Speech by the Financial Secretary to the Treasury.
The UK has benefitted greatly from globalisation.
Globalisation has reinforced London’s position as a truly global market place for financial services.
In other parts of the world, financial centres generate the majority of their revenues from domestic activity. The UK, on the other hand, is a little different.
The UK financial services sector intermediates flows between savers and borrowers across the world. This has been the historic role of London but has grown in the last decade as the global economy grew.
Our thriving banking sector is not restricted by national borders - and indeed flows across national borders have made the sector thrive.
The UK is a world-class centre for banking, insurance, asset management, financial innovation and a hub for international skills and talent.
We’ve seen the direct benefits in employment, wealth and tax revenue from financial services businesses based in the UK.
And we’ve seen the indirect effects of increases in consumption.
Our global financial centre has flourished because of our open markets
Challenges of globalisation
But we have also witnessed the risks posed by globalisation.
Capital flows can have a critical impact on the stability of national and international financial systems
Micro prudential failures in one product, in one market, in one country, can be easily transmitted throughout the international financial system.
And as we’ve seen, the result can be disastrous.
With major financial institutions facing collapse.
The challenge we and the rest of the world now face is how to reform our global financial system in a way that strengthens the global economy, not weakens it, that enhances growth not undermines it, that provides a dividend from globalisation, not a taxpayer bailout.
Some might argue for a retreat from globalisation - by imposing barriers on capital, by regulating to the point where innovation is stifled and ensuring that only the ‘risk free’ businesses and consumers can access funds.
Others see the crisis as an opportunity to attract these flows by offering lower regulatory standards, storing up problems in their domestic markets, and creating instability in the global market place.
One policy response ignores the benefits that global flows can bring; the other sees these flows as entirely beneficial.
What we need is to get the balance right.
As a government, we are committed to London remaining a global financial centre. We see financial services in the UK as a major employer and generator of economic growth, and also of course as an important source of tax revenues.
But this means we have a particular interest in identifying and dealing with the risks posed by globalisation as well as its benefits. We want to lead the way in developing a proportionate regulatory approach which manages these risks without stifling the benefits.
Much of the international response to the crisis has quite rightly focussed on strengthening financial regulation.
But taken in isolation, this is not enough.
It’s important to remember that financial activity, and its regulation, are ultimately set in the context of flows between lenders and borrowers - whether countries, governments, corporations or individuals.
That’s why an essential counterpart to reform of the global financial sector must be action to address major sectoral and international financial and trade imbalances.
This has been a central theme in recent discussions in the G20 and IMF
Last week’s communique from the G20 finance ministers and governors set out steps to address these imbalances, for example, through better co-ordination of national economic and financial policies.
The G20 committed to maintain international cooperation to make sure that it pursues the right mix of national macroeconomic, financial and structural policies.
The IMF will have a critical role in assessing the spill-overs and wider impacts of national policies.
More specifically though, the G20 recognised the importance of moving towards more market determined exchange rate systems refraining from competitive devaluation of currencies. It is vital that the G20 resist all forms of protectionism.
And in the EU, reforms in to economic governance emphasise the importance of effective discipline to constrain those whose behaviour might threaten regional economic stability.
Tackling these imbalances leads to a more stable and sustainable economy and this is good for growth.
In the UK, we’re leading by example.
Financial sector reforms
We’ve lived through a banking crisis, and one is more than enough.
Banking reform is needed.
We support action taken at the G20 - and other global forums - to strengthen the regulations governing financial markets, including the Basel capital and liquidity reforms, increased clearing of OTC derivatives and new standards for compensation practices in the banking sector. Measures that will strengthen stability and resilience.
The UK has fought for high international standards in the G20 and in the EU.
So, for example, high standards that improve the quality and quantity of capital, ensure that banks can survive in periods of stress, reduce the risk of failure, and seek to avoid any call on taxpayers.
The collapse of some of the largest banks in the world, including British banks, revealed how far previous arrangements fell short of these standards. Taxpayers took the hit, at least in the short to medium term. That should not happen again.
We need higher standards and common international standards, to ensure there’s a level playing field.
Consistent rules will be nothing without consistent application.
Regulatory arbitrage will help no-one.
Different standards create tensions.
We see it on remuneration, where with CRD3 the EU has been prepared to move further and faster than the US or the Far East.
This risks creating an uneven playing field and perpetuating the mismatch between the risks and rewards for managers and traders on the one hand and shareholders’ interests on the other which characterised the run-up to the crisis. It highlights the need for more effective mechanisms for the co-ordination and implementation of global agreements.
Moreover, as the financial crisis has demonstrated the transmission mechanisms created by globalisation mean that a problem in one financial centre can ripple through to others directly and indirectly.
Inadequate regulatory and supervisory standards in one country can undermine financial stability in another.
Significant progress has been made through the Basel III process, but there’s still more work to be done.
The G20 will now need to commit to the full and consistent implementation of these new standards across all jurisdictions.
We need to resist pressures to weaken Basel III and we need to promote consistent, full implementation. The Financial Stability Board, which was expanded in 2009 to include all G20 members, will play an important role in ensuring internationally agreed standards are properly implemented going forward.
We need specifically to develop global agreement for dealing with systemically significant firms.
And in Europe we need to ensure that negotiations on the so-called CRD IV capital requirements directive deliver the same result.
The new European financial architecture - harmonised high standards and new Supervisory Authorities - offers an antidote to arbitrage.
Within our single market, member states need to be held to account for complying with common rules, not least because the cost of failure can spill over national boundaries.
We will continue to argue for national flexibility where it is necessary to meet the needs of our sector and, importantly, the needs of our economy.
In the run up to the crisis, economic bubbles, excessive lending and poor risk management threatened the economy.
There was inadequate recognition of how macro economic and financial activities were linked, and no effective action was taken to address the emerging risks.
In the UK, the objective of the new Financial Policy Committee is to change that.
It will be responsible for identifying the economic trends that impact on financial stability; and the financial trends that might endanger our economy.
It will have the power to respond appropriately; the UK is continuing to engage with the international community to develop appropriate macro prudential tools.
Out of the FSA, we will create two new regulators.
The Prudential Regulatory Authority - with responsibility for financial stability. They will have the deep understanding of business models needed to guide prudent supervisory judgements.
And the new Consumer Protection and Markets Authority - which will have a mandate focussed on ‘fair dealing’ and consumer protection.
And the FPC and Bank of England will be informed by and should work to inform the new European Systemic Risk Board, which will identify and warn us of risks in the EU’s financial system.
Innovation, financial services and growth
Let me stress, although I hope it should go without saying, that this does not imply some attempt to regulate all risk away.
But we tread a fine line between protecting ourselves - consumers, taxpayers, businesses - and stifling innovation - trading off growth, jobs and prosperity.
We need to get the balance right.
Not all financial sector activities led us into the crisis - in point of fact it was rather few.
Not all regulation is effective. In Europe, we have argued up against rules that are disproportionate or discriminatory.
Over-regulation - imposing much higher capital requirements, only allowing lending to the very safest borrowers and clamping down on innovation - might deliver high levels of stability; but at the price of putting the brake on lending to businesses and consumers, and might hold back economic recovery.
Our objective must be to create a framework for stable and sustainable markets that allow for the innovation and creativity that creates jobs, and supports economic growth.
The last crisis illustrates that globalisation has its risks.
But the lesson is not that we should try to retreat behind out borders but rather that we have to find better ways of managing the risks.
We shouldn’t pretend that they can be extinguished by putting up the barriers or pulling down the shutters.
Nor can we assume that open markets are entirely benign.
The G20 is a critically important body in responding to these challenges. The UK will continue to work with and through the G20 to develop its role.
And we have an interest in keeping up the pressure for all G20 countries to implement the collective agreements.
But, in parallel and equally important, each of us needs to act to strengthen the resilience of our own economies and financial systems.