The Great Debate UK

Hypocrisy piled on humbug

The row over bankers‘ pay and honours has presented the depressing spectacle of British public life at its nadir, with hypocrisy piled on humbug.

On the one hand, we hear bankers and their apologists arguing that their rewards are required to keep them from running off to sunnier climes, which prompts a number of questions. First, when bankers claim that they have to be paid a fortune in recognition of the size of the organizations they run, we may well ask: how many banks of this scale are there in the world today? How many are so hungry for skills like those of Britain’s bank bosses that they are willing and able to offer these sorts of rewards?

Three or four, maybe, at most – after all, several of the world’s largest banks are now owned by the Chinese Government, so they are unlikely to want a British boss any time soon, and the others do actually have a full management complement anyway. By definition, the number of vacancies at this level is extremely limited, so the danger of an exodus of top British bankers is much exaggerated.

In any case, does it really matter?

After all, even before the crash, there was quite a lot of sniping at high City payoffs and we were told at the time that the outrageous salaries and bonuses were needed to secure the services of people like (Sir) Fred Goodwin et al – and since then we have had ample opportunity to assess the true value of their high-price expertise.

Is it really being suggested now that the banks collapsed because pre-crisis pay rates were insufficient to attract competent CEO’s?

Or is the argument that, if they had paid less astronomic salaries, the banks would have lost even more money than they actually did in 2008-9?

Hungary: The Greece of Eastern Europe

By Kathleen Brooks. The opinions expressed are her own.

It used to be Greece that was the canary in the coal mine, these days it’s Hungary. The new year got off to a bad start for the Eastern European nation after it experienced a failed bond auction, causing its bond yields to surge.

This caused major jitters across global financial markets and once again a small, relatively unknown economy is dominating the headlines and causing a massive headache for the European authorities.

But while there are many similarities, the reasons for the panic in Hungary’s debt markets are different from Greece’s problems. Athens borrowed too much and public spending spiralled out of control. However, Hungary’s problems were not based on the size of its budget deficit, which was a fairly manageable 4.2 percent of GDP at the end of 2010, but the amount of debt in its public and private sector that was denominated in foreign-currency.

While the post-Communist era in Hungary helped to modernise the state, its capital markets did not keep up to date. Borrowing costs were lower in the euro zone and other parts of Europe where banks were willing to lend relatively cheaply across the Eastern European bloc, especially to Hungary. While the Hungarian forint was strong it was fine to have liabilities in euro and Swiss franc, however, since the start of 2011 the forint has deteriorated at a rapid pace. Since August alone the forint has lost more than 17 percent of its value against the euro.

Here is the problem: when your liabilities are in euro but you earn forint, all of a sudden servicing your debts becomes much more expensive and bad debts start to rise.

That’s where the similarities with Greece start. If bad debts start to rise then Austria and Italy could be on the hook. Austrian banks hold a whopping $40 billion of Hungarian liabilities, while Italian banks have a slightly more manageable $20 billion.

from Breakingviews:

RBS shows watchdogs need power to stop M&A

By Peter Thal Larsen The author is a Retuers Breakingviews columnist. The opinions expressed are his own.

The failure of Royal Bank of Scotland shows bank reform still has some way to go.

The report should dispel any doubts that new Basel III rules make banks safer. Using this measurement of capital, RBS's equity Tier 1 capital ratio at the end of 2007 was around 2 percent -- well below the 7 percent now considered to be an acceptable minimum. Under the new regime, RBS would have been prevented from paying a dividend at any time from 2005 onwards. Its heavy dependence on short-term funding would also now be deemed unacceptable.

However, RBS's collapse was also a failure of supervision. The FSA describes in painful detail how its team of supervisors -- which comprised just six people, compared to 23 today -- did little to challenge the bank's assessment of the risks it faced. That approach reflected the reigning theory of efficient markets and political pressure to maintain a "light-touch" regulatory regime. Both those factors no longer apply. Moreover, UK bank supervision is being transferred to the Bank of England.

What of RBS's management? The public desire for someone to be held accountable won't be appeased by the FSA's decision not to bring charges against executives or board members. Adair Turner, the watchdog's chairman, has called for a debate about how to hold bank directors accountable in future. But the public humiliation suffered by former RBS executives -- particularly Chief Executive Fred Goodwin -- should deter similar gambles for the foreseeable future. Besides, increasing the penalties for bank failure seems at odds with the regulatory drive to make it possible for even big banks to fail without triggering an economic catastrophe.

But when it comes to big bank takeovers, there is a case for further reform. RBS's decision to lead a hostile break-up bid for ABN AMRO in the summer of 2007 was not the only factor behind its collapse, but it made a precarious situation even more fragile, and it was done on the basis of minimal due diligence: according to the FSA, the information made available by ABN AMRO amounted to "two lever arch folders and a CD".

Mansion House Hangover

Last night’s two big Mansion House speeches were impressive when they dealt with the macroeconomy, but depressing (if unsurprising) on the subject of reforming the banks, representing final confirmation of the gloomy conclusion of a blog I posted here in September 2009: It’s All Over – the Banks Have Won.

Of course the banks will squeal – why wouldn’t they? After all, they daren’t be seen cracking open the bubbly.

The Vickers Report apparently never took seriously the only possible remedy for Too Big To Fail, which would be, as I have argued previously and as the Governor of the Bank of England came out publicly as favouring in his Mansion House speech of 2009, to break up the banks, separating investment banking (the “casino”) from the utility (retail deposit-taking etc).

This reform would not be a perfect solution. Even if it resulted in far smaller institutions, it would not necessarily prevent a possible wave of bank failures forcing a taxpayer bailout, if for example the insolvency of a medium-size bank threatened to bring down a string of other lenders in its wake. But

with smaller institutions shorn of their high-risk investment banking subsidiaries, there would be far lower systemic risk and the cost of a bailout if the worst should happen would be very much reduced.

From the outset, this proposal was the thing the banks feared most, far more, I suspect, than easily-bypassed limits on bank bonuses – and in Britain, the banks clearly have the power of veto over any measures they oppose.

Instead, the Government has accepted the Vickers proposal to ring-fence investment banking and other high-risk activities so as to create an artificial separation between the utility and the casino. This would be fine, if there were any way of maintaining the separation, but I remain to be convinced. Indeed, the very fact that the banks have so successfully smothered the break-up proposal at birth suggests to me they will have no difficulty doing the same thing in the not-too-distant future, when the regulatory authorities have to consider more drastic measures to deal with the wheeze the banks have found to get round the firewalls between their deposit-taking and investment banking arms.

How will banks respond to a new world?

-Jeremy Edwards is Head of Banking & Financial Services at Firstsource Solutions. The opinions expressed are his own.-

The recent publication of Sir John Vickers’ International Commission on Banking (ICB) finally gave the banking industry a glimpse of the long-promised change in regulatory regimes following the global financial crisis. The report comes at the same time as a torrent of new regulations and legal changes: the recent High Court ruling on the misselling of payment protection insurance (which is estimated to cost the banks £8 billion), the Treasury report on financial regulation, and the Basel III regulations that will force banks to hold greater liquidity. If adopted, many of these recommendations will create unprecedented change for the banking industry.

Though some of Vickers’ recommendations were less dramatic than expected, all of these changes point in one direction: banks will be faced with increased costs to meet new regulations and will have to operate in a much more competitive market.

One key recommendation of the ICB report is that banks such as Barclays, HSBC and Royal Bank of Scotland, that combine investment and retail banking, will have to maintain a “firewall” between these operations. Since they will no longer be able to cross subsidise their operations, banks will face increasing costs. Similarly, the recommendation that banks maintain 10% of their profits as a capital reserve will have an impact on profitability. Efficiency savings will need to be made if banks are to maintain their margins

By forming strategic partnerships with outsourcing companies, banks can help achieve such efficiency savings. It has been estimated by Accenture that in customer service, collections, and the processing of payments, outsourcers can usually cut a bank’s operating costs by 20 percent. According to the World Retail Banking Report, 77 per cent of retail banks now outsource at least one part of their business.

The ICB recommendation that will have the most immediate impact on the high street is that the retail banking market should be opened up to more competition. For years, there have been calls for more diversity in the market, but so far new entrants such as Metro, NBNK, and Bank of London and the Middle East have failed to threaten the dominance of the major banks. Customers are clearly reluctant to change bank accounts, as last year’s Firstsource/YouGov survey found: Only 3 per cent of adults had changed bank accounts within the previous year, while 77 percent of adults had been with the same bank more than five years.

However, Vicker’s proposal that customers should be able to switch banks and retain the same account number at the touch of a button – as easily as they can migrate from one mobile phone company to another – could result in a more competitive retail banking sector. In particular, removing the logistical complexity of transferring all the direct debits and credits from one account to another would considerably free up the market. The introduction of MAC and PAC codes in the UK mobile phone and broadband sector created healthy competition with mobile companies really focusing on customer satisfaction to avoid high rates of customer turnover or ‘churn’.

Matthew Elderfield on re-shaping Ireland’s regulatory system

Matthew Elderfield, Head of Financial Regulation at the Central Bank of Ireland, will lay out his vision for a new Irish regulatory landscape at a Thomson Reuters Newsmaker on Wednesday 6 April.

‘Ireland: Re-shaping the Regulatory and Banking System’ will be hosted by Reuters’ Jodie Ginsberg, UK and Ireland Editor, and will be streamed live to the Reuters UK website as part of our rolling coverage from 0830 BST.

We’re also giving you the chance to submit a question to be put to Elderfield during the Newsmaker. If you have a question on Ireland’s banking and regulatory set-up, then you can leave it as a comment on this page, via our Twitter feed using the hashtag #askelderfield or on our Facebook page.

The budget must help SMEs to survive and grow

By Bobby Lane, Partner at Shelley Stock Hutter LLP. The opinions expressed are his own.

Everyone in my practice, and no doubt anyone advising the five million UK small and medium-sized enterprises (SMEs), welcomed the Prime Minister’s latest show of support for them at the recent Conservative Party conference.

Yet this “power to SMEs” speech is something we have heard from politicians on all sides of the house in the past. In 2009 when discussing the pre-budget report, Alistair Darling talked about providing “real help when businesses need it most” and “better access to credit”. We are now in 2011, and my clients will confirm they are still waiting.

Declaring war on the “enemies of enterprise” and being on the side of “go-getters” may be rousing rhetoric from our current government. However, my concern is that we have heard it all before and the time for talking has long passed.

Access to finance is, in some instances, harder than ever to obtain — especially if you are starting up. In addition, the cost of employing staff is due to increase in April this year and the full effects of the spending cuts are still on the way. In my view the government has to act quickly, decisively and significantly by introducing hard and fast measures that will assist all SMEs within the UK — both to survive and assist in their growth.

The national insurance contribution holiday that was introduced to assist start-ups in some areas was a step in the right direction, but should be extended to include the whole country. The creation of new enterprise zones may also go some way to provide support to start-ups.

The Enterprise Finance Guarantee (EFG) scheme has received much bad press, but has gone some way to help businesses and should be reviewed further to identify ways of encouraging the banks to lend more under the scheme. With the banks’ credit committees still nervous to lend to any business that does not tick every box and then some, the government could look at increasing the initial size of the guarantee provided from 75 percent to 100 percent and then scale it back to 75 percent over the period of the loan.

from Breakingviews:

Bank CEO pay creeping back to bad old days

By Antony Currie and Margaret Doyle The authors are Reuters Breakingviews columnists. The opinions expressed are their own.

NEW YORK/LONDON -- Compensation for bank chief executives is creeping back to the bad old days. Sure, virtually all of them now pocket a smaller amount each year than they did before the financial crisis. But after a year or two of relative restraint, their boards are starting to favor them over shareholders again.

Brian Moynihan's pay package looks the most egregious: the Bank of America boss took home $10 million despite presiding over a $3.6 billion loss and negative total return of more than 11 percent. Goldman Sachs Chief Executive Lloyd Blankfein raked in 40 percent more than he did in 2009 even though earnings tumbled by the same quantum and total return was a piddling 2.5 percent. And while Barclays' earnings from core operations increased by almost a third, new chief Bob Diamond's 9 million pounds of total comp far outpaced that rate, jumping nine-fold from what he and predecessor John Varley received a year before.

Not all are so out of whack. JPMorgan has a better defense for Jamie Dimon's 20 percent bonus bump: while the stock was essentially flat, the firm's net income jumped by nearly half. Strip out lower credit costs, though, and the bank's core earnings actually dropped by 14 percent.

Others were more mindful of the link between pay, earnings and stock performance. Deutsche Bank boss Joe Ackermann took a pay cut, though only of 6 percent despite earnings falling by more, even after allowing for the accounting hit from buying Postbank. Morgan Stanley returned to profitability, but CEO James Gorman received almost half his 2009 compensation as the stock dipped. Both men also took an outsize share of their company's profits, however.

Gorman received 0.23 percent of income applicable to shareholders and Ackermann 0.27 percent, as much as a third more than rivals. Ken Chenault, over at American Express, trumped them both: his unchanged $20.5 million compensation for 2010 represented a cool 0.5 percent of earnings.

Only UBS and Citi, the biggest crisis losers, exhibited any modesty. Neither Oswald Gruebel nor Vikram Pandit, their respective CEOs, was paid a bonus, despite improved performance. For now, at least, they seem to have learned from the shock to the banking system that shareholders shouldn't play second fiddle to management. Investors elsewhere would do well to take note.

Offshoring remains, it is just less visible

Today we are all used to an international trade in services. When you call up the bank, a contact centre agent in India probably answers the call. When you crash your car and file a claim, the claim form you painstakingly complete is scanned and sent thousands of kilometres away for processing. When you call to find out the next train to Cardiff, it’s not someone in Wales giving you the information you need.

This change in how services are delivered has become a part of everyday life. For many companies – such as banks – it went too far in the past decade. Many banks found that their customers were uncomfortable dealing with an agent in a far-flung location and it soon became a source of competitive advantage to answer calls locally. But those same banks advertising that ‘we answer your calls in the UK’ are all sending their IT systems offshore. The ‘offshoring’ continues, it is just less visible.

The man on the street would say that by sending skilled service-sector jobs to lower-cost economies we are hollowing out our own skills. People don’t start their careers in skilled roles — they graduate up to those jobs through experience. If the lower level clerk roles have all been outsourced offshore then we are storing up big trouble for the future.

That’s the theory of the heart, and perhaps it is what most people would call common sense too. But economists argue the exact opposite; that a country can build wealth in many ways and a UK-based company that is successful because it manufactures products at a low cost in China and customer calls are answered in India, can bring wealth to the wider economy.

But what happens when the risk profile of the countries these major international companies have been working with suddenly changes?

Companies such as Vodafone, Hewlett-Packard, Oracle, and Microsoft all have major facilities in Egypt. When the government there recently pulled out the Internet plug where did all those British Vodafone customer service calls go? Or the Xbox gamers calling for help with their console? Where indeed…

All these major firms will have considered the need for some backup facilities, in case of a technical breakdown in their remote facility, but how many have considered the chances that a government would just turn off the Internet, and even the telephone system?

The silent revolution in banking

By Sanjeev Sinha

Media coverage of the banking industry was once confined to newspapers’ business pages, but has now spilled over to headline coverage. Recently the remuneration of bankers has been treated with even more interest than the salaries of top football players.

Yet while newspaper readers have become familiar with the LIBOR rate and discussions about cash reserves, there has been a long process of banks restructuring operations that has nothing to do with mergers or nationalisation. A behind-the-scenes revolution has been taking place, driven not only by the need for cost saving but, more importantly, to improve efficiency, and enable them to compete in global markets. Increasingly, banks have been looking at outsourcing a wider range of functions as a response to global market challenges.

High street banks have long embraced outsourcing in order to have the freedom to focus on their core business. But the independent expertise of an outsourcer becomes even more valuable when facing competition from new entrants such as Metro, the first new high street bank to be set up for a hundred years, and Tesco and Virgin, companies that grow by using their brand value won in other areas to enter financial services.

According to the World Retail Banking Report 77 percent of retail banks now outsource at least one part of their operating model, from their back office functions such as collections and the processing of payments to IT.  Common industry estimates shows that outsourcing provides clients with 20-40 percent savings, depending on whether processes are located onshore or offshore.

One of the proven benefits of outsourcing is the ability of an outside company to measure operational efficiency and identify areas for improvement. Outsourcers have process improvement experts who can identify ‘pinch-points’ — inefficiencies in the business processes.

In mortgages, for instance, a major outsourcer cuts the processing time for mortgage applications for one client after noticing that the speed of the flow from application to offer was extremely variable, resulting in missed valuation deadlines. On examination, they found that most of the company’s valuations were not being diverted to the most responsive valuers. When the client acted on this feedback, the average valuation turnaround time was reduced from 14 days to 10 days.  This not only enabled the client to increase the mortgage offer uptake through more efficient turnaround time, it also increased mortgage revenues. The client’s Net Promoter Score (NPS) also increased significantly.