On the 24th of May 2011 David Ruffley MP questioned Sir John Vickers and Martin Taylor on the Independent Commission on Banking.

Q2 Mr Ruffley: Sir John, when we had Bob Diamond in front of us he was remarkably loth to admit that his bank benefited from the implicit guarantee that the British taxpayer gives all banks. In Annex 3 of your report you conclude that "the prospect of government support"-that is, taxpayer support-"cheapens bank funding by considerably in excess of £10bn a year". That £10 billion a year is considerably lower than the Bank of EnglandÕs £57 billion a year. Could you explain to the Committee why you are so far adrift from the Bank of EnglandÕs £57 billion?

Sir John Vickers: As you point out, the £10 billion is preceded by the words "considerably in excess of", so we see that very much as a lower band on the estimate of that, currently. It is a very hard thing to quantify and there have been various attempts to do that. Andy HaldaneÕs work at the Bank of England at the height of the crisis came out with a figure in the region of £100 billion as the annual subsidy. Now the facts have moved on, and there are different methods that can be applied-different statistical approaches, different time periods. You will get a lower number the further you are from the peak of the crisis, and so on. We have looked very closely at his work and the evolution of it, and also at work done by Oxera, the consulting firm, which came up with a figure one tenth of his, albeit for a somewhat different data period, and our consideration of that evidence-our appraisal-led to this view that it is considerably in excess of £10 billion.

One way I think about that is if the figure were, say, £15 billion-and I donÕt want to be precise about it because there is no sensible way to be very precise-that would be 1% of GDP, and if bank balance sheets, UK banks, are approximately four times GDP, that is a quarter of a percentage point, and I think that is an entirely realistic number. It could well be north of that. I think it is an extremely important aim, not just of the work that we are doing and whatever Government and Parliament does in response to it, but also of a host of other initiatives, internationally as well as domestically, that the taxpayer, who remains considerably on the hook, be got off the hook.

Q3 Mr Ruffley: On the question of methodology, do you plan to publish more details to arrive at a figure that is average over a normal economic cycle-to come up with a figure, in other words, that basically the industry and Parliament can agree on? Can we get some more detail on the methodology in your final report?

Sir John Vickers: We will certainly look further at this set of issues. It is important, though, to recognise some difficulties in doing this. If one were to do it retrospectively over a long cycle, I think the application of these methods to the pre-crisis period, when risk generally was massively under-appreciated and under-priced by these methods, would probably produce quite a low number, which would not be a sensible way of looking at the future from where we are now. Looking at the future from where we are now is inherently difficult because, as reforms come into place and as banks adjust their own balance sheet, these numbers will move around, and the Haldane figure is almost half of what it was at the peak, so the facts move on. It would raise false hopes to suggest that we would come out with a precise consensual number, or even a narrow range that everyone can agree on. The key point is that in excess of £10 billion is a huge number, by any standard, and it is a measure of the scale of the problem, or one aspect of it, that we are dealt the task of addressing.

Q4 Mr Ruffley: That is useful. Let us stick with your figure: which banking institutions benefit most from that subsidy, would you say?

Sir John Vickers: I think in broad terms the larger institutions benefit disproportionately more. So I think to some extent all banks would gain some benefit from this, but the scale of the benefit-

Q5 Mr Ruffley: Which of the big four banks do you think benefits most? Have you done any work on that?

Sir John Vickers: We have not done work by individual bank, to quantify that bank by bank. Studies like the Haldane one and the Oxera study were aiming to get at an aggregate figure, which I think is an important thing to do to measure the scale or estimate, and in our case, it is a lower band on the scale of that subsidy.

Q6 Mr Ruffley: Would you anticipate doing any work-on each of the big four, because they have slightly different models-on what the benefit is to them?

Sir John Vickers: I donÕt exclude the possibility that we would do that, but we donÕt currently have plans to do it bank by bank, but we will happily take away the point. I think Mr Taylor may have had a-

Martin Taylor: A couple of points, if I may. First of all, on your last question, the larger, riskier and less well-capitalised the institution, the more it benefits from the guarantee. It is very difficult to get a precise number until we have taken it away. If we do manage to replace-there is a lot of work to be done to do this-an implicit guarantee with an explicit non-guarantee, and if that is credible to the market, we will be able to see, in the way that the funding rates move between banks with different risks, what the guarantee was worth.

Q7 Mr Ruffley: Yes. In terms of this subsidy, have you done any work to calculate what benefit there might be to shareholders?

Sir John Vickers: The benefit of the subsidy I think goes in various directions, and just as it is difficult to estimate the aggregate size-

Mr Ruffley: Customers, shareholders?

Sir John Vickers: Yes, I think it is a mix. I think it is partly to those who own equity or debt in banks, it is partly to those who work in banks and it is linked to the question of remuneration, and some will go through to the customers of banks, but I think it is formidably difficult to get even a first estimate of how big the slices are that go in those different directions.

Q8 Mr Ruffley: It is quite an important question, is it not? LetÕs for a minute assume that the implicit guarantee canÕt be got rid of as a result of your reforms. In justifying that taxpayer implicit guarantee, it would be useful and important to know, would it not, who the beneficiaries are: customers, debt holders, shareholders? That is an important bit of work, and is it something that you would be going into?

Sir John Vickers: I agree that is important to try to understand. However, I do feel daunted by the difficulty of coming up with a credible quantitative estimate of those things. I think it is important, not only for the reasons that you give but for the incentive effects, in terms of risk-taking in the banks themselves, so I think that is another aspect that is arguably at least as important.

Q9 Mr Ruffley: I understand that, but I want to place this on record and see if you can take this away, because at the end of the day it is the British taxpayer, whether he or she likes it or not, who is coughing up for this implicit guarantee, and the question of who benefits, I think, is hugely important. Could you let me know how you think the size of the implicit guarantee might be reduced if the full panoply of your reforms are implemented? Do you see it being abolished, halved, or smaller than £10 billion plus?

Sir John Vickers: I think total abolition is unlikely. I think there are always going to be some circumstances in which governments would feel compelled to come to the rescue of some parts of banks. The aspiration of getting it to 0.0 I think is unrealistic. I think our measures, if Government and Parliament followed things of this kind, would have a major effect on reducing the size of the implicit subsidy, but I would also underline the importance of seeing UK measures in the wider international context. I think that is also part of it.

How would measures of the kind that we outline bear down on that implicit guarantee? I think it is in a number of ways. We hope that banks would be much better able to bear losses, rather than what we saw in the crisis, where you had a thin sliver of equity and then a debt structure that was too brittle to take losses on top of that. The taxpayer was dragged in in a way that should not have happened, and if there is a higher equity buffer, perhaps augmented with genuinely loss-absorbing debt, that will put the taxpayer more remote from events if a crisis hits. Secondly, and very importantly, I think-of course, we hope this will not happen-if there is a crisis that brings taxpayer resources into play, if you have a more separable banking structure then taxpayer support, if needed-and of course we all hope it would not be-would be much more focused and smaller in scale than what happened in 2008-09, when taxpayer support had to come in to bail out large, unstructured banks in a way that was not targeted on the day-to-day retail services upon which individuals and small businesses in the UK depend so much. Both the probability and, if necessary, the quantum, we think, would be greatly reduced if measures along these lines were put in place.

Q10 Mr Ruffley: A final question, but perhaps for Mr Taylor: do you think the implicit subsidy that the British taxpayer provides prevents competition flourishing? As this Committee has commented many times, there arenÕt many new entrants into the banking market in the UK.

Martin Taylor: I donÕt think the subsidy has a big influence on competition. It has an influence, perhaps, on the level at which competition takes place, but I would not expect that to be a big change.

Q11 Mr Ruffley: When you say "the level at which competition takes place"-

Martin Taylor: The level at which price is set and liquidity becomes available. If I may go back to one of your previous questions, we arenÕt at all in despair about making a big impact on the implicit guarantee, and I think that clearly one major class of beneficiary has been the creditors-the senior debt-holders-who, even when banks were failing, were very confident of being repaid. If we get, and I believe we shall, to credibly loss-absorbing debt, we know that that will make a big difference, and that in itself will start the cascade. The competitive issues are certainly worth thinking about. My instinct is it wonÕt make a big difference, but you have given me something to chew on. We will think about it.