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FM AMEMBASSY LONDON
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INFO RUCNMEM/EU MEMBER STATES COLLECTIVE PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUEHBL/AMCONSUL BELFAST PRIORITY 1370
RUEHED/AMCONSUL EDINBURGH PRIORITY 1173

UNCLAS SECTION 01 OF 03 LONDON 001606 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN ETRD EINV UK
SUBJECT: HMT UNVEILS PROPOSALS TO REFORM FINANCIAL MARKETS - NO BIG 
SURPRISES BUT OPENS DIVIDE WITH CONSERVATIVES 
 
LONDON 00001606  001.2 OF 003 
 
 
¶1.  (SBU) Summary: HM Treasury (HMT) published its White Paper on 
reforming financial markets July 8.  The much anticipated proposals 
contained no big surprises.  HMT supported the proposals outlined in 
the Financial Services Authority's (FSA's) Turner review, including 
strengthening capital and liquidity requirements.  HMT plans to 
extend the FSA's powers and give it a formal, statutory objective 
for financial stability.  The shape of the UK's institutional 
regulatory framework will remain unchanged but HMG will legislate to 
create a Council for Financial Stability.  Chaired by the 
Chancellor, it will assess systemic risk through regular meetings. 
The White Paper ruled out the introduction of Glass-Steagall-type 
legislation and instead proposed changes to the UK's resolution 
regime.  Internationally, the UK will continue to push for 
strengthened international regulatory architecture and an 
international mechanism for resolving failed multinational banks. 
HMT's proposals attracted fierce political opposition.  Shadow 
Chancellor George Osborne said a Conservative government would 
abolish the Tripartite arrangement and give more power to the BOE. 
Industry response was muted but the sector was left uncertain as to 
the future structure of financial regulation in the UK post the next 
general election.  End summary. 
 
Reform to Banking Regulation 
---------------------------- 
 
¶2.  (U) HMT's White Paper was written in response to its assessment 
of the origins of the financial crisis, namely that global standards 
of regulation failed to keep up with financial globalization and 
innovation.  As such, regulatory reform forms a major component of 
HMT's proposals.  Many of these proposals were outlined in 
regulatory chief Lord Turner's March report.  The White Paper 
commits the Treasury to continued support of the Financial Services 
Authority (FSA) in its reform of banking regulation.  Turner's key 
recommendations, which are supported in the White Paper, include 
increasing the quality and quantity of capital held by banks, 
increasing capital requirements for riskier trading activities, 
introducing a backstop "leverage ratio" that ensures minimum capital 
levels are maintained, and increasing liquidity regulation.  The FSA 
will increase the intensity of its supervision of banks through its 
Supervisory Enhancement Program (SEP), including increased 
regulatory resources and greater focus on high impact firms.  HMT 
supported the FSA's work on reducing the incentives created for 
excessive risk-taking by bank compensation structures.  It said pay 
and bonuses should reward long-term sustainable growth, not 
short-term profits. 
 
¶3.  (U) In addition to supporting Turner's recommendations, the 
White Paper outlined a number of other regulatory reforms.  HMT will 
extend the powers of the FSA by providing it with a formal, 
statutory objective for financial stability and giving it legal 
authority to set rules to protect wider financial stability.  The 
FSA will be given extended powers to deal with individual 
institutions through firm-specific interventions and will receive 
enhanced enforcement powers to deal with market misconduct.  HMT 
will give the regulator power to keep the scope of regulation under 
constant review to determine what constitutes a systemically 
important institution and the ability to change regulation to cover 
these institutions as necessary. 
 
Strengthening the Financial Stability Framework 
--------------------- -------------------------- 
 
¶4.  (U) The UK's institutional framework will remain unchanged.  The 
FSA will continue to be responsible for conduct of business and 
prudential regulation for financial services firms, while the Bank 
of England will be responsible for overall stability of the 
financial system.  However, the White Paper determines to improve 
coordination between the Tripartite authorities and strengthen their 
governance and transparency.  In the fall, HMG will legislate to 
create a Council for Financial Stability, replacing the Tripartite's 
Standing Committee.  The Council will consist of members from HMT, 
the FSA and the BOE and will be chaired by the Chancellor.  It will 
hold regular standing meetings to discuss the assessment of systemic 
risk and to consider needed actions.  Further meetings will be held 
when particular risks to financial stability are identified.  The 
Council will provide a means of coordinating the activities of the 
authorities whenever necessary - in direct response to recent 
criticism that it is unclear which of the three authorities is in 
charge. 
 
Proposals for Dealing with Failed Banks 
--------------------------------------- 
 
¶5.  (U) Chancellor Darling outlined proposals to deal with risks 
posed by high impact firms.  All firms will create detailed, 
practical resolution plans for dealing with their own failure. 
These plans will ensure their legal structure facilitates resolution 
 
LONDON 00001606  002.2 OF 003 
 
 
if necessary.  Plans will be evaluated by the BOE.  HMT also called 
for improved infrastructure in securitization and derivatives 
markets to mitigate the risk of large, complex firms failing. 
Derivative markets, according to the White Paper, should be 
standardized, liquid, have price transparency and should be cleared 
through central counterparties.  HMT rejected calls for the 
re-introduction of Glass-Steagall-type legislation.  It said the 
current crisis highlighted that banks can fail and pose a systemic 
threat whether they are big or small, simple or complex. 
 
International Priorities 
------------------------ 
 
¶6.  (U) HMT's White Paper acknowledged that much work needs to be 
done internationally and domestic regulation alone is insufficient 
to prevent a further crisis.  It called for an international 
mechanism for resolving large multinational banks that get into 
difficulty and said the Chancellor would push this with G20 finance 
ministers later this year.  Under its Presidency of the G20, the UK 
will continue to press for strengthened international regulatory 
architecture.  It restated the UK's commitment to the principles 
agreed at the London Summit, particularly the creation of a new 
Financial Stability Board with a strengthened mandate.  At the 
European level, the UK will push for enhanced monitoring of 
system-wide risks.  HMT welcomed the findings of the de Larosiere 
report, particularly the June agreement to establish a European 
System of Financial Supervisors and new European Systemic Risk 
Board.  It also responded positively to EU proposals on 
securitization which would require issuers to retain 5 percent of 
the risk to be securitized.  On offshore banking centers, HMT is 
undertaking an independent review of long-term challenges facing 
British Crown Dependencies and Overseas Territories and will publish 
a final report at the end of this year. 
 
Other Proposals: Deposit and Consumer Protection 
-------------------- --------------------------- 
 
¶7.  (U) The White Paper introduced a variety of other proposals on 
deposit and consumer protection.  HMT will: 
 
-- Introduce a pre-funded element to the Financial Services 
Compensation Scheme (FSCS), subject to further consultation, after 
¶2012.  The recent downturn, according to the report, has shown that 
the FSCS cannot meet the full costs of substantial failure 
immediately by raising levies from the industry. 
 
-- Introduce a national money guidance service to provide additional 
support and protection for consumers. 
 
-- Improve access to simple, transparent products so there is always 
an easily understandable option for consumers not looking for 
complex or sophisticated products. 
 
-- Strengthen competition through increased coordination between the 
FSA and Office of Fair Trading. 
 
Initial Reactions 
----------------- 
 
¶8.  (U) Shadow Chancellor George Osborne welcomed HMG's proposals to 
improve consumer advice and to implement a stronger resolution 
regime.  However, in other respects, he said the government's paper 
was a "totally inadequate" response given the scale of the current 
crisis.  He called it a white flag, rather than a white paper, and 
said it ducked all the difficult questions.  He said the Tripartite 
agreement is dysfunctional and leads to inaction.  He suggested 
Chancellor Darling should have buried the Tripartite system instead 
of reinforcing it.  A Conservative government, he said, would 
abolish the Tripartite arrangement and put the BOE in charge of 
macro-prudential supervision.  Alongside the Bank would be a 
powerful regulator to protect consumers and stop unfair practices. 
 
 
¶9.  (SBU) Industry reaction was more muted.  Paul Chisnall, 
executive director of financial policy at the British Bankers' 
Association (BBA), told us he wasn't surprised by the proposals.  He 
said HMT carefully crafted a responsible White Paper that was calm, 
well-reasoned and avoided "bank bashing."  He argued it would be 
wrong to regard the proposals as a soft touch.  HMG, he reasoned, 
took a very strong stance on ensuring major deposit-takers will face 
intense supervision and strict capital requirements.  He said the 
proposals strengthen the UK's commitment to international 
coordinated action by giving the FSA a statutory requirement to 
monitor the international agenda.  The next steps, he said, will 
include the publication of the Walker review on corporate 
governance, provisionally scheduled for July 16, and a fuller 
statement from the opposition on July 23. 
 
LONDON 00001606  003.2 OF 003 
 
 
 
¶10.  (SBU) Comment: HMT's White Paper did not introduce any major, 
unexpected reforms.  While some proposals were new, many were 
outlined in Lord Turner's March report or had been leaked to the 
media.  As such, industry reaction about specific aspects of the 
proposals has been muted.  However, the White Paper and the 
following debate established a clear divide between Labour and 
Conservative financial policy.  While Labour supports the Tripartite 
arrangement and plans to beef up the FSA's regulatory powers, a 
Conservative government would abolish the arrangement and hand power 
back to the BOE (power it lost in 1997 following the creation of the 
FSA.)  This divide could create considerable uncertainty for the 
financial services industry.  The future of UK financial supervision 
could largely be determined by the outcome of next year's general 
election. 
 
LEBARON