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Osborne backs Obama's vision of smaller, simpler, safer banks

Fresh from his massive defeat in Massachusetts where voters were angry at his administration's failure to deal with the big banks, Barack Obama has launched a new flagship reform that he may hope will take the place of his imperiled healthcare bill.

The American President plans for some of the biggest US banks to be broken up and to ban retail banks using their own money from “owning, investing in or sponsoring” hedge funds and private equity groups.

The Conservatives immediately welcomed the news. Earlier last year George Osborne had made similar noises himself but did not pursue the issue because international agreement for such changes appeared unlikely. On Radio 4 this morning, Mr Osborne confirmed his support for stopping retail banks engaging in the "riskiest" trading. He told the Today programme that he does not want a crude ban on investment bank activities, only the riskiest investments where "huge bets" were involved. Any action must be carried out on the international stage, he insisted, as he did not want unilateral restrictions on the size and scope of banks to damage the City of London. Noting that Gordon Brown opposes these sets of reforms, he said this was another example of Labour being a prisoner of old thinking.

Screen shot 2010-01-22 at 08.37.11 In City AM, Allister Heath attacks the Obama/ Osborne plan. The City AM editor thinks the reforms would not have prevented last year's crisis and will damage London more than any other financial centre:

"Was the financial crisis due to the fact that some banks own private equity firms? No. Would Lehman have been saved by the restriction on size or any other of the proposals? No. Just one firm, Bear Stearns, a pure investment bank which would not therefore be covered by the new rules, was destroyed because of its ownership of a hedge fund which invested in sub-prime mortgages. Would any of these rules have protected Northern Rock or HBOS? No. Did the losses racked up by the state-sponsored Fannie Mae and Freddie Mac mortgage giants have anything to do with prop trading or hedge funds? No – and neither did the failure of Wachovia, Washington Mutual, Countrywide or the over 100 US banks and many others around that world that have gone bust. In truth, banking losses were caused by bad property loans – and the purchase of this sub-prime debt by other banks and funds in the belief that they were safe. Wall Street was crippled because it was so leveraged and didn’t hold enough high quality, truly liquid capital."

Heath continues:

"The rules would damage London even more than New York, especially if the Tories impose them here. Hedgies may find it harder to raise finance. Barclays may decide to split; if so, its investment banking division would probably relocate to the US. HSBC will retrench to Asia. RBS’ investment bank may be snapped up by an overseas player. Trading and hedge funds will move to other locations. Big banks must no longer feel they are too big to fail. The way to change this is to follow’s Obama’s original strategy and find ways to allow big firms to go bust in an orderly way. Oh, I forgot: being sensible doesn’t win elections."

Tim Montgomerie

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