The Vickers Commission was meant to put a stop to this by safeguarding ordinary retail banks from the gambling of investment banks. Laurence J. Kotlikoff shows that the Vickers proposals fail to do this. Even banks deemed ‘good’ can turn bad, since no one can predict which ‘safe’ assets will actually be safe in the future. Moreover, ‘bad’ banks are still left too big and too powerful. If they fail, they will drag ordinary banks down with them, freezing the payment system and creating a recession in the wider economy.
Kotlikoff’s alternative, Limited Purpose Banking (LPB), replaces the current system of ‘trust-me’ banking with the more transparent ‘show-me’ banking. LPB bans banks from holding anything except mutual funds. Mutual funds hold no debt, so they cannot individually, or systemically, fail. The payment system would use on-demand deposits that are backed pound-for-pound by actual cash.
Bankers would not be allowed to lend out their customers’ money without explicit permission and full disclosure of the risks. Large private losses could still take place within the financial system but without endangering the rest of the economy or burdening taxpayers. In short, Kotlikoff’s proposal stops bankers from being able to gamble with other people’s money.