Peter Franklin: Don’t turn the Conservative Party into a cargo cult

23 May

Peter Franklin is an Associate Editor of UnHerd.

In the 1930s and 40s, the US military established military bases across the south Pacific. As a result remote island cultures, with little or no contact with the outside world, suddenly found themselves face-to-face with the might of twentieth century America. Though the islanders were in no position to understand the outsiders’ technology, for a brief moment they were able to share in its benefits. But then something terrible happened: the visitors went away again.

It may be that some of the islanders were happy to see the back of the Americans, but others were desperate for the visitors — and their hitherto unimaginable wealth — to return. Indeed, in some places that longing took on a religious aspect.

So-called cargo cults sprang up in numerous locations. Cult practices sometimes took the form of ritually re-enacting the mysterious things that the visitors got up to — like clearing landing strips in the jungle. In other cases, mock aircraft were created out of local materials and symbols like the Red Cross reproduced as objects of reverence. The hope was that such rites would somehow bring back what had been lost.

Cargo cults might seem ridiculous to us — and in fact the term itself has fallen out of academic favour for that very reason. However, we westerners would be foolish to assume that we’re not susceptible to the same kind of thinking. Instead of working through the challenges that face us in the here-and-now, it is often easier to re-enact scenes from an imagined heyday.

Of course, there’s nothing wrong with respecting the past and trying to learn from it. But equally we must be aware that our problems are constantly changing, and the solutions that we apply must change with them.

I’m worried that a discombobulated Conservative Party has forgotten this. Consider, for instance, our response to the return of inflation — and the criticism directed at the Bank of England for not getting on top of it. Clearly, we’ve got a major problem on our hands, but the idea that we can solve it by yanking up interest rates — because that’s what worked before — is pure cargo cultism.

The inflationary monster today is not the same beast that was slain in the 1980s. Nor does its origin lie in the last decade or so of very low interest rates, otherwise it would have shown itself years ago. Rather, the beast was born out of the extraordinary disruption to global supply chains caused by the pandemic and compounded by Putin’s war.

There was a furious reaction when the Governor of the Bank of England, Andrew Bailey, suggested that policymakers were helpless in the face of these inflationary pressures. Bailey could have chosen his words more carefully, but he’s a lot closer to the truth than those who believe that UK interest rates can control global commodity prices.

Other Conservatives see a lack of growth as a bigger problem than rocketing prices. In the long term, they’re probably right — but they’re wrong about the means by which they want to revive the economy: i.e. tax cuts. Again, we see a demand for the ritual re-enactment of policies from the Thatcher era; but the conditions that applied then don’t apply now.

We’re not perpetually on the wrong side of the Laffer Curve. Rather our number one economic problem is the chronic failure of British business to invest in productivity improvements — despite the incentives of lower Corporation Tax, cheap migrant labour and minimal borrowing costs. The Chancellor acknowledged this structural impediment in his Mais Lecture earlier this year, but even he felt the need to appease the tax cut fetishists in his ill-fated Spring Statement.

The ritual re-enactment of past triumphs isn’t limited to economic policy. The Conservative cargo cult is also attempting to resurrect the Right to Buy. To widespread groans, the Government has dusted off a policy to extend the Right so that housing association tenants can buy their homes too.

This is fine in principle, but the offer isn’t attractive without a hefty discount on the market value of the relevant properties— and who is going to pay for that? First proposed in 2015, the Government has already tried, and failed, to make this policy work. There’s no reason to suppose that a second attempt will be any more successful. One has to ask whether a serious effort will be made at all — or whether the announcement was just an excuse to conjure up the past.

However, I don’t want to give the impression that the conservative cargo cult is only about the 1980s. Thatcherite nostalgia is big part of it, but there are more recent triumphs to hark back to — not least, our miraculous escape from the clutches of the EU.

However, the problem with getting Brexit done is that you can’t do it again. Or can you? One fears that the main reason why the government has chosen this moment to unpick the Northern Ireland Protocol is that it needs a Brexity distraction. But if they think they can summon up the spirit of 2019, they’re badly mistaken. Brexit was about getting the EU out of our lives and allowing the UK to forge its own path. That means levelling-up and shaping and economy that works for everyone, not refighting old battles.

That’s why my heart sank when I read about Suella Braverman’s call to bring back the Conservative Party’s torch logo. Digging up this old totem really would be the ultimate cargo cult move. But anyone who thinks that dressing up in Margaret Thatcher’s clothes is going to stop Labour from taking back the Red Wall or the Liberal Democrats from making in-roads down South is deluding themselves.

If the Conservative Party really wants to honour its past, then, like Thatcher, it must fearlessly face-up to and tackle the problems of the present. If that means breaking new ground and attempting the previously impossible, then so be it. After all, our greatest duty to tradition is to take it forward into the future.

Liam Fox: The Bank of England raised interest rates too slowly. Now it must be wary of raising them too quickly.

18 May

The Rt Hon Dr Liam Fox MP is MP for North Somerset and a former Defence and International Trade Secretary. 

For many younger people in Britain, inflation is a new and startling experience, something they had previously only heard of in history books. For many of us, it was a formative personal and political force, one of the main reasons why many of us embraced Thatcherite Conservatism and its emphasis on “sound money.” Nothing undermines the stability of our economy, communities, and families more than inflation. It inevitably hits the poorest in society hardest and shifts money away from those who have saved for a rainy day. It is both a moral and economic hazard.

In the 1970s, I remember our family having to make cutbacks (including switching off the central heating we had only recently acquired) as inflation outstripped my father’s income. In the 1980s, I bought my first flat just as the Lawson boom hit. As a junior doctor, I soon found almost my entire income taken up by my mortgage as interest rates surged to 14.88% by the end of 1989.

Today, we are witnessing a return to global inflation, although at widely different levels. It is probably more accurate to say that we are witnessing two types of inflationary surges simultaneously. The first results from the supply disruptions that accompanied the Covid 19 pandemic with a mismatch of supply and demand in commodities and an interruption of global supply chains. The second is what we might describe as the monetary inflation that afflicts those countries whose central banks have allowed persistent increases in the amount of money relative to existing output.

As the pandemic took hold, central banks adopted policies of quantitative easing (QE) but at hugely differing rates. QE results in the purchase of large quantities of assets, such as government bonds, with the aim of supporting economic growth, lowering the cost of borrowing and boosting spending. Designed to have an anti-deflationary effect, too much can result in dangerously high inflation.

According to the Atlantic Council’s Global QE Tracker, in the United States the Fed began purchasing assets during the pandemic at an average rate of $120 billion per month. Since early 2020, these purchases have grown the Fed’s balance sheet by more than 114 percent.

In Britain, the Bank of England (BoE) put in place a QE program of support worth £895 billion to support the UK economy and financial market functioning. The bank’s asset purchases have increased the size of the balance sheet by more than 100 percent since the beginning of the pandemic.

The European Central Bank’s (ECB) pandemic emergency purchase program (PEPP) complements its Asset Purchase Programme (APP). Together, both QE programs have increased the size of the balance sheet by 88 percent since the start of the pandemic.

Meanwhile, in Asia, the Bank of Japan committed $874 billion to support the economy and the functioning of financial markets. These new asset purchases, together with the bank’s increased lending facilities, have increased the size of the balance sheet by a much smaller 17%. The latest inflation figures show the United States at 8.3%, the Eurozone at 7.5%, the UK 7%, and Japan 1.2%.

As the World Bank has noted, “The primary drivers of the inflation spike are not uniform across countries, particularly when comparing AEs and EMDEs. Diagnoses of “overheating,” prevalent in the US discourse, do not apply to many EMDEs, where fiscal and monetary stimulus in response to COVID-19 was limited… Inflation thus has become a global problem – or nearly so, with Asia so far immune.”

So, what about the British experience? Since 1997 the Bank of England has had operational independence for the conduct of monetary policy. The objectives of policy are set by the government while interest-rate decisions are the responsibility of the monetary policy committee. In November 1998, John Vickers, the Executive Director and Chief Economist at the Bank of England, set out the position with great clarity in a speech in Frankfurt.

He said “the paramount statutory duty of the MPC is the maintenance of price stability… The remit recognises that exogenous shocks and disturbances may cause inflation on occasions to deviate from the target, and that ‘attempts to keep inflation at the inflation target in these circumstances may cause undesirable volatility in output’. Most importantly, to me, is that he pointed out that “Subject to the paramount statutory duty of price stability, the MPC must support the Government’s economic policy, including its objectives for growth and employment.”

In other words, while the aims for employment and growth were important and laudable, they were required always to be secondary to the aim of price stability. How has this played out in recent times?

In a speech in November 2020, on the subject of climate change, Andrew Bailey, the Governor of the Bank of England said that: “We decided in the spring to prioritise preserving people’s jobs and livelihoods in this emergency, and as far as possible the businesses that provide employment and the life blood of the economy”. While this is understandable, and in line with the political priorities of the time, it is not putting monetary and price stability at the heart of the bank’s agenda.

In the same speech, the governor also said: “The financial system has supported the real economy in the crisis, as it must. We need that same ambition in our approach to climate change.” While we all support a concerted approach to climate change, there is a distinct feeling that those who should be protecting us from the debasement of our currency, the erosion of our earnings, and the devaluation of our savings have had their minds too much on a political rather than a monetary agenda.

The risk now is that having come late to the inflationary party – and consistently underestimated the nature and scale of the threat despite numerous warnings – the central bankers will overreact. With record amounts of assets on their balance sheets they may move quickly from quantitative easing to quantitative tightening.

While this will reduce the amount of money in the economy and counter inflation, the risk is that they will overcompensate, resulting in recession. This could produce further disruption in the developing economies with potential political disruption and the risk of debt default. This risk is exacerbated by the war in Ukraine and continued supply chain disruption.

No one believes that the policy decisions that need to be taken will be easy, but we deserve central banks who keep their focus on their day job, that of monetary stability.

David Gauke: To cut taxes and raise spending would be unsustainable – and so fail to salvage the cost of living

14 Feb

David Gauke is a former Justice Secretary, and was an independent candidate in South-West Hertfordshire at the 2019 general election.

Last week, inflation in the US hit 7.5 per cent, the highest for nearly 40 years. In the UK, inflation is expected to hit seven per cent in the spring, the highest level since 1991.

There are clearly some temporary factors in play as the world economy returns to a new normality after two years of a pandemic causing major disruption. The transition will inevitably be bumpy and, the optimists argue, as long as we do not allow ourselves to assume that inflation is here to stay (which could result in a wage price spiral), high inflation should be a relatively short term phenomenon, as the spike in energy costs pass through the system.

The more pessimistic view is that there is a more fundamental over-heating of the economy. We have had years of quantitative easing and low interest rates, unemployment is remarkably low and labour shortages (caused predominantly by older workers retiring earlier) are likely to persist, and energy prices look set to remain high. We cannot assume, say the pessimists, that the current inflation is largely transitory. This latter view is gaining ground, including in the Monetary Policy Committee which has voted for two increases in interest rates in recent weeks, with a minority of members wanting to go further.

Whichever view is correct, inflation and its consequences will be the big domestic issue affecting people’s lives in the next few months. Most obviously, we will see a squeeze in living standards that is going to be very painful for many households.

The Bank of England is forecasting the weakest growth in real post-tax labour incomes in more than 70 years. This will have negative political implications for the Governmen,t with the local elections in May likely to be very difficult for the Conservatives, whoever is their leader at that point.

All of this will increase pressure on the Government to assist households facing higher costs. We have already seen an announcement of a loan scheme for energy costs, but there will be plenty of calls for more action, whether that is dropping or postponing the national insurance increases, cutting VAT on domestic fuel or increasing Universal Credit.

The Treasury will rightly worry about affordability and credibility. On affordability, the public finances are performing better than was predicted by the Office for Budget Responsibility at the time of last year’s October Budget, but the Chancellor will not want to get into the habit of spending all the proceeds of an improved forecast as a matter of course. Scrapping the National Insurance increase would also raise questions of credibility and suggest to the markets that the Government – with an 80 seat majority – is too weak to put up taxes. That is not a good signal to send.

A further problem is that if fiscal policy is being used to soften the consequences of inflation by putting more money into people’s pockets, the Bank of England might be compelled to move further and faster on interest rates. Mortgage holders may find that tax cuts are accompanied by interest rate rises.

The issue of pay rises is already proving to be contentious. The Governor of the Bank of England, Andrew Bailey, attracted criticism for his remarks that workers should not chase pay increases that match inflation.

These words – although well-intentioned – were unfortunate. Putting aside the inevitable criticism that he is in a position than most to afford a pay freeze, it could be interpreted that he was advocating a return to an incomes policy where the man in Whitehall (or, in this case, Threadneedle Street) told everyone else how much they should be paid. Private sector pay should be a matter for the market which can reflect changes in the labour supply and consumer choices.

Bailey was not really advocating a return to incomes policies, even though it sounded a little like that. His point was that large pay rises will make the process of getting inflation under control all the more painful with interest rates potentially having to go higher than would otherwise be the case and workers finding themselves priced out of a job. The higher cost of global commodities is going to have to be absorbed somewhere, and ultimately this will result in a fall in people’s real term income.

Pay rises in the public sector will be a contentious issue. Again, the issue is not really about controlling inflation (at least, only indirectly), but about the public finances. Big increases in public sector pay will place further pressure on spending and, understandably, the Chief Secretary to the Treasury, Simon Clarke, is calling for restraint. Controlling public spending, ensuring that public sector pay is sufficient to recruit, retain and motivate the workforce and avoiding a summer of disputes with the public sector unions will be no easy task.

There are measures that the Government can take to protect people from the squeeze in living standards, but the fundamental problem is that costs are going up faster than we are getting more productive. We can smooth the pain of a short term spike in energy costs – if that is what it is – but in the end these costs will have to be paid by real people, whether taxpayers or consumers.

If this all sounds somewhat fatalistic about the short term, that is true. Ultimately, our standard of living will be affected by factors such as global commodity prices as well as our own productivity. For multiple and complex reasons, many negative factors are coming to a head this spring.

The immediate focus of the debate will be distributional – who we should protect and how we should do it. Such a debate is understandable, and there is a very strong case for protecting the most vulnerable who will struggle to pay their bills.

But if the response to the cost of living pressures is cut taxes or spend more to protect the bulk of the population, we just end up borrowing more and passing on costs to future generations. Such an approach is unsustainable.

The reality is that our national living standards depend upon our success in delivering a highly productive, strong economy. Even in those circumstances, we will always be vulnerable to being buffeted by high commodity prices, but we are more exposed because of a relatively weak currency and low productivity growth.

The predictions made by the Prime Minister as recently as last autumn that we are about to enter a period of high wage growth now ring hollow as, in real terms, wages are falling. There is a risk that both the Government and Opposition focus their energies on short term solutions – often involving borrowing more money – without addressing the fundamentals.

Our living standards reflect the strength of the economy. It has faced a number of difficulties in recent years – some unavoidable, some self-inflicted – and this will have consequences. The challenge for policy-makers, about which we hear too little, is how we deliver that strong economy for the future.

Philip Booth: Beware of the return of inflation

9 Sep

Philip Booth is Director of the Vinson Centre for the Public Understanding of Economics.

There seems to be a shortage of everything. Hauliers cannot recruit truck drivers; care homes cannot recruit enough care staff; there is a shortage of chefs; construction workers are in short supply as are many building supplies. Ikea is worried that it will not have stocks of many key items.

It is quite possible that some of these difficulties are caused by Covid. However, in many cases, these problems have been building up for a long time. We are used to challenges in staff recruitment in particular areas of the country in the public sector because national wage bargaining means that wages do not respond to supply, demand and differences in living costs. But we have not had shortages on such a widespread scale for decades.

Many economists have been arguing that these all problems are a drag on growth. However, such pervasive and widespread shortages would seem to suggest that we have an economy that is running out of capacity.

It is highly likely that the problems we face across so many sectors of the economy are indicators of nascent inflation. There are other indicators too. Commodity prices are roaring ahead. In the last 14 months, the Bloomberg index of commodity prices has increased by around one-third. Shipping costs have also been soaring.

Andrew Bailey has argued that recent increases in inflation are temporary and that “it is important not to over-react to temporarily strong growth and inflation”. And many others have cited the increase in commodity and shipping prices as being a temporary phenomenon that will pass through.

If we look at these data individually, these kinds of explanations might hold water. Shipping costs can spike. A relative shortage of particular commodities can cause their prices to rise rapidly if supply is slow to respond. And, from time to time, for all sorts of reasons, there might be a shortage of labour in particular industries – especially if training times are long. But the problems in the economy today are widespread and pervasive.

As the old saying goes, inflation arises from “too much money chasing too few goods”. Since the beginning of the Covid episode, we have had a huge increase in the money supply, with £300 billion of new money being printed. Covid caused a supply problem, since the Government effectively banned economic activity of certain types, and we all changed our working habits. We saw in the 1970s what happened when supply-side problems were addressed by the printing of money. Perhaps the same is going to happen again.

Inflation works its way through the system in different ways, depending on the circumstances. One of the problems of the way in which we teach economics is that we tend to focus on equilibria – the theoretical end points of economic processes. However, it is the process itself that is more important. If we print money, all other things being equal, we will end up with a higher price level. But, if central bankers are to be ahead of the game, they need to focus on the processes by which the higher price level comes about.

Inflation expectations are, in the jargon, “well anchored” at the Government’s target. This means that most people expect inflation to be two per cent per annum in the long term. Wage negotiations reflect this. So, when there is an increase in demand caused by an increase in the supply of money, various things can happen, but one thing that does not happen quickly is an increase in wages.

Typically, prices in highly efficient markets with good information flows rise first – house prices, other asset prices, prices of commodities and shipping costs. However, businesses see a rise in demand for their goods and services, and they increase their demand for inputs such as labour and raw materials.

The final prices that businesses charge tend to be sticky: businesses do not like putting up prices. And the wages of the labour that businesses employ tend to be especially sticky (with so much focus on paying staff, the statutory minimum wage is not helping here). Businesses are all planning as if there has been an increase in demand for their own products, but they can’t all increase supply. The results is shortages – not just in the odd industry caused by disruption in specific sectors, but in large parts of the economy.

We all want more cappuccinos, more housing space, more goods on the supermarket shelves, more restaurant meals, more care for the elderly and so on. But there are simply not the real resources to produce all the things that we are demanding and paying for with printed money.

Eventually, this is “resolved” by a rise in prices in the wider economy and a rise in wages – in other words, by inflation. But this can take a while to happen. This will choke off the demand for goods and services and the demand for labour; and it will do so in some industries more than in others. As a result, wages in some sectors will probably rise significantly.

If the Bank of England quickly catches up with what is going on, this process might be relatively benign. But, if it does not, four per cent or five per cent inflation for a couple of years could cause real problems. Interest rates of 7-10 per cent needed to bring inflation back down again could destroy businesses and bankrupt mortgage-holders in large numbers.

All his would also create considerable discomfort for the Government. We might think we are a long way from the events of the 1970s. However, we should remember that the events of the 1970s started in the 1960s. Twenty-seven per cent inflation did not happen overnight.

Ryan Bourne: Furlough might have averted mass layoffs. But the Government’s next challenge is the reallocation economy.

11 Aug

Ryan Bourne is Chair in Public Understanding of Economics at the Cato Institute.

What is the biggest challenge currently facing the UK’s jobs market? Not “mass unemployment,” as was feared as Covid-19 ravaged and lockdowns closed businesses last year. No, the concern today – according to the Governor of the Bank of England – is labour shortages.

Last Thursday, Andrew Bailey said, “The challenge of avoiding a steep rise in unemployment has been replaced by that of ensuring a flow of labour into jobs. I want to emphasise that this is a crucial challenge.” This is acknowledgement of one of the pains of what I call the “reallocation economy.”

In spring 2020, the furlough scheme was designed to avert mass layoffs and protect job relationships until things reopened. The idea was that government social insurance to pay wages would help firms “bridge” through a temporary shutdown, allowing them to retain workers and so protecting the productive capacity of the economy. Last spring, as many as 8.9 million jobs had wages subsidised by the taxpayer at the peak.

The Chancellor, and most pundits, will say it worked, albeit lasting longer than expected. Official unemployment peaked just 5.2 per cent last year, against 14.8 per cent in the United States. Now, with furlough winding down, just 1.1 to 1.6 million are left on the scheme, and with almost half of these on “flexible furloughs.”

Though many of these subsidised jobs may be non-viable as support ends, the Treasury will look at the huge 862,000 vacancies in the country and think: we have avoided a jobs disaster and now have a clear glidepath back to full employment.

So what’s the problem? Well, you can’t just “pause” an economy for a year in a world of ever-changing preferences, demands, and technologies. Research already showed larger job changes between sectors and occupations up until January than seen in the Great Recession.

It seems likely Covid-19 will have lasting effects on our preferences, where and how we want to work, and where we are able to travel too. As our lives re-normalise, this and a bounceback in service industries will see many workers temporarily finding themselves in the “wrong” jobs given new trends, or in the wrong places, and or with the wrong skills.

The result of this will be an extended period of teething problems as labour markets adjust to these new realities. There’s always substantial churn in jobs anyway, as workers and activities are reallocated over time. But this change is likely to be far more dramatic given the partial freeze of much of the economy. Rigidities in wages and an unwillingness to move risk creating temporary shortages and wage and price volatility along the way.

To be sure, this seems a better problem than mass unemployment. But Bailey is right: it’s a headwind to growth. Reallocation is a process, and often a slow one. Businesses have to attract and train new workers. Workers have to search for roles. People or firms have to move locations. And companies have to decide whether to risk taking on permanent new employees or undertaking new investments. All this limits the productive capacity of the economy.

The U.S. experienced some of these challenges with its earlier reopening. Leisure and hospitality saw particularly severe shortages of available workers through summer, due to ongoing worries about Covid-19, generous government benefits to the unemployed, and people reassessing their work ambitions.

Average hourly wages surged in these sectors and are still 10 per cent up on February 2020 as labour supply failed to meet growing demand. Businesses paid big signing-on bonuses and raised wages to entice workers to them, but that hasn’t always been enough to fulfil consumer needs: some restaurants couldn’t profitably open every day.

There’s suggestive evidence of similar difficulties in the UK. A British Chamber of Commerce survey for Q2 found that as a growing number of businesses sought to hire again, 70 per cent were having difficulties finding staff, with figures as high as 82 per cent and 76 per cent in construction and hotels and catering.

ONS data for June shows 102,000 vacancies in accommodation and food services–its highest ever recorded level. Pubs and restaurants had to pay temporary workers much higher wages and bonuses to get staff in June. The number of vacancies is surging too in arts, entertainment and recreation and real estate.

Many other factors will contribute to this reallocation challenge than just reopening services though. Surveys show the pandemic has led to a broader “rethinking” by the public about their work roles–perhaps unsurprising given the disruption we’ve seen.

An Aviva poll found 60 per cent of workers say they intend to “learn new skills, gain qualifications or change their career” due to the pandemic. It’s been well-documented that large numbers of young people have opted for extended stints in higher education too. Only a fraction of all this will need to occur for large shifts in local and sector labour supplies.

Other workers are willing to stay with employers, but demanding “let me work from home or I’ll quit.” Nick Bloom’s research suggests a modal desire from office workers for two to three days home working per week. As businesses experiment, some workers will not be happy with their arrangements and move on, while companies must decide whether to adjust to these preferences by widening the geographical net on remote hiring.

Any permanent shift in where work occurs as things crystallise will have sharp consequences for the spatial location of city’s service industries, such as eateries, entertainment, and bars, as well as reductions in demand for inner-city office cleaning, security, and delivery. The process of these support and service workers finding new roles, moving, and re-training will take time too.

Now when politicians hear the word “economic challenge,” their instinct is to dream up a policy to “deal with it.” And after over a year of subsidising jobs, it will be tempting for the Chancellor and Prime Minister to consider incentives, nudges, and public statements to try to force a return to the economy of February 2020, or else to devise new laws to entrench what workers want (see the new demands for a “right” to flexible working).

But beyond removing furlough and other policies that delay reallocation, the Government has no special insight about what’s best for the long-term. How to get the right workers to the right places will only be “addressed” by the experimentation and coordination that comes from market activity, and the reaction to the signals of profitability, wages, and prices.

Though relief helped avert mass layoffs, we will see a hangover as the economy adjusts to new realities. Not because “relief” was or is inadequate, but because the crisis has disrupted so much.

Jayne Adye: It’s time to move beyond Brussels on financial services

26 Jul

Jayne Adye is the Director of the leading grassroots, cross-Party, Eurosceptic campaign Get Britain Out.

Since the UK finally left the EU at the end of 2020, there has been an almost universal focus on the problems created by the Northern Ireland Protocol, as well as the abandonment of UK fishing communities. However, despite being this country’s single biggest export to both the EU and the rest of the world, the financial services industry has seemingly been entirely ignored.

In the last month Rishi Sunak, Lord Frost, and Andrew Bailey, the Governor of the Bank of England, have all confirmed a deal on financial services equivalence with the EU somehow appears to be dead in the water.

The EU’s justification for the lack of progress is the UK’s refusal to commit to “dynamic alignment with EU regulatory changes” for years to come. Why should we accept these demands when this is not a requisite which the EU has forced on any other countries they have equivalence deals with – for example the USA, China and Singapore – so why single out the UK?

Despite this clear pattern of unreasonable rejection, the UK Government has been unwilling to take any real action to move beyond this stalemate, leaving businesses and investors unable to properly plan for our future.

Yes, the Chancellor tried to get the ball rolling this month with his speech at Mansion House, announcing the world’s first Green Bond (a fixed-income instrument designed to support specific climate-related or environmental projects) ahead of the ahead of the COP26 Climate Conference, scheduled to be held in Glasgow from October 31 – November 12 this year.

Unfortunately, the Chancellor’s detail was limited, with interest rates for the bonds not announced and a greater focus on making sure businesses report the impact they have on the environment. While this is a good start, it barely scratches the surface of the possibilities available to the UK and the Chancellor does not seem to be making any substantial attempts to change the regulations enforced on us by the EU.

Thankfully, because the City of London is such a significant player on the world stage, the stalemate and lack of cooperation from the EU is never going to end the dominance which the UK has enjoyed for so long. To use the mainstream media’s favourite term, “Despite Brexit…”, London is still the top financial services hub in Europe and has even reclaimed the top spot for European share trading which was held by Amsterdam for a short time recently – in spite of the EU attempting to block London-based firms doing business in the EU.

In other words, even though some additional barriers have been created, companies and individuals still want to choose the expertise and experience which exists in London, rather than move to the EU – contrary to what many had claimed.

So, with the UK’s advantages over the EU being so clear, why do we seem stuck in the mud when it comes to implementing the advantages of Brexit? Right now the Government appears to be unwilling to diverge from the EU, seemingly for no other reason than “not rocking the boat” and “upsetting the EU” while we negotiate other areas of concern – primarily Northern Ireland, as the Government announced last week with their ambitious call for a total renegotiation of the NI Protocol.

This tip-toeing over glass on these issues simply cannot continue. Yes, London has maintained its position in the world, but if the Government wants to reach the full potential of Brexit, then this must mean bringing about serious change and not simply accepting the status quo. Nobody stays at the top by doing nothing. As an independent country, we cannot deprive ourselves of opportunities to thrive because it might annoy the European Union.

Quite frankly, anyone who makes this argument for the Government’s lack of action has not been paying attention. We currently seem to be sitting idly by, wasting time by continuing to abide by EU legislation, and in return the EU is not showing us any leniency or “goodwill”. Instead, it is trying to carve off Northern Ireland from this country – recently rejecting our proposals for renegotiation in just three hours; hitting us with multiple legal threats; and now it is demanding an extra £2 billion as part of a “Divorce Bill” (which was only agreed because of the UK’s desire to show goodwill).

The EU clearly has no interest in “playing nicely”, so it is about time we stopped the charades and got on with putting out own interests first – whether that be triggering Article 16 of the NI Protocol or slashing EU financial services regulation.

Companies have flocked to the UK for decades because of their trust in our economic system and the “light-touch” regulation which drives it. This has been diluted through our EU Membership, but it is something we can recover from.

There are swathes of EU regulations governing financial services and investment which we actually opposed at the time of their creation – such as the Solvency 2 laws on investment risks; and the Alternative Investment Fund Managers Directive – both of these create swathes of bureaucracy which stymie innovation and try to remove any chance of businesses taking risks – risks which help drive an economy forward at a higher rate and create more competition.

No, this doesn’t mean financial services should be an industry devoid of scrutiny or regulation. This is about shaping a system which encourages new businesses and is prepared for the future, rather than being stuck in the past, tied to a sclerotic EU legislative process which lags behind the rest of the world.

The UK has the chance to cement itself “as the most advanced and exciting country for financial services in the world”, as Sunak described at Mansion House. However, the Government must have the courage to reach out, grab this chance and bring about real regulatory change quickly. Whether this is by encouraging FinTech, green investment or digital trade, our exit from the European Union has come at an opportune time when fresh thinking and a new regulatory approach can allow the United Kingdom to reach its full economic potential.

It is clear a “good deal” with the EU is not on the cards anytime soon, so the Chancellor must not lose this opportunity to push forward and really Get Britain Out of the mindset where we worry about how our every move might affect the relationship we already have with the EU. We are now an independent sovereign nation, and it is time this Government started acting like we want to forge ahead to really explore the advantages of a truly Global Britain.

Daniel Hannan: London was always going to be fine post-Brexit. But now we must cut EU rules and allow it to prosper.

7 Jul

Lord Hannan of Kingsclere is a Conservative peer, writer and columnist. He was a Conservative MEP from 1999 to 2020, and is now President of the Initiative for Free Trade.

Brexit was never going to kill the City. It is a measure of how demented our culture war became after 2016 that that notion was ever seriously entertained. London gained the top spot through strong property rights, incorruptible courts, secure contracts, light-touch regulation and low taxes. Everyone understood that the system was impartial, that the rules would not be rigged against foreign companies, that all were equal under the law.

Those features allowed London to retain its pre-eminence despite the decline of sterling as a global currency, despite the Second World War, and despite the economic collapse of the 1970s. Companies from around the world recognised that the best and cheapest money markets were disproportionately concentrated in the Square Mile. EEC membership had little to do with it.

Eurocrats never saw things that way, of course. In their eyes, London was a parasite, moving money around while honest Europeans did the more “real” work of making cars, producing chemicals and ploughing fields. Brexit, they believed, was an opportunity to shift jobs to Paris, Frankfurt and Milan, and to divert the accompanying tax revenues to their own coffers.

Emmanuel Macron came to London and pitched directly for companies to relocate. His ministers set up offices to advise on the transition. Frankfurt expanded its English-language schools.

Meanwhile, Brussels set out to be as bellicose as possible. UK-based firms found that the letter of the law was suddenly being forced on them with a perversity that their Japanese or American rivals were spared. At the same time, the EU refused to grant equivalence to British financial services providers.

Equivalence – essentially an agreement to trust each other’s regulators – is a normal courtesy among advanced economies. The EU offers it to Brazilian, Chinese and Mexican companies. Britain, naturally, offers it to the EU. But the EU evidently believed that refusing to reciprocate might somehow asphyxiate London.

It didn’t work. This would have been obvious had it not been for the hysterical tone of Britain’s Europhile broadcasters, determined as they were to show that Brexit had been a catastrophe.

Every relocation of a UK job to the Continent was drooled over with a kind of excited despair, while almost no attention was paid to jobs moving the other way – or, indeed, new jobs being created. When, as a result of EU restrictions, Amsterdam briefly overtook London in the volume of shares being traded, there was terrific excitement; when London reclaimed its place last week, coverage was muted.

The EU’s strategy is self-harming. Protectionism always makes the state applying it poorer. Making it harder for continental firms to access London finance does more damage to the continental firms than to London. It also signals to the world that Brussels discriminates on the basis of nationality, subordinating prosperity to prejudice.

Had the EU been more adroit, it might have sought to make itself more attractive. Instead of denying Britain equivalence, it would have looked for ways to lower its own taxes and to reassure the world that it would not tilt the scales against foreign companies. But, for whatever reason, it cannot bring itself to think that way.

Don’t imagine for a moment, though, that London’s dominance is guaranteed. The City has no automatic right to the top slot. It must earn that place anew every day. Brexit doesn’t just allow the City to make its regulatory regime more competitive; it obliges it to do so.

As Andrew Bailey, the Governor of the Bank of England, put it earlier this year: “I’m afraid a world in which the EU dictates and determines what rules and standards we have in the UK is not going to work”.

There was an argument – a weak argument, in my view, but an argument – for matching some EU standards for the sake of equivalence. But when Brussels won’t recognise even our current rules, which are identical to its own, there is no argument whatever for holding back.

We should begin by repealing those EU rules which were opposed by the industry when they were brought in, even if, having now assimilated the compliance costs, some established actors have lost interest in repeal. We need to think of future businesses as well as existing ones. We should undo the parts of the EU’s MiFID 2 and Solvency 2 regimes that we opposed at the time, and scrap the Alternative Investment Fund Managers Directive and the short-selling ban.

More broadly, we need lighter-touch regulation. Many of our rules are still aimed at preventing the 2008 crash, rather than at facilitating future growth in fintech, green investment and digital trade. At the very least, we should make competitiveness an explicit part of the regulators’ mandate – certainly no less than stability, confidence or consumer protection. Other regulators, such as Singapore’s, take it for granted that boosting competitiveness is part of their role.

And let’s not be shy about cutting taxes in ways that will attract investment and so, over time, increase revenue. It is hard, on Laffer curve grounds, to justify the bank corporation tax surcharge or stamp duty on share trading. We also need to end the absurd rule which limits bonuses – thus whacking up bankers’ basic salaries and reducing the link between performance and pay.

Some of these reforms might be unpopular. But, with our public finances in the state they are in, we can’t afford to subordinate our recovery to the prejudices of focus groups. Financial services are, to Britain, what tourism is to the Maldives. As our mediaeval wealth rested on wool, so our modern wealth rests on banking, insurance and investment. I’m not asking you to like bankers and hedgies; I’m just asking you to recognise that they pay 10 per cent of Britain’s taxes.

The PM wants to show that Brexit has tangible benefits, and commissioned Iain Duncan Smith, George Freeman and Theresa Villiers to look at ways to raise our competitiveness. Their report in May set out a measured and realistic plan to do precisely this.

But, as anyone who has worked in politics will tell you, the real challenge is turning your vision into hard policies over the head of an often change-averse civil service. “Between the idea and the reality,” wrote T S Eliot, “Between the motion and the act falls the Shadow”. Between the speech and the implementation, between the report and the legislation, between the ambition and the deregulation – falls the Shadow.