Vericool Finance

After a difficult gestation, the Government’s blueprint for regulating the City finally emerged blinking into the cold light of day. Observers anticipated few surprises in the White Paper, much of which is based on the relatively uncontroversial proposal put forward by Lord Turner, chairman of the FSA, in March.

As expected, the Chancellor made clear that he did not favour splitting up big and complex global banks, dubbing such proposals “simplistic”.  Instead, they will be forced to hold more capital to absorb losses and to have greater liquid assets to guard against a run on deposits.  The riskier a bank’s operations are deemed to be, the more capital they will have to hold. There will also be a new “backstop” power to prevent them borrowing too much.

The initial reaction from the City was broadly positive.  As well it might be. Investment banks, including Barclays Capital, are already inventing schemes to reduce the capital cost of risky assets on balance sheets to a practice BarCap calls smart securitisation.  Some will see this as a sign that financial boffins have already found a way to run rings around rules on capital designed to make banks safer.

Certainly signs of life in the securitisations market should serve as a warning to regulators: the plan to impose higher capital thresholds will only succeed if the riskiness of the derivative products can be accurately monitored. What does the White Paper say on that?  Not much. Little detail was given on how macro-prudential oversight is to work, or who will be in charge. As such, the Chancellor’s proposals are a wholly inadequate response to the banking crisis.

The bottom line is that Alistair Darling has plumped for fudge. Perhaps the biggest dollop is the new Council for Financial Stability, which is actually just a rechristened version of the old tripartite system, comprising the Treasury, the FSA and the Bank of England. The old trio failed miserably, largely because they couldn’t communicate effectively and things fell through the cracks.

In future, both the bank and the FSA will have slightly broader powers and the Council - chaired by the Chancellor - will be more transparent.  But these are mere tweaks.  The Chancellor has also deferred the important questions of exactly how counter-cyclical measures, such as jacking up capital ratios, will be applied.

Getting the details right is clearly important, but so is getting things done.  There is some good stuff in this White Paper, but unless momentum is maintained, the Government could end up wasting a good crisis.