The European Journal

One small step for Mr. Osborne – one big step for Tories

At last, it seems that the Shadow Cabinet has finally got the message that banking and insurance sector regulation and control should be put back where it belongs – back in the safe hands of the Bank of England. So, given that they actually win the next election, it will be a big if you have done, thanks for coming bye-bye to the Financial Services Authority in its present form – assuming of course that the Tories are as good as their word. Instead they actually propose to turn Gordon Brown’s leviathan FSA creation of all consuming power into a meaningful consumer protection unit taking away some previous duties and responsibilities of the Office of Fair Trading in the process. So far, so good but what a pity that while Shadow Chancellor Osborne has listened to sound advise on banking regulation and control and seemingly responded accordingly he remains obsessed to the ridiculous notion that the biggest of our banks might need to be broken up on the basis that consumer are losing out. OH dear, what are we to do! I am almost lost for words that for some reason it seems that Mr. Osborne and his colleagues actually believe that there should be an optimum size for a bank…….

True, Mr. Osborne is playing to a wide gallery of voter concern stirred up by the press and while seeking to play the good guy is seeing the matter of bank size purely in the eyes of the British consumer. This totally ignores the fact that most bank income and thus the benefit to the wider UK economy and exchequer comes from other sources. To play in international markets, to compete in wider markets and to bring in the sort of income that Britain will soon be crying out for requires that our banks need to be large. Of course, it is right that consumers needs to be protected and it may well also be right to look at whether the size of some banks means that the consumer is losing out. Have another inquiry by all means but my best guess is that it will probably confirm that the consumer has actually benefited from having wider competition and choice by allowing banks to function in a free and uninterrupted market process. Please though don’t do a Gordon Brown attempting to blame all the problems that we have seen on the banks themselves failing to accept that government got it wrong too big time and that if banking regulation had been left where it was the mess that is now being swept up may have filled a lot less bins.

Critics have been quick to shoot down the Osborne plan before it had even been formally announced. Of course, some of those putting their heads in the ring such as Lord Myners have already been discredited so we won’t too much worry about them. Others such as Lib-Dem Treasury spokesman Vince Cable appear to have finally gone off the rails if it really is true that they are blaming the last eighteen months mess purely on the size of banks as opposed to the failure of those charged with regulation within the Tripartite agreement from correctly doing their job. Overall I for one welcome the Osborne plan though I would wish that he had gone very much further – kicking away any idea once and for all that the European Union should become the primary regulatory authority for all banks. No thank you – Westminster may be far from perfect but it should in my view retain total authority over all matters of regulation and control of British based banks whether they are domestically or foreign owned. So, come on Mr. Osborne, please stick your head over the parapet and say that any attempt to allow the EU to influence UK bank regulation and that might destroy the huge competitive advantage that British banks have earned will be shot down in flames.

As a final thought I might add the remark that changing course, following eleven years of Tripartite Agreement operation, would not be as easy as it sounds. For example, when the Tripartite Agreement first came into operation in 1998/9 it is my understanding that the many of those empowered with commercial bank regulation responsibility at the Bank of England then moved over to the FSA. What happened to them after that is anyone’s guess. True also that while there are two sides to every story it might well be right to say that the Bank of England record on regulation up until 1998 was not exactly covered in glory. I am thinking here about the Bank of Credit & Commerce International (BCCI) even though I fully recognise that the BoE was not responsible for the manner in which BCCI was suddenly closed down. My point though is that to effect a sound and responsible regulatory policy will require a lot more than the just a simple handover and the BoE poaching a few hands back from the FSA. I am of course a great supporter of the Bank of England and particularly the Governor though I also recognise that the BoE missed more than the odd trick on Northern Rock over the years. So, to ensure that such failures do not occur again in our lifetimes again requires a back to the drawing board approach by the BoE – a complete new strategy that is designed for a very different and far more international banking and insurance sector than the one that existed back in 1998.

Future financial and banking market regulation – defending national interest & the ultimate power of Westminster

Howard Wheeldon writes: Oh to live in the US where defending the national interest will always be the highest priority in the land! Not so in Britain though as day by day our hapless government appears content to cede more Westminster control to the EU and to completely ignore the words national interest.

First things first though – a quick take on events at the Mansion House. Quite rightly, in challenging the view of Alistair Darling the Bank of England governor Mervyn King has significantly raised the stakes on the overall debate of bank regulation. Rare though it is for a BoE governor to seriously clash with government policy quite so publicly – if that is what you can call the scatterbrain policy approach of the incumbent government – in this case it is to be welcomed. However, whilst most will generally support the King view that the failed tripartite agreement lies at the heart of the UK regulatory problem, they may not necessarily agree with the governor that forcing banks to make a choice between consumer/retail banking and everything else is the right way to go. Amongst some other interesting remarks from the lips of the highly respected BoE governor was one that implied that if a commercial bank thinks it is too big to fail it is actually means it probably already too big and must be slimmed down! Many would take issue with this questioning who is to decide whether a bank is too big or for that matter, perhaps even too small? Meanwhile it seems that the tripartite strategy for UK regulation will regrettably live on with extraordinary powers to regulate banks left for now in the hands of the Financial Services Authority – as opposed to where they should be, in the hands of the Bank of England. Even so, one may hope that when the government presents its final plans to the Commons there will be significant improvements in lines of responsibility given to both the Bank and FSA in the new legislation that the government will shortly propose.

Arguing about who should control UK banking and financial sector regulation internally is one thing but giving away powers to the European Union quite another. Earlier, the House of Lords European Union Committee rightly in my view lambasted government failure to stand up for UK interests. The report they issued coincided with the likely reappointment of Jose Manuel Barroso as European Commission president for a second term and it exposes a timely reminder of the determination of Barossa to push forward plans for an EU wide financial and supervisory system in which EU members would in affect cede control of regulatory policy to the EU. Not surprisingly this appears to have the backing of France and Germany. But sadly, to all intents and purposes, it also appears to have the support of the UK government. At that point internal regulatory authorities would, it seems, become agents of the EU in which they would then be required to police the system domestically and to provide early warning of problems. Assuming Barosso manages to force ill considered reactionary legislation through Brussels the UK would be placed in a difficult predicament of automatically losing powers over domestic regulation of its banks and foreign banks that operate in the UK unless of course it decided to opt out. Ahead of signing up to the Lisbon Treaty the UK does still have powers to opt out of planned EU regulatory legislation, should it choose, but if my understanding is correct, if for instance Ireland votes to accept the Lisbon Treaty shortly as seems increasingly likely given the concessions it has won, Britain may then be faced with a difficult dilemma of either holding a referendum on the Treaty or automatically signing up. If the process stretches out and we assume a Conservative win at the next election, that could also mean that David Cameron could be faced with the possibility of holding a referendum very early on.

Meanwhile it seems that the British government is, apart from pushing forward immediate proposals for domestic regulatory reform from FSA chief, Lord Adair Turner and that have gone down like a hole in the head, content to wash its hands on future banking market regulatory policy and control preferring to hand the ultimate problem over to the EU. In doing so and in the certain knowledge that he has less than a year left at Number Ten the Prime Minister, a master of political disguise and past master of a say what you mean but never mean what you say politics appears determined that regulatory control of the City of London will eventually be ceded to Brussels. In itself this is appalling and probably irreversible. Even so, the fear of Brussels control is made all the worse by seeing little if any concern expressed by David Cameron. Clearly we all accept the need for improvements in cross border supervision and control of financial institutions in Europe and indeed, across the world. It is right that we also need better cross border supervision, more co-operation and some necessary enforcement but when it comes to the workings of the City of London we in Britain must ensure that Westminster retains overall regulatory control. Fail to halt the EU momentum now and we in Britain will end up not only with an over zealous regulatory regime but also the potential loss of the competitive base that has made the City of London the dominant global financial market powerhouse it is and rightly deserves to be. Fail now, cede further Westminster control to ill thought out proposals that create a further restrictive EU based legislative structure and we may as well bury what’s left of any remaining national sovereignty.

Before I move on to discuss concerns that the Tory Party has as yet failed to get its act together on the necessity of retaining Westminster supremacy on matters of financial and banking markets regulation let me just remind what it is that EU President Barroso is attempting to push through to create EU based regulatory legislation. Essentially this comprises the creation of three pan European watchdogs that will act to ensure that all EU nations implement whatever new base regulatory legislation appears on banks and banking market supervision. Yes, that means the creation of yet another EU board – this one to be called the European Systematic Risk Board. There are also plans for a European System of Financial Supervisors that would engulf or encapsulate existing national regulatory bodies such as the FSA. As I see it the Barroso proposals would mean that EU regulators would have the ability to veto and overrule all matters of national regulation and, as is the case now, the final authority for disputes to be resolved would be the European Court of Justice.

Back in November 2005 in a speech to the Centre for Policy Studies Tory leader David Cameron said that we must draw back powers – repatriate them – to govern market legislation, employment legislation and so on. He also said that it was imperative to regain competitiveness for the UK and that to achieve this required repatriation of powers [from the EU]. However, whilst I am reasonably assured that Tory Shadow Chancellor Osborne is opposed to passing over regulatory control of banks to the EU it seems that the Shadow Business Secretary, Ken Clarke, takes quite the opposite view playing for further discussion that essentially hides from an opinion that regulatory control should be ceded to the EU. Indeed, until I am hopefully proved wrong, I will continue to believe that Mr. Clarke’s view of discussion is merely playing for time on a probable belief that the longer the issue is discussed the more likely that Britain will be powerless to prevent ‘City of London’ regulation passing to the EU. Clearly, any forced ratification of Lisbon will play into Clarke’s hands. Clearly it is time for the Tories to come totally clean on the issue. Right now the line that HM’s Opposition Party is taking is not only confusing but it appears to be speaking with forked tongue.

With Mr. Brown having done little so far to provide any confidence that he will put the UK national interest first, protect the essence of Parliament by ensuring that the indisputable supremacy of Westminster is retained above that of the EU it seems that the government risks throwing the future of the City of London to the wolves by the back door. To do this risks the very future competitiveness of an industry that is so important to the UK economy that we just cannot allow regulatory control to be ceded to the EU. Meanwhile we must keep constantly reminding ourselves of just what we are potentially throwing away by potentially allowing French and German financial institutions such an easy ride. Failing to recognise the importance of this industry – of what it is now and of what it can probably soon again be in the future – a competitive and brilliant industry that can carry the flag of Britain around the financial market world whilst at the same time providing excellent returns for the British exchequer – is a message that somehow we must get through to our hapless politicians.

Why replicating European car scrapping incentives is unlikely to work so well in UK

All credit to German, French and Italian governments for introducing various incentive schemes that pay owners of older cars to trade them in for scrap. But, please don’t run away with the idea that belatedly introducing a similar scheme here in the UK would provide similar benefits as those seen in Continental Europe. Why? Historically over the past ten years during more typical automotive markets, it is true to say that the majority of cars produced in the UK [around 75 per cent] have been exported. For the most part, that means cars purchased by British drivers and companies tend to be imported vehicles suggesting the significant benefits of a UK government sponsored £2,000 trade in for cars in a range of say nine to eleven plus years old would primarily benefit the likes of Renault, Peugeot and Ford that produce no cars in Britain. True, British consumers do purchase some of the cars produced by the likes of GM, Toyota and Honda here in the UK so there would be some small benefit. The same could be said of engine and component makers. Ford still manufactures substantial numbers of engines at Dagenham for export and driveline component manufacture GKN would clearly benefit if a UK incentive scheme managed to boost sales particularly at Jaguar and Land Rover. The point though is that while the German economy has enjoyed a dramatic 40 per cent monthly rise in car sales since the introduction of a EUR 2,500 scrapping incentive scheme last month does not automatically mean that similar economic benefit can be expected here in the UK.

If the above proves to be right, one may easily argue that the majority of benefits from such a scheme would be enjoyed by Continental European car workers as opposed to their British counterparts. For UK workers and the various subsidiary operations of the foreign owned car plants in the UK to benefit requires not only a full Europe wide incentive scheme but also similar schemes across Asia and even the US. That isn’t about to happen on anything like the scale necessary. The other issue here is that while any incentive scheme proposed by the government is almost bound to produce an uptick in UK new car sales it will also be helping to create a somewhat artificial market. By this I mean simply that encouraging consumers to buy cars now surely means that they won’t necessarily be doing the same in 2010 and 2011. If right, that could have impact on decisions by parent companies of UK car manufacturing subsidiaries on future investment. OK, so over a five to seven year cycle it should balance itself out and I have already made mention of the predominance of UK car production for export. Taxation and incentives to retain plants in the UK apart, what the rest of Europe and Asia does to incentivise consumers is probably of far more importance to industry chiefs than anything that the UK government might choose to do to boost domestic sales. Another argument worth noting in this particular debate - even if somewhat more difficult to prove in such an unprecedented market collapse as this – is that US car manufacturer incentive schemes that became the norm in the post 2001 era could probably made the bad situation that is very visible today significantly worse. Why? Simply because the huge competitive discount offerings from the big three indigenous US based car manufacturers let alone from the Japanese transplant operations plus various zero interest financing incentive schemes offered since 2001 persuaded many consumers to actually buy a new car that they didn’t actually need. If so, one might well say that even if they could afford to buy a new car now and that they could actually get the finance they don’t actually need to buy a new car for some considerable time. After all, in difficult times and despite massive incentives, buying a new car is a huge risk if you happen to be living in fear of redundancy. Added to this argument is the likely fact that the fall back in the price of oil, despite the recent small pick up in price of the black stuff, has probably removed part of the incentive to purchase more fuel efficient cars.

Clearly, if the UK government goes ahead with a similar incentive scheme there will be some beneficiaries. UK carmakers should be able to more quickly shift the already existing stock of cars stored at various sites around the country. In theory that should mean that currently mothballed production plants could get back into operation in the autumn and winter of this year. The real winners of any such a scheme would clearly be the struggling band of distributors and dealers but remember that whilst important, fewer jobs are involved here that in the manufacturing and component industries.

Arguably it would be right to say that compared to help that the US, German, French and Italian governments have provided to their respective car industries that the British government has so far done little or nothing to help the struggling domestic car industry. OK, so using the good offices of the European Investment Bank, £340m has been approved for Jaguar Land Rover and Nissan is also to get some help. The reality though is that despite plenty of waffle and promises UK Trade Secretary, Peter Mandelson has done virtually nothing to help this struggling yet vitally important industry that across the piste employs so many jobs and that from an economic angle is so important for exports in that it helps offsets the overall automotive industry trade deficit. True, struggling as the nation is with the huge rise in government borrowing requirement, one may argue that we simply cannot afford to provide help for this industry on the scale of others. So be it but the government needs to remember that when the UK car manufacturing industry is gone it won’t be that easy to get it rebuilt and it also needs to be aware that by failing to help it is kicking the very people that probably voted it in.

European Central Bank –Crunch time looms

The European Central Bank council should count itself fortunate that the highly respected Bundesbank President, Axel Weber is a member. Weber, an economist by training and head of Germany’s ‘central’ bank since 2004 is given to talking a great deal of sense. Weber’s view is that a one percent floor on ECB rates should be firmly placed and announced following a likely further 0.25 per cent cut widely expected at the next ECB meeting due on 7 May. Announcing a 1 per cent floor would at the very least provide Euro member commercial banks and other lenders with sufficient confidence to plan ahead with some degree of certainty. While the problems faced by US, Euro and many other nations that have been dragged in may differ in extent most agree that improving the health of commercial banks, the provision of sufficient short and long term liquidity availability and confidence so that they might kick start lending between themselves and subsequently, to business and consumer alike, remains at the heart of the current crisis. The rest of the twenty-two strong ECB council should take Weber’s words of wisdom to heart. Not only is the influential German representative seeking to put a firm floor on rates though as he also favours that the current basis of ‘unlimited’ ECB liquidity provision to banks should be extended from the current six month maturity basis to at least one year and maybe even longer than that. Once again, this makes considerable sense.

Clearly, not all member states agree that putting a floor on ECB rates at 1 per cent is sensible but somehow these must be persuaded. At the heart of the various internal bickerings within the current ECB council debate lies the difficulty of achieving agreement not only on future interest rate movement but also agreeing a refinancing package for delivery next month that includes a plan to purchase debt. Importantly the hope will be that the ECB also comes up with something that can really benefit the weaker Euro member economies too and that reduces the domestic political pressure on them. That may be even harder to achieve. On the interest rate floor debate Weber is mainly concerned that if benchmark ECB rates are brought too close to overnight rate this reduces incentive of banks to lend to each other. Clearly this has to be seen as a very sensible argument though achieving agreement on this within such a disparate council made up of ‘central’ bank chiefs from Euro based countries small and large and rich and poor will be equally hard.

With sixteen member states having adopted the Euro since the currency was introduced in 1999 this next month really is crunch time not only for the currency but also the ECB in my view. Central to the issue is how dominant economies such as Germany and France and the representatives of these on the ECB council take to heart the sufferings of smaller Euro member nations such as Portugal, Slovakia and Slovenia. Indeed, right now, we cannot even be sure that the Germans and French even agree. The voices of Spain, Ireland and Italy and that do not have the financial strength and power of France and Germany will also be heard.

Time is running out. Whilst there appears to be a slowing of economic decline in the US and even a touch more confidence amongst none Euro member states despite a host of other problems they might yet have to solve there is as yet no sign that the rot of decline in the Euroland economy has yet slowed.

Thus it is crucial that the ECB provides a firm lead in May on which all Euro member states can agree and work within. OK, so what we are talking about here is the stuff of dreams but increasingly the future of the Euro itself and of confidence that international investors have in the ECB economy and currency is dependent on seeing the ECB providing a jolt. After ten years in existence we should by now be able to view with confidence that the ECB is sufficiently established to provide the confidence that the rest of the world craves. Right now we just can’t do that.

Whilst agreeing that the UK, Denmark and Sweden as leading EU members had been right to stay out of the Euro it is true to say that through its ten year history I have generally agreed the cautious stance taken by the ECB. Until recent events, development of the Euro economy over the past ten years has been both slow but also sure and very sound. This was right but we are now in 2009 facing a very different set of consequences and events. Of necessity in my view the ECB must now come out of the closet and provide sufficient economic leadership to bring the EU economy out of the current mess. This will mean stepping up the amount of risk that it takes. Sure, that the majority, well at least half, of Euro members have been innocent bystanders in this crisis of confidence does require that the ECB takes due heed of their respective needs. For these nations, this should not be a simple case of ‘you made your bed [joining the Euro] so lie on it’. Moreover it is that the ECB must take responsibility for providing sufficient special assistance to help them see their way through. Playing the blame game and joining in calls for substantial regulatory change may be right in essence but right now it is not what the ECB should see as first priority albeit that by providing views does at least provide part confidence that it accepts its own system has failed.

What no Euro member needs now is to see the ECB and the council of members playing a game of bowls whilst the enemy – recession is not only at the door but rife amongst all member states. Until now I have avoided any criticism of how the ECB has behaved through this crisis and for just a few more weeks, at least until the package of measures promised is finally announced, I will stick to that policy. But, if the ECB fails to give a precise lead then and one that might begin to take this vast and important area away from deepening recession and also one that can be agreed and worked by all Euro member states then it won’t only be me that turns on their hands. Indeed, this is now such a crucial decision time for Euroland that failure now might even bring down the whole pack of cards. Over to you M. Trichet!

Euroland Shivers Toward New Industrial and Economic Reality

The sheer size and scale of Member State GDP decline may differ from nation to nation but the message is abundantly clear – the EU is headed for an unprecedented period of economic contraction from which it will take many years to recover. UK apart, the situation is far worse for those that are stuck with a grossly overvalued euro. We should care more for their plight. Having thrown away all independence to come under the spell of the European Central Bank, there can be absolutely no escape from further GDP devastation though 2009. How much longer I wonder before the political voices of discontent really do begin to be heard that the ECB, the guiding hand of the Euro and the great protector of the Euroland economy is failing to act? Perhaps not that long! And how much longer before voices of discontent from smaller euro members such as Ireland, Portugal, Greece, Spain and even perhaps Italy lose faith in the euro?

It is probably easy for some to believe that the treachery of abandoning the euro, creating a national currency that can be allowed to freely devalue and that would allow any current member nation to gain an upper hand competitive hand on export potential, the reality would be very different. Believing that it might be possible to make yourself more competitive is one thing, but for any weak nation the reality of abandoning the euro probably also means abandoning or being thrown out of the EU. I am in no doubt that there are some, including perhaps some of my own colleagues, that would love to see the EU begin to break down. I do not share such a view and neither do I wish to see an end to the euro. But what I do want to see is the ECB acting in a manner that reflects the seriousness of the current plight of all euro Member States – not just at the beck and call of Germany and France.

What I also want to see is the European Commission abandoning, even if only temporarily, rules that prevent individual action of Member States to provide genuine assistance to their respective industries. Neither do I wish to see a two tier Euroland develop any more than it already has. I believe too that the main institutions of Euroland, meaning the ECB, and the European Commission itself are duty bound protect all rather than just a few Member States. They created the bed – they must fair and make enough room for all to lie on it.

Back to the departure issue though, the problem behind any Member State actually abandoning the euro. Walking away from the euro is one thing - abandoning the Europe Union is surely quite another. To do that would essentially also mean being cast aside by the rest of Europe and maybe, if the external perception of rating agencies, and other fine institutions is that the economy is so weak and that there may be dangers of political unrest developing, being cast aside by the rest of the capitalist world too. My guess is also that the banking system in any country that left the euro would very quickly collapse and that they would be forced into the hands of the IMF. Thus, unless the situation weakens to the point that serious political unrest takes hold, I am forced to take the view that the barriers to leaving would be very much greater than the formidable existing barriers to entry.

For now then we should think it very unlikely that anyone will seek to abandon the euro. Perhaps we in the UK should be grateful for that. No matter what, with the die already cast there really is no alternative for the minority but to stay in the euro unless and if political unrest really did take hold. Even allowing for concern within some newer euro members, I think that situation very unlikely. Overvalued it may well be and with most Member States desperate to see some form of euro devaluation, for good or ill we must remind ourselves that over the ten years since it was formed the euro has probably done far more good than harm.

Back in the real world and given horrendous, if well anticipated, Q3 GDP figures for France and Germany this morning it seems that current IMF projections that the euro economy will decline by 2.5 per cent in the current year may well be far too low. We could be talking here of a 3 per cent or even 3.5 per cent decline in fiscal 2009. And just what is the European Central Bank doing to ease the plight of Member States? Little more than adjusting inflation expectations down and signalling that interest rates will be further cut next month. Slow, slow…..plod, plod….slow. Yes, it is playing the game of attempting to provide additional liquidity for banks and it has attempted to join in a coordinated approach with other global central banks to the economic ills we suffer when it could. But it has done nothing to alleviate the problem that the euro is too high. What should the ECB do? Exactly what the US and to a lesser extent, the UK is doing – throw caution to the wind and throw money at the system.

True, the ECB is restrained through a certain lack of freedom. It is responsible to all members of the euro and it is the individual Member States that in the end would need to effectively stump up. It isn’t quite so easy for the ECB to pile into a quantitative easing strategy as it is say, for the UK. Essentially we are talking here about extending the national debt of each Member State to the point of breaking the self inflicted borrowing rules. And at some future point, anything the ECB eventually has to be paid for by those sameMember States through higher taxes.

With Germany – the engine of the euro economy – posting a hefty 2.1 per cent GDP decline in Q3, Italy down 1.8 per cent and France down 1.2 per cent the extent of the problems facing the euro economy can be easily seen. At the heart of this is the decline in manufacturing exports that can perhaps predominantly be blamed on the uncompetitive euro together with the undeniable fact that as this is a global recession few nations are buying.

What you see is what you get and with Germany so reliant on manufacturing it comes as little surprise that the GDP decline here tops the list. Across the whole EU area, car sales have been devastated and with it production of steel and all related component activity. This is likely to get even worse in the months ahead. In part, due to the longer lead times necessary and the traditional rules of late cycle performance, heavy industries will also find the position worsening over the coming months and for these guys, there can be little comfort as they look toward 2010. Can Euroland industry survive this crisis intact? Much will depend on amounts of individual government cash that gets thrown at them. For instance, France has already thrown its car industry a lifeline in the form of a EUR6bn package of relief. Quietly Germany is seeking to do something similar despite the raging argument that individual relief packages – be they loans or whatever else governments seek to call them – are effectively protectionism by another name. Hardly fair on those euro based governments that do not have the resources to throw at their systems and that are now forced to be reliant on actions to reflate coming solely from the ECB. Not that any amount of complaining such packages are unfair is likely to worry either French or German governments even though we might well assume that sooner or later relief ‘loans’ such as those that we have seen announced by the French could well be outlawed by the European Commission. By then of course, it will be too late.