While
ring-fencing would be effective to a considerable extent, he allowed, there are
holes in the fence, and leakages which are likely to get bigger. That is what
happened to the Glass-Steagall Act, he noted. The chipping away at the
Glass-Steagall wall of separation between commercial and investment banking
began with the creation of subsidiaries and adding more of what was possible
for a subsidiary to do in the securities area.
The UK Government has submitted to Parliament landmark
legislation to ring-fence retail commercial, deposit-taking banking from
investment banking. The bill has been referred
for review to the Parliamentary Commission on Banking Standards, which will
report on the legislation by December 18, 2012. In the main, the legislation is
intended to implement the recommendations of the UK Independent Commission on
Banking, the Vickers Commission, which proposed a sweeping structural change under
which, within a single organization, the range of ordinary banking operations,
such as deposit taking, and lending, would be segregated in a retail bank,
which would be overseen by its own independent board of directors and
ring-fenced to greatly reduce relations with the rest of the organization.
Mr.
Volcker tempered his remarks by noting that ring-fencing will not be totally
ineffective and is certainly worth a try. But he believes that the better approach
would be to put retail and commercial banking in two separate organizations. In
addition, he found common ground among the Volcker Rule, the Vickers Commission
and the Dodd-Frank Act in that they all want to create a separation between
retail and commercial banking, and between traditional retail banking
activities and proprietary trading and sponsoring hedge funds. Put more simply,
the common ground is that both the US
and the UK
Mr.
Volcker testified that there is a significant difference between traditional
bank functions that carry a fiduciary duty to customers and proprietary
trading, which does not. Proprietary trading is generally episodic and does not
envision a continuing relationship. Mr. Volcker said that proprietary trading
should be taken out of the banking organization and be allowed to fail and the
protected ring-fenced bank should not engage in proprietary trading. In other
words, the government should not protect proprietary trading.
Some
members of the committee voiced the belief that a separate and independent
board of directors in the proprietary trading subsidiary, as proposed by the
Vickers Commission, would ameliorate the problem of blurring the lines between
proprietary trading and the ring-fenced retail bank. In Chairman Volcker’s
view, a separate independent board of the subsidiary doing proprietary trading
may not be enough since the board of the bank holding company will have to take
account of what is going on in the subsidiary since that board is responsible for
the entire organization. In addition, the ultimate stockholder in the holding
company has a stake in both the retail and commercial sides, reasoned the
former Fed Chair, and the board has a fiduciary duty to them.
More
broadly, trading and retail banking have different cultures and putting two
different cultures into one organization
was wrong and created some of the problems leading up to the financial crisis. Moreover,
proprietary trading and sponsoring hedge funds have inherent conflicts of
interest with other parts of the bank.
Mr.
Volcker noted that there is a difference between proprietary trading and market
making. In determining the difference, management must control the traders and
have metrics to look at, such as volatility and the volume of trading. He said
that it would be a ``fool’s errand’’ to look at every transaction, it is better
to look at metrics and trends.
.