Crony capitalism

Prospect Magazine

Crony capitalism

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This government is too close to big business

Troubled relationship: David Cameron, right, has admitted getting too close to newspaper proprietors, says David Davis, left


It is fashionable to declare that the western model of capitalism has failed. Some laud the success of China, but that stems from state capitalism which rests on an average wage one tenth of that in Britain. Others admire the chaotic capitalism of India, but it succeeds for the same reasons. The differences are not always that clear cut; within western capitalism there is a wide spectrum of societies. A recent report by the OECD, the international economic body, showed social mobility in Britain and the US was far lower than in Australia, Canada and Scandinavian countries.

In Britain, the symptoms of western capitalism’s sickness—rocketing executive pay, bankers’ bonuses, shameless tax avoidance and cosy relations between politicians, press barons and business leaders—have become known as “crony capitalism.” Since the term was coined, coalition and opposition leaders have battled to be seen to lead the fight against crony capitalism and all that it entails. But when it comes to crony capitalism, government is often not the solution, but part of the problem.

In September last year it was announced by the Department for Business, Innovation and Skills that the bosses of Britain’s 50 biggest companies would be assigned ministerial “buddies,” to give them a hotline to discuss their concerns. The aim? To boost investment and kick-start the economic recovery. But many will see this as proof the government pays too much attention to big business and is too close to its top executives. Where is the hotline for small business leaders?

Then there are the revelations that Her Majesty’s Revenue and Customs (HMRC) has allowed some of the world’s biggest companies to pay far less tax than they owe. Companies that have allegedly benefited from HMRC’s generosity have been investigated by the Public Accounts Committee following reports in the media and dismay among the public.

Worse still, small businesses this year face new fines of hundreds of pounds for filing their tax returns late, even if they have paid every penny they owe. This is the network state in action, a place where contacts count and what you do matters less than who you know. What better illustration is there than the knighthood given to Fred Goodwin, the former chief executive of Royal Bank of Scotland, who was stripped of his title on 31st January?

Hard as it is to believe, he was ennobled in 2004 for “services to banking.” Under Labour, Goodwin chaired a Treasury taskforce, served on Gordon Brown’s International Business Advisory Council and was a trusted adviser to the then chancellor. Even as RBS teetered on the verge of collapse in 2009, the last government was happily signing off his multi-million pound pension, courtesy of the taxpayer. Nor is this an isolated example. At the time of the financial crash the bosses of RBS, HBOS and HSBC all had honours to their name. Between 1999 and 2006 Labour ennobled no fewer than ten bank bosses.

And this government got itself into a terrible pickle over whether the current RBS boss Stephen Hester would pocket a £1m bonus on top of an annual salary which dwarfs most people’s lifetime earnings. Eventually he rejected his bonus, but the government thinking is instructive.

Apparently the government, which owns 83 per cent of RBS, feared Hester would quit if it vetoed the bonus. So what? A business doesn’t instantly collapse if the chief executive leaves. Antonio Horta-Osorio, the chief executive of Lloyds Banking Group, recently took two months off with stress and the bank carried on. At least he had the decency to turn down a bonus this year.

After chairing the independent Future of Banking Commission I find it laughable that politicians imagine the banks are so difficult to run. If Hester did quit I doubt there would be a shortage of suitable applicants for a prestigious, £1.2m-a-year job. At a time where living standards are falling fast, handing huge bonuses to the heads of banks which owe their very existence to taxpayers should be out of the question.

The ill effects of crony capitalism in banking are not limited to undeserved honours and unjustified bonuses. Labour’s closeness to the financial sector led to it restricting competition authorities from intervening in financial services, and this played a huge role in creating and sustaining our monopolistic banking sector. Spain has 20 major banks. With the sixth largest economy in the world, it is nothing short of absurd that Britain has just five major high street banks, the same number as Belgium.

An uncompetitive high street is not just bad for consumers; it is a threat to financial stability. As we saw during the crisis, having so few major banks on the high street means that if one fails it takes the rest down, threatening the banking system. With a more competitive high street, there will be no such thing as “too big to fail.”

Crony capitalism has also characterised political leaders’ relationships with the press. Prior to the phone hacking scandal, the shameless courting of Rupert Murdoch and other media moguls by politicians was no less unedifying for being standard practice. That cosiness went far beyond exclusive interviews and off the record briefings.  Tony Blair is godfather to Rupert Murdoch’s daughter Grace. Gordon Brown and his wife Sarah hosted a pyjama party at Chequers attended by the former News of the World editor Rebekah Brooks and Rupert Murdoch’s wife Wendi.

Throughout their time in power, calls to tighten press competition laws were repeatedly kicked into the long grass by a Labour leadership that was anxious not to offend News International. Of course this is not just a Labour problem. David Cameron has accepted in parliament that he got too close to newspaper proprietors after becoming leader. It is arguable that the Leveson inquiry should be looking as much at the behaviour of political leaders as at the behaviour of newspaper editors.

This problem is worse in Britain than it is in many western countries partly because, after a century in which our social mobility was the envy of the world, we have turned into a stratified state, where the opportunities for the poor have largely evaporated. Social mobility provided the moral justification for much of the inequality in Britain. It did not matter if people were unequal, if it reflected their contribution to society and everybody had a decent chance at the big rewards. With Sutton Trust studies demonstrating that all the professions are now dominated by the products of public schools, that is patently no longer true.

***

So how do we tackle crony capitalism? If the western model is to succeed we must rediscover the kind of competitive attitude American antitrust campaigners demonstrated in the middle of the 20th century. In the 1940s these men spoke of the “curse of bigness”—a recognition of how vast businesses which dominate and distort the market can be an industrial and social menace. Yet this did not stop America becoming the world’s only superpower. As one senator put it, “if we will not endure a king as a political power we should not endure a king over the production, transportation and sale of any of the necessities of life.”

Without this competitive spirit, western capitalism is socially and economically fragile. To solve this problem, we need to reduce the concentration of power and wealth dramatically.

In business, we need to drop the idea that biggest is best, and that Britain’s economic health is well served by focusing ministerial attention on a few dozen multinational corporations. After all, today’s business giants are not necessarily tomorrow’s successes. Many companies that became household names in years gone by—Northern Rock, Thomas Cook, Taylor Wimpey and dozens of others—have since fallen out of the FTSE 100 altogether.

As businesses grow too large it inevitably creates a damaging dehumanising effect. In days gone by bank managers would develop strong ties with (and knowledge of) local businesses. When banks instead began to focus on international expansion and trading financial instruments, these local relationships disappeared. Decisions on bread-and-butter banking issues, like business loans, started to be assessed centrally using standardised mathematical formulae, and small businesses suffered. Of course this dehumanising effect does not just apply to banks. Today many large companies trade only online, avoiding personal contact with their customers. With some companies now it would take a private detective to find a contact telephone number.

Most importantly, though, Britain’s small and medium-sized businesses are too economically important to be ignored. Together they account for 99.9 per cent of British enterprises, employ over 20m people—60 per cent of all private sector jobs—and surpass the FTSE 100 in terms of combined turnover and tax contribution.

In contrast, some of Britain’s “flagship” businesses contribute little to our economy and society. In 2009 Barclays made £11.6bn pre-tax profits from its global operations, but paid just £113m in corporation tax. Our loss-making nationalised banks pay no corporation tax at all. Britain’s banks are amongst the biggest businesses headquartered here, yet Adair Turner, the chairman of the Financial Services Authority, stated in these very pages, that many of the banks’ activities over the previous ten years had been “socially useless.”

He was right—the banks were engaged not in wealth creation, but wealth extraction, recklessly misusing customers’ money to maximise their own wealth. The result was chronic instability in the British financial sector. In contrast, the massive growth of small business has no downsides. It creates jobs and boosts tax revenues without causing financial instability or widening the gap between rich and poor.

The problem is not confined to banking. Senior executive and boardroom pay has outstripped share price and profit performance over the last few decades. These problems are described by economists as “rent-seeking behaviour”—using monopoly positions to extract wealth. Under this definition Britain has become a rentier state.

A number of political leaders have said the solution lies in more assertive shareholder action. This claim has been made every decade for the last half century, and has never had any impact whatsoever.

Very few chief executives have been removed by shareholder revolt. When they are removed, it is usually down to something serious like breaching debt covenants, at which point the company’s creditors—who have the real power—may take action.

By focusing our attention on helping big business we are stifling employment-generating, wealth-creating, taxpaying, growth-spurring small businesses. To save western capitalism we need to move away from a “national champion” model, and towards a “local champion” model.

In banking, we need a high street with 30 major banks, not five. Not only will this drive down costs and offer the consumer more choice, it would make the sector more stable, ending the “too big to fail” phenomenon and protecting the taxpayer from having to fund multi-billion pound bailouts.

When it comes to relations with the press, every communication with the media by ministers and their representatives should be a matter of record, transcribed and published, say, a year later. No more cosy deals between people who should be impartial critics of each other.

But the problem that afflicts the financial and media sectors is just a visible version of a problem that dominates Whitehall’s whole mindset. It doesn’t matter which department you choose. Their approach is too often dominated by the concerns of big business.
The Ministry of Defence’s disastrous record in public procurement is partly a product of an overly cosy relationship with a few suppliers. The Department of Energy and Climate Change’s clumsy environmental policies stem from close contacts with half a dozen enormous companies, unlike in Germany, whose cheaper and more effective environmental policy is dominated by local initiatives. Wherever you look in Whitehall the government is too close to big business and has been for decades.

If it is not addressed, Britain’s crony capitalism will inflict huge damage to our interests, economy, industry and society. The gap between achievement and reward will widen. Social mobility will continue to fall. It will also continue to stifle growing businesses, destabilise our banking sector, and poison our politics. It is not an easy problem to solve, but the government can lead the way by showing it is not afraid of a little competition.

  1. February 23, 2012

    Mrs.Josephine Hyde-Hartley

    Obviously if the bosses of Britain’s 50 biggest companies can raise concerns with ministerial “buddies,” via a hotline common sense tells us the same should be avaiable to one and all – ie any one with a concern or even a good idea that needs to go somewhere sensible – particularly with a view to avoiding the kinds of frustrations that might spoil everyones jobs and lives.

    This might free up our M.P’s who sometimes may be the only place one can account for one’s position as an ordinary member of the public.( s.nob, crony, or otherwise).

    For example; to boost investment and kick-start the economic recovery one should have thought more people would be interested in abolishing the idea of yearly term-times altogether – here I mean in the sense of the national annual tax returns rat race..though of course the abolition of terms in other contextx eg schools would also be a wonderful proposal I think.

    Man proposes, God disposes.

    Even so, surely advances in new technologies could facilitate instantaneous change that benefits everyone equally – In the case of tax returns for example, new IT technologies might easily enable one to go about one’s own business without fear or favour, 24/7 ie setting one’s own pace and timing anytime. anyplace anywhere – even with regard to telling HMRC where one stands.

    I’m not sure about this 30 banks in the high street idea – though I have to say it may be preferable to 30 solicitors shops. What concerns me is a certain gung-ho attitude often taken by those with a potential nudge to hold – It may be too easy to invent what appears to be more choice in the market place simply by fear or favour ie by using the same term-time tactics as we have seen in eg the insurance industry and so-called public utilities. To me the effects of these tactics make a mockery of normal notions of loyalty, manipulate one into some endless and elaborate and very time consuming game of “switch” provider or else be charged for staying put.

    One is mindful of those “Occupy” people outside the walls of St.Pauls – they may not have the right to properly established installations like tents – but on the other hand they have the right as ordinary members of the public to voluntarily mill about as normal in the public space.

  2. February 23, 2012

    Sergio Repka

    Agreed on both central points: more smaller players and increased competition are indeed better for all but the biggest players, and governments do become too close to the latter – not least because so many who leave government go on to take roles with just such players (which could raise the concern that, whilst still in government, such agents might be tempted not to upset potential future employers).

    The question, in my mind, is what can be done to reverse such a state of affairs with minimal disruption. E.g. what kinds of controls might be put in place, would further tightening of competition laws be of use, is it even possible to determine such a thing as “too big”, and if so, what kinds of parameters might be sensible? (Regarding the point of ex-government employees moving on to large financial institutions, I’d favour a moratorium on certain kinds of positions for anyone coming out of government (or whilst in government, for that matter); but again, it would not be a simple thing to regulate.

  3. February 23, 2012

    mike Taylor

    I absolutely agree with Mr Davis. Big business has too much influence-They actually run the show behind the schenes. Bad regulation on the banking sector got us into a mess. I blame all parties for following this line. If you let a dangerous dog off the lead and it bites someone would you blame the dog?

    The way forward is to promote growth and offer tax breaks and incentives like ‘investment regions’for new small business and while your at it free university education for the less well off and gifted in our society. Stop frittering money away in government on overseas aid for a little while and invest in our own for once.

  4. February 24, 2012

    Tom MacFarlane

    David Davis offers as devasting portrait of the corporate state, in which government and big business are revolving doors.

  5. February 25, 2012

    Fitzmichael

    “Britain’s crony capitalism will … poison our politics.”

    Who was the prophetic and self-sacrificing (!)politician who anticipated Davis’ concerns and wrote that ‘lobbying’ should be a criminal offence: “‘Any consultations regarding the public interest outside Parliament shall be punishable as treason.’ This statute was made so that the ruler and the elected representatives might not easily conspire together to oppress the people, and to change the state of the body politic.”

    Unless by a miracle the wealthy elite that has constituted the House of “Commons” for decades(all MPs have an income greater than 95% of those they claim to ‘represent’) votes against its own interest and wholly abolishes crony capitalism within the next four years, then this warning will have been ignored for half a millennium, and the elite (truly the elect) will sustain a Utopia solely for themselves.

  6. February 25, 2012

    Fitzmichael

    The justification for More’s policy (my previous comment) was this:

    “Can it be justice that a rich trader or a financier or, to be short, anyone who does nothing very necessary to the common good, should have a comfortable living, while ordinary workers, without whose labours no State could long survive, have to toil long and hard for wages that do not leave a sufficient surplus to provide for their old age? When I consider all the polities in existence, I can perceive nothing but a conspiracy of rich men procuring their own ease in the name of the common good. They devise all manner of stratagems by which to retain what they have unjustly acquired and to obtain the labour of the poor for as little pay as they can. These devices, which they have decreed to be for the common good, that is to say for the good also of the poor, they then make law.” Utopia, 1516.

    You could hardly be more precise in a prophesy of our situation now, nearly 500 years ahead of its time.

  7. February 25, 2012

    Peter Davis

    It is reassuring to be reminded that there are the likes of Davis within government who share the widely held, if drowned-out, concerns of a great proportion of the decent public and small businesses. Unfortunately capitalism is being undermined by those very individuals and companies that advocate it and yet are distorting it. The cronyism and excessess have become cancerous. Adam Smith, in advocating rational self-interest (though rational choice is an illusion of economic modelling and mathematical abstraction in academia unrelated to real- world human psychology), had in mind human beings that were acting first with values, that this would temper the tendency towards excess. This understanding of self-interest has been twisted by our ‘elites’ (read ‘degenerates’) to be synonomous with ‘selfishness’ or ‘survival of the fittest’, another distorted, misunderstanding of natural selection that has been mis-used to justify the mind-set of the degenerate few who are burning the very bridges by which western capitalism must cross if it is to have any moral force to convince other nations it is the best way. We are the worst example of the very economic ‘ideals’ that we are trying to convince the world is the only way. We are being mis-lead by special interests towards a world not even they will want, but they are too busy with their own self-interest to look up and see where we’re heading. It may be too late already, but ‘hopelessness is abdication of responsibility’. Davis’s and voices like his need to be urgently listened to in the knowledge that we have gone off the path.

  8. February 27, 2012

    Francine Last

    A very good article.

    I recommend Ya Joon Chang’s book  things they don’t tell you about Capitalism\n
    We need to get rid of vulture funds, predatory lenders (there’s a reason they are called that), equity funds, and hedge funds.

    We need to get rid of short-term profits and look at long term sustainability.

    We need to rethink our relationship with America. What is it really based on?

    We need to stop rewarding greed, acquisition and believing in the Market Religion.

    We need Democracy in its truest sense: ie. accountability to the people, and we need to end Plutocracy. If everything becomes independent of a government, then where is Democracy? We want a government that is truly representative of the majority.

    We need to make sure that borders are as strict with money as they are with people. There is no point in having national elections, if foreign money can influence the sovereignty of a country.

    We should have a more ‘holistic’ approach to politics.

  9. February 27, 2012

    Francine Last

    * Sorry, that book was meant to be:
    “23 things they don’t tell you about Capitalism” by Ha-Joon Chang

    It’s an extremely good, eye-opening and (for the economic amateur) friendly book.

  10. February 27, 2012

    Ian Greener

    An excellent piece – really one of the best diagnoses of our predicament that I’ve read. If Mr. Davis’ colleagues showed half the courage and wisdom he has here, we would be in a much better place. I only hope Mrs. Cameron and Clegg are paying attention, but fear that they are not.

  11. February 28, 2012

    rob dee

    to be fair, i only read half the article. david davis accuses govt for creating the problem, and then looks to govt to solve it. antitrust, in the states, has been a colossal failure!

    if davis understands the problem, he would firstly identify the deposit guarantee scheme as the chief creator of moral hazard, the root cause of the financial mess and the incubator for too big to fail banks. he would then look at the overbearing regulatory morass which cripples smaller financial institutions, in their day to day operations and in their sourcing of capital. davis would then look at all the wonderful benefits bestowed on banks from the boe, then he would do something about it.

    creating another level of bureaucracy, ie antitrust legislation, is not the answer!

  12. February 28, 2012

    farang

    “It is fashionable to declare that the western model of capitalism has failed. Some laud the success of China, but that stems from state capitalism which rests on an average wage one tenth of that in Britain. Others admire the chaotic capitalism of India, but it succeeds for the same reasons.”

    And it seems “unfashionable” to mention these two growing economic exporting giants desperately need the wealthy western nations, with their (soon formerly?) higher standard of living/wages as a customer base.

    In other words, the “Free Trade/Globalization/No Tariffs”" model has a severe and inherent flaw at it’s core…hence the looting and non-regulation of the financial sectors….”get it while it lasts” seemingly the motto of the day.

  13. March 3, 2012

    Brian Lucas

    One thing we can all do to encourage more banking competition is to withdraw our money from the Big Five banks and take our business elsewhere. It’s very simple!

    I wonder if Mr Davis still entrusts one of the Big Five with his money, or if he has considered a building society or co-operative as a more local alternative.

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  1. Egregio David Cameron: « Consegnare la politica economica agli ex-finanzieri non è una soluzione » | Informare per Resistere11-17-12




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