The reputation of London has been damaged by recent events in the financial markets. The UK government is keen on talking about problems as if they are entirely of US origin, and that the UK is a hapless victim. Of course, it is a global problem – but some of the regulatory failures have been most obvious in the US and the UK.
While subprime lending in Birmingham, Alabama, may not be [UK prime minister] Gordon Brown’s problem, he does have responsibility for 125% loan-to-value lending to homebuyers in Birmingham, England. If you look objectively across the world, the regulatory failure is at its most pronounced in the UK-American sphere, and the UK must certainly share part of the responsibility for that regulatory failure.
The regulatory system that the UK is operated under was developed in 1997 [after Labour took office] and this was the government’s first big test. Clearly it has failed.
No return to old model
However, we are not suggesting going back to the former model [with bank regulation carried out by the Bank of England]. The Financial Services Authority (FSA) as a single regulator of the financial sector is the right way to do it, but the UK has lost sight of the macroeconomic regulatory role. We have proposed that the Bank of England should have a defined role in monitoring the expansion of credit at an aggregate level and of alerting the FSA to its concerns, where bubbles are being created. It should be the FSA’s duty to respond at the micro-level.
For example, prior to the current crisis, under this scenario the Bank of England would have expressed concern about excessive loan-to-value lending in the residential sector. The FSA would have treated this as a general alert about the economy and as a specific alert about those institutions that were indulging in the kind of lending practices driving the problem. As far back as 2006, it would have alighted upon Northern Rock, HBOS and Bradford & Bingley [three UK banks with heavy exposure to the mortgage market that ran into trouble].
Risk of oppressive regulation
Going forward, there will be some jurisdictions that will over-react and respond to populist pressure and nationalist market sentiments that we see gathering pace in the US and some parts of Europe. There is a possibility that regulation will become oppressive and squeeze out the innovation that is essential to a global financial market.
There is also a possibility that other areas of the world, perhaps some of the emerging banking centres, will not respond to the challenges of the financial crisis and remain under regulated. There is a real opportunity for London if we can get it right in the UK, by occupying that middle ground – that is, sensible, targeted, effective regulation delivering the required protection, which does not go so far that it stifles the innovation which enables the market to be vibrant.
Mindful of revenue
One of the big advantages we have in London is that there is a fairly broad degree of political consensus about the need to protect the city as an international financial services market – not least because everything that we as politicians want to do requires tax revenue, and one of the most important sources of tax revenue is the wealth generated by the financial services sector.
So once you get past the rhetoric, nobody in the political world wants anything other than London coming out of this crisis stronger in the long term and not weaker. I am not sure there is the same consensus of support for the financial sector in other parts of the globe, both in the US and in the rest of Europe.
In the US, with a Democratic congress, a new president and a populist clamour for regulation, we have already started to see the pattern of how this might emerge. There is a possibility that the circumstances there will be less favourable to getting a balanced, rational and favourable solution than the circumstances in the UK.
There are things we have to get right, however, both with the physical infrastructure and the business environment.
With infrastructure, we do not believe that a fiscal stimulus [as announced by the UK government] is a sustainable or a sensible way forward, given the UK’s current economic position. We have said that we have no objection to the advancing of existing infrastructure programmes but the reality is that there is very little in the pipeline that is ready to go, and the problem with UK infrastructure is partly funding but partly the planning process.
Huge hurdles
There are typically huge hurdles to overcome to get an infrastructure project on to site. The idea that the world can address the immediate needs of a recession using the 1930s approach – that you just dream up a project and then hire 10,000 unskilled workers, give them each a pick and a shovel, and six months later the Hoover Dam appears – is unrealistic in terms of the way that modern infrastructure projects evolve.
We do have an infrastructure problem in London, although you do have to look at a city holistically. London has disadvantages but also advantages, and people do not just choose locations based on the quality of the airport or the rail network.
I have spoken to a number of bankers who have lost their jobs. At first they say: “Maybe we will do this, maybe we will do that,” but then you remind them that their son is in the second year at Eton and ask them: “Are you really thinking of moving back to the US or moving to the Far East?” Many expatriates have ties in the UK, and there are plenty of attractive aspects of life in the country, including the education system, the cultural facilities and the shopping. This means that whole families grow roots and it is isn’t just the principal earner saying ‘the game is up, I am going somewhere else’.
My main concern, however, is that we are making our regulatory system and our tax code far too complex, opaque and discretionary. Part of the deal as an investor is that when you come to a mature jurisdiction, yes you do get a bit of creaking infrastructure (it does not matter if you are in New York or in the UK) and, yes, you will pay higher taxes than if you locate in an emerging banking centre in the Middle East or India. But the flipside should be political stability, clarity and probity in the way the tax system and regulatory systems work, and the avoidance of official discretion in the way that the regime applies to you.
I am quite alarmed that in all of those areas, the UK appears to be retreating from its traditional position as a mature, stable democracy with stable, transparent institutions. This needs to be addressed very quickly – because the one thing that is not viable is high taxes in a third-world business environment.
Philip Hammond is shadow chief secretary to the Treasury for the UK’s opposition Conservative Party. See also the article by UK chancellor of the exchequer Alistair Darling.
