Four separate factors came together to create the perfect storm that was the banking crisis. Two of these, the subprime housing collapse in the US and the haircutting of Greek sovereign debt (another catastrophic EU decision), both of which caused contagion to spread across the global banking system, were factors beyond the control of any British government. The other two, namely the failure of UK banking regulation and the build up of national debt, were. Strictly speaking the size of the national debt and deficit did not cause the recession, but it meant that the Coalition had to spend two years reducing the deficit before they could start reducing unemployment.
There has, I think, been a lot of very muddled thinking over the banking crisis. It’s not the bail-outs that were the problem. The taxpayer will come out of these with nice fat profits (which would have been even bigger at RBS if Gordon Brown had taken convertible loan stock in the first instance, until he knew the full extent of the losses, rather than equity), and both depositors and creditors were protected as well. Only shareholders, which of course include you and me through our pension funds, lost out. The recession was caused by a combination of contagion and regulation failure (as the banks in retrospect pulled in their horns). Many of the measures taken by the Coalition, such as the bail-in procedures and the ‘electrified’ ring fence, appear to be designed to make it easier for banks to go bust rather than less, which means that any future recession will be even greater! Increasing bank equity ratio requirements in the middle of a recession can only make that recession deeper. It is also worth remembering that some of the bank failures, such as Northern Rock and HBoS, had nothing to do with sub-prime; they were just simple cases of over-trading, ie. regulation failure.
One small and rather technical point we could look at however would be to remove limited-liability status from retail bank subsidiaries. As I am sure you know, under company law the creditors of a bankrupt subsidiary company have no recourse to the holding company for restitution. Normally this encourages investment and economic growth, but in the case of retail banks security is more important. Such a change would place the group at first port of call for any bail out instead of the tax-payer, and create a more arms-length relationship preventing the group from treating its retail subsidiary as a cash cow for its rather more dodgy ‘casino’ activities.
But the real problem is the relationship between shareholders and directors, with the former losing money whilst the latter swan about playing ‘masters of the universe’ and paying themselves the earth to boot. The Coalition proposed yet more red tape to hold directors more directly responsible, but I suggest that such an interventionist approach may well backfire and undermine the status of the City. Instead I propose the introduction of Supervisory Boards for all publicly quoted companies (not just the banks), not to put Unions on them like the Germans do, but to comprise the five or six largest shareholders on the register when the meeting is called, together with perhaps a couple of non-execs and the Chairman and Chief Executive, so that the shareholders have the majority. Company law would give these boards authority over capital reconstructions, takeovers and mergers, and over the appointment and remuneration of the directors. Such an approach would enable the principal shareholders to be involved in these key decisions well before resolutions for general meetings are formulated, whereas the Coalition has merely given shareholders a slightly larger rubber stamp than they had before. Such a structural change would reflect the ownership of the company rather than have the government intervening with yet another raft of red tape.
All of which brings us to the subject of executive pay. What I see here is a closed shop, even more so today when everything is done behind closed doors by headhunters. As a capitalist I expect to see an open competitive market. We do not tolerate closed shops from the Unions, so why should we do so from company executives? It is not in the public interest, nor is it conducive to economic growth. Headhunters and directors like to say that there are only a few people who can run these large companies, yet a moment’s observation shows that they are no different to our armed forces, where it has become a cliché to say that you end up with more admirals than there are ships and generals that there are tanks. These large pyramidal organisations all recruit well, train well and promote well, so that you end up with a great tsunami of talent surging up into the little pinnacle at the top with nowhere to go. They also like to say that there would be an exodus of executive talent abroad, but I just don’t buy this in view of the numbers available. Even if we do lose a few bed-blockers abroad, I welcome the emigration!
I realise that recruitment is a risky business, and it is natural for headhunters to want to cover their backsides by limiting their shortlists only to people who have done exactly the same job in exactly the same industry somewhere else before and then just moving them sideways. Obviously you will find only a few who fit that gold-plated requirement, who can and then do ask for any salary they want, setting off a chain of catch-up increases across the industry, but it is a false analysis. Some years ago research in the US compared the performance of CEOs who were doing the job for the first time with those who had been moved sideways by headhunters, and found that almost invariably the first timers did a better job.
The solution is a procedure I call Cheapest Competent Candidate. Recruiters would be forced to dip their toes rather deeper into the pool of talent and produce a minimum shortlist of five names. It could be included into company law as a default that the supervisory board could overturn on a temporary basis if they really wished, and could also provide for the award of discretionary discounts to candidates of up to say 10%. Essentially however the process is then simply to ask the candidates to bid for the job, and to appoint the lowest net bidder, just as you would do with a contractor.