In Two Minds: The Governance of Ring-Fenced Banks

Abstract

A keynote policy in the United Kingdom since the financial crisis has been to ‘ring-fence’ retail banks into separate subsidiaries, so-called ‘ring-fenced bodies’ (‘RFBs’). To protect vital retail banking services from risk elsewhere in the banking group, the ring-fencing framework deploys a range of regulatory tools to credibly insulate the RFB. However, directors of the RFB’s parent company have an interest in undermining the ring-fence, and directors of RFBs have the discretion to do so. UK policymakers therefore acknowledge that the RFB’s directors must be able to take decisions ‘independently’ of the parent company. This article argues that, because UK corporate law generates accountability to the parent company, RFB directors remain accountable to parent company directors from whom they are supposed to be independent. The interplay between incomplete and indeterminate regulatory obligations and the incentives generated by ring-fence governance together compromise the credibility of the ring-fencing regime.

Keywords: ring-fencing, ring-fenced bank, structural regulation, banking, financial regulation, corporate governance, directors’ duties, director liability, independent directors, shareholder primacy, financial crises, systemic risk

JEL Classification: G21, G28, G34, G38, K20, K22