Question again proposed,
That this House takes note of the Reports of the Committee to Review the Functioning of Financial Institutions chaired by the right hon. Member for Huyton (Cmnd. 7937 and 7503).
§ Mr. Tim Eggar (Enfield, North)
I am honoured to speak after the right hon. Member for Huyton (Sir H. Wilson) in this debate. His fine speech showed the same balance as his report. I should like to take up two of the points that he made.
I welcome the remarks that the right hon. Member made about small businesses. I sincerely hope that he will take the initiative to try to reach an agreed form for co-operation between both sides of the House—if necessary by means of the Back Benches—about the type of legislation and concessions that should be made for small businesses. Both the Conservative and the Labour Parties have neglected this subject for too long.
I differ from the right hon. Gentleman about indexation. A strong argument can be made for the action that the Government have taken on the issue of "Granny" bonds. The argument has more to do with the need to increase the percentage funding of the public sector borrowing requirement from the private saving sector than any issue of principle about indexation. I have the most severe reservations about the issuing of index-linked gilts.
Before proceeding further, I should declare an interest. I am an employee of a merchant bank in the City. One of its minority shareholders is one of the United Kingdom's clearing banks. However, I am by no means an apologist for the clearing banks. A significant dent has been made into their share of lending to the manufacturing sector. As the right hon. Member for Huyton remarked, overseas banks have taken about 30 per cent. of all banking business with manufacturing industry. That is a severe indictment of the performance of clearing banks. One has only to compare the slight progress that overseas banks have made in German and French markets to realise how unresponsive the clearing banks have been to the challenge forced on them by overseas banks.
I hope that the right hon. Member for Huyton and my hon. Friend the Member for Winchester (Mr. Browne), to whom we are most grateful for having raised this subject for debate, will forgive me if I do not take up the broad sweep of their remarks. I shall restrict my remarks to one aspect of the report to which the right hon. Member for Huyton referred, namely the role of building societies. I concur with the recommendations that were made in the report, but I would have gone further. As the right hon. Gentleman said, one of the most remarkable shifts in the financial scene has been the considerable growth in the deposit rate of building societies. Many Conservative Members might argue that we should not knock something that is successful. They might say that we should encourage those elements in the economy that are succeeding particularly well. But, before adopting that line, we should consider how that success has been achieved. How have building societies increased their deposit base so significantly?
572 The report points to some, but not all, of the reasons for their success. The first reason is the interest rate cartel and the recommended rate. It is unacceptable that any group of institutions in any part of the economy should be allowed to act as a cartel. That is particularly true in such an important matter as the setting of the rate of finance for housing purposes. As the report hints, the interest rates and the difference between the deposit rate, and the lending rate have been set at a level which permits the most inefficient building societies to survive. It gives surplus funds and profits to the more efficient societies, which then have to be used up because building societies are not allowed to use their reductions in costs, or efficiency, for competitive purposes.
It is not only the interest rate cartel. It is also the exemption from competition and credit control legislation. The building societies show a lower rate of interest than, say, banks which advance mortgages, not because the interest rate actually differs, but because the rate of calculation is different because the building societies are exempted from the truth in lending provision.
Another advantage brought out in the report is in the composite rate. There are two aspects of this. First, unfortunately, the majority of people in this country regard the building societies as the natural place to put whatever small savings they have. I am always concerned about the number of very poorly off people, often pensioners, who put what little money they have in building societies. As they are not taxpayers, they receive an effectively lower rate of interest and a lower return on their savings than they would receive from a trustee savings bank, an ordinary clearing bank or, indeed, a Post Office savings account in most cases. The composite rate is brought down from the national minimum income tax rate of 30 per cent. to 25 per cent. because many depositors are not taxpayers. In equity to savers, that cannot be right.
Secondly, this cannot be right, in my view, because it gives building societies a considerable marketing advantage over banks and other financial institutions. A building society can tell people that, unless they pay more than the standard rate of tax, they will get their money free of tax. They will not have to worry about making returns to the taxman or suddenly having to meet a tax demand at the end of the tax year. That is a considerable marketing advantage.
Two further advantages are given to building societies. Why on earth they should pay a lower rate of corporation tax-40 per cent. rather than 52 per cent.—than other large companies or the banks, I simply do not understand. It is high time that the Chancellor dealt with that anomaly in the next Finance Bill.
Building societies are also not subject to the reserve requirement. This means in effect that they can use all of the funds deposited with them to on-lend to their borrowers. The clearing banks and other financial institutions, however, have to keep a certain proportion of their funds in cash, or alternatively in Government securities and Treasury bills, which may not be able to be deployed as effectively as the building societies are able to deploy their funds.
I also do not understand why the building societies should be exempt from capital gains tax on the sale of gilt-edged stocks which they keep for more than a year. I appreciate that individuals also have that exemption, but the clearing banks and other financial institutions do not 573 benefit in the same way. That is a further anomaly which I trust that the Chancellor will consider in relation to the next Finance Bill.
When one considers all the advantages enjoyed by the building societies, one wonders why they have not completely dominated the financial scene in this country, why they have failed to be more successful. Why have they perhaps not used their advantages as much as they might have done? The first reason, I believe, is that they have no accountability. They have no shareholders. They do not have to justify their expenses to anybody. It is very worrying that, as the report points out, in the 10 years from 1968 to 1978 the expenses per £100 of assets managed by the building societies rose by 50 per cent. in real terms. One does not have to look very far to discover the reason for that. One has only to go down the high street in one's own constituency to see the way in which building society offices—mostly empty, except on Saturday mornings—are dominating and driving out local shops such as greengrocers, because they are prepared to pay higher, non-commercial rates and rents for properties.
I understand that we are moving slowly towards monetary-based control. One effect of that movement will be that the Government and the Bank of England will have to look very closely at the way in which building societies are controlled, and indeed at the way in which clearing banks are controlled. A considerable body of academic opinion is to the effect that the Government should not only be looking at sterling M3 but also paying a great deal more attention to PSL1 and 2 which, of course, include building society aggregates. The movement towards monetary control provides an ideal opportunity for the Government to step back and ask themselves whether there is, any longer, justification for treating building societies and banks on different bases in relation to reserve asset requirements.
I hope that, spurred on by that opportunity, the Government will go even wider than that and will take up several of the points made in the report.
I believe that we must withdraw the composite rate concession. I recognise that this will cause considerable administrative problems for the Inland Revenue. However, I do not believe that those problems are beyond the wit of man to solve. I therefore trust that an internal study will be started within the Inland Revenue to consider the manpower implications of withdrawal of the composite rate concession.
I wish to bring to the attention of the House a matter which I believe escaped notice during the passage of the last Finance Act. The Government coolly, at the last moment, introduced a provision which effectively gave to the building societies a concession of £80 million to £100 million. They said that the basis upon which the composite rate would be adjusted would be delayed for a year. The composite rate having risen by some 3 per cent. or 4 per cent., the impact of that concession for the building societies, on my estimate—I have been unable to get an estimate out of the Treasury—was about £80 million to £100 million. The fact that that provision went through was very worrying in the light of the Government's determination to reduce the public sector borrowing requirement.
As I said at the outset, I wish to go even further than the right hon. Member for Huyton. I believe that we 574 should seriously consider repealing the provisions of the Building Societies Act 1962 and putting the building societies on a comparable legal and financial basis with the other financial institutions. I take the point that was clearly made in the right hon. Gentleman's report that we should not necessarily aim for complete equivalence between all financial institutions, because different sectors of the market are concerned with different aspects of demand for financial products. But I should at least have liked to see more opportunities for building societies to compete for business traditionally associated with clearing banks, and for clearing banks to compete for business traditionally associated with building societies.
With some careful examination of the issues, we could arrive at a situation where there is a much more integrated financial structure as well as the end of this political sensitivity of the mortgage rate. I believe that more competition would even out the fluctuations in the mortgage rate. For instance, in the United States the normal form has historically been that the equivalent of building societies should lend on a fixed-rate basis. If the Acts here wre amended, I can see no reason why building societies or, indeed, the clearing banks, could not fund themselves by fixed rate. They could have a certain amount of fixed rate on their books which would enable them to even out the changes in the mortgage rate and the base rate. That again is something which I think would be generally advantageous.
There are other advantages to what I have said. The withdrawal of the advantages given to the building societies would increase the Government's ability to fund the PSBR from the private savings sector. That cannot be a bad thing. Furthermore, we should not under-estimate the problems which the clearing banks face when they come to decide whether they will lend industrial customers on a fixed-rate basis or a term-rate basis. They must consider the state of their deposit base. If they are concerned—as I know they have been recently—about the fluctuations in the level of their retail deposits, they will be less likely to commit themselves to fixed-rate funding or, indeed, to term lending. There is a positive advantage to be gained there.
There is, of course, a cost associated with the recommendations in the report and an additional cost associated with some of my remarks. That is the cost of an increase in the mortgage rate, probably of around 1½ per cent., although it is extremely difficult to work out the implication. However, the cost is far outweighed by the advantages.
I should like to go a little further than I have done already and pick up some of the observations made in the report which did not lead to any recommendations. I think that I understand why. The report pointed out the significant tax advantages given to owner-occupiers. For example, there is income tax relief which is the most frequently thought about, the concession on capital gains tax, where one's main residence can be sold without capital gains tax being payable; and there is the stamp duty exemption for those buying lower-priced housing. The practical effect of those concessions has been that any individual acting rationally to maximise his own personal wealth is bound to be attracted towards investment in housing. Any other form of investment in an inflationary age is likely to carry with it far greater risk and far less potential return.
575 There is some evidence to suggest that before we had this preoccupation with investment in housing, individuals were much more willing to invest their personal funds in small businesses, corner shops and non-quoted opportunities. I have listened with great respect to all the comments about the off-the-counter market, amendments which should be made to the Stock Exchange and so on. But a lot of investment in this country was historically done by nephews borrowing small amounts from aunts, and by neighbours borrowing from neighbours, to start small businesses. One of the effects of concessions which in an inflationary age continue to be given to people who invest in housing is that rationally no one can decide other than to invest in housing.
There is only one way to get away from that. It is a politically difficult and perhaps unpalatable way. That is to move towards withdrawal of the tax concessions given to owner occupiers. No Conservative Member can fail to appreciate the problems associated with that. Indeed, it is not only on a private Member's day that I would dare to raise the issue. However, it is an important issue which should also be considered by the Opposition. Understandably, Labour Members have criticised us for withdrawing some of the assistance given to the State housing sector, both capital and current expenditure. Having done that, for reasons which I fully support, we must ask ourselves whether we can continue to give concessions to owner-occupied housing. I throw out the idea that the present system of taxing people, and allocating back to State housing on the one hand and private owner-occupied housing on the other, makes no kind of sense. It merely distorts the market and on balance achieves very little.
Could not we at least start thinking of a movement towards some rationalisation? Should not the Opposition say "We accept that there is a limit to the amount of State subsidy which should sensibly be paid to State housing systems, in relation to the subsidy of rents and capital subsidies.", and we Conservatives say "Perhaps subsidies to owner-occupation do not make as much economic sense, even though they may make political sense, as we traditionally thought"? Personally, I am convinced that if we could get some movement in that direction—I suspect that it is a forlorn hope—the country generally would benefit. I hope that the Government and the Opposition will not simply reject the idea as the moanings of a fairly demented new Member.
§ Miss Betty Boothroyd (West Bromich, West)
I hope that the hon. Member for Enfield, North (Mr. Eggar) will forgive me if I do not follow his argument too closely. As an employee of a merchant bank, he has an obvious expertise in which I am not able to share.
I begin by noting that this voluminous document has taken almost four years to complete. I thank my right hon. Friend the Member for Huyton (Sir H. Wilson) for his expressions of sympathy for those who have had to read the document. I take that personally, and I am sure that he would agree that his magnum opus has not exactly burst on the reading public like the latest best seller. Even so, this is a major work of great importance. An attempt must be made by those such as myself, who have very little expertise in banking and who find it difficult to wade through City jargon and its system of operation, to 576 understand the way in which the financial institutions work, as well as their relationship to the needs of our complex society.
The hon. Member for Winchester (Mr. Browne) deserves to be congratulated on the service that he has done to the House this morning in drawing attention to the review of the functioning of financial bodies.
The report has not entirely lifted the veil of mystery from the City for me. What the hon. Member for Winchester has done has demanded that I place some degree of concentration on one or two aspects of the report. From such a weighty document I have chosen to make two or three general comments, but the obvious point has to be made first. It concerns one of the committee's main areas of inquiry—the role of the institutions in stimulating industrial investment.
I acknowledge that this was a committee that included a former Prime Minister as its chairman and also contained business men and trade union leaders, all of whom concluded, by and large, that although the resources are available the main constraint seems to be lack of sufficient projects that provide the required rate of return.
This is not an appropriate debate in which to rehearse statements and arguments about the functioning of our economy over the last quarter of a century. I think, however, that the point needs to be made that while competitor countries have had their problems and while everything has not been rosy for them, either, none seems to have suffered the financial gap that has been experienced by us in this country for such a long time.
In looking at a lot of the evidence and appendices produced by the committee, it seems that far higher levels of company debt are tolerated in Japan, France and Italy than is the case in this country. For one reason or another, these countries seem to be willing to run a much higher-risk economy than are the financial institutions in Britain. This lack of activity here is in sharp contrast to the activities in West Germany, where the banks are not only sizeable shareholders but sizeable lenders. This lack of involvement, I am sure, has played a significant part in industry's failure to develop that type of high-risk product investment to which the hon. Member for Winchester referred which, by its nature, cannot be expected to pay the early and instant returns often demanded.
While keeping in mind the activities of banking in other countries, I find it disappointing that hardly any representatives of the institutions—I am sure that my right hon. Friend the Member for Huyton will correct me if I am wrong—gave evidence to the committee or produced ideas that indicated any change in their own criteria of behaviour that would be sufficient to make any impact on the low levels of investment that they readily acknowledged.
In spite of that, the fact that the committee existed—the way in which it conducted its business and was prepared to publish evidence and point to areas of concern as it went along—has helped to bring about an atmosphere in which only the foolhardy institutions and bodies in the City now refuse to go in for some degree of self-examination. Patchy though it may be, some institutions have begun reappraising the quality and scope of their technical expertise and the procurement of necessary specialists trained in aspects of high technology to meet the needs of the future.
When all is said and done, it is funding that is needed to enable the long-term ventures, spoken of by many hon. 577 Members, to be undertaken. In the light of the report, I wonder what the Government are now prepared to do to back resources for lending periods of up to a decade or more in order to redress the balance.
In an important speech made last June, at the same time as the report was published, the director-general of the National Economic Development Office made the point forcefully that other Governments play a direct role in sustaining financial investment for development and for research, and in backing judgments about what technologies are likely to be an essential part of future economic success. It is in these areas that the Government have now to give a lead. Do they consider that a case has been made for joint lending? Are they prepared to look at a new investment bank and to assist in expertise and funding to fill the financial gap? The Minister has had the report on his desk for some time. I look forward to his ideas and his comments, which will be noted not only inside the House but, undoubtedly, by many people outside.
There is another large issue of importance for the next decade that needs to be argued out. Looking at the evidence, barely any of the witnesses, with the exception of the TUC, seemed to address themselves to the need for change in the financial institutions to meet the massive growth that has taken place in life assurance companies and pension funds to see that there is greater accountability and that these massive sums are used to the advantage of the saver and the financial structure itself.
There seem to me to be two areas of blazing relevance in the Note of Dissent in identifying a new financial facility. My right hon. Friend the Member for Huyton spoke of this in expert terms, which come from his long years of experience and, certainly, from working with those on the committee. The first is that pension funds and insurance companies command between them an inflow of £9 billion annually. It is a remarkable figure. The second is that, even at the present rate of growth, in 20 years' time these institutions will own two-thirds of all equities listed on the Stock Exchange. This increasing concentration of finance has profound implications for the institutions themselves and for the interests of those whom they serve—their clients.
I seem to remember, about 10 years ago, resources of this nature being put into land and property speculation and development. I wonder where these institutions will move to in the next decade. Will they buy gold bars or buy diamonds to put in the safe until their wealth has increased even more? Would it not be more socially desirable to find methods whereby a proportion of this facility could be matched by an equivalent amount coming from the public sector to provide for a flow of revenue for funding modern technology?
We acknowledge the interests of policyholders and future pensioners. Their interests must be guaranteed a proper rate of return as protection from risk. At the same time, this type of funding would provide an attractive form of investment for the institutions. After all, it is the prime responsibility of the institutions to safeguard the interests of their clients and customers. Therefore, they must look to new areas for investment. I submit that the Government cannot allow the proposals for a tripartite arrangement that 578 is spelt out in part of this report simply to remain within its pages. I look forward to some indication today of the attitude of the Government.
For their part, too, the institutions must acknowledge that their ability to meet the expectations of those whose interests they serve depends crucially on national economic recovery. They must make some response. They cannot be left out of any future programme of funding, because their self-interest is at stake and I do not believe that they can, or would wish to, stand apart from that type of involvement.
Finally, there is the question how best to introduce better accountability, especially in relation to pension funds. I should have thought that an investment facility, controlled jointly by the Government, the institutions and unions, could form the basis for wider accountability and, in doing so, provide a voice for unions in the funding process and, through a direct stake, an involvement for them in financial and economic success, which could lead only to a healthier industrial atmosphere.
The initiative taken by the hon. Member for Winchester seems to have nudged the arm of the Government and reminded them of the existence of this major work. I look forward to hearing their initial response to it.
§ Mr. John Loveridge (Upminster)
I was interested to hear the hon. Member for West Bromwich, West (Miss Boothroyd) emphasise the "higher gearing" of companies abroad. There is no doubt that in this country the shortage of investment has had a profound effect on the capacity of our industry, particularly our small industry, to expand and to create the jobs that we need so urgently.
I welcome the initiative of my hon. Friend the Member for Winchester (Mr. Browne) and his important contribution, to which I hope that the Government will pay much heed. I should also like to associate myself with what my hon. Friend said when he paid tribute to the right hon. Member for Huyton (Sir H. Wilson) for the work done on the reports under his chairmanship. The affection that the House feels for the right hon. Gentleman comes from, for example, the fact that he has stayed on until now to listen to the debate. That is a courtesy to the House that adds to the regard felt for the right hon. Gentleman. We are grateful to him.
As chairman of the Conservatives' smaller businesses committee, I am pleased to be able to take part in the debate. I wish to refer particularly to the part of the report dealing with small businesses—the interim report on the financing of small firms, Cmnd. 7503, published in March 1979. The debate is particularly convenient, because my Small Firms Expansion (Inquiry) Bill, which covers much similar ground, was presented to the House last Friday. I have the honour to be supported on the Bill, amongst others, by my hon. Friend the Member for Luton, East (Mr. Bright), and I am glad to see him here today.
In the introduction to the small firms part of its report, the Wilson committee states that it found:virtual consensus in the submissions we have received that there are problems with the arrangements for financing smaller businesses.My committee found the same.
We should have regard to that in the context of the admirable new report published by the Economist 579 Advisory Group Limited for Shell (United Kingdom) Limited and written largely by Mr. Graham Bannock. After a study of seven other nations it states:the scale and range of measures to promote small business in Britain is tiny compared with all the other countries studied.That is a tragedy for a nation once described as "a nation of shopkeepers". We must wonder whether our industrial backwardness compared with that of some other advanced countries—considering the base from which we started—does not spring from the fact that our smaller business sector has been neglected. It may be that our large business sector has gone ahead on a natural cycle from the Industrial Revolution, and that therefore we have, in a sense, moved forward in the cycle, so that our large institutions have grown, leaving the small sector behind. However we will prosper at a terrible price if we destroy the seedcorn of the future, which must come from the smaller and medium-sized firms.
I am glad to welcome the recommendations in the report, but it refers to the fact that reliable information about the number of small firms in this country is surprisingly meagre. It says:The general impression is that the total number of small firms in the UK has now reached something of a plateau after falling virtually continuously between the 1920s and the end of the 1960s".There is, I am glad to say, some sign of a renaissance, because more small firms are being founded, partly from the preliminary encouragement contained in the last Budget, and we shall hope for more in the next Budget.
The report tells us that small companies were found to bereliant on internally generated funds for about 65 per cent. of their total funds during 1973–75 and on bank borrowing for a further 15 per cent.That bank borrowing may be growing too much for the safety of some firms. For example, in agriculture, we find that the dependence on borrowing is up by 75 per cent. during the present recession. That is an example of how small firms are increasingly indebted to the banks.
As banks often require security—even the home of the proprietor—to be pledged, there must be a greater sense of nervousness among proprietors about their funds. They want not so much cheaper money as money that is secure and that they know will not be taken from them suddenly, leaving them with a financial crisis. Any helpful investment finance that the Government or other bodies can generate must have security. Any loan should not be withdrawn for reasons unconnected with the success of the business run by the borrower. In this respect my committee considered at length the prospects of the introduction of a loan guarantee scheme, which we believe could help. I shall return to that later.
There is no doubt that there is a shortage and need of funds for expansion. The question was considered by the Bolton committee in 1971, which concluded thatthe gap precisely identified by the Macmillan Committee had largely been filled by the ICFC and other institutions but that small firms were nevertheless still disadvantaged in seeking external finance.On the question of finding equity for new businesses, the Wilson report says:Few new businesses now have any source of equity other than that provided by the proprietor himself, or by his immediate family".there is a grave difficulty. Fewer and fewer proprietors or their families are in possession of substantial funds. As the right hon. Gentleman said, the nature of fund holding has 580 changed. Pension funds, insurance companies and similar bodies are the main sources of the bulk of money that can be lent. Banks also have considerable assets and money available. These bodies have one thing in common—a duty to ensure that the money that they lend is safe. Banks also have a duty to ensure that they can provide cash across the counter to their customers.
For prudent reasons, therefore, none of these bodies is anxious to pour money into the new venture capital investments that the country so urgently requires. We must find a way to ensure that this capital is available. On page 69 the Wilson report says:Illiquidity is the foremost barrier to investment in small companies.That point arises again and again, yet successive Governments do not appear to have heeded it. More is the pity, because small companies are a vital sector of the economy. In the two surveys on the Nottingham manufacturing area, the committee found that the level of security demanded by banks was typically set in the range of net assets to borrowing of 2 to 1 or 4 to 1 compared with Europe, where banks were said to be prepared to invest much higher gearing ratios.
Arising from that, one of the report's recommendations is that a publicly underwritten loan guarantee scheme with a limited subsidy element and some part of the risks retained by banks should be set up on an experimental basis as soon as possible. I welcome that. However, I fear that time has already moved on. If there is to be full employment again before the ravages of cyclical unemployment become worse, the Government must activate the small business sector now. We do not have time for any experiment. The money must go into investment today—this year.
I am concerned about another recommendation, which suggests that there should be a subsidy element in the loan guarantee scheme. No Government seeking to save money will be anxious to a subscribe to subsidy element. The small business sector does not need a subsidy element. What is needed is the knowledge and security that the money cannot be called back. Most bank lending in this country is nominally repayable on demand. Banks do not often make that demand, but the proprietor of a business does not know when such a demand may be made. In respect of security, the loan guarantee scheme suggested by my committee and elsewhere has a vital and substantial role to play, and hope that the Government are prepared to try to persuade banks to be associated with it.
The detail of such a Government-sponsored loan guarantee scheme must be administered by the clearing banks and similar institutions. It would be wrong to try to do it through a Government agency. Only the banks have enough knowledge of the intimate details of businesses throughout the country to handle the applications. It is important that the banks should have themselves to be responsible for part of the moneys advanced—say, onequarter—so that they take the risk for that part of the loan. Otherwise, they may be tempted to lend too freely in the light of the guarantee given by the Government, which I believe should be for about three-quarters of the loan.
The loans are especially needed by small firms that have expanded rapidly—perhaps with up to £200,000 a year turnover soon after being founded. They want to expand to double that turnover, but the proprietors may have no assets to pledge, or any assets that they have may have been pledged or spent in getting the firm off the 581 ground. They apply to the banks which agree that they have sound businesses, making good profits, but say that there are limits to what they can lend without security. That is understandable, because banks have a duty to pay cash over the counter. A bank will turn a proprietor to some form of agency that will advance money against equity. But the proprietor wants to have his hands on his own ideas and to create in the way that a painter creates a picture—and there is a strong similarity between a small business man and the growth of his firm and a creative work of art. He asks himself "Do I want to give up the equity in my business and lose part of the control?". Often the answer is "No". Indeed, my committee received evidence from one financial institution of a number of cases where it had been prepared to advance capital against equity, but the firms had replied "No, we would rather stay small than accept the money. We are not prepared to give up the control of our business".
In that connection, the remarks of my hon. Friend the Member for Winchester were important. We need some form of scheme in which the money advanced by the financier can be bought back by the business if it succeeds. In that way, any objections to accepting outside equity, because of the temporary basis, vanish. It is better for the financiers themselves that some such arrangement should become part of our normal practice. Their duty is to handle money, not to become personally involved—either directly or through their subordinate agencies—in risk-taking enterprises. As soon as they do that they become unsafe financial institutions.
It is in the same context, therefore, to be greatly welcomed that one of the clearing banks has instituted a scheme called royalty lending, where they will not take equity in such circumstances, but will instead take a share of the profits. Such schemes may have come about because in the present climate of politics so many people have stressed the need for money to finance small businesses. Unfortunately, these schemes are coming into operation only on a minimal scale. The Government should encourage the banks by a loan guarantee scheme, such as that put forward in the Wilson report—perhaps amended as I have suggested.
Another important recommendation in the report concerns the need for the creation of a new type of institution, the small firms investment company. In a sense, this is similar to what has been described colloquially as "inducing Aunt Agatha to subscribe in business." This would be a machinery for doing this. Rightly, the suggestion is made that such a small firms investment company should be exempt from taxation on capital gains.
Taken as a whole, the report on the financing of small firms is a remarkable document. But, as my hon. Friend the Member for Winchester said, it is one on which we require bold and fast action. My hon. Friend spoke of the need for a "bombshell" change in our attitudes, and he was right.
The Shell report, which I mentioned earlier, contains some important figures. It tells us that the number of small firms relative to the population is much smaller in this kingdom than in any of the other six countries surveyed. There is a table headedNumber of small firms per thousand of human population.582 If the United Kingdom is the index base of 100, we find the highest ratio in Holland, where it is 370. In the middle we find the United States, with 157. But that is on a very low estimate of small businesses in the United States, where again there are substantial variations in the statistics available. One figure, gives 8 million small firms. Another gives 14 million. But, even on the smaller figure, it is clear that the United States is vastly ahead of us. Most notably, we should remember, in the light of the fast growth of Japan—which is the sort of growth that we ourselves now need—that Japan's small firm population of 5.4 million compares with our own of 1.3 million, which, taking into account the population of Japan, is double ours per unit of population. That should be our target.
If we turn to manufacturing employment and compare the seven nations concerned we find Japan at the top of the manufacturing employment list, with 66 per cent. in small establishments employing fewer than 200 persons, whereas the figure is only 29 per cent. in the United Kingdom. Those figures relate to 1975. But, again, we are at the bottom of the list, and we ought to have special regard to the fact that the ratio is so immensely higher in Japanese manufacturing industry than it is here, because it is our manufacturing industry which has borne the brunt of our comparative decline, and it may be the fact that we have too few small and medium-sized businesses which is at the very heart of our decline.
I am glad to note that there is an increase in the view that the smaller and medium-sized firms should be regarded as being those employing up to 500 staff. Two hundred staff is generally taken as the limit now for small firms, as it is in the Bolton report, and 500 is often taken in Europe for medium-sized firms. It is important to distinguish between the two. In this kingdom of ours, there is a tendency for small firms, which grow rapidly, to grow up fairly quickly towards 100 staff. However, once they reach that level, they stop growing. The proprietors lose interest in pushing them on. In the other countries in the survey that I have mentioned there seems to be a tendency for the numbers of staff to grow fast, up to 300, before the proprietors lose the incentive to surge forward.
The Massachusetts Institute of Technology survey has been mentioned many times. In that survey it was found that in America, over a long period, two-thirds of new jobs came from small firms employing fewer than 20 staff. Most of those were firms that had not long been founded and were therefore fast growing. From those statistics, it is not generally realised that the figure of under 20 was taken at the start of the MIT survey. Many of the firms had an up-sweep of staff into the hundreds. That up-sweep created the statistic that showed that two-thirds of the new jobs had come from small firms.
It is therefore of the greatest importance that we should concentrate on rescuing our medium-sized sector. I believe that the Government did much in the last Budget to encourage the founding of the smallest firms. However, I am concerned that the medium-sized firms—and perhaps I should declare an interest, because I run a medium-sized firm—should be cherished.
In the manufacturing industry alone, whereas in 1973 there were 71,000 firms employing up to 99 staff, in the next range, employing from 100 to 199 staff, alas, there were only about 2,800 firms altogether. That is a pitiful scale for a great manufacturing nation. The Government should act on that matter with the utmost urgency, or we shall find that there is no medium-sized sector left.
583 Medium-sized firms are especially suited to one specific activity—the turning of science into production. The smallest firms do not have the capital or funds behind them even to attempt to use new science to develop ideas, except in special sectors where some of the smallest firms have a commendable record.
The largest firms are not always interested in having other than a clear, clean production line with low costs. Thus, the medium-sized businesses are best adapted to changing ideas into practice. In Britain it is notable that, associated with the decline of medium-sized firms there has also been a decline, widely commented on, in our capacity to translate the inventions of our scientists and their discoveries into practical business endeavour. Even with new ideas that originated in Britain, other countries have used those ideas, but we have not. I believe that that decline is closely associated with the decline of our medium-sized firms.
The Government should consider three aspects in particular. The first is to reform capital taxation, which is a real inhibition for firms to increase above 100 staff. In this regard, a scheme associated with the name of my hon. Friend the Member for Luton, East proposes that the Government should issue tax credit certificates for the payment of capital transfer tax. Tax credits have been a normal way for the Government to obtain money. It is beneficial for them to get cash in advance. In order to save his business when he dies it would be beneficial also for a future donor of money, contingent on a capital transfer tax arising on his death, to be able to set aside money so as to be sure that the tax would be paid. However, the tax certificates paid for would have to be non-aggregable with his other estate to make the scheme work.
Such certificates would ensure that the Government had money in advance and that the life of the firm after the death of the proprietors could be carried on. The Government should look closely at that, as well as cutting in half the effective rates of capital transfer tax, which can be totally destructive of small firms owned by two, three or four people.
Capital gains tax should cease to be a tax on inflation. It should be a tax only on improvement—on real added value. That is something that we may hope to see in the next Budget if the Government are awake to what we are saying.
Another aspect consists of the so-called "Aunt Agatha" schemes. Unfortunately, "Aunt Agatha" has not much money left, so it is doubtful how much cash will come from schemes designed to give her a greater interest in paying money into small firms rather than into insurance companies, pension funds or building societies, where she is tempted to go because there is a tax advantage compared to putting money into a small firm. We should ensure, as my hon. Friend the Member for Winchester said, that investment money is relieved against taxation where it is put to the purpose of production and productive output. It is not enough merely to say that we will relieve in that way machinery which is bought.
It is not only machinery which is needed to run businesses. More capital is required merely to cover the cash flow and growth costs—the gap between receiving cash after sales, and spending cash on raw materials before manufacture. Why should not that gap be covered in the same way as machinery is? Why does one part of the business deserve Government support but not another? That offends common sense. However, I hope that all 584 those "Aunt Agatha" schemes will be pursued in the Budget and that outside investors will be encouraged to put their money into small businesses.
As I have said, we want a loan guarantee scheme to increase the banks' interest in investing in the area where there is fast growth but no security available. That could have a profound effect without cost to the Government other than the clerical cost of setting up the machinery. If such a scheme were covered by an insurance premium of, say, 2 or 3 per cent. above the normal interest rates charged by the bank, that should adequately cover any losses.
All that is needed is the Government's effective consultation with the banks to get their co-operation. That would not be wanting if the Government were prepared to do it. Whatever happens, it is no good doing it on a "mini" basis. The country's needs are urgent, and any schemes must be carried out on a substantial scale—a scale that will awaken the whole land to the needs.
How many jobs could we create by such a process? We need at least 2½ million. Perhaps half of those could comfortably come from the natural expansion of the economy after inflation has been conquered, but it is a difficult world at the moment and it is doubtful whether natural expansion could easily provide 1¼ million new jobs. Apart from that, investment in large firms will create difficulties, because investment money will go into automation and robot machinery, and that will increase the number of those needing jobs. The small firms, therefore, must fill the gap. There is no one else to do it. The Government must recognise that and make sure that the gap is filled and that the small firms are not denied the weapons to enable them to do so.
If every small firm took on one man that would create over 1 million new jobs. Perhaps it is more practical to think of some of them taking on 10 men and some of them taking on none. Even so, more than 1 million jobs can be found through the encouragement of the small business sector.
Equally, jobs can be found in the medium-sized company sector. Even with the diminished number of medium-sized firms in manufacturing—2,800—if these are added to the other medium-sized firms in service industries around the country it would be possible to provide the kingdom with another 250,000 jobs.
I am therefore pleased to be able to tell the House that my Small Firms Expansion (Inquiry) Bill asks the Government to appoint a committee of inquiry to examine how the small business sector can create a large number of new jobs. I do not apologise for repeating myself about jobs. Unemployment is painful and dreadful. We have here a way of curing it in association with the natural uplift of the economy after inflation is conquered.
My Bill calls on the Prime Minister herself, in view of the urgency, to appoint the members of the committee of inquiry. It asks for a small firms research institute to be set up related particularly to the application of new inventions. The existence of such institutes in other countries is part of the reason why their small business sectors contribute more to the output of their nations than ours does. Although we call for the research institute to establish more facts, we have enough information now for the Government to take the necessary measures to ensure that jobs can be created by small firms.
My Small Firms Expansion (Inquiry) Bill calls for inquiry into many financial aspects, affecting small firms, 585 one of these being the appointment of a loan guarantee board along the lines that I have already discussed. I emphasise that it would be self-financing, because I want the Government to press ahead and get on with setting up the board. I believe that there is improved bank lending for smaller businesses because of the efforts of those who have spoken out about the need for it. Already the banks are responding, but it is not enough. The scale needs to be improved, and the Government need to be active to make sure that it is enough.
I have already explained why there should be a reduction of capital transfer tax. For the medium-sized firms there is the problem of corporation tax. What an extraordinary thing it is. The system of corporation tax relief gives small firms relief down to 40 per cent., and we are grateful for that. It charges 52 per cent. for large companies. But for medium-sized companies the system, for a substantial part of their taxation, charges 66 per cent. corporation tax. Surely that is daft. It discourages any small firm from going through the medium barrier to become a large firm. If the Government say that they cannot afford the money to change the scale they can alter the whole scale. They can give less benefit to the upper end available to small firms so as to make certain that there is at least a straight line connection right through from the relief of small firms to the relief available for large firms. It is plainly unwise to have a higher rate for medium-sized firms, if we want firms to grow.
My Bill calls for a graduated system of corporation tax to be examined, with a view to it being less for the very small firms, with perhaps, exemption on the first few thousand pounds. The question of stock relief also needs re-exmination. The nation needs high output, not high stocks. There is the possibility of the Government giving special relief for early years in trading, for "Aunt Agatha" type investment reliefs including capital gains tax roll-over relief for money moved from listed investments into small firms.
There are 50 measures in the Bill, which has been closely examined by members of my committee and derives from many consultations and documents. I hope that the Government will look at the list and see whether they can bring forward a large number of the measures relating to financial matters for the forthcoming Budget.
Small businesses, too, should have a proper share of public contracts as they do in other countries, especially the United States. They should also have some protection against the economic malpractice of delaying payments to them while at the same time forcing them to pay their debts quickly, often under the threat of withdrawal of supplies. Government agencies, local agencies and large businesses can help greatly in that respect.
Pension rights and their transfer also need careful examination. Although there are arrangements for transfer at present, they often result in a substantial loss to the pensioner if he moves from a large firm to start up a small firm. The national insurance surcharge, as well, has annoyed many small businesses because it is effectively a tax on employment.
All those and many other matters deserve exacting consideration but, even more, they require urgent action, even if the Government were to make some errors in their action due to speed, because we have a high level of unemployment and we must do something about it. It is 586 better to get on with it now than to wait. In that connection I ask the Government to ask themselves whether the machinery of government in this country is adequate to enable small and medium-sized firms to play their full part in the economy and whether we should have an independent Department of Government, along the lines of the Ministry of Agriculture, to ensure that there is rapid growth and an effective application of modern science to the small and medium-sized sector.
It is not enough to have a junior Minister within a large Department, particularly when he has additional responsibilities apart from small businesses and when small business matters cut across the whole area of government. Most Departments have some connection with small businesses. However, that is a matter for the Government, and however they manage their machinery they must somehow get on with the job of ensuring that capital is injected into the small business sector, which is the only sector that can conquer unemployment. My committee believes that that is just what it can do.
Those of us who are connected with the further revival of small businesses give to the Government the weapons within my Bill and within the list in the report by the right hon. Member for Huyton and all the other reports that have latterly come out in relation to small business. There is available to the Government the mechanism by which they can help to create full employment again for this kingdom. I beg them to act, and to act now.
§ Mr. Jack Straw (Blackburn)
I did not realise that taken with the motion moved by the hon. Member for Winchester (Mr. Browne) would be the Second Reading debate on the Bill published by the hon. Member for Upminster (Mr. Loveridge). However, we learn something every day.
When my right hon. Friend the Member for Huyton (Sir H. Wilson) published his report in June last year, he had to issue its press release from his hospital bed. Everyone in the House today is very glad that he has made such an excellent recovery and that he has been able to make such an important contribution to this debate.
We are all grateful to the hon. Member for Winchester for providing this opportunity—the first—for a debate on this important report. I think that we are all intrigued, too, by his suggestion that we should all seek to take politics out of the minimum lending rate. I have been reflecting on that proposition, but it is difficult to conceive any alternative in a democratic society except, perhaps, the alternative of prayer. Perhaps it would be a better idea if the Governor of the Bank of England were in future summoned to Lambeth Palace for his instructions on the MLR rather than to Great George Street.
While we are grateful to the hon. Member for Winchester for arranging this debate, the truth is that a Friday debate on a Private Member's motion is no substitute for a full debate in Government time which a report of this magnitude deserves and which I understand both its predecessors, the reports of Radcliffe and of Macmillan, received in their time.
When the former Leader of the House was asked about this by my right hon. Friend the Member for Huyton on 11 December last, he acknowledged that a debate was held on the Radcliffe report and said that my right hon. Friend's report ranked with that report. If it ranks with it in terms of importance, so it must also rank in terms of the 587 Government time which must be given to debate this matter. I look forward to the Financial secretary, when he responds, promising that there will be such a debate.
This is a very complex area, and I therefore make no apologies for not seeking to cover the whole ground of the report in quite such extensive detail as the hon. Member for Upminster.
At its outset, the report said:The working of the financial system remains mysterious to many people, and, being mysterious, attracts suspicion and criticism.The workings of the financial system have remained a closed book to many outside the City, not least because until recently the book had been kept under lock and key by those within the City. It was a writer in the Financial Times who said, in commenting on the report, that it was not so long ago sinceCity men tended to divide themselves up into a number of exclusive clubs, and to think that the public ought to be grateful for being allowed to give them its money.But it would be a mistake to assume that the criticism and suspicion of the City which arises does so simply from an incomplete understanding of the technical workings of the City. It does not. It arises, above all, from a deep sense that these institutions have neither served British industry well nor have been politically neutral. When my right hon. Friend the Member for Huyton, in a celebrated speech just after Suez, characterised those financiers seeking to make their dispositions with regard to sterling as the "gnomes" of Zurich and elsewhere, he did much to focus attention upon these powerful financial institutions which appeared not only mysterious but potentially malevolent as well.
Many parallels are drawn between the economic policies followed by this Government and those followed by Neville Chamberlain and the National Government in the early 1930s. The parallels are strong. First, the effects of these policies have been very uneven and unequal. Manufacturing industry today, as then, has been brought to the brink of disaster and, in some cases, beyond. Hundreds of thousands of people have been thrown out of work.
As in the 1930s, a few people have profited from such adversity, not least the banks. In terms of bank profits, the banks have never had it so good. It was a leading Conservative politician, reputed to have been Baldwin and quoted by Keynes in "The Economic Consequences of Peace", who said of the post First World War Conservative Party that it was composed of a lot of hard-faced men who looked as if they had done very well out of the war.
There are still some hard-faced men in the Conservative Party and among its supporters who have done extremely well out of policies that have brought nearly 2.5 million people to the dole queues.
It is not only in terms of the effects of these policies that parallels can be drawn with the 1930s but also in terms of their parenthood. It was bankers' policies of so-called sound money that blighted the economy of the 1920s and 1930s. Although the Government must today bear the primary responsibility for the policies that have placed such a pall over the nation, let it not be forgotten that the intellectual godfathers of this impoverishing monetarist experiment sit deep in the heart of the City. This time it is not so much the bankers who are the godfathers as the back-room boys of the City stockbrokers who, in the mid-1970s, gave a veneer of intellectual and economic respectability to the crude and atavistic policies to which this Government are so committed.
588 Many of us feel that suspicion of the City's political role is well founded. That suspicion led, in part, to the establishment of the committee. But no hon. Member who witnessed the property boom of the early 1970s and the staggering collective misjudgment of the bankers and other financial institutions about the risks that they were taking, not with their money but with that of other people, could be in any doubt about the need for a thorough examination of the workings of the City and its financial institutions.
My right hon. Friend's report has many qualities. The first is its readability. I congratulate my right hon. Friend and all those who helped to prepare the report—including its secretary, Mr. Christopher Kelly—on ensuring that some highly technical aspects of the City's operations have been so cogently explained. In addition, I congratulate them on being forthright about those matters of disagreement between members of the committee rather than, as is often the case, seeking the lowest common denominator of agreement. As regards the report's description and analysis of the workings of the City, the report provides some important illumination of some aspects of our financial system that have been obscured by conventional wisdoms and myths. I refer particularly to public borrowing and its relationship with the money supply.
At no other time than in the depths of a slump of the type experienced today is the size of the Government's borrowing, and the uses to which it is put, more important. As the report points out, discussion on public borrowing has been confused by—a tendency for those looking at the PSBR over several years to stress its absolute value rather than its size relative to GDP, and the fact that the real value of public sector debt has not been rising despite large new borrowing has not been widely appreciated.Indeed, the decline of the real value of public sector debt is staggering as the chart on page 77 makes clear.
We see that since 1967, the national debt has declined in real value by over one-third, and now stands at 65 per cent. of one year's GDP, compared with about 100 per cent. in 1968. We do not hear very much about that in the calumnies from the other side of the House about the undesirability of public borrowing.
Although we may disagree about the size of public borrowing, we are—I hope—all agreed on the need to sell Government debt at the lowest possible price. If so, the Government should pay close attention to the analysis of the report of the perverse effects which published monetary targets can have on the sale of gilts, particularly in a situation in which the institutions have become such large and dominant purchasers. Their dominance of the market, coupled with what the Stock Exchange described in its evidence to the committee as—the emergence of an identity of view by the institutions has meant that the two-way nature of the market, and thus its liquidity, has diminished.One minute there are no takers; the next minute, brokers are literally falling over themselves in their rush to buy, as they did in early 1979 when, as the House will recall, a gilts issue was 13 times over subscribed and there was the nearer equivalent to a riot in the issuing department of the Bank of England than there was in the House shortly before Christmas over the proposals of the Secretary of State for the Environment to increase council rents.
When the Radcliffe committee reported in 1959, concepts of the public sector borrowing requirement and of the M1 and M3 measures of the money supply simply 589 did not exist. The dominance of monetary policy in our economic debates is one change that the committee has well charted.
The committee's main, indeed its seminal, contribution, however, was its illumination of the rise in importance and power since 1959 of three groups of institutions to which my right hon. Friend referred—the building societies, the pension funds and the insurance companies—and its discussion of the critical need to ensure that more medium and long-term funds are made available to industry.
I turn, first, to the change in the institutional balance of power inside the City. Since 1959, building society deposits have increased three-fold in real terms, 16-fold in nominal terms, and their share of total domestic sterling deposits has risen from 18 per cent. in 1964 to 38 per cent. in 1978. As the building societies' share has risen, that of the clearing banks' deposits has fallen and now stands at only 30 per cent.
Even more dramatic, however, has been the rise in dominance of the pension funds and insurance companies. At the end of 1978, they held well over half of all listed equities compared with one-fifth in 1957. They held half of the United Kingdom listed company loan capital, and two-thirds of all gilts. Their net annual inflow is now about £10 billion and their total assets about £40 billion. What is even more staggering is that the Government Actuary predicts that their liabilities—and therefore, one hopes, their assets—at today's prices will have to quadruple by the year 2000.
Alongside those institutional changes, there has been the very large increase in the personal savings ratio, which rose from around 6 per cent. in the early 1960s to more than 15 per cent. in 1979 and even higher last year. That increase in personal savings has come about at least partly because of the passage of the Social Security Act 1975 and the obligations that it imposed upon employers and employees to make provision for long-term pensions. My right hon Friend the Member for Huyton pointed out that during the passage of that Act there was very little discussion of the potential effects that such large channelled savings would have upon the economy. At that time, I was working in the Dept of Health and Social Security as an adviser to my predecessor in Blackburn, Mrs. Barbara Castle. My right hon Friend referred to her as Lady Castle. I do not think that she will thank him for that description. I confirm entirely what my right hon Friend said. At that time, although we were most concerned to ensure that that long-term provision was made, I recall that there was virtually no discussion in the Dept or comment from the Treasury about the long term economic effects of that change in savings regime.
That is not, however, to say that the issue was never considered. My right hon Friend the Member for Stepney and Poplar (Mr. Shore), along with Richard Crossman and Richard Titmus in the 1950s and early 1960s, gave a great deal of thought to the way in which a national superannuation scheme should be structured in order to produce not only social benefits for elderly people but economic benefits for the country as a whole. In the early and mid-1970s, my hon Friend the Member or Vauxhall (Mr. Holland) and my right hon Friend the Member for Bristol, South-East (Mr. Benn) came forward with proposals, which are now gradually seeping into the 590 conventional wisdom of this country, about the need to channel part of the pension funds into real, direct investment in British industry.
What is most significant about the vast increase in the holdings and the power of these three sets of financial institutions is that these changes have arisen not primarily as a result of their more effectively competing in an open and neutral market but as a result of explicit social policy decisions made in this House to encourage home ownership, in the case of the building societies and to provide earnings-related pensions for the whole of the population in the case of the pension funds and insurance companies.
The fact that it was not the invisible hand of competitive market forces but, rather, conscious political decisions external to the institutions themselves, which has led to their now pre-eminent role, seems to me to be a crucial factor to be taken into account in setting the criteria against which these institutions should be judged and in determining the extent of their accountability, particularly in the circumstances in which they are the holders of enforced savings of the working people of this country—enforced savings at present over which most of those people have no control, either as to whether they make those savings or as to the use to which they are put.
Britain's relative decline—sadly, now, its absolute decline—has been well charted, although there is far less agreement about its causes. If we look at the facts, we find that our relative investment in manufacturing industry is of great significance. It is true that part of the problem is that, pound for pound, we get less out of our investment than our major competitors. None of us should ignore the fact that that is so. However, the Secretary of State for Employment was wrong to suggest on 15 January that that was the whole of the story and that the problem was simply that we got too little out of investment. The figures in the report, not least in table 10.19 of the appendix, show quite clearly that the other side of the story is the absolute level of our investment in manufacturing industry. The fact is that in absolute terms too, our investment, particularly in manufacturing, as a proportion of the nation's total output is less than any of our major competitors.
To the charge that the banks and other financial institutions must accept part of the blame for the under investment in British industry, the traditional reply—although I am glad to say we have not heard too much of it today—is that it has not been the supply of funds but the demand which has lain at the centre of the difficulties. The report reflected that view when it said:it is not the availability of external finance which has been, or is likely in the forseeable future to be the constraint on investment, but the depressed level of demand and the low real level of profitability in relation to the cost of capital".That response has been used by some in the City and the press to suggest that the City bears little or no responsibility for Britain's relative decline and that it has received a clean bill of health from the report. However, a close reading of the report does not support that conclusion, because it concedes that the apparent absence of unsatisfied demand for investment funds at the prevailing pricedoes not necessarily mean that either the price or the demand for funds are at desirable levels in a macro-economic sense".Secondly, the report makes clear in paragraph 930 that so far as small business is concerned: 591The financial system does seem to have had a degree of difficulty in meeting the demands of small and especially new firms".Moreover, those who take such a complacent view about the City's role need to reflect on two things. First, they should reflect on the evidence that all hon. Members receive anecdotally from those involved in industry about the attitude of the British banks. A reflection of industry's disbelief in the City's and the banks' view of themselves was well-evidenced in the excellent series in The Sunday Times on the banking system last year of which Lord Lever and Mr. George Edwards were the authors. The chairman of the National Westminster Bank claimed one week thatthe main constraints on further borrowing and investment are from the borrower's side.He was met the following week with a barrage of criticism from his own customers. For example, Mr. C. Hardcastle, the managing director of Perdix Components, who preceded his remarks about the banks by declaringI am one of the entrepreneurs you all write about and a successful one, so that I do not write from a failure positionwent on to sayThe banks' failure has lasted for many years—he was a customer of the National Westminster Bank—and is continuing into the future despite what is by now overwhelming evidence of the need for change.Secondly, those who take a complacent view about the role of the banks and the City institutions in relation to industry need to reflect on the way overseas banks, particularly those from the United States, have so expanded their lending to British manufacturing industry in the past few years. If the United Kingdom clearers had been meeting industry's needs, the overseas banks would hardly have got a look in, given the dominance of the market that the clearers had to start with. In a short period of time, however, overseas banks have moved from almost nowhere to the position they occupy today. They account for nearly one-third of all lending to United Kingdom manufacturing enterprises. It is a staggering total. It is, I fancy, unparalleled in any other major industrialised country that one-third of lending to domestic industry comes from foreign banks.
Industrialists who have switched to American banks will say that they have done so because they find these banks more understanding of industry's needs, more willing to base their lending on prospective cash flow and serious judgments about the firm's prospects and because the American banks are found to be less obsessed simply with assets and security.
The hon. Member for Upminster himself referred to the caution and conservatism of the United Kingdom banks. It is nowhere better evidenced than in the debt-equity ratios that the banks use as a guide and yardstick to their lending policies. No other industrialised country has such a cautious and conservative approach to lending to manufacturing industry. Against the same equity values, German banks allow their customers to borrow almost twice as much as British banks allow, French banks allow their customers to borrow almost three times as much, and Japanese banks allow their customers to borrow almost seven times as much. The one thing that Germany, France and Japan have in common is that all have done dramatically better than us in terms of economic expansion.
The odd feature about the caution of British banks is that it is confined only to manufacturing. It is confined only to investment in real jobs in British industry. These 592 banks, I am afraid to say, showed no such caution or conservatism when it came to investment in property and land speculation in the early 1970s when gearing ratios were thrown to the wind and the Labour Government, who were dealing with many other problems, had to set the lifeboat afloat to save not only secondary banks but major clearing banks from insolvency and the near collapse of the British banking system.
The fact that the British financial institutions have a distant relationship with industry—the hon. Member for Winchester described this in terms of a tremendous void between industry and the City—is understandable given the City's history. Its institutions have been built not primarily upon their need or role as funders for industry but, historically, on their position as the trading post for the empire and as the intermediary for Government debt. The distance between the City and industry has been reinforced by our class system, by our education system and by the country's North-South divide, with manufacturing employment concentrated away from the Home Counties but with its effectve control, through the financial system, in London. Our industry does not benefit from the national industrial banks of our European and Japanese competitors—let us not forget that many of those banks in France and Germany are publicly owned—and it does not benefit from the local banks, sensitive to local needs, that exist in the United States.
The divide between the City and industry is well evidenced by relative flows of cash abroad. Our investment overseas is far higher than that of any of our competitors and it is getting bigger. The figures published by the Committee comparing proportions of overseas investment with totals of national wealth make appalling reading. Our investment abroad, both direct and portfolio, as a proportion of national wealth, is running at four times that of Japan and France and is even twice that of the other great trading nation the United States.
Moreover, that investment is getting bigger. In the first nine months of 1980, the financial institutions invested more than £1.4 billion in overseas securities, which was 10 per cent. more than their investment in United Kingdom companies. Whatever the argument about the benefit to Britain of companies' direct, real investment abroad—and I accept that there are some—portfolio investment overseas on such a scale must be at the expense of Britain's long-term economic prosperity.
Since the financial institutions hold their power through the forced savings of working people, and since the long-term interests of those people lie not in whether the yield on the Tokyo stock exchange is 1 per cent. or 2 per cent. higher than that in London but on the creation of jobs in this country, through real investment here, the institutions will have to accept a broader and deeper definition of their social and economic obligations in making their investment decisions. I accept that the House has a responsibility to change the climate and, to some extent, the institutions' obligations to achieve that end.
I was glad that four members of the committee, including the chairman, backed the TUC's modest proposal that one-tenth of institutions' funds should be earmarked for industrial investment, subject to a guaranteed return to the institutions. Within the framework of the sort of coherent industrial strategy that we shall need to put Britain back to work, such a proposal could be of major importance in assisting investment in this country. It has not been much discussed in the debate, 593 but when partial direction of funds to industry has been suggested in the past it has been greeted with horror by Conservative Members who suggest that there will be Government interference in investment decisions. It is suggested that if the institutions are left to themselves they will do better.
I understand all the constraints that my right hon. Friend the member for Huyton referred to, and the narrow duties imposed on the institutions, but their track record and that of the banks is not all that good. It does not follow automatically that short-term profit maximisation is in the long-term interests of either their beneficiaries or the country generally. Let us not forget the record of those institutions. They almost brought the British banking system to the point of collapse. We must acknowledge that there is a greater, rather than a lesser, need for scrutiny of their investment proposals.
We must also bear in mind that what Conservative Members hold their hands up in horror at today is sometimes accepted as conventional wisdom tommorrow. That is almost happening with the National Enterprise Board. When the NEB was first proposed, even some Labour Party members suggested that it would lead to the end of civilisation as we know it. Not only do they now support it, but the Liberal Party included it in its 10 point plan.
§ The Under-Secretary of State for Industry (Mr. Michael Marshall)
Did the hon. Gentleman receive a copy of the plan?
§ Mr. Straw
No. I am not sure whether the Under-Secretary or the Chief Secretary to the Treasury received a copy. If they did, I shall be pleased if they will photocopy it and send it to me, provided that they put it in a plain, sealed envelope.
The National Enterprise Board has become part of conventional wisdom. The Government, in spite of their commitment to a free market ideology, have not had the confidence to abandon it altogether. They are using it as a vehicle for investment in small businesses.
In a recent speech to the House, the Prime Minister waxed eloquent about the funds which the Industrial and Commercial Finance Corporation and Finance for Industry had generally made available during the past year to small businesses. It is forgotten that ICFC was established at the behest of the coalition Government as part of the post-war reconstruction programme. It was announced to the House on 23 January 1945. To those who say that no financial institutions are acceptable or ever will be acceptable, let me quote the statement made by Sir John Anderson at that time. He announced various arrangements with ICFC, using the wordsIn order that the policy of the company may conform to the general economic policy of the Government".—[Official Report, 23 January 1945, Vol. 407, c. 645.]I am glad to know that the Prime Minister supports the dirigiste arrangement or constructive intervention that lay behind the National Enterprise Board and behind the whole idea of the Trades Union Congress facility.
There are two further matters on which I want to comment. The first concerns building societies. I am sorry that the hon. Member for Enfield, North (Mr. Eggar) is not here, because he described himself as a demented Back Bencher. He is the only person in the House who would 594 use that description about himself. Many Opposition Members may feel that his judgments are misguided, but none of us believes that he is any way demented. He made an important and interesting contribution today about the role of building societies.
Building societies have been criticised, and with some justice. Certainly there is little argument for the way in which they have opened so many branches competing with one another in what is essentially a non-competitive market. The Committee proposed that the recommended rate system should be abolished, and we await with interest the Government's response on the matter.
However, we must not throw the baby out with the bath water. Building societies have been relatively successful in meeting the objectives set for them by this House and by the country. Until the Secretary of State for the Environment got his claws on the housing programme, we were becoming one of the best housed countries in Europe. Building societies have demonstrated that it is possible to agree on wider social objectives and for those objectives to be translated into reality through institutional and fiscal measures. They have also demonstrated that it is possible to defy the apparent laws of economic gravity and to borrow short and to lend long. We should draw on the experience of building societies in trying to find new institutional and fiscal arrangements for channelling investment into industry.
The hon. Member for Winchester spoke about indexation. The high and uncertain level of inflation has been one factor in Britain's poor industrial performance, at least in the 1970s. One response to that has been indexation. I am aware of the arguments against indexaton, in particular that it tends to institutionalise inflation and make people too relaxed about its prospects. The hon. Member for Winchester described indexation graphically as simply a painkiller for inflation, not a cure.
In addition, however, to seeking sensible policies to reduce inflation, we must do our best with today's situation. The Government are in one of the worst possible worlds. They are committed, as all Governments must be, to securing the lowest possible rate of inflation. In a strange and perverse way they also have a vested interest, because of the high fixed interest on their long-term debt, in double digit inflation running to the end of the century.
Despite what the hon. Member for Winchester said, indexation has been accepted in Britain, both in terms of national savings through "Granny" bonds and in terms of the treatment of company profits. The whole argument about current cost accounting is to index companies' profits both in terms of judgment in the markets and in terms of their treatment for taxation. That is also the purpose of stock relief.
I noticed that the hon. Member for Winchester received with approbation the suggestion by the hon. Member for Upminster that capital gains tax liabilities should be indexed. It could be argued that indexation of companies accounts and profits would make the companies themselves less willing to fight inflation. I do not accept that. I believe that they have to respond to today's situation. We should not go overboard on indexation. We do not want inflation or indexation to reach the levels that they are in the Latin American States.
The recommendations in the report for the creation of a neutral fiscal climate in which companies could issue their own long-term indexed bonds and the suggestion that 595 there should be an experiment with indexed linked gilts are worthy of consideration. I look forward to hearing the Financial Secretary's response to that.
The report has made an important contribution to our understanding of the City and to the crucial debate on how to revitalise our manufacturing base. The message of the report and of the House is that the City and the financial institutions must change and adapt to Britain's changing needs and circumstances. They must acknowledge and accept greater and more active responsibility for the economic health and, above all, for the creation of new jobs and new work which the nation so desperately needs.
§ The Financial Secretary to the Treasury (Mr. Nigel Lawson)
We have just heard the first speech as a Front Bench spokesman by the hon. Member for Blackburn (Mr. Straw). Although I confess that I was not in agreement with a number of things that he said—and he will not be surprised at that—I felt strongly that he did himself great credit with his speech. I congratulate him on his promotion and I look forward to hearing many further speeches from him as a Front Bench spokesman.
I congratulate my hon. Friend the Member for Winchester (Mr. Browne) on a number of counts. I commend him on his good fortune, after a relatively short time in the House, winning first place in the ballot. I commend him on his good sense in choosing this subject for debate. It was an excellent choice and we have had a good debate as a result. I also commend him on his extremely well-informed, thoughtful, thorough and thought-provoking speech on the many issues covered in the report.
A great deal appears in the report. It has been impossible to cover it all in the debate so far. Still less will it be possible for me to cover all the points in it or, indeed, all the comments by hon. Members. My hon. Friend the Member for Winchester put his finger on some of the most important issues. The debate was made even more noteworthy by the intervention by the chairman of the committee, the right hon. Member for Huyton (Sir H. Wilson) made an important contribution, not least in reminding his right hon. and hon. Friends that he and his committee, including a number of prominent trade unionists, were unanimously opposed to the nationalisation of the banks and insurance companies. I hope that he has now persuaded at least his Front Bench of the folly of such a course, even if he has not been able to persuade the Back Benches.
I wish to take this opportunity to pay tribute to the right hon. Gentleman, his colleagues and the secretary of the committee, for a most comprehensive report. Indeed, it is a most readable report—which is not always easy in this area, as the hon. Member for Blackburn pointed out. The right hon. Gentleman has earned our gratitude and his personal niche in history. The report is a classic textbook which will be read for generations to come.
With his characteristic modesty, the right hon. Gentleman began his speech by drawing attention to the historical perspective of the committee and its report. He need not feel—I am sure that he does not, but is too modest to say so—that the report is in any way outclassed by Macmillan. Although that committee provided the setting for Maynard Keynes to undertake the economic education of Mr. Ernest Bevin its impact was somewhat blurred by the dramatic abandonment of the gold standard in the 596 month in which it reported. Nor need the right hon. Gentleman feel that he was in any way outclassed by Radcliffe. The Radcliffe report, thorough as it was—it was another surprisingly readable report on a highly complex subject—was not clairvoyant. As the right hon. Gentleman pointed out, it is striking how much the financial world has changed since those days, which were less than 30 years ago. Radcliffe made no mention of inflation, or, perhaps as a consequence the problem of the growth of the money supply. The world has changed a great deal.
This report will ensure that there is no excuse whatever for ignorance of what the financial institutions do and the problems that they face. I am sure that the right hon. Gentleman would seek not to be judged on the tally of which individual recommendations have been acted upon—whether they were addressed to the Government or to outside bodies—but rather on whether the concerns that exercised his committee have received general recognition—as a result of the report and the published evidence—of the general issues that need to be faced, rather than ignored.
The historical perspective must have prepared the committee for finding that even during the course of its investigations it was aiming at a moving target. The preoccupations that were paramount when the committee was first nominated were by no means those that loomed largest when it finally reported. In large part, that must be as a direct consequence of the thinking and research that was stimulated within the committee and among those who prepared evidence for it. Another change has been the judgment of the electorate, which had some bearing on the economic life of the country during the time that the committee existed, and time has not stood still even since the report was published last June.
I shall do my best to answer a number of specific questions as I go along but, first, I wish to make some general observations on the subject. The roles of the financial institutions and the sea changes in them that are described in the report—the deputy governor of the Bank of England reminded us of them again in his Sykes Memorial lecture last week—are of considerable importance. Nowadays, these roles may be better understood but equally, in some ways, they are harder to understand because they are rather more complex than they once were. Banks, for example, now offer mortgages, and bank lending may take the form of leasing, factoring, term loans or even equity holding, as the right hon. Member for Huyton pointed out. Pension funds may be managed by the parent employer, but again they may be entrusted to merchant banks, insurance companies or independent specialists, and again any of the long-term institutions may step out and take on the role as venture capital bankers.
There has been a lot of discussion on both sides of the House about building societies. Building societies may tempt their depositors to place funds for longer and longer terms, and they may go surprisingly far down the road in the direction of providing money transmission services. Trading companies are becoming almost bank-like in their corporate treasury departments, themselves setting up leasing facilities, offshore financing subsidiaries and captive insurance companies. Again the international dimension is increasingly important now that we have been able to restore reality to the ideal of free movement in capital.
597 The public sector, too, as a somewhat regretful but ever insistent borrower, has had to show increasing ingenuity while the authorities have had to balance this problem against the needs of monetary control. In this area, the report has been particularly helpful in ventilating the issues, even though some of its analysis may have been overtaken by the continued development of theoretical and practical thinking.
The overlapping of functions on the part of the institutions which I have described and the diminishing effectiveness of mechanisms such as the corset and the reserve assets ratio may be a headache for the authorities, but, seen in the perspective of the economy as a whole, they are evidence of a vitality and a spirit of enterprise which we should build on rather than regret.
With this in mind, I look at the guidance offered by the right hon. Member for Huyton and his committee. The committee sees the financial institutions, especially the three main groups—the banks, the building societies and the long-term funds, of which the pension funds are a very important part—as holders of great power and as beneficiaries to a greater or lesser degree of fiscal and regulatory arrangements which have developed over time in a manner which now seems sometimes capricious and inconsistent and certainly may not have been foreseen at the time the original legislation was enacted, while on the outside of the City it sees the circle of clients comprising individuals, industry and commerce, foreigners and the State. Then, to oil the wheels, there is this network of intermediaries—the merchant bankers, the money brokers, the legal and accounting professionals and, perhaps most important, the members of the Stock Exchange.
Many of the problems experienced in financial terms, such as fluctuating inflation, high public sector borrowing, low private sector profitability and a strong exchange rate, are external to the financial sector in their origin. The committee was right to stress the importance of these external factors which are the meat and drink of political debate and of public concern as expressed in this House and elsewhere, such as NEDC, the press and throughout the country.
In this context, the present Government are taking a rather longer-term view than some of their predecessors in the belief that seeing through a coherent strategy in these areas over a period of years will produce permanent rather than merely cyclical results.
A second set of issues arises from the impact on the City of legislation passed by successive Governments to raise revenue, to protect the public from fraud and to influence behaviour in directions which from time to time have been thought socially and in other ways desirable.
My hon. Friend the member for Winchester and other hon. Members raised the question of "fiscal neutrality" This widely-used term begs many questions, because sensible incentives to use financial resources productively are clearly desirable while over-taxing in any sector must damage morale and destroy initiative. However, the Government must raise revenue where that can equitably be done. Those who make representations should always consider whether they are asking for the removal of anomalies or simply for an increase in their net income.
My hon. Friend was perfectly straightforward about that matter. He said that there should be tax concessions 598 for the individual investor to be paid for by taking away the favourable tax treatment given to institutions such as the pension funds.
However, that is not what everybody is asking for. Some people would be horrified at the thought of any of the concessions—which are allegedly favourable to the pension funds, the insurance companies and so on—being removed. The consequences would be far reaching, but increased help is still being called for by individual investors to encourage individual investment, in particular in risk enterprises.
The Government have that latter objective very much at heart. We have made a number of moves in that direction, as in last year's Finance Act. The venture capital scheme in particular gives relief for losses on equity investment made by individuals in small companies. That was an important step in the right direction, but there are grave limitations when one is always talking about reliefs which will not be offset by increases in taxation elsewhere.
In some cases, the tax arrangements raise problems of mechanics of administration rather than of fiscal policy. A case in point is the tax relief on mortgage interest—that matter was touched upon in the report.
I should like to take this opportunity to make an announcement about the admimistrative arrangements for giving effect to mortgage interest relief. The present arrangements for dealing with tax relief on mortgage interest go back more than 50 years. When interest rates were more stable, and when there were fewer taxpayers and house buyers, they worked well.
However, in recent years, the arrangements have become increasingly costly to administer. When interest rates change, PAYE taxpayers can frequently over-pay or under-pay tax. My right hon. and learned Friend the Chancellor of the Exchequer is therefore asking the Inland Revenue to study, together with the major lending bodies, how the arrangements for giving relief might be altered so as to make them more efficient.
In 1973, as the House will recall, a deduction of tax arrangement was considered as part of the tax credit scheme. At the time, there were difficulties with that proposal. However, much has happened since 1973. After an interval of eight years, it is sensible to go over the ground again.
We have been encouraged by the success of the scheme for giving life assurance relief at source by means of deduction from the premiums. We have a broadly similar mechanism in mind for mortgage interest, but it will be for the joint study to work out the details of any new arrangements.
I should make it clear that the purpose of that study is to explore the possibilities. No decision will be reached until it has been completed. I also emphasise that the study will be concerned only with the mechanism for giving tax relief. It is not the Government's intention to restrict the amount of relief to which taxpayers are entitled. Clearly, any new arrangements could only give basic rate relief at source. It follows, therefore, that relief for higher rate tax would be given separately.
The study will of course need to take account of the option mortgage scheme, but again I want to make it clear that the Government do not have in mind an extension of that scheme. An Inland Revenue press release on the proposed new administrative arrangements for mortgage interest relief is being issued today.
§ Mr. Michael English (Nottingham, West)
I just wanted to rescue the right hon. Gentleman from his own modesty. He was of course an able member of the former General Sub-Committee of the Expenditure Committee when we asked the Inland Revenue about this possibility. I am pleased to see that he is carrying on the good work.
§ Mr. Lawson
I am grateful to the hon. Member for mentioning the many happy years that I sat on the General Sub-Committee of the Expenditure Committee under his chairmanship. The story is as he says. That is why I make this modest announcement today with particular pleasure.
When it comes to regulatory activity, the Government again have made some useful progress in the last 20 months. Insider dealing was at last outlawed; and no one, to my knowledge, has found fault with the decision to take that line.
Also, in implementing EEC requirements for defining the characteristics of public and private companies, we have paved the way for a simplification of the legal obligations placed on smaller businesses. I hope that that will give some pleasure to my hon. Friend the Member for Upminster (Mr. Loveridge) when he reads the Official Report.
My hon. Friend the Member for Winchester attached some importance to the question of companies being able to buy their own shares. The forthcoming Companies Bill will enable companies to repurchase their own shares, subject to proper safeguards.
Another point mentioned both by my hon. Friend the Member for Winchester and by the right hon. Member for Huyton is the reference of the Stock Exchange to the Restrictive Practices Court. I am, of course, well aware of, and fully understand, the unhappiness that there is in the Stock Exchange about that reference. I think that it is fair to say to the right hon. Gentleman that it was the previous Administration—I think after he had ceased to be Prime Minister—who decided to extend the restrictive practices legislation to virtually all services in 1976. When they did that, they did not include the Stock Exchange rules in the list of exemption agreements.
The reference to the court flows directly from that. In those circumstances, the Director General of Fair Trading was under a clear legal obligation to refer the restrictions to the court, and he did so in February 1979.
In the Competition Act, we have improved both the terms under which the case could be considered and the options open to the parties subsequent to an adverse judgment. It also remains open to the Stock Exchange to discuss its rules with the Office of Fair Trading on a "without prejudice" basis, as other self-regulatory institutions have already done. But, subject to that, this is a matter of law. The law is as it is, and events have to take their course within the law.
The third range of issues that I wish to mention are those which are primarily matters for the market practitioners themselves.
§ Mr. John Browne
My right hon. Friend says that the restrictive practices case against the Stock Exchange is a matter of law. However, is it not possible for him to see the nonsense in this case—it is an important nonsense, because the Stock Exchange affects the whole country—and have something done about changing it, either the ruling, which would enable the matter to be heard by the Monopolies and Mergers Commission, or 600 something like that? Is it really good enough just to say that it is slippage which occurred many years ago and that we must accept it? Surely, that is what we on this side are about, particularly on this issue.
§ Mr. Lawson
The matter is sub judice in a sense, and that makes it difficult. The Restrictive Practices Court is not a normal court of law. If I remember the words of the right hon. Member for Huyton correctly, he said that this is not a justiciable issue. But it has to be decided by a judge plus two lay experts, not a judge on his own or by lawyers on their own. I sympathise about the difficulties. Something would have to be put in its place, but, as my hon. Friend suggested, to change course now might well take a great deal longer and prolong the uncertainties which are making life difficult for the Stock Exchange. It is arguable that, having reached the present stage, the speediest resolution of this difficult problem is to bring the proceedings to a conclusion.
§ Mr. Browne
It is a problem not just of delay but of cost. I cannot speak on behalf of the Stock Exchange, but I hear that it has set aside about £1 million to defend this case. Again, I cannot speak for the Stock Exchange, but I should have thought that delay would have been better than a cost of £1 million.
§ Mr. Lawson
I am not sure about that, but this is a matter to which the Government have given a great deal of thought. It is finely balanced matter, but the Government have reached a decision. I have reminded the House of that decision, and I cannot spend time on this occasion to explain the matter further. The Government have reached their decision in this admittedly rather tricky and unfortunate issue—we make no pretence about that.
There is a further range of issues that are primarily matters not for the Government but for the market practitioners. Included in this group of issues is the financing of industry and trade. Many references have been made to this on both sides of the House. That should remain as a matter for the practitioners in the market, although a number of members of the committee, including, I regret to say, its distinguished chairman, thought that they could hand over responsibility to a benevolent, infallible and technologically advanced facility with a bottomless purse, whether steered by Whitehall or some even less credible tripartite body. But, as the right hon. Gentleman rightly reminded the House, the committee did not see any advantage in nationalising the existing financial institutions.
Since the main report appeared last June—and the interim report on small firms was published a year before—the City has done much to demonstrate the vitality that I mentioned before. The clearing banks have offered equity finance to small firms. One investing institution—the Prudential—is suing directors who seem to be defrauding their companies. The Stock Exchange has opened its unlisted securities market and I understand that it has already signed on about two dozen companies. This matter was raised quite properly by my hon. Friend the Member for Winchester and discussed also by the right hon. Gentleman.
Among the actions taken by the Government over this period have been the abolition of exchange controls and dividend controls and the unacceptably high marginal rates of tax. All of these were items about which witnesses to the comtnittee chaired by the right hon. Member for 601 Huyton gave telling evidence. The response to these changes has been a matter for the City. Companies have been changing their methods of financing by reverting to sterling finance for overseas operations, by examining their use of the currency markets and invoicing procedures, and by broadening the overseas elements of the portfolio investment.
I hope that the banks—I am sure that they will—and other financial advisers will press home the wider opportunities that now exist in this freer climate. To some extent, too—I am thinking particularly of the abolition of exchange control—the immediate scope for offsetting the influence of a strong pound has increased. The hon. Member for Blackburn appeared distressed by the abolition of exchange control, but he produced no evidence of any adverse consequences.
§ Mr. Peter Shore (Stepney and Poplar)
Has the Financial Secretary any evidence of, or any means of estimating, the effect on the exchange rate of removing controls over capital movements?
§ Mr. Lawson
I shall say in a moment what the flows have been as a result. That will indicate that there must have been some influence. However, it is impossible to make the estimate that the right hon. Gentleman seeks. Labour Members and many people outside the House are constantly asking the Treasury to provide careful analysis of precisely how much of the rise in exchange rate has been due to North Sea oil and to interest rates, and how much would have been knocked off by the abolition of exchange control. There is no way in a free market by which each of these factors can be quantified. One can say only that there must be a reasonable presumption that the outflow has had the effect of lowering the exchange rate, just as there is a reasonable presumption, although nothing can be proved, that the existence of North Sea oil has had the effect of raising it.
The outflow of capital can relieve some of the pressure, although we still cannot in any way avoid the imperative of looking to higher productivity, lower costs—including lower wage costs—and less inflation as the main approach to living with the higher pound. Contrary to the view of the hon. Member for Blackburn, I believe that we should welcome the growth of overseas portfolio investment and the better return that it will bring to beneficiaries. However, there must be clear limits—they are not for the Government to set—at which it is prudent for domestic insurance companies and pension funds whose liabilities are denominated in sterling to invest overseas.
In the third quarter of 1980 alone the outflow of portfolio capital came to almost £1 billion, which nearly equalled the totals for the whole year in both 1978 and 1979. There are great benefits to the United Kingdom from the abolition of exchange control, and we have seen those benefits since that action was taken.
§ Mr. Straw
May I ask the Financial Secretary a question about the relationship between the exchange rate and these outflows? If it is not possible to quantify them in any sense—and I have seen the answers, or the non-answers, given by the Treasury to my hon. Friend the Member for Grimsby (Mr. Mitchell) on this point among others—it surely does not lie in the mouth of the Treasury or newspapers like the Financial Times to suggest with a 602 sweep that the exchange rate would have been higher but for these outflows. If the cash had stayed in this country, it is possible that the readier supply of funds would have meant lower interest rates. It is therefore highly probable tht the presence here of those funds would not have led to an increase in the exchange rate.
§ Mr. Lawson
There is no reason whatever to suppose that interest rates would have been any lower if exchange controls had remained in place. The level of interest rates is determined primarily by the need to ensure control of the domestic money supply.
§ Mr. Lawson
The supply and demand concept is there, but it makes no difference to my point.
Labour Members constantly make the point that inflows into the country are putting up the exchange rate. That is surprising. There are big inflows as well as outflows. I was talking about gross figures, not net figures. It is surprising that Labour Members should contest the proposition that outflows of capital have a tendency to produce a lower exchange rate than would otherwise be the case.
§ Mr. Englishrose—
§ Mr. Lawson
I must get on with my speech. I know that one or two other hon. Members wish to speak, and there are other points that I should make, both on the general issues and on matters that have already been raised in the debate.
In the context of the flow of international funds and exchange controls—it can arise in many other contexts—I emphasise the concern of the Wilson committee and its witnesses to give full recognition to the place of the City in the economic life of this country. I am particularly glad that my hon. Friend the Member for City of London and Westminster, South (Mr. Brooke) has been present in the Chamber throughout the debate. Banking, insurance, brokerage and the other services provided by City institutions are some of the most competitive industries in the world. For centuries, the City has built up and preserved a substantial share of world trade in invisibles, with about 10 per cent. of the total—roughly equal to Germany, and second only to the United States. The position is even better in net terms, where the United Kingdom is substantially ahead of all countries other than the United States.
There was no necessary reason why the largest share of the Euro-markets and the earnings that come from them should have been located in London, but they have been. I noted with interest the statement of the committee in its report that there are more United States banks in London than there are in New York.
The hon. Member for Blackburn thought that there was almost a scandal here, and certainly a matter of concern, that an unusually large proportion of lending to British industry is provided by foreign banks in this country. Let me give the reason for that. First, it is healthy that there should be competition, and it is good for industry that it has more banks and sources to which to go. That must be a good thing, particularly in the light of the criticism that the hon. Member for Blackburn and other hon. Members made about British clearers. However, lending to British industry by foreign banks has happened not because of the incompetence of the clearers but because we have a far more open climate for overseas financial institutions than 603 almost any other financial centre. It is right that we should maintain that openness. British banks compete actively abroad, and they are no strangers to international competition throughout the world. The competitive strength of the banking and financial markets in this country produces both earnings and employment. I am delighted that the Committee drew that to our attention in chapter 9 of its report.
A number of difficult problems arise in trying to measure the contribution that the City makes to invisible earnings. What is clear is that with £2 billion or so in net overseas earnings, it is one of the largest contributors, perhaps the largest contributor, to the continuing United Kingdom surplus on the invisible account. The overall surplus on invisibles is falling, and it is likely to continue to fall in the coming years, but I emphasise that this has nothing whatever to do with the earnings of the City. What it is primarily to do with is our success in developing North Sea oil and the resulting increasing earnings of overseas companies that have invested in North Sea oil, because, as the House will know, the invisible side of the balance of payments is a net figure rather than a gross figure.
The City and the financial sector generally is one of our most successful growth industries. It is a clear example of the benefits of freedom from Government interference, or, as the Wilson committee more soberly puts it, the benefits ofa relatively flexible regulatory environment.One entirely predictable result thas been that, unlike some other sectors of the economy, employment in financial services has continued to increase in recent years, reaching now 1¼ million people; that is in financial services alone. I believe that that number will continue to increase despite the increasing automation of banking.
Clearly, I cannot cover all of the points mentioned by hon. Members, but I now turn to a few of them.
My hon. Friend the Member for Winchester and a number of other hon. Members have asked for changes in the fiscal climate, in one way or another. I am sure that the whole House will agree that, at this time, I cannot discuss budgetary matters. My hon. Friend said that what is needed is not the step-by-step improvements that we have made so far—which we intend to continue making—such as the loan guarantee scheme mentioned by my hon. Friend the Member for Upminster (Mr. Loveridge), which is under active consideration. My hon. Friend the Under-Secretary of State for Industry is deeply involved in that. The so-called "Aunt Agatha" scheme has also been mentioned. She will be pleased to know that she, too, is under active consideration. Indeed, we hope that there are ways in which we can continue, step by step, to improve the climate for industrial risk investment and the climate for small businesses.
When my hon. Friend the Member for Winchester asks for a fiscal bombshell, as he put it, I have to point out that with bombshells there can be fall-out, and one does not know in advance where the fall-out will go. I hope that he will forgive me for my rather fuddy-duddy approach to these matters.
My hon. Friend the Member for Enfield, North (Mr. Eggar) explained why he could not be present at this stage of the debate. He spoke against a number of aspects concerning building societies and the way in which they are treated in regard to tax and other matters. I am sure that he was not attempting to criticise the very valuable and impressive job that they have done over the years in the 604 finance of house purchase for the people of this country and the high rate of owner-occupation that we have in Britain now, which is a thoroughly good thing and something that we want to see increasing. We shall consider everything that he said, as we have considered the sections of the Wilson report dealing with this matter.
I think that there were one or two misconceptions in my hon. Friend's speech. For example, in more than one contribution to this debate there has been the suggestion that the composite rate was a tax concession. That is not so. It is meant to be the average rate. It is very carefully calculated. Every so often surveys are undertaken to try to ensure that the calculation is right. It is an average, which everyone pays, so that the total tax collected is the same as if each individual had been properly assessed according to his particular tax bracket. There is no overall concession.
What is the advantage? The advantage is massive administration simplification. In addition, it may prove easier for building societies. The cost of doing away with this arrangement would be over 2,000 extra Inland Revenue staff. That is quite a sizeable figure. I hope that my hon. Friend will think twice before pressing the case for ending the composite rate.
§ Dr. Jeremy Bray (Motherwell and Wishaw)
Can the right hon. Gentleman give an estimate of how many staff would be saved if higher rate relief were abolished? Presumably it would be more than 2,000.
§ Mr. Lawson
Tae Government have no intention of doing that, but we have reduced the staff cost of higher rate relief by reducing considerably the number of those who are liable to pay tax at the higher rate.
I confess that I cannot do justice to everything that has been said. We are little more than six weeks away from the Budget and, therefore, it is particularly difficult to discuss the fiscal proposals that hon. Members on both sides have raised. I have listened carefully to everything that has been said. Finally, I congratulate my hon. Friend the. Member for Winchester on having initiated a most useful debate.
§ Mr. Stuart Holland (Vauxhall)
This morning we have had a considerable analysis of what amounts to a divorce, a divorce between finance capital and industrial capital in the British economy. Extensive credit has been paid to the report of my right hon. Friend the Member for Huyton (Sir H. Wilson). I hope that my right hon. Friend will forgive me, if in his absence, I say that not I do not entirely share some of the praise for his analysis, and if I focus on some aspects that are either remiss or missing.
The report is very useful—as has been recognised—because it shows a shift in savings functions inside the economy, and especially the rise of the role of pension funds and building societies. On the other hand, it has not highlighted the manner in which that has been accompanied by a remarkable trend towards the concentration of capital in the financial sector, or the multinaional trend of such finance.
I turn to the structure of deposit banking. In the 1830s there were about 450 deposit banks in Britain. In the 1890s there were about 100 banks, and as late as 1942 there were some 25 major banks. Today, four major deposit banks command about 85 per cent. of the market. There were 605 about 3,500 building societies in the 1890s, yet there are only about 300 main societies now, the top five of which command half of business. Although there are several hundred insurance companies in Britain, as few as 10 command 80 per cent. of the world-wide premium income of that sector of the financial market.
On the user side of finance, the report draws attention to the overall level and rate of profitability in manufacturing industry. However, it does not disaggregate between larger and smaller enterprises. During the decade that several of the figures cover, the real profitability of manufacturing industry in Britain rose by less than 7 per cent. That is less than 1 per cent. a year. The real profits of the top 25 companies rose by 10 times that amount during that period, namely by 70 per cent. That represents a considerable profit level, which amounted in 1978 to £4,500 million pre tax for those 25 companies alone.
With regard to the multinational structure of enterprise, it is important to recognise that not only has there been a penetration by foreign banking of the credit and lending market to British industry, but that the scale of that penetration—the several times cited one-third accounted for by foreign, mainly United States, banks—relates significantly to the very low level of manufacturing investment in the United Kingdom. It contrasts dramatically with the scale of the Eurodollar and Eurobond market, to which some reference has been made in the debate, which has transformed the whole structure of finance and lending to business, especially big business, over the period since the Radcliffe report in the 1950s.
Reference has been made to the fact that there are some 250 billion dollars in the United Kingdom in this market. There are some 600 billion dollars in Europe, with the United Kingdom financial institutions playing the major role in this market, as the Financial Secretary stressed. Such sums of money far outstrip the increase, dramatic though it may be, in the share of the pension funds and the building societies in total financial assets or liquidity in the British financial system. It is an element which, in my view, the report from the committee of my right hon. Friend the Member for Huyton significantly neglected. It is also important in relation to our trading performance inasmuch as a very high proportion of the direct investment—especially since the abolition of exchange controls by the Government, but also before that during the period covered by the report—has been switched mainly from less developed countries to direct investment in Western Europe. While the investment itself significantly substitutes for exports from this country—a point which has been well stressed by the hon. Member for Blackburn (Mr. Straw)—it is also important to stress that more than half of that investment has been in property rather than in productive enterprise.
On the trading point, the Bank of England, which is hardly disreputable and certainly not especially radical, has stressed that direct investment by British business abroad not only tends to substitute for exports but also accounts for a considerable share of the declining export performance in the United Kingdom.
On the property point, investment is currently running at about £1.5 billion annually in the United Kingdom, 70 per cent. of it in London, and most of that in central London. There is more investment in property outside this 606 country than in all the United Kingdom regions and areas outside London. That shows both a structural misallocation of resources and a regional disproporton in resources. It demonstrates a crying need for controls granted in the current economic and financial crisis.
The scale of the problem is enormous. We have five times as much production outside our own country as German or Japanese enterprise. Foreign production by our businesses is more than twice our total visible export trade, as opposed to less than two-fifths in the case of Germany and Japan. There is also the scale of investment in unproductive sectors of activity outside this country, or in London, rather than in the rest of the country. Problems of that scale cannot be remedied, as some hon. Members have argued, merely by incentives for small firms.
The main problem for small business in Britain today is not big government in the manner imagined by some Conservative Members, but big business. It is precisely the trend towards monopoly concentration and the centralisation of capital in the productive and financial centres of the system to which I have drawn attention.
We have again heard today about the famed MIT study on the rate of growth of small firms in the United States economy. It would be more impressive if someone could cite a study which showed that a similar phenomenon is occurring in this country as a consequence of Government policy. In fact, the only United Kingdom study with which I am familiar is one on the role of small business in the Scottish economy by John Firn. It shows that small firms are growing only in declining sectors of that economy, where by and large big business have had the sense not to invest further, or have withdrawn. It is important to stress that the percentage figures given by the MIT study—in fact carried out by three people associated with MIT—show that a high proportion of new jobs in the United States has been created by small firms precisely because there is so much net job displacement by big business, including the same syndrome which is affecting British industry, namely, the increasing location of investment by American multinational business abroad.
The Radcliffe report, which is the predecessor of the current report in terms of scope and scale, stressed that interest rate policy was not especially significant in affecting the investment activity of businesses. That report was produced in an era when minimum lending rate, as it was at the beginning of the 1970s, was less than 5 per cent. rather than nearly 15 per cent. under the present Government. The Government's combination of a high interest rate policy, allegedly for monetary orthodoxy, and public expenditure cuts, is lowering the floor of spending and sales under the feet of enterprise at the same time as it is wrapping high interest rates around its neck.
Small businesses suffer more from this than do large businesses because they cannot easily compensate themselves against the increased costs which they incur by raising prices. However, both large and small businesses are now being affected by this policy. Some firms with full order books are being strangled by high interest rates. Others have seen their order books collapse because of the cuts in public spending, the multiplier effects of those cuts on the private sector, and the collapse in demand. Frankly, no mechanism of financial institutions as such, alone, can resolve these fundamental problems in the British economy—structural problems in the direction and location of investment combined with the lunatic laissez-faire and manic monetarism of the Government.
607 We must not only overcome the divorce between finance and industrial capital but plan the relation between the two. We need an interest rate policy which brings the cost of borrowing down to a level which most enterprise or agencies, public or private, can afford. We must be able to reason in terms which were more common before the rise of monetarism and the demise of Keynesianism in the mid-1970s. Interest rates financed by higher earnings through PAYE and an effective corporation tax—rather than the virtual abolition of corporation tax which we now have—and also financed by VAT, bring to the public exchequer revenue which offsets what it does not gain in direct interest rate charges at the higher level. What certainly will not work is a cut in interest rates, as the CBI demanded, while at the same time demanding further real cuts in public spending.
Further, we must relate the mobilisation of savings to a new wave of investment in manufacturing industry, in productive rather than unproductive sectors of activity, and in Britain rather than abroad. That should be focused in problem areas, be they inner cities or less developed regions of the country. For this, we shall need controls, not necessarily up-front or directly imperative, rather than a combination of sanctions, incentives and bargaining. But they should be controls that effectively give real powers to the public over the private allocation of investment.
There could be controls, for example, on property speculation, granted the scale of the funds involved—controls that would limit or prevent a repetition of that collapse of the property market, to which reference has already been made, which occurred in the early 1970s. Not only was the lifeboat pushed out, as my hon. Friend the Member for Blackburn has stated, but it was pushed out with funds approaching £1 billion to rescue the Crown Agents, secondary banks and other financial institutions. This would depend on overall information on the rate of growth of property investment, by which one means essentially office development, in relation to feasible demand. It would mean, at the minimum, a monitoring of the market by the Government, taking an over-view that financial institutions cannot take.
The forecasts of technological unemployment in the services sector, made in Britain, France and Germany, as I have stressed in previous debates, vary between 30 and 40 per cent. from official sources and estimates. Translated to the property market, this could mean, even with a greater use of office space, a decline in the demand for offices of 10 per cent., or more, at a time when there is a current upswing in the market of more than 10 per cent. One former Minister concerned with the bail-out operation in the early 1970s said that if the Bank of England had not intervened there would have beena financial crisis of 1929 proportions".That is surely of direct relevance to any report on the financial institutions and of direct relevance to the Government now in relation to the new property boom that is currently allocating hundreds of millions of pounds into speculative office development. Yet, when I put questions to the Secretary of State for the Environment on whether he is taking such an over-view of the market, I was told that he is not, because the Government believe in leaving this to market forces. When asked whether he is taking any account of the impact of technology, the reply is that he is not and that he is again leaving this to market forces.
The misallocation of finance that could be involved if the current office boom, essentially in central London, 608 continues, could exceed a 1929-type financial crisis because of the new component of technological unemployment through the new silicon-based word processors, data processors, and so forth. The Government seem unconcerned about the problem. The public, rather than the private, entrepreneur will be taken for a ride because there would need to be a further bail-out operation, unless financial institutions are to go bankrupt, and because the pension funds, whose increasing role in finance has been stressed by the report of my right hon. Friend the Member for Huyton, are now the key investors in this kind of property development. Several pension funds are growing increasingly apprehensive about the future prospect of that market, but they cannot take an over-view of the market. Big though big business is, it cannot plan for the market as a whole. That is no doubt why the National Federation of Building Trades Employers has recently demanded that the Government should not only reverse the moratorium on council house construction but has actually used four-letter words such as "plan". The private sector needs planning in the financial sector from the Government if it is to be able not only to fulfil public need, which Opposition Members would stress, but even to make profits, which Conservative Members stress. There should also be a new obligation on the Secretary of State in relation to local planning inquiries, which he can call in, to take account of the economic and social viability of projects.
On the planning side, the report of my right hon. Friend seemed to find, like drawing a rabbit from a hat, that lo and behold, there was no scarcity of funds or resources in the system, as if some of us within the Labour Party, in the early 1970s, in drawing attention to the divorce between finance and industrial capital, had claimed that there was such a scarcity.
Let me set the record straight. Those in the Labour Party involved in shaping the economic policies of the use of funds did not claim that there was a lack of funds. We claimed a need to ensure that there is a closer relationship between fund users and fund lenders. In practice, that means that the Government must take reponsibility for overall savings and investment relationships within the system. I stress "overall"—the overall direction of investment in the productive rather than unproductive sectors, and the overall level and rate of investment in the United Kingdom, rather than abroad, by multinational companies.
For many of us in the Labour Party, in terms of policies towards the financial institutions, that means not simply the question of ownership, but also planning. Planning agreements powers were withdrawn from the Industry Act 1975 after having been included in the draft of the Bill. They would not, as was widely assumed, have been decided by civil servants or the Bank of England alone but by the process of tripartite negotiation between management, Government and trade unions recommended by the TUC in its proposal for a new national investment fund.
On the Government side, that would have meant the Treasury, the Bank and the individual Departments concerned with the employment of savings in investment, particularly the Departments of Industry and Trade. On the management side, it would include not only the users of funds in the productive sector of large-scale industrial enterprise, but representatives of the banks, insurance companies and pension funds. On the union side, the 609 process could take place not only through the talk shops of the NEDCs but within the workshop framework of companies themselves.
My right hon. Friend the Member for Huyton referred to the 1976 Labour Party conference proposals for public ownership. There has been widespread support on the Government side for his findings that there was a case against public ownership and intervention in this matter. I will not be drawn on whether Royal Commissions, whether on wealth or financial institutions, have been used by several Prime Ministers as an alibi for inaction rather than directly coping with the problem. But it is clear that the claim that some Labour Members have neglected the change of ownership in pension funds is fundamentally misconceived.
When my right hon. Friend says that the savings function in the economy has been "nationalized" because the share of the pension funds has increased, he confuses personal or institutional ownership with public ownership. Secondly, that so-called nationalisation does not guarantee—since it does not exert control by the public directly or on its behalf by a public institution—that the funds are invested in key areas of this country, and in productive rather than unproductive sectors to create employment and modernise investment in Britain, rather than abroad.
To achieve that, we shall need powers to ensure that the employment of existing funds in the productive sector indirectly benefits those who invest in the funds by creating jobs, rather than trusting that the funds will have a high rate of earnings through such speculative ventures as property development.
Similarly, although the Committee refers to the role of public ownership abroad, it does not seem to have analysed the relationships between public ownership, planning and the public purpose in countries such as France, Germany and Japan.
For example in France, which has been claimed to be deplanning in recent years, the Credit National and the Caisse des Depôts et Consignations, the Ministry of Finance and institutions such as CODIS, are currently channelling funds towards key sectors.
Planning agreements are derided by people who believe that we have nothing to learn from continental models. But in 1975 and 1979 new growth and development agreements were introduced by the French to intervene in the economy. It is a sad reflection on both this Government and their economic policy, and on those who gelded the 1975 Industry Act. There is an assumption that State intervention through planning, public enterprise and public spending controls is Socialist rather than common sense in the modern mixed economy.
My right hon. Friend the Member for Huyton claimed that the authors of the National Enterprise Board had in some sense "left England out" in relation to development agencies. The tragedy is that the NEB was itself left out as a key agency for translating savings into investment under the last Government because they withdrew its potential powers. They did not allow it to purchase shares in private companies even on the same terms available to private companies in takeovers. For example, in a private takeover the bidding company does not have to gain the consent of the existing board, but the NEB must.
610 I welcome the TUC's recommendation for a new lending facility, jointly funded by the pension funds and the public sector to yield more than £2 billion a year for investment. However, without a combination of a remix of public in relation to private spending and of the public sector in relation to the private sector, without an overall planning strategy for the use of savings in investment there is little prospect that such a fund alone will enable this Government or a future Labour Government to regenerate the economy.
The divorce between finance and industrial capital in the United Kingdom can best be shown through the activity of that institution which regularly publishes to the British people its share values as if they were of prime importance to the economy. I refer to the stock market. Less than 5 per cent. of the industrial need for investment in British business since the war has been met by the British stock market. About 85 per cent. of the finance raised on the market is for investment outside Britain. That underlies the trend towards foreign investment and the export of jobs, and partly explains the failure of our industrial base since the war. The British people and management are not inept or lacking. The disproportionate investment of funds in non-productive rather than productive sectors, abroad rather than at home, causes the problem. Any Government, Right, Left or Centre, should confront the problems.
§ Mr. Graham Bright (Luton, East)
I welcome the opportunity to debate this subject. Unfortunately, because of the time, I shall not be able to make all the comments that I had hoped to make. The debate has helped to concentrate the minds of Ministers on the measures that could be introduced. I am particularly anxious about the prospects of small businesses and their importance. There is a need to generate investment capital into that sector of the market. It has been starved for too long, because of the general bias for putting money into large enterprises, into property, or anything other than the small businesses on which we rely to become the larger business of tomorrow.
Let us examine some of our competitors. The birth rate of small businesses in Britain is only one-third of that in the United States. West Germany has been quoted several times furing the debate. Its population is only 10 per cent. larger than that of Britain, yet it has 40 per cent. more small firms. That is because it has a high-risk economy. The German banks are prepared to take risks and invest in companies, and back people with new ideas, far more readily than are British banks. That is why, as a small business man, I. had to revert to an American bank to obtain the necessary backing for my firm. I feel strongly that British banks are over-cautious and require far too many guarantees. The thought of having to put one's house—or the houses of one's family—on the line discourages many people from applying to the banks. Small business are a tremendously fertile source of new products, new technologies and, most important, new jobs. They are labour-intensive.
I welcome the fact that we are now actively talking about a loan guarantee scheme. I mentioned that suggestion in my maiden speech in the House. I am delighted that it is now coming to fruition. I hope that a loan guarantee scheme will be introduced this year.
My hon. Friend the Member for Upminster (Mr. Loveridge) mentioned business in the mid-range. I am 611 concerned about that aspect because Britain is top-heavy. As was pointed out in the report, about 74,000 firms in the manufacturing industry employ between 1 and 200 persons each, but only 2,800 of them employ between 100 and 200 persons. At the same time, about 15 of the top companies employ as many as all those small companies put together. Britain is top-heavy. We lack the centre stream, and we must do something about that. We have much to learn, especially from the French, who generate capital for small businesses.
If small businesses are to play a major part in Britain's economic revival we must relax the grip that the tax system has on them, and give them real encouragement by providing better opportunities for them to generate capital internally. Whatever resources we put in, we shall be rewarded. It is important that we reverse the bias against small firms and make an effort positvely to discriminate in their favour. That is so important.
Various figures were mentioned in relation to the loan guarantee scheme. Hon. Members have talked about a bombshell. Let us have a bombshell. I want at least £1,000 million placed in that direction. That would make an impact on our economy and we would reap the rewards from it.
§ Mr. John Browne
I thank the Minister for taking part in the debate, and for his remarks. I also thank right hon. and hon. Members for making the debate so interesting. I shall give the last few seconds to the hon. Member for St. Helens (Mr. Spriggs) to begin his motion.
§ Question put and agreed to.
That this House takes note of the Reports of the Committee to Review the Functioning of Financial Institutions chaired by the Right honourable Member for Huyton (Cmnd. 7937 and 7503).