The broken heart of capitalism

BBC business editor Robert Peston on fixing the banking system

Has the banking system been fixed, been made safe, following the 2008 financial crisis, the worst since the 1930s?

Not yet, according to the regulators, central bankers, politicians and bankers I interviewed for a documentary that airs tonight at 2100GMT on BBC Two (Britain's Banks: Too big to save).

The cast includes the chairman of Royal Bank of Scotland, Sir Philip Hampton (and see his striking analysis of how bankers are paid too much in last night's post), two members of the Banking Commission set up by the chancellor (Martin Wolf and Martin Taylor), the chairman of the Financial Services Authority, Lord Turner, the Business Secretary, Vince Cable, and the deputy governor of the Bank of England, Paul Tucker (among others).

What I hope emerges from the film is the gravity of the structural flaws in the banking industry that caused the 2008 crash, which in turn led to the worst recession we've suffered in several generations.

And, which is perhaps more disturbing, few of the participants felt that the system had yet been mended.

Here is Martin Wolf, the FT commentator and member of the Banking Commission, responding to a question on whether Basel lll the new international agreement on how much capital banks have to hold - as protection against losses - goes far enough:

"I think it is plausible if you think of the risks in the system and your ability to manage crisis, ah, we need more capital than the Basel lll agreement concluded. It is clearly a compromise of course. It is an international compromise...But I think it's at least in the right direction and it sort of sets a, how can you put it, a less unreasonable minimum, that's true.

"And then of course I hope that countries will look at the particular risks they run or they can sustain. It is clearly possible - as the Swiss have shown (who have imposed capital requirements well above the new Basel minimum on big banks) - to go beyond it."

So how much more capital do banks need? Wolf:

"If you wanted banks that were pretty safe we would be probably talking about leverage of certainly in the the neighbourhood of not more than five to one".

Depending on how you define capital, that would mean safe banks should hold at least double the capital currently stipulated by the new Basel rules.

Is Martin Wolf a loan wolf on the Banking Commission? Apparently not. Here is Martin Taylor:

"I'm not suggesting to you that we should rely on Basel III to solve all our financial stability problems...I think that we shouldn't make Basel carry too much weight."

Or to put in another way, and as I mentioned just before Christmas, any bank chief executive who thinks the Banking Commission is going to suggest only modest reforms to the banking system probably doesn't get out enough.

In particular it looks as though as a minimum the Commission will recommend a substantial capital surcharge should be imposed on our biggest banks, Royal Bank of Scotland, Barclays and HSBC - which they won't like, because capital is expensive and their profitability would be reduced.

It might marginally reassure the banks that Paul Tucker, the deputy governor of the Bank of England, wants at least part of this surcharge for the biggest banks to be imposed globally - and he is negotiating for this on the Financial Stability Board, which is the senior global regulatory body.

I asked Tucker how much extra capital he felt the big banks need to hold:

"I'm not gonna give you a number because it's tremendously important that we're in step with our international colleagues. But this isn't going to be a percentage point or two, it has to be meaningful for it to make a difference.

"What we're talking about is two things. First of all these giant banks can absorb more losses. And secondly if that isn't enough and it won't always be enough - at some point in the next 100 years there will be a real threat again and [we must make sure] that our successors will have tools where they can, as the expression goes, resolve these banks in an orderly way without taxpayer money".

And here, for Tucker, is the heart of the problem. He made two particularly compelling statements:

"If we have a system where banks take the upside but the taxpayer takes the downside something has gone wrong with capitalism, with the very heart of capitalism, and we need to repair this".

And:

"Capitalism can't work unless these financial firms at the centre of the heart of capitalism can be subject to orderly failure. The rules of capitalism need to apply to them just as they do to non-financial companies."

To put it another way, what's required are reforms so that next time a big bank gets into trouble, all the pain and cost is heaped on the bank's creditors, investors and managers - with none falling on taxpayers.

How close are we to having achieved those fundamental changes, which would be necessary - according to Tucker (and he is not alone) - to fix capitalism?

Not very close, is the answer.

It is not just about the amount of capital and liquid resources that banks are forced to hold, or the maturity of their debt (what we might call the Basel stuff).

It is also about the walls they may be forced to erect between their various financial activities. It is about bankruptcy procedures that apply uniformly in all the very many countries where global banks operate. It is about identifying which bits of banks are so vital to the functioning of the economy that they must always be removed from a troubled bank before they are seriously damaged. And it is about the sheer size and complexity of big banks.

There is, as yet, no international consensus on any of this, let alone a national consensus.

As I hope tonight's film makes clear, we are still living in a world and in a United Kingdom where a big bank that runs into difficulties would still be able to hold taxpayers and our economy to ransom.

Big banks remain too important to be allowed to fail. And it may be worse than that, as the troubles of the eurozone - and the Irish in particular - show.

Given that the balance sheets of many western governments (including the UK's) have become seriously financially stretched, some banks may have outgrown the capacity of their home states to rescue them: banks may have become too big to save.

You can keep up with the latest from business editor Robert Peston by visiting his blog on the BBC News website.