in Britain is both sensible and still the likeliest outcome of all the soul-searching. But Mr King has backed himself into a corner. If the committee of wise men, whose judgment he has endorsed, recommends breaking up banks and the government rejects their conclusion, could he really remain the banking regulator?

Mr King's speech was replete with academic references but bankers say he shows little knowledge of, or interest in, what they think. Only one of Britain's big banks, HBOS, made losses that would have overwhelmed the new Basel standards. Mr King appeared to reject this defence outright, arguing that actual losses are less relevant than theoretical losses banks would have suffered had the state not intervened in finance.

Mr King rightly disdains short-term borrowing, but does not acknowledge that Barclays and the rescued Royal Bank of Scotland have cut their reliance on it and built up cash reserves, and HSBC and Standard Chartered have long had more deposits than loans. As to whether it would matter if these firms moved abroad, or if their constituent bits were bought by foreign firms, the Bank has expressed no opinion.

All of which may be dismissed as the self-interested carping of fat cats. But even foreign financiers with little business in Britain are amazed that the governor of the Bank of England does not seem to want any of the large banks he is charged with regulating to exist. The Bank's top brass, says the boss of one of the world's largest firms, are “behaving like a bunch of middle-class guys who cannot see the bigger picture.” Mr King, he adds, had a bad crisis and now has “no idea” what he is doing. For some that sort of attack is evidence that Mr King is taking on the banking lobby. For others it is an unsettling judgment on the institution in charge of regulating the world's international banking centre.

This article appeared in the Finance & economics section of the print edition under the headline "King plays God"

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From the October 30th 2010 edition

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