Ambassador's Corner

WEEKLY MESSAGE FROM AMBASSADOR JOHN BRUTON

September 8, 2009

The Challenge for Pittsburgh –

Dealing with Financial Institutions that are too big to fail
Finding a new Model for Economic Growth

Speaking recently at a meeting of the British Bankers Association about the collapse of the Royal Bank of Scotland, with losses of $60 billion in one year, Neelie Kroes, the European Commissioner for Competition policy said:

"This bank was not merely too big to fail, it was:

• Too big to supervise
• Too big to operate
• Too complex to understand and
• Highly dangerous to the European Single Market."

She went on to talk about the problem that can be created when, in order to save the banking system itself from collapse, a Government steps in to prop up a bank, and eventually perhaps has to arrange for it to be sold off to another, better run, bank.

In that process, a bank that was already too big to fail may become even bigger. And being too big too fail, both its own management, and the people dealing with it, will think that even if they are reckless all over again, the Government will have to step in all over again and rescue it, simply because it is so big. That thought will encourage continued imprudence in the way a bank is run.

Big banks have advantages, of course. They can spend more on marketing and on advertising. They can build a brand image. They can operate internationally and they can attract funds from abroad at cheaper rates. Indeed, because they are big and the taxpayer may be seen as implicitly standing behind them, they will get better ratings for their bonds. All of this is more difficult for smaller, but safer, competitors.

Neelie Kroes referred to that problem. In her speech, she spoke of the possibility of "significant divestments" by banks that have had to be rescued by their Governments.

In other words, in order that the rescued banks do not remain too big to fail, they may have to get rid of part of their businesses. Banks in future will have to be smaller, and more numerous, than they are today.

Getting banks that are too big to fail to divest themselves of some of their business will not be easy, especially if the bank is operating in several countries. It may even prove more difficult than reining in top pay levels and increasing capital ratios. But in the long run it may be even more important than either. Governments who attempt to require over-large banks to sell off assets will be accused of interfering in markets. But any action to curb a potential monopoly, or curb the size of an institution that is too big for the national tax base that may eventually have to be used to rescue it, is bound to involve some interference in markets.

There will also be a need to ensure that all banks can be better supervised in future. That will mean simplifying banking. As Jürgen Stark of the European Central Bank said in a speech last week:

"To enhance transparency, we need to reduce the complexity of the financial system, institutions and products."

He also reflected on the possibility that, along with some other sectors of the economy, the banking sector overall may have to become smaller.

He said,

"I would not be surprised if the financial sector, the car industry and the construction sector were to shrink regionally. The economies that will be affected most are those where the financial sector has expanded significantly in the last 20 years.

"If this happens, the countries that have relied heavily for jobs on banking, car production and construction will have to find ways to replace some of those jobs."

They will have to devise, or feel their way towards, a different growth model. That will require new, and different, investments in education. It may also require reductions in wage and other costs to capture new business. It will also require optimism and a willingness to try, to fail and to try again. It will require patience, too. The best decisions are not the ones that bring instant returns. For example, I know that in Ireland the two strategic decisions that did most to create the investment led boom of 1994 to 2000 were taken in 1956 (corporate tax), and 1966 (free education).

There is no point sitting around waiting for the conditions of 2007 to return again. They will never return. As Jurgen Starck put it,

"The growth model of the last 15 years has failed."

It cannot be revived. We will have to find a new one.

That positive proactive goal of funding a new growth model must be pursued alongside efforts to clean up the existing mess. Both have to be done at the same time. That is the challenge awaiting the G-20 leaders as they assemble in Pittsburgh later this month.

The Lisbon Treaty

On 2nd October, Ireland will have a second referendum on the Lisbon Treaty. Since the last referendum, the Irish Government has received legally binding assurances on issues of concern to Irish voters – namely social and ethical issues, taxation (in particular corporate tax rates) and neutrality.

Unless Ireland votes "Yes," both the Lisbon Treaty, and these guarantees, cannot come into force.

All countries must agree for EU Treaties to come into effect or be amended. That is the rule.

The Lisbon Treaty would allow the European Union to be more effective in its decision-making on cross-border crime, terrorism, energy and cross-border health threats. It would allow the EU to conclude treaties on its own behalf and to be more effective generally in dealing with the rest of the world.

Opinion polls suggest that it is far from certain which way Irish voters will vote on 2nd October.

According to a Eurobarometer poll earlier this year, 67% of Irish people think Ireland's membership in the European Union is a good thing and only 9% think it is not. Seventy-nine percent of Irish people think Ireland has benefitted from being in the EU. On these measures, Irish voters are much more favourable to the EU than is the case in most other EU states.

The problem seems to be that only 40% of Irish people say they understand how the EU works, which puts them close to the bottom of the EU rankings on this matter. This is really surprising when one considers that Ireland has been a member of the EU for a long time and has had far more referenda on EU issues than any other EU country. It would appear that the sort of polarised debate that takes place around a "Yes" or "No" referendum question does not necessarily enlighten people about how the EU works on a daily basis.

Interestingly, the countries that come on top in terms of saying that they understand how the EU works are mostly new Member States. In Poland 59%, in Cyprus 58%, in Estonia 57% and in the Netherlands 55% say they know how the EU works. At the other end of the spectrum are Italy and the UK, where only 33% and 37%, respectively, say they understand how the European Union works.

There is a strong correlation between understanding how the EU works and supporting it. It would appear that a major effort in public education on the EU is required in Ireland between now and 2nd October.

What should the European Union be doing?

Eurobarometer has also done an opinion poll late last year (Eurobarometer 70), which asked citizens across all EU countries what sort of decisions should be made at EU, rather than at national, level. The fields where there is greatest support for EU-, rather than national-, level decision-making are

These are areas where EU-level action would be facilitated by the Lisbon Treaty, so the Treaty can thus be said to be responding to public opinion.

There are quite wide and surprising variations among countries as to what they would like to see the EU doing more, or less of, which makes the Eurobarometer polls fascinating reading.

For example, whereas 79% of Luxembourgers would like foreign and defence policy decisions taken at EU level, only 18% of Finns would. Seventy-one percent of Slovenes would like transport policy decided at EU level, but only 44% of Spaniards. Seventy-six percent of Maltese want immigration decided at EU level, as against only 37% of Austrians.

This poll shows that, as EU membership increases, so also does diversity of opinion about what the EU should be doing. Building consensus becomes more of a challenge. It also becomes necessary for the public in each EU country to try to understand what other countries hope for from the EU. That requires a big effort by everyone.

Please send me your comments about this or any of my weekly messages or other EU matters. I look forward to hearing from you!