‘The President tells me that too much regulation is harming business,’ Margaret Thatcher said, the moment I walked into her office for my weekly meeting. I had been appointed minister without portfolio some months earlier and the Prime Minister had just returned overnight from her latest summit with Ronald Reagan.
‘You had better believe it,’ was my somewhat flippant reply — and for my pains I found myself minutes later with my own cabinet sub-committee on deregulation. This was the beginning of years of deregulation efforts by successive governments, which gradually faded until today, when all that remains is in the name of the department for ‘Business, Enterprise & Regulatory Reform’, which replaced the DTI.
At the start there was clear evidence that over-regulation cost jobs. Unemployment was endemic and the political priority of the day was the economy. The main thrust of all we did was to restore the primacy of the market, so necessary after decades of post-war central planning. In our rush to deregulate we forgot that there were areas where regulation was still essential, and areas where it was not.
It was clearly essential to reduce employment protection, and that worked wonders. ‘Health and safety’ was much more difficult. Every time we tried a reform, a powerful lobby would arise. In those days you did not argue with men in white coats with clipboards, but we had no idea that over the years their power to interfere would reach the proportions of today, when it governs all aspects of our lives. What we had not foreseen was the arrival of EU regulation, the first successful invasion of our country since 1066. We should have known that if you create a European parliament with no responsibilities and little to do, it would end up devising regulation after regulation.
The area we all focused on was business, both small and large. Small businesses had declined in the postwar decades and we set about removing regulations where we could, reducing taxes and encouraging new firms to start. Before long, we had a healthy small-firms sector that has become the mainstay of the economy. To make larger companies competitive, we looked to encourage competition. That was not universally popular — but many of us had played Monopoly when we were young, a market-based game which ends with winner-takes-all. We knew we had to prevent monopolies, so we streamlined merger control. Then we looked at banking and financial services — and here we succeeded probably too well. We forgot the lessons of just a decade before, when the secondary banking crisis had caused mayhem in financial markets through unrestrained credit.
The biggest single event was Big Bang, the deregulation of the London Stock Exchange in October 1986. Brokers, jobbers and many old City practices were swept away; London was revitalised after decades of decline. City regulation had often been voluntary rather than statutory, and we kept it that way. The Bank of England, in an extremely efficient yet seemingly amateurish manner, regulated the banks. The Stock Exchange was watched over by the Takeover Panel, again a non-statutory body with no apparent teeth but whose every decision was obeyed without question.
This flexibility did not go unnoticed across the Atlantic. As financial markets in London became more competitive, as we became more deregulated and free to innovate, envious eyes were cast our way and the New York banks built up their operations in London. Before long we were challenging New York; and since exchange control had already been abolished, London rapidly became the banking centre for Europe. When the euro came along, even though we kept out of it, we soon became the centre of euro financing.
The American banks, as successful as they were, thought they were labouring under a handicap. After the Crash of ’29, when banks fell over like ninepins, Congress passed the Glass-Steagall Act. This separated deposit-taking banks from investment banks, to keep savings out of the hands of the gamblers on Wall Street. The separation was so rigorously enforced by the Federal Reserve that, for example, a bank could not open a branch in a building which also had an investment bank office in it. But in retrospect, their regulation was concerned far more with form than substance.
In 1987, mutterings for repeal of this Act began in Congress. In the meantime banks found alternative ways to increase their activities. Citigroup invented Structured Investment Vehicles (SIVs) in 1988, a device to enable them to borrow short and lend long — the classic no-no of banking — and keep it off their books. SIVs spread like wildfire through the banking system and at the peak represented over $400 billion of assets, all of which has now had to be repaid or written off.
Subprime mortgages that fuelled the housing boom in the States are nothing more than bad mortgages: either too much advanced to a good borrower or any amount that had been advanced to a bad borrower. That was accompanied by subprime credit cards offering high-interest credit to people who couldn’t pay. Then the investment banks securitised these mortgages and loans to take them off their balance sheets and sold them worldwide, infecting institutions globally with a toxic plague.
Long before then, Congress had repealed Glass-Steagall. When the investment banks had first pushed Congress for repeal, they were being run by corporate financiers, but by the end of the Nineties it was the traders who were running the show. They took one look at the balance sheets of the commercial banks and thought how much leverage they could apply to them — the race was on. As the banks merged, they got larger — and the larger they got the more out of control they became.
Back in the UK, we demutualised the building societies to create more banks. Not one is independent today. Then bank supervision was taken away from the Bank of England and given to the FSA as part of a new system that was meant to be an answer to the collapse of Barings. Unfortunately, everyone who knew about bank supervision stayed with the Bank; the FSA had to recruit new staff and an entire reservoir of knowledge of the banking system was lost.
The system failed at its first test: Northern Rock. The regulators should have picked up the Rock’s excessive use of commercial paper (borrowing short and lending long again) well before it collapsed. Then they bungled it when it did collapse, and created the first run on a bank for 150 years. Many years of inadequate bank supervision, both here and in the United States, has given us the gravest financial crisis since 1929.
Yet despite all this deregulation, we have more red tape clogging our economy than ever before. We have piled regulation upon regulation where it is not needed and relaxed our controls just where it was required.
First, the banks need re-regulating. We need to separate deposit-taking banks from the activities undertaken by investment banks. Then banking will become boring again and we can all sleep easy in our beds. British commercial banks have traditionally funded activities all around the globe and while we should not restrict them too much, today our banks have overseas liabilities of over £3 trillion, far more than our entire gross national product. The taxpayer could be paying off their losses for a generation to come, so the Bank of England should have oversight of their positions and exposures in the future.
Investment banks deal in the main with professional investors and clients, and can look after themselves — although after some of their recent escapades, perhaps even they should be more closely supervised.
If we are to restore our economy, we must free it up from the enormous burden of petty regulations, ma ny emanating from Europe and gold-plated by us. Health and safety has become a whole new industry, taking reasonable precautions to unreasonable lengths: you cannot eliminate all accidents in our lives and it is futile trying to do so. Ministers should summon up their reserves of courage, lighten or even abolish much of the health and safety legislation and face down the criticism that will emanate from special interest groups. The quicker we deal with this, the sooner we will be competitive again.
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