Anglo-Saxons are under attack again. Apparently every meeting of the European Parliament these days opens with a ritual denunciation of Anglo-Saxon capitalism. France’s appointment of Michel Barnier as internal market Commissioner has sparked talk of a conspiracy to seize control of finance away from London. The Basel Committee wants to prevent undercapitalised banks from paying bonuses.
Meanwhile on the home front,
the City’s size has also come under attack. Bank of England monetary policy committee member David Miles said yesterday that a reduction in the size of the financial services industry would benefit the economy in the longer term, even if it meant some difficult adjustment. He is listed on the Bank’s website as a specialist in the interaction between financial markets and the wider economy. The Bank's head of financial stability, Andrew Haldane, said it would be a price worth paying if some banks fled the UK's toughening regulatory environment.
What is sad is that these attacks, together with the government’s bonus windfall tax, are producing more self-justification than any meaningful reflection on the part of the City. James Barty’s piece in the FT today is a prime example. The hedge fund strategist argues that London will suffer an exodus if the assault continues, adding one more voice to the City’s blackmail chorus.
Ignoring the comedy of a hedge fund complaining about fairness, this view misses the point that there is a reason for the attacks. Those interested in preserving the City’s pre-eminence should take them as a valuable indicator of what needs fixing rather than running away to Geneva. It may bring awkward realisations but ignoring them is the ultimate in short-termism.
What exactly is being criticised? The chief economist at the Centre for European Reform, Katinka Barysch, concluded a few years ago that the whole Anglo-Saxon difference was overdone. She looked at factors such as welfare budget, foreign trade, public spending and union membership and found that the UK was not in fact a world of cut-throat capitalism with no social safety nets, but was rather like the rest of Europe.
Despite that, Anglo-Saxons are now largely blamed for the financial crisis, at least in Europe, so there must be something else. Alistair Darling looked to be on the right trail, when he admitted that his windfall bonus tax was meant to send a signal rather than raise revenue. “It doesn't actually bring in that much. What it does do though is send a clear signal that we need to change behaviour," he told the Commons Treasury committee this week.
Darling is targeting the culture of high pay, which is almost taboo for a British chancellor. He is flouting City and even some academic opinion that bonuses are great management tools and help markets from being too pro-cyclical (for a recent example, follow this link). But this type of research does not tell us whether absolute bonus levels are justified by allocative efficiency gains, or how far management decisions are distorted by very high bonuses. And it certainly doesn’t tell us much about bail-out profiteering.
One senior banker told me that thirty years ago a merchant banker on the golf course could consider himself the financial equal of his friends in other professions, such as barristers, consultant doctors, solicitors and so on. Now a huge gap has opened between them. The standard explanation is a mismatch of supply and demand, but the huge inflow of financial sector employees in recent years makes market failure a more likely explanation.
This is a far bigger threat to Anglo-Saxon capitalism than Darling’s windfall taxes, if City clients and investors tumble to how far the industry is rigged against them.
Meanwhile, the combination of bonuses with recession and bail-out has turned bankers into hate figures. Asked how public trust could be regained, the senior banker above looked genuinely stumped. "Beat's me," he said. A second senior banker, asked the same question, said forgiveness would come quickly if one bank were to offer up this year's bonuses as a gesture of goodwill. Perhaps others would feel obliged to follow.
That sounds like a pipe dream for this year but Darling has at least started to prepare the psychological ground for a change in attitudes to remuneration. The government’s shift away from laissez faire regulation – a cornerstone of Anglo-Saxon capitalism - is a good start that could be followed by changes in pay culture, and everything that flows from that, inside the City.
Many long serving bankers, especially in M&A, claim not to be especially motivated by money, having paid for their Dorset castles many years ago. Instead they work for the thrill of mixing with powerful people, or contributing to great projects and changing the world. Many would dearly love to be considered socially useful (just see Bob Wigley’s personal website) and would probably miss the recognition of their peers far more than their bonuses.
Traders are a bit different, with their own mix of competitive and compulsive behaviour, not to mention odd spending habits.
For both groups, if successful incentives are those that validate people’s self image, ultra-high remuneration probably works as a motivator because it is a measure of status as much as anything else.
Perhaps behavioural experts could help design incentives that work by appealing to that self-image in less damaging ways. In a recent article about Japan's yakuza, John Plender recalled how authorities reacted to an outbreak of organised crime by banning known criminals from golf club membership. It was surprisingly effective and Plender says, tongue in cheek, that we might ban offending bankers from Chelsea flower show and Royal Ascot with the same effect.
The Anglo-Saxon model could be nicely rejuvenated by altering the incentives to reduce the power of the bonus. Negative incentives could include professional disqualification, as with doctors struck off the register, demotions or other markers of professional disgrace. Positive incentives could include recognition through public appointments, professional privileges, decorations and maybe even Chelsea flower show invitations. Add these to a wholesale competition review of the sector and we might get closer to having healthy financial markets again.