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Learning From the Past: Financial Regulation

Posted by James Plaskitt, MP for Warwick and Leamington, at 16:06, Tue 10 March 2009:

In my previous post to HearfromyourMP I set out the three key steps the government has taken to fix the current downturn. A number of people expressed a view that the primary cause of the downturn was a failure to regulate properly. People have asked me “Why didn’t the government tighten up the regulation?”. This is an argument I have heard frequently in recent months, and I’d like to address it directly.

There was a failure of regulation. Of that there can now be no doubt. But it is the failure in international regulation which lies at the root of the economic downturn. To suggest that stronger UK regulation could have prevented the current problems misrepresents the true causes of the economic slowdown.

In America, mortgages were granted to people who never would have qualified for a loan here in the UK. Those loans were then packaged up and resold to other banks in other countries – but because international regulation has been so weak, there was very little scrutiny of these trades.

The principles are simple: in a global economy, money will tend to flow to where regulation is weakest. If we had tightened regulation in London, the investment would simply have gone to Frankfurt or Tokyo or New York. The UK would have suffered the loss of this investment, and because international credit is repackaged and resold to markets all around the world, we would still be in the same position that we are in today. Tighter UK regulation would have made no difference whatsoever. It is just not possible, in a global economy, to take unilateral action in tightening financial regulation.

The international banking system has largely been allowed to operate under a loose system of oversight shaped by bankers, for bankers. There is no enforcement, no legal obligation for compliance, nothing about off-balance sheet debts or liquidity obligations. It’s like having a highway code written by boy-racers and in my view it’s got to be changed.

What is needed is a far more robust international system of financial regulation. The UK has been pushing for just such an agreement for the last decade or so, at dozens of international fora – the G7, the G20, the Doha Round etc. Sadly, these talks came to very little – in the good times, it was very difficult to sell the idea of tougher regulation. But with the benefit of hindsight, all countries must now recognise that a new financial regulation system is urgently needed.

I was on the Parliamentary Committee that did the detailed work in 1999/2000 on legislation to reorganise financial regulation and create the Financial Services Authority. I can recall the fierce criticism voiced by the opposition parties at the time. The Conservatives repeatedly accused the government of ‘over-regulating’. Even Vince Cable complained that “regulation should be done on a light-touch basis”. And as recently as last year, the Conservatives were sticking to their longstanding aim of deregulation. A report on the subject, commissioned and endorsed by George Osborne, boldly declared “In Financial Services we should allow people to buy and sell products that are not regulated if they have signed to do so”.

While others were urging us to regulate less, back in 1999 I was warning that the scale of regulation was lagging behind the scale of international financial operations (read my speech in that debate here: www.tinyurl.com/alcez7).

There are strong lessons to be learnt from this crisis, but we will take no lectures from those who have consistently called for even less regulation!

I have always taken a keen interest in the issue of financial regulation, and have been calling on the government to tighten the financial regulatory system further. I held a Parliamentary debate in November (http://tinyurl.com/6fa7l4), wrote a magazine article (http://tinyurl.com/cougyv) and have tabled many questions to the Chancellor and Prime Minister on the subject.

In my previous post on this site, I mentioned the three key steps the government has taken here in the UK. These steps prevented banking collapse and provided some immediate relief to the economy. But in April we must take a fourth step to tackle the structural inadequacies which lie at the heart of the problem. The G20 summit in London represents the greatest chance in decades to rewrite the old rules on international finance to make sure this cannot happen again. When Gordon Brown met with President Obama last week, they discussed the idea of establishing a global college of supervisors to enforce international regulation. I think this is an idea which could have real potential, and I’m looking forward seeing to the details next month.

So in the run-up to April, I will continue to call on the government to seize this opportunity to push through a lasting change to how international finance is regulated – and I’ll be sure to give an update on the outcome in my next post here. In the meantime, if you need any further information about what action the government is taking to deliver real help to people now, please do get in touch or see my website - www.jamesplaskitt.com.