As part of its on-going drafting of the Banking Reform Bill (BRB) which will implement the Vickers plans for ring-fencing retail banking in the UK, the Treasury recently released an impact assessment of the draft secondary legislation. It makes for interesting reading as it gives an initial indication of the costs the government thinks will be borne by the industry as a result of these policies.
The impact assessment sees two types of cost associated with ring-fencing: Firstly, higher capital and funding costs from the removal of implicit government guarantees (estimated by academics at £6 billion-£100 billion per year across the industry); and, secondly, operational costs arising from loss of diversity and cross-subsidisation services across groups, legal, accounting and administrative costs of adding new entities and subsidiaries, and the costs of duplication of services such as IT platforms and administrative functions to achieve the goal of operational independence.
The total cost to private banking firms is estimated at up to £4.4 billion a year, of which operational costs related to the ring-fencing proposals are estimated at £530m per year. And this is in addition to one-off transitional costs of up to £3 billion.
While firms will welcome these estimates, our analysis says there may well be other costs from the legislation which have not been fully factored in. For instance, the government impact analysis fails to take into account the costs of monitoring and reporting daily payment exposures as well as caps on derivative selling exposures. These may require significant upgrades to legacy data systems, but do not appear to have been factored into government assessments of the cost of these new rules.
As the impact assessment notes, ‘costs are likely to vary depending on banks’ business models, including their choices over the location of the ring-fence and of operational services such as data centres and other IT infrastructure’, with ‘some flexibility in how banks can adjust their businesses to the requirements of ring-fencing, which gives them scope to find an optimal business model.’
However, designing a strategy to prepare a complex banking group to transition in an optimal way to legislation as complex as ring-fencing requires time. For this to happen, rules need to be finalised as soon as possible and banks need to begin planning now. The sooner the Bill is passed, and secondary legislation set in stone, the sooner banks can finalise their planning to reduce long term costs and find efficiencies in the adjustment process.