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The bankers cannot believe their luck

The disgrace of the political class has been the salvation of the bankers. And lax regulation has le

Until the drama over MPs’ expenses, workers in the financial services had been reeling from a succession of blows: collapsing banks, nationalisations, frozen bonuses, job losses and contemptuous, withering condemnation by the public and by opinion-formers in the media, church pulpits and parliament. An optimistic scenario was one of slow rehabilitation under a less permissive regime involving tougher regulation, partial public ownership of banks and a diminished, chastened City.

Now the bankers can’t believe their luck. A couple of days after the first revelations in the Daily Telegraph, the headline in the City’s free newspaper City AM was a shout of orgasmic release: “Now THEY can’t lecture US.” It said it all. Collapse of moral authority and politicians’ will. Back to business as usual.

The dangers of drift were highlighted in the speech given at Mansion House on 17 June by Mervyn King, governor of the Bank of England. He publicly expressed discomfort at the idea of banks that are “too big to fail”: he has concluded that such banks are simply too big. But the government is reluctant to tackle these banks, as the conduct of Lord Myners and the institutionalised passivity of UK Financial Investments Ltd (UKFI) – the Treasury-backed bank shareholder body – indicates. Instead, there seems to be a yearning to disengage government from the financial sector as quickly as possible. Political developments have made that disengagement easier to achieve, now that parliamentarians, including members of the Treasury select committee, have been collectively discredited, and power within the Labour government has shifted from a wounded Prime Minister to a revitalised Chancellor articulating the Treasury line.

It is deeply worrying that some of the most important policy questions for a generation are now being decided by default and in a political vacuum. How can a semi-nationalised banking system best serve the different but overlapping interests of UK bank borrowers, depositors and taxpayers, as well as private shareholders and bank executives? How should the systemic risks of banking – and the City generally – be managed through regulation, in order to safeguard the wider UK economy? Most important, is it actually possible for the UK to play host to a major financial service sector?

The response to all these questions is a lazy, uncritical, self-serving one: that, bar a few regulatory tweaks that will need to be made, the previous regime was essentially fine. The bankers’ view is that UK politicians need to get off their backs as quickly as possible and get the banks back into the private sector; to reverse “penal” (ie, 50 per cent) marginal tax rates; and to stop the European Commission, or more self-confident UK regulators, from “undermining the City’s competitiveness”. These arguments are winning.

Indeed, there is a danger that the counter-revolution could soon become a rout.

Yet it is only a matter of months since half of the British banking system collapsed and had to be rescued by the state through total or partial nationalisation. Thanks to that intervention, the banks have stabilised (if nothing more). Several small banks are now fully nationalised; RBS and the Lloyds Banking Group are partly nationalised; the two remaining global banks (HSBC and Barclays), along with the remainder of the sector, depend on a variety of implicit or explicit guarantees.

How we got to that point has been discussed elsewhere (including in my book The Storm): I am now concerned with the future. There is a bifurcation of paths opening up. One route builds on the experience of recent bank crises in Scan­dinavia, Israel, Korea and elsewhere, including the US, whose so-called Resolution Trust model helped to limit the savings and loans crisis of the late 1980s and early 1990s. Following this route, the state leads and manages a clean-up and restructuring of banks, usually within a decade or so. Approaches have varied, but there are some common elements: the wiping clean of the slate, in respect of losses incurred by existing private shareholders and the removal of failed management; fresh, taxpayer equity capital; structures to ensure that lending can continue unhindered to good, solvent borrowers; the valuation and active management of “bad” assets, in order to retrieve whatever value is left; then, in due course, the selling off of some or all publicly owned banks to achieve maximum return to the taxpayer and leave a varied ecology of properly regulated national banking institutions.

Some of us thought that was where the government was originally heading. After the October rescue, there were some tough-sounding conditions on new lending and curbing bonuses and, for a while, as it basked in the glow of in­ternational approval, the government seemed to be on the right track.

But it has gradually become apparent that we are being taken down a different route, where government money and guarantees are used to facilitate a quick return to “business as usual”. UKFI has been populated by financiers rather than business people with experience as bank customers. The public-sector shareholders seem to have had no quarrel with bank management’s efforts to build profitability and deleverage as quickly as possible.

The Asset Protection Scheme introduced in January also provides insurance cover for “toxic assets”, which means the government has taken on an open-ended risk without a corresponding “upside” for the taxpayer. This route was chosen in preference to fresh government equity capital precisely because it makes a quick return to private-sector ownership easier. There is now a danger of premature reprivatisation, which would leave the taxpayer with a vast toxic dump of losses and a poor price for the share sale. There are already rumours that Northern Rock is being lined up for a rapid sale.

If banks are to return to “normal” commercial operation under private ownership, the issue arises of how they should be regulated. The Cruickshank report on banking, commissioned by Gordon Brown a decade ago, posed the central question: why should banks be allowed to pursue the maximisation of shareholder value – and management bonuses – when they are underwritten by the taxpayer? This question has never been answered properly. Banks should either surrender their protection and compete like other firms, or be protected and have their profit regulated like utilities. In the wake of a banking crisis, the logic is even starker. In the past few weeks we have seen leading executives at Barclays awarding themselves millions while the bank ultimately remains dependent on government guarantees, despite its precarious independence. It is not surprising that executives of the semi-nationalised banks want to follow suit.

What has brought the issue to a head is the judgement that the major UK-based banks are “too big to fail” and have to be rescued in a financial emergency. This concept is an economic and democratic outrage. Either they must be subject to tight state control or they should be broken up so that they are not “too big to fail”. The point has been grasped, improbably, by ministers in banker-friendly countries such as Switzerland, and by our own central bank’s governor. Yet ministers today seem no less terrified of confronting the banks than when Brown initially fled the battlefield a decade ago.

One solution would be to restrict protection, including deposit protection, to “narrow banks”, confined to lending out no more than they receive in deposits. Other banks would operate competitively but be stripped of any protection. I, for one, am attracted to the concept; but it would involve a revolutionary change, a discontinuation of fractional banking altogether, and in the short run it is unlikely to be adopted.

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­Who said what about
the banking crisis

The financial services sector in Britain, and the City of London at the centre of it, is a great example of a highly skilled, high-value-added, talent-driven industry that shows how we can win in a world of global competition.
Gordon Brown, June 2007

When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you’ve got to get up and dance.
Chuck Prince, Citigroup CEO, July 2007

We cannot have a situation where the banks are able to privatise their profits and nationalise their losses.
Vince Cable, April 2008

We can’t tell every bank what to do.
Alistair Darling, April 2008

Where there is excessive and irresponsible risk-taking, that has got to be punished. The day of big bonuses is over.
Gordon Brown, October 2008

We had ten years of record growth when I was prime minister. I have, unfortunately, come to the conclusion that it was luck.
Tony Blair, January 2009

The government is clearly playing for time in order to avoid doing anything to upset the bankers.
Vince Cable, February 2009

Royal Bank of Scotland has the largest balance sheet in world banking so it is critical that Stephen succeeds.
Sir Philip Hampton, RBS chairman, defends the pay deal for the new RBS CEO, Stephen Hester, worth up to £9.6m, June 2009

A less drastic way of dealing with overgrown banks would be to split off the investment banking arms of the main global banks – what Mervyn King calls the “casinos” – and to confine government protection to the remaining “traditional” banking wings. These would then operate as regulated utilities: the model that broadly prevailed in the United States before the repeal of the Glass-Steagall Act a decade ago. The urgent need to change our system is highlighted by the ambition of Barclays Capital to become “the premier global investment bank”: it is madness for the British taxpayer to be a last-resort guarantor for this kind of business. To be sure, the demarcation is not clear-cut: there is high-risk “traditional” banking and low-risk investment banking, and the separation of roles would not be straightforward. The big banks – HSBC and Barclays – argue that they would be stopped from tapping into the securitisation markets (which may, after recent disasters, not be quite the loss they believe it to be). There is also the implied threat that global banking operations will be withdrawn from the UK.

The government must face down this kind of blackmail. The British taxpayer simply should not be made responsible for the risks that global banks take outside our regulatory jurisdiction. There are undoubtedly technical difficulties in separating out those aspects of global banks that the government can guarantee and those it cannot, but these problems cannot be an excuse for bottling out completely.

One lesson of the financial crisis is that the “light-touch” regulatory approach was a failure. It may have failed in part because of the poor quality of bank supervision rather than the absence of regulation. And the rapid innovation of capital markets undoubtedly ran ahead of regulators’ capacity to monitor activity effectively. But the vast cost to the British taxpayer – and the wider economy – of the banks’ failure and the consequent bailout make it imperative that regulation be strengthened.

We are now at a crunch point. The need to strengthen and update the regulatory regime has collided with the financial institutions’ growing confidence that they can keep the state off their backs. Self-serving arguments are being employed, notably that regulation will suppress “innovation”. It will. It should. We need more financial “innovation” like a hole in the head.

The other argument is that regulation (and 50 per cent tax rates) will undermine the City’s “competitiveness” and “drive away” banking and non-bank financial institutions. This argument has to be met head-on; the idea of a regulatory race to the bottom does not square with political and economic reality. Co-operation rather than regulatory arbitrage between the main jurisdictions will always be best, but if that co-operation does not materialise, the UK should not chase business by offering low standards that create wider risks for the UK economy. The arguments about City “competitiveness” are bogus, self-serving and dangerous. It is profoundly to be hoped that Brown, Alistair Darling, Ed Balls and others who fell for them so haplessly in the past have now learned their lesson.

The new regulatory agenda espoused by Lord Turner, chairman of the Financial Services Authority, is sensible and not especially controversial. Indeed, many in the City see it as a minor irritation, followed by a green light to get back to business as “normal”. It contains sensible elements – such as “macro prudential regulation” that would focus on systemic risks, rather than regulation of individual banks – and more controversial but basically prudent ideas, such as limiting loan-to-value ratios and/or multiples of income for mortgage lending.

Lord Turner has also supported the argument that the most dangerous forms of risk-taking in banking institutions can be limited by paying bonuses not in cash but in stock, redeemable after a period of years. As stock prices are depressed and the capital gains tax payable is only 18 per cent, any half-sober City trader will have worked out he should be doing this in any event. But it is not a silver bullet – the bosses at both Lehman Brothers and Bear Stearns had huge equity-related incentives, and look where they are today. These issues require pause for thought: there are bigger regulatory battles shaping up.

One concerns the proposal to establish a clearing house for complex financial derivatives so that they can be traded, netted and regulated. Properly regulated, these activities can spread risk and, in a general sense, add to stability. What is much more dangerous, as the recent financial crisis has illustrated, is to have a vast pyramid of paper claims – as in the CDS/CDO (credit default swap/collateralised debt obligation) “markets” – which cannot be settled in an orderly way through a clearing house. Important lessons can be learned from the recent collapse of General Motors. CDS contracts with a value in excess of $35bn were netted down to $2.2bn, causing little more than a ripple in the overall CDS market. The danger is that nothing will be done, setting up a huge systemic risk – and the next big crash.

One practical remedy would be to establish a clearing-house system as soon as possible. Big banks that make a lot of money from OTC (“over-the-counter”) trading are not happy: if they were forced to use a regulated exchange they would lose this business. In practice, complex, structured derivatives would therefore be prevented. A second issue is whether the London Stock Exchange – and the Bank of England as the lender of last resort – are big and strong enough to support a clearing house dealing with transactions valued at many times the size of the world economy. Co-operation with the US is potentially important. And perhaps a European approach is required, in order to draw on the bigger firepower of the European Central Bank, but that may unleash some dangerous political demons.

Meanwhile, the European Union has precipitated another major regulatory battle by putting forward proposals, both for strengthening European co-operation over bank supervision – reluctantly conceded to by the UK – and for toughening the regulation of hedge funds and private equity. Britain’s financial community has a collective paranoia about Europe, and there is envy of London’s currently predominant role and a distaste for the freewheeling “Anglo-Saxon” model (not that German, Dutch or even French banks behaved very differently in the crisis).

However, it is surely eminently sensible to ask, as the European Commission is doing, whether these new forms of financial intermediation are healthy and adequately regulated. There are some critics who question the value of hedge funds altogether and would be happy to see them regulated out of existence. But a more relaxed view is that there is a role for specialist financiers who pursue high yield via high risk – provided they do not depend on taxpayers’ guarantees or indirectly contribute to the systemic risk that taxpayers underwrite. The former has not been a problem in the recent crisis (no hedge fund has asked for government help), but the latter undoubtedly is. There is a proper debate to be had as to how hedge funds should be regulated: to treat the tentative proposals of the European Commis­sion as akin to a Napoleonic invasion threat is simply idiotic.

There is a more fundamental argument about the scale of Britain’s financial services industry in relation to the UK economy. I wouldn’t expect the City to vote for contraction, or for curbs on its freedom to operate, any more than I would expect turkeys to vote for Christmas. But the poultry farmer – the Labour government – cannot just ask the turkeys what they want. He has to be willing to wield a knife and cut some throats. A combination of national, European and global regulation is necessary to ensure that the vast negative externalities associated with the City do not exceed the (genuine) benefits that the UK economy derives from a successful, internationally traded, financial services sector. In addition, there will have to be a major structural adjustment out of traded financial services into other services and manufacturing.

Unfortunately a weak, demoralised, delegitimised Labour government is in no shape to face this challenge, and a Tory government pumped up by City donations would have no need or inclination to take it on. The opportunity for reform and renewal is passing us by and, if it does, financial crises will return with even greater ferocity in years to come.

Vince Cable, economic spokesman for the Liberal Democrats, is the author of “The Storm: the World Economic Crisis and What It Means”, published by Atlantic Books (£14.99)

This article first appeared in the 29 June 2009 issue of the New Statesman, The Great Escape

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The French millennials marching behind Marine Le Pen

A Front National rally attracts former socialists with manicured beards, and a lesbian couple. 

“In 85 days, Marine will be President of the French Republic!” The 150-strong crowd cheered at the sound of the words. On stage, the speaker, the vice-president of the far-right Front National (FN), Florian Philippot, continued: “We will be told that it’s the apocalypse, by the same banks, media, politicians, who were telling the British that Brexit would be an immediate catastrophe.

"Well, they voted, and it’s not! The British are much better off than we are!” The applause grew louder and louder. 

I was in the medieval city of Metz, in a municipal hall near the banks of the Moselle River, a tributary of the Rhine from which the region takes its name. The German border lies 49km east; Luxembourg City is less than an hour’s drive away. This is the "Country of the Three Borders", equidistant from Strasbourg and Frankfurt, and French, German and French again after various wars. Yet for all that local history is deeply rooted in the wider European history, votes for the Front National rank among the highest nationally, and continue to rise at every poll. 

In rural Moselle, “Marine”, as the Front National leader Marine Le Pen is known, has an envoy. In 2014, the well-spoken, elite-educated Philippot, 35, ran for mayor in Forbach, a former miner’s town near the border. He lost to the Socialist candidate but has visited regularly since. Enough for the locals to call him “Florian".

I grew up in a small town, Saint-Avold, halfway between Metz and Forbach. When my grandfather was working in the then-prosperous coal mines, the Moselle region attracted many foreign workers. Many of my fellow schoolmates bore Italian and Polish surnames. But the last mine closed in 2004, and now, some of the immigrants’ grandchildren are voting for the National Front.

Returning, I can't help but wonder: How did my generation, born with the Maastricht treaty, end up turning to the Eurosceptic, hard right FN?

“We’ve seen what the other political parties do – it’s always the same. We must try something else," said Candice Bertrand, 23, She might not be part of the group asking Philippot for selfies, but she had voted FN at every election, and her family agreed. “My mum was a Communist, then voted for [Nicolas] Sarkozy, and now she votes FN. She’s come a long way.”  The way, it seemed, was political distrust.

Minutes earlier, Philippot had pleaded with the audience to talk to their relatives and neighbours. Bertrand had brought her girlfriend, Lola, whom she was trying to convince to vote FN.  Lola wouldn’t give her surname – her strongly left-wing family would “certainly not” like to know she was there. She herself had never voted.

This infuriated Bertrand. “Women have fought for the right to vote!” she declared. Daily chats with Bertrand and her family had warmed up Lola to voting Le Pen in the first round, although not yet in the second. “I’m scared of a major change,” she confided, looking lost. “It’s a bit too extreme.” Both were too young to remember 2002, when a presidential victory for the then-Front National leader Jean-Marie Le Pen, was only a few percentage points away.

Since then, under the leadership of his daughter, Marine, the FN has broken every record. But in this region, the FN’s success isn’t new. In 2002, when liberal France was shocked to see Le Pen reach the second round of the presidential election, the FN was already sailing in Moselle. Le Pen grabbed 23.7 per cent of the Moselle vote in the first round and 21.9 per cent in the second, compared to 16.9 per cent and 17.8 per cent nationally. 

The far-right vote in Moselle remained higher than the national average before skyrocketing in 2012. By then, the younger, softer-looking Marine had taken over the party. In that year, the FN won an astonishing 24.7 per cent of the Moselle vote, and 17.8 per cent nationwide.

For some people of my generation, the FN has already provided opportunities. With his manicured beard and chic suit, Emilien Noé still looks like the Young Socialist he was between 16 and 18 years old. But looks can be deceiving. “I have been disgusted by the internal politics at the Socialist Party, the lack of respect for the low-ranked campaigners," he told me. So instead, he stood as the FN’s youngest national candidate to become mayor in his village, Gosselming, in 2014. “I entered directly into action," he said. (He lost). Now, at just 21, Noé is the FN’s youth coordinator for Eastern France.

Metz, Creative Commons licence credit Morgaine

Next to him stood Kevin Pfeiffer, 27. He told me he used to believe in the Socialist ideal, too - in 2007, as a 17-year-old, he backed Ségolène Royal against Sarkozy. But he is now a FN local councillor and acts as the party's general co-ordinator in the region. Both Noé and Pfeiffer radiated a quiet self-confidence, the sort that such swift rises induces. They shared a deep respect for the young-achiever-in-chief: Philippot. “We’re young and we know we can have perspectives in this party without being a graduate of l’ENA,” said another activist, Olivier Musci, 24. (The elite school Ecole Nationale d’Administration, or ENA, is considered something of a mandatory finishing school for politicians. It counts Francois Hollande and Jacques Chirac among its alumni. Ironically, Philippot is one, too.)

“Florian” likes to say that the FN scores the highest among the young. “Today’s youth have not grown up in a left-right divide”, he told me when I asked why. “The big topics, for them, were Maastricht, 9/11, the Chinese competition, and now Brexit. They have grown up in a political world structured around two poles: globalism versus patriotism.” Notably, half his speech was dedicated to ridiculing the FN's most probably rival, the maverick centrist Emmanuel Macron. “It is a time of the nations. Macron is the opposite of that," Philippot declared. 

At the rally, the blue, red and white flame, the FN’s historic logo, was nowhere to be seen. Even the words “Front National” had deserted the posters, which were instead plastered with “in the name of the people” slogans beneath Marine’s name and large smile. But everyone wears a blue rose at the buttonhole. “It’s the synthesis between the left’s rose and the right’s blue colour”, Pfeiffer said. “The symbol of the impossible becoming possible.” So, neither left nor right? I ask, echoing Macron’s campaign appeal. “Or both left and right”, Pfeiffer answered with a grin.

This nationwide rebranding follows years of efforts to polish the party’s jackass image, forged by decades of xenophobic, racist and anti-Semitic declarations by Le Pen Sr. His daughter evicted him from the party in 2015.

Still, Le Pen’s main pledges revolve around the same issue her father obsessed over - immigration. The resources spent on "dealing with migrants" will, Le Pen promises, be redirected to address the concerns of "the French people". Unemployment, which has been hovering at 10 per cent for years, is very much one of them. Moselle's damaged job market is a booster for the FN - between 10 and 12 per cent of young people are unemployed.

Yet the two phenomena cannot always rationally be linked. The female FN supporters I met candidly admitted they drove from France to Luxembourg every day for work and, like many locals, often went shopping in Germany. Yet they hoped to see the candidate of “Frexit” enter the Elysee palace in May. “We've never had problems to work in Luxembourg. Why would that change?” asked Bertrand. (Le Pen's “144 campaign pledges” promise frontier workers “special measures” to cross the border once out of the Schengen area, which sounds very much like the concept of the Schengen area itself.)

Grégoire Laloux, 21, studied history at the University of Metz. He didn't believe in the European Union. “Countries have their own interests. There are people, but no European people,” he said. “Marine is different because she defends patriotism, sovereignty, French greatness and French history.” He compared Le Pen to Richelieu, the cardinal who made Louis XIV's absolute monarchy possible:  “She, too, wants to build a modern state.”

French populists are quick to link the country's current problems to immigration, and these FN supporters were no exception. “With 7m poor and unemployed, we can't accept all the world's misery,” Olivier Musci, 24, a grandchild of Polish and Italian immigrants, told me. “Those we welcome must serve the country and be proud to be here.”

Lola echoed this call for more assimilation. “At our shopping centre, everyone speaks Arabic now," she said. "People have spat on us, thrown pebbles at us because we're lesbians. But I'm in my country and I have the right to do what I want.” When I asked if the people who attacked them were migrants, she was not so sure. “Let's say, they weren't white.”

Trump promised to “Make America Great Again”. To where would Le Pen's France return? Would it be sovereign again? White again? French again? Ruled by absolutism again? She has blurred enough lines to seduce voters her father never could – the young, the gay, the left-wingers. At the end of his speech, under the rebranded banners, Philippot invited the audience to sing La Marseillaise with him. And in one voice they did: “To arms citizens! Form your battalions! March, march, let impure blood, water our furrows...” The song is the same as the one I knew growing up. But it seemed to me, this time, a more sinister tune.