There will always be financial firms that fail through making bad judgements and taking risks which crystallise; or because unforeseeable events crop up. We have to allow that to happen in an orderly manner and without the use of public money. But good supervision should make sure that financial firms are focussed on the big issues, are appropriately capitalised, sufficiently liquid and not excessively leveraged. The PRA will focus on those institutions and issues which pose the greatest risk to the stability of the financial system. And their approach to supervision will be to make forward-looking judgements about the risks posed by firms, based on evidence and analysis (and not constrained by a narrow interpretation of either domestic or EU rules). Second, the Financial Policy Committee is now established with statutory powers. Its primary objective is to identify, monitor and take action to remove or reduce systemic risks with a view to protecting and enhancing the stability of the UK financial system whilst having a secondary objective – like the MPC – to support the economic policy of Her Majesty’s Government, including its objectives for growth and employment. Much of the work of the interim Committee on which I served for the past two years was geared towards trying to ensure that banks have enough capital. Frankly, the banks did not like this very much, since raising capital in the current environment would appear to reduce the return on equity in the short term.
But banks and building societies need to be seen as safe and sound to fund themselves and to secure other business. When banks are under-capitalised, raising capital can improve the market’s perception of their creditworthiness and so make it easier for them to borrow more cheaply. If we are to have a set of banks fit to provide credit and offer payments services to the UK economy, they must be better capitalised and less leveraged than they have been in the past. I want to make one point about this debate which bears repeating: if a bank becomes better capitalised that need not be at the expense of lending to the real economy – capital is actually a source of funding which supports lending. And an improved capital position, for most of the large lenders, need not come about by reducing real economy lending but by a number of actions such as restricting distributions (salaries, bonuses or dividends), by raising new capital or by running down other parts of their balance  BIS central bankers’ speeches  1  sheets. The FPC has always been explicit that banks should not meet the need for more capital by reducing lending to the real economy. The new FPC is one of a small number of macroprudential committees in existence. Few other advanced economies have delegated such macroprudential powers to a technical committee. Will it work to make the UK financial system more robust? I hope so.