Breaking up is hard to do, but that is what will happen to British banks if Vince Cable gets his way

It was in 1933, just a few years after the Great Crash, that Washington's politicians inflicted their retribution on Wall Street's banks for their part in the country's economic downfall.

JP Morgan was split into two – one part commercial, the other the speculative, investment banking arm we know today as Morgan Stanley – under the Glass Steagall Act on bank reform. Others suffered a similar fate.

Last week George Osborne, the new Chancellor, along with his Lib Dem partner, the Business Secretary Vince Cable (right), kicked off a process that could see similar vengeance wreaked on the UK's banking system.

In a year's time, Barclays could be split from its money-making but riskier Barclays Capital arm led by Bob Diamond. Royal Bank of Scotland could be prised into two, with the costly ABN Amro-based investment business, bought three years ago, left to go it alone. Meanwhile, spare a thought for Michael Geoghegan, chief executive of HSBC, which steered a relatively safe passage through the recession, but could also find itself shorn of its investment banking operation.

The spectre of the likes of Barclays shipping large parts of its operation to far-flung, more regulatory friendly juris- dictions around the globe, remains a possibility, according to many in the Square Mile.

Last week, the new Government announced it was forming a cabinet committee, chaired by Mr Osborne, that will set up an independent commission to consider breaking up the banks.

News that the Chancellor rather than his Lib Dem counterpart would be leading the investigation into possible reforms brought an audible sigh of relief from bankers.

"The creation of an independent commission is a smart way to avoid dealing with the issue in the short to medium term," said one. "The City is happy it has been kicked into the longer grass for a bit, whatever the motivation for the decision."

Certainly the creation of the commission gives the Government breathing space for an international consensus to emerge on bank break-up. A lack of agreement on the international scene is mirrored in the coalition's divergent thinking on the matter. It will take time for a consensus to emerge here, too.

Mr Cable has consistently taken a tough stance towards the banks, advocating that wholesale arms should be wrested from the traditional activities such as lending. Such a move would return Britain's City of London to a pre-Big Bang world where merchant and high street banks remained distinct.

Back in January, Mr Cable left the City in no doubt that he supported a British Glass Steagall when he said: "Now that President Obama has taken on the issue of breaking up the banks on his side of the pond, it is time we do the same in the UK."

The man driving through America's reforms, Paul Volcker, President Obama's lieutenant born two years before the 1929 crash, spoke in London last week. He outlined his "Volcker Rule" break-up proposals, which included forcing banks to trade complex derivatives through a regulated and transparent exchange, rather than via the over-the-counter backdoor route favoured by many banks. He said banks should not be allowed to dabble in hedge fund or private equity-related activities, either.

Mr Osborne, while clearly sympathetic to such a view, has taken a less decisive stance on banking break-up than his Lib Dem counterpart. Last year, he said: "Whether any form of separation between retail and investment banking, even within the same financial group, is feasible or desirable, it is clear that size itself is a risk factor."

However, he has consistently fallen short of signing up to a definitive separation edict.

Last week, Mr Osborne stated that the Government "wished to reduce systemic risk in the banking system to investigate the complex issue of separating retail and investment banking in a sustainable way".

How exactly such a separation would work remains to seen. Political realities are likely to dictate a more diluted set of rules. Although differences remain between the Business Secretary and the Chancellor, the pair do agree on the issue of slashing banking bonuses through a so-called banks levy. There is no doubt wealthy bankers will have to pay up in the coming years.

But before the new commission reports next year, controversial Basel capital reforms will be thrashed out, while a raft of other regulatory measures, such as a Financial Stability Contribution, could be introduced too.

According to analysts at the investment bank Credit Suisse, the wave of regulations coming to European banks could wipe as much as€€244bn from the sector in lost earnings and higher capital requirements.