Are UK big banks holding back our recovery?

As Liam Halligan said recently in the Daily Telegraph, the UK has avoided the economic meltdown like Spain, Greece, and other European countries. He continues,

“The Government can’t live without growth, yet nor can it seem to contemplate the bold actions that would snap the UK out of its torpor. We find ourselves, then, in a complex predicament – not easy to sum up in a headline.”

The way that Liam Halligan suggests that UK economy will return to growth is when our big banks are restructured. It’s been Liam’s argument for years that because the banks are hiding huge losses they are, “failing to provide the fresh working capital needed for viable companies to expand and to finance new and productive projects”.

I agree with Liam about the state of our big banks. Unlike him I do see change taking place in the UK banking sector. It’s taken time, but the personnel changes at the top of many banks, the many investigations, and changes to their operating cultures are likely to be positive for business lending. Not fast enough you can argue. UK banks are changing, unlike European counterparts Dexia, Anglo-Irish, who are still being bailed out by the taxpayer.

I’m heartened, as I believe Liam Halligan should be, that the Chancellor, George Osborne, is considering breaking up RBS. I’m sure for many of us, reform of UK banking remains an important topic, one that’s taking too long to fix.

We shouldn’t neglect to remember the damage that Gordon Brown did to UK banking, HERE, HERE, and HERE.

Urgent reform still needed of the banking sector

You’ll know, I’m sure, of my allegiance to the wisdom of Liam Halligan, and his articles on economics in the Sunday Telegraph and elsewhere.

Well, in yesterday’s Sunday Telegraph, Liam offered this definition of the purpose of the financial services industry in amongst his despair at President Obama’s failure to regulate the US financial services industry ,

“The principal function of a financial services industry is to link savers with investors and creditors with borrowers, so facilitating broader commercial activity. Such intermediary functions are crucial to economic progress and can be the basis of a profitable and socially useful business.”

Perfect. But, that’s not where we are, as Liam continued to argue, writing,

“What we’ve created, instead, is a group of institutions that between them comprise nothing less than a financial oligarchy. These guys have Western taxpayers over a barrel.”

I’ve said before in this blog of how we need to separate plain and simple high street banking from the casino-like tendencies of investment banking. I’ve also argued that failing to reform the big banks does a disservice to our financial services sector.

Of course, the banking sector doesn’t like the idea, addicted as they are to the very high returns of investment banking and the like. I appreciate that the banking and financial services sector has a level of structural integration, much computer-based, that makes separation a complex and slightly risky affair.

However the UK can lead the world in financial services reform, earning both respect and a healthy income, by introducing a modern equivalent to the Glass-Steagall Act that separated investment banking from commercial banking, just as Liam Halligan argues, yet again, in his article.

Inflation the untamed tiger

Gadzooks, the December inflation increase is the highest on record. I’ll not witter on as I’ve done before on the dangers of inflation, This time I’ll point to some authoritative sources instead. Type inflation into the search box and you’ll soon see what I mean.

Let’s start with the bald facts, from the BBC’s report:

“The Office for National Statistics said Consumer Price Index (CPI) inflation rose 0.6% last month, with the annual rate up to 2.9% from 1.9% in November. That was the biggest monthly rise in the annual index since records began and exceeded the City’s expectations for an increase to 2.6%.”

Now some information for you to digest:

We are now seeing the long-term effects of Quantitative Easing and the use of debt to finance further government borrowing. A consequence of printing money is to devalue it – hence the collapse in Sterling and ever more expensive imports, notably crude oil, a commodity which itself has doubled in price over 12 months. With no current plans to arrest government spending and the VAT hike to kick in next month, the future looks miserable.

There’s an aspect to this inflation rate rise that is particularly worrying, and that is that the December inflation numbers were higher than predicted [data on this is in the Alphaville blog post]. Remember, there are hundreds if not thousands of people tracking this data, and both commenting on them and making predictions. These people don’t like surprises, and nor do we.

I’m sure I can guess what my favourite economist – Liam Halligan – will be writing about this weekend.

Liam focuses on inflation dangers, as expected

Liam Halligan, my very favourite economist, wrote at the weekend, about, “An inflationary spike is not just hot air – it’s a very real threat. Here’s what he said,

My view that inflation will spike across the Western world is dismissed by many as “alarmist”. Yet I’m afraid it is now widely-held by many professional investors and becoming more popular all the time.

I chose this quote from his article for two reasons. Firstly, of course, because he foresees that inflation is coming. But more importantly, and this is where he differs from academic economists, he derives his analysis from advising clients where to invest their money. His business, Prosperity Capital Management, advises overseas clients on investments in Russia and emerging markets. That, I believe gives him a valuable perspective on how investors judge the UK’s economic performance.

Inflation, dangerous or not, Who to believe?

It’s often said that when you put 10 economists in a room together you end up with 13 different opinions. Never truer than last week, when two totally opposite opinions on inflation appeared in print within days of each other.

First, economist David Blanchflower, recent past member of the Bank of England’s Monetary Policy Committee, says in the New Statesman, “What’s so bad about inflation?”,  and then Liam Halligan, guest economics columnist in the Sunday Telegraph, says, “Those once called bonkers now point to where the madness lies”.

Blanchflower says that David Cameron’s is wrong when he said he rejected the inflation approach, “we could encourage inflation, which would wipe out the value of the debt, making it easier to pay off”, in his conservative conference speech. In his article Blanchflower says he looks forward to some inflation,

“Moderate inflation would lift people out of negative housing equity. A few years of inflation of roughly 5 per cent or so would be very attractive right now. … The chances of runaway inflation right now are essentially nil. … To repeat: unemployment matters more than inflation …”

Meanwhile Liam Halligan, past Channel 4 economics editor, is angry that the dangers of inflation are being wilfully ignored. He says,

“Even now, the Bank [of England] is forecasting 2.1pc inflation in the first three months of 2010 …. I’d say that’s still too low. There are serious price pressures in the pipeline – over and above the “inconvenient truth” that QE [Quantitative Easing] means the UK will soon have tripled the size of its monetary base. When banks stop hoarding that cash, inflation will let rip.”

Who to believe? I agree with Liam Halligan. Inflation is the greater danger. Inflation destroys savings, and it’s the savings culture we badly need to return to get the economy and personal finances back on track. As David Cameron said on why he rejected the inflation option to get out of the UK’s debt crisis,

“[Inflation] … not just an economic disaster – it’s a social disaster too. It doesn’t just wipe out debts, it wipes out people’s hard-earned savings.”

This is an important argument about economic strategy. There are others too, which I hope to touch on next week.

Controlling the big banks casino tendencies

RouletteBear with me please, I promise not to go on about economics for a while after this, promise. But, since Alan Greenspan, former US Federal Reserve chief, told the BBC yesterday that the world will suffer another financial crisis, it got me thinking about controlling the big banks casino tendencies.

There’s been much discussion, including from my favourite economics commentator Liam Halligan, about the sort of controls that could be placed on big banks, so we don’t end up in another financial crisis.

One way is to separate the high street aspects of banking from the more risky investment banking, as we had in the past. Wonderfully, I’ve come across a brilliant description of how this might work in the Baseline Scenario blog,

“[Divide the financial universe] into Boring and Exciting.  Boring services are the following:

  • retail deposits
  • loans to retail customers, including mortgages
  • retail insurance, including annuity products
  • any custodial service beyond traditional settlement

If you do any of those, then you are a Boring institution, you can do all Boring services, you face some significant regulations, and you get bailed out when necessary. If you do none of those, then you are an Exciting institution, you can do almost anything you want, and there is an ironclad rule preventing the government from bailing you out. Boring institutions cannot offer Exciting services (I think) and Exciting institutions cannot offer Boring services (that’s certain).

It feels like a modern version of Glass-Steagall (although I’m probably not doing it full justice) – create an explicit linkage between tight regulation and a government backstop, and protect the part of the financial system that affects ordinary people.”

The Baseline Scenario blog draws from another blog which comprehensively proposes how to regulate financial services. I warn you this blog post is very long, technical and American in context.