Sunday, November 1, 2009

Britain to break up the taxpayer owned banks: Citigroup Beware

The Telegraph is reporting that Britain will follow through on its promises to break up the banks that are taxpayer owned in order to dampen the banking monopoly that dominates that market. The two semi-private banks slated for gutting are Royal Bank of Scotland and Lloyds Banking Group, both of which were saved by taxpayer bailouts in the last year or so. In addition, Northern Rock, which is completely owned by the state, looks like it will be split into a good bank and a bad bank, with the good portion to be sold off as soon as possible:

Many of their assets will be sold off in deals which ministers will present as fulfilling Gordon Brown's promise that the taxpayer would get "pay back" for the multi-billion pound Government bail out of the sector last year.

Assets to be sold could include Cheltenham & Gloucester, currently owned by Lloyds, and RBS-owned NatWest branches in Scotland.

The three new-look banks, all of which have their roots in smaller-scale high-street operations of the past, will be:

* The TSB, the old Trustee Savings Bank whose branches were bought up by Lloyds. These will now be resurrected across the UK.

* Williams & Glyn's, which had a brief period of operation in the 1970s and 1980s. Owned by RBS, it will be formed of hundreds of the Scottish group's English branches.

* BankCo, the "good bank" portion of the entirely state-owned Northern Rock, which will include retail deposits, mortgages, and branches. Ministers are keen to sell the operation off as soon as possible.

So, while the US banking system continues to consolidate and the too big to fail problem increases exponentially with each additional derivative contract, our colleagues across the pond are enacting the type of reforms that are desperately needed in the US. Both Paul Volcker and Mervyn King have in the last 2 weeks called for a separation between commercial banking and proprietary trading. In one of his emails this past week, fund manager Whitney Tilson of T2 Partners advocated the same split. James Kwak of The Baseline Scenario has directly addressed the topic of whether bigger banks are better and has come to the conclusion that “[t]his whole argument, that global companies need massive banks, is one of those things that sound plausible until you actually start thinking about them.” Additionally, I have also read a compelling counterpoint to the idea that if the US breaks up the banks or regulates them too severely (with capital requirements or leverage caps) the banks will leave the US for less restrictive locals and as a result we will all be worse off. I am paraphrasing but the gist of the argument was that we should be willing to let the banks leave if that means that they take their unabashed risk taking with them and we are left with a more stable banking system and economy.

Accordingly, there is a chorus of very distinct voices rising up on the side of breaking up the banks and separating the risk-taking functions from the plain vanilla lending operations. But where do the US Treasury and Fed stand on this topic? Maybe the better question to ask is where the bank lobbyists stand. Clearly, the banks have no interest in the perceived logistical nightmare of splitting up or the potential loss of monopoly power. So, my guess is that if the lobbyists have their way there is little hope of the US following in the shoes of its British counterparties. What is probably the most amazing aspect of the plan coming from Alistair Darling is that the government is putting in provisions to protect against further consolidation. The Brits seem to believe in “never again” while Geithner and Co. believe in “let’s go back to 2007.”

Officials said the move would increase competition on the high street and would mean a better deal for customers looking for mortgages or current accounts which did not charge fees.

They added that the announcement would mean the break-up of the established "monopoly" over retail banking of the high street giants – whose numbers also include Barclays, Santander (owners of Abbey) and HSBC…

Under the deal, the new institutions will not be allowed to be taken over by any purchaser which currently owns a British retail bank. Ministers will stop this happening using their powers as controlling shareholders in Lloyds, RBS and Northern Rock, rather than by new regulations.

Channeling my inner Nassim Taleb: less opacity and reduced concentration within the financial system leads to robustness and minimized fragility. (You can tell I have listened to way too many Taleb presentations.) As an added benefit, the more competitive nature of the mortgage and credit markets could lead to lower fees for consumers and businesses. Obviously, these actions in the UK provide minimal solace for those lucky Citibank customers who now have to pay 30% or more on their credit card balances despite their solid credit ratings. But I do think this is positive step and there is a ray of hope. Remember how quickly the SEC moved to ban short selling in US financial stocks after the FSA did so? It was like once someone had bitten the bullet the US regulators were willing to jump on board. Now, banning legitimate short selling was a terrible idea and all it did was temporarily halt the decline in the shares of the financial companies on the very dubious list. However, if all the Treasury, Congress and Fed need is some precedent, then maybe this announcement by the Brits will lead to a concerted effort to reduce the dangerous concentration of our financial system that continues to generate exorbitant profits at the expense of the taxpayer.

(Picture of Alistair Darling courtesy of