Monthly Archives: February 2016

Renewing Trident

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The Doomsday Clock is an interesting idea. Created in 1947 by the Bulletin of Atomic Scientists it seeks to signify, in a clear and simple way, how close we likely are to nuclear conflict. Midnight stands in for High Noon. It started life at seven minutes to midnight but lost four minutes in two short years when the Soviet Union became a nuclear power. You then see oscillations over the next 65 years, centred around -9 minutes or so, as various geopolitical crises and ententes dial the minute hand back and forth. We’ve only ever got to 17 minutes away (Gorbachev’s work in 1991). Notwithstanding that the UK’s own defence budget only stretches to a small part of the global nuclear arsenal, how would renewing Trident affect that clock?

B. H. Liddell Hart, in his book Deterrent or Defence, argues that the Romans got it wrong, or at least not quite right. Their “If you wish for peace, prepare for war” should be replaced with “If you wish for peace, understand war”. In a nuclear age, where you simply don’t have the luxury of learning from your mistakes, this seems wise. In both the EU and Trident debates, however, we seem to be ignoring the signs that the cold war world – nuclear superpower versus nuclear superpower – is returning or has returned. That’s not to say that new challenges such as the rise of Islamist terrorism don’t also require new approaches. But it seems increasingly wrong to say that the world has shifted away from potential inter-superpower nuclear confrontation. So to the argument that Trident is a weapon of the cold war, the response must surely be: yes, exactly.

Russian aggression in the Ukraine – an attempt to change international borders through force; the state-sponsored assassination of an individual on British soil using nuclear poison; the repeated need to scramble RAF jets to escort Russian bombers away from UK airspace or areas of interest; Putin’s 40 new inter-continental ballistic missiles… all point to the idea that something like the cold war is still with us. And arguments of the line that the US would always protect us and other NATO members miss the point. A folding of the UK’s nuclear capability together, god forbid, with a Brexit completely undermine what Churchill called his double-barrelled strategy – negotiation from a position of strength. Putin is already steadily stealing inches if not miles and he would only be emboldened by a withdrawal or downgrading of the UK’s nuclear capability. It’s worth re-emphasising the significance of nuclear weapons in the theatre of war and the prospects for peace:

“In the field of astronomy, the concepts of Ptolemy, long predominant, postulated a central Earth around which other bodies, including the Sun, revolved. Within this structure of analysis the task of accounting for observed facts required more and more convoluted explanatory hypotheses. Copernicus however espoused a different idea of great simplifying and clarifying power: that the Earth revolved around the Sun. Once this was grasped, much that had seemed perplexing or enormously complex now fell into place. A good deal of commentary about nuclear weapons – some of it from distinguished figures – long remained of Ptolemaic character. It is important to grasp the nuclear equivalent of the Copernican perception.

The sudden and enormous leap in destructiveness brought by the advent of nuclear weapons was of a different order from that caused by, say, gunpowder or aircraft. It is not enough to view it as merely the ghastly intensification of the human horror of war. It did something fundamental at a colder level of analysis. It carried the potential of warfare past a boundary at which many previous concepts and categories of appraisal – both military and political – ceased to apply, or even to have meaning.” Thinking About Nuclear Weapons, Michael Quinlan

It seems improbable, then, that we could characterise ourselves as operating from a position of strength if our main negotiating partner wields the military equivalent of the Copernican Revolution alone. As Churchill put it: “I do not hold that we should rearm in order to fight. I hold that we should rearm in order to parley.”

All of this assumes acceptance that deterrence in the form of mutually assured destruction is effective and is a sensible strategy. For balance, it’s worth acknowledging that we can’t provide empirical evidence that nuclear deterrence works. That’s the problem with nuclear war, you can’t collect the data and learn from your mistakes. Though I recognise that some will continue to believe that a unilateralist, pacifist approach is the right one, it’s very difficult to reconcile this with Putin’s antics even in the face of a relatively unified deterrent. To draw on the lessons of the most recent world war, imagining a pacifist approach to a Hitler armed with nuclear weapons seems absurd.

So, despite the expense – and £41 billion does indeed buy a lot of schools and hospitals – we should recognise that to continue operating in the upper part of Maslow’s hierarchy of needs there’s quite a big, ongoing maintenance cost for the base, for security. As Michael Quinlan puts it, though “There is a wry irony about the costs of nuclear weapons. For what they can uniquely provide in contribution to preventing major war they are cheap, not expensive.”

Have we done enough to prevent the next banking crisis?

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The financial crisis of 2008, the run up to which is now starring on the big screen in Michael Lewis’s The Big Short, highlighted just how dependent we all are on a functioning financial and banking system. Though our economy seems to be recovering from the longest and deepest downturn since the Great Depression, how confident can we be that the necessary changes have been made to the way banks operate? Have we ensured that, when the good times roll anew and the “this time is different” mantra begins to resurface, it doesn’t happen all over again?

This BBC piece provides a good summary of what has changed in the banking world since the crisis. Firstly, there have been reforms to the way in which bonuses are paid – restrictions on the cash element, less immediate access and claw back policies. The fact remains, however, that many bankers enjoy entrepreneurial-grade rewards without the corresponding risks that entrepreneurs face, namely failure, financial loss or bankruptcy. If you knew that taking a risk might secure a reward in the millions yet, if it didn’t come off, you’d still take home a six-figure base salary, it’s difficult to understand how stretching the payment terms of your bonus is really going to cramp your style. Especially if you’re employed by an operation that’s ‘too big to fail’.

Next, the bank levy idea – a 0.088% charge on balance sheets to ensure that the banks contribute something to the havoc they created. Helpful, but that has no effect on the modus operandi of the banks and therefore does nothing to prevent a future crisis.

The Banking Reform Act of 2013, arising from Sir John Vickers’ Independent Commission on Banking, offers more hope. The key part of the Act calls for the ring-fencing of investment banking and retail banking divisions, creating separate legal entities. Losses in one division would not drag down the other. In theory this answers the criticism at the heart of the ‘too big to fail’ idea, that failure of the risk-taking investment banks was shielded by the need to keep retail operations going. Perhaps. But the fact is that the individuals brought in to lead the failing banks post-crisis were all investment bankers. Here’s Alex Brummer, from his book, Bad Banks:

“For many, the problems with investment bankers went beyond their perceived lack of policy skill. Investment banking involves a very particular mindset. It requires people with a gambling edge, prepared to take high risks for potentially high rewards. This in turn creates an aggressively buccaneering culture. The risk-taking, trading nature of investment banking is very different from the steady skills required in retail banks, which take in deposits from customers and make cautious loans after a careful assessment of the risks. The two can sit uncomfortably side by side.”

So despite a theoretical ring-fence, the culture that permeates the large banks post-crisis is unlikely to be skewed toward the staid, stable world of retail banking. And even if a legal ring-fence exists, a key attribute of a bank – the confidence of its customers – is likely to be severely tested if the investment banking division is shown to be acting irresponsibly. Again. This effect is compounded by the extraordinary complexity and opaqueness of modern banking and its products, to the point where it is questionable whether even senior banking management really understand their full product range and the deep details of the balance sheet.  For that reason, I think a formal separation – into different companies – of investment banking and retail banking businesses is warranted.

Then finally we have the overhaul of the regulatory system and the replacement of the Financial Services Authority with three new regulators, the Financial Policy Committee, the Prudential Regulation Authority and the Financial Conduct Authority. The problem, as Joris Luyendijk describes below, is that the new regulators are still reliant on information fed from the still highly complex banks they seek to watch over:

“Perhaps the most terrifying interview of all the 200 I recorded was with a senior regulator. Ultimately, he explained, regulators – the government agencies that ensure the financial sector is safe and compliant – rely on self-declaration; what is presented by a bank’s internal management. The trouble, he said with a calm smile, is that a bank’s internal management often doesn’t know what’s going on because banks today are so vast and complex. He did not think he had ever been deliberately lied to, although he acknowledged that, obviously, he couldn’t know for sure. “The real threat is not a bank’s management hiding things from us, it’s the management not knowing themselves what the risks are.” – How the Banks Ignored the Lessons of the Crash by Joris Luyendijk.

Capitalism works. In contrast to the failed experiments of communism, it seems to be, to borrow from Churchill, the worst way to run an economy… except for all the others. But a key part of capitalism is failure and the idea that with great reward comes great risk. Pre-crisis banks were structured in a way that didn’t reflect this basic tenet, both at an individual and institutional level. And though, as I’m sure is abundantly clear, I’m not a banking analyst I don’t get the sense that the reforms to the banking system are robust enough. Not robust enough for a few decades’ time when memories of the 2008 crisis are starting to fade and a new generation of bankers who, only vaguely aware of what happened then, decide that the latest boom means it’s different this time and game the system.

It’s been said that part of the scariness of the financial crisis was that the whole world of the City and Wall Street are just too difficult to comprehend for anyone who can’t devote all their time to it. I’ve spent a LOT of time studying equities but I stay away from the banks for the simple reason that I don’t understand them. I don’t feel bad about this. But I have a lot of sympathy for the idea that the complexity of financial institutions and the terminology used to describe them and their products be simplified to make the City more accessible. There is a sea of books on the financial crisis and its aftermath but if I had to pick just four they’d be Too Big To Fail by Andrew Ross Sorkin, The Big Short by Michael Lewis, Robert Peston’s How Do We Fix This Mess and Bad Banks by Alex Brummer. Joris Luyendijk’s How the Banks Ignored the Lessons of the Crash is an excellent long read. I haven’t seen it yet but I thought the impressive Timothy Geithner had an excellent crisis so his Stress Test is on my reading list. And if you want a relatively easy way to keep a weather eye on US and global business and finance, watch CNBC’s US Squawk Box. It’s very good on US politics too.