LIKE them or not, many of the most influential financial innovations of the past few decades have come from Britain: the euro-dollar market, the Private Finance Initiative and “light touch” regulation of financial firms. London cannot claim credit for having produced all of the whipping-boys of the financial crisis. Credit-default swaps and collateralised-debt obligations, to name but two, were proudly made in America. Yet London was the place where the world came to trade many of these instruments, making it the biggest hub for international banking and the pre-eminent laboratory of finance. Now, with the release this week of a report by the Independent Commission on Banking (see article), whose recommendations the government says it will implement, Britain is conducting an experiment every bit as bold as its previous ones. The aim is to withdraw the long-standing public guarantees that buttress many of the world's biggest banks without blowing up either the economy or the financial system. The commission, chaired by Sir John Vickers, suggests splitting the country's banks into two parts, dividing their retail- and commercial-banking bits from the racier investment and wholesale sorts. The retail bank will hold thick buffers of equity and loss-bearing debt that far exceed those agreed to internationally. The result will look more like the 1930s Glass-Steagall act in America than many British bankers had hoped. That these bankers have not squealed louder partly reflects relief that regulatory uncertainty should now diminish. But it is also down to the commission's success in drawing the sting of three potential objections. The first is that tougher rules risk making British banks less competitive. So the commission recommends higher standards only for the bits of the banking system that are rooted in the domestic market. Britain's investment banks (principally Barclays Capital) will be held to the same equity capital standards as international peers.

The second objection is that there are diversification benefits to the universal-banking model. Stand-alone retail banks, such as Britain's Northern Rock and America's Wachovia, failed during the financial crisis, after all, when an investment-banking arm might have pulled them through. So the commission rules out a complete separation of the retail and wholesale businesses. The final critique is that adopting ring-fences and piling on more capital will drive up banks' costs and may make credit more expensive in the wider British economy. But the transition periods are generous: banks have until 2019 to put the new structures in place, and lenders seem confident that they can get there without having to raise extra capital. And raising funding costs is partly the point of the exercise. By making it easier to dismantle a bank in trouble, the commission wants bank creditors to price in the potential for losses.

It is on the issue of failure, however, that the thornier questions still lie. The ring-fence structure makes a distinction between the bits of banking that need saving (deposit-taking banks, payment systems and the like) and the bits that do not (bonus-gorging investment bankers). But in a crisis it may not be possible simply to cut investment banks loose. The destruction wrought by the Lehman bankruptcy is exhibit A. Ask yourself, too, whether euro-zone politicians would want any big bank to go under right now. The Vickers answer is to get banks also to hold thick layers of “bail-in” debt that will impose losses on private creditors of a failing institution before taxpayers are called into action. A fine idea, but these instruments are in their infancy and have yet to be tested.

The petri-dish of finance

If the Vickers proposals do not guarantee an end to the crises that periodically plague finance, they still represent a worthwhile attempt to disentangle the hold that banks exercise over the public purse. Other countries are under less pressure to experiment: Britain has an outsize banking system that verges on being too big to save, let alone too big to fail. But the financial world should once again be keeping its eyes on London.