The UK Banks and the Wider Economy

Banks With No Money

The UK government’s £200 Billion package, announced 20 January 2009, follows worries about the banks. Their shares appear to be in freefall. However, the Prime Minister, and the Chancellor, insist that the purpose of the package is not to bale out the banks, but to support the wider economy - by increasing lending to companies and individuals who need mortgages.

Is this convincing? Companies and people who need mortgages have been pleading for help for months, yet the action was not taken until it became clear that the banks were in difficulty. Even more important, will the £ Billions made available end the recession?

There will obviously be some easing in the lending market as a result of the terms which accompany the £ Billions provided for the banks. This will apply especially to the government controlled Northern Rock (which is nationalised), and the Royal Bank of Scotland (where the government has a majority shareholding).

It remains to be seen how far the other banks will keep their promises. Although they have an incentive to increase lending, because they need new profitable business, they will weigh this against other considerations (such as how to maintain their dividends).

A More Radical Approach

The fundamental problem is that the government fails to recognise that the old free market system has collapsed. This would have been more obvious if the banks had collapsed, which would have happened in November if taxpayers’ money had not saved them.

Using our money in this way is justified only if it is seen as an interim measure while a new system is created. There is, sadly, no sign of the intention to build a new system. The government appears to believe that, given Billions of £s, the old system will be restored to health.

Yet, every day, it becomes increasingly evident that this will not occur. The obvious message from the past 18 months is that economies cannot be left at the mercy of the financial markets. If governments had not stepped in, especially in the USA and the UK, unemployment would be even higher than the dreadful figures reported almost daily.


Obama and the World Economy

The most promising development is the election of Barack Obama as American President, with his commitment to take urgent action to save the economy. Unlike his predecessor, he is not reluctant about government intervention. He has promised over $800 Billion to create jobs, support householders, and move towards a more equal society.

Although economic recovery in the USA is the most important single factor, the challenges are global. Ending the recession requires other countries, especially in Western Europe, to follow the new President’s lead. And the importance of the involvement of Russia, China and India in economic recovery action must also be recognised.

Where Next For The UK?

For the UK, it is essential to match (in comparative terms) Obama’s job creation and householder support measures. As I have argued in an earlier Blog, there is no danger that too many jobs would be saved, or created.

However, fundamental to success is a co-ordinated approach to the government’s involvement in the economy. It will not be possible to end the recession unless the availability of finance (for companies and mortgages) is ensured.

This will occur only if the government determines that relevant financial support is available: this cannot be left to market forces. The obvious solution is to co-ordinate the state controlled entities so that they function as a state bank. A co-ordinated operation through the Royal Bank of Scotland, Northern Rock, Bradford and Bingley, The Post Office should lead the way.

With the prospect of competition from state controlled lenders, the other banks would be more likely to co-operate. To do business, and make profits, they would have to focus on consumer need, rather than dividends and bonuses.

A New Financial World

The reality is that financial systems are now inevitably global. The UK and other West European countries must work with the new USA President to restore order and lead economic recovery.

Policy must be determined by governments working together, not by market forces. Stability is essential for greater prosperity in developing countries, as well as for the wealthier nations.

The Brown Government Must Govern

Help for Small Businesses

The help for small businesses announced today (14/1/09) must be welcomed, mainly because it will keep a few workers in jobs. But, regretably, it is a much smaller step than is needed.

While it would be a mistake to rely on the gloom and doom predictions of experts (almost all of whom got it wrong last year), unless we have government action on a much larger scale it is clear that thousands more will lose their jobs this year.

In my last Blog (Who Runs the Country?) I argued that the government, not bankers or financiers, must be seen to govern. The Brown government must get ahead of events and take action on a much larger scale. There is no danger whatever that too many jobs would be saved or created.

Tackle Inequality

There are claims by ministers that the action being taken aims to create a stronger economy and a fairer society. But, as I pointed out in an earlier Blog (Gloom and Doom: Kick It Out), there is a reluctance to tackle the unfairness issue.

A great deal more government spending (and, in the short term, borrowing) is required. However, the Conservative Opposition must not be allowed to get away with their 'saddling of future generations with debt' argument. The scale of national debt (incidentally a much lower % than other G7 countries) is the result of allowing the wealthy to keep too much money in their pockets or boardroom coffers.

The answer is to take action to demonstrate that the repayment will be from policies which (i) create a much fairer society and (ii) end damaging military intervention across the world. In other words, the money must come from wealthy individuals (eg the bonus gang); companies with excessive profits; drastic cuts in expenditure on so-called defence.

Intervention in, for example, Iraq and Afghanistan, and investment in Trident, have nothing to do with defence. They are to do with illusions on our world role, and individuals' world leader aspirations.

World Leadership

The £ Billions saved from the defence budget could not only repay debt but also make a major contribution to eradication of world poverty. This is where we should aspire to world leadership.

WHO RUNS THE COUNTRY?

We must address this question because the message from the media is that control of events is with the Bank of England, the City of London, the High Street Banks and, a poor fourth, the government.

The Brown government must assert itself and take urgent action to address the challenges we face. This must include, if necessary, taking control of institutions to ensure that government policies are implemented.

For months it has been recognised that the crucial issue is lending - to householders and companies. Despite the £ Billions of support from the government, the banks are not lending at the rate anticipated when they received the £37 Billion for re-financing.

There are genuine reasons for the drying up of lending - for example, that the Bank of Ireland has retreated from the market, and that Northern Rock is reducing its mortgage loan book as part of its recovery plan. The other banks are either unable, or because of their strategy, unwilling, to fill this gap.

The government acted with commendable speed when the banks were in danger of collapse.
But they have not shown the same urgency in addressing the dearth of credit which is resulting in loss of jobs and difficulties in the housing market.

The Bank of England's .5% reduction of interest rates will have only a very marginal effect, and this is likely to be true of any further reductions. There are rumours that the government is likely to announce measures to address the credit crisis 'in weeks'.

However, the action will be effective only if the requirements of the banks are supported by legislation, which could include nationalisation - a step which, it is noted, was not ruled out by the Governor of the Bank of England when questioned last year.

As an alternative to further nationalisation, the government could arrange the necessary lending through the institutions it already controls - Northern Rock, Bradford and Bingley, the Royal Bank of Scotland, the Post Office.

There is a proposal to use the Post Office as a State Bank in John McFall's article in the Guardian today (9/1/09). It must be clear to all (with the exception of the Conservative leadership) that current problems cannot be solved without a great deal more state involvement.

The government must overcome its reluctance about this.

Gloom and Doom: Kick It Out

In my last blog (Urgent Action To End Recession) I pointed out that most of the forecasts for 2008 were widely inaccurate. So what notice should we take of what they are predicting for 2009?

It is obvious that we are in a recession and almost all the news is bad: indeed, it sometimes appears that the media has resolved to report only bad news. So the forecasters join in, with most of them predicting that things will get either worse, or much worse.

The underlying belief is that market forces beyond our control will continue to cause havoc and hardship. Governments, most commontators believe, can do very little to end the recession.

When the government takes action, the standard response of the Conservative opposition, and in much of the media, is to claim that it will not work. What they do not explain is what will work.

The impression they give is that they do not believe any government action will work - so do nothing, and leave it all to 'market forces'.

'Doing nothing' cannot be regarded as an acceptable response of politicians who are elected to serve all members of society. It is likely that over 70% of the population will survive the recession largely unscathed: it is for the other 30% that urgent, and radical, action is required.

The relevant criticism of the government is not that it has taken too much action, but too little. What it should do is outlined in my previous blog: Urgent Action To End Recession.

Pessimism will continue to reign if it is believed that government will allow thr recession to take its course. The challenge is that the action required can occur only with radical policy changes; changes which not only stimulate economic recovery, but also create a more fair and equal society.

Although there is no objection to government borrowing in the short term, a convincing strategy for repayment is essential. As I have argued in previous blogs (see The Current Crisis: A Layman's Perspective) , the resources can, and must, be acquired from:

(i) a windfall tax on excessive profits;

(ii) closing tax loopholes used by companies and wealthy individuals;

(iii) progressively higher rates of tax for incomes over £100,000 a year;

(iv) heavy cuts in defence expenditure (including Trident), based on a policy of not getting involved in wars.

This is not only the appropriate and necessary action but it would, I am convinced, receive widespread public support.

Urgent Action to End Recession

A continuing recession throughout 2009 is inevitable only if the government fails to act decisively NOW.

The predictions of the majority of experts for 2008 were wildly wrong. For at least half the year they failed to grasp what was happening - apart from the honourable exception, David Blanchflower, a lone voice on the Bank of England's Monetary Policy Committee.

The government was slow to act (it took over four months to deal with Northern Rock), and the Bank of England even slower. The failures of the high street banks, and the tardiness of the government and the Bank of England, are the reasons there are now predictions of up to another million unemployed in 2009.

This must not be allowed to happen. All three owe it to us to act, urgently and decisively, in January 2009.

(i) Banks The banks must move to a reasonable level of lending to businesses and individuals - if necessary as a result of nationalisation. In any case, the government already controls (and, therefore, can act directly with) Northern Rock, Bradly and Bingley, Royal Bank of Scotland, the Post Office.

The freeing up of credit is urgent to keep people in jobs and in their houses.

(ii) The Bank of England Apart from further cuts in interest rates, which are expected, the Bank of England must also make significant funds available to support lending by the the high street banks.

(iii) The Government The government must ensure that (i) and (ii) happen quickly. Gordon Brown and Alastair Darling must show the same urgency when people's jobs are collapsing as they did when the banks were in danger of collapse.

The new USA President is, we understand, poised to introduce an economic recovery package of around £700 Billion (perhaps more). The UK must act at the same time, with at least £50 Billion - to reduce taxes for the lower paid, and to increase benefits for families and pensioners.

Obviously, this will mean additional borrowing in the short term but it is sensible to show the means of repayment. The repayment strategy should include:

(a) closing tax loopholes used by companies and the rich £20 Billion
(the trade union UNITE estimates £30 Billion could be acquired);

(b) a higher percentage tax on higher income earners £5 Billion
(over £100,000 a year);

(c) expenditure cuts, mainly defence £25 Billion

Without prompt action along these lines, no significant number of jobs will be saved.

BROWN GOVERNMENT: GET OFF THE FENCE:

£ Billions have been provided to support the banks. Northern Rock and Bradford and Bingley have been nationalised; a majority share-holding has been bought in Royal Bank of Scotland; the government will be the largest share-holder in Lloyds/HBOS. In addition, the Post Office is publicly controlled.

The current policy is to sell the government's stakes to the private sector at an appropriate time, which means, presumably, when taxpayers' support is no longer needed.

This policy is seriously mistaken. Instead, these banks should (in combination) be developed as a People's Bank to provide services in accord with government policies - to increase lending, provide financial services in areas where they do not exist. The latter applies particularly to the post offices - an alternative to closing them.

In addition, there should be negotiations with banks not controlled by the government, backed up by regulation to ensure services in the public interest.

Urgent Government Action December 2008

the Current Crisis: A Layman’s Perspective

The media is awash with experts, especially economists and financiers, telling us what to think. Although we are grateful for their specialist knowledge, there is an important distinction between technical expertise (how banking works, or doesn’t work. for example) and a perception of the economic and social reality experienced in communities.

I am not an expert. My perception of the 2008 crisis is shaped by a life-long interest in politics and world affairs; perceived as a member of the Labour Party for over 50 years. In a genuine democracy it would be accepted that the thousands with experiences similar to mine are able to make a useful contribution to the debate on what is to be done.

In our, increasingly undemocratic, society voters’ views are considered less relevant than, for example, the pontificating of the Governor of the Bank of England. For months we have had to listen to his increasingly obvious nonsense about interest rates, without any possibility of calling him to account.

The government, and the Bank of England under pressure, have taken decisive action in October and early November. But many of us, as well as some experts (for example David Blanchflower, David Smith, Larry Elliott and Will Hutton), saw the need for urgent action more than six months ago.

The October/November action, including the government’s fiscal measures, should have been taken earlier and it is certainly not sufficient. The focus, now, must be on countering the recession with measures which create not only a stable society, but also a much fairer one.

On responding to the crisis, how have the various ‘responsible’ parties performed?

The Bank of England

By refusing to cut interest rates until compelled by international and government pressure, the Bank has landed itself in the category of those who have acted irresponsibly. If David Blanchflower, the only member of the Monetary Policy Committee (MPC) to vote for interest rate cuts for 6 consecutive months, could see what was coming, why did the other members fail to notice?

The Governor’s advice was clearly wide of the mark. He should, at minimum, apologise and act quickly to compensate for his ineptitude. The 1.5% cut in November (again, strongly influenced by outside pressure) is a belated recognition that decisive action is required: it must be followed by two more cuts in December and January. Without further reductions, there is still a high risk of a long recession, with the likelihood of deflation.

The Bank of England’s inflationary fears of the past few months were unrelated to reality in the world outside. Recent inflation was the result of the rising costs of energy and food, where the Bank has no control. Rising prices were not the result of excessive wage settlements, and related UK factors - factors which can be directly affected by our interest rates.

These failures demonstrate the dangers of giving to experts powers which are not subject to any kind of democratic influence or control.

The Opposition Parties

The proposals of the Liberal Democrats’ Vince Cable have been more relevant than anything from other front bench persons this year. His criticism of the government is not for the action it has taken but for the delay in taking it. Incidentally, his excellent performance appears to have done his Party little good in the opinion polls.

The Conservatives, however, have appeared to be completely at sea (which, we now know, is where George Osborne actually was this summer). Everybody knows that the problems (especially in the City) originated with the Thatcher deregulation and privatisation; although it must be accepted that the Blair governments were remiss in allowing the markets to continue to enjoy their excessive freedom.

The Cameron Opposition appears to support the part nationalisation of the banks, while claiming that they oppose state intervention. On Channel 4 news 20 October, the Tory spokesperson claimed to be opposed to borrowing and tax increases but argued for the postponement of VAT payments and the reduction of national insurance contributions to help struggling companies.

When asked by the interviewer where, if not to be borrowed, the money was coming from, the interviewee replied ‘corporation tax’. It was pointed out to him that his Party is pledged to reduce corporation tax. This interview is typical of the Conservative’s contribution to the debates on the crisis.

Although the Blair governments (and the Bank of England) should not have allowed house prices and consumer debt to rocket, there is scant evidence of the Conservatives advocating alternative policies. They continue to criticise Gordon Brown, without offering any solutions of their own, and they appear to have little understanding of the international dimensions of the crisis.

The Conservatives’ opposition to borrowing to counter the recession obviously implies that their ‘remedy’ is to allow the market to take its course - with unemployment continuing to rise, as under the Thatcher governments of the 1980s.

Government Borrowing

First, it necessary to recognise that the £ billions made available to the banks is not public expenditure: it is investment, which could, and should, result in a profit. Of course there are always risks with investments, but the reasonable assumption is that there will be a positive benefit from the interest the banks pay on loans, and from a rise in the shares the government holds when normality returns to the markets.

Second, although rising (e g as a result of falling tax receipts) as the recession starts to bite, our government borrowing, as a % of Gross National Product (GDP), is lower that all G7 countries - with the possible exception of Canada.

Against the G7 average of around 80% of GDP, the UK’s borrowing is around 50%. Japan is almost 200%, Italy 100% and the USA, France and Germany in the 60%-70% range.

This means that the option of borrowing short-term to counter recession is available to the U K government. It is the only realistic option if millions are to be saved from the misery of long-term unemployment and its crippling consequences.

However, it is essential (i) to target expenditure to create a fairer society in the longer term, and (ii) that there is a strategy to repay the borrowing (say, to a national debt level of 40% of GDP) over a 5-7 year period.

Strategy for Recession

The government has already recognised that the appropriate response is to increase, not reduce, public expenditure. It is bringing forward projects, especially in construction. This is a modest step which will save some jobs; although it is likely to take time for any significant impact.

However, the urgent need is measures to make an immediate impact. The obvious answer, to stimulate the economy and create a fairer society, is policies for a redistribution of wealth. This implies radical policy changes, likely to cause the government to hesitate, but they are the only sensible and fair way forward.

More money must be put into people’s pockets - because they need it, especially for food and warmth, but also because it will have a positive effect on the economy. People struggling to make ends meet will spend any money they receive, with an immediate stimulus to retail sales.

In addition to the steps the government has already taken, I envisage something along the following lines:

(i) taking one million of the lower paid out of tax brackets;

(ii) doubling the winter fuel allowance;

(iii) a scheme to guarantee new mortgages, especially for first time buyers.

It appears that the government has already decided to invest in green energy projects, which will create some new jobs in the medium term.

Paying For It

It would be irresponsible, as well as damaging to the economy, to take these steps without a strategy to repay the borrowing – over a period, say, of 5-7 years. The policies for funding should include a windfall tax, a more progressive tax system, and a drastic reduction of public expenditure on defence.

The windfall tax should be levied on companies making excessive profits, especially the oil companies and the utilities. A major benefit of such a tax is the speed with which the income could be available to the government. It should be levied on profits 2007/2008 and paid 2008/2009.

People at the lower end pay a higher proportion of their income in tax than any other group, which is the main reason for taking at least a million out of tax brackets. If the means used were to increase allowances for all tax payers, the majority of working people would benefit.

I leave to the experts to cost the programme I have described. If my estimate of £100 billion is too low, the answer is not to reduce the programme but to increase the income to fund it.

Most of this funding must come from a windfall tax and from reducing expenditure on defence, including abandoning Trident. However, more must be acquired from a more progressive income tax system, with, instead of the proposed 45% rate, new rates along the following lines:

- a 50% rate for incomes over £75,000

- a 60% rate for incomes over £95,000

- a 65% rate for incomes over £120,000

This would raise some of the revenue to pay for the tax reductions: equally important, it would also be a first step towards the fairer society the Prime Minister is committed to create.