Rich man, poor man, beggar man, thief (part one)
As we enter a new decade, the controversy in the UK surrounding government finances and bankers bonuses looks set to continue making headlines. The bankers’ bonus issue is just too useful a political diversion to lay down easily, given the election campaign is already underway.7 January 2010
As we enter a new decade, the controversy in the UK surrounding government finances and bankers bonuses looks set to continue making headlines. The bankers’ bonus issue is just too useful a political diversion to lay down easily, given the election campaign is already underway.
It may be too, that political expediency in locating and then naming and shaming ‘blame’ candidates for the worst public finance position since the Second World War may yet tempt UK politicians to revisit the diversions of the last 12 months.
Early signs are that the rhetoric will be directed at stirring up public anger against bankers and the wealthy. The Conservative opposition leaders have already been the subject of derisory remarks over ideas being formed on ‘the playing fields of Eton’; a curious tactic given that a significant number of the current Labour cabinet were also educated in fee paying schools. This igniting of social tensions for political purposes in order to tilt public opinion against the wealthy minority in a bid for votes is a worrying development. It seems the election could be a bitter and acrimonious affair.
The reporting of a Christmas phone call between Jamie Dimon of JP Morgan and Alastair Darling, Chancellor of the Exchequer was an interesting development, and it seems Mr Dimon did not offer too much festive cheer, making clear his views on the particularly stringent terms of the bonus tax arrangements introduced by the British government. Given the Financial Stability Board, under instruction from the G20, has already made proposals on pay, the much tougher rules introduced unilaterally by the UK have the air of a political crowd pleaser. It seems the strategy may be to convince the voter that the banks caused all of the UK’s economic problems, and those rich foreigners who pay no tax by using ‘Tax Havens’ need to pay up and take the strain. With the Conservatives understandably anxious not to appear out of step with public opinion and reluctant to defend the wealthy and their advisers, it seems that this door may be pushed on again to see just how far it can be opened.
What is remarkable about this turn of events is the chorus of cheer leading for measures such as the bonus tax. Even elements within the Bank of England happily signal their willingness to wave off major international institutions providing employment for hundreds of thousands, and making a significant contribution to tax receipts.
It seems that Mr. Darling is betting on the traders and investment bankers remaining, despite the uncertainty generated by the bonus tax measure. Many will wait to see the outcome of the election, watching to see if the bonus legislation is enacted.
However some are already leaving, with Hong Kong proving to be increasingly attractive to the banking and investment community. Hong Kong offers low tax, a pro business government, effective regulation, high GDP per capita, a highly skilled multi cultural workforce, together with good employment and career prospects. Compelling and attractive features which until recently would have aptly described London as a financial centre.
Whilst the move of Michael Geoghegan, Group Chief Executive of HSBC, is sure to be tied into the Asian and emerging markets strategy of that bank, the increasingly hostile environment for banks in the City of London ensured there were no obstacles in the way of his decision to leave, along with a significant proportion of his strategy team. Another famous name captured by the attractions of the East is that of Anthony Bolton, the former Fidelity star fund manager who seems set, rather like Schumacher, to make a return to the top flight, but this time based in Hong Kong.
Recent Press reports suggest they may not be alone in considering a move, with Goldman Sachs and Tullett Prebon amongst others already reportedly assessing what elements of their operations can be removed from London.
If the rhetoric is stripped away what is the real position? Are banks solely responsible for the economic crisis? What was the state of public finances in the UK pre crisis? And how much tax do rich people really pay?
The UK Public Finances
The following table sets out the levels of net debt incurred by the UK in the four years running up to the crisis in cash terms and as a percentage of GDP.
It can be seen that whilst GDP was rising on the back of a favourable economic environment , government spending was already rising at a much faster rate, increasing by over 30% in cash terms in the four years preceding the financial crisis.
Despite high economic activity the UK was spending more on public services than it was receiving in revenue, and funding the gap through increased borrowing. In fact despite high economic prosperity there are very few periods since the current Labour Government was elected in 1997, when the annual budget was not in deficit.
The state has grown so much that it now employs one in five of the working population, with the NHS employing one in twenty, making it the world’s third largest employer. Soon the state in the UK will consume more than half of national income, the annual borrowing deficit will exceed £178bn, and national debt is heading towards £1,000bn fast.
Whilst there is an impact on public finances from the crisis, and the UK government should be given credit for its intervention measures, this does not on its own account for the very significant rise in the net debt position. Of course the slow down in the wider economy has had an impact, but public finances were predicated on high assumed levels of uninterrupted growth, and were in no shape to cope with a downturn of any kind.
A recent report by the IFS identifies trends in public finances over the last decade and concludes:-
“The gradual increase in TME (Total Managed Expenditure) as a share of national income between April 2000 and April 2006 took place during relatively strong economic conditions. So this increase reflects a structural increase in public spending, i.e. an increase in the amount of public spending over and above the ‘natural’ variability that occurs over economic cycles. Similar to the early 1980s and early 1990s, the recession of the late 2000s is projected to cause an increase in social benefits spending and TME as a share of national income from April 2008. TME is forecast to peak at 48.0 per cent in 2010–11, a level not seen since 1982–83.”
Reasons for the Financial Crisis
Whilst the banking industry has much to regret and learn from the crisis, the deeply entrenched issue of long term structural deficits which have been building for many years in the UK, and in much of the developed economies of the world, cannot justifiably be laid solely at the door of the banks. The liquidity problems of the banking industry have been a contributory but not the major factor in the slowdown. Indeed, the terms of the bailout packages are such that in the longer term there is every prospect that the tax payer will see a return on the stakes taken in some of the major banks.
Government policies in the US and UK designed to maintain consumer spending through artificially low interest rates together with the global payments imbalances were the major drivers of asset bubbles and over indebtedness. Cheap money drove excess, individual and corporate, but the price of money is determined by governments and central banks, not by commercial organisations. A slowdown was inevitable in the face of sustained above trend growth fuelled by debt, and