Banking Competition

George Freeman Excerpts

Thursday 12th July 2012 Westminster Hall

[George Freeman (Mid Norfolk) (Con)]

I thank Mr Speaker for allowing this important debate to take place, and for my chance to contribute to it. I congratulate my hon. Friends on securing the debate and on their contributions, particularly my hon. Friends the Members for South Northamptonshire (Andrea Leadsom), for Wyre Forest (Mark Garnier) and for Wells (Tessa Munt), but other hon. Members who have spoken, too.

I am not, never have been and never will be a banker, unlike hon. Friends who have specialist expertise in the world of high finance and banking. It is important that hon. Members bring to the House expertise in sectors that we need to regulate and guide. My interest, and my contribution today, is offered not with great expertise in the specific measures needed to put the banking sector right, but to articulate concerns about the implications of the banking crisis for what is sometimes referred to as the real economy.

I speak as somebody with a deep interest in growth, small business, enterprise and innovation. In a 15-year career before coming to the House, I was involved in starting small companies in the field of science and innovation, principally the biosciences. Typically, they were companies with an idea, a small team, a business plan and no money, raising funding for ambitious businesses to develop innovative products and services, often through a number of financing rounds, before acquiring another company or being acquired, or achieving an exit through the public markets.

I therefore speak with a particular interest in the life sciences, of which colleagues will be aware. The sector has much to offer the nation, as we seek to build a rebalanced recovery and a sustainable economic model. It has vast potential to help us to grow our trade links with the emerging world—the BRIC economies. A reference to Jim O’Neill and Goldman Sachs has already been made, and we met recently to discuss his latest analysis that, on top of the BRIC countries, the next 11 coming behind have phenomenal rates of growth in already large economies. Our life sciences have the potential to allow us to seed—literally, in some cases—the markets of tomorrow and to grow the alliances of tomorrow, which will, among other things, have the benefit of de-leveraging our financial dependence on the sclerotic eurozone.

I speak also as somebody with a long and passionate interest in the East Anglian innovation economy, a region that the Government increasingly recognise as a key driver for sustainable growth. It is a net contributor to the Treasury and has at its heart Cambridge, a globally recognised centre of science innovation, entrepreneurship and companies in need of finance. In my own county of Norfolk, the Norwich Research Park, a globally recognised centre of innovation, is becoming increasingly linked to Cambridge through the Government’s excellent investment in infrastructure.

I speak also as the father of two children. I am concerned about the world in which they will grow up and the economy in which they will have to make a living. Our generation in Parliament is important if we are to get this right. I want to touch on the context in which it is helpful to view this issue. This is not just a crisis of debt, although it is surely that. It is not just a crisis of regulation. It is not even just a crisis of political leadership. We are living through a deep crisis of political economy, which is shaking the very foundations of the world as we have come to know it in the past 20 or 30 years. One of the profoundly unsettling things about crises of political economy is that they undermine the very legitimacy of the institutions through which we seek to tackle them. That creates something of a perfect storm—a financial and political hurricane that fuels itself. As we see trust in the media, trust in the political class, trust in the bankers and trust in the regulators undermined—not least by the way in which those groups, in the past 20 or 30 years, have become too cosy—we start to fuel a growing public distrust of the idea that there is any institution capable of fundamentally tackling this problem. I am more optimistic than that. If we are honest about the causes of the problem, and rigorous and robust in our analysis, we can be optimistic about the future.

[Steve Baker]

My hon. Friend is making an absolutely magnificent speech. He has reminded me that, in his Bagehot lecture, the Governor of the Bank of England said:

“Of all the many ways of organising banking, the worst is the one we have today.”

I am sure that my hon. Friend can be assured of Sir Mervyn King’s support.

[George Freeman]

I thank my hon. Friend for that helpful and extremely generous intervention.

As the Chancellor put it so eloquently in his Budget speech, the recovery will require a new economic model. That is at the heart of this debate. The banks have a crucial role to play in that economic model, but for them to play that role we need to restructure the way they work, and retune what we expect of them and the people who run them. I shall concentrate on that point.

At the heart of the new economic model, we need a much more profound commitment to an enterprise economy and to a rebalancing of the relationship between risk and reward. I do not think any of us on either side of the House—indeed, I think it was the former Member for Hartlepool who said he was passionately relaxed about wealth creation—have a problem with wealth creation through people who take risks, or for reward to flow from risks. At the heart of the problem is the fact that people have been receiving huge rewards without taking the risks. If the public saw people paying back some of what they have earned for success on failure, there would be much more public support for the industry. It is about the break-up of some of the old structures, the big and literally bankrupt structures, that are saddling this economy with debt and a lack of leadership. It is about unleashing a creative revolution of hungry, entrepreneurial little platoons who can rebuild an economy of which we can be proud and on which we can rely.

I come now to three points: the nature and causes of the problem; my particular rural constituency interest; and what we need to do, with particular emphasis on the importance of competition and new entrants, and encouraging new sources of finance for the small companies that we will need to grow our sustainable recovery.

As other hon. Members have more eloquently testified, we are seeing multiple failures: the mis-selling of payment protection insurance; a manipulation of LIBOR, which, of course, is a benchmark used to set payments on a vast amount of money, up to $800 trillion-worth of financial instruments affecting the price of everything from simple mortgages to interest rate derivatives, as The Economist set out clearly recently; and the mis-selling of complex interest rate products. They are symptomatic of a much deeper shift in recent years in our banking culture out in the regions.

Banks in Norfolk and East Anglia have moved from the traditional model of looking after savings and lending money to small companies. They have shifted their emphasis, closing local branches and investing in new types of staff who are more salesmen than bankers in the traditional mould, and they seem to be much more interested in making money from complex charging structures, and instruments and derivatives. Instruments and derivatives may be appropriate—indeed, vital—for the City of London. There is a perfectly legitimate trade in such instruments; indeed, they sit at the heart of any functioning market economy. They are not, however, appropriate instruments on the high streets of such towns as Watton in my constituency, which has been the victim of the inappropriate selling of inappropriate products. I will say a little more on that in a moment. Swaps, options, warrants, futures and forwards should not be the concern, and are not the concern, of most couples taking out their first mortgage, or most entrepreneurs starting a small business. The mentality which says that complex bank products and charging structures are a more attractive source of revenue than the traditional role of banking has been deeply corrosive of the real economy.

I plead guilty to being slightly misty-eyed—I am, after all, a Conservative. I remember as a boy going with my stepfather, who was starting a business, to our local bank. The bank manager knew his name. Rather to my amazement, he knew mine. He offered us a cup of tea. He had a notepad and a file, he knew the business and he knew what had happened at the last meeting. He wanted to talk about the cash flow, the harvest, the outlook for business and how he could help. What a long way that is from small businesses’ experiences of banks in today’s economy.

As for my particular constituency interest, the mis-selling of complex instruments has devastated a number of individuals and businesses, the most celebrated of which—if that is the word—is Adcocks of Watton, featured recently on the BBC. Adcocks is a historic business on the high street of Watton, one of the four towns in my constituency, that is now saddled with £175,000 in bank charges. They threaten to cripple that small business, which is at the heart of the high street as a major employer. Also, a constituent of mine, Mr Leonard, was the subject of international property fraud by an equity trust. Investigations have been conducted over the past several years, and still have not concluded.

Those are just a couple of examples, and the more the debate unfolds—I do not know whether other Members have had the same experience—the more people come forward. I believe that we are witnessing the beginnings of something rather bigger than has hitherto been apparent. There is an iceberg of hidden claims and effects in my constituency, and if that is true in Norfolk I suspect that it is true elsewhere. The impacts in a rural area are far more profound than in an urban area. It takes only one business to fail on the high street of a town like Watton for the whole town to feel the reverberation. In that context, it is important that whatever the small print in the contracts says and whatever the findings may be under contract law, the Government should be sensitive, as I know they are, to the need for accountability, responsibility and appropriate compensation in order to send a signal that such things must and will stop, and to prevent the fall-out from undermining the Government’s efforts to drive an economic recovery and growth in the regional economy.

I have one or two thoughts on what needs to be done. Several colleagues have discussed culture and the importance of a new culture, and whether we should agree with Bob. I remember hearing Mr Diamond say, as The Economist reported:

“We all know that these events are not representative of our culture.”

I do not believe that to be true. It is precisely because much of that activity was deeply representative of a culture that we need to tackle that culture.

Not all in the City take that view. I was struck by the comments of John Nelson, chairman of Lloyd’s of London, who stated in a recent Financial Times article that

“the future for banks…is dependent upon finding the right model, and critically the right culture…None of the revelations over the last week means that the City is inherently corrupt”,

but:

“It is imperative that we tie performance to longer-term incentives and sustainable profits.”

We need responsible banks with a culture of fostering local business growth and a strong understanding of their role in helping to generate economic growth and innovation on the ground, and good banks that encourage a competitive marketplace in which the local bank can flourish and real banking for the real economy.

A number of good measures have been put in place. I commend the Government for the fundamental restructuring in the banking reform Bill, and the Treasury White Paper issued in June on banking reform sets out numerous important initiatives and measures. I suspect that more may have to be done over the coming years. The Merlin agreement covered a number of important initiatives, and it is important that we ensure that it is enforceable and has appropriate teeth to guarantee that it is followed through.

Principally, my concern and my call are for much greater focus on competition and new entrants into the banking sector, as other Members have discussed. Colleagues may be familiar with some of these facts, but I think they bear repeating. The size of the top 10 banks in proportion to UK GDP in 1960 was 40%; in 2010, it was 459%. Something has gone profoundly wrong with how we have allowed the banking industry in this country to develop. It needs serious reform. In the US, the top 10 banks were equivalent to 10% of GDP in 1960 and 62% in 2010, so it is not a global phenomenon; it is a distinctively British one. Only one new high-street bank has launched in more than 100 years. The big five have an estimated market share of 85% for personal current accounts and 67% for mortgages.

Statistics from the Federation of Small Businesses show that 15,000 financial institutions compete in the US market: about 7,700 banks and 7,000-odd credit unions. The German Sparkasse network comprises 431 locally controlled banks, and Switzerland has 24 cantonal banks, which explicitly recognise social and economic responsibility. We should not be hidebound as we deal with the fallout from the crisis. There are other models for reforming our banking system in terms of retail banking on the ground that supports the local economy. I encourage us to look as far and widely as we can.

We need two things: a much more competitive retail banking sector with many more new entrants and a regulatory structure that encourages rather than hinders new entrants. After the glad, confident dawn of new entrants to the banking sector in recent years, I was depressed to see that a number of them had floundered against reportedly impossible regulatory barriers. It is shutting the stable door after the horse has bolted. What we need now are new banks. Cambridge Bank is one, and there are numerous other excellent local initiatives. We should do whatever we can to encourage local entrepreneurs to set up new banks.

Finally, alternative sources of finance are important for our innovation sector. In my 15 years of starting more than 20 companies, the banks never came in and invested in risky ventures in the first five years. They needed to see positive cash flow and revenues, and they always wanted all their risks covered. The innovation sector relies on a much broader group of people who should be promoted, celebrated and encouraged. Angel investors put their personal wealth into extremely high-risk ventures. Their return is often more personal wealth, but I argue that if the reward is balanced to the risk, it is all to the good and should be encouraged. Venture capital trusts have put substantial funds to work in less risky but still emerging ventures. Corporate venture funds are coming into the UK, and there is good news in the sector. In the past six months, we in the life sciences sector have raised more than £1 billion. International money is coming to the UK, not through banks but through new investment vehicles.

More locally, I highlight the importance of credit unions, mutuals and innovative microfinance schemes such as the excellent Kiva, which I commend to you, Mr Davies, when you are next browsing the internet. It is a powerful global microfinance network providing debt finance to small ventures in the emerging world. A lot of money in this country sits in our banks earning very little, and it could be put to use supporting small ventures. Particularly in the localities with which people are affiliated, such as counties, towns or urban neighbourhoods, we may be able to consider unlocking money from personal bank accounts to provide £500 or £1,000 microfinance loans to support small companies. We need an innovative, entrepreneurial and early-stage company financing sector, and we need to reform our banks to allow one.