Regulation: the West's new competitive disadvantage

Is it really the solution?

Regulation and more regulation have become the siren calls of governments and the general public across the Western world. The curtailment of banking freedoms and greater government oversight of the sector has been deemed by experts and laymen as the most effective way to prevent another financial crisis.

Whilst the banks were undoubtedly reckless in their pre-crisis activities, their behaviour did not occur in a vacuum and reflected the prevailing government and public sentiment of the time. Easy credit was a vote winner for both President Clinton in the US, where more African Americans were able to buy their own homes, and the Labour Party in Britain  who were buoyed by a property and credit boom in the traditionally poorer areas of the country. Governments were more than willing to tax banking profits and collect stamp duty revenue from house purchases and consumers were happy to spend money they didn’t have.

Despite efforts to hold the banks solely culpable for the financial crisis, governments across Europe have still fallen, swept away by disillusioned electorates. Against this backdrop, insufficient questions are being asked about the efficacy of the new regulation, its impact on trade and investment and the rebounding of the US and European economies. Far from being the salvation of Western capitalism, regulation may further accelerate the movement of the world’s economic centre of gravity eastward, a trend that increased in vigour during the economic crisis.

Whilst the US and the EU floundered under the burden of sovereign debt and banking failures, Asia rebounded from recession much more quickly thanks to its more robust banking system and debt dynamics. Cash-rich Asian banks seized the opportunity to ramp up their businesses and expand market share while Western banks retrenched.

In the wake of the financial crisis, growth has become the mantra of Asian markets whilst Western governments have adopted an ambitious programme of regulatory reform to address the fundamental weaknesses in the structure of financial regulation. The objective is to provide cohesion, consistency and coordination between countries and to ensure greater oversight of the financial sector and activities of private corporations. In the quest to achieve this noble objective little has been said about the impact tighter regulation will have on Western competitiveness.

The implications of this omission were quickly revealed when the panic associated with the global crisis dissipated and the emphasis on coordination and cohesion receded. While most regulatory changes are taking place under the auspices of the G20, significant differences are present between the EU, the US and Asia. The EU and to a lesser extent the US, are acting against a backdrop of fragility in the banking system and the sovereign debt markets, and are confronted with the unenviable task of solving the current problems whilst designing a regulatory system that will prevent future crises. All the while, the governments are facing increasing pressure from the public and large sections of the media to take action against the banking sector.

Europe’s reality stands in stark contrast to that of Asia. The region is booming and the focus is on the unimpeded development of the financial infrastructure rather than on crisis response. The debate centres on the benefits of a global approach to regulatory reform as opposed to the ability to retain local flexibility. Indeed there is a prime opportunity for the regional financial centres of Hong Kong and Shanghai to develop their own banking, brokerage and asset management sectors independently of the restrictive regulation of the West and to secure a competitive advantage in doing so. .

Capital adequacy and liquidity standards for banks are a key area to be targeted as a result of the crisis. Basel III, adopted in 2010, effectively triples the capital reserves for many banks to 7 per cent as compared with the 2 per cent required under Basel II. The Liquidity Coverage Ratio (LCR) will also be tightened to ensure banks apply adequate capital to all their exposures, including those off balance sheet, to offset forecast cash outflows during a 30-day crisis. Such a system should prevent a future financial crisis from spreading beyond the financial sector into the real economy, thereby limiting the impact and making a crisis more containable.

The threat to Western competitiveness posed by Basel III derives from the fact that the accords will fail to create a truly global level playing field among international banks. They lack the binding force of a treaty and their adoption is likely to be limited to European banks. Basel III regulates the amount of lending that a bank can do - in conjunction with the central bank reserve requirements - and as a consequence also ends up partially regulating the money supply expansion for the entire economy. The impact on trading activity will be particularly severe because the application of the new leverage ratio to the trading book, with a 100% credit conversion factor for trade related business, will make trade and asset secured lending much more capital intensive. There is a real possibility of a significant drop in trade and a further reduction in the developed nations’ GDP, particularly in the Eurozone.

Laws and norms governing financial regulation generally reflect the ideological leanings of those at the highest levels of government. What is palpable at present is that the historically capitalist and entrepreneurial spirit of the UK and the US is being dampened by regulation and in reversal of its strong commitment to economic and financial liberalisation, the US has led efforts to nationalise its financial and some aspects of its manufacturing sectors, to an unprecedented degree. As many EU governments become increasingly left leaning, the efforts to restrict the operations of the financial sector intensify.

After the dominance of the West, we are moving towards a new economic paradigm characterised by competing ideologies and regulatory systems of governance. It is highly possible that different regions of the world will adopt contrasting regulatory systems, creating opportunities for regulatory arbitrage. While this may create a competitive disadvantage for sovereign states, investors who are not restricted by borders will be well placed to benefit from the investment opportunities increasingly divergent economies have to offer, with a greater scope for diversification and risk control. Over time, such diversification may reduce the high degree of correlation between stock markets in times of crisis and a more diverse regulatory world may be more resilient to shocks.

The creation of economic inefficiencies and limiting the optimal allocation of capital will impact Western markets more keenly than their rising Asian peers and it appears that the growth of Western economies will be stymied by regulatory restrictions.

Photograph: Getty Images

JLT Head of Credit & Political Risk Advisory

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Let's seize our chance of a progressive alliance in Richmond - or we'll all be losers

Labour MPs have been brave to talk about standing aside. 

Earlier this week something quite remarkable happened. Three Labour MPs, from across the party’s political spectrum, came together to urge their party to consider not fielding a candidate in the Richmond Park by-election. In the face of a powerful central party machine, it was extremely brave of them to do what was, until very recently, almost unthinkable: suggest that people vote for a party that wasn’t their own.
Just after the piece from Lisa Nandy, Clive Lewis and Jonathan Reynolds was published, I headed down to the Richmond Park constituency to meet local Green members. It felt like a big moment – an opportunity to be part of something truly ground-breaking – and we had a healthy discussion about the options on the table. Rightly, the decision about whether to stand in elections is always down to local parties, and ultimately the sense from the local members present was that it would be difficult  not to field a candidate unless Labour did the same. Sadly, even as we spoke, the Labour party hierarchy was busily pouring cold water on the idea of working together to beat the Conservatives. The old politics dies hard - and it will not die unless and until all parties are prepared to balance local priorities with the bigger picture.
A pact of any kind would not simply be about some parties standing down or aside. It would be about us all, collectively, standing together and stepping forward in a united bid to be better than what is currently on offer. And it would be a chance to show that building trust now, not just banking it for the future, can cement a better deal for local residents. There could be reciprocal commitments for local elections, for example, creating further opportunities for progressive voices to come to the fore.
While we’ve been debating the merits of this progressive pact in public, the Conservatives and Ukip have, quietly, formed an alliance of their own around Zac Goldsmith. In this regressive alliance, the right is rallying around a candidate who voted to pull Britain out of Europe against the wishes of his constituency, a man who shocked many by running a divisive and nasty campaign to be mayor of London. There’s a sad irony in the fact it’s the voices of division that are proving so effective at advancing their shared goals, while proponents of co-operation cannot get off the starting line.
Leadership is as much about listening as anything else. What I heard on Wednesday was a local party that is passionate about talking to people and sharing what the Greens have to offer. They are proud members of our party for a reason – because they know we stand for something unique, and they have high hopes of winning local elections in the area.  No doubt the leaders of the other progressive parties are hearing the same.
Forming a progressive alliance would be the start of something big. At the core of any such agreement must be a commitment to electoral reform - and breaking open politics for good. No longer could parties choose to listen only to a handful of swing voters in key constituencies, to the exclusion of everyone else. Not many people enjoy talking about the voting system – for most, it’s boring – but as people increasingly clamour for more power in their hands, this could really have been a moment to seize.
Time is running out to select a genuine "unity" candidate through an open primary process. I admit that the most likely alternative - uniting behind a Liberal Democrat candidate in Richmond Park - doesn’t sit easily with me, especially after their role in the vindictive Coalition government.  But politics is about making difficult choices at the right moment, and this is one I wanted to actively explore, because the situation we’re in is just so dire. There is a difference between the Conservatives and the Lib Dems. Failing to realise that plays into the hands of Theresa May more than anyone else.
And, to be frank, I'm deeply worried. Just look at one very specific, very local issue and you’ll perhaps understand where I'm coming from. It’s the state of the NHS in Brighton and Hove – it’s a system that’s been so cut up by marketisation and so woefully underfunded that it’s at breaking point. Our hospital is in special measures, six GP surgeries have shut down and private firms have been operating ambulances without a license. Just imagine what that health service will look like in ten years, with a Conservative party still in charge after beating a divided left at another general election.
And then there is Brexit. We’re hurtling down a very dangerous road – which could see us out of the EU, with closed borders and an economy in tatters. It’s my belief that a vote for a non-Brexiteer in Richmond Park would be a hammer blow to Conservatives at a time when they’re trying to remould the country in their own image after a narrow win for the Leave side in the referendum.
The Green party will fight a passionate and organised campaign in Richmond Park – I was blown away by the commitment of members, and I know they’ll be hitting the ground running this weekend. On the ballot on 1 December there will only be one party saying no to new runways, rejecting nuclear weapons and nuclear power and proposing a radical overhaul of our politics and democracy. I’ll go to the constituency to campaign because we are a fundamentally unique party – saying things that others refuse to say – but I won’t pretend that I don’t wish we could have done things differently.

I believe that moments like this don’t come along very often – but they require the will of all parties involved to realise their potential. Ultimately, until other leaders of progressive parties face the electoral facts, we are all losers, no matter who wins in Richmond Park.


Caroline Lucas is the MP for Brighton Pavilion.