STRICTLY EMBARGOED UNTIL
18:15 ON WEDNESDAY 15 JUNE 2011 Speech at the Lord Mayor’s Dinner
for Bankers and Merchants of the City of London
STRICTLY EMBARGOED
UNTIL 18:15 ON WEDNESDAY 15 JUNE 2011
Check against delivery
Lord Mayor, a year ago, standing here just five weeks after the
Government had come to office, I spoke about the financial crisis
and I quoted what Winston Churchill had said in this very room in
the middle of the war.
“Now this is not the end. It is not even the beginning of the
end. But it is, perhaps, the end of the beginning.”
I believe that sentiment of cautious optimism has been borne out
by events in the twelve months since then.
The British economy is recovering.
Output is growing.
The necessary rebalancing of the economy, away from debt-fuelled
consumption towards investment and exports has gained momentum.
Half a million new private sector jobs have been created, the
second highest rate of net job creation in the whole G7.
Today’s unemployment figures showed a fall of 88,000 - the
fastest pace for more than a decade.
Our budget deficit is now falling from its record highs.
Stability has returned.
Britain is on the mend.
But it is taking time.
External shocks have made that recovery more difficult.
• The dramatic and debilitating rise in the world’s oil price –
up almost 60% since last June.
• The terrible Japanese earthquake and the impact on the supply chain.
• The on-going crisis in the Eurozone, our largest market for
British goods and services.
• The softness in the US economy.
Across the world, choppy economic waters have become choppier still.
But the truth is this.
Even without these substantial headwinds, the journey the British
economy has to travel would be a hard one.
As I said at the time of the Autumn Forecast last November:
“recovery was always going to be more challenging than after
previous recessions”.
For we are seeing the unwinding of debts built up over an entire decade.
Of all the major economies in the world, Britain’s was the most over-borrowed.
Our families were more in debt than any other in the G7.
Our house price bubble was bigger than America’s.
Our government deficit higher than that of Greece.
And the balance sheets of our banks went from around 300% of GDP
in 1998 to a staggering 550% just a decade later.
Now those bank balance sheets are shrinking.
Not just because of new rules from regulators.
But because the markets themselves demand it.
So money and credit growth remain weak.
And that acts as a powerful drag anchor on recovery.
Here is a striking fact about the British economy over the last
six quarters since the recession ended – a fact little understood
but crucial to understanding our challenge.
For five out of those six quarters, the financial sector has
continued to contract.
While our economy as a whole has grown by 2.5%, the financial
sector has shrunk by 4%.
Take the financial sector out of the equation, and economic
growth in the rest of the economy during the recovery has actually
been above its average rate of the last two decades.
Put the financial sector into the equation, and economic growth
has been below trend.
Our banking system fuelled the boom.
Now it is slowing the recovery from the bust.
That might surprise you. Look around the City today, and activity
is growing.
The investment banks are hiring again – and they’re hiring here
in London.
There are some 25,000 more jobs in the Square Mile than a year
ago.
I’ve seen it – I’ve been at the openings of new headquarters and
new buildings.
Funds are out there investing.
Law firms, accountants and insurance are busy.
And this year, for all the doomsayers who warn of decline, London
has topped the global league table of financial centres.
We’re officially the number one place to do business – so instead
of talking ourselves down, let’s agree to go around the world and
say so.
Of course, we’ve got to stay in pole position.
That’s why, even in these straightened times, we’ve committed to
the multi-billion pound Crossrail link – the greatest urban
infrastructure investment in the western world today.
We’ve changed our taxation of overseas earnings, so that
multinationals are moving back to Britain instead of leaving it.
I’ve made it clear that the 50 pence tax rate I inherited must
only be temporary – not permanent, as some politicians now propose.
And this week we’re publishing plans that end the uncertainty
over tax residence rules and the treatment of non-domiciles, and
set out new plans to encourage their investments.
All the activity and wealth creation you see in the City today is
very welcome.
But sadly it does not compensate for the many billions of pounds
being shed from the balance sheets of our banks.
Economists like Ken Rogoff and Carmen Reinhart warned us that
this would be the case – that recoveries from recessions with a
financial crisis are always slower than recoveries from other less
severe recessions.
How can Government respond?
For a start, we have to avoid that now well-trodden path from
banking crisis to sovereign debt crisis.
Unsustainable borrowing in our banks must not lead to
unsustainable borrowing by the government.
I promised you a year ago that we would take conscious and
determined action.
And we have.
The benefits are there to see.
In a world where so many countries are seeing their credit
ratings put on negative outlook or downgraded, our country’s
triple-A rating has come off negative outlook and been affirmed.
We have a deficit larger than Portugal, but virtually the same
interest rates as Germany.
That is the huge stimulus our plan delivers to our economy.
And abandoning our deficit reduction plan would take that
stimulus away.
That was the IMF’s verdict last week.
In the recovery from a banking crisis, stability and low market
rates are precious, hard-won achievements.
And we will do nothing to undermine them.
Instead, we should try to manage the nature and pace of the deleveraging.
A large part of the rapid build up of borrowing within our
banking sector consisted of lending from one part of the financial
system to another.
That can be reduced without directly impacting the real economy,
even if it reduces the measured contribution of banking to GDP.
What is crucial is that this inevitable process of deleveraging
does not strangle the supply of credit to businesses and families
who need it.
We are taking action to ensure this doesn’t happen.
We are resolving regulatory uncertainty and encouraging new
capital investment in our banking system, so that deleveraging is
not only achieved through smaller balance sheets.
In the G20 and the Basel Committee, Britain has successfully
argued for higher capital and liquidity standards, but crucially
for standards that are phased in over long time periods.
And the new Financial Policy Committee has been mandated to take
an overview of our financial system, and watch that our own
regulators do not act in a pro-cyclical way.
We have struck the Merlin deal with the banks to prevent small
and medium sized businesses becoming the innocent victims of
shrinking balance sheets.
I very much welcome the commitments from the BBA’s taskforce and
the new Business Growth Fund that is now investing in Britain’s businesses.
But the banks should also be in no doubt that I will use every
tool available to me to hold them to the published lending
commitments they made.
Lord Mayor, the Government can also actively help to rebalance
our economy by being unequivocally pro-business and pro-enterprise.
Our Plan for Growth set out a new wave of supply side reforms to
restore Britain’s competitiveness.
We’re investing in apprenticeships, cutting employment tribunal
costs, reforming pensions and anti-growth planning rules, reducing
regulation, creating a Green Investment Bank, reforming the
welfare system and taking low paid people out of tax.
And we’re actively pursuing the lowest business tax rates of any
major western economy – a 5% reduction in the rate of corporation
tax in the space of just four years.
From Shanghai to Seattle, investors can see that Britain is open
for business.
So while the gradual unwinding of the debts built up in the boom
creates powerful headwinds, all of this demonstrates that we are
not powerless to respond.
But the legacy of the financial crisis does confront us with a
very simple dilemma – what you might call ‘the British Dilemma’.
As a global financial centre that generates hundreds of thousands
of jobs, a successful banking and financial services industry is
clearly in our national economic interests.
But we cannot afford to let it pose a risk to the stability and
prosperity of the nation’s entire economy.
We should strive for global success in financial services, but
that success should not come at an unacceptably high price.
We should be clear that we want Britain to be the home of some of
the world’s leading banks, but those banks cannot be underwritten
by the British taxpayer.
I said here last year that the uncertainty hanging over your
industry was causing real damage; that it couldn’t be resolved
overnight, but that I owed you a process that would lead to a conclusion.
And one year on, I believe we are much closer to a consensus on
how we can achieve both successful, competitive financial services
and a healthy, balanced economy.
That consensus is about:
• What is the right culture of regulation;
• How the
international rules apply;
• And where successful banks fit
in.
First, the culture of regulation.
The failure of the tripartite system was not a series of
unfortunate accidents – it was hard-wired into its design.
The decision to divide the responsibility for assessing systemic
financial risks from the responsibility for applying that
assessment to particular financial institutions created a world in
which no one was in charge.
Yet at the same time the system required endless box ticking and
costly processes.
We had the worst of both worlds
This new Government proposes, therefore, a completely new culture
of regulation.
Tomorrow we publish our White Paper and the detailed draft legislation.
A permanent Financial Policy Committee will be established inside
the Bank of England.
Its remit will be set by Parliament and refined by the Chancellor
on an annual basis.
And its job will be to monitor overall risks in the financial
system, identify bubbles as they develop, spot dangerous
inter-connections and deploy new tools to deal with excessive
levels of leverage before it is too late.
This has never been done before.
The Committee will work alongside a new Prudential Regulation
Authority that will also sit in the Bank of England.
This will assess the safety and soundness of individual firms.
I’ve heard your argument that insurance companies face different
risks, so I can announce that we will set a specific statutory
objective for them.
The operation of markets, and the protection of consumers, will
be the responsibility of a new Financial Conduct Authority.
I am delighted that Martin Wheatley, who brings valuable
experience as Hong Kong’s market regulator, will be the new CEO.
Here too we’ve listened to representations, and I confirm tonight
that as well as protecting consumer interests, the Financial
Conduct Authority will have a new primary duty to promote competition.
If the result of all these changes is simply that some brass
plates on some doors have changed, then we will have failed.
We don’t undertake the institutional change for the sake of it.
We do it to change the culture.
We want to move away from the tick-box mentality of the current
system, where there’s no shortage of costly regulation but too
little room for invaluable judgement.
In its place we will have clear lines of accountability and the
space for regulators to exercise judgment.
You will have the freedom to innovate, grow your businesses, and
compete in the world.
You will be constrained if you put taxpayers or consumers at
undue risk.
A new culture of regulation is the first step towards solving the
British Dilemma.
But getting supervision right in one country is not enough.
As the world’s leading financial centre, we are particularly
exposed to financial instability elsewhere in the world.
And you are all exposed to fierce overseas competition.
For both these reasons, global standards are strongly in our
national interest.
So we want to see the full implementation of the new Basel
standards, right around the world, including here in European Union.
It’s vital that those European rules give national regulators the
discretion to add to the Basel requirements when national
circumstances require it.
This is what the de Larosière committee themselves recommended.
It would help the FPC do their job.
We need European coordination, to enforce common rules in a
single market, and it’s good news that the headquarters of the new
European Banking Authority is here in London.
We support their efforts to make this year’s stress tests mode
credible than last year’s.
But we will always fight hard against badly thought-through
European regulation that undermines Europe as a location for
wholesale finance, or London’s role as this continent’s
pre-eminent global centre for it.
That’s a fight we won on the regulation of hedge funds, and we’re
still fighting on EMIR, the new derivatives regulation.
Pay in the financial services sector should also be regulated
internationally, to avoid a race to excess.
Britain now has world-beating standards of transparency.
The Financial Stability Board have come up with good principles
and must now focus on their consistent implementation.
So, Lord Mayor, these are the first two steps towards solving the
British Dilemma:
A new culture of regulation that judges unacceptable risks, while
creating the space for innovation and commercial success.
And an agreed set of international rules that makes the global
financial system safer and protects us from competitive arbitrage
by other financial centres.
But history teaches us that that risk can never be reduced to zero.
We cannot hope to abolish boom and bust.
So the British Dilemma will remain as long as taxpayers are first
on the hook if things do go wrong.
When this Government came to office there was no agreement in
Britain about how this ‘too-big-to-fail’ problem should be addressed.
Indeed, I’ve sat as a guest at this very dinner in years past
listening as one speech from this lectern was completely
contradicted by the speech that followed.
That’s why when I first spoke here, I announced the names of five
highly respected individuals whose job it would be to listen to
all sides of the argument, propose a solution and help bring an
end to the uncertainty.
The Independent Commission on Banking has now published its
Interim Report and I would like to pay tribute to Sir John Vickers
and his fellow Commissioners for the excellent job they have done.
It has commanded respect at home and huge interest abroad.
The Independent Commission on Banking has put forward two
particularly important proposals.
Bail-in instead of bail-out - so that private investors, not
taxpayers, bear the losses if things go wrong.
And a ring fence around better capitalised high street banks to
make them safer, and to protect their vital services to the
economy if things go wrong.
Today I have told the Commission that the Government endorses
both these proposals in principle.
Of course, the Commissioners are still consulting and preparing
their final report – and I won’t pre-empt their conclusions.
We will judge their final proposals in practice against the
following conditions:
• All banks should be allowed to fail safely without affecting
vital banking services;
• Without imposing costs on the taxpayer;
• In a manner applicable across our diverse sector;
• And consistent with EU and international law.
In line with the interim report, we agree with the need for
further capital requirements on systemically important banks, but
I agree with the Commission that outside the ring-fence this is
best done internationally.
I also strongly welcome the Commission’s proposal on increasing
competition in retail banking.
For healthy competition is a powerful defender of consumers’ interests.
Lord Mayor, we will make these changes to banking to protect
taxpayers in the future.
But we still have to clear up the mess of the past.
Taxpayers today own a large part of the banking system, and
underwrite guarantees to parts of the rest.
It’s time we started to plan our exit.
So I’ve opened the Credit Guarantee Scheme to early redemption.
I’m pleased that banks are taking up the opportunity and they are
ahead of schedule in repaying the Bank of England’s special
liquidity support.
This is a sign of confidence in our banking system.
And I remind everyone with deposits that we have increased the
level of deposit insurance to 100% for sums up to £85,000 and we
have made clear that there is no implicit taxpayer guarantee for
sums above that level.
Once all these other forms of subsidy are removed, our direct
shareholdings in banks still remain.
It will take some time – possibly several years – before we can
sell them all.
But we can start that process.
I can announce tonight that on behalf of you the British
taxpayer, I have decided to put Northern Rock up for sale.
Images of the queues outside Northern Rock branches were a symbol
of all that went wrong, and its chaotic collapse did great damage
to Britain’s international reputation.
Its return now to the private sector would help to rebuild that reputation.
It would be a sign of confidence and could increase competition
in high street banking.
We could start to get at least some of our money back.
The sale process will be open and transparent and in line with
state aid rules.
Any interested parties can bid for it, including mutuals, which
this Government is actively committed to promoting.
We will continue to own Northern Rock Asset Management, the
separate “bad bank”, whose assets are being run down over time.
This does not mean that other options to return Northern Rock to
the private sector have been ruled out.
But the independent advice I have received is that a sale process
is likely to generate substantially the best value for the
taxpayer and should be explored as a first option.
And it would be a very important first step in getting the
British taxpayer out of the business of owning banks – and a sign
of confidence in the industry.
Lord Mayor, last year I came here with debates raging about all
these questions of regulation and the future of banking.
I was not the cause of them – but I told you that it was my job
to resolve them.
And I said that our goal should be a new settlement between our
financial system and the British people.
A new settlement where the City is able to be the leading
financial centre in the world, without putting at risk the entire economy.
I believe we are now within touching distance of that new settlement.
If we achieve it, then we will have answered the British Dilemma
– and put our country on the path to prosperity.
I want the City of London to be a thriving centre of enterprise,
more interested in serving its customers than in what Government
might do to it next.
Resolving the British Dilemma is the way to do that.
Thank you.
ENDS
Contacts:
HM Treasury Press Office (Media)
Phone: 020 7270 5238
NDS.HMT@coi.gsi.gov.uk