City firms have failed to learn the lessons from the crash - a Labour government must finally bring them into line.
Jeremy Corbyn has finally said what many people already knew. In an address directed at US investment bank Morgan Stanley last week, he said the financial sector is rife with “speculators and gamblers who crashed our economy.”
When bankers say that Labour could be a ‘threat’ to their business, they are right. Labour should check their malpractices: left unchecked, banks can not only destroy themselves but the rest of society too.
Before suggesting some changes, we need to look at the regulatory reforms introduced by the Conservative government.
In the 2007-08 crash, banks like Lehman Brothers and Bear Stearns were brought down by their exposure to speculative investments, setting off a domino effect from which the UK economy is yet to recover.
From 1st January 2019, banks with retail deposits of more than £25bn will be required to separate or ring-fence retail banking from the speculative side of their trade: with a ring-fenced bank (RFB) consisting entirely of retail operations, and another entity covering the rest – non-ring fenced banking (NRFB) operations like investment banking and corporate lending. Both entities need separate, independent boards which can be owned by the same parent company.
But the new arrangements are weak. There is lack of clarity as to whether the retail banks will be allowed provide some basic derivatives products to small business customers. How long before we hear that in pursuit of the interests of the common parent company, the RFBs and NRFBs have bent or pushed the rules to breaking point?
The original debate was about preventing banks from engaging in reckless risk taking. But the new arrangements do not prevent non-ring fenced banks from engaging in reckless risks: their shareholders will still be pushing for maximum returns in the shortest period and are unlikely, as before, to be concerned with the long-term consequences.
And the new arrangements do not isolate the negative effects of the riskier operations. The investment side still has the benefit of limited liability – i.e. the right to dump its losses on to other stakeholders. The NRFB can borrow from pension funds, insurance companies and other entities, and its bankruptcy would inevitably infect others.
The Labour leader needs to give bankers some food for thought and personal responsibility. Here’s a start:
1. There should be a genuine, legally enforced separation of retail and investment banking i.e. not be housed within the same parent company structures.
2. The directors of investment banks should be deprived of the benefit of limited liability: that is, the owners of the ‘financial casinos’ should bear the costs of their own failures. They would not be able to dump the losses on to the rest of society
3. Regulators should assess speculative banking to ensure that gambles can be matched by available capital
4. Speculative banking disputes should not go through publicly-funded courts. Taxpayers should not be forced to bear the cost of disputes amongst reckless risk-takers.
5. To prevent innocent bystanders from being caught in the negative consequences of speculative activities, no retail bank, insurance company or pension fund should be able to provide finance to investment banking without express approval from those directly affected.
6. Retail banks should be freed from the incessant pressures from stock markets for ever-rising profits, a major cause of many banking scandals and the financial crash. Therefore, retail banks should be encouraged to trade as co-operatives, mutuals, and publicly-owned enterprises.
7. A Robin Hood Tax should be levied on all financial trading. This would help to raise much needed public revenues and also discourage speculative flows.
8. Retail banks should only be permitted to invest in securities specified by regulators. These would primarily be low to medium risk securities.
9. Retail banks should not be permitted to slice, dice or repackage loans and mortgages into complex financial instruments whose risks are poorly understood.
10. We need to have employees, savers and borrowers on the boards of all retail banks to counter pressure from short-term shareholders and check the predatory of directors.
The above dose of responsibility may give some bankers sleepless nights – but the rest of us will be able to breathe.
Prem Sikka is Professor of Accounting and Finance at the University of Sheffield and Emeritus Professor of Accounting at the University of Essex. He is a Contributing Editor for Left Foot Forward.
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