Bob Diamond’s assertion that banker’s period of ‘remorse and apology’ is over certainly created widespread consternation, but it’s the government’s decision to effectively do nothing about the size of bonuses paid out to banking employees, that has left many scratching their heads. Over the past two years, mounting public outrage has created a cross-party consensus that ‘bonus culture’ was out of hand, with everyone from Mervyn King to the Archbishop of Canterbury weighing in to condemn excessive greed in the financial sector. With the banks’ profitability – for some their very existence – reliant on massive and continued state support, how could they fail to bow to such unanimity of opinion?
The righteous anger expressed by politicians on this issue was always a red herring – a means of diverting public concerns away from serious reforms, whilst still appearing tough.From the perspective of both the banking industry and their political backers, efforts to show restraint on bonus payouts provided a much needed pressure release valve. It is therefore surprising that not even token gestures have been made. Then again perhaps not: the banks have conclusively won each and every battle they have faced in the wake of the financial crash of 2008, there’s simply no need to worry about PR when you have that kind of power.
This winning streak began with the bailouts. Virtual blank cheques were handed out to the banks; tens of billions poured into black-hole like balance sheets. Afterwards, quantitative easing – which created the strongest rise in share prices since 1987 - and low interest rates to keep the supply of cheap money flowing, all with minimal strings attached. Instead there was the vague understanding that the new lending this would encourage would kick start the economy. However, the banks have remained on an extended capital strike, withholding lending from small and medium enterprises while they seek out more profitable opportunities.
Likewise concerning the size of the banks: the systemic risk posed by ‘too big to fail’ and too interconnected institutions remains. Another crash would mean another taxpayer bailout. Those who came out of the crisis relatively unscathed – take Barclay’s and Lloyd’s - picked over the corpses of those that didn’t – Lehman Brothers and HBOS – to become even larger. The separation of retail and investment banking was called for as an urgent necessity by many commentators after the 2008 crash. None were more vocal than Vince Cable, who in December 2008 demanded that government “take more direct control of the banks; to restructure them, stripping out their casino operations; and ensuring that banks do their job of lending to sound businesses and households.” He’s now a little quieter on the matter, and fortunately has an enquiry to hide behind: The Independent Commission on Banking, which will not give its recommendations for structural reforms to the banking sector until the autumn. Nearly three years on from the banking collapse, things remain just as they were in this respect. Some suggest that the measures recommended by the ICB may be a lot stronger than the industry would like.
Sir John Vickers, who is heading the enquiry, appeared to confirm this at the weekend in a speech delivered to the London Business School. Then again, perhaps not. As well as being predictably vague and non-committal, Vickers’ appeared to rule out the kind of ‘radical’ restructuring that would ring-fence retail banking. Even if the bank lobby loses and the ICB does end up pushing for an overhaul, it’s hard to see the coalition being willing or able to implement one in light of recent events.
Vickers also raised the issue of inadequate capital requirements – the amount of equity capital banks are required to hold as a proportion of outstanding loans. Part of the reason why the 2008 crash was so severe was the tiny amount of money banks held to support their speculative activities. The balance sheets of the ten biggest banks in the world, for example, almost doubled in size between 2003 and 2007 without a corresponding increase in deposits. It was a result partly of lenient rules on risk taking, and partly of the shadow banking system which enabled the circumvention of the rules – at its peak, around $16 trillion of assets were held here, $4 trillion more than in regulated banks. The new Basel III rules, which were negotiated this year to force banks to operate with more restraint – and thereby less profitability - were weaker than even the optimistic of bankers could have hoped for, and will not even come into force until 2019. Martin Wolf, the Financial Times’ chief economics correspondent suggested in last week’s BBC2 documentary, ‘Britain’s Banks: Too Big to Save?’, that for banks to be truly safe, they should have a leverage ratio of five to one - double that stipulated in Basel III. As things stand now, these rules will probably fail tobe fully effective because the system of offshore tax havens – many of them British protectorates - that facilitate the shadow banking system remains intact, with regulators struggling even to get a handle on data concerning the size and extent of the system.
Ignorance of the shadow banking system has been matched only by ignorance concerning financial innovation, an ignorance that was in this case openly admitted as deliberate. New and extremely complex financial derivatives and securities were permitted to be traded with almost zero regulatory oversight, on the basis of the manufacturer’s claims that they would all but eliminate risk from the system - claims which were echoed by their most powerful cheerleader Alan Greenspan, who famously said in 2004, “Not only have individual financial institutions become less vulnerable to shocks from underlying risk factors, but also the financial system as a whole has become more resilient.” Brown’s ‘no more boom and bust’ was born from a similar intoxication with these dazzling complex new technologies, forgetting John Kenneth Galbraith’s famous maxim that, "All financial innovation involves, in one form or another, the creation of debt secured in greater or lesser adequacy by real assets." In this case, as it turned out, lesser.
Nowadays, even the likes of Adair Turner cite this as one of the major reasons why the 2008 crash was as severe as it was, but as on so many other fronts it remains largely rhetoric : the assumption that financial innovation is something unequivocally benign (an assumption which would never be taken seriously in any other field of science and technology) to be preserved at all costs, remains deep-rooted. Even if more significant steps were taken bank managers and shareholders have been sent a clear message that they will be supported by the state in the event of a crash and not substantially penalised for it, meaning the incentive remains for innovation to be used as a means to circumvent regulation.
This is a fight which regulators would be sure to lose. When the crisis hit, so few outside the industry could even understand how banks actually worked, that the banks – in particular Goldman Sachs - had to be brought in to supervise the government’s clean-up operation. Speaking in the Financial Times, Rupert Younger of Oxford university’s Centre for Corporate Reputation explains it thus,
“What’s evident from this crisis is the extent to which the banks have managed to get their way in spite of pressure from regulators … The banks are very sophisticated and extremely well-connected. By sophisticated, I mean that they have armies of people who engage in the policy details of what regulations they’d like to see. By contrast, the regulators have only a small fraction of the manpower that the banks have, which creates a power imbalance … The banks have so much more power and artillery that it can become hard for regulators to get an unbiased and considered perspective.”
And yet, there is no dramatic increase in the size and strength of the regulatory apparatus, though the warning signs are still there. High Frequency Trading (HFT), for example, appears to present a serious risk of sharp and unexpected crashes, as powerful computers automatically trade millions of shares per millisecond – the Dow’s ‘flash crash’ of May 6 last year could be simply a taste of things to come. HFT has grown over the past couple of years almost unnoticed, to make up an estimated 56% of equity trades in the US, and 38% in Europe– 30% of shares traded by long-only firms are now estimated to be done through computer algorithms. And yet, in the UK, all that is required to begin operating HFT is the necessary equipment and a company registration. Indeed, the FSA was recently attempting to prevent the emergence of stronger European legislation on HFT.
The list of the banks’ victories is longer. Set against this backdrop, what the decision on bonuses demonstrates more than anything is the naked political power wielded by banking executives, now so closely enmeshed with the upper strata of the political system as to have become virtually indistinguishable from it. Lord Oakeshott, the Lib Dems’ treasury spokes person, was recently quoted as saying, "I have pinched myself in recent weeks and asked who is really running the country – the banks or the elected government?" The dividing line often appears hazy. Private Eye notes this week for example that as Diamond faced down the Treasury select committee, several senior civil servants and Conservative politicians, including Cabinet Office minister Francis Maude, are or were until recently being employed by Barclay’s. The revolving doors spin for both sides of house though, most notably perhaps in the case of Simon Lewis, who was Gordon Brown’s official spokesman but is now a paid up banking lobbyist. Looked at from a distance the resulting organisation form is, as David Harvey puts it, a virtual Kremlin of capitalism.
Defenders of this corrosive order, when backed into a corner, have a single ace up their sleeves: any moves to constrain the banks’ activities, or force a meaningful redistribution of their wealth, will simply drive them and their most wealthy tax-paying employees - overseas. Singapore, Zurich or Hong Kong gaining at the expense of London, and by extension the UK services sector more broadly. Leaving aside the matter that the myriad advantages of locating in London and the logistical difficulties of moving make this at present little more than bluff (if not blackmail), there is no reason to believe the assertion that in the long run the banks confer any extraordinary blessings upon an economy that depends so heavily upon them. The Bank of England suggests that once the capital destroyed by the crash is taken into account, the financial sector really hasn’t historically performed any better than the economy in general. The ‘goose that lays the golden egg’ turns out to be mere common poultry.
Resuscitating the banks in their present form will entrench the UK’s economic dependence and consequent political subordination, so starkly highlighted by the bonuses furore. Breaking this relationship would have entailed using the moment of crisis to create new credit institutions from the wreckages of the old, operating as public utilities - a means to an end, not an end in themselves. The alternative is for society to have a gun held to its head indefinitely by this minority interest seeking to maintain at all costs this perverse system of socialism for the rich. Politicians of all Britain’s three main parties have so far shown they have no serious intention of even tokenistic actions. It’s now up to the public, specifically the movement growing around opposition to public sector cuts, to make sure this fight is not forgotten.