The Conversation – Page 42 – Digital Finance Analytics (DFA) Blog

New laws on bankers behaving badly don’t matter in light of ASIC inaction

The governmnent’s new laws to tackle manipulation of the bank bill swap rate may seem like a crackdown on badly behaving bank employees but in reality the Australian Securities and Investments Commission (ASIC) hasn’t used the full force of the law in the past to prosecute. So perhaps it’s time Australia followed the lead of the US and UK who are really using law to hold banks to account.

The bank bill swap rate (BBSW) is used to set rates on hundreds of trillions of dollars worth of transactions, including interest rates on credit cards, student loans and mortgages. Banks also use the swap rate to determine the cost of borrowing from one another.

Three of Australia’s big four banks, ANZ, Westpac and NAB were accused of manipulating this rate. These latest measures, which include civil and criminal liability for bankers found guilty, come six years after the scandal first broke.

ASIC takes too long to prosecute

ASIC has dragged its feet so spectacularly on prosecuting this rate rigging, misconduct affecting A$20 trillion worth of financial products. In respect to some of the alleged wrongdoing, the clock has run out, and ASIC is now no longer able to prosecute. Added to that, it was not ASIC that uncovered the BBSW scandal in the first place.

The information was first volunteered by BNP Paribas. And while ASIC’s colleagues in the UK have brought down fines in the billions of dollars against UBS, RBS and Barclays for similar offences, ASIC is yet to dock a dime from our titans of finance.

There have been plenty of legal avenues where ASIC could have pursued the banks. For example, under section 12.2 of the Schedule to The Criminal Code Act, 1995 which allows a court to hold a corporation criminally liable for the criminal misdeeds of its employees. I know of no cases where ASIC has sought to prosecute under this provision.

Another is section 11CA (2)(e) of the Banking Act, 1959. This would allow APRA to remove members of the Board of a bank, and appoint their own nominee, if that bank has demonstrated corporate governance failures. Since 1998 when that provision was enacted, APRA has used it a total of zero times.

It seems the regulators are scared to take on the big banks. For one thing they fear that a misstep could precipitate panic in the market, resulting in a bank run leading to a financial crisis. And if our regulators are ever in any danger of forgetting that, the Australian Bankers’ Association is quick to remind them..

How this differs to the US and UK

While Australian regulators have been taking their time, regulators in the UK have brought to trial and achieved convictions.

Regulators in the US have arrested, among others, British citizens, such as Mark Johnson, HSBC’s global head of foreign exchange and Stuart Scott, then head of FX trading in Europe, for manipulating rates while they were in transit in the US.

Deutsche Bank is staring down the barrel of a US$10 billion fine, in the US, for malpractices it allowed to take place in Russia. Banks in the UK and Switzerland have been fined billions of dollars by US authorities for rigging rates in countries other than the US. All that is required is for the US Department of Justice to detect a malpractice or a fraud that can be shown to have affected US investors.

Already there is legal action in the US in the form of a class action suit against our banks for BBSW rigging. This could garner unwanted attention from US authorities and that could be actual punishment for Australian bankers.

Add to that the possibility that Australian bankers may find themselves under arrest when they pass through the US at any stage in the next five years, and one starts to put into perspective just how badly our regulators have done their job. Ironically, it’s US, not Australian authorities that Australian banks need fear, because of allegations of dishonest rigging of an Australian market, all of which allegedly took place in Australia.

Author: Andrew Schmulow, Senior Lecturer (1 July 2016 onwards), University of Western Australia

Banks make millions in delaying interest rate cuts

From The Conversation.

When Australia’s central bank moves interest rates as part of its monetary policy, it’s not just politicians who stand to lose if banks don’t follow suit.

Retail lending markets form an integral part of the monetary policy transmission mechanism. If interest rate rises are passed on at a different rate to cuts it can adversely affect the efficacy of expansionary versus contractionary monetary policy.

In August 2016, APRA data showed the big four Australian banks held 83% of the home loan market (including both the owner occupier and investment categories).

At an individual level, the ability and willingness of lenders to pass on the official interest rate cuts to borrowers depends on many factors. These include exposure to overseas funding sources, market power, the funding mix, reserves and the extent of securitisation. But it’s also clear delaying interest rate cuts can significantly impact their bottom line.

According to my analysis, the big four banks can make approximately $A8.6 million per day as a group if they do not fully pass onto borrowers a hypothetical 0.25% cut in the RBA’s cash rate.

More specifically, if ANZ, CBA, NAB and Westpac manage to postpone lowering their mortgage interest rates say by 10 days, they can potentially make an extra A$16, A$28, A$16 and $A26 million dollars in profits, respectively.

Previous studies on mortgages, small business loans and credit card interest rates have found significant evidence for the “rockets and feathers” hypothesis. That is, when the cash rate increases, various lending rates shoot up like rockets but when the opposite occurs they go down like feathers.

In my research I used monthly data (2000-2012) for 39 bank and non-bank financial institutions including 7 building societies, 15 Australian-owned banks, 3 foreign subsidiary banks, 13 credit unions, and 1 major mortgage broker. The research found the mortgage interest rate spread of all lenders rose after the 2008 global financial crisis, albeit to varying degrees.

In general, the research shows most building societies and some credit unions can offer more competitive home loans than banks.

There is no significant relationship between lenders’ markups and the level of over the counter customer service since the 2008 financial crisis. This is an important observation as the mortgage spreads of larger lenders are typically higher than those of their smaller non-bank counterparts. This puts lie to the view that the relatively higher mortgage interest rates of the larger banks in Australia are justified by higher overhead costs associated with the running of their large branch networks.

Author: Abbas Valadkhani, Professor of Economics, Swinburne University of Technology

Governments and central banks should stop trying to stimulate the economy

From The Conversation.

It is surely time for governments around the world, including Australia’s, to remember the first law of holes: if you’re in one, stop digging. Governments have been digging madly since the global financial crisis, injecting massive amounts of monetary and fiscal stimulus. It hasn’t worked.

We don’t have much to show for it in Australia – an interest bill of $16 billion on government debt compared with zero before the crisis, and a growth rate and unemployment rate that are struggling to meet long term averages.

The International Monetary Fund (IMF) has repeatedly downgraded its global growth forecasts over the past decade and is about to release another downbeat global growth forecast.

The world economy is in its 6th year of below average growth since 1990. Japan has not grown at all – its GDP in 2016 is exactly at the level it was in 2008 – despite massive amounts of monetary and fiscal stimulus over a decade.

Growth in Europe has remained below 1% every year since 2008, well below its pre-crisis levels, despite the United States Federal Reserve relentlessly pumping new money into the banking system with interest rates already zero. And the US also remains in a funk with growth at 1.5%, less than the 2.5% long run average, having also pumped new money into its banking system and running budget deficits every year that have seen government debt steadily grow as a share of the economy.

Incredibly, the IMF and some governments have not given up. They now accept that perhaps cheap money and plenty of it hasn’t worked, but they still cling to fiscal stimulus as the last great hope as long as it’s the right kind.

According to the IMF, debt-financed government infrastructure spending is the answer – think roads, ports, power and communication networks. They have constructed a mathematical model showing that such infrastructure spending, funded by borrowing, actually reduces the government debt to GDP ratio in a world of low interest rates. This is because it boosts GDP by more than it raises debt, and boosts overall economic wellbeing.

This will be music to the ears of those politicians who want to spend big on infrastructure. It is however a pipedream.

The problem is not so much what the debt is used for, although that does matter, it is more the size of debt itself. Since 2008, government debt has increased in almost all advanced countries as a ratio to GDP.

In the US total government debt has increased from 92 to 125%, in the UK from 63 to 114%, in Japan from 184 to 246%, in Australia from 34 to 65%, and even in relatively austere Germany from 68 to 82%. The combination of rising government debt and booming asset prices (stocks and housing) financed by monetary stimulus is dangerous.

We have seen through the global financial crisis the devastating effects of a collapse in asset prices on the economy, especially on economies with debts whether held by the private or public sector. Indeed it’s this memory that is surely one of the factors currently holding back spending by households and firms.

In this environment, it would be reckless of governments to embark on major fiscal stimulus that raises their debt levels further. The IMF’s model does not take account of the risk of an asset price collapse in a world of high debt and the effect this has on private sector spending.

It needs to be said that the IMF’s model is essentially the same type of model that it uses to forecast GDP growth of countries and which The Economist found had an appalling record of inaccuracy. The Economist team took a sample of 220 instances from 1999 to 2014 where a country went from growth in one year to recession in the next, and found that the IMF had never once predicted the looming recession in its April forecasts of the previous year.

There is at least one prescription to the world’s low growth problem that governments have not yet tried. That is to do precisely nothing – stop digging. We may even discover things about the economy’s restorative powers that we didn’t know, or had forgotten.

A related idea is to actively unwind government intervention where evidence suggests it is not working. It is easy to dismiss such prescriptions as the old-hat 1990s deregulation agenda.

But that was a period of great prosperity in Australia and elsewhere. In any case it’s not about deregulation, but more like what David Cameron in the UK called “better regulation” which was enabled through the Deregulation Act 2015. It is worth noting that growth in the UK has been the strongest in Europe in recent years.

Back to home, the Reserve Bank of Australia should keep its power dry when it meets today and hold its official interest rate steady at 1.5%. And so it should for some time to come.

The Australian government should do the same and not be seduced by the siren call from the IMF and others to spend up big on infrastructure.

Author: Ross Guest, Professor of Economics and National Senior Teaching Fellow, Griffith University

Simpler account switching would help keep our banks honest

From The Conversation.

When the chiefs of Australia’s largest banks appear before the Standing Committee on Economics this week it’s likely they’ll be asked about the current level of competition in retail banking.

One of the objectives of competition law in Australia “is to enhance the welfare of Australians through the promotion of competition”. Promoting competition means making sure there is vibrant competition. This means ensuring that competitiveness is enhanced once competition is established.

Reluctance to change

Existing market players generally resist the changes needed to make a sector more competitive. This resistance is driven by the rational fear that a more competitive sector will lead to lower margins and loss of market share.

It seems odd, but in the early days of text messaging it was only possible to send texts to people on the same network. Interconnection of networks was driven partly by commercial opportunity, but mainly by the prospect of regulatory intervention. In mobile telecommunications, mobile number portability was introduced in Australia and elsewhere as a result of similar pressures.

Competition regulators know that competitiveness is higher when it’s easier for a consumer to switch providers. Of course, that does not mean there will be mass switching. Consumers switch when there is a prompt. This might be the end of a contract, or poor (uncompetitive) service from a provider.

Switching banks

In Australia, in common with other parts of the world, switching between retail banks presents hurdles. It’s just a difficult process, even with the help of the bank to which you are switching. A mixture of direct credits, direct debits, mortgage or rent payments and links to credit cards means that switching banks is complex and hard.

One solution to this problem is bank account number portability. The idea is that you can switch your bank without changing your bank account number – just like switching mobile providers.

This could be implemented by having a single independent bank account number database (iBAND), which links account numbers with people. Each bank would then check the iBAND when making a payment as depicted below.

iBAND Rob Nicholls

The UK experience

Even this might be a bit more complicated than is needed. The Australian Payment Clearing Association’s “New Payments Platform” offers a range of identifiers for people in addition to bank account numbers. This could also form the basis for portability and switching.

In the UK, the Current Account Switch Service (CASS) is a free-to-use service for consumers to simplify switching current accounts. This service is designed to increase competition, competitive entry and consumer choice.

There is a Current Account Switch Guarantee to enable switching to occur within seven days. Since the scheme started in 2013, there have been 3 million switches and 99% of these occurred within seven days.

The consumer education process that accompanied the introduction of CASS in the UK means more than three-quarters of all current account holders are aware of the service.

Data can help

The other issue with switching is knowing whether the deal you will get with the new bank is better. What would be ideal is to have a way of comparing your existing bank or banks and credit card providers with other financial institutions. One way of doing this is by having a standardised form of metadata.

If you wanted to do a comparison, you could download a set of anonymised metadata that described your banking needs. This could then be compared on a platform with other providers.

The UK’s Competition and Markets Authority (CMA), in its final report into the UK retail banking system, suggests that the provision of open banking applications programming interfaces (API) would facilitate such an exchange of data. The broad approach is set out below.

CMA approach Rob Nicholls derived from CMA report

The idea is that each bank would present a common interface to external systems through the API. This would allow the banks to create and use apps to enhance the consumer experience. However, it would also allow third parties to be intermediaries or to compare the banks’ offerings.

Switching, innovation and productivity

In its submissions to the Harper review of competition law and policy, CHOICE argued that such a scheme would encourage innovation. The ACCC put the case that “initiatives to allow consumers to effectively use their information … have the potential to assist consumers to make better choices and drive competition”.

The UK government has put consumer switching at the heart of its approach to increasing productivity. It regards this step as critical to open and competitive markets with the minimum of regulation.

Both the Harper review and the Murray inquiry into the financial system found that competition should be at the forefront of regulatory consideration. One way to improve competitiveness in banking is to facilitate both switching and consumer information.

But perhaps the best way to determine whether there is a need to promote competitiveness would be for the ACCC to commence a market inquiry on retail banking. This could have the aim of developing initiatives to stimulate additional competition.

Author: Rob Nicholls, Lecturer, UNSW Australia

Density, sprawl, growth: how Australian cities have changed in the last 30 years

From The Conversation.

Since settlement, Australian cities have been shaped and reshaped by history, infrastructure, natural landscapes and – importantly – policy.

So, have our cities changed much in the last 30 years? Have consolidation policies had any effect? Have we contained sprawl? Yes, probably and maybe, according to our newly published research.

Reviving the centre

The great Australian baby boomer dream of home ownership caused our cities to spread out during the second half of the 20th century. Urban fringes expanded with affordable land releases, large residential blocks and cheap private transport.

By the 1980s, across Australia’s cities, the urban fringes were ever-expanding. Inner areas had become sparsely populated “doughnut cities”.

By the end of that decade urban researchers, planners, geographers and economists began to warn of looming environmental, social and housing affordability problems due to unrestrained sprawling growth.

Governments responded swiftly, focusing policy attention on urban consolidation through programs such as Greenstreet and Building Better Cities. Concerned individuals formed groups such as Smart Growth and New Urbanism to promote inner-city development and increased urban density.

Since this time, large- and small-scale policy interventions have attempted to repopulate the inner- and middle-urban areas. The common policy goal has been to encourage more compact, less sprawling cities. Subdivision, dual occupancy, infill development, smaller block sizes, inner-city apartments and the repurposing of non-residential buildings have all been used.

Mapping the changes

In a newly published paper, we map the changing shape of Australia’s five largest mainland cities from 1981 to 2011.

Across each of these cities, which together are home to 60% of Australians, there has been substantial, suburbanisation and re-urbanisation. In the last 20 years this has resulted in a repopulation of inner cities.

In Melbourne’s case, the return to the inner city has been particularly pronounced in the last decade. Here, the population jumped from around 3,000 to 4,000 people per km². The extent of this change is visualised in the chart below.

Melbourne may well be the exemplar for inner-city rebirth. More than any other Australian city it demonstrates the 30-year turnaround from inner-city decline to densification.

Between 1981 and 1991 Melbourne became a classic “doughnut city”: population declining in inner areas, density increasing in the middle-ring suburbs, and growth steady in the outer suburbs. For example, in the inner 5km ring there was a decrease during this time of almost 200 people per km².

From 1991 to 2001, even though growth was still focused on the middle and outer areas, the inner area began to be repopulated. Overall, between 1981 and 2011 there were approximately 1,500 more people per square kilometre living in the inner 5km ring.

Over the last decade, greenfield development, infill and urban regeneration have increased urban density throughout Melbourne – as shown in the five-yearly map animation below.
Changes in Melbourne population density over the 30 years to 2011 (red is increasing, blue is decreasing). Author provided
While the turnarounds in Sydney, Brisbane, Adelaide and Perth have been less marked than in Melbourne, they are all no longer “doughnut cities”. This means that where people live in these cities has changed.

Australia’s cities are now more densely populated – and we are much more likely to live in inner areas than we were 30 years ago.

A result of government policy?

We can probably attribute the changes in where urban Australians live to government consolidation policies.

The policy focus throughout the late 1980s and early 1990s was based on incentives to repopulate inner and middle areas.

Policies were changed from 2000 to increase population density across whole metropolitan areas. State and territory strategic plans aimed to promote urban consolidation, with a focus on the inner city.

State and territory plans now focus much more on specific zones throughout the whole of the city, including former industrial areas and surplus government land. New housing development occurs within these defined zones, particularly around transport and areas with urban-renewal potential.

South Australia’s 30-Year Plan for Greater Adelaide targets growth in “current urban lands”, along major transport corridors and hubs. Similarly, the Plan Melbourne – Metropolitan Planning Strategy plans to establish the “20-minute neighbourhood”, contain new housing within existing urban boundaries, and focus development in new urban renewal precincts.

The map visualisations reinforce the scale of this absolute growth across each of the five major Australian cities over the last 30 years.

Have we contained sprawl?

Our research would suggest urban-consolidation policies have slowed but not prevented sprawl, especially in the faster-growing cities like Melbourne, Brisbane, Perth and Sydney.

So, have we reached the point at which our cities are full? How can we accommodate future population growth? And do we need to focus our attention on new urban areas?

Containing and, more importantly, controlling sprawl may present the next big challenge.

Author: Neil Coffee, Senior Research Fellow in Health Geography, University of South Australia; Emma Baker, Associate Professor, School of Architecture and Built Environment, University of Adelaide; Jarrod Lange, Senior Research Consultant (GIS), Hugo Centre for Migration and Population Research, University of Adelaide

Banks can target service before sales to avoid a banking royal commission

From The Conversation.

The US$185 million fine levied on US bank Wells Fargo for unauthorised accounts opened by employees seeking bonuses appears to have become a tipping point for industry action in Australia.

Reacting to sales targets and bonus incentives, Wells Fargo employees artificially inflated their sales by secretly opening accounts. They then transferred funds using these accounts, triggering overdraft fees and other charges. Staff also falsely opened credit card and debit card accounts, causing credit card holders to incur annual fees. Debit cards were issued with PINs, again without the customer’s knowledge. More than two million such fake accounts were created.

This week Westpac chief Brian Hartzer said the bank would remove all product-related incentives across its 2,000 branch tellers and instead base their incentives on customer feedback about service quality.

The move comes after a long history of sales-driven banking cultures. Wells Fargo confirmed it had fired over 5,300 employees for such behaviour, between January 2011 and March 2016.

Employees of Wells Fargo had been vocal about the high-pressure culture that existed in the bank in an LA Times article in 2013. They spoke of being regularly humiliated by managers in front of their colleagues and threatened with the sack for failing to meet targets. Some begged family members to sign up and open unneeded accounts. The root cause of this pressure on Wells Fargo employees was the bank’s corporate culture, and a cross-selling target of at least eight financial products per customer.

US regulators say the record fine levied on Wells Fargo should “Serve notice to the entire industry that such initiatives need to be carefully monitored as a basic element in any company’s compliance program, to make sure that incentives for employees are aligned with the welfare of customers”.

Such misdemeanour’s by financial services providers are not unusual. Earlier in 2016 Santander Bank was fined US$10 million for allegedly enrolling customers in overdraft protection services that they had never authorised.

Regulators in Australia have also become concerned that sales incentives are harming the financial industry’s integrity. The Australian Bankers Association is conducting a review of “product sales commissions and product based payments that could lead to poor customer outcomes”.

In its submission to the review, the Finance Sector Union of Australia (FSU) has focused on these poor customer outcomes. It puts much of the blame on the “conflicted remuneration” that causes “the systematic application of remuneration and work systems that drive employees to sell and/or push products and services” to bank customers.

The FSU submission is based on a survey of 1,298 bank employees undertaken in August 2016. Based on feedback from members, it says bank staff employment is often dependent on “their ability to gain referrals, sell the product of the week or reach a volume based target”. The FSU concludes that “existing remuneration systems are having a detrimental effect on the lives of bank employees” and that the Australian banking industry’s remuneration systems is “causing the industry harm”.

This week Reserve Bank Governor Philip Lowe also weighed in, saying remuneration structures within financial institutions should promote behaviour that benefits not just an institution, but its client.

Australian banks are some of the most profitable in the world and are in a strong position to lead by example in gaining and then sustaining the trust of their customers. Cross selling of products and services can be achieved by a rigorous focus on customer service that produces not just customer satisfaction, but customer delight.

Achieving this means confronting the dilemmas created by “conflicted remuneration,” whereby bank executive rewards are directly related to sales and subsequent profitability. If sales targets continue to lead to customer harm, banks will lose the vital ingredient of trust that banking relies on. And those calling for a banking royal commission will be granted their wish.

Author: Steve Worthington, Adjunct Professor, Swinburne University of Technolog

The UK is sinking deeper into property inequality – here’s why

From The Conversation.

Outrage has been mounting over the untaxed incomes of the global elite, foreign ownership of urban land and soaring rents in the private rental sector. Much of this boils down to two key matters: who owns property, and how they are treated.

The UK, it seems, is a place that makes it very easy for individuals to generate a great deal of wealth from property, with little concern for social justice or the provision of affordable housing.

But this problem is not uniquely British. Across the world – and particularly in many developing countries experiencing fast economic growth – capital is flowing rapidly into real estate. And increasingly, governments are waking up to the need to effectively capture some value from these investments, for the public good. Yet, as my research shows, this can be extremely difficult to achieve due to complex historical legacies around land, as well as deeply entrenched vested interests.

Consultants from the UK and other rich countries are often the first on hand to provide advice and propose systems of property and land taxation, to enable governments in poorer countries to bring in revenues that reflect the real value of developments. Meanwhile, ironically, the UK’s primary property tax – a monthly “council tax” paid by residents to local authorities – remains scandalously out of line with modern property values.
House prices are rising – but council tax isn’t (London, 1995 to 2015). Alasdair Rae, University of Sheffield
Of course, property inequality looks very different in British cities than it does in cities in developing countries. In many African cities, a clear majority of people live in slum conditions, the like of which are (thankfully) consigned to the past in Britain. Yet the property markets are being transformed by very similar processes.

International capital flows are central in both cases: wealthier migrants from low-income countries now based in the US and Europe often channel their earnings into untaxed property back home, while the UK solicits property investments from footloose international elites Whatever the context, the outcome is largely the same: luxury properties abound, often unoccupied and almost always undertaxed, while governments fail to provide proper incentives for developers to invest in cheap housing.

These issues are particularly concerning in poorer countries, not only because of the scale of inequalities and gaping absences of affordable housing, but also because investments in luxury properties divert funds from other sectors, which urgently need capital to make the nations’ economies more productive.

What to tax?

It seems clear that governments of both poor and rich countries need to find ways to reduce the appeal of massive investments in high-end property, and to spend more on housing and services for low-income groups. The question is: how?

Stamp duty is obviously one mechanism for capturing some of the value of property, but as this is a one-off payment it deals with only part of the problem. Updating the council tax is an important step in the UK – though this will be very politically difficult.

More fundamentally, however, simply updating council tax bands sidesteps major questions about exactly what we should be taxing when we tax property. Given the state of the UK property market, a proper debate is needed on these issues. But as this is also a global issue, the UN’s biggest conference on urban development issues in 20 years should also provide a forum for discussing this at the global level.

One possibility that has aroused significant interest is a land value tax. The idea is that public investments in infrastructure – rather than private individuals’ effort – make land valuable. So, the government should “recapture” this value for further public investment, by taxing property owners a proportion of the annual rental value of their land.
Less vacant land. Sinkdd/Flickr, CC BY-NC-ND
Some argue that taxing land also encourages people to use land productively, and deters speculation; in other words, if you are paying a relatively large amount of tax on a plot of land, you will want to make the best possible use of that land (by building a tall tower, for example), in order to maximise your profit.

By contrast, taxing buildings discourages investment and development, so many proponents of land value taxation argue that structures should simply be ignored. There is a certain progressive logic to this: for the most part, growth in land value provides a windfall to the owner, so it seems like a fair revenue to tax.

Should buildings be off the hook?

But a land value tax could have some undesirable consequences: exempting buildings from taxation encourages developers to build for maximum profit – and this often means constructing expensive, luxury residences for wealthy investors. What’s more, large buildings impose on the surrounding residents and public spaces in a number of ways which can be seen to warrant taxation – for example by blocking light, generating traffic and adding to pollution and noise.

In countries where forms of land taxation are relatively high, but building taxes small or non-existent, there is a tendency to speculate on buildings for which there is no obvious demand. This can be particularly harmful when there isn’t sufficient public infrastructure or services to support these looming edifices.

If we consider property tax as a means of redistributing wealth from the rich to the less well-off, then it makes sense to tax buildings. After all, why should one person be able to own a large, immovable asset without paying tax on it, when others pay tax on so many goods, services and incomes? Is it really fair for the residents of high-rise developments to pay a small fraction of a land value tax, regardless of the actual value of the luxurious apartment which they occupy (or, more accurately, don’t occupy)?

No – taxing property wealth is not only about taxing the windfall of increased land values: it is about acknowledging that the playing field of society is not level, and that the rich should pay more because they can. And it’s not just a question of social justice – it’s also about the kinds of incentives we want to create for investment, and the kinds of lifestyles that this promotes. We should not be so keen to encourage intensive investment in land that we exempt buildings – no matter how extravagant and unnecessary – from any kind of tax.

In many developing countries, innovative approaches to valuing and taxing property are being proposed and piloted, and concerted efforts are being made to overcome political resistance. The UK would do well to follow suit and bring its system of property taxation into the 21st century.

Politicians fear these issues, and public discussions about property tax has fallen all but silent since the failure of the previous Labour government’s “mansion tax”. No solution is simple; but not talking about it won’t solve anything at all.

Author: Tom Goodfellow, Lecturer, University of Sheffield

Should Wells Fargo execs responsible for bilking customers be forced to return their pay?

From The Conversation.

Having spent five years supervising large financial institutions on Wall Street, I am rarely surprised by the latest news of banks behaving badly.

But even the most hardened cynics, such as myself, were taken aback by the recent announcement that Wells Fargo was being fined US$185 million for fraudulent sales practices that included opening over two million fake deposit and credit card accounts without informing its customers.

Adding to my shock was the revelation that the firm fired 5,300 employees over the course of five years for engaging in this behavior, clearly evidence that this was more than just a few bad apples.

The financial crisis and its aftermath have taught us that it is unlikely any of Wells Fargo’s senior executives will face criminal charges. The reasons for this are numerous, but essentially prosecutors have a hard time identifying criminal intent within the upper ranks of bank management.

At the very least, don’t Wells Fargo’s customers have a reasonable expectation that executives who profited off their misfortune be required to return some of their ill-gotten gains?

The good news is that in April, U.S. regulators released a proposed rule requiring financial institutions to do just that. Unfortunately for fraud victims seeking a pound of flesh from Wells Fargo executives, the rule is not scheduled to be finalized until November, although the bank claims to be in adherence with the proposal’s main provisions.

Nonetheless, I thought it would be interesting to examine the text of the proposed incentive-based compensation rule through the lens of the Wells Fargo situation to try and understand its potential implications.

Cultural failure

On the surface Wells Fargo’s fraud appears to be an all-too-familiar case of cultural failure within a big financial institution. Apparently CEO John Stumpf disagrees.

In a Wall Street Journal interview shortly after the story broke, Stumpf refused to admit any institutional failure at the bank, claiming the behavior of the terminated employees “in no way reflects our culture nor reflects the great work the other vast majority of the people do.”

If Stumpf thinks that over 5,000 unethical people just so happened to find their way to Wells Fargo, he may want to rethink the company’s hiring practices.

Thus far the company has declined to say how many branch, regional or corporate managers were among those let go. The initial readout seems to be that most of those dismissed were low-level branch employees – hardly your typical Wall Street villains.

The spotlight has now turned to senior managers, and what they did or did not know. It is shining brightest on Carrie Tolstedt, who has run Wells Fargo’s community banking division since 2008 and is set to retire at the end of the year. Tolstedt appears to have profited handsomely from the sales practices in question.

A 2015 company filing indicates that part of Tolstedt’s 2014 inventive compensation award of roughly $8 million stems from:

“success in furthering the company’s objectives of cross-selling products from other business lines to customers, reinforcing a strong risk culture and continuing to strengthen risk management practices in our businesses.”

It now appears that cross-selling products and strengthening risk management were competing objectives.

Clawing back compensation

As noted earlier, Wells Fargo says it’s already in compliance with the main provisions of the proposed rule.

Specifically, in a recent filing, the bank claims:

“Wells Fargo has strong recoupment and clawback policies in place designed so that incentive compensation awards to our named executives encourage the creation of long-term, sustainable performance, while at the same time discourage our executives from taking imprudent or excessive risks that would adversely impact the Company.”

This means the bank can cancel, or claw back, any incentive-based executive compensation, such as deferred bonuses or stock options, from executives who engaged in misconduct or who received such compensation based upon materially inaccurate information, “whether or not the executive was responsible.”

Thus far the company has given no indication it intends to claw back any of Tolstedt’s compensation, although pressure from the public and regulators may soon change this.

The proposed rule

So let’s imagine the new incentive-based compensation rule was already in place and consider how it would work.

The rule’s most stringent requirements apply to “level 1” financial institutions like Wells Fargo with over $250 billion in consolidated assets. Its provisions cover all employees who receive incentive-based compensation, with enhanced requirements for individuals referred to as senior executive officers and significant risk takers.

As head of a major business line, Tolstedt would qualify as a senior executive officer, and her compensation would be subject to:

higher minimum deferral requirements – the percentage of incentive-based compensation that cannot be cashed in until the passing of a specific amount of time (meant to encourage long-term thinking);

forfeiture of “unvested” compensation (that is, compensation that has been awarded but has yet to be fully transferred to the employee); and

clawbacks for so-called vested compensation that has already been transferred to the employee.

Since Tolstedt is retiring soon, the rule’s minimum deferral requirements are less relevant here. But for past performance periods, unvested compensation could be forfeited and vested pay could be clawed back.

Even if one generously assumes Tolstedt was unaware of the fraud taking place, she was still likely responsible for setting the sales goals and compensation structure that incentivized so many employees to defraud customers. Indeed the firm’s own filings with the SEC seem to confirm this. Using these assumptions and applying the text of the proposed rule, it is clear that nearly all of her unvested incentive-based compensation could be forfeited, and her vested compensation could also be at risk of being clawed back.

The proposed rule identifies several types of events that would require covered firms to initiate a forfeiture review. Those most relevant in the Wells Fargo situation include:

inappropriate risk-taking, regardless of the impact on financial performance;

material failures of risk management or control; or

noncompliance with statutory, regulatory or supervisory standards that results in enforcement or legal action against the covered institution brought by a federal or state regulator or agency.

The proposal leaves it to the firm to determine the amount to be forfeited, provided it can support its decisions.

The standards that trigger a review of whether vested compensation should be clawed back are higher (though firms can loosen them). Such situations include a senior executive officer engaging in misconduct that results in significant financial or reputational harm to the institution, fraud or intentional misrepresentation of information used to determine the employee’s incentive-based compensation.

Based on the facts as we currently know them, it would be difficult to prove Tolstedt met the rule’s clawback criteria, since it’s not known if she actually engaged in the fraud herself. If she had, all of the incentive-based compensation that had vested since the fraudulent activity began would be subject to being clawed back.

‘Standard-bearer of our culture’

Assuming the rule was currently in effect, and Wells Fargo was adhering to it, how much would Tolstedt stand to lose?

This is almost impossible to determine given that she has worked at the firm for 27 years, we don’t know how long the fraudulent activity went on for, publicly available information on her compensation is limited and the rule leaves it up to the firm to determine the dollar amount that is forfeited and/or clawed back.

The Consumer Financial Protection Bureau’s Wells Fargo ruling indicates the “relevant period” lasted from Jan. 1, 2011, to Sept. 8, 2016. Over that time frame, Tolstedt received at least $36 million in incentive-based compensation, compared with $8.5 million in base salary.

Under the terms of the proposed rule, Wells Fargo would be able to get back at least half of the $36 million. If Tolstedt was found to have known about the fraud taking place within her division, they could likely get it all back.

When the firm announced in July that Tolstedt would be retiring at the end of the year, Stumpf referred to her as a “standard-bearer of our culture” and “a champion for our customers.” At the time, the firm was winding down its five-year employee purge.

Knowing what we know now, Stumpf could have easily fired her and attempted to claw back a significant amount of her pay. Instead he chose loyalty to a long-time employee over loyalty to his customers. Next time that choice may be off the table.

Author: Lee Reiners, Director of Global Financial Markets Center, Duke University

Social media and defamation law pose threats to free speech, and it’s time for reform

From The Conversation.

Recent discussion about freedom of speech in Australia has focused almost exclusively on Section 18C of the Racial Discrimination Act. For some politicians and commentators, 18C is the greatest challenge to freedom of speech in Australia and the reform or repeal of this section will reinstate freedom of speech.

There are many challenges to freedom of speech in Australia beyond 18C, for example defamation law. Defamation law applies to all speech, whereas 18C applies only to speech relating to race, colour or national or ethnic origin.

The pervasive application of defamation law to all communication creates real risks of liability for publishers. Large media companies are used to managing those risks. But defamation law applies to all publishers, large and small. Now, through social media, private individuals can become publishers on a large scale.

A significant reason that defamation law poses a risk to free speech is that it is relatively easy to sue for defamation and relatively difficult to defend such a claim. All a plaintiff will need to demonstrate is that the defendant published material that identified the plaintiff, directly or indirectly, and that it was disparaging of their reputation.

In many cases, proving publication and identification is straightforward, so the only real issue is whether what has been published is disparaging of the person’s reputation. Once this has been established, the law presumes the plaintiff’s reputation has been damaged and that what has been published is false.

It is then for the publisher to establish a defence. The publisher may prove that what has been published is substantially accurate, or may claim that it is fair comment or honest opinion (but the comment or opinion must be based on accurately stated facts), or may be privileged. Truth, comment and privilege are the major defences to defamation.

One of the main criticisms of 18C is that it inhibits people from speaking freely about issues touching on race. In essence, this criticism is that 18C “chills” speech.

The ability of the law to inhibit or “chill” speech is not unique to 18C. The “chilling effect” of defamation law is well-known. Precisely because it is easier to sue, than to be sued, for defamation, the “chilling effect” of defamation law is significant.

Defamation claims based on social media publications by private individuals are increasingly being litigated in Australia. In 2013, a man was ordered to pay A$105,000 damages to a music teacher at his former school over a series of defamatory tweets and Facebook posts. In 2014, four men were ordered to pay combined damages of $340,000 to a fellow poker player, arising out of allegations of theft made in Facebook posts. In the former case, judge Elkaim emphasised that:

… when defamatory publications are made on social media it is common knowledge that they spread. They are spread easily by the simple manipulation of mobile phones and computers. Their evil lies in the grapevine effect that stems from the use of this type of communication.

More defamation cases arising out of social media can be anticipated. Indeed, the cases that make it to court represent only a fraction of the concerns about defamatory publications on social media. Many cases settle before they reach court and still more are resolved by correspondence before any claim is even commenced in court.

There are several ways in which defamation law might be reformed in Australia that could promote freedom of speech, particularly for everyday communication.

Currently, plaintiffs suing for defamation in Australia do not have to demonstrate that they suffered a minimum level of harm at the outset of their claims. Publication to one other person is sufficient for a claim in defamation, and damage to reputation is presumed. Defamation law is arguably engaged at too low a level in Australia.

English courts have developed two doctrines to deal with low-level defamation claims. It is worth considering whether these should be adopted in Australia.

The first is the principle of proportionality. This allows a defamation claim to be stayed where the cost of the matter making its way through the court would be grossly disproportionate to clearing the plaintiff’s reputation. A court would view such a claim as an abuse of process.

There has been some judicial support for this principle in Australia, most notably Justice McCallum in Bleyer v Google Inc, but there has also been judicial criticism and resistance.

The other English development is the requirement that a plaintiff prove a level of serious or substantial harm to reputation before being allowed to litigate.

Australian law does have a defence of triviality, but it is difficult to establish because of the terms of the legislation. It also only applies after the plaintiff has established the defendant’s liability. By contrast, the threshold requirement of serious or substantial harm can stop trivial defamation claims before they start.

Another way in which the balance between the protection of reputation and freedom of speech online could be effectively recalibrated is by developing alternative remedies for defamation.

Notwithstanding previous attempts at defamation law reform, it remains the case that an award of damages is still the principal remedy for defamation. Yet people who have had their reputations damaged would probably prefer a swift correction or retraction, or to have the material taken down, or have a right of reply, than commencing a claim for damages.

Currently, people can negotiate these remedies by threatening to sue, or suing, and hoping they can secure these remedies as part of a settlement. Australian law has no effective small claims dispute resolution system for defamation in the way that it does for other small claims, such as debts. More effective and more accessible remedies are another aspect of defamation law reform worth exploring.

The discussion about freedom of speech in Australia recently has been unduly narrow. Every Australian has an interest in freedom of speech, not only about issues of race. Every Australian also has an interest in the protection of their reputation.

It is time to widen the focus of the treatment of free speech under Australian law. Defamation law is an obvious area in need of reform on this front.

Author: David Rolph, Associate Professor of Media Law, University of Sydney

The housing market is looking worryingly like a pyramid sales scam

From The UK Conversation.

Are you on the property ladder? You might want to look again. That comforting metaphor of an aspirational route to economic security has come to dominate our thinking, but what if it wrongly describes the phenomenon? There has been a steady decrease in the number of first-time house buyers since 1980, with the biggest drop of 47% occurring from 2007 to 2008. It may be that the British housing market now resembles the classic pyramid scheme scam that rewards those at the top and punishes the fools who dive in too late or can’t dive in at all.

I’m certainly not the first to think of the housing market in this way. As journalist Gabby Hinsliff observed:

Rather like pyramid-selling scams, housing markets need a constant stream of fresh-faced hopefuls coming in at the bottom in order to keep delivering big returns at the top.

So is this really true, and if it is, should we continue to tolerate such a mainstream social practice which seems to be so ethically dubious?

A losing game

The classic pyramid scheme is essentially a sales scam. Someone is recruited and pays a fee to join a team ostensibly flogging something – health supplements, perhaps, or even providing no product or service at all. This recruit then gets a cut from the fees paid by the salespeople he or she newly recruits. They then do the same. Very quickly, the scheme reaches saturation point.
Two more generations of suckers? EPA/HANNAH MCKAY
So how does this relate to the housing market? Let us begin with an essential feature of pyramid schemes: most people lose. This involves the membership factor in which new recruits pay a progressively higher fee to get onto the pyramid. In other words, the pyramid is driven by a top-down dynamic. Those at the lowest level try to recoup what they paid to become members by making a profit off those wishing to gain access to the scheme. Chronologically, those who come later have a greater risk of losing.

Under the current economic system, those pensioners sitting on six-bedroom townhouses in chic parts of London, bought for pennies in the post-war period, are our equivalent of pyramid scheme bosses – through no fault of their own, of course.What makes the housing market more restrictive than a classic sales scam is that its sale item is finite in supply. There may be an almost unlimited supply of health supplements in the example above, but with housing there is only so much land available. This makes entry into the scheme more competitive, and by virtue of that, it has the effect of increasing demand.

In short, most people lose in the housing market because most people who do not own property can never really afford to do so. Despite government efforts to help, first-time buying has continued to struggle, and the odds of finding an affordable price are stacked against non-owners. They may even find that those most willing to buy property already own some. Indeed, such speculators know that the more they buy up land, the more it will tend to be in higher demand.

Saturation

There is a second essential feature of pyramids: most people lose because there is no one left to pay the higher fee. In effect the market reaches saturation point. In housing, this happens because non-owners, who usually constitute the majority of the population, cannot find the means to make the high fee payments – in other words, a mortgage deposit and monthly payments. And this is where the ethically dubious nature of the scheme emerges.

In classic pyramids, the good or service being sold is not really important. With the housing market, the good in question is essential. One can easily live without health supplements, for example. Yet, show me one person who can live and work without access to land or shelter. In other words, at the sake of making a profit for the few, the majority of people are denied access to land, which is access to the opportunity to flourish.

It will have damaging effects more broadly, too. In a build-up of the housing market, the allure of property investment is so high that money is diverted to buying property rather than to production. Without investment in production, non-owners do not see an increase in their wages. If we go back to the pyramid scheme set-up, investment in production is like telling a salesperson to concentrate on selling the vitamin supplements, rather than on recruiting more salespeople into the scheme, which is where the easy money lies.
No knockdown prices here. stockcreations/Shutterstock
Why fund a new business and wonder about whether it is going to succeed when you can buy the land on which either the business relies or on which its employees rely in order to live? If investing in property means diverting money from production and wages, then the economic system is bound to break. In other words, we are all bound up in this giant pyramid scheme whether we like it or not; whether we own property or not; whether we are suckers are not.

The obsession with maintaining the everlasting growth in the housing market places the economy in a stranglehold and engenders something that looks very much like a pre-crash phase. It’s not just the non-owners who lose, but because production itself takes a hit, property owners also lose in terms of property investments which do not make a return.

So why hasn’t the housing market caused the economy to break once and for all? Well it certainly came close in 2008, but our economic system seems flexible enough to make adjustments that keep us afloat. However, these adjustments are makeshift reactions to a system’s fundamental problems rather than a remedy. Why not fix the problems? Why not raze the pyramid that is the housing market? To do that would require a philosophical change: an appeal to understanding how land (and thus housing) constitutes a unique kind of primary good that cannot be subject to the same kinds of conventions as capital.

Author: Todd Mei, Lecturer in Philosophy, University of Kent