Policy Innovation Blog

An innovative take on Vickers

Stian Westlake - 16.09.2011

Sir John Vickers's Independent Commission on Banking raises interesting questions on what banking reform means for innovative businesses, and vice versa.

As if on cue, today's news that a rogue trader at UBS had racked up a $2 billion "unauthorised loss" looked like a glowing endorsement for the recommendations of Sir John Vickers's Independent Commission on Banking, launched on Monday. Rogue traders and ringfences may seem distant from the world of NESTA, but there are two important angles here for anyone who cares about innovation: firstly, what banking reform might mean for innovative businesses; and secondly, what innovative businesses mean for banking reform.

First of all, let's consider the effect on businesses. As an early stage investor and an advocate for high-growth businesses, we know as well as anyone that businesses need finance. Venture capital and angel finance are important sources of investment for some of the fastest-growing companies, but even in NESTA's Vital Six Per Cent of high-growth firms, bank lending is a more common form of finance. We know both that bank finance has been hard to come by for businesses in recent years, and there are some grounds to suspect that high growth firms, which are disproportionately likely to innovate, find bank finance even harder to obtain.

This makes it important that business lending should not end up as "collateral damage", to use the phrase of the British Chambers of Commerce - and that if it does, innovative business will suffer most. Some commentators have raised the concern that tightening banks' capital requirements, as the Vickers report suggests, will reduce their appetite for business lending, a line of work that already earns them relative low returns on equity (6-8%, by some accounts, compared to 15-20% for their overall retail and business banking businesses). There are a number of big interventions that could help: Adam Posen of the Bank of England's Monetary Policy Committee recently suggested the establishment of a small business loan bank along the lines of Germany's Kreditanstalt für Wiederaufbau or the US's Small Business Administration, or that the UK government bundle and securitise loans to small firms. A recent report by Paul Nightingale and Will Hutton, funded by NESTA, made a similar case, hints that the Bank of England should be prepared to accept to discount various forms of commercial paper. And NESTA's Beyond the Banks project has been exploring the possibility of bond markets as a way of attracting new funds to medium-sized firms.

The other side of this coin is how innovative businesses can help deliver banking reform. Vickers's recommendations rightly include an attempt to increase competition in the UK's concentrated banking market. Some of these potential new providers are extremely innovative: NESTA has long been interested in the peer-to-peer lending market, exemplified by providers like Zopa, a good example of how Collaborative Consumption can bring freshness into the financial sector. New businesses like Funding Circle, often venture-backed, are taking this model to business lending too - but as our recent Beyond the Banks report suggests, regulatory hurdles may need to be removed if the model is to grow. (Equity-based crowdfunders like Crowdcube report similar issues.)

And new intermediaries can help too. The ICB's points out that better provision of information to customers will encourage competition and new offerings - something that will come as no surprise to students of innovation. An innovative social enterprise, the FairBanking Foundation has been pioneering this with their FairBanking Mark, a project developed with support from NESTA that seeks to kite-mark bank accounts that deliver unusually good and useful services to customers. IT infrastructure matters as well. A start-up called Funding Options recently received an award from the TSB's Tech City Innovation Launchpad for a product that could make it easier for companies to shop their banking business around to different banks, hopefully getting a better deal in return.

What all this means is that anyone who cares about innovation has an interest in banking reform. There are big and arcane issues of financial policy to resolve to get banking reform right - but innovation has a crucial role to play, and the UK's ability to innovate will be affected by the outcome.