Media playback is unsupported on your device Media caption Sir John said the credit crunch 'exposed a damagingly rickety structure' in the financial system

The head of the commission reviewing whether the UK's biggest banks should be broken up has said wide-ranging reform is needed.

In a speech in London, Sir John Vickers said plans to separate bank trading and retail operations were being looked at.

These may require banks to put their investment arms into separate entities that could be allowed to collapse.

Sir John stressed that no final decisions had yet been made by his Independent Commission on Banking.

'Critical to economy'

In his speech at the London Business School, Sir John said the failure of banks to efficiently manage risks had been "spectacular".

He said the shock from the fall in property prices "should not have caused havoc on anything like the scale experienced".

He added: "Credible resolution would seem to require at least some form of separability, and arguably there is a case for some form of ex ante separation so that bank operations whose continuous provision is truly critical to the functioning of the economy can clearly be easily and rapidly carved out in the event of calamity.

"But perhaps the credibility of resolution plans can be ensured otherwise than by forms of separation, and the benefits of creating such options would of course need to be weighed carefully against costs they imposed."

Sir John concluded: "It cannot be disputed that banks of systemic importance need much more loss-absorbing capacity than they had a few years ago, and to be much more easily resolvable.

Analysis The ICB says it is not ruling anything out from its final conclusions. That's not quite true. Keeping the status quo is not an option for the commission. The government and the banking fraternity have all but accepted that. The public simply wouldn't wear things staying the same as they are forced to endure swingeing spending cuts and some tax rises as a direct result of reckless banking behaviour before the financial crisis of 2007/08. So this latest update from Sir John Vickers may prove to be the starting gun for a lobbying and PR onslaught from Britain's largest banks as they hope to limit the final recommendations by the ICB. One option (short of breaking up the banks) is some sort of ring-fencing of banking activities - a process known as subsidiarisation. This approach would mean the investment banking parts are financially, but not legally, separated from the more mundane retail parts. Read Robert Peston's blog Send us your comments

"There is a wide range of views on how much more loss-absorbing capacity is appropriate for different kinds of institution, and on how to achieve it."

Reacting to the speech, Chancellor George Osborne said: "I am glad John Vickers is today asking the tough, searching questions about how we protect taxpayers from banks that fail.

"That's exactly what [Business Secretary] Vince Cable and I wanted him to do when we asked him to chair the coalition government's independent banking commission."

The British Bankers' Association (BBA) said it supported proposals to protect customers and that Sir John was "focusing on making the system safer".

BBA chief executive Angela Knight said: "What the banking industry has been working towards along with regulators and government is an arrangement where not only is the system more stable but the banks themselves.

"And so should there be a problem in the future, and I sincerely hope there never will be another problem like this in the future, then a bank can be allowed to fail without having an impact on the economy."

The BBC's Joe Lynam said "keeping the status quo is not an option".

Our correspondent added: "The public simply wouldn't wear things staying the same as they are forced to endure swingeing spending cuts and some tax rises as a direct result of reckless banking behaviour before the financial crisis of 2007-08."

Bailed out

Sir John, a former chief economist at the Bank of England, is the chairman of the five-person Independent Commission on Banking (ICB) set up by the coalition government.

It is looking at financial stability and competition, including the question of what should be done about banks deemed "too big to fail".

One suggestion is that investment banks should be separated from retail banks, so that depositors' money is not put at risk by the investment banking arms of the business.

Equally, if banks were allowed to collapse if mismanaged, taxpayers would not need to come to the rescue.

This is what happened when the last Labour government bailed out both Royal Bank of Scotland and Lloyds Banking Group when it deemed the risks to the wider financial system of allowing them to collapse were too great.

Leave country

The commission is also looking at whether too few big banks have too much control over the retail banking sector in the UK.

Image caption Some banks have threatened to move abroad if they are broken up

Currently, the top six British banks control about 90% of all deposits. This compares with a 68% market share for Germany's top seven banks and just 35% for America's top eight.

Other topics for scrutiny include whether banks should be restricted in the amount of their own money they can use for investment trading.

Critics have said that splitting up banks could damage the UK's competitive edge and make them leave the country.

HSBC and Standard Chartered have questioned whether they would keep their headquarters in the UK should the commission recommend a break-up.

The other members of the ICB are former Ofgas director-general Clare Spottiswoode, ex-Barclays chief executive Martin Taylor, former JP Morgan co-chief executive Bill Winters, and Financial Times chief economics commentator Martin Wolf.

The ICB has until September 2011 to make its recommendations to the government.