What might a second banking rescue look like?

In thinking about how to achieve a more balanced and sustainable recovery after 2015, Labour knows it has to address banking.  The Banking Reform Act of this Parliament is not going to be seen as the final chapter of the 2008 crash. Labour may need to carry out a second banking rescue.  But this one will be about building a banking system that works – for customers, for businesses, for the economy, and – ultimately – for the banks themselves.  Without this rescue, the fragile economic recovery will stumble, and the reputation of banking will struggle to recover.

The puzzle is that while Labour ponders how to inject the proper codes of capitalism into its very citadel, it is charged with being anti-business.  In truth, it may be tasked with mounting one of the biggest business rescues in modern times – a rescue of competition, integrity and reputation.

The second banking rescue has to reset the market, establish genuine competition, unwind the public’s holding, and begin the long slog of restoring public confidence and rebuilding the financial sector’s reputation.  And banking has to be reconnected to the real economy.  While the City, post Big Bang, was increasingly hitching itself to a vibrant global financial revolution, it became de-coupled from vital areas of the real economy.  For Labour to achieve the objectives in its ‘2030 strategy’ the financial services sector cannot resemble a ‘city state’ within the wider nation.  A restructured banking sector will have to be reconnected with the actual profile of UK plc, and with its geography.  A sustainable recovery depends upon it.

Market domination is bound to come under question.  But Labour should be looking for banks that behave differently, rather than more banks that behave the same. There are two possible approaches.  Either branch disposals through a cap on permitted market share, or genuinely open up the market to new entrants.  But it need not be either-or.  A twin-track approach could work.  But the aim needs to be clear; enough providers to ensure genuine competition across the full range of banking products.  It helps that competition is now built into the objectives of the new regulatory architecture.  But that won’t be sufficient.  The market will only be genuinely competitive if the consumer can easily operate as a rational consumer might be expected.  And for that to happen, there will have to be easier switching.

The pathway for new entrants has to be made easier.  There are currently only a handful in play, as yet taking only a very small share of the current account market, although a slightly larger one in respect of SMEs.  Existing and future new entrants may succeed in gradually eroding the hold of the big four, but the pace may quicken considerably if Labour hits on a way to open up the payments mechanism.

A gearing mechanism also has to be put in place that will reconnect remuneration with performance.  Parliament’s cross-party Banking Commission has made a series of workable proposals here that Labour could endorse.  These include structures that reconnect remuneration with long term performance, allowing claw-back in the case of failures.  Governance changes will help support this, such as ensuring a place for a representative of front-line staff on remuneration committees.

Professional standards needs to be restored as well, with a new, robust Approved Persons Regime backed by a new licencing structure.  This will need to be accompanied by further reform to corporate governance structures, to ensure that in future boards are up to the task of overseeing their businesses and once again capable of performing the crucial function of holding senior executives to account. Banking’s ‘accountability firewall’ has to be brought down.  And no longer can serious economic or financial misconduct be decoupled from criminality.

A second banking rescue carried out along these lines should burnish Labour’s business credentials, rather than see it branded anti-business.  This is about ensuring that the rules of the market are intact.

Putting banking back into a position where it can stand once again on its own feet, without state subsidy, and engage with confidence in both internal and international competition cannot be anti-business.  It’s putting banking back into business.

None of that means banking has to be cut down to size.  Labour should carefully explain that this is not about challenging financial entrepreneurship or attempting to rein in the City with intrusive regulation.  But the City has to see that further reform is needed. London retains its skills and opportunity to be a leading global financial centre.  That’s good for the economy and is a fact of life we can and should be comfortable about.  But what we need to ensure is that the national balance of risk and opportunity accepted in taking that stance is indeed balanced.  ‘Too big to fail’ cannot be a feature in a genuinely competitive market place.  Pro-responsibility is pro-business.  What’s bad for competition is bad for stability.

If banks looks on this agenda with suspicion, and if they fear that the impulse behind it is anti-business, or if it believes it is only or mostly populist rhetoric, then it’s time for banking and for Labour to talk face to face.  This is no time for mixed messages or for misunderstandings.  A Labour government could not secure its ambitions for a sustainable recovery without a genuine reform of banking, and banking cannot regain a position of trust, or hope to win in the global race without reconnecting with the requirements of a genuinely competitive market.  It’s essential to work together on the second phase of the banking rescue.

James Plaskitt was a member of the Treasury Committee from 2000-2005