Vickers reforms could cost sector £8bn a year

Banks and building societies are facing up to the potential for up to £8bn in additional costs each year after the government approved the reforms for the sector put forward by the Independent Commission on Banking yesterday (19 December).

In its response to the recommendations of the Commission, which was led by Sir John Vickers and which suggested ring-fencing retail banking operations and more stringent capital adequacy requirements for big banks, the government includes a cost-benefit analysis that put the costs to the sector at between £3.5bn and £8bn a year.

This estimate, which was based on a modelling exercise performed by the largest banks comparing future balance sheets with and without the ICB reforms by the time of full implementation in 2019, was wider than the Commission’s own analysis, which out the cost at between £4bn and £7bn.

The Treasury highlights in the paper criticisms of the initial ICB estimates, in particular that banks had been asked to model costs before the final recommendations were known, but caveated that its own figures were based on “very substantial assumptions” from banks on future business levels.

These private sector costs would be concentrated in the largest banks and building societies, the Treasury adds, with smaller institutions likely to face costs that are “significant” for their own business models but small in “absolute terms”.

In terms of the cost to the economy, Treasury estimates based on the Financial Services Authority’s macroeconomic tools put the figure at between £0.8bn and £1.8bn, significantly lower than the £1bn to £3bn estimate originally produced by the Commission.

This equates to between 0.08 per cent and 0.14 per cent of GDP and a fall in tax receipts of £300m to £650m a year.

The Treasury adds that these costs do not take account of the “benefits to GDP from enhanced financial stability”.

The ICB had estimated that the probability of financial crises occurring and the cost when they do - around 63 per cent drop in GDP - means that there is an assumed cost of around £40bn annually of financial instability.

Based on predictions that the reforms will reduce the likelihood of financial crises by around 10 per cent - an assumption based on previous predictions that Basel III reforms will reduce this potential by 30 per cent - and that they will reduce the GDP cost of any crisis by 25 per cent, the Treasury estimates that implementing the proposals will save the economy around £9.5bn annually.