Good afternoon. Thank you for inviting me. This is one of the last speeches I will give before I become the warm-up act for Prince Harry, who’s visiting the week after next. So I aim to make the most of it.
In my remarks this afternoon I would like to touch on three themes. Firstly, the UK’s efforts to revive our economy following the financial crisis. Secondly, the reforms to financial services we are putting in place. And thirdly, our approach to the forthcoming trade negotiations between the US and the EU.
But first, let me set the scene.
Five years ago today, Bear Stearns had not long since collapsed. Lehman Brothers was still, apparently, going strong—as was Iceland.
Tarp was something to pitch your tent on. Blue Monday was a New Wave pop song, and bailout was what you did on a parachute jump.
As all of us in this room know only too well, the ensuing financial storm of 2008 and 2009 produced dramatic contractions in credit, output and, most tragically of all, employment.
Then, three years ago this week, the downgrade of Greece’s government bonds marked the opening of the second phase of the crisis. Recent events in Cyprus, precipitated in part by exposure to Greek debt, remind us that the global economy is still volatile.
That catalogue of related, highly negative events has deeply affected all developed economies, including the United States. The UK was by no means alone in its need to take urgent corrective action. Let me set out why, specifically, the UK government had to act.
Firstly, deficit and debt. In 2008 we were forecast to have the largest government deficit in the G20. That deficit did not arise because of the financial crisis. It was built up long before then, when the economy was booming, because people assumed it would continue to boom and money was cheap. To service the resulting debt, we were paying more in interest than we were spending on defence or education.
Secondly, our financial services sector, whilst not as large proportionately as those of our neighbours Ireland and Iceland, was five hundred percent of GDP in asset terms in 2008.
As we have seen repeatedly elsewhere, risks in the banking sector can threaten Sovereign creditworthiness by raising the prospect of increased government borrowing to pay for bailouts if things go wrong. In the UK, this risk is much smaller now, because the financial sector is smaller in proportion to the economy, and because we are taking the corrective measures I will discuss. But its impact has underlined the need for financial reform as well as measures to address the deficit and debt directly.
Thirdly, domestic energy prices have been particularly sensitive to spikes in global oil and gas prices, which has held down disposable income, growth and spending.
Finally, of course, as a trading economy in close proximity to the eurozone, we are living under what Mervyn King has called the “black cloud of uncertainty” drifting over from the Continent. Exports to the rest of the EU are about 13% of UK GDP, compared to less than 3% for the US.
Put another way, trade with the EU amounts to half our foreign trade.
UK fiscal plans
When the coalition government came to power in 2010, it soon realized that the UK would have to act quickly to reduce the deficit, restore confidence and avoid spiraling interest rates, even bigger debts and even greater vulnerability to future economic shocks.
There has been no sovereign debt crisis. On the contrary, in part at least because of the government’s credible fiscal plan, the UK has become a relative safe haven, attracting demand for our bonds that has brought interest rates down and held them down. In the spring of 2010, ten-year yields on the UK’s bonds were at 4%. Today, they are less than half that.
The Moody’s downgrade in late February and similar action by Fitch last week were disappointing, of course. But Moody’s was careful to observe that, by international standards, “the UK’s creditworthiness remains extremely high,” pointing specifically to the UK’s “strong track record of fiscal consolidation” and “political commitment” to that consolidation.
Britain has taken some very tough fiscal decisions, not all of which have been popular, to put it mildly. But contrary to what some would have you believe, the UK’s plan is not just about cuts or deficit reduction. It is balanced by a range of complementary measures.
That means we are pouring billions into critical infrastructure like roads, science labs, schools and broadband internet.
It means we are investing to get universities and industry working together to discover, design, develop and commercialize advanced products in the sectors where Britain is particularly strong, like automotive manufacturing, aerospace and life sciences.
It means we are forming partnerships between government and industry in these priority sectors, like the new Aerospace Technology Institute, half of whose initial budget of over $3 billion will come from the private sector.
At the same time, we are working to ensure that low interest rates are passed on to businesses and consumers by establishing a Funding for Lending scheme under which the rates charged to the banks are tied to the amount they lend out to the real economy. As a result, some mortgage rates are at their lowest for five years.
This week the scheme has been expanded, extending the period to which it applies and strengthening the incentives to lend to small and medium-sized enterprises.
One of the UK’s key selling points is the flexibility of our labour market. The World Economic Forum already ranks the UK fifth in the world for labour market efficiency. We are seeking to improve still further by sharpening incentives for employment.
We are creating the most competitive business tax regime of any major economy. Our main rate of corporation tax is already the lowest in the G7, and from 2015 will be the lowest in the G20 at 20%. To encourage the kind of innovation British companies do so well, we have carved out a special 10% rate for profits from patents.
Finally, as the Bank of England’s Governor Mervyn King has often pointed out, the UK has a very sensitive system of automatic stabilizers, in the form of the welfare state and the tax system, that allows government spending to adjust automatically to economic conditions. That means that, compared to some other countries, our fiscal policy has more built-in flexibility to support the economy when necessary. These stabilizers work in tandem with fiscal consolidation and the other measures the government is taking.
What are the results?
We are still waiting for a sustained recovery. But, to deploy a phrase I learned from March Madness, the fundamentals are solid.
The deficit has gone down by a third over the past three years from its peak of 12% in 2009. Our structural deficit is on track to become a surplus by fiscal year 2016.
We have shed just over 350,000 public sector jobs since 2010; but in the same period over 1.2 million have been created in the private sector. As a result, employment has already surpassed its pre-crisis peak.
The value of British exports has risen about 10% since 2010, despite continued uncertainty in the eurozone.
Today’s preliminary first quarter growth estimate is, as the Chancellor has said, “an encouraging sign that the economy is healing.” Our economy is still forecast to avoid another recession, and to gather steam gradually over the next few years.
It is taking time, and I can understand that some may feel frustrated with the pace. But we must make sure that growth is sustainable, and avoid the temptation to inflate another debt-fuelled bubble of the sort that burst in 2008.
The stage is set for Britain’s recovery. If you want a symbol of this, look no further than the magnificent new corporate hub Bloomberg is constructing in the heart of the City of London.
Reforming financial services
The last few years have shown, painfully, that prior to the crisis the UK lacked a system of financial regulation that managed risks adequately and contained reckless lending. Our entire system almost collapsed as a result. That must not happen again.
Equally, however, the industry remains a large chunk of our economy and, even more importantly, is vital to growth in every industry and the health of the economy at large. A vibrant British financial sector is a great boon not just to the UK but to the rest of Europe, and indeed the United States too.
In reforming our financial rules, therefore, we must strike a delicate balance. Customers must be protected from bubbles, from undue risk and from the moral hazard and burden on the taxpayer that comes with guaranteed bailouts. But we must also preserve the dynamism and innovation that characterize the UK financial sector’s unique global appeal.
Regulation and growth are not mutually exclusive extremes. On the contrary, sensible regulations produce safety and soundness that generate confidence, competition and dynamism.
Our reforms fall into three categories.
Firstly, establishing adequate capital cushions. In the UK we are going further than many other countries by securing the right to require our biggest institutions to hold even more capital than required under Basel III.
Secondly, improving the quality of the regulatory institutions overseeing individual firms and the system at large. The crisis showed, in dramatic fashion, that what matters is not just the conduct of individual companies. The complex linkages between them, the overall levels of risk in the system as a whole, are also critically important.
In other words, we need a regulator with an overview of the system that will have the knowledge, authority and incentive to take swift action against emerging risks.
With its role in monetary policy and as the lender of last resort, our independent central bank was the natural choice.
So, on the first of this month, the Bank of England took over the functions of both macro and micro prudential regulator.
Thirdly, better regulating the structure of banks and their behaviour. To protect customers and tax-payers, the government has accepted in full the recommendations of the independent Vickers Commission, and is legislating to implement them.
Under the new rules, retail banks will be legally separated from other banks and will have higher capital requirements—a 10% ratio, as opposed to the 7% mandated by Basel. Depositors will have priority over other creditors in bankruptcy. And there will be a power to bail-in private investors so that they, not consumers or taxpayers, bear the losses, as in any normal industry.
We will apply a levy on bank debts, to discourage the over-reliance on short-term sources of funding that characterized the run-up to the crisis.
As recommended by the Wheatley Review, we will ensure that LIBOR is fit for purpose by handing over its administration to an independent body and creating a tough sanctions regime to enforce it. And we hope our counterparts in the EU will take equivalent steps to address similar difficulties with the EURIBOR benchmark.
Of course, the UK is not alone in reviewing its financial regulation. Many developed economies are doing the same. To avoid creating confusion or stifling the industry, we must make sure that our respective regulations are coherent. We are actively encouraging our G20 partners to adopt procedures that achieve this by, for example, agreeing not to apply two sets of rules to transactions taking place across national frontiers.
Addressing the euro’s current instability will restore broader market confidence and provide significant benefits to financial markets with a broad international focus, not least those of the US and UK. And a well-designed banking union could help avoid bank failure from having a major economic impact of the kind we are seeing in Cyprus.
But the UK is not a member of the single currency, and will not join any time soon. So the UK has opted out of the Banking Union. We have also secured voting changes in the European Banking Authority, the body that coordinates national regulators, to ensure that the interests and views of non-Banking Union members like the UK will be taken into account in its decisions.
This is fully consistent with the aim of a broad European single market that interacts with the rest of the world.
This is a good example of the sort of flexibility we want to see more of in Member States’ relations with the European Union.
A lot has been written recently about the UK’s relationship with the EU, and regrettably much of it has been wide of the mark. So I would like to say a little about that relationship.
In January the Prime Minister set out his vision of an EU that is more competitive, more flexible, more accountable and more responsive to the needs and wishes of its citizens. It involves completing the Single Market, giving national parliaments a bigger role in decision-making, allowing member states some measure of choice as to which aspects of the EU they adopt, and being willing to see powers flow back from the centre to the member states where that is appropriate.
This is not just a British idea, but one that would benefit the whole EU. It is a sentiment that is shared by other European governments, sometimes publicly, sometimes less so.
This is, emphatically, not a blueprint for departure. It is a strategy for keeping the UK in the EU. Because simply ignoring the gap between the EU and its citizens would make exit more likely, not less.
Britain wants to stay in the EU, and to continue to play a leading role within it. That leadership has internal aspects, such as becoming the first country to look systematically at the balance of competence between Brussels and member state governments.
It also has external aspects. We play a leading role on issues like energy, climate change, and foreign and development policy.
We are also at the forefront of the EU’s efforts to promote free trade. The EU is now negotiating eleven free trade agreements, including, as announced at the end of last month, with Japan.
The biggest prize of all, though, will be the one President Obama committed to in the State of the Union: the Transatlantic Trade and Investment Partnership between the EU and the United States.
Transatlantic Trade and Investment Partnership (TTIP)
The United States and the European Union are the two biggest economies in the world. Together, they account for around a third of global GDP and 40% of trade. But that doesn’t mean there is no room for further integration.
The sheer size of the two economies and amount trade between them means that TTIP will be unprecedented in its scale. It should also be unprecedented in its scope and ambition.
Tariff barriers are already relatively low by international standards, at around 5%. But consider the sheer volume of trade. On an average day, $2.7 billion worth of goods and services cross the North Atlantic. A tariff reduction of even a few percentage points would translate into enormous gains.
TTIP will be about trade in services as well as goods. Reducing the barriers—for example, by recognizing each other’s professional qualifications—will bring down the cost of these services and boost the economy. This is true not just of the services sector itself, but of manufacturing, too. Services such as design, maintenance and support are increasingly bound up in the advanced products we manufacture.
There are also huge gains to be found in negotiating toward coordinated regulatory standards for emerging industries like IT and biotech, and toward more regulatory coherence in sectors such as financial services. Put simply, firms that have to meet only one standard instead of two can streamline their operations and sell into more markets, enhancing competition and benefiting consumers.
These are just a few examples of the benefits that a bold and comprehensive agreement could bring. Our estimates suggest the net gain to GDP could be in the hundreds of billions. This would be a major step along the path back to growth, and the jobs that come with it. An independent study published in Texas a few weeks ago suggested that Texas alone could gain between 90,000 and 160,000 new jobs.
Can we do it? I believe we can. A quick example. It used to be said that agriculture would be an insurmountable obstacle to any deal. But recently we are hearing less and less of that objection, because within the past year or so the EU and the US have reached agreement on some of the trickiest agricultural issues, such as pork and beef imports. We have even agreed a common standard for certifying organic foods. This is exactly the sort of good faith compromise both sides will need to make in the months ahead.
When it is completed within, we hope, a couple of years, or as the White House likes to say “on one tank of gas,” TTIP will not only boost our economies.
It will modernize and revitalize the transatlantic relationship, which came of age holding fast against Soviet aggression, but which has since evolved into a peacetime partnership based on trade and mutual prosperity.
It will send a powerful message about the transatlantic community’s leadership on free trade.
The agreement itself will set the bar for future trade deals worldwide.
The regulatory standards we set under its auspices will become the standards to which the rest of the world aspires.
And TTIP will provide an example to developing countries that might otherwise be tempted toward protectionism or statism.
These are objectives we can all get behind.
The British government’s approach has been informed by our unique position prior to the financial crisis. In bringing down our deficit and reforming the way our financial sector is regulated, we have sought to put right the mistakes of the past.
At the same time, we are working hard to attract investment and stimulate our economy.
And by vigorously pursuing a transatlantic trade pact, we are seeking to expand trade still further with our number one economic partner, the United States.
As I hope I have shown, these efforts are establishing a platform for sustainable, long-term growth.