Showing posts with label equity. Show all posts
Showing posts with label equity. Show all posts
Sunday 1 October 2023
Monday 31 January 2022
Friday 5 October 2018
The finance curse: how the outsized power of the City of London makes Britain poorer
Nicholas Shaxson in The Guardian
In the 1990s, I was a correspondent for Reuters and the Financial Times in Angola, a country rich with oil and diamonds that was being torn apart by a murderous civil war. Every western visitor asked me a version of the same question: how could the citizens of a country with vast mineral wealth be so shockingly destitute?
One answer was corruption: a lobster-eating, champagne-drinking elite was getting very rich in the capital while their impoverished compatriots slaughtered each other out in the dusty provinces. Another answer was that the oil and diamond industries were financing the war. But neither of these facts told the whole story.
There was something else going on. Around this same time, economists were beginning to put together a new theory about what was troubling countries like Angola. They called it the resource curse.
Academics had worked out that many countries with abundant natural resources seemed to suffer from slower economic growth, more corruption, more conflict, more authoritarian politics and more poverty than their peers with fewer resources. (Some mineral-rich countries, including Norway, admittedly seem to have escaped the curse.) Crucially, this poor performance wasn’t only because powerful crooks stole the money and stashed it offshore, though that was also true. The startling idea was that all this money flowing from natural resources could make their people even worse off than if the riches had never been discovered. More money can make you poorer: that is why the resource curse is also sometimes known as the Paradox of Poverty from Plenty.
Back in the 1990s, John Christensen was the official economic adviser to the British tax haven of Jersey. While I was writing about the resource curse in Angola, he was reading about it, and noticing more and more parallels with what he was seeing in Jersey. A massive financial sector on the tiny island was making a visible minority filthy rich, while many Jerseyfolk were suffering extreme hardship. But he could see an even more powerful parallel: the same thing was happening in Britain. Christensen left Jersey and helped set up the Tax Justice Network, an organisation that fights against tax havens. In 2007, he contacted me, and we began to study what we called the finance curse.
It may seem bizarre to compare wartorn Angola with contemporary Britain, but it turned out that the finance curse had more parallels with the resource curse than we had first imagined. For one thing, in both cases the dominant sector sucks the best-educated people out of other economic sectors, government, civil society and the media, and into high-salaried oil or finance jobs. “Finance literally bids rocket scientists away from the satellite industry,” in the words of a landmark academic study of how finance can damage growth. “People who might have become scientists, who in another age dreamt of curing cancer or flying people to Mars, today dream of becoming hedge-fund managers.”
In Angola, the cascading inflows of oil wealth raised the local price levels of goods and services, from housing to haircuts. This high-price environment caused another wave of destruction to local industry and agriculture, which found it ever harder to compete with imported goods. Likewise, inflows of money into the City of London (and money created in the City of London) have had a similar effect on house prices and on local price levels, making it harder for British exporters to compete with foreign competitors.
Oil booms and busts also had a disastrous effect in Angola. Cranes would festoon the Luanda skyline in good times, then would leave a residue of half-finished concrete hulks when the bust came. Massive borrowing in the good times and a buildup of debt arrears in the bad times magnified the problem. In Britain’s case, the booms and busts of finance are differently timed and mostly caused by different things. But just as with oil booms, in good times the dominant sector damages alternative economic sectors, but when the bust comes, the destroyed sectors are not easily rebuilt.
Of course, the City proudly trumpets its contribution to Britain’s economy: 360,000 banking jobs, £31bn in direct tax revenues last year and a £60bn financial services trade surplus to boot. Official data in 2017 showed that the average Londoner paid £3,070 more in tax than they received in public spending, while in the country’s poorer hinterlands, it was the other way around. In fact, if London was a nation state, explained Chris Giles in the Financial Times, it would have a budget surplus of 7% of gross domestic product, better than Norway. “London is the UK’s cash cow,” he said. “Endanger its economy and it damages UK public finances.”
To argue that the City hurts Britain’s economy might seem crazy. But research increasingly shows that all the money swirling around our oversized financial sector may actually be making us collectively poorer. As Britain’s economy has steadily become re-engineered towards serving finance, other parts of the economy have struggled to survive in its shadow, like seedlings starved of light and water under the canopy of a giant, deep-rooted and invasive tree. Generations of leaders from Margaret Thatcher to Tony Blair to Theresa May have believed that the City is the goose that lays Britain’s golden eggs, to be prioritised, pampered and protected. But the finance curse analysis shows an oversized City to be a different bird: a cuckoo in the nest, crowding out other sectors.
We all need finance. We need it to pay our bills, to help us save for retirement, to redirect our savings to businesses so they can invest, to insure us against unforeseen calamities, and also sometimes for speculators to sniff out new investment opportunities in our economy. We need finance – but this tells us nothing about how big our financial centre should be or what roles it should serve.
A growing body of economic research confirms that once a financial sector grows above an optimal size and beyond its useful roles, it begins to harm the country that hosts it. The most obvious source of damage comes in the form of financial crises – including the one we are still recovering from a decade after the fact. But the problem is in fact older, and bigger. Long ago, our oversized financial sector began turning away from supporting the creation of wealth, and towards extracting it from other parts of the economy. To achieve this, it shapes laws, rules, thinktanks and even our culture so that they support it. The outcomes include lower economic growth, steeper inequality, distorted markets, spreading crime, deeper corruption, the hollowing-out of alternative economic sectors and more.
Newly published research makes a first attempt to assess the scale of the damage to Britain. According to a new paper by Andrew Baker of the University of Sheffield, Gerald Epstein of the University of Massachusetts Amherst and Juan Montecino of Columbia University, an oversized City of London has inflicted a cumulative £4.5tn hit on the British economy from 1995-2015. That is worth around two-and-a-half years’ economic output, or £170,000 per British household. The City’s claims of jobs and tax benefits are washed away by much, much bigger harms.
‘The competitiveness agenda is an intellectual house of cards, ready to fall.’ Illustration: Katie Edwards
This estimate is the sum of two figures. First, £1.8tn in lost economic output caused by the global financial crisis since 2007 (a figure quite compatible with a range suggested by the Bank of England’s Andrew Haldane a few years ago). And second, £2.7tn in “misallocation costs” – what happens when a powerful finance sector is diverted away from useful roles (such as converting our savings into business investment) toward activities that distort the rest of the economy and siphon wealth from it. The calculation of these costs is based on established international research showing that a typical finance sector tends to reach its optimal size when credit to the private sector is equivalent to 90-100% of gross domestic product, then starts to curb growth as finance grows. Britain passed its optimal point long ago, averaging around 160% on the relevant measure of credit to GDP from 1995-2016.
This £2.7tn is added to the £1.8tn, checking carefully for overlap or double-counting, to make £4.5tn. This is a first rough approximation for how much additional GDP Britons might have enjoyed if the City had been smaller, and serving its traditional useful roles. (A third, £700bn category of “excess profits” and “excess remuneration” accruing to financial players has been excluded, to be conservative.)
But what exactly are these “misallocation costs?” There are many. For instance, you might expect the growth in our giant financial sector to provide a fountain of investment for other sectors in our economy, but the exact opposite has happened. A century or more ago, 80% of bank lending went to businesses for genuine investment. Now, less than 4% of financial institutions’ business lending goes to manufacturing – instead, financial institutions are lending mostly to each other, and into housing and commercial real estate.
Investment rates in the UK’s non-financial economy since 1997 have been the lowest in the OECD, a club that includes Mexico, Chile and Turkey. And in Britain’s supposedly “competitive” low-tax, high-finance economy, labour productivity is 20-25% lower than that of higher-tax Germany or France. Resources are being misallocated as finance has become an end in itself: unmoored, disconnected from the real economy and from the people and real businesses it ought to serve. Imagine if telephone companies suddenly became insanely profitable, and telephony grew to dwarf every other economic sector – but our phone calls were still crackly, expensive and unreliable. We would soon see that our oversized telephone sector was a burden, not a benefit to the economy, and that all those phone billionaires reflected economic sickness, not dynamism. But with everyone dazzled by our high-society, world-conquering financial centre, this glaring problem with the City seems to have been overlooked.
Half a century ago, corporations were not only supposed to make profits, but also to serve employees, communities and society. Overall taxes were high (top income tax rates were more than 90% for many years during and after the second world war) and financial flows across borders were tightly constrained, under the understanding that while trade was generally a good thing, speculative cross-border finance was dangerous. The economist John Maynard Keynes, who helped construct the global financial system known as Bretton Woods, which kept cross-border finance tightly constrained, knew this was necessary if governments were to act in their citizens’ interest. “Let goods be homespun whenever it is reasonably and conveniently possible,” he famously said. “Above all, let finance be primarily national.” The fastest economic growth in world history came in the roughly quarter of a century after the Second World War, when finance was savagely suppressed.
From the 1970s onwards, finance broke decisively free of these controls, taxes were slashed and swathes of our economies were privatised. And our businesses began to undergo a dramatic transformation: their core purposes were whittled down, through ideological shifts and changes in laws and rules, to little more than a single-minded focus on maximising the wealth of shareholders, the owners of those companies. Managers often found that the best way to maximise the owners’ wealth was not to make better widgets and sprockets or to find new cures for malaria, but to indulge in the sugar rush of financial engineering, to tease out more profits from businesses that are already doing well. Social purpose be damned. As all this happened, inequality rose, financial crises became more common and economic growth fell, as managers started focusing their attentions in all the wrong places. This was misallocation, again, but the more precise term for this transformation of business and the rise of finance is “financialisation”.
The best-known definition of the term comes from the American economist Gerald Epstein, a co-author of the new study cited above: financialisation is “the increasing role of financial motives, financial markets, financial actors and financial institutions in the operation of the domestic and international economies”. In other words, it is not just that financial institutions and credit have puffed up spectacularly in size since the 1970s, but also that more normal companies such as beermakers, media groups or online rail ticket services, are being “financialised”, to extract maximum wealth for their owners.
Take private equity firms, for instance. They typically buy up a solid company then financially engineer that company to squeeze all its different stakeholders, one by one. They run the company’s financial operations through tax havens, fleecing taxpayers. They may squeeze workers’ pay and pensions pots, or delay paying suppliers. They might buy up several companies to dominate a market niche, then milk customers for monopoly profits. They chisel the pension funds that invest alongside them, with hidden fees. And so on.
Then, armed with the juiced-up cashflows from these tactics, they borrow more against that company and pay themselves huge “special dividends” from the proceeds. If the company, newly indebted, now goes bust, the magic of “limited liability” means the private equity titans are only liable for the sliver of equity they invested in the first place – typically just 2% of the value of the company they have bought up. Private equity investors sometimes do make the companies they buy more efficient, creating wealth, but that is a minority sport compared to the financialised wealth extraction.
Or, consider the financial structure of Trainline, the online rail ticket seller. When you buy a ticket, you may pay a small booking fee, perhaps 75p. After leaving your bank account, that 75p takes an extraordinary financial journey. It starts with London-based Trainline.com Limited, then flows up to another company that owns the first, called Trainline Holdings Limited. That company is owned by another, which is owned by another and so on.
Five companies up and your brave little 75p skips off to the tax haven of Jersey, then back again to London, where it passes through five more companies, then back to Jersey, then over to Luxembourg, another tax haven. Higher up still, it passes through three or more impenetrable companies in the Cayman Islands, then joins a multitude of other rivulets and streams entering the US, where, 20 or so companies after starting, it flows to KKR, a giant US investment firm.
It flows onwards, to KKR’s shareholders, including banks, investment funds and billionaires. KKR owns or part-owns more than 180 real, solid companies including the car-sharing firm Lyft, Sonos audio systems and Trainline. But on top of those 180 real firms, KKR has at least 4,000 corporate entities, including more than 800 in the Cayman Islands, links in snaking chains of entities with peculiar names drawn from finance’s arcane lingo, like (in Trainline’s case) Trainline Junior Mezz Limited or Victoria Investments Intermediate Holdco Limited.
This is an invisible financial superstructure, siphoning wealth from Trainline’s genuinely useful and profitable services, upwards, away and offshore. None of this is remotely illegal. In our age of financialisation, this is increasingly how business is done.
In 2012, Boris Johnson, then the mayor of London, stood under an umbrella by a busy road, his blond hair whiffling in the wind. “A pound spent in Croydon is far more of value to the country from a strict utilitarian calculus than a pound spent in Strathclyde,” he gushed. “Indeed you will generate jobs and growth in Strathclyde far more effectively if you invest in Hackney or Croydon or in other parts of London.”
We are back to the idea of London as the engine of the economy. Is he right? Will pampering Croydon, London and south-east England generate wealth that can then be spread out to “Strathclyde”, Scotland and the regions? Or is London the centre of a financialising machine that sucks power and money away from the peripheries? Can an oversized City of London and the rest of Britain prosper alongside each other? Or, for the regions to prosper, must the City of London be humbled? This is perhaps the defining economic question of our times. It is a question ultimately bigger than Brexit.
The newly published research provides part of the answer; it suggests that the power of London finance is hurting Britain, to the tune of £4.5tn.
‘Private equity firms typically buy up a solid company then financially engineer that company to squeeze all its different stakeholders.’ Illustration: Katie Edwards
But let’s take a more fine-grained look. If Johnson thinks money flows from Croydon to “Strathclyde” (a Scottish administrative region, now abolished) he may wish to ponder the Strathclyde Police Training and Recruitment Centre, built by the construction firm Balfour Beatty and opened in 2002 under the now-notorious private finance initiative. Under PFI, instead of the government building and paying for projects such as schools or hospitals directly, they get private firms to borrow the money in the City to finance their construction, under a deal that the government will pay them back over, say, 25 years, with interest and extra goodies. (Cynics see PFI as an expensive way for successive governments to hide their borrowing and spending, by outsourcing it all to the private sector.)
The training centre (now called simply the Police Scotland Training Centre) sits underneath a corporate latticework nearly as complex as Trainline’s. PFI payments flow from the government to a private special purpose vehicle (SPV) called Strathclyde Limited Partnership then flow upwards from it through 10 or so companies or partnerships, to a £2bn Guernsey-based firm called International Public Partnerships Limited (INPP), then onwards via tangled shareholdings, partnerships, banking and lending arrangements, and lawyers and accountants clipping fees along the way, to other people and firms in London, South Africa, New York, Texas, Jersey, Munich, Ontario and more. The pipework is complex but the overall pattern is clear. Money flows from police budgets in Scotland, up through these financialised pipelines and into the City, posh parts of London and the south-east and offshore. Along the way, profits are being made and distributed and tax is avoided.
But there is a bigger issue than tax here. Treasury data shows that while the police training centre cost £17-18m to build, the flow of payments to the PFI consortium will add up to £112m from 2001 to 2026, well over six times as much, and vastly more than what the government would have spent if it had simply borrowed that much itself and paid Balfour Beatty directly to build it. This fits a wider pattern. The 700-odd PFI schemes in Britain had an estimated capital value of less than £59.1bn in 2017, yet taxpayers will end up paying out more than £308bn for them, well over five times that sum. PFI is a gift to the City which has resulted in, as the PFI expert Allyson Pollock acidly put it, “one hospital for the price of two”.
I have looked at several PFI corporate structures: each has a similarly convoluted financial architecture, and each involves a rain of payments from British regions (including poorer parts of London) into this central-London-focused financial nexus, overseas and offshore. And PFI is just one component of a larger picture. About £240bn, a third of the UK government’s annual budget, now goes on privately run but taxpayer-funded public services, most of it run through similarly financialised, London-focused pipelines.
On this evidence, Johnson’s picture of money flowing from Croydon to Strathclyde has it exactly back to front. These are examples of what the late geographer Doreen Massey called the “colonial relationship” between parts of London and the rest of the country. To visualise what is going on, I like to imagine old white men in top hats manipulating a Heath-Robinson-like contraption of spindly pipework perched on top of the economy, vacuuming up coins and notes and IOUs from the pockets of those underneath: the workers and users of private care homes, sexual abuse referral centres, schools, hospitals, prisons – and, of course, those of us paying mortgages on expensive homes. All are unconsciously paying tribute into this great invisible extractive machinery.
It is true, of course, that a chunk of the City’s money comes from overseas, so is not extracted from Britain. That at least must be a net benefit, surely? Not so. The core value of finance to our economy comes not from the jobs and billionaires it creates, but from the services it provides. Bringing in enormous quantities of overseas wealth doesn’t provide useful services for the British economy – but it does increase the power and wealth of the finance sector, contributing to the brain drain, the economic crises, the crashing productivity, the predatory attitudes, the misdirected lending and the subsequent inequality. Our open arms to the world’s dirty money is corrupting our politics, and it is puffing up our housing markets, penalising the young, the poor and the weak. It is all deepening the finance curse.
Finance is a great geographical sorting machine, dividing us into offshore winners and onshore losers. But it is also a sorting machine for race, gender, disability and vulnerability – taking value from those suffering reduced public services or wage cuts, and from groups made up disproportionately of women, non-white people, the elderly and the vulnerable – and delivering it to the City. It is a generational sorting machine too, as PFI, risky shadow banking profits and financialised games help the winners to jam today, with the bills sent to our kids.
This hidden tide of money flows constantly from the tired, the weak, the vulnerable huddled masses across Britain, up through these invisible filigree pipelines to a relatively small number of white European or North American men in Mayfair, Chelsea, Jersey, Geneva, the Caymans or New York. This is the finance curse in action. And it’s nice work if you can get it.
Why can’t we do something about the overwhelming power of finance? Why are the protests so muted? Why can’t we tax, regulate or police City institutions properly?
We can’t, and we don’t, not just because the City’s money talks so loudly, but also because of an ideology that has bamboozled us into thinking that we must be “competitive”. The City is going head to head with other financial centres around the world, they cry, and if we are to stay ahead in this race, we cannot hold it back with tough regulations, clod-hopping police snooping around, or “uncompetitive” tax rates. Otherwise, all that money will whoosh off to Geneva or Hong Kong. After Brexit, it will be even more urgent to stay competitive.
“We must be competitive” – it sounds great, right? Tony Blair embraced this concept, even before he slammed the Financial Services Authority in 2005, saying it was seen as “hugely inhibiting of efficient business by perfectly respectable companies that have never defrauded anyone”. David Cameron bowed down to this competitiveness agenda when he declared that “We are in a global race today... Sink or swim. Do or decline.” Theresa May reiterated the idea last month when she declared that Britain would be “unequivocally pro-business” with the lowest corporate tax rate among G20 countries.
Many people in Britain, it is true, are ambivalent about all this. They rightly fret that the City is a global money-laundering paradise, harming other nations, but (whisper it quietly) they like the hot money and oligarchs it attracts to our shores. There is a trade-off, they think, between doing the right thing and preserving our prosperity. Some do understand that if other countries follow suit with this competitiveness agenda, a race to the bottom ensues, leading to ever-lower corporate taxes, laxer financial regulation, greater secrecy, looser controls on financial crime and so on. The only answer to a race to the bottom, they gloomily conclude, is to agree some sort of multilateral armistice to get countries to co-operate and collaborate in not doing this stuff. But that is like herding squirrels on a trampoline: each country wants to out-compete the others, so there will be cheating on any deal. And it is hard to mobilise voters on this complex, distant global stuff. So, they sigh, we are stuck in this ugly race to the bottom.
But there is some tremendous good news here: these people are all flat wrong. The competitiveness agenda, driving us into this race, is intellectual nonsense resting on elementary fallacies, lazy assumptions and confusions. And this is for a few simple reasons. For one thing, economies, tax systems and cities are nothing like companies, and don’t compete like we might think. To get a taste of this, ponder the difference between a failed company, such as Carillion, and a failed state, such as Syria. Even more to the point, the finance curse shows us that if too much finance harms your economy, then pursuing more finance through the competitiveness agenda will make things worse.
In the last eight years, Britain has slashed its main corporation tax rate from 28% to 20%, cutting revenues by £16bn
Underpinning all this is the fallacy of composition, whereby the fortunes of our big businesses and big banks are conflated with the fortunes of our whole economy. Making HSBC or RBS more globally competitive, the thinking goes, will make Britain more competitive. But to the extent that their profits are extracted from other parts of the British economy, their success hurts Britain more than it helps.
To see this more clearly, consider corporate tax cuts, for instance. In the last eight years, Britain has slashed its main corporate tax rate from 28% to 20%, cutting tax revenues by more than £16bn. Theresa May now wants to go further, as a magic open-for-business elixir to address the Brexit mayhem.
What could Britain do with that £16bn? We could simultaneously run nine Oxford Universities, double the resources of Britain’s Financial Conduct Authority, treble government cybersecurity resources, and double staff numbers at HMRC, the tax authorities. Or we could send nearly half a million kids to Eton each year, if you could fit them all in. Does this trade-off somehow make Britain’s tax system, or Britain itself, more competitive? Of course not.
Corporate tax cuts are in fact just one of many varieties of goodies that we shower on the mobile financiers and multinationals. The same basic arguments hold in other areas, too. Better financial regulation brings benefits, while also scaring away the wealth-extracting predators. It is a win-win. There is no trade-off.
Words such as competitiveness and related terms (such as the even more fatuous UK Plc) are wielded to trick millions of taxpayers into thinking that it is in their own self-interest to hand over goodies – tax cuts, financial deregulation, tolerance for monopolies, turning a blind eye to crime and more – to large multinationals and financial institutions. We are permanently at a tipping point, we are told: all that investment is about to disappear down a gurgling global plughole unless we cut taxes and deregulate, NOW, I tell you.
But this is not how investment works. Big banks and financialised multinationals say they need corporate tax cuts: of course they do, just as my children say they need ice-cream. But in survey after survey, business officials say that when they are deciding where to invest, they want the rule of law, a healthy and educated workforce, good infrastructure, access to prosperous, thirsty markets, good inputs and supply chains and economic stability. All these require tax revenues. Low taxes usually come a distant fifth, sixth or seventh in their wish-lists. As the US investor Warren Buffett put it: “I have worked with investors for 60 years and I have yet to see anyone [...] shy away from a sensible investment because of the tax rate on the potential gain.”
We need investment that is embedded in the local economy, bringing jobs, skills and long-term engagement, where managers send their kids to local schools and the business supports an ecosystem of local supply chains. This is the golden stuff, and if an investment is nicely embedded, a whiff of tax won’t scare it away (even if Brexit might). Any investor who is more sensitive to tax has, almost by definition, shallower roots. So taxes will tend to discourage the flightier, more predatory, more financialised investors, who bring fewer jobs and local linkages, and higher corporate tax revenues pay for ingredients that attract investors: roads, police forces, courts, and the educated and healthy workers. To prosper, Britain should increase its effective corporate tax rates, at least for financiers and large multinationals.
Of course, you could also argue that the best way to become more competitive would be for a country to invest in and upgrade education or infrastructure, control dangerous capital flows across borders, manage the exchange rate, or carefully target industrial policies to nurture productive domestic economic ecosystems. You could insist that something called “national competitiveness” must meet the test of productivity, good jobs and a broad-based rise in living standards. There are respectable arguments along all these lines.
But these are not the visions that Blair, Cameron, May, Trump and other finance-captured leaders have been pushing. Their competitiveness agenda is about pursuing rootless global capital in a dog-eat-dog world. Give big banks and multinationals the goodies, and look the other way when they behave badly, in the craven and pathetic hope that they won’t run away.
Any country engaging in a race to the bottom on this stuff also needs to understand that the race does not stop when tax rates reach zero. There is literally no limit to the extent to which corporate players and the wealthy wish to free-ride off the taxes paid by the rest of us. Eliminate their taxes, appease them, and they will demand other subsidies, like the playground bully. Why wouldn’t they?
And yet your local car wash, your barber, or your last surviving neighbourhood fruit-and-veg merchant can’t credibly threaten to jump to Monaco if they don’t like their tax rates or fruit hygiene regulations. The agenda favours the mobile big players with handouts, leaving the domestic small fry to pay the full price of civilisation – plus a surcharge to cover the roaming members of the billionaire classes who won’t. The agenda systematically shifts wealth upwards from poor to rich, distorting our economies, reducing growth and undermining our democracies. It is always harmful.
The competitiveness agenda is a billionaire-friendly hoax. Most competent economists know this already. “If we can teach undergraduates to wince when they hear someone talk about competitiveness, we will have done our nation a great service,” the US economist Paul Krugman explained in a 1993 paper. “A government wedded to the ideology of competitiveness,” he later added, “is as unlikely to make good economic policy as a government committed to creationism is to make good science policy.”
So the competitiveness agenda is an intellectual house of cards, ready to fall. If we can topple it, we can tackle the finance curse. It is pretty straightforward, in fact. In the 1983 movie War Games, a computer geek hacks into the US Department of Defense’s supercomputer and gets dragged into a game of strategy called Global Thermonuclear War. As the game merges with reality, the machine races through thousands of scenarios before concluding: “A strange game. The only winning move is not to play.” Britain is in the same position. By joining this “competitive” global race we have not only been beggaring others – we have been beggaring ourselves, too. We can, and we must, simply step out of the race, unilaterally. That last word, unilaterally, is key. We can just stop it. This is a race for losers.
We need not bow down to the demands of monopolists, foreign oligarchs, tax-haven operators, wealth-extracting private equity moguls, too-big-to-jail banks, or PFI milkers. We can tax, regulate and police our financial sector as we ought to. Global coordination and cooperation are worth doing where possible, but we need not wait for it. And by appealing to national self-interest, we can mobilise the biggest constituency of all, and put finance back in its rightful place: serving Britain’s people, not served by them.
In the 1990s, I was a correspondent for Reuters and the Financial Times in Angola, a country rich with oil and diamonds that was being torn apart by a murderous civil war. Every western visitor asked me a version of the same question: how could the citizens of a country with vast mineral wealth be so shockingly destitute?
One answer was corruption: a lobster-eating, champagne-drinking elite was getting very rich in the capital while their impoverished compatriots slaughtered each other out in the dusty provinces. Another answer was that the oil and diamond industries were financing the war. But neither of these facts told the whole story.
There was something else going on. Around this same time, economists were beginning to put together a new theory about what was troubling countries like Angola. They called it the resource curse.
Academics had worked out that many countries with abundant natural resources seemed to suffer from slower economic growth, more corruption, more conflict, more authoritarian politics and more poverty than their peers with fewer resources. (Some mineral-rich countries, including Norway, admittedly seem to have escaped the curse.) Crucially, this poor performance wasn’t only because powerful crooks stole the money and stashed it offshore, though that was also true. The startling idea was that all this money flowing from natural resources could make their people even worse off than if the riches had never been discovered. More money can make you poorer: that is why the resource curse is also sometimes known as the Paradox of Poverty from Plenty.
Back in the 1990s, John Christensen was the official economic adviser to the British tax haven of Jersey. While I was writing about the resource curse in Angola, he was reading about it, and noticing more and more parallels with what he was seeing in Jersey. A massive financial sector on the tiny island was making a visible minority filthy rich, while many Jerseyfolk were suffering extreme hardship. But he could see an even more powerful parallel: the same thing was happening in Britain. Christensen left Jersey and helped set up the Tax Justice Network, an organisation that fights against tax havens. In 2007, he contacted me, and we began to study what we called the finance curse.
It may seem bizarre to compare wartorn Angola with contemporary Britain, but it turned out that the finance curse had more parallels with the resource curse than we had first imagined. For one thing, in both cases the dominant sector sucks the best-educated people out of other economic sectors, government, civil society and the media, and into high-salaried oil or finance jobs. “Finance literally bids rocket scientists away from the satellite industry,” in the words of a landmark academic study of how finance can damage growth. “People who might have become scientists, who in another age dreamt of curing cancer or flying people to Mars, today dream of becoming hedge-fund managers.”
In Angola, the cascading inflows of oil wealth raised the local price levels of goods and services, from housing to haircuts. This high-price environment caused another wave of destruction to local industry and agriculture, which found it ever harder to compete with imported goods. Likewise, inflows of money into the City of London (and money created in the City of London) have had a similar effect on house prices and on local price levels, making it harder for British exporters to compete with foreign competitors.
Oil booms and busts also had a disastrous effect in Angola. Cranes would festoon the Luanda skyline in good times, then would leave a residue of half-finished concrete hulks when the bust came. Massive borrowing in the good times and a buildup of debt arrears in the bad times magnified the problem. In Britain’s case, the booms and busts of finance are differently timed and mostly caused by different things. But just as with oil booms, in good times the dominant sector damages alternative economic sectors, but when the bust comes, the destroyed sectors are not easily rebuilt.
Of course, the City proudly trumpets its contribution to Britain’s economy: 360,000 banking jobs, £31bn in direct tax revenues last year and a £60bn financial services trade surplus to boot. Official data in 2017 showed that the average Londoner paid £3,070 more in tax than they received in public spending, while in the country’s poorer hinterlands, it was the other way around. In fact, if London was a nation state, explained Chris Giles in the Financial Times, it would have a budget surplus of 7% of gross domestic product, better than Norway. “London is the UK’s cash cow,” he said. “Endanger its economy and it damages UK public finances.”
To argue that the City hurts Britain’s economy might seem crazy. But research increasingly shows that all the money swirling around our oversized financial sector may actually be making us collectively poorer. As Britain’s economy has steadily become re-engineered towards serving finance, other parts of the economy have struggled to survive in its shadow, like seedlings starved of light and water under the canopy of a giant, deep-rooted and invasive tree. Generations of leaders from Margaret Thatcher to Tony Blair to Theresa May have believed that the City is the goose that lays Britain’s golden eggs, to be prioritised, pampered and protected. But the finance curse analysis shows an oversized City to be a different bird: a cuckoo in the nest, crowding out other sectors.
We all need finance. We need it to pay our bills, to help us save for retirement, to redirect our savings to businesses so they can invest, to insure us against unforeseen calamities, and also sometimes for speculators to sniff out new investment opportunities in our economy. We need finance – but this tells us nothing about how big our financial centre should be or what roles it should serve.
A growing body of economic research confirms that once a financial sector grows above an optimal size and beyond its useful roles, it begins to harm the country that hosts it. The most obvious source of damage comes in the form of financial crises – including the one we are still recovering from a decade after the fact. But the problem is in fact older, and bigger. Long ago, our oversized financial sector began turning away from supporting the creation of wealth, and towards extracting it from other parts of the economy. To achieve this, it shapes laws, rules, thinktanks and even our culture so that they support it. The outcomes include lower economic growth, steeper inequality, distorted markets, spreading crime, deeper corruption, the hollowing-out of alternative economic sectors and more.
Newly published research makes a first attempt to assess the scale of the damage to Britain. According to a new paper by Andrew Baker of the University of Sheffield, Gerald Epstein of the University of Massachusetts Amherst and Juan Montecino of Columbia University, an oversized City of London has inflicted a cumulative £4.5tn hit on the British economy from 1995-2015. That is worth around two-and-a-half years’ economic output, or £170,000 per British household. The City’s claims of jobs and tax benefits are washed away by much, much bigger harms.
‘The competitiveness agenda is an intellectual house of cards, ready to fall.’ Illustration: Katie Edwards
This estimate is the sum of two figures. First, £1.8tn in lost economic output caused by the global financial crisis since 2007 (a figure quite compatible with a range suggested by the Bank of England’s Andrew Haldane a few years ago). And second, £2.7tn in “misallocation costs” – what happens when a powerful finance sector is diverted away from useful roles (such as converting our savings into business investment) toward activities that distort the rest of the economy and siphon wealth from it. The calculation of these costs is based on established international research showing that a typical finance sector tends to reach its optimal size when credit to the private sector is equivalent to 90-100% of gross domestic product, then starts to curb growth as finance grows. Britain passed its optimal point long ago, averaging around 160% on the relevant measure of credit to GDP from 1995-2016.
This £2.7tn is added to the £1.8tn, checking carefully for overlap or double-counting, to make £4.5tn. This is a first rough approximation for how much additional GDP Britons might have enjoyed if the City had been smaller, and serving its traditional useful roles. (A third, £700bn category of “excess profits” and “excess remuneration” accruing to financial players has been excluded, to be conservative.)
But what exactly are these “misallocation costs?” There are many. For instance, you might expect the growth in our giant financial sector to provide a fountain of investment for other sectors in our economy, but the exact opposite has happened. A century or more ago, 80% of bank lending went to businesses for genuine investment. Now, less than 4% of financial institutions’ business lending goes to manufacturing – instead, financial institutions are lending mostly to each other, and into housing and commercial real estate.
Investment rates in the UK’s non-financial economy since 1997 have been the lowest in the OECD, a club that includes Mexico, Chile and Turkey. And in Britain’s supposedly “competitive” low-tax, high-finance economy, labour productivity is 20-25% lower than that of higher-tax Germany or France. Resources are being misallocated as finance has become an end in itself: unmoored, disconnected from the real economy and from the people and real businesses it ought to serve. Imagine if telephone companies suddenly became insanely profitable, and telephony grew to dwarf every other economic sector – but our phone calls were still crackly, expensive and unreliable. We would soon see that our oversized telephone sector was a burden, not a benefit to the economy, and that all those phone billionaires reflected economic sickness, not dynamism. But with everyone dazzled by our high-society, world-conquering financial centre, this glaring problem with the City seems to have been overlooked.
Half a century ago, corporations were not only supposed to make profits, but also to serve employees, communities and society. Overall taxes were high (top income tax rates were more than 90% for many years during and after the second world war) and financial flows across borders were tightly constrained, under the understanding that while trade was generally a good thing, speculative cross-border finance was dangerous. The economist John Maynard Keynes, who helped construct the global financial system known as Bretton Woods, which kept cross-border finance tightly constrained, knew this was necessary if governments were to act in their citizens’ interest. “Let goods be homespun whenever it is reasonably and conveniently possible,” he famously said. “Above all, let finance be primarily national.” The fastest economic growth in world history came in the roughly quarter of a century after the Second World War, when finance was savagely suppressed.
From the 1970s onwards, finance broke decisively free of these controls, taxes were slashed and swathes of our economies were privatised. And our businesses began to undergo a dramatic transformation: their core purposes were whittled down, through ideological shifts and changes in laws and rules, to little more than a single-minded focus on maximising the wealth of shareholders, the owners of those companies. Managers often found that the best way to maximise the owners’ wealth was not to make better widgets and sprockets or to find new cures for malaria, but to indulge in the sugar rush of financial engineering, to tease out more profits from businesses that are already doing well. Social purpose be damned. As all this happened, inequality rose, financial crises became more common and economic growth fell, as managers started focusing their attentions in all the wrong places. This was misallocation, again, but the more precise term for this transformation of business and the rise of finance is “financialisation”.
The best-known definition of the term comes from the American economist Gerald Epstein, a co-author of the new study cited above: financialisation is “the increasing role of financial motives, financial markets, financial actors and financial institutions in the operation of the domestic and international economies”. In other words, it is not just that financial institutions and credit have puffed up spectacularly in size since the 1970s, but also that more normal companies such as beermakers, media groups or online rail ticket services, are being “financialised”, to extract maximum wealth for their owners.
Take private equity firms, for instance. They typically buy up a solid company then financially engineer that company to squeeze all its different stakeholders, one by one. They run the company’s financial operations through tax havens, fleecing taxpayers. They may squeeze workers’ pay and pensions pots, or delay paying suppliers. They might buy up several companies to dominate a market niche, then milk customers for monopoly profits. They chisel the pension funds that invest alongside them, with hidden fees. And so on.
Then, armed with the juiced-up cashflows from these tactics, they borrow more against that company and pay themselves huge “special dividends” from the proceeds. If the company, newly indebted, now goes bust, the magic of “limited liability” means the private equity titans are only liable for the sliver of equity they invested in the first place – typically just 2% of the value of the company they have bought up. Private equity investors sometimes do make the companies they buy more efficient, creating wealth, but that is a minority sport compared to the financialised wealth extraction.
Or, consider the financial structure of Trainline, the online rail ticket seller. When you buy a ticket, you may pay a small booking fee, perhaps 75p. After leaving your bank account, that 75p takes an extraordinary financial journey. It starts with London-based Trainline.com Limited, then flows up to another company that owns the first, called Trainline Holdings Limited. That company is owned by another, which is owned by another and so on.
Five companies up and your brave little 75p skips off to the tax haven of Jersey, then back again to London, where it passes through five more companies, then back to Jersey, then over to Luxembourg, another tax haven. Higher up still, it passes through three or more impenetrable companies in the Cayman Islands, then joins a multitude of other rivulets and streams entering the US, where, 20 or so companies after starting, it flows to KKR, a giant US investment firm.
It flows onwards, to KKR’s shareholders, including banks, investment funds and billionaires. KKR owns or part-owns more than 180 real, solid companies including the car-sharing firm Lyft, Sonos audio systems and Trainline. But on top of those 180 real firms, KKR has at least 4,000 corporate entities, including more than 800 in the Cayman Islands, links in snaking chains of entities with peculiar names drawn from finance’s arcane lingo, like (in Trainline’s case) Trainline Junior Mezz Limited or Victoria Investments Intermediate Holdco Limited.
This is an invisible financial superstructure, siphoning wealth from Trainline’s genuinely useful and profitable services, upwards, away and offshore. None of this is remotely illegal. In our age of financialisation, this is increasingly how business is done.
In 2012, Boris Johnson, then the mayor of London, stood under an umbrella by a busy road, his blond hair whiffling in the wind. “A pound spent in Croydon is far more of value to the country from a strict utilitarian calculus than a pound spent in Strathclyde,” he gushed. “Indeed you will generate jobs and growth in Strathclyde far more effectively if you invest in Hackney or Croydon or in other parts of London.”
We are back to the idea of London as the engine of the economy. Is he right? Will pampering Croydon, London and south-east England generate wealth that can then be spread out to “Strathclyde”, Scotland and the regions? Or is London the centre of a financialising machine that sucks power and money away from the peripheries? Can an oversized City of London and the rest of Britain prosper alongside each other? Or, for the regions to prosper, must the City of London be humbled? This is perhaps the defining economic question of our times. It is a question ultimately bigger than Brexit.
The newly published research provides part of the answer; it suggests that the power of London finance is hurting Britain, to the tune of £4.5tn.
‘Private equity firms typically buy up a solid company then financially engineer that company to squeeze all its different stakeholders.’ Illustration: Katie Edwards
But let’s take a more fine-grained look. If Johnson thinks money flows from Croydon to “Strathclyde” (a Scottish administrative region, now abolished) he may wish to ponder the Strathclyde Police Training and Recruitment Centre, built by the construction firm Balfour Beatty and opened in 2002 under the now-notorious private finance initiative. Under PFI, instead of the government building and paying for projects such as schools or hospitals directly, they get private firms to borrow the money in the City to finance their construction, under a deal that the government will pay them back over, say, 25 years, with interest and extra goodies. (Cynics see PFI as an expensive way for successive governments to hide their borrowing and spending, by outsourcing it all to the private sector.)
The training centre (now called simply the Police Scotland Training Centre) sits underneath a corporate latticework nearly as complex as Trainline’s. PFI payments flow from the government to a private special purpose vehicle (SPV) called Strathclyde Limited Partnership then flow upwards from it through 10 or so companies or partnerships, to a £2bn Guernsey-based firm called International Public Partnerships Limited (INPP), then onwards via tangled shareholdings, partnerships, banking and lending arrangements, and lawyers and accountants clipping fees along the way, to other people and firms in London, South Africa, New York, Texas, Jersey, Munich, Ontario and more. The pipework is complex but the overall pattern is clear. Money flows from police budgets in Scotland, up through these financialised pipelines and into the City, posh parts of London and the south-east and offshore. Along the way, profits are being made and distributed and tax is avoided.
But there is a bigger issue than tax here. Treasury data shows that while the police training centre cost £17-18m to build, the flow of payments to the PFI consortium will add up to £112m from 2001 to 2026, well over six times as much, and vastly more than what the government would have spent if it had simply borrowed that much itself and paid Balfour Beatty directly to build it. This fits a wider pattern. The 700-odd PFI schemes in Britain had an estimated capital value of less than £59.1bn in 2017, yet taxpayers will end up paying out more than £308bn for them, well over five times that sum. PFI is a gift to the City which has resulted in, as the PFI expert Allyson Pollock acidly put it, “one hospital for the price of two”.
I have looked at several PFI corporate structures: each has a similarly convoluted financial architecture, and each involves a rain of payments from British regions (including poorer parts of London) into this central-London-focused financial nexus, overseas and offshore. And PFI is just one component of a larger picture. About £240bn, a third of the UK government’s annual budget, now goes on privately run but taxpayer-funded public services, most of it run through similarly financialised, London-focused pipelines.
On this evidence, Johnson’s picture of money flowing from Croydon to Strathclyde has it exactly back to front. These are examples of what the late geographer Doreen Massey called the “colonial relationship” between parts of London and the rest of the country. To visualise what is going on, I like to imagine old white men in top hats manipulating a Heath-Robinson-like contraption of spindly pipework perched on top of the economy, vacuuming up coins and notes and IOUs from the pockets of those underneath: the workers and users of private care homes, sexual abuse referral centres, schools, hospitals, prisons – and, of course, those of us paying mortgages on expensive homes. All are unconsciously paying tribute into this great invisible extractive machinery.
It is true, of course, that a chunk of the City’s money comes from overseas, so is not extracted from Britain. That at least must be a net benefit, surely? Not so. The core value of finance to our economy comes not from the jobs and billionaires it creates, but from the services it provides. Bringing in enormous quantities of overseas wealth doesn’t provide useful services for the British economy – but it does increase the power and wealth of the finance sector, contributing to the brain drain, the economic crises, the crashing productivity, the predatory attitudes, the misdirected lending and the subsequent inequality. Our open arms to the world’s dirty money is corrupting our politics, and it is puffing up our housing markets, penalising the young, the poor and the weak. It is all deepening the finance curse.
Finance is a great geographical sorting machine, dividing us into offshore winners and onshore losers. But it is also a sorting machine for race, gender, disability and vulnerability – taking value from those suffering reduced public services or wage cuts, and from groups made up disproportionately of women, non-white people, the elderly and the vulnerable – and delivering it to the City. It is a generational sorting machine too, as PFI, risky shadow banking profits and financialised games help the winners to jam today, with the bills sent to our kids.
This hidden tide of money flows constantly from the tired, the weak, the vulnerable huddled masses across Britain, up through these invisible filigree pipelines to a relatively small number of white European or North American men in Mayfair, Chelsea, Jersey, Geneva, the Caymans or New York. This is the finance curse in action. And it’s nice work if you can get it.
Why can’t we do something about the overwhelming power of finance? Why are the protests so muted? Why can’t we tax, regulate or police City institutions properly?
We can’t, and we don’t, not just because the City’s money talks so loudly, but also because of an ideology that has bamboozled us into thinking that we must be “competitive”. The City is going head to head with other financial centres around the world, they cry, and if we are to stay ahead in this race, we cannot hold it back with tough regulations, clod-hopping police snooping around, or “uncompetitive” tax rates. Otherwise, all that money will whoosh off to Geneva or Hong Kong. After Brexit, it will be even more urgent to stay competitive.
“We must be competitive” – it sounds great, right? Tony Blair embraced this concept, even before he slammed the Financial Services Authority in 2005, saying it was seen as “hugely inhibiting of efficient business by perfectly respectable companies that have never defrauded anyone”. David Cameron bowed down to this competitiveness agenda when he declared that “We are in a global race today... Sink or swim. Do or decline.” Theresa May reiterated the idea last month when she declared that Britain would be “unequivocally pro-business” with the lowest corporate tax rate among G20 countries.
Many people in Britain, it is true, are ambivalent about all this. They rightly fret that the City is a global money-laundering paradise, harming other nations, but (whisper it quietly) they like the hot money and oligarchs it attracts to our shores. There is a trade-off, they think, between doing the right thing and preserving our prosperity. Some do understand that if other countries follow suit with this competitiveness agenda, a race to the bottom ensues, leading to ever-lower corporate taxes, laxer financial regulation, greater secrecy, looser controls on financial crime and so on. The only answer to a race to the bottom, they gloomily conclude, is to agree some sort of multilateral armistice to get countries to co-operate and collaborate in not doing this stuff. But that is like herding squirrels on a trampoline: each country wants to out-compete the others, so there will be cheating on any deal. And it is hard to mobilise voters on this complex, distant global stuff. So, they sigh, we are stuck in this ugly race to the bottom.
But there is some tremendous good news here: these people are all flat wrong. The competitiveness agenda, driving us into this race, is intellectual nonsense resting on elementary fallacies, lazy assumptions and confusions. And this is for a few simple reasons. For one thing, economies, tax systems and cities are nothing like companies, and don’t compete like we might think. To get a taste of this, ponder the difference between a failed company, such as Carillion, and a failed state, such as Syria. Even more to the point, the finance curse shows us that if too much finance harms your economy, then pursuing more finance through the competitiveness agenda will make things worse.
In the last eight years, Britain has slashed its main corporation tax rate from 28% to 20%, cutting revenues by £16bn
Underpinning all this is the fallacy of composition, whereby the fortunes of our big businesses and big banks are conflated with the fortunes of our whole economy. Making HSBC or RBS more globally competitive, the thinking goes, will make Britain more competitive. But to the extent that their profits are extracted from other parts of the British economy, their success hurts Britain more than it helps.
To see this more clearly, consider corporate tax cuts, for instance. In the last eight years, Britain has slashed its main corporate tax rate from 28% to 20%, cutting tax revenues by more than £16bn. Theresa May now wants to go further, as a magic open-for-business elixir to address the Brexit mayhem.
What could Britain do with that £16bn? We could simultaneously run nine Oxford Universities, double the resources of Britain’s Financial Conduct Authority, treble government cybersecurity resources, and double staff numbers at HMRC, the tax authorities. Or we could send nearly half a million kids to Eton each year, if you could fit them all in. Does this trade-off somehow make Britain’s tax system, or Britain itself, more competitive? Of course not.
Corporate tax cuts are in fact just one of many varieties of goodies that we shower on the mobile financiers and multinationals. The same basic arguments hold in other areas, too. Better financial regulation brings benefits, while also scaring away the wealth-extracting predators. It is a win-win. There is no trade-off.
Words such as competitiveness and related terms (such as the even more fatuous UK Plc) are wielded to trick millions of taxpayers into thinking that it is in their own self-interest to hand over goodies – tax cuts, financial deregulation, tolerance for monopolies, turning a blind eye to crime and more – to large multinationals and financial institutions. We are permanently at a tipping point, we are told: all that investment is about to disappear down a gurgling global plughole unless we cut taxes and deregulate, NOW, I tell you.
But this is not how investment works. Big banks and financialised multinationals say they need corporate tax cuts: of course they do, just as my children say they need ice-cream. But in survey after survey, business officials say that when they are deciding where to invest, they want the rule of law, a healthy and educated workforce, good infrastructure, access to prosperous, thirsty markets, good inputs and supply chains and economic stability. All these require tax revenues. Low taxes usually come a distant fifth, sixth or seventh in their wish-lists. As the US investor Warren Buffett put it: “I have worked with investors for 60 years and I have yet to see anyone [...] shy away from a sensible investment because of the tax rate on the potential gain.”
We need investment that is embedded in the local economy, bringing jobs, skills and long-term engagement, where managers send their kids to local schools and the business supports an ecosystem of local supply chains. This is the golden stuff, and if an investment is nicely embedded, a whiff of tax won’t scare it away (even if Brexit might). Any investor who is more sensitive to tax has, almost by definition, shallower roots. So taxes will tend to discourage the flightier, more predatory, more financialised investors, who bring fewer jobs and local linkages, and higher corporate tax revenues pay for ingredients that attract investors: roads, police forces, courts, and the educated and healthy workers. To prosper, Britain should increase its effective corporate tax rates, at least for financiers and large multinationals.
Of course, you could also argue that the best way to become more competitive would be for a country to invest in and upgrade education or infrastructure, control dangerous capital flows across borders, manage the exchange rate, or carefully target industrial policies to nurture productive domestic economic ecosystems. You could insist that something called “national competitiveness” must meet the test of productivity, good jobs and a broad-based rise in living standards. There are respectable arguments along all these lines.
But these are not the visions that Blair, Cameron, May, Trump and other finance-captured leaders have been pushing. Their competitiveness agenda is about pursuing rootless global capital in a dog-eat-dog world. Give big banks and multinationals the goodies, and look the other way when they behave badly, in the craven and pathetic hope that they won’t run away.
Any country engaging in a race to the bottom on this stuff also needs to understand that the race does not stop when tax rates reach zero. There is literally no limit to the extent to which corporate players and the wealthy wish to free-ride off the taxes paid by the rest of us. Eliminate their taxes, appease them, and they will demand other subsidies, like the playground bully. Why wouldn’t they?
And yet your local car wash, your barber, or your last surviving neighbourhood fruit-and-veg merchant can’t credibly threaten to jump to Monaco if they don’t like their tax rates or fruit hygiene regulations. The agenda favours the mobile big players with handouts, leaving the domestic small fry to pay the full price of civilisation – plus a surcharge to cover the roaming members of the billionaire classes who won’t. The agenda systematically shifts wealth upwards from poor to rich, distorting our economies, reducing growth and undermining our democracies. It is always harmful.
The competitiveness agenda is a billionaire-friendly hoax. Most competent economists know this already. “If we can teach undergraduates to wince when they hear someone talk about competitiveness, we will have done our nation a great service,” the US economist Paul Krugman explained in a 1993 paper. “A government wedded to the ideology of competitiveness,” he later added, “is as unlikely to make good economic policy as a government committed to creationism is to make good science policy.”
So the competitiveness agenda is an intellectual house of cards, ready to fall. If we can topple it, we can tackle the finance curse. It is pretty straightforward, in fact. In the 1983 movie War Games, a computer geek hacks into the US Department of Defense’s supercomputer and gets dragged into a game of strategy called Global Thermonuclear War. As the game merges with reality, the machine races through thousands of scenarios before concluding: “A strange game. The only winning move is not to play.” Britain is in the same position. By joining this “competitive” global race we have not only been beggaring others – we have been beggaring ourselves, too. We can, and we must, simply step out of the race, unilaterally. That last word, unilaterally, is key. We can just stop it. This is a race for losers.
We need not bow down to the demands of monopolists, foreign oligarchs, tax-haven operators, wealth-extracting private equity moguls, too-big-to-jail banks, or PFI milkers. We can tax, regulate and police our financial sector as we ought to. Global coordination and cooperation are worth doing where possible, but we need not wait for it. And by appealing to national self-interest, we can mobilise the biggest constituency of all, and put finance back in its rightful place: serving Britain’s people, not served by them.
Monday 24 September 2018
Labour’s just declared class war. Has anybody noticed?
Aditya Chakrabortty in The Guardian
You’d expect a declaration of class war by the main opposition party to merit at least a mention in the country’s tabloids. After all, on Sunday night Labour announced a SIX BILLION POUND RAID ON BUSINESS – the kind of thing one might reasonably hope to be screamed in huge font across the front pages and condemned in fist-shaking, bloodcurdling editorials. But nothing. Barely a squeak.
Just why that should be I’ll discuss in a moment, but first there is the policy itself – and a big, bold thing it is. At Labour conference on Monday, John McDonnell declared that he plans to force all companies with more than 250 staff to put 10% of their equity into a fund for their workers. Each employee will then be entitled to company share dividends worth up to £500 a year. Any extra will go back into public services.
The sums involved are massive: Labour calculates that 10.7 million workers covered by the scheme will get about £4bn a year in share dividends by the end of Jeremy Corbyn’s first term in government, while the public sector will receive an annual £2bn.
This also represents a big shift in Labour’s thinking. A few days ago, I met a senior aide to the previous party leader Ed Miliband who talked for a while about how, for all the rhetoric deployed by the new team, little of substance had changed in policy. “Apart from this stuff about a worker fund,” he mused. “Now that is big.”
Big indeed. This isn’t just about giving employees more money; it’s handing them a stake and a voice in the enterprises on which they spend most of their waking hours.
To do so, McDonnell will use the stick rather than the carrot, compulsion rather than encouragement over china teacups. His argument is that shareholders are not the only ones entitled to company profits: the employees and the rest of society (which pays for the infrastructure used by businesses and allows them the great privilege of limited liability) also have a claim. No wonder business lobby groups are furious, with Confederation of British Industry director general Carolyn Fairbairn decrying a “diktat” that will have investors “packing their bags”.
For decades, the British have practised a carelessness that lets the people wielding the biggest chequebooks buy whichever assets they like and do whatever they want. That attitude has allowed Philip Green to strip BHS to the bones, Kraft to run Cadbury into the ground, and Thames Water to be picked over by a consortium of international investors.
The rewards from all this carnage have flowed to one group: shareholders. In 2015, Bank of England chief economist Andy Haldane charted what has happened to workers’ share of national income over the long-run. He found that labour had been getting smaller and smaller slices of the pie: from 70% in the 1970s to 55% now. By his reckoning, employees get proportionately less now than they did at the very outset of the Industrial Revolution in the 1770s.
Had workers’ wages kept track with the rise in their productivity since 1990, the average employee would today be 20% better off. Or they could have three-day weekends all year long and still get paid the same.
To secure a real rise in wages will require more than waiting for the economy to recover from its decade-long slump and the labour market to return to “normal”. Hence today’s announcement. This is not to say I think it’s perfect. It won’t touch the likes of Google and Facebook, because they’re listed abroad. It’s not clear to me how it will affect Amazon, which has relatively few direct employees but warehouses full of agency workers. Labour says it has suggestions – I’m not sure Jeff Bezos will be listening. The opposition’s key challenge remains largely unaddressed, which is how to get private sector businesses to behave as if they’re part of the society in which they operate.
Like Labour’s tax on second homes, you can see what the party is getting at even while thinking that the proposals as they stand are likely to be gamed.
At the same time, it’s especially difficult for Theresa May to oppose. Don’t the Conservatives boast of being the party of shareholder democracy (even though share ownership has become less widespread since Margaret Thatcher came to power)? Didn’t David Cameron commission a report into companies owned by their employees, the first line of which read: “Employee ownership is a great idea.” ? And doesn’t all the evidence show that companies owned by their workers are more productive and stick around for longer?
The Tories’ uneasiness over how to respond accounts for part of newspapers’ silence on this Labour proposal. Add to that the agonies over Brexit that will be played out over the next two weeks of conference. But the closer Labour edge to power, the more scrutiny ideas like this will receive.
As far as I know, McDonnell’s policy has been tried in one other comparable situation. In the early 80s, Sweden’s Social Democrats promised to give 20% of company shares to workers. Named after its architect, trade union economist Rudolf Meidner, the policy was popular with the party faithful.
But in this polite and outwardly cohesive country, it caused outright war, writes Robin Blackburn in his classic history Banking on Death: “Business leaders were intensely alarmed and spent five times more money attacking the plan than the cash laid out by all the parties on the 1982 election. The privately-owned press ran a sustained and vigorous campaign … under assault, support for the scheme ebbed and the Social Democrat leaders believed that it was prudent greatly to dilute the scheme…” By the mid-90s, the policy was dead.
A warning there for all those gathering in Liverpool this week – and for anyone who believes workers should receive a greater share of the stuff we produce: get ready for the onslaught.
You’d expect a declaration of class war by the main opposition party to merit at least a mention in the country’s tabloids. After all, on Sunday night Labour announced a SIX BILLION POUND RAID ON BUSINESS – the kind of thing one might reasonably hope to be screamed in huge font across the front pages and condemned in fist-shaking, bloodcurdling editorials. But nothing. Barely a squeak.
Just why that should be I’ll discuss in a moment, but first there is the policy itself – and a big, bold thing it is. At Labour conference on Monday, John McDonnell declared that he plans to force all companies with more than 250 staff to put 10% of their equity into a fund for their workers. Each employee will then be entitled to company share dividends worth up to £500 a year. Any extra will go back into public services.
The sums involved are massive: Labour calculates that 10.7 million workers covered by the scheme will get about £4bn a year in share dividends by the end of Jeremy Corbyn’s first term in government, while the public sector will receive an annual £2bn.
This also represents a big shift in Labour’s thinking. A few days ago, I met a senior aide to the previous party leader Ed Miliband who talked for a while about how, for all the rhetoric deployed by the new team, little of substance had changed in policy. “Apart from this stuff about a worker fund,” he mused. “Now that is big.”
Big indeed. This isn’t just about giving employees more money; it’s handing them a stake and a voice in the enterprises on which they spend most of their waking hours.
To do so, McDonnell will use the stick rather than the carrot, compulsion rather than encouragement over china teacups. His argument is that shareholders are not the only ones entitled to company profits: the employees and the rest of society (which pays for the infrastructure used by businesses and allows them the great privilege of limited liability) also have a claim. No wonder business lobby groups are furious, with Confederation of British Industry director general Carolyn Fairbairn decrying a “diktat” that will have investors “packing their bags”.
For decades, the British have practised a carelessness that lets the people wielding the biggest chequebooks buy whichever assets they like and do whatever they want. That attitude has allowed Philip Green to strip BHS to the bones, Kraft to run Cadbury into the ground, and Thames Water to be picked over by a consortium of international investors.
The rewards from all this carnage have flowed to one group: shareholders. In 2015, Bank of England chief economist Andy Haldane charted what has happened to workers’ share of national income over the long-run. He found that labour had been getting smaller and smaller slices of the pie: from 70% in the 1970s to 55% now. By his reckoning, employees get proportionately less now than they did at the very outset of the Industrial Revolution in the 1770s.
Had workers’ wages kept track with the rise in their productivity since 1990, the average employee would today be 20% better off. Or they could have three-day weekends all year long and still get paid the same.
To secure a real rise in wages will require more than waiting for the economy to recover from its decade-long slump and the labour market to return to “normal”. Hence today’s announcement. This is not to say I think it’s perfect. It won’t touch the likes of Google and Facebook, because they’re listed abroad. It’s not clear to me how it will affect Amazon, which has relatively few direct employees but warehouses full of agency workers. Labour says it has suggestions – I’m not sure Jeff Bezos will be listening. The opposition’s key challenge remains largely unaddressed, which is how to get private sector businesses to behave as if they’re part of the society in which they operate.
Like Labour’s tax on second homes, you can see what the party is getting at even while thinking that the proposals as they stand are likely to be gamed.
At the same time, it’s especially difficult for Theresa May to oppose. Don’t the Conservatives boast of being the party of shareholder democracy (even though share ownership has become less widespread since Margaret Thatcher came to power)? Didn’t David Cameron commission a report into companies owned by their employees, the first line of which read: “Employee ownership is a great idea.” ? And doesn’t all the evidence show that companies owned by their workers are more productive and stick around for longer?
The Tories’ uneasiness over how to respond accounts for part of newspapers’ silence on this Labour proposal. Add to that the agonies over Brexit that will be played out over the next two weeks of conference. But the closer Labour edge to power, the more scrutiny ideas like this will receive.
As far as I know, McDonnell’s policy has been tried in one other comparable situation. In the early 80s, Sweden’s Social Democrats promised to give 20% of company shares to workers. Named after its architect, trade union economist Rudolf Meidner, the policy was popular with the party faithful.
But in this polite and outwardly cohesive country, it caused outright war, writes Robin Blackburn in his classic history Banking on Death: “Business leaders were intensely alarmed and spent five times more money attacking the plan than the cash laid out by all the parties on the 1982 election. The privately-owned press ran a sustained and vigorous campaign … under assault, support for the scheme ebbed and the Social Democrat leaders believed that it was prudent greatly to dilute the scheme…” By the mid-90s, the policy was dead.
A warning there for all those gathering in Liverpool this week – and for anyone who believes workers should receive a greater share of the stuff we produce: get ready for the onslaught.
Tuesday 2 May 2017
This is how the price of shares is really decided
Satyajit Das in The Independent
Equity investors – who have enjoyed strong gains over the past eight years – are unlikely to question the merits of stocks as an investment. US stock markets have tripled in price since 2009. In nominal terms the Dow Jones Index is up 70 per cent from its peak in January 2000. But 17 years later it is up only 19 per cent in real (inflation-adjusted) terms.
Investors rarely scrutinise the driver of equity returns. In reality stock markets have changed significantly over recent decades, driven by artificial factors that result in manipulated and unsustainable values.
The traditional functions of the stock market include facilitating capital-raisings for investment projects, allowing savers to invest and providing existing investors with the ability to liquidate their investments when circumstances require. Unfortunately, a number of factors now undermine these functions.
First, equity markets have increasingly decoupled from the real economy. Equity prices now do not correlate to fundamental economic factors, such as nominal gross domestic product or economic growth, or, sometimes, earnings.
Second, equity markets have become instruments of economic policy, as policymakers try to increase asset values to generate higher consumption driven by the “wealth effect” – increased spending resulting from a sense of financial security. Monetary measures, such as zero-interest-rate policy and quantitative easing, distort equity prices. Dividend yields that are higher than bond interest rates now drive valuations. Future corporate earnings are discounted at artificially low rates.
Third, the increased role of HFT (high frequency trading) has changed equity markets. HFT constitutes up to 70 per cent of trading volume in some markets. The average holding period of HFT trading is around 10 seconds. The investment horizon of portfolio investors has also shortened. In 1940 the average investment period was seven years. In the 1960s it was five years. In the 1980s it fell to two years. Today it is around seven months. The shift from investing for the long run has fundamentally changed the nature of equities, with momentum trading a larger factor.
Fourth, the increasing effect of HFT has increased volatility and the risk of large short-term price changes, such as that caused by the 7 October “flash crash”, discouraging some investors.
Fifth, financialisation may facilitate market manipulation, with the corrosive impact of insider-trading and market abuse eroding investor confidence.
US federal investigators found a spider’s web of insider-trading exploited by a small group of funds that benefited twice: from both trading profits and artificially enhanced returns. These, in turn, generated more investments and higher management fees. The investigations revealed expert network firms, which provided “independent investment research”. Redefining the concept of expertise, these firms seemed to specialise in matching insiders with traders hungry for privileged information, routinely allowing access to sensitive information on sales forecasts and earnings.
Regulators suggested that the practice was so widespread as to verge on a corrupt business model. Reminiscent of the late 1980s investigations into Drexel Burnham Lambert, Ivan Boesky and Michael Milken, the clutch of prosecutions has created an impression that a small golden circle of traders have an information edge, disadvantaging other, especially smaller, investors.
Finally, alternative sources of risk capital, the high cost of a stock market listing, particularly increasing compliance costs, increased public disclosure and scrutiny of activities including management remuneration as well as a shift to different forms of business ownership, such as private equity, have changed the nature of equity market. New capital raisings are increasingly viewed with scepticism as private investors or insiders seek to realise accreted gains, subtly changing the function of the market. The problems are evident in both the primary markets (lower numbers of initial public offerings of new shares) and in the secondary markets (reduced market turnover).
The recent Snapchat IPO illustrates the trend. Snap, a young, still unprofitable company, saw its shares soared 44 per cent on its first day of trading, although it fell sharply subsequently. Shareholders providing capital will not be able to control the company, as company insiders have not given common stockholders voting rights, which is inconsistent with conventional corporate governance models. In technology-intensive sectors, for example, entrepreneurs, such as those associated with Snap, now use IPOs to either facilitate exits for venture capitalists and founders, create a currency in the form of listed shares to compensate or finance acquisitions, or raise cash to fund shortfalls between revenue and expenditure.
The declines are symptomatic of the problems of excessive financialisation. Financial instruments, such as shares and their derivatives, are intended as claims on real businesses. Over time, trading in the claims themselves have become more rewarding, leading to a disproportionate increase in the level of financial rather than business activity. Longer term, the identified developments threaten the viability of the stock market as a source of capital for businesses and also as an investment, damaging the real economy.
Equity investors – who have enjoyed strong gains over the past eight years – are unlikely to question the merits of stocks as an investment. US stock markets have tripled in price since 2009. In nominal terms the Dow Jones Index is up 70 per cent from its peak in January 2000. But 17 years later it is up only 19 per cent in real (inflation-adjusted) terms.
Investors rarely scrutinise the driver of equity returns. In reality stock markets have changed significantly over recent decades, driven by artificial factors that result in manipulated and unsustainable values.
The traditional functions of the stock market include facilitating capital-raisings for investment projects, allowing savers to invest and providing existing investors with the ability to liquidate their investments when circumstances require. Unfortunately, a number of factors now undermine these functions.
First, equity markets have increasingly decoupled from the real economy. Equity prices now do not correlate to fundamental economic factors, such as nominal gross domestic product or economic growth, or, sometimes, earnings.
Second, equity markets have become instruments of economic policy, as policymakers try to increase asset values to generate higher consumption driven by the “wealth effect” – increased spending resulting from a sense of financial security. Monetary measures, such as zero-interest-rate policy and quantitative easing, distort equity prices. Dividend yields that are higher than bond interest rates now drive valuations. Future corporate earnings are discounted at artificially low rates.
Third, the increased role of HFT (high frequency trading) has changed equity markets. HFT constitutes up to 70 per cent of trading volume in some markets. The average holding period of HFT trading is around 10 seconds. The investment horizon of portfolio investors has also shortened. In 1940 the average investment period was seven years. In the 1960s it was five years. In the 1980s it fell to two years. Today it is around seven months. The shift from investing for the long run has fundamentally changed the nature of equities, with momentum trading a larger factor.
Fourth, the increasing effect of HFT has increased volatility and the risk of large short-term price changes, such as that caused by the 7 October “flash crash”, discouraging some investors.
Fifth, financialisation may facilitate market manipulation, with the corrosive impact of insider-trading and market abuse eroding investor confidence.
US federal investigators found a spider’s web of insider-trading exploited by a small group of funds that benefited twice: from both trading profits and artificially enhanced returns. These, in turn, generated more investments and higher management fees. The investigations revealed expert network firms, which provided “independent investment research”. Redefining the concept of expertise, these firms seemed to specialise in matching insiders with traders hungry for privileged information, routinely allowing access to sensitive information on sales forecasts and earnings.
Regulators suggested that the practice was so widespread as to verge on a corrupt business model. Reminiscent of the late 1980s investigations into Drexel Burnham Lambert, Ivan Boesky and Michael Milken, the clutch of prosecutions has created an impression that a small golden circle of traders have an information edge, disadvantaging other, especially smaller, investors.
Finally, alternative sources of risk capital, the high cost of a stock market listing, particularly increasing compliance costs, increased public disclosure and scrutiny of activities including management remuneration as well as a shift to different forms of business ownership, such as private equity, have changed the nature of equity market. New capital raisings are increasingly viewed with scepticism as private investors or insiders seek to realise accreted gains, subtly changing the function of the market. The problems are evident in both the primary markets (lower numbers of initial public offerings of new shares) and in the secondary markets (reduced market turnover).
The recent Snapchat IPO illustrates the trend. Snap, a young, still unprofitable company, saw its shares soared 44 per cent on its first day of trading, although it fell sharply subsequently. Shareholders providing capital will not be able to control the company, as company insiders have not given common stockholders voting rights, which is inconsistent with conventional corporate governance models. In technology-intensive sectors, for example, entrepreneurs, such as those associated with Snap, now use IPOs to either facilitate exits for venture capitalists and founders, create a currency in the form of listed shares to compensate or finance acquisitions, or raise cash to fund shortfalls between revenue and expenditure.
The declines are symptomatic of the problems of excessive financialisation. Financial instruments, such as shares and their derivatives, are intended as claims on real businesses. Over time, trading in the claims themselves have become more rewarding, leading to a disproportionate increase in the level of financial rather than business activity. Longer term, the identified developments threaten the viability of the stock market as a source of capital for businesses and also as an investment, damaging the real economy.
Sunday 27 March 2016
The Death of Democracy - Say no to Free Trade Agreements
David Malone on why TTIP (free trade agreements) are anti-democratic and against the people.
Tuesday 23 December 2014
What is a fair start
Michael Sandel - Harvard University -
PART ONE: WHATS A FAIR START?
Is it just to tax the rich to help the poor? John Rawls says we should answer this question by asking what principles you would choose to govern the distribution of income and wealth if you did not know who you were, whether you grew up in privilege or in poverty. Wouldnt you want an equal distribution of wealth, or one that maximally benefits whomever happens to be the least advantaged? After all, that might be you. Rawls argues that even meritocracy—a distributive system that rewards effort—doesnt go far enough in leveling the playing field because those who are naturally gifted will always get ahead. Furthermore, says Rawls, the naturally gifted cant claim much credit because their success often depends on factors as arbitrary as birth order. Sandel makes Rawlss point when he asks the students who were first born in their family to raise their hands.
PART TWO: WHAT DO WE DESERVE?
Professor Sandel recaps how income, wealth, and opportunities in life should be distributed, according to the three different theories raised so far in class. He summarizes libertarianism, the meritocratic system, and John Rawlss egalitarian theory. Sandel then launches a discussion of the fairness of pay differentials in modern society. He compares the salary of former Supreme Court Justice Sandra Day OConnor ($200,000) with the salary of televisions Judge Judy ($25 million). Sandel asks, is this fair? According to John Rawls, it is not. Rawls argues that an individuals personal success is often a function of morally arbitrary facts—luck, genes, and family circumstances—for which he or she can claim no credit. Those at the bottom are no less worthy simply because they werent born with the talents a particular society rewards, Rawls argues, and the only just way to deal with societys inequalities is for the naturally advantaged to share their wealth with those less fortunate.
Friday 23 August 2013
British Rail - Should it be renationalised?
Privatising the railways was a disaster. It's time to renationalise
Passengers are paying a fortune to travel in overcrowded trains, so Labour, like the Greens, should seize the initiative
'The solution the Green party is proposing is for our railways to be brought back into public hands, with passengers having a greater say in the development of the system.' Photograph: Bruno Vincent/Getty Images
"No direction", "dithering", "rudderless". Ed Miliband isn't the first opposition leader to hear this kind of language as an election looms, so perhaps we shouldn't be surprised that his MPs are queuing up to offer him friendly encouragement to fill the policy vacuum.
Clearly, it's not easy being in opposition, knowing that every policy announcement can and will be used against you by the government and a hostile media. But that's why politics requires courage.
Labour now has some fantastic opportunities to get behind progressive policies that would resonate with its traditional support and with voters. One in particular is about to pull into the station. With the dreadful news last week that rail fares will go up by an average of 4.1% next year (and sincere sympathies to you if you're one of the many passengers who will be hit much harder than that), it's surely time for Labour to accept that privatisation of the railways was a disastrous failure that it should have reversed when it had the chance.
With the prime minister's former speechwriter, Ian Birrell, leaping to the defence of privatised services and talking about record levels of passenger satisfaction, surely now is the time for Miliband's team to sign up to a policy that would genuinely distinguish him from the coalition. The shadow transport secretary, Maria Eagle, sounds as if she wants to head in that direction. She recently criticised the government's determination to re-privatise the East Coast service, calling it "bizarre and dogmatic". East Coast, she noted, makes one of the highest payments to the public purse, receives the least subsidy and is the only route on which all profits are reinvested in services. So why doesn't Labour go the whole way?
The Rebuilding Rail report, published last year by Transport for Quality of Life, offers a superb analysis of the mess Britain's railways are in. It finds that the private sector has not delivered the innovation and investment that were once promised, that the costs of back-room staff have massively increased, and that the costs of train travel rose by 17% between 1997 and 2010 (while the costs of travelling by car fell). It conservatively estimates that £1.2bn is being lost each year as a result of fragmentation and privatisation. The irony is that some of the biggest profiters are the state-owned rail companies of our neighbours: Deutsche Bahn, for example, owns three UK franchises.
Birrell seeks to paint opponents of privatisation as dewy-eyed nostalgists. But the modern, efficient, clean, affordable services enjoyed in other parts of Europe offer a much better blueprint than our own past. The solution the Green party is proposing is for our railways to be brought back into public hands, with passengers having a greater say in the development of the system. The government would take back individual franchises when they expire, or when companies fail to meet their conditions. The enormous savings generated could and should then be reinvested in rail infrastructure, and to reduce the soaring cost of fares.
My private member's bill sets out the process to make this happen, and is due to have its second reading in October. I've written to Maria Eagle asking if Labour will get behind it. As a policy for Labour, it's unlikely to play well in the Mail and the Telegraph. But I suspect many of their readers – particularly those reading their papers while jammed up against a fellow commuter on an overcrowded, overpriced train – might be more receptive. And certainly there are many rank and file Labour MPs, many of whom are already backing the bill, who are desperate to see their leader prove himself as theconviction politician he says he is.
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Forget the nostalgia for British Rail – our trains are better than ever
Passengers may be grumbling about the planned fare increases, but on balance rail privatisation has been a huge success
'For all the defects of a rushed privatisation, rail has evolved into a privately run public transport system playing a critical and successful role in the economy.' Illustration by Satoshi Kambayashi
There is a weary predictability to the political choreography. Once again, it's revealed,commuter rail fares are rising above the rate of inflation, squeezing the cost of living still further for hard-pressed families. Ministers claim they checked bigger increases; the opposition pretends it would have done differently; passenger groups scream in pain; and the unions demand a return to state ownership.
This is one area where union conservatism strikes a chord with the British public, long sceptical over the supposed benefits of rail privatisation. Many regular users see it as little more than a modern-day train robbery, with fat cat bosses cramming passengers into carriages and creaming off vast profits from creaking services. Surveys show two-thirds of voters would happily see the railways renationalised, an idea being considered by Labour.
As so often, conventional wisdom is wrong. For all the defects of a rushed privatisation, rail has evolved into a privately run public transport system playing a critical and successful role in the economy. The reality could hardly be more different to perception: passenger numbers booming, productivity rising, the number of services soaring, and customer satisfaction at near-record highs. Even those hated fare rises are not all they seem.
Modern vision is clouded by misty-eyed nostalgia for lovely old trains that once trundled around our tracks. As we hurtle along in slick modern trains with Wi-Fi and friendly service, it is easy to forget the poor punctuality and filthy carriages in the dismal days of British Rail. It was crippled by decades of under-investment, driving up fares and driving away freight – but even Margaret Thatcher saw the sale of the railways as a step too far. It was left to her successor, who forced it through too fast with civil servants told to privatise "as soon as practicable" and ensure the process was irreversible.
As one former rail boss said, the plan was half-hearted and half-baked; it was so unloved even Lord Whitelaw, Thatcher's long-suffering deputy, opposed the idea. The result in political and financial terms was a disaster, symbolised by executives of three rolling-stock firms handed the most obscene profits on a plate. The architecture of privatisation was flawed – an attempt to impose models from other industries on a complex transport system – but the ambition to introduce competition and private capital was sound.
Two decades later, some – although far from all – of the kinks have been ironed out. There remain, for example, issues over inflated hidden subsidies handed to the train operating companies. And while public spending on the railways has soared, Network Rail remains wasteful and guilty of inadequate management yet its bosses take big bonuses. The transport secretary, Patrick McLoughlin, should have slammed their greed rather than supported them earlier this week.
But focus on the facts. When I travel from London to watch my football team, Everton, play at home, the average journey time to Liverpool is now 37 minutes quicker than when rail was privatised. This makes a difference on a trip that is now little more than two hours. There are also more options available for travel; on some major routes, more than twice as many trains are running. Britain has an additional 4,000 services a day, a rise of one-fifth that ensures the most frequent services among eight European nations tested by a consumer group. And we have the safest railways on the continent.
The ultimate test of any market is its popularity. Here again, rail can claim success despite intense competition from bus companies and budget airlines, which only took off in this country after rail privatisation. When the plan was first promoted, Britons took on average 11 train trips a year; now we take twice that number. Since the turn of the century freight traffic has risen substantially and passenger numbers have soared by 49% – far more than under those admired state-run services in France, Germany and the Netherlands. This means the level of subsidies per passenger has fallen while revenues to Whitehall have risen by more than £1bn.
Passengers grumble with justification over a maze-like ticketing system, yet these price variations have ensured rail companies can compete on longer journeys with rivals in the air and on the roads. So yes, the cost of some fares is now ridiculous; with travellers often stung by hideous sums for peak-time travel – but away from the headlines and cries of outrage, many fares and season tickets have fallen in real terms. One test on a price comparison website found journeys in Britain mostly cheaper than similar-length jaunts in France and Germany. Overall, the average price per passenger mile has risen only 4% in real terms over the past 15 years.
More investment, more competition and more pressure on the corporate fat cats are needed. But our focus should be on improved regulation, not a reversion to failed models; indeed, in many ways rail demonstrates the potential of a part-privatised public service at a time when such policies are causing concern in other sectors. Britain should, as with other national institutions, stop being dazzled by nostalgia, ignore the groans of vested interests and focus on keeping an unlikely success story on track.
Sunday 2 December 2012
An Alternative view on Modi's Gujarat
I moved to Delhi some three weeks ago after spending over three decades of my life in
Ahmedabad, prepared to be quizzed about the impending elections in Gujarat and whether the present government is likely to return to power for the third consecutive term; hear praise for peace returning to Gujarat after the violence of 2002, since no incidents of violence have taken place since then; and hear about Gujarat’s astonishing economic development and the prospect of the state’s leadership moving from Gandhinagar to New Delhi. I get all that.
But I also wonder if the people who ask me these questions realise that the Gujarat development model is inextricably linked with a certain set of ideologies, ambitions and aspirations which facilitate and sustain it?
In some ways, Gujarat is a microcosm of India. It has a great diversity of religions, castes and communities. The percentage of Muslim minorities in the state is just slightly lower than the national average. Dalits and adivasis together form about a fifth of Gujarati society, just as in the rest of India. (However, the Dalit-adivasi ratio is quite different). And all these communities, along with fisherfolk, pastoralists and the landless poor, have paid the price for helping realise the economic dreams of the state’s expanding, ambitious middle classes. Common property resources—coastal land, rivers and pastoral lands in rural areas—have been systematically taken over to make way for special economic zones and large industrial and infrastructure projects. Lakes and riverfronts have been gated and redeveloped as entertainment zones and real estate for the urban elite, dispossessing the poor, marginalised and the voiceless.
What is the worldview that underpins the shaping of such a socio-economic order? I am neither a political analyst nor a sociologist, just a teacher of design and I speak from direct experience. This is a development model, it’s plain to see, whose motive force is the ambition of the Gujarati middle class, made possible through large-scale dispossession and sustained only by denying dissent.
Anyone raising issues of equity, justice or sustainability associated with such a model of development is likely to be branded antediluvian at best and ‘outsider’, anti-Gujarat and pseudo-secularist at worst. Either way, dissenting views would find no space in the local media or in public discourse.
Since the 1980s, episodes of caste and communal violence have sharpened spatial segregation of communities, resulting in Muslim and Dalit ghettoes and upper-caste enclaves and declining social interaction. Muslims increasingly send their children to schools run by their community in their own localities. Within the municipal school system, they prefer the Urdu medium of instruction, while Gujarati medium schools are attended overwhelmingly by Dalit children. Schools are spaces for shared childhoods leading to adult bonds of friendship and understanding within accepted traditional social boundaries, but such spaces are no longer available. So it’s not Muslims and Dalits who are victims of social polarisation, but Gujarati society as a whole.
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As a university teacher I can attest, as will other colleagues in design, architecture and management institutes in Ahmedabad, how difficult it is to even discuss ideas like secularism or social justice in the classroom, or to debate whether or not the state’s development model is socially and economically sustainable, or the human costs involved. Yet, I remain optimistic, happy with small signs that there is some intuitive goodness, even courage, in young people that shines through my experiences with students. This year, Id was celebrated at roughly the same time as the festival of Rakshabandhan. In a classroom assignment, students were asked to observe the social geography of the old parts of Ahmedabad. One student, a young woman, reported her observations of a side-lane flanked on one side by a Muslim mohalla and on the other by a Jain pol. Id decorations lined the mohalla-side of the road and rakhis were displayed for sale on the opposite side. She said she was really happy to see this, that the two communities could celebrate their festivals side by side. In another classroom project, architecture students were asked to visualise designs for the disputed Ramjanmabhoomi site, in accordance with the Allahabad High Court ruling. Each student in the class offered designs which, while complying with the ruling, brought the irreconcilable communities together, using the space creatively to resolve the differences.
While young people often echo the prejudice and parochialism that surrounds them, when given a chance to experience reality freely and to relate in a human way, they respond positively. Left to themselves, they can intuitively feel the rich web of their environment and respond humanely. But these impulses need nurturing, they need space to breathe and expand and be expressed. In Gujarat, and also in the rest of India.
(Suchitra Balasubrahmanyan teaches at the School of Design, Ambedkar University, Delhi, and co-authored Ahmedabad: From Royal City to Megacity, Penguin 2011)
Saturday 31 March 2012
An Ethical Financial Analyst
Financial analyst Neeraj Monga
Financial analyst Neeraj Monga’s reports have India Inc in a funk
The Canadian newspaper report, boldly headlined ‘Yellow Pages strikes back at analyst’, is framed and prominently displayed in a corner office of the Toronto-based firm Veritas Investment Research. The Financial Post article refers to a July 2006 report from Veritas, titled ‘The Count of Yellow Pages’, that was quite unambiguously bearish on the Yellow Pages Income Fund, even though at the time it was the second largest trust in Canada with a market capitalisation of over $8 billion. That didn’t prevent Veritas analysts Neeraj Monga and Chris Silvestre from arguing that “past performance is no indicator of future results. We believe that ypg is the poster child of this adage”.
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The Bull Buster Age 40 Place of Birth Udaipur Work Executive vice-president and head of research at Toronto-based forensic accounting firm, Veritas, whose candid reports on prominent Indian firms are making headlines. Hobbies Monga enjoys cooking, especially experimenting with recipes. He likes Bollywood films (Dil Chahta Hai is a favourite) and listens to old Hindi music (especially Mohd Rafi). Has most recently read the biography of Steve Jobs. Loves travelling to sunnier climes. Family Wife Dimple is a homemaker. Children: Sanjana, 5, and Arjun, 1. |
In the Financial Post article, Yellow Pages CEO Marc Tellier had fired back that 11 of 12 analysts had “buy” recommendations on the company. Now, almost six years later, the stock which was then trading at nearly $16 barely touches double digits—in pennies—on the Toronto Stock Exchange.
India-born Monga, executive vice-president and head of research at Veritas, has written a bunch of reports since then, and those involved in the inner machinery of BSE 100 stocks will certainly be paying serious attention to his work. After all, his reports on Reliance Industries and Reliance Communications (exactly five years from the day the Yellow Pages report was published), and then on UB Holdings and Kingfisher Airlines and, most recently, on DLF, have generated tremors—and headlines.
As Monga points out in an interview at his Toronto office, this isn’t about ulterior motives and targeting Indian companies: “Ultimately, it’s about two things, governance and vision. There are very few visionary people out there, mostly in North America, creating businesses from scratch. In India, some of the biggest companies are trying to rip other people off.” That’s just the sort of candid language that has roiled the usually placid waters of equity research aimed at Indian corporates. For instance, the DLF report summarised: “If your investment decision incorporates management integrity, then bypassing DLF will be an easy choice.”
There’s more to come: Veritas established a research unit focused on India this January. Led by Monga, the unit expects to deliver between 6-8 reports in 2012 itself. As a frequent visitor to India, Monga is aware of the terrain: “India, in general, as a nation, has been led by rhetoric rather than fact. So I decided perhaps we can inject some facts into the debate.” Clearly, he has forceful views and is unafraid about presenting them. “Generally information coming out of India and/or China has been pretty...” Monga pauses and contemplates the apt word, “untrustworthy.”
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‘Brothers In Arms’: Jul ’11 What Veritas said “We find no credible evidence of ‘values’ and ‘integrity’ in RCom’s financial statements or those of its former parent, RIL.”  RCom’s response “A malicious and motivated report containing baseless allegations, masquerading as research.” |
Monga’s Indian critics may well blame his father for preventing the son from taking on a career as the local cable guy, possibly in West Delhi’s Vikaspuri. His sister Parul, who works in Toronto as a trader with the Western Ontario Financing Authority, recalls that in the early ’90s, just as the Indian economy was being liberalised, Neeraj, still pursuing his BA at Delhi University’s Rajdhani College, launched a cable business. Running cables from their home vcr, he piped Bollywood films and music, children’s programmes and Pakistani serials into the residences of neighbours in that cluster of Delhi Development Authority flats. Within two years, the enterprise had gone from an initial 10 subscribers to over 500. “He was the very first guy to start the process. He had the vision, but Dad wanted him to focus on education so he sold the business,” she says.
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Monga
went on to secure an MBA from the University of Indore, worked briefly
in India, before taking a loan from Dena Bank for an MBA at the Richard
Ivey School of Business at the University of Western Ontario. Robert
Fisher, who taught Monga here, remembers a student who was able to
“analyse complex situations quickly”. Fisher, who now teaches at the
University of Alberta’s business school, hired Monga for summer
employment. That, though, wasn’t the sort of blue-chip internship his
students coveted. Fisher says Monga did “incredibly well” to “overcome
that barrier” and snagged “the best offer relative to any other student
of his MBA class”. That was at Bain & Company, the same firm where
Mitt Romney, now the frontrunner to become the Republican Party’s
presidential nominee in the US, also worked before forming Bain
Capital.
Monga lasted about a year there. Fortunately for him, Michael
Palmer, a veteran of Bay Street—Toronto’s equivalent of Wall Street—was
planning to set up Veritas, which would concentrate on forensic
accounting. Palmer, now president at Veritas, says, “The concept was
started in 1999 at the peak of the dotcom bubble. We thought there was a
lot of dishonest accounting going on out there.” Veritas came into
being in 2000 and Neeraj Monga was its first employee. The research
wing now has 17 staffers.
The research into Indian equities was Neeraj Monga’s initiative. While Palmer supported the idea, several of Veritas’s partners were sceptical and a degree of persuasion was required before the project was green-lighted. Palmer believes this new venture for Veritas is a need: “I think the Indian markets are at about the same stage as the North American or world markets were when we started Veritas in the first place. There are a lot of companies in India which are overvalued because people don’t really understand the numbers.”
The kernel for the debut analysis, on Reliance, came much earlier. Monga, who had followed the telecom sector, was viewing a presentation on the spinout of Reliance Communications from Reliance Industries: one slide stuck out as anomalous, but he presumed someone in India would comment on that. But there was not a peep for five years. “Ultimately, when I said we can write about India, we went back to dig deeper into that presentation,” he says. The question was how the Ambani family shareholding had gone from 38 to 63 per cent in the change of Reliance Communications ownership, which as Monga saw it, defied logic.
The next report featured another “easy choice”. As Monga says, “Airlines are generally not good business. We just said we’ll look at the annual report of Kingfisher. As soon as we opened the first annual report, we knew something was not right. So we read five years’ worth of annual reports and we figured out this is an effectively insolvent organisation.” In fact, Monga argues that Kingfisher should be delisted from the BSE for flouting Indian accounting standards. For the most recent report, again the real estate sector was another easy choice with DLF the 800-pound gorilla therein. “Anybody who has any experience of India knows the Indian real estate market is rife with underhand dealings,” Monga explains.
Now obviously there’s been a blowback against Veritas’s analysis. A spokesperson for Reliance Communications described it as a “malicious and motivated report containing baseless allegations, masquerading as research”. Lawsuits have been threatened—though not served. Monga isn’t perturbed, though his wife Dimple is, somewhat. The couple is raising two young children, five-year-old Sanjana and one-year-old Arjun, at their house in midtown Toronto. As Dimple Monga says, “Sometimes I’m a little apprehensive that there might be a negative response. I feel these companies can take it very personally.” But she remains supportive of her husband’s crusade to reform accounting practices in India.
Monga, though, is frank that this is not “social service”, as some in India may deem it to be. That’s a reality Palmer underscores: “We’re not doing it out of the goodness of our hearts, we think it’s a legitimate business opportunity and a product which is really needed in India right now.” Veritas’s clients pay a steep rate for access to the firm’s reports, starting at $50,000 in the first year and climbing. The firm certainly wants to broaden its base of clients to India, where it still doesn’t have a footprint, other than working with a consultant.
While its research is sold to institutional investors, some based in Singapore and Hong Kong, Veritas wants organisations like lic and Employee Provident Fund of India to subscribe. “They’re obviously the stewards of the savings of India’s small investors. They have a fiduciary duty to look out for their clients and if we can add value to the investment diligence process, then ignoring us is not in their interest.... It seems to me those managements are sleeping at the wheel,” observes Monga.
Nor is Monga daunted by rumours of the Indian market regulator, SEBI, imposing new regulations on independent equity research. Since Veritas doesn’t yet sell its research in India, it doesn’t need to be registered with SEBI. It is, however, registered with the Ontario Securities Commission and has a chief compliance officer. Still, he believes any such SEBI measure is a “good thing”. He also shrugs off accusations of being part of a bear cartel, retorting that those who are bullish aren’t taken to be “part of the bullshit cartel”. Coincidentally, his office, just off Bay Street, is also next to a bucolic sculpture of placid urban cows, called The Pasture, a counterpoint to the Raging Bull that defines New York’s Wall Street.
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‘A Pie In The Sky’: Sep ’11 What Veritas said “We believe that kair’s book equity has been wiped out although audited financials pretend otherwise.”  Kingfisher’s response "Very surprisingly, we never got a copy...but they widely disseminated their report to the media which leads me to be suspicious." |
The research into Indian equities was Neeraj Monga’s initiative. While Palmer supported the idea, several of Veritas’s partners were sceptical and a degree of persuasion was required before the project was green-lighted. Palmer believes this new venture for Veritas is a need: “I think the Indian markets are at about the same stage as the North American or world markets were when we started Veritas in the first place. There are a lot of companies in India which are overvalued because people don’t really understand the numbers.”
The kernel for the debut analysis, on Reliance, came much earlier. Monga, who had followed the telecom sector, was viewing a presentation on the spinout of Reliance Communications from Reliance Industries: one slide stuck out as anomalous, but he presumed someone in India would comment on that. But there was not a peep for five years. “Ultimately, when I said we can write about India, we went back to dig deeper into that presentation,” he says. The question was how the Ambani family shareholding had gone from 38 to 63 per cent in the change of Reliance Communications ownership, which as Monga saw it, defied logic.
The next report featured another “easy choice”. As Monga says, “Airlines are generally not good business. We just said we’ll look at the annual report of Kingfisher. As soon as we opened the first annual report, we knew something was not right. So we read five years’ worth of annual reports and we figured out this is an effectively insolvent organisation.” In fact, Monga argues that Kingfisher should be delisted from the BSE for flouting Indian accounting standards. For the most recent report, again the real estate sector was another easy choice with DLF the 800-pound gorilla therein. “Anybody who has any experience of India knows the Indian real estate market is rife with underhand dealings,” Monga explains.
Now obviously there’s been a blowback against Veritas’s analysis. A spokesperson for Reliance Communications described it as a “malicious and motivated report containing baseless allegations, masquerading as research”. Lawsuits have been threatened—though not served. Monga isn’t perturbed, though his wife Dimple is, somewhat. The couple is raising two young children, five-year-old Sanjana and one-year-old Arjun, at their house in midtown Toronto. As Dimple Monga says, “Sometimes I’m a little apprehensive that there might be a negative response. I feel these companies can take it very personally.” But she remains supportive of her husband’s crusade to reform accounting practices in India.
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‘A Crumbling Edifice’: Mar ’12 What Veritas said “Claims made by management about its ability to execute were fanciful.”  DLF’s response “...is presumptive and mischievous as the analysts have never contacted the company to seek any information or clarification.” |
Monga, though, is frank that this is not “social service”, as some in India may deem it to be. That’s a reality Palmer underscores: “We’re not doing it out of the goodness of our hearts, we think it’s a legitimate business opportunity and a product which is really needed in India right now.” Veritas’s clients pay a steep rate for access to the firm’s reports, starting at $50,000 in the first year and climbing. The firm certainly wants to broaden its base of clients to India, where it still doesn’t have a footprint, other than working with a consultant.
While its research is sold to institutional investors, some based in Singapore and Hong Kong, Veritas wants organisations like lic and Employee Provident Fund of India to subscribe. “They’re obviously the stewards of the savings of India’s small investors. They have a fiduciary duty to look out for their clients and if we can add value to the investment diligence process, then ignoring us is not in their interest.... It seems to me those managements are sleeping at the wheel,” observes Monga.
Nor is Monga daunted by rumours of the Indian market regulator, SEBI, imposing new regulations on independent equity research. Since Veritas doesn’t yet sell its research in India, it doesn’t need to be registered with SEBI. It is, however, registered with the Ontario Securities Commission and has a chief compliance officer. Still, he believes any such SEBI measure is a “good thing”. He also shrugs off accusations of being part of a bear cartel, retorting that those who are bullish aren’t taken to be “part of the bullshit cartel”. Coincidentally, his office, just off Bay Street, is also next to a bucolic sculpture of placid urban cows, called The Pasture, a counterpoint to the Raging Bull that defines New York’s Wall Street.
|
Clearly,
Monga has figured out that Veritas’s research may just be pointing to a
large, systemic disorder in India. That dire warning is delivered in
Monga’s typically outspoken style: “After our telecom report, everyone
said, ‘But the entire sector is in trouble.’ Then, after the Kingfisher
report people said, ‘Ahh, but the airline sector is in difficulty, why
single out a specific airline?’ After our DLF report, I am reading
stories that the entire real estate sector is in a downtrend, and
therefore DLF is no different. The power sector is also in trouble.
Then how come ‘India is a dynamic and growing economy’?” He’s also
clear about the “change” Veritas is targeting. “In India, dealings with
‘related parties’ are the norm, and most ‘related party’ dealings are a
means to siphon funds from the publicly traded entity for the benefit
of majority owners. We will highlight this.”
Unlike those of his ilk, Monga maintains a work-life balance, usually returning home by 6.30 pm. Cooking or watching Bollywood films are favourite forms of relaxation. The prospect of a slew of reports flowing from Veritas this year may just keep India’s corporate behemoths from relaxing though, unused as they are to any sort of intense scrutiny.
Unlike those of his ilk, Monga maintains a work-life balance, usually returning home by 6.30 pm. Cooking or watching Bollywood films are favourite forms of relaxation. The prospect of a slew of reports flowing from Veritas this year may just keep India’s corporate behemoths from relaxing though, unused as they are to any sort of intense scrutiny.
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