The Magazine

City Under Siege

The European Union’s coming attack on the Anglo-Saxon financial sector

Jul 1, 2013, Vol. 18, No. 40 • By ANDREW STUTTAFORD
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Take a visit to the cyber-belly of the beast, to a website run by the European Commission, the EU’s bureaucratic core, and you will be told that “the financial sector was a major cause of the [economic] crisis and received substantial government support.” Soon it will be payback time, in the form of Europe’s new Financial Transaction Tax (FTT), set to be levied at a rate of 0.1 percent on equity and debt transactions, and 0.01 percent on trades in derivatives. It will ensure that the financial sector “makes a fair and substantial contribution to public finances.”

Oi, Brussels: Sod off.

Oi, Brussels: Sod off.


We’ll see. This new “contribution,” potentially much more onerous than those fragments of a percent suggest, may or may not be substantial (taxes of this type have a record of backfiring), but the revenues predicted by the commission ($45 billion or so, but the math is fuzzy) could be eclipsed by the punch that the tax delivers to economic growth.

Whether the FTT is “fair” is fuzzier still. That’s because the real objectives of the tax​—​to be introduced by 11 eurozone countries in 2014​—​have little to do with that. To start with, the FTT is about​—​dread word​—​the narrative. Problems within the banks were the immediate cause of the crisis​—​it’s not called the financial crisis for nothing​—​but working out what caused those problems is a messier matter altogether. The number of plausible suspects rivals the haul on Agatha Christie’s Orient Express. Prominent among them is something for which the commission bears a great deal of responsibility​—​the euro, a reckless, politically driven piece of financial engineering that has outdone the worst of Wall Street’s mad science. With the single currency still the focus of potentially dangerous debate, it makes sense to keep attention focused on fat cat bankers and away from Brussels’s more discreet architects of financial destruction. Similar thinking helps explain why​—​when the euro’s troubles grew too big to ignore​—​there was so much talk of dodgy markets and dark Anglo-Saxon plotting.

Sadly, in a way, not all of this was​—​or is​—​deliberate disinformation. Much of continental Europe’s leadership class​—​across the political spectrum​—​distrusts “financial capitalism” of the Anglo-American kind, a venerable suspicion that appeared to have been vindicated by the fiascos of 2008. Why there is this distrust is a topic for another time​—​Roman Catholicism, socialism, and the twists of history have all played their parts​—​but that it exists is undeniable. The idea that free markets are the least bad way of allocating resources has limited appeal in a political culture still in thrall to the notion that some authority somewhere knows best, a belief that remains the essence of what the EU stands for. This is more than a matter of philosophical disagreement. So far as Brussels is concerned, Anglo-Saxon finance is not just objectionable, it’s in the way.

The euro was an attempt to override the market. A nation’s currency is a measure of its relative economic performance. If its value falls that’s a signal to investors and, in time, a chance to restore international competitiveness. By abandoning marks, francs, lire, and all the rest, the creators of the currency union junked a useful economic tool, replacing the collective sense of the market with crude administrative fiat. France was Germany was Portugal, and that was that.

As millions of jobless Europeans know, the market bit back. But the instinct of those managing the currency union was not to revert to market discipline, but to move farther away from it. There were bans on the short-selling of certain securities, attacks on credit ratings agencies that were at last telling some inconvenient truths, and, crucially, a vow by European Central Bank president Mario Draghi to do “whatever it takes” to save the euro, a declaration buttressed by the prospect of significant intervention in the sovereign bond market. Markets are far from perfect, and some of what has been done can be justified on pragmatic grounds, but it’s not difficult to notice the direction of a broader ideological current, one that is not good news for the City​—​London’s Wall Street​—​or, indeed, American financial firms interested in European business.

That current is sweeping an increasingly burdensome, increasingly made-in-Brussels regulatory regime, expensive and rigid, into the City and beyond. Much of it is profoundly antithetical to the intuitive, principles-based, flexible, and often self-regulatory approach that has done so much to transform Britain’s financial sector into a world-beating business. That some of these rules​—​such as the new Alternative Investment Fund Managers Directive​—​will (effectively) weigh even more heavily on enterprises headquartered outside the EU is bound to damage London’s status as a global financial entrepôt, diverting business beyond the reach of Brussels.

The commission doesn’t appear to be particularly concerned where that business goes. In fact, it would probably like much of it to go away altogether. Many of Britain’s continental partners agree. And jealousy is only a part of it. The inherently unruly (markets are like that) and, to them, morally suspect financial sector is an obstacle to the ideal of a technocratic, tightly controlled Europe. Meanwhile the “island sewer” (to quote a deputy director of the supposedly serious El País, Spain’s highest-circulation newspaper) acts as a low-tax, lucrative lure for some of the continent’s best and brightest: some 300,000 to 400,000 French citizens now live in the U.K., mainly in London. Perhaps most annoyingly of all, financial services’ large contribution to the U.K.’s ramshackle economy (directly and indirectly perhaps at least 14 percent of GDP, and a badly needed export earner) helps fund Britain’s fondness for going its own way, an independent-mindedness that its European partners could do without.

But if the pie is to be smaller, that doesn’t mean that those partners don’t want a larger slice of it. National rivalries still flourish beneath that shared EU flag. The mechanism of “ever closer union” is not infrequently used by one member-state against another. It is, of course, only a coincidence that the (Frankfurt-based) European Central Bank is seeking to introduce rules that would force the relocation of clearing houses that handle euro-denominated instruments (in any significant quantity) out of London into the eurozone, to Paris, say, or, uh, Frankfurt. The U.K. is suing to prevent this, but if the currency union deepens, or banking union comes into being, there will be more of the same to come.

Taken as a whole, Europe’s financial sector will shrink further​—​even after the bloodletting of the last few years. London, as its hub, is bearing, and will continue to bear, the brunt. Jobs in the City have fallen by roughly a third and now stand at a 20-year low. In part this is natural, the product both of hard times and the necessary reconnection of the financial sector to economic reality. In part too it’s a matter of mathematics. Tougher capital requirements and more restrictive limitations on leverage (and, possibly, areas of business) are a reasonable response to some of the disasters of recent years, but they will make much of the banking sector less profitable than in the mirage years, and that’s before we begin to factor in the costs of Brussels’s wider regulatory onslaught.

The FTT adds both further insult and injury. The belated realization that the tax may be even more destructive than its supporters intended (the governor of the Bank of France has warned of the damage it could do to the French financial sector) may mean that it will be diluted prior to its planned introduction, but two key features​—​some targeting of trading volumes and extraterritoriality​—​will remain, and both will hurt London disproportionately. The extraterritoriality is particularly galling. A trade will bear the tax even if only one counterparty is in the FTT-zone, and so will a transaction where both counterparties are outside the FTT-zone (in London and New York, say) but trading a security (a Peugeot share, for example) where the issuer is based within it. The U.K. and the United States will be acting as the collectors of a tax that hurts one of their key industries​—​and they won’t get a penny for their pains.

As if all that were not enough, the intervention of Europe’s reliably authoritarian parliament means that new caps on bonuses have recently been approved. The bonuses of bankers classified as “material risk-takers” (including anyone who earns over $660,000 a year) will be capped at one times salary, or two times with the approval of a supermajority of shareholders​—​an arbitrary diktat at odds with more subtly designed measures preferred by the U.K. The possibility that similar limits may be imposed on asset management firms (a group that received no bailouts from the European taxpayer) gave the lie to the never convincing argument that these changes are about risk control. Rather, like the Swiss referendum in March that also imposed restrictions on executive pay, they are both an exercise in collective punishment and a manifestation of the neo-egalitarianism growing on either side of the Atlantic. There is something else at play. Members of the European parliament see themselves as the continent’s elite (check out the deeply discounted tax rates that most of them pay), the vanguard of a new Europe. Earning so much less than those arrogant, unnecessary bankers maddens them: The chance to put a brake on financial sector pay is difficult to resist. 


That’s more bad news for the City. The cap will​—​surprise​—​hit London hardest (that’s where most of the EU’s “material risk-takers” are to be found) and will make it a less hospitable place for the type of international business that could just as easily be located in New York, Hong Kong, or Zurich. Not only that, mandating less flexible wage structures will discourage hiring, the last thing that London needs now. And if these changes do end up crimping total compensation, that will be a blow to Britain’s cash-strapped treasury, long accustomed to raking in a good bit of that income, among other large “contributions” (to use that fashionable word) from the financial sector.

And so British prime minister David Cameron finds himself in another European swamp. All he can do about the FTT’s extraterritorial reach is protest (the United States is also objecting) and maintain a fingers-crossed legal challenge. He could (very) arguably have vetoed the bonus cap under the Luxembourg compromise, a severely eroded understanding dating to 1966, which might still permit a veto in defense of a vital national interest even where no veto power formally exists. That would have been a long shot, but Cameron didn’t even attempt it. Going to the mat “against Brussels” in defense of bankers’ bonuses would have played no better in euroskeptic Britain than anywhere else.

But one important, and generally Conservative, section of the electorate might have supported him. Traditionally nervous about political uncertainty and understandably wary about being cut off from European markets, the City’s grandees have long endorsed​—​if on occasion through gritted teeth​—​British membership in the EU. That’s not going to change quite yet, but some of them must be beginning to see that staying in an EU fixed on its current course could well be riskier than taking their chances outside. Whatever he is now claiming, Cameron is not going to be able to nudge the EU in a different direction, and he does not have the imagination to see that Britain would be better off out. Sooner or later, the City will have to confront the fact that if the EU is the problem, Cameron is not the answer.

A sign that it may be starting to was a high-profile event hosted last month by London hedge funder Crispin Odey and designed to introduce Nigel Farage, the leader of the uncompromisingly Euroskeptic U.K. Independence party, and a former City trader himself, to financial types. A long-term and generous, if sometimes critical, member of the Conservative party, Odey has not switched his support to UKIP, but this looked a lot like a warning shot.

Cameron would do well to pay attention. The 3 percent scored by UKIP (which up until now has principally drawn its support from the right) in the 2010 general election cost his Tories their chance of an absolute majority. UKIP is now polling in the mid-teens or higher, a feat it has managed on a shoestring. If UKIP can begin to attract City money, and the credibility that can come with it .  .  .

It’s not easy being David Cameron.

Andrew Stuttaford works in the international financial markets and writes frequently about cultural and political issues.

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