Bank of England Governor Mervyn King stepped up his call for governments to tackle the dangers posed by banks that are “too important to fail,” saying new capital rules won’t shield taxpayers from funding any future bailouts. “The massive support extended to the banking sector around the world, while necessary to avert economic disaster, has created possibly the biggest moral hazard in history,” he said in a speech in Edinburgh late yesterday. He indicated that one solution could be to split up banks and separate riskier activities from more stable businesses such as taking deposits. Officials are debating how to rein in the world’s biggest banks after their near-collapse threatened to capsize the global economy. While King also said more stringent capital rules wouldn’t necessarily create a safety cushion large enough for banks to weather every crisis, his stance was at odds with that of Chancellor of the Exchequer Alistair Darling. “Capital requirements reduce, but not eliminate, the need for taxpayers to provide catastrophe insurance,” King said. He added it is “hard to see why” proposals such as those of former Federal Reserve Chairman Paul Volcker to separate proprietary trading from retail banking are “impractical.” By contrast, Darling said yesterday focusing on capital rules may be enough to ward off future crises and is unswayed by arguments that banks should be broken up. Darling Rejection “You regulate according to risk,” Darling said before King’s speech. “The greater the risk, the greater the capital requirement. I don’t think an arbitrary split would deal with the problem.” King gave no indication in his speech whether the bank will expand its bond-purchase program next month. In an article he wrote for Scotland’s Herald newspaper today, he said that interest rates are “extremely low,” and warned Britons to prepare for increases “at some point.” The bank’s rate-setting Monetary Policy Committee lowered the benchmark rate to record low of 0.5 percent this year. King said in his article posted on the Herald’s Web site that “I do not know for how long interest rates will remain so low. But at some point they will return to more normal levels and it would be wise to take this into account in your financial planning.” Deficit Challenge British Prime Minister Gordon Brown faces mounting criticism for bailing out the financial system with public money as the worst recession in a generation hammers tax receipts and strains public finances. King said in the Herald article that “we must rebalance our economy away from spending -- both public and private -- and towards saving and investment.” Brown in September said he’s working on a Business and Financial Services Bill that will “ban the old bonus systems.” It also will require banks to keep a “living will” that would allow regulators to wind them down in the event they go bankrupt. “The belief that appropriate regulation can ensure that speculative activities do not result in failures is a delusion,” said King yesterday. The opposition Conservatives used King’s remarks to criticize the government. “Mervyn King’s speech is powerful and persuasive,” finance spokesman George Osborne said. “His analysis of how the government’s system for regulating banks failed and how there has been ‘little real reform’ since is one I share.” Competition Goal King said the U.K. banking system is “highly concentrated” and greater competition is needed to reduce the dependency of households and businesses on just four institutions. The government owns 70 percent of Royal Bank of Scotland Group Plc and 43 percent of Lloyds Banking Group Plc. Barclays Plc and HSBC Holdings Plc are the country’s other biggest banks. On the economy, King said activity is showing “encouraging” signs. The FTSE-100 Index has surged almost 50 percent since March and the Office for National Statistics will probably say on Oct. 23 that the country emerged from the worst recession since World War II in the third quarter. Gross domestic product expanded 0.2 percent in the period, according to the median of 33 forecasts in a Bloomberg News survey. Growth Return “It is likely that in the second half of this year, the U.K. economy will return to positive, if modest, growth,” King said. “Financial markets have improved, with banks finding it easier and less costly to access wholesale funding markets, and in time this should ease lending conditions to households and businesses.” The economy’s output is still “well below” the levels of a year earlier, King said. He said there should be no illusion that a return to sustainable growth will be “smooth and painless.” King said that the path for consumer prices will stay “volatile” in the next year. While inflation will pick up, the drop in money supply will keep a lid on price increases until spending recovers, he said. In his article in the Herald, King said “weakness in the economy threatens to keep inflation below the 2 percent target,” helping explain why the bank implemented asset purchases “to provide an extra stimulus to the economy.” King said he’s traveling to Scotland this week as part of his regular efforts to get first-hand reports on business around the country.

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