InvestmentsJun 26 2013

Get the house in order

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ByAndre Spicer

It continued with the publication of the findings of the Parliamentary Committee for Banking Standards. This was quickly followed up by the Chancellor’s Mansion House speech where he announced the government would privatise Lloyds soon and hold off moving Royal Bank of Scotland back into the private sector for some time. Thursday morning saw the Bank of England’s Prudential Regulation Authority uncovering a £27.1bn blackhole in the UK bank’s balance sheet.


Despite the hail of announcements, two things have become increasingly clear. The first is that the sector really is serious about cleaning up its act, and it is willing to at least consider some very challenging measures to do so. The second is that UK banks will become far more concerned with financial safety and soundness. This means the careful management of risk will become increasingly central to their activities.

This increasing risk consciousness will have some significant implications for the sector. It will mean that banks will be run less like “loose federations of money-making franchisees” (as Manchester University’s Professor Karel Williams described them), and more like high-reliability organisations concerned with carefully monitoring risk. If this is the direction of travel, it could mean that large banks begin to look more like safety-conscious organisations like power generators, airlines or resource-exploration companies. Part of this is likely to be a culture that emphasises the broader purpose of banking, more robust whistleblowing policies, more long-term remuneration structures, more rigorous governance processes, and better regulation.

These reforms may prove to be a double-edged sword. They will make the banking sector safer and more responsible. But they are also likely to decrease variety in the sector. We have already seen the first steps towards this with the ‘bail-in’ of the Co-op. What has long been a mutual with members has suddenly become a company with shareholders.

Although the chief executive has played down the impacts of this change, it is likely to have some longer term effect on how the organisation is run. Maintaining the mutual ethos may be tricky when you have shareholders demanding a return.

The PRA’s analysis of the capital shortfalls in UK banks represents another significant challenge to the Co-op business model. One of the surprise findings was a shortfall of £400m on Nationwide’s balance sheet.

The mutual will be required to come up with a plan to raise this amount by the end of this month. Raising additional capital is relatively easy for private banks, which can go to capital markets. However, finding capital quickly is more difficult for mutuals owned by members. This is why the Co-op bailed-in bond holders, making them shareholders.