Independent Commission on Banking Final Recommendations

A game-changer, but what will the new game be?

September 2011

The Independent Commission on Banking (ICB) published its final recommendations on 12 September. These represent an evolution of the interim recommendations published in April. The main recommendations fall under three main headings: implementing a ring-fence around retail banks; capital requirements; and competition.

Key ICB recommendations

  • UK retail banks to be ring-fenced, with dedicated operational and support services, arm’s length relationship with wider group, and independent Board.
  • Large ring-fenced retail banks to hold equity capital of 10 percent, plus another 7-10 percent of loss absorbency through contingent convertible capital (CoCos) and bail-in debt.
  • This additional loss absorbency also to apply to globally important UK banking groups.
  • Lloyds Banking Group (LBG) branch divesture to generate a new entity with at least 6 percent of current account market.
  • Free, rapid and efficient switching mechanism for current accounts.
  • Financial Conduct Authority (FCA)’s primary objective to promote effective competition in financial services. 

The ICB recommends that the ring-fencing and capital recommendations should be implemented by 2019, in line with the timetable for the Basel 3 internationally agreed capital and liquidity standards. The competition recommendations have much shorter proposed timescales.  

The Government has supported the ICB’s recommendations and stated that detailed work will begin immediately on implementing the reforms, with the intention of legislating in the current Parliament.

Implications for the industry

  • If adopted, the ICB’s recommendations will represent a major change in the constraints under which UK banks operate, in addition to all the other UK, EU and international regulatory reform initiatives. Banks therefore face a strategic challenge to determine their optimal business model in response to these constraints.  
  • Part of the challenge for banks is to determine how to develop their retail operations in response to the costs and constraints that would be imposed by the ICB’s recommendations on ring-fencing, capital and competition, and by other regulatory initiatives. How expensive will the ICB’s recommendations be to implement (the ICB Report estimates this as an annual pre-tax cost of £4-7 billion to the UK banks)? What impact will this have on the profitability and return on equity of retail banking? How will this impact differ across sectors, such as small retail customers, high net worth retail customers and small and medium-sized enterprises (SMEs)? What changes will this lead to in the design and pricing of retail products, both deposit and loans? What will be the impact on the pricing of retail deposits, which are generally perceived as being in short supply? Will some banking groups choose to reduce their provision of services to individuals and SMEs, or at least to compete less aggressively in these markets?
  • Another part of the challenge for banks is to assess the responses of other market participants to the changing environment. Will investors be prepared to accept lower rates of return on capital invested in supposedly ‘safer’ ring-fenced retail banks? Will unsecured and uninsured providers of funding demand significantly higher returns to compensate for the risk of being ‘bailed-in’ or subjected to depositor preference? Will the funding of wider banking groups become more expensive if government support for non-retail activities is judged to be less likely? What will be the impact on liquidity strategies? How will competitor banks change their business models? What will the impact be on new entrants to the UK retail banking market? Will some business migrate to the ‘shadow’ banking sector?
  • All these considerations will also have an impact on the extent to which permissible activities are undertaken through a ring-fenced retail bank, in addition to the mandated activities, rather than elsewhere in a banking group. To the extent to which a bank continues to provide retail activities, will it limit the size of its ring-fenced bank to its retail and SME deposits, or will it also seek to raise additional funding through corporate and financial sector deposits? What assets will the bank choose to place on the balance sheet of its ring-fenced retail bank – how far will this extend into corporate lending?  
  • Overall, the ICB’s recommendations could have a significant impact on the nature of the retail banking market in the UK, particularly if some banking groups decide to scale back their retail activities in response to the higher costs of capital, uninsured deposits, and legal and operational separation. 


The ICB Report states that the objectives of ring-fencing retail banking activities are (a) to insulate vital banking activities (retail deposits, payment systems, channelling savings to productive investments, and managing financial risk) from the risks surrounding other activities; (b) to make it easier to ‘resolve’ a ring-fenced bank that ran into difficulties, and thus enable these vital activities to be provided on a continuous basis, without taxpayer support; and (c) to curtail government guarantees.

The Final Recommendations provide more detail on how retail banks should be ring-fenced. Deposits taken from, and the provision of overdrafts to, individual and SMEs will have to be undertaken within the ring-fenced retail bank.  

Ring-fenced retail banks can also undertake any non-prohibited services, including non-overdraft lending to individuals and SMEs, taking corporate deposits and lending to corporates, and trade and project finance (all these deposit-taking and lending activities are only permissible for customers within the European Economic Area -EEA); and advising on and selling products from non-ring-fenced banks (where no exposures arise for the ring-fenced bank as a result). However, such activities (which are neither mandated nor prohibited) do not have to be undertaken within a retail bank.

At the other extreme, a retail bank cannot provide any banking services that would make it difficult to resolve the ring-fenced bank, to increase the exposure of the ring-fenced bank to global financial markets, or to take risks that are not integral to the provision of payment services to customers or to the direct intermediation of funds between non-financial savers and borrowers. The Report states that ring-fenced banks should therefore be prohibited from providing services to customers outside the EEA or to any financial institutions except other ring-fenced banks; from providing any services that would create trading book assets, market risk or counterparty credit risk; and from any purchases of loans or securities. However, these prohibitions will not apply where (up to limits that remain to be determined) ring-fenced banks are undertaking risk management and liquidity management, including raising wholesale funding to support non-prohibited services.  

Where a ring-fenced retail bank is part of a wider corporate group, it has to be a separate legal entity; have continued access to support services (operations, staff, data, etc) irrespective of the financial health of the wider group (so these services would have to be provided from within the retail bank, or from an entity that is bankruptcy-remote from the rest of the group); transact with the rest of the group on a wholly arm’s length and third party basis; have its own independent Board, with a majority of non-executive directors of whom no more than one can also sit on the Board of the parent or another part of the group; and disclose, on a solo basis, all the information that would be required if it as independently listed on the London Stock Exchange.

It remains to be determined:

i)    what additional structural and operational requirements will be placed on banking groups by the Bank of England (as the UK's resolution authority) to enhance the 'resolvability' of those groups and to maintain the provision of critical economic functions provided by banks (which the Bank of England has indicated extend well beyond the narrow set of retail activities on which the ICB has focused);

ii)    how the supervisors of a ring-fenced retail bank will interpret what constitutes a prohibited activity; and

iii)    how strictly the supervisors will constrain the extent to which a ring-fenced retail bank can undertake an otherwise prohibited activity for the purposes of risk management and liquidity management.


The ICB’s Final Recommendations are more detailed than its Interim recommendations, and are clearly driven by the assumptions that (i) there would be net benefits (balancing greater safety against the possible negative impact on economic growth) in raising capital ratios to around 20percent; and (ii) this would have only a limited impact on costs if implemented over the medium term (because the cost of funding should fall if banks become safer).  

The ICB recommends that an important driver of the recommended minimum capital to be held by a ring-fenced retail bank should be the ratio of the bank’s risk-weighted assets (as determined by either the standard regulatory risk weights or a bank’s approved internal risk modelling) to UK GDP. Where this ratio is 3 percent or more (as the Report estimates would be the case for Barclays, HSBC, LBG, Nationwide, RBS and Santander) then the ring-fenced bank would have to meet a 10 percent equity capital ratio; a 4.06 percent leverage ratio; and hold additional loss-absorbing capacity (in the form of equity, CoCos, or bail-in debt that can convert into capital) of at least 7 percent of risk-weighted assets (rising to 10 percent if the supervisory authorities had concerns about the ability of the bank to be resolved at minimum risk to public finances). 

Smaller retail banks would be subject to lower minimum capital requirements, set on a sliding scale depending on their size relative to UK GDP (but with a minimum equity capital ratio of 7 percent and minimum additional loss-absorbing capacity of 3.5 percent).

To facilitate these requirements, the Report recommends that the resolution authorities should have the power to implement a bail-in as part of a resolution, through imposing losses on long-term unsecured debt and, if necessary, on all other unsecured and uninsured liabilities. It also recommends that in a resolution or insolvency all insured depositors should rank ahead of other creditors (depositor preference).

In addition, the ICB recommends that UK-headquartered global systemically important banks (G-SIBs) should be subject to the additional 7-10 percent loss-absorbing requirements, again on a sliding scale (depending in this case on the size of the capital surcharge applied to the G-SIB, based on the recommendations of the Basel Committee). This is despite the stated intention elsewhere in the Report that the wholesale and investment banking parts of wider banking groups should be subject to internationally agreed standards.

The ICB is largely silent on how its recommended capital and leverage requirements can in practice be imposed under the proposed EU Regulation (CRD4) to implement the internationally agreed Basel 3 standards. One clearly stated objective of the EU Regulation is to produce harmonisation and a level playing field across Europe, with very limited scope for national discretion other than in the use of counter-cyclical ‘macro-prudential’ tools. The ICB claims that its recommendations will be allowed as a result of the negotiation process on CRD4 between the European Commission, the European Parliament and the Council of the European Union. However, it is not clear why or how this negotiation process will come out in support of the ICB’s view that EU member states should be allowed to apply higher minimum standards to their banks if they wish to do so.


The Final Recommendations on competition among banks mostly cover the same areas as the Interim recommendations. The ICB recommends that:

  • On market structure, the Government should “reach agreement” with LBG such that the entity that results from the divesture of LBG branches has at least a 6 percent share of the personal current account market, and has a loan-to-deposit ratio that is in line with its peer group.  
  • On switching, current account “redirection” standards (to be fully operational by September 2013) should be introduced to provide customers with a free, rapid and efficient switching of their current accounts. But the Report does not recommend current account number portability. 
  • The FCA should be given a primary objective to promote effective competition in financial services – this was also included in the Interim recommendations, but not adopted by the government in the sections of the draft Financial Services Bill that set out the FCA’s objectives.
  • The Office of Fair Trading (OFT) and Prudential Regulatory Authority (PRA) should review the impact of prudential standards on the ability of new entrants to enter the financial sector and to grow their business.
  • Transparency on retail banking products should be improved (including information on interest foregone on current accounts, no later than January 2013).
  • A market investigation reference should be made to the competition authorities on the personal and/or business current account markets if the above recommendations have not been implemented and proven to be effective by 2015.

There is a lot of detail in the 358 pages of the final report. If you would like to discuss further please contact the Financial Services Regulatory Centre of Excellence, through the contacts on the right or here.   

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