Mervyn King calls on banks to pre-fund savers' guarantee

From Times OnlineJuly 22, 2008

Grainne Gilmore

Mervyn King, Governor of the Bank of England, said today that banks should put billions of pounds into a fund over the next 10 years to compensate customers in case a bank collapses.

Speaking to the cross-party Treasury Select Committee, Mr King said that he believed the Financial Services Compensation Scheme should be at least partly pre-funded, and not rely on banks putting money into the pot after a financial institution runs into trouble.

The Governor said the lack of a 100 per cent guarantee of savers' money contributed to the run on Northern Rock last year.

Mr King also said that the Bank of England should have the power to initiate state help for failing banks. Under current proposals to reform the oversight of banks following the failure and nationalisation of Northern Rock, the BoE will only be able to make a recommendation to the Financial Services Authority that a struggling bank be salvaged.

“It’s true that I would have preferred an outcome in which either the Financial Services Authority or the Bank of England could have initiated the trigger,” he said.

“We will not have the right to initiate the trigger.”

He added that the reason that the Northern Rock crisis ran on was the lack of a special resolution regime, which meant the only alternative was to nationalise the bank.

He added that the Bank's guarantee to the troubled bank should have been offered earlier.

“That bank would have been dealt with immediately under a special resolution scheme,” he said.“It couldn’t be because nationalisation was the only alternative ... We certainly would have handled it differently.”

Mr King said that the Bank had not yet convinced everyone that pre-funding the scheme was a good idea. "We haven't convinced everyone, but it is short-sighted to say that the banks shouldn't be asked to put money in now," he said.

The scheme is currently funded by the banks, which pay an annual levy. However, it does not hold enough money to compensate savers in the event that a bank collapses.

The Financial Services Compensation Scheme currently guarantees 100 per cent of the first £35,000 of savings each person has at a bank, but the Governor said he thought this should be raised to £50,000.

Mr King said: "I don’t think it’s a good idea to offer 100 per cent insurance up to, say, £50,000, without any element of a risk-based premium at all — and to do that you need some element of prefunding.”

Mr King refused to put a figure on pre-funding, but said it should be a "non-negligible" sum, running into many billions over 10 years.

Mr King said that he believed that, if another bank ran into trouble, he believed the situation would be handled better, but said there was no guarantee that mistakes would not be made.

But he added that reform of the banking sector to prevent fall-outs, like that of Northern Rock last year, should not be rushed.