U.S Banking Reform

The legislation passed by the U.S Congress is the biggest piece of news in the world today and will set the foundation for the rebuilding of the Anglo-Saxon financial model. It is not likely to make popular headlines as few will understand its complexity. This blog will help you with the implications.

American banks will be banned from proprietary trading. This is how most of them make their money. They will also be banned from selling dodgy mortgages to people who cannot pay and if banks get ‘too big to fail’ the authorities can move in and break them up. If a bank gets into trouble it can be liquidated in an orderly way.  In the latter case shareholders will be wiped out, not baled out as in 2008. With a host of other controls governing all aspects of lending amounting to 533 new regulations and 2300 pages this monumental effort sweeps away the last vestiges of the American equivalent of Big Bang. 

In the U.K., where new regulations are still under discussion this will have a profound effect. We have had two misconceptions in the public domain since the Crisis erupted. The first is an obsession with what bankers are paid rather than with what they do. The second is the idea that we were innocents caught up in a Global event.

Recently I drew attention to the total debt of the U.K. which is 4.5 times the GDP. If we add our figure to that of the U.S we arrive at 40% of all the money owed in the world. In the U.K alone our debt total is 16% of  the global total, whilst our economy only generates 3% of global GDP. There is no doubt that the U.S and U.K are the joint epicentre of the disaster and avoidance of a repeat will depend on the two of us setting our financial model to rights.

Now that the U.S. has acted we will have to do something very similar as most of our banks are active in the U.S and vice versa. This is good. There are now several positive signs that things are moving in the right direction. The end of lending based on the value of a house, rather than the ability to pay is of critical importance. The new FPC will need to keep houseprice inflation in line with the whole economy. Households are already reducing debt and therfore saving faster than they are borrowing. Equity release is now seen as no such thing; it is just higher borrowing.

As the great shakeout of excessive public sector employment takes place, the foundations of the financial State are slowly being relaid. It is now critical to get the banks focusing on their core function in the economy. This is to finance business and industry, so that it can offer new and wealth creating jobs to those displaced from the public sector. A banking sector that went into the crisis with over 75% of its lending on property, another slice on credit cards and only 3% to industry will find this something of a culture shock. They will not be willing. The government will need to drive them forward to their new responsibilities.

The coalition shows every sign of having got the message and being willing to preach it. On the other hand the sermons coming from the contenders for the Labour leadership are now so far from financial reality that they represent something close to irresponsibilty. Whether this is out of muddled thinking or a need to justify Labour’s record is not clear. This blog is not partisan and is rude about all the parties in turn from time to time, but before Labour can be regarded as other than dangerous it will have to get real over the economy. For that we shall have to wait for the new leader to be elected.