Peter Jones: When the figures just don’t add up

BANKs and their behaviour are having an odd effect on my thinking. Normally, I like to think of myself as rational, supportive of liberal but regulated capitalism, and staunch in defence of law and order. But the more I read about banks, the more I imagine the pleasure I’d get from hurling bricks through big windows, ransacking investment bankers’ offices and trashing their Porsches with a very big baseball bat.

I’m not going to do any such thing and I wouldn’t encourage anyone to do so either. But it is getting awfully tempting.

Instead of smashing a few windows, desks, and pot plants, I recommend that we start thinking about breaking up the whole system. I don’t mean capitalism which, for all its many faults, it still better than any alternative economic system. I mean the institutions and financial elite who have corrupted our financial, economic, and political systems.

The Libor fixing scandal is the clinching evidence of just how corrupt the system has become. Libor is a name for interest rates which are widely used as international benchmarks by financial institutions – banks, pension and hedge funds – to set the rates they charge each other.

So, in simple terms, if Fund A borrows money for a week from Bank B, that bank may set the interest rate it charges Fund A as Libor plus 20 basis points (0.2 per cent). If Bank B then manipulates Libor up by even just 1 basis point, it will make extra money. Actually, it will be stealing money from Fund A because the Libor rate will be a fraud.

Libor is meant to be a reflection of market conditions. If risks are high (as they were in the financial crisis), Libor will be high and vice versa. It is also set in a way which was intended to make it immune from the kind of manipulation to which Barclays has now admitted. But it has turned out to be corrupt.

You may think if this only means that banks have been stealing from each other, it hasn’t actually harmed you. Wrong. Because the Libor rates affect the cost of money borrowed by banks which they then lend on to us in the shape of mortgages and other loans, including business loans, we end up paying for the fraud if Libor has been manipulated upwards.

If it has been manipulated downwards, it means some financial companies are getting less than they should be. As pension funds deal in the money markets, they can lose out, meaning that we end up getting less pension than we ought to.

In either case, the trade at the investment arm of the bank involved makes a profit and gets a bonus. We, the poor ordinary punters, wind up paying for his Bollinger and Porsche. Hence my thoughts about the usefulness of baseball bats.

Will an inquiry be the metaphorical equivalent? A collection of academics at Manchester and other universities who have been following the financial crisis think not. A series of papers issued by the Centre for Research on Socio-Cultural Change (Cresc) argue that more radical action is needed.

Already it is evident that this goes way beyond Barclays and Libor. About 20 banks, including our own dear RBS, are being investigated by national authorities in several jurisdictions and the likelihood of widespread market rigging being uncovered is high.

The academics contend that these inquiries are likely to follow the usual British course of pin-pointing a few scapegoats and punishing them. If they are big wealthy names, such as Bob Diamond of Barclays, there may be much public satisfaction and not a little bit of political preening.

But, they say, scapegoating is not enough. The problem is a “structurally rotten system” protected by political elites under which society as a whole is suffering. The total fine levied on Barclays – £290 million – may look huge, but it is equivalent to just 13 days’ worth of profits.

The heart of the argument for protecting financial services is that it is Britain’s economic engine. TheCityUK, the PR arm of financial services, says that in 2010, financial services accounted for 10 per cent of UK GDP, 11 per cent of tax revenues, and directly employed just over 1 million people.

But this is an illusory gain, the CRESC academics contend, and ignores the huge costs it has imposed on taxpayers. During the financial bubble in the early 2000s, they note: “After the bubble burst, the immediate bail-out costs to the taxpayer in 2008-9 were larger than the taxes paid by the whole financial sector in the five years up to 2006-07.

“The finance sector created no new net jobs because in 2007, as in 1992, finance employed just one million.”

Since 2008, they continue, “the Treasury and Bank of England have tried to keep the banks going through a mix of tight fiscal policy (public expenditure cuts) and ultra-loose monetary policy (zero interest rates and quantitative easing). This means austerity for the masses and a system of bank welfarism for the rich.”

It could be added that the working rich of London finance are enriched still further by a para-finance elite of lawyers and accountants busy devising schemes by which they can avoid paying taxes, adding still further to the costs on the rest of us.

The conclusion is clear: it is time for major reform. Here are some of the CRESC prescriptions. Retail banking, on which we depend, has to be completely split from investment banking, which we don’t need and should be shrunk. Bonuses should be severely restricted, particularly the use of compensation ratios which are used to pay investment bankers a proportion of the revenues they earn.

New ownership models such as mutual ownership, which reduce the incentive for banks to engage in risky or corrupt practices because of the high returns demanded by shareholders, should be forced by the government. A financial transaction tax should be introduced, both to raise revenue to pay off the debts created by bank failure, and to reduce the volume of trading activity.

Killing the goose that laid golden eggs? No, because a few got the eggs and everybody else paid for them. Radical reform is needed before a few revolutionaries and a lot of otherwise rational people start thinking about baseball bats.