One of the fundamental issues of the credit crunch era is what to do about our banks? The Too Big To Fail or TBTF strategy has left us in a situation where the banking sector is one with a moral hazard at its core. Everybody now knows that there will be privatisation of profits and socialisation of any losses giving directors of banks something of a one-way bet. Heads they win and tails we lose (with them usually still winning). As this was implicit in the past rather than explicit as it is now we find that we may in fact be worse off contrary to all the official denials. After all we know what to do with official denials.
This privatisation of profits and socialisation of losses was most marked in the UK at Royal Bank of Scotland with its purchase of ABN-Amro as highlighted recently by Andrew Bailey of the Bank of England.
The low risk weights assigned to trading assets suggested that only £2.3 billion of core tier 1 capital was held to cover potential trading losses which might result from assets carried at around £470 billion on the firm’s balance sheet.
We know of course what happened next.
In fact, in 2008 losses of £12.2 billion arose in the credit trading area
This meant that for the rest of us a measure of the UK National Debt soared into the stratosphere. At the end of 2006/07 the UK’s National Debt to GDP ratio was an apparently fiscally conservative 36%. By the time we fully accounted for the various bailouts it was this in December 2010.
net debt excluding the temporary effects of financial interventions was £889.1 billion, equivalent to 59.3 per cent of gross domestic product (£2322.7 billion, equivalent to 154.9% including interventions).
First of all we have the impact on the headline figure and then boom! Apologies for those of a nervous disposition as our debt shot higher. I was one of the very few who covered these numbers and have written before of their many flaws but they give a ballpark idea of our potential exposure.
A Name Change
One of the most ominous developments in a situation is a name change as the Public Relations industry tries to solve the problem of a toxic brand by rubbing it out and introducing a shiny new one. On this road the leak prone nuclear reprocessing plant Windscale became the initially leak-free Sellafield. Well TBTF has made a similar journey as it is now called SIFI or Systemically Important Financial Institution.Do we feel better already?
These are of course fines but I think that the banks treat them as a bill just like the Destinys Child lyric or a cost of doing business. Yesterday saw Barclays and RBS hit with these and we fined Barclays ourselves.
The Financial Conduct Authority (FCA) has imposed a financial penalty of £284,432,000 on Barclays Bank Plc (Barclays) for failing to control business practices in its foreign exchange (FX) business in London.
Whilst on the face of it seems like action there are various problems here. Current Barclays shareholders are paying for a problem which they really had no control over and of course may not even have been shareholders then. What about punishing those who did this? After all some were openly admitting to fraud.
“If you aint cheating, you aint trying”
Yet again there seems to be something of a shortage of criminal prosecutions as we wonder if any sort of banking financial crime would get a jail sentence. We do seem to treat other types of fraud such as benefits fraud much more harshly. From Poole Council’s website.
A Poole man was given a 12 month custodial sentence for stealing over £88,000 from the public purse.
Meanwhile there is the issue of whether the shareholders were in fact punished. From Adam Parsons of the BBC.
Shares then go up up 3.37% Means Barclays now worth £1.5bn more than it was before the £1.5bn fine.
Next if we look at the international issue is a wealth transfer from the UK to the United States as the fines from it to UK banks go on and on.
Barclays, which was involved from as early as December 2007 until July 2011, and then from December 2011 until August 2012, has agreed to pay a fine of $650 million;RBS, which was involved from at least as early as December 2007 until at least April 2010, has agreed to pay a fine of $395 million.
The US Federal Reserve fined them too for US $342 million (Barclays) and US $274 million (RBS). This is particularly awkward in the case of RBS which has of course the UK taxpayer as a majority shareholder. Exactly what guilt does the average UK taxpayer have?
Often forgotten in the melee is the impact on financial markets. We have seen that foreign exchange and interest-rate markets (LIBOR) have been rigged to the banks benefit which begs the question of what other markets have been? For example was it a coincidence that the oil price and indeed the price of several other basic commodities fell after many banks closed their commodity trading desks. By the time that central banks have manipulated so many markets too what is left.
Of course central bank market manipulation is treated as welcome rather than illegal but even Andrew Bailey of the Bank of England admitted that there seem to be “side-effects”.
On 15 October, 10 year US Treasury yields moved intra-day by around 8 standard deviations of preceding daily changes. On 15 January, the Swiss Franc moved by more than 30 standard deviations. For rough scale, an 8 standard deviation move should happen once every three billion years or so for normally distributed data.
Of course we had the flash crash in Euro area bond markets only recently.So what is proclaimed as making us safer is at best making markets more skittish.
What did governments do for revenue before they fined banks?
As the fine revenues pile up let us not forget that there were other type of fine imposed on the banks in the UK which were the bank payroll tax and the banks levy. As of the end of the 2103/14 tax year we had received some £8.8 billion. This has its issues as of course we were in some cases fining banks we then owned!
What we used to do was tax banks via Corporation Tax but receipts have collapsed from £7.3 billion in 2006/07 to £1.6 billion in 2013/14. There is of course a much wider problem with corporate taxation as companies shuffle money around the globe to avoid it. I saw an odd BBC interview with Bono and the Edge from the band U2 who apparently approve of this,well for their own affairs anyway! But conventional revenues like this from the banks took a heavy knock. So we now fine them which is often a sort of fining ourselves. are we fining the profits they have made from the cheap funding given to them by the Bank of England in a form of “round-tripping”?
Of course we could follow the American model and mostly fine foreign banks….
What about the regulators?
One more time we face the famous latin phrase.
quis ipsos custodiet custodes (Juvenal)
Who watches the watchmen? This is a very relevant question as time and time again we see evidence of “regulatory capture”. This involves regulators later moving to banks for example. From Sky News.
Barclays has hired the former chief executive of the Financial Services Authority (FSA), Hector Sants, as its head of compliance.
We are continually told “this time is different” and yet more and more scandals emerge. Perhaps the “exhaustion and stress” from which the newly knighted Sir Hector suffered was from the emergence of all the scandals on his watch.
Frankly regulators seem to have more enthusiasm for suppressing scandals than investigating them.
The essential problem is how much has improved over that past eight years or so? We get regularly told this both openly and more subliminally. Yet we remain in a situation where as I discussed yesterday where interest-rate rises seem impossible and the housing market has been pumped up one more time to improve the balance sheets of the banks. As so often before we find ourselves asking what happens if we go in a recession again? After all the numbers keep getting larger. From Andrew Bailey.
Financial market activity has grown rapidly. There are many statistics that could be quoted, so to choose one, over the last 15 years, global bond markets have grown from around $30 trillion in 2000 to nearly $90 trillion today.
I fear that we have gone backwards rather than forwards after all the cavalry of the Vickers Report will not arrive until 2019. That is of course assuming that the cavalry do not suffer from regulatory capture on their amazingly slow journey.