This article was originally published by the New Economics Foundation.
Last Wednesday’s triggering of Article 50 was supposed to be the day we start to take back control. But when it comes to finance, it is bank executives and lobbyists who remain in control – and who are already looking to Brexit in order to ram home their advantage. That is because the process of leaving the European Union raises the threat of an even more deregulated financial system than the one we currently have. A glance at our recent history shows why this would be disastrous for the British economy.
Why regulation matters
For much of the post-war era, banks were subject to strict regulations which limited the taking on of excessive risk. Banks mainly lent to businesses, and being a banker was not a particularly glamorous profession.
However, waves of deregulation beginning in the 1970s led to rapid growth in financial sector activity and complexity. Liberalisation freed up banks to unleash a flood of new credit into financial and real estate markets. It also gave birth to a dizzying array of complex financial instruments which few people understood.
In the years running up to 2007 regulators were asleep at the wheel, confident in the belief that liberalised markets would allocate capital efficiently and price assets accurately. Banks and other financial institutions reaped huge rewards from engaging in a complex web of “socially useless” but incredibly risky and complex transactions. When the house of cards eventually came crashing down, the whole economy came down with it, and the taxpayer was left to pick up the tab.
The cost of crisis
The UK is still suffering from the social and economic dislocation wrought by the global financial crisis of 2008. Recent years have seen public services squeezed, welfare support slashed and key services privatised or starved of investment. This has been done in the name of reducing the UK’s public debt and deficit. But the U.K’s debt and deficit problem was not caused by spending on welfare or public services – it was caused by the failure of the UK’s largest banks.
The cost of bailing out the banks peaked at over £1 trillion, while the cost to the economy in terms of loss of income and output has been much greater. According to Andrew Haldane, the Bank of England’s Chief Economist, the cost may be as high as £7.4 trillion – similar in scale to a World War.
Nine years later, and our economy is still suffering from the fallout. Real wages still remain 10% lower than they were in 2007. Productivity has stagnated. Interest rates remain stuck at zero, while the Bank of England has relied on £435 billion of quantitative easing to keep the economy afloat. Austerity looks set to continue for the next five years at least.
The crisis illustrated just how dangerous combining financial liberalisation with a ‘light touch’ approach to regulation can be. After the crash, regulatory reforms reined in some of the worst excesses. But it has been widely acknowledged that they fell far short of creating a truly resilient financial system.
Even then, it wasn’t long before the limited progress made started to be watered down or rolled back. In 2015 George Osborne spoke of a ‘new settlement’ between policymakers and the City, and this was followed by a string of concessions to big banks in areas of tax and regulation. Moves to revive securitisation – the toxic practice of pooling and repackaging loans into tradable securities which played a key role in the financial crisis – was further evidence that the lessons had not been learned.
Brexit and deregulation
Now, with Brexit upon us, Chancellor Philip Hammond has repeatedly suggested that the UK is willing to ‘change its economic model’ if the EU doesn’t play ball in the negotiations. As more banks indicate that they may start to shift operations abroad, it is possible that the government may choose to slash financial regulation in a bid to curry favour with the City of London.
Matters could be made worse if the government signs a hastily negotiated trade deal with the US. Trade deals aim to level out regulatory standards between two countries, and in theory this could mean that both countries choose to raise their standards to make them equal. But with Donald Trump in the White House, it’s fair to assume that the direction of regulatory standards will likely be downwards.
Trump has already ordered a review of the Dodd-Frank Act (a regulatory law introduced in 2010 to try to prevent future financial meltdowns) and the future of international co-operation on bank regulation has also been cast into doubt.
The cost of further financial deregulation would be immense. The Systemic Risk Council, a group of global experts on financial stability, recently warned G20 leaders that the global financial system is vulnerable to another crisis, and that any attempts to slash bank regulation “will lead to a worse crisis than 2008”. It also warned that when the next crash comes, central banks and governments will have far less firepower to deploy than they did in 2009, meaning that ordinary families will end up suffering much more. The International Monetary Fund managing director, Christine Lagarde has also warned of the dangers of a “race to the bottom” on financial regulation.
Real control, not bank control
Pursuing a deregulatory path would lead to the worst of all worlds. We were promised that Brexit would allow us to take back control. A move towards financial deregulation would do the opposite. It would lock us into a future of low regulatory standards designed to serve the interests of international finance, and put taxpayers on the hook once again.
As the negotiations between the UK and the EU begin, it is more urgent than ever that we don’t let regulation get remoulded around the demands of bank lobbyists. And at the same time, we need to begin the process of transforming our financial system into one that serves the long-term interests of society.