Plain Person's Guide to British Support For The Economy
I posted a brief note last night about an announcement made in the UK before the markets opened about the measures that are being taken to support the economy.
More details have been made available in Parliament and I continue to be reasonably pleased about about what is being proposed. Nothing can be guaranteed in this situation but, because it is comprehensive and does not only tackle one or two elements, it has every chance to succeed.
The difference between here and the USA is that the government wants to support the banking system, not just buy bad assets.
The massive funds that will be passed to banks to prevent their collapse will be very much like the Swedish model. It will be done in exchange for equity. Temporarily we, the tax payers, will have ownership of part of the City.
The word “Nationalisation” is not being used seriously here. It is mainly a Republican stick to instill fear in the USA. The Government in the UK will leave management of the banks to those who work in the industry - under scrutiny because of the equity interest - and is not itself becoming private bankers to the nation.
As soon as possible, the Government will release that equity back to private shareholders. It is expected that, in time, this will be at a profit to the tax payer.
This part of the package is designed to keep the banks in business. Another part is that, to ensure that funds are available for them to operate, additional billions are being made available to allow lending.
To help this to all filter down to business and the real economy, particularly small enterprises, certain other measures are being taken. These include the requirement to pay bills being reduced from 30 days to 15. This reduces the amount of capital required to be borrowed by these businesses.
Of course, supporting all of this is the co-ordinated announcement across Europe and the USA to reduce interest rates by 0.5%. This makes borrowing and mortgages cheaper for Main Street and businesses. Already a number of banks have announced that this cut will be passed directly to the consumer (the last two rate cuts were not passed on and banks used them to shore up their own financial position).
Executive pay has caused as much anger here as it has in the USA (although we have not seen anything as gross as the Lehman Brothers CEO). I have never been in favour of blanket capping. The approach being adopted is that not only those requiring direct support from government will be scrutinised but all financial institutions requiring government rating (which affects severely their business) will in future include a review, by the Financial Services Agency as a formal part of rating, of their reward systems to ensure that these do not give short-term rewards for short-term risk taking. This allows a case by case approach without artificially removing genuine reward for hard work and long-term achievement.
Although this is a summary, the package does attempt to create a broad solution that takes into account the need to do something about the real economy.
The Icelandic government has renegaded on its promise to secure depositors in its banks. The UK government has undertaken to pay in full UK depositors in these. This is a sensible move to quiet anxieties of ordinary people about their personal financial exposure to High Street banks.
The measures have had all-party support and the issues have been discussed responsibly. The government was criticised for not taking action at the beginning of the week - not least because they wanted a degree of consensus amongst leading financial players, European agreement and international action in terms of rate cuts. They are now generally being seen to have acted well and its has re-established some confidence in how it is responding.
Once again, the Stock Market declined rapidly this morning. The measures announced by the government caused it to rally but it has dropped again on worries about Wall Street. It is not behaving as part of the solution - but when has it?
No measures can guarantee that they will work in this unique and extraordinary situation. There is little left that the UK government can do after this package. Nor will the historically high and unprecedented government funding do much in the short-term to recover the economy. The IMF has just announced that the UK will take a big knock in this regard, although hopes are for signs of recovery at the back end of 2009. Meanwhile there will be pain.
Pain will also be felt because, of course, this money will prevent the government maintaining its current and proposed level of funding of public services. (One good thing. It will accelerate the desire to bring our troops home. We have over 8000 in Afghanistan alone). The UK Deficit has been strictly controlled at 40% of GDP. This target will almost certainly be exceeded. Other European countries are in a worse position.
Really it is now down to the bankers to get the system working again. If they don’t, pitchforks are in order! At the moment the financial systems are in deep freeze. It is essential that they are moved at least into the ‘fridge.
There is still a massive amount to do, not least through the meeting of the G7 in Washington this weekend.
Dammit it, Wall Street is misbehaving and is down at the opening. I hope it comes back and the volatility disappears.
I do feel more optimistic, however. It may take a few days for all of this to flow through and to de-stress the markets. Maybe it will involve another interest cut but the government is right to be concerned about not triggering inflation by this means.