UK banking regulator promises final bank ring-fence structure and governance rules for 2016

Regulator the Prudential Regulation Authority (PRA) said that it intended to finalise the rules early, in order to provide affected banking groups with "sufficient time for implementation". In the meantime, it has updated its 'near final' rules to reflect a recent consultation exercise. A further consultation, which is expected to relate to capital and liquidity requirements for the ring-fenced entities, will take place this year, it said.

Banking reform expert Tony Anderson of Pinsent Masons, the law firm behind Out-Law.com, said that banks would be anxiously awaiting the final rules.

"There are still several grey areas concerning the ring-fence despite any clarity achieved following the October 2014 consultation," he said. "With a little over three years left to confirm the structure - including successfully arguing for any waivers from the PRA - and to fully implement the ring-fence, time is quickly running out for UK banks."

From 1 January 2019, UK banks that take in more than £25 billion in 'core' deposits from individuals and small businesses will be required to formally separate their deposit-taking activities from their riskier investment banking activities, as recommended by the Independent Commission on Banking chaired by Sir John Vickers in 2011. Affected banks will have to 'ring-fence' these core functions into a legally and operationally distinct entity, which will not be able to hold or own the capital of entities "associated with trading and financial interconnectedness" of the wider banking group.

The PRA's new policy statement covers three areas of the ring-fencing regime: the legal structural arrangements that will be required of banking groups subject to ring-fencing; governance arrangements of ring-fenced bodies; and the arrangements that would have to be put in place to ensure continuity of services and facilities during the changeover. Responses to the PRA's consultation of October 2014 did not indicate the need for "major changes" to its proposed approach, but resulted in a number of changes for "clarity and certainty", it said.

The policy statement further clarifies the PRA's ability to waive or modify the ring-fencing requirements where these would be "unduly burdensome" to firms or would not achieve the purposes for which the rules were made, following requests from "a number" of respondents to the October consultation. Before being granted any waiver or modification, firms would be required to demonstrate that the alternative governance requirements that they intend to put in place would meet the same regulatory purposes as the ring-fence, the PRA said.

In particular, the PRA said that applicants for a waiver would be required to demonstrate "how [their] proposed governance arrangements will compensate for any potential weakening of the regime and how they will ensure the purposes of the regime are still being advanced". As the ring-fencing governance requirements are "interrelated" with wider banking reforms, waiver applications would also be considered "in the wider context of firms' restructuring plans and how firms intend to ensure compliance with the regime as a whole", the PRA said.

On legal structure, the PRA said that it did not intend to set out in detail the types of subsidiaries that a ring-fenced bank would be permitted to own despite feedback to this effect from respondents to the consultation. Instead, it would consider applications "on a case-by-case basis ... framed by a consideration of the risks that a particular subsidiary might pose" to its objectives and the stability of the ring-fenced bank. The ring-fenced bank would itself remain a subsidiary of the wider banking group, with the parent company still expected to "exercise adequate oversight", the PRA said.

The PRA has also amended the proposed remuneration rules to make it clearer that employees of the ring-fenced bank could receive "a proportion of their remuneration in a form associated with the group, for example shares of a listed parent entity". Remuneration in this form is consistent with the requirement that these personnel be rewarded in a way that "supports sound and effective risk management and the long-term interests of the [ring-fenced bank], as distinct from the wider group", it said.

Last week Martin Taylor, who is a member of the Bank of England's Financial Policy Committee (FPC) and was part of the team led by Vickers that drafted the new rules, used a speech in London (7-page / 66KB PDF) to reject claims by some in the banking industry that ring-fencing was now "redundant" given the impact of other regulatory changes and structural reforms on the UK banking industry.

"To argue that making banks safer is the principal or even only aim of the ring fence is simply wrong," he said.

"I believe that the fuss about the ring-fence at the moment, far from demonstrating its redundancy, shows that its forthcoming introduction is proving effective … Wide-ranging regulatory changes are having structural effects. This should surprise no one, and in general I feel it is quite wrong to fret, as so many seem to be doing, about the so-called unintended consequences of the new rules. If we feel that some, such as the reduction in trading liquidity, may bring problems in their wake, let us address them individually," he said.