Author Archives: Eric De Keuleneer

Step up competition for banks and rating agencies

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Step up competition for banks and rating agencies

Sir, Martin Wolf’s proposals for financial regulation (« Seven habits that finance regulators must acquire« , May 7) is very much to the point, and could be completed by another one that could be called coherence. The market economy is supposed to work best with competition and without subsidies, but the financial sector is incoherent on both criteria, relying on regular state subsidies and lacking openness and competition in some key areas.
Competition could be improved in two major sectors of finance: investment banking and credit rating. Credit rating agencies are an oligopoly because the Securities and Exchange Commission gave a privileged position to three of them, and the Basel Committee gave them an exaggerated role. Let regulators and central banks delete any reference to rating agencies; let them be more responsible themselves for assessing the quality of banking assets; let investors be responsible for the quality of assets they purchase, and if they want to use credit rating services, let them pay for any external advice. The investment banking sector probably also needs some trust-busting. For instance, legal separation of corporate finance and broking would reduce conflicts of interest, insider dealing risks and market power (for instance for the « 7 per cent commissions » initial public offering cartel), and create a welcome evaluation step in the rather uncritical originate-and-distribute model.
The financial sector gets a massive subsidy in the form of a free insurance against systemic risk, since governments and central banks let them take full advantage of the fat profits in the good times and bail them out in the bad times. Since public interest seems to justify public intervention to avoid systemic risk, at the very least let the financial sector pay for this insurance. A kind of Tobin tax on market transactions (inspired by Keynes, like Mr Wolf’s concluding remarks) could have the double advantage of limiting the most speculative transactions and be used to fund a systemic risk insurance scheme; a funding contribution based on banks assets would also be logical; a contribution based on league tables would be both logical and economically sound if one is to believe there could be a perverse relationship between league table rankings and the quality of performance, as a recent study (Bao and Edmans, 2007) suggests.

Eric De Keuleneer,
Solvay Business School,
University of Brussels,
1050 Brussels, Belgium

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I think the letter hereunder is a good example of the mechanics of the” battle for hearts and minds”. Of course it is impossible to indicate that Tim Congdon who wrote it, and is apparently respected as an academic in London, is part of a banking lobbying. But his discourse is claiming to aim at the general interest, and is prima facie convincing, although there are some fundamental flaws with it, in this case the definition of the Lender Of Last Resort (which for him is pretty close to a notion of bailing out at any cost). Some of his claims seem almost comical, of course with hindsight. Still, this was a few months before Lehman…

UK banks act as subsidisers of the welfare state

Sir, Was I your only reader to be struck by the discrepancy between your “UK bank losses will hit tax bill and public purse” (May 12) and the main letter in your correspondence section on the same day headed “Step up competition for banks and rating agencies”?
According to your news report, the UK’s banking, finance and insurance sectors paid corporation tax in 2005-06 of £11.6bn, about a quarter of the total. The figure is impressive, because the financial sectors certainly do not account for a quarter of employment.
On the face of it these sectors make a disproportionately large contribution to tax revenues. But in his letter Eric De Keuleneer, taking his cue from Martin Wolf (May 7), claims that finance relies on “regular state subsidies”, because – in his words – it receives “a massive subsidy in the form of free insurance against systemic risk”. He apparently believes that governments and central banks “bail [the banks] out in the bad times”.
What is Prof De Keuleneer talking about? If he is referring to a central bank loan to illiquid commercial banks on lender-of-last-resort terms, he is simply wrong. A loan of that kind is at a penalty rate and must be repaid.
To the extent that it is not repaid and the borrowing bank has a capital deficiency, the shareholders suffer a loss and are not bailed out. But what otherwise can he mean by “regular state subsidies”?
The exposure of banks’ shareholders to market forces has been demonstrated rather conclusively in recent months by the rights issues announced by the Royal Bank of Scotland, HBOS and Bradford & Bingley, as well as by the government’s apparent determination to steal Northern Rock from its shareholders even if its lender-of-last-resort loan is repaid in full.
The truth is that our banking and financial industries are very large subsidisers of the British welfare state. Indeed, the corporation tax payments are only part of the story. It should also be remembered that the highly-paid individuals who work in the City of London also make substantial income tax payments, with their share of total income tax revenues again being out of all proportion to their numbers.
These individuals and their employers may or may not want to remain indefinitely in our country. Much will depend on the regulatory and fiscal regimes they confront in future.

Tim Congdon,
Huntley Manor,
Huntley, Gloucs GL19 3HQ, UK

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Investments and competitive environment

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Les centrales nucléaires belges ont depuis 20 ans représenté une charge pour l’économie belge.  Elles pourraient, comme cela avait été prévu et promis, représenter maintenant un atout pour l’économie belge si les conventions sont respectées.

La production des centrales nucléaires belges représente environ 60 % de la production d’électricité en Belgique (en incluant la part des stations de pompage  qui fonctionnent à l’électricité nucléaire).  Les investissements très élevés des centrales ont été amortis en 20 ans, alors que dès le début il avait été prévu de les faire fonctionner beaucoup plus longtemps.  Durant toute cette période, les tarifs d’électricité étaient conçus dans un système où tous les frais étaient reportés à charge des consommateurs, et donc c’est bien eux et pas les actionnaires d’Electrabel qui ont supporté le coût de ces amortissements accélérés, et le handicap d’un prix de 15 à 30 % supérieur à ceux des pays voisins.

Les entreprises  (et surtout les PME) en ont souffert en terme de compétitivité, les particuliers en terme de pouvoir d’achat.  Cette politique était présentée par Electrabel et le Comité de Contrôle comme étant une politique prudente, qui permettait d’envisager des baisses progressives de prix dès la fin des années 90.  Ces baisses de prix n’ont pas eu lieu, les prix pour particuliers viennent seulement (en 2005-2006) de se rapprocher des prix des pays voisins, surtout parce que ceux-ci ont grimpé sous l’effet de la hausse des prix du gaz. Les prix d’électricité pour les entreprises ont même augmenté en Belgique, sous prétexte de la hausse des prix du gaz, alors que les 60 % de production nucléaire n’y sont absolument pas sensibles et que le solde de la production est largement lié au prix (nettement plus faible et plus stable) du charbon, parce que produit au départ de charbon, ou au départ de gaz indexé sur le charbon.

Les centrales nucléaires, qui devraient constituer un avantage pour l’économie belge, sont donc devenues une rente nucléaire de production pour Electrabel.

Cette rente nucléaire de production rend improbable aujourd’hui les nouveaux investissements nécessaires, impossible aussi l’ouverture de marché, aucun concurrent n’osant attaquer en Belgique un producteur dominant ayant des coûts aussi faibles, et les capacités de transport pour importations étant insuffisantes.

Des mécanismes existent pour permettre de répartir cette rente nucléaire de production auprès des consommateurs (particuliers et entreprises) qui l’ont rendue possible.  Ces mécanismes dits de « stranded benefit » ou « bénéfices échoués » seraient identiques aux mécanismes de financement des obligations de services publics (OSP) et autres « stranded cost » mis en place par le secteur pour éviter de supporter certains coûts, répartis sur les consommateurs. La mise en place de tels mécanismes serait strictement conforme aux conventions du secteur datant de 1995-1997 (qui lient les partenaires sociaux, les Intercommunales, Electrabel et le Gouvernement) signées à un moment ou le processus de libéralisation était connu et qui prévoient que le système doit être géré en minimisant les coûts et dans l’intérêt général.

Ces conventions étaient conformes à la volonté de toutes les parties à l’époque, et elles renforçaient les avantages et monopoles des opérateurs.  Les mesures de transition vers la libéralisation n’ont jusqu’à présent en rien respecté ces conventions.  Divers coûts du passé (pensions non financées, démantèlement d’outil, financement des communes,…) ont été mis à charge des consommateurs, et les avantages du passé sont jusqu’à présent restés chez Electrabel.

Un mécanisme de « stranded benefit » aurait l’avantage de faire baisser les prix, de rendre une concurrence possible et de stimuler les investissements en capacité de production nouvelle qui sont nécessaires en Belgique et en Europe.

Il est un autre mécanisme très simple pour neutraliser la rente nucléaire de production.  Il ne faut en effet pas oublier qu’en plus du subside privé qu’a constitué l’amortissement accéléré, le nucléaire belge a bénéficié et bénéficie encore de subsides publics considérables.  Le principal est aujourd’hui une limitation de la responsabilité civile en matière d’assurance à 300 millions d’euros par site.  Ce montant est négligeable par rapport au risque de dégâts d’un accident nucléaire.  C’est donc la collectivité et le contribuable qui assurent le risque nucléaire sans coût pour les producteurs.  Une prime prélevée par mégawat/heure nucléaire afin d’alimenter un fonds d’assurance d’accident nucléaire, serait donc tout à fait justifiée.  Cette mesure peut intervenir même en cas de mise en place d’un mécanisme de bénéfices échoués.  Elle pourrait aussi aider à financer des mesures d’économie d’énergie et d’investissements dans des énergies renouvelables.

Le risque d’accident nucléaire sera probablement croissant avec l’âge des centrales, et donc un mécanisme de primes croissantes avec la durée de vie des centrales pourrait être tout à fait logique et offrir une alternative autorégulée et conforme à la logique économique en matière de gestion de fin de carrière des centrales nucléaires.

Finalement, les 5 milliards d’euros qui provisionnent le fonds nucléaire de démantèlement et de retraitement devrait bien sûr être structurés de manière à garantir qu’ils soient toujours disponibles pour son objet à très long terme.  Une structure identique à un fonds de pension serait évidemment la plus logique  et la plus efficace.  Tout comme dans le cas d’un fonds de pension, ces capitaux seraient donc alors disponibles dans tous les cas de figure pour garantir que l’entreprise respecte ses engagements.

Si jamais ces fonds s’avéraient excédentaires par rapport aux besoins, ils pourraient être versés au fonds argenté et ainsi retourner à l’ensemble de la population belge qui les a financés.

Eric De Keuleneer.

Investment bankers have behaved like pyromaniac firemen

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Sir, Your editorial “Bankers are fallible but not replaceable” (January 3) is right to stress the role of Wall Street in the subprime debacle but you may be too optimistic about the effect of regulation on the behaviour of investment banks.

The leveraged buy-out hype in the 1980s and the dotcom bubble in the 1990s showed the tendency of Wall Street bankers to depart from the ethical behaviour on which many of them had once put great emphasis.

When they were shown to have defrauded their clients, the fines were much lower than the fraudulent profits. The feeble measures imposed (not by regulators, but by Eliot Spitzer, the then attorney-general of New York), namely the reinforcement of deficient Chinese walls, fell short of the outright separation of broking and investment banking many people felt necessary.

Regulators still do not intervene much, even though abuses abound in the investment banking world. Allotments of underpriced initial public offerings and soft commissions allow for routine corruption. Aggressive marketing of dubious financial instruments becomes even more suspicious when banks take massive short positions in instruments they sell to clients as being “admittedly very complex but offering great value”.

Investment banks also aggressively promote mergers and acquisitions by telling companies that if they make no acquisitions they risk being downgraded by analysts (for “having no strategy”) and acquired themselves.

Yet the high “success” fee they charge does not usually translate into success for the acquirers – since many studies show that more than 60 per cent of acquisitions seem to fail – or for the market economy – since many acquisitions aim at enhancing pricing power by reducing competition, which is hardly good for a market economy.

You are, of course, right to say that Wall Street and the City of London make a number of bankers very wealthy, which spills into other parts of the economy. But the same can be said of any system of wealth concentration.

The main question is whether this wealth corresponds to value creation or value diversion. The answer to this would shed more light on the question of the real use of Wall Street.

We know by now that ethics do not pay, or not enough, in finance and that investment bankers (like some other professions) make much more money when their creativity is unhindered by ethical consideration.

Should they therefore be more heavily regulated? Some claim this could also limit their creativity, but what would we lose if that was the case?

They claim to have vastly increased the liquidity of financial markets, but we know now this is a fair-weather illusion. They also claim they created instruments that reduced and helped to control risk, but we now know risk was only displaced or hidden.

Like pyromaniac firemen, investment bankers may also be increasing volatility and risk through their support of speculative behaviour in the first place.

They claim they made markets more efficient, yet during the past 30 years financial markets have misallocated huge funds to finance over-consumption by the leisured classes in developing countries, along with hollow internet projects and more recently dubious real estate deals. Hardly a stellar performance in efficiency of fund allocation.

In a nutshell, the improvement in the quality of financial services may not be enough to justify the trebling of the proportion of financial sector revenues in US gross domestic product over the past 30 years, but may instead be the result of the failure – so far – of regulation to compensate for a dramatic lowering of ethical standards in the financial sector.

Eric De Keuleneer
Solvay Business School Free University
of Brussels 1050 Brussels, Belgium