It is extraordinary that, more than three years into the biggest global economic breakdown for nearly a century, precipitated by a financial crash, virtually nothing has been done to reform the banks which were the major cause of it. It is even more remarkable that the two initiatives which have been taken, the Vickers Commission and Basel III, are so ineffective as to be risible.
Vickers didn’t even ask the right question, which is: how can public control of the money supply be regained? It fluffed the question it did ask – how can retail high street banking be separated from casino investment banking? – by proposing the erection of Chinese walls which City financial engineering would have little trouble quickly getting round.
The international Basel Commission on Banking Supervision – a private body made up of central bankers as well as a few regulators – was little better. It proposed increasing capital ratio requirements on banks from 7 per cent to 10 per cent, although capital ratios have little influence over bank lending. But it did not demand this change until 2019, even though the chances of another financial crash within the next eight years are very real.
The reason why banking reform is urgent isn’t just the risk of another finance conflagration. It’s because banking policy has played a major part in the continuing and relentless decline of the British economy over the past half century. Previously, bank credit had been rationed by quantity. But, from the 1971 competition and credit control reforms, it was increasingly rationed much more flexibly by interest rates. That began the staggering rise in broad money in the economy from miniscule quantities in 1963 to £2.2 trillion today.
Then, in 1979, exchange controls were lifted. At the Big Bang in 1986, all controls over consumer credit were abolished and housing finance was de-regulated.
These measures have given the banks enormous powers and privileges. They can create wealth out of nothing simply by making loans to businesses and householders. They can decide who uses this wealth and for what purpose. If they fail to meet their liabilities, they are not even penalised; someone else pays up for them. The first £85,000 of an individual’s deposits is covered by guarantee underwritten by the state.
Even in the event of a major financial collapse, the banks are bailed out by the implicit taxpayer guarantees. In the current crash, that amounts to more than £70 billion in direct bailouts, and a further £850 billion indirectly in loan guarantees, liquidity measures and asset protection schemes.
The charge sheet against the banks is that, particularly in the neo-liberal era since 1980, they have used these powers, recklessly and self-interestedly. The rsult has been done huge long-term harm to Britain’s economy. By the issuance of loans, they are now responsible for generating more than 97 per cent of the money supply and have used this privilege to allocate just 8 per cent to productive investment. This means that most bank lending goes towards mortgages, real estate and associated business, foreign investment, high-risk speculation and financial intermediation.
This has been a significant cause of Britain’s long-term decline. Last year, our balance of payments deficit on trade in goods reached an unprecedented £100 billion – equal to 6.8 per cent of gross domestic product. British manufacturing, the lifeblood of the economy, has been systematically hollowed out.
This country remains low in productivity and innovation. Output per worker is still 40 per cent below levels in the United States and 20 per cent below those in Germany and France. Within the Organisation for Economic
Co-operation and Development, only the United Kingdom had a lower share of GDP spent on research and development in 2000 than in 1981.
Of course, not all of this can be laid at the door of the banks. But a great deal can. British banks’ relationship with industry is far more distant and unhelpful compared with Germany’s Mittelstand. The City has relentlessly driven short-termism at the expense of market share. British banks have used their control of the money supply to generate unsustainable asset bubbles which destabilise industry and, when they crash, the taxpayer has to come to the rescue. The banks have engineered a massive mis-allocation of global capital into tax havens which worldwide now shelter more than £11 trillion of global wealth.
They have exacerbated inequalities between the super-rich and the rest, the growing disparities between regions and the crowding out of manufacturing by finance. By setting up a huge and powerful shadow banking system, buttressed by the proliferation of credit derivatives and securitisation, they have deliberately evaded public controls in order to boost their own selfish interests to the detriment of the nation.
So what should be done? Above all, control over the money supply must be brought back into the public domain. This is not a partisan objective. Direct credit controls have been used by many of the most successful countries over the past century, notably Japan, Korea and Taiwan after the Second World War. Unproductive credit creation – for example, speculative transactions such as lending to hedge funds – was firmly checked. Consumer loans which would trigger inflationary demand for consumer goods or draw in increased imports were discouraged. Priority was given to investment in plant and equipment, key services, and enhanced productivity via new technologies and R&D.
Other reforms are urgently needed, too, which should include control by public authorities over potentially toxic and dangerous financial derivatives, a clean separation of retail banking from investment banking, specialist banks for infrastructure improvement and the development of a new digital green economy, and reform of credit rating agencies. But the key issue – so far ignored – is to restore accountability to the banking system through public control over the money supply.
