UK – Page 8 – Digital Finance Analytics (DFA) Blog

Tesco Bank breach causes 20,000 customers to lose money

Tesco Bank, the U.K. finance subsidiary of Tesco supermarkets suffered a horrendous cyber-attack last week, with some 20,000 customers loosing money from their bank accounts thanks to a widespread attack. Some speculate this was as “inside-job”.

Cyber security is a critical issue for the safety banks and their customers. Whilst individual customers may sometimes be attacked this was a breach on a whole different scale. Take note!

This from Network World:

The fine details are still murky, but news surfaced in the last day or two that Tesco Bank, a U.K.-based bank owned by the Tesco supermarket chain, suffered some sort of widespread fraud.

The bank’s CEO, Benny Higgins, told Radio 4 that around 40,000 of the bank’s 7 million accounts had seen “some sort of suspicious transactions.” Of those, around 20,000 customers have actually lost money from their bank accounts. In the interview, the CEO told the BBC he was “very hopeful” that customers would be refunded the lost funds. What he didn’t say is that I am sure he is also “very hopeful” that once this all washes up he and his IT team will still have jobs.

Customers have, at this stage, been blocked from making online transactions, suggesting that the fraud is related to online functionality. Transfers between and to other account holders are still being actioned, however. Banking security experts seem to be unanimous that both in terms of the scale of the breach, and the depth of it, this is an unprecedented event.

Customers who have been impacted by the losses received text notifications and, as would be expected, the U.K. media is full of emotional stories of customers unable to pay for their groceries, gasoline or heating fuel. But while the human aspect is important and very troubling, there is, of course, an IT aspect to this that is particularly interesting.

Bank was running a system from a newer banking technology vendor

Interestingly Tesco Bank reinvented its core banking technology a few years ago, moving away from a big legacy solution and instead investing in a core banking system from FiServ, a newer banking technology vendor. I’ve long been a critic of banks that stick to big old (often mainframe-based) solutions and have pointed out that these systems severely limit banks’ ability to innovate and gain agility.

I’ve been a proponent of “decoupling” systems and discussed the topic at length with Dawie Oliver, CIO of Westpac Bank. Of course, we don’t yet know for sure that the issue lies with FiServ or any parts of Tesco Bank’s core systems, but the sheer scale of this breach would suggest that it does. We also, it must be said, can’t rule out nefarious insider activity, although in fairness, fraud detection systems should be able to identify both inside and external attack vectors.

Ilia Kolochenko, CEO of web security company, High-Tech Bridge, commented: “The situation is not clear yet, and it’s too early to make any conclusions about the origins and the source of the breach. In the past, similar incidents involved many different approaches: from e-banking system compromise to targeted spear-phishing and social engineering campaigns aimed at infecting bank clients’ machines or mobile devices with sophisticated malware, stealing money from their accounts. A massive skimming campaign cannot be excluded either.

Kolochenko adds some color, saying:

“It is important to highlight that such a large-scale attack with important financial losses would hardly be possible without some insider help to the attackers. Banking system, compliance processes and fraud-prevention systems are usually bank-specific, and in order to bypass them (we can speak about successful bypass, as so many people have already lost their money) we need to have some insider knowledge. Nevertheless, we need to wait for the official investigation results before making any conclusions.”

I’ll continue to watch this developing story. Meanwhile, at least Tesco Bank’s ownership status means that its IT team have a good source of over-the-counter pain medication. Something tells me they’ll need it.

Bank of England Rate held at 0.25%

On the day the UK High Court has ruled that the prime minister can’t trigger the UK’s exit from the European Union without approval from Parliament, the Bank of England’s Monetary Policy Committee (MPC) voted unanimously to maintain the Bank Rate at 0.25%. They think inflation may lift quite smartly next year to 2¾%, but underscores the myriad of uncertainties surrounding the economy.

The Committee voted unanimously to continue with the programme of sterling non-financial investment-grade corporate bond purchases totalling up to £10 billion, financed by the issuance of central bank reserves. The Committee also voted unanimously to continue with the programme of £60 billion of UK government bond purchases to take the total stock of these purchases to £435 billion, financed by the issuance of central bank reserves.

At the time of the August Inflation Report, the Committee announced a package of supportive measures that it judged was appropriate to balance the trade-off that had emerged in the economic outlook. On the one hand, economic activity was expected to weaken and unemployment to rise, given the period of uncertainty likely to follow the referendum on EU membership. On the other hand, inflation was expected to rise to a rate above the 2% target, for an extended period, as a result of the depreciation of sterling that had accompanied the referendum result. At the August meeting, a majority of Committee members also expected to support a further cut in Bank Rate at one of the remaining MPC meetings of 2016 if the outlook remained broadly consistent with the one set out in the August Report.

In the three months since then, indicators of activity and business sentiment have recovered from their lows immediately following the referendum and the preliminary estimate of GDP growth in Q3 was above expectations. These data suggest that the near-term outlook for activity is stronger than expected three months ago. Household spending appears to have grown at a somewhat faster pace than projected in August, and the housing market has been more resilient than expected. By contrast, investment intentions have continued to soften and the commercial property market has been subdued.

In financial markets, the past three months have been characterised by two phases. In the first, the sterling exchange rate stabilised for a period following its initial post-referendum depreciation. Supported by the measures announced by the MPC in August and more positive activity indicators, financial conditions and other asset prices recovered from the deterioration seen straight after the referendum, accompanied by a sharp increase in corporate bond issuance. However, in the period since the beginning of October, the sterling effective exchange rate index has depreciated further. Market intelligence attributes these latter movements to perceptions that the United Kingdom’s future trading arrangements with the EU might be less open than previously anticipated, requiring a lower real exchange rate to improve competitiveness and support activity. Longer-term gilt yields have risen notably, as have market-implied expectations of medium-term inflation.

The Committee’s latest projections for output, unemployment and inflation, conditioned on average market yields, are set out in the November Inflation Report. Output growth is expected to be stronger in the near term but weaker than previously anticipated in the latter part of the forecast period. In part that reflects the impact of lower real income growth on household spending. It also reflects uncertainty over future trading arrangements, and the risk that UK-based firms’ access to EU markets could be materially reduced, which could restrain business activity and supply growth over a protracted period. The unemployment rate is projected to rise to around 5½% by the middle of 2018 and to stay at around that level throughout 2019.

Largely as a result of the depreciation of sterling, CPI inflation is expected to be higher throughout the three-year forecast period than in the Committee’s August projections. In the central projection, inflation rises from its current level of 1% to around 2¾% in 2018, before falling back gradually over 2019 to reach 2½% in three years’ time. Inflation is judged likely to return to close to the target over the following year.

The MPC’s Remit requires that monetary policy should balance the speed with which inflation is returned to the target with the support for real activity. Developments since August, in particular the direct impact of the further depreciation of sterling on CPI inflation, have adversely affected that trade-off. This impact will ultimately prove temporary, and attempting to offset it fully with tighter monetary policy would be excessively costly in terms of foregone output and employment growth. However, there are limits to the extent to which above-target inflation can be tolerated.

Those limits depend, for example, on the cause of the inflation overshoot, the extent of second-round effects on inflation expectations and domestic costs, and the scale of the shortfall in economic activity below potential. In the MPC’s November forecast, the inflation overshoot is the product of a perceived shock to future supply, which has caused the exchange rate to fall, alongside a modest projected shortfall of activity. Inflation expectations have picked up to around their past average levels and domestic costs have remained contained. Given the projected rise in unemployment, together with the risks around activity and inflation, and the potential for further volatility in asset prices, the MPC judges it appropriate to accommodate a period of above-target inflation. That notwithstanding, the MPC is monitoring closely the evolution of inflation expectations.

In light of these developments, and in keeping with its Remit, the MPC at its November meeting agreed unanimously that Bank Rate should be maintained at its current level. It also agreed unanimously that it remained appropriate to continue the previously announced asset purchase programmes, financed by the issuance of central bank reserves.

Earlier in the year, the MPC noted that the path of monetary policy following the referendum on EU membership would depend on the evolution of the prospects for demand, supply, the exchange rate, and therefore inflation. This remains the case. Monetary policy can respond, in either direction, to changes to the economic outlook as they unfold to ensure a sustainable return of inflation to the 2% target.

How alternative finance can offer a better banking future

From The Conversation.

Do you know where your money is? If you immediately think of cash, then there’s a good chance you’ve just patted a pocket or looked in a purse to reassure yourself. But if you thought of your savings and investments, then there’s actually a good chance you have no idea where your money is – other than to draw the quick (and misleading) conclusion that it is “safely in the bank”.

After all, where else would it be?

We recently saw the revelation that another major bank – this time Germany’s Deutsche Bank – could collapse. According to Germany’s economy minister, Sigmar Gabriel, it “made speculation its business model”, though now claims to be the “victim of speculators”.

But there is an alternative to this banking model that isn’t based on financial speculation. Research that colleagues and I have done into economic resilience would suggest that many people might be better off investing in alternative finance and, to encourage them, the government should guarantee alternative finance investments up to a maximum of £5,000.

Finally, an alternative

The UK is the home of Europe’s rapidly-growing alternative finance (or “alt fin”) movement, which is fast becoming a major player in the financial sector. Valued at £3.2 billion in 2015, a big part of its appeal is that we can often know more precisely where our money is and what it is doing. Whereas with mainstream banks, your money is used to fund various investments, often on financial markets that you have no control over, investors in alternative finance projects tend to invest in a specific project.

Alternative finance has been around since at least 2004, with the founding of online peer-to-peer lender, Zopa. But a far broader range of options have sprung up since the financial crisis. In our research, we found online peer-to-peer platforms that bypass the banks entirely, community share schemes that allow both direct investment in and democratic influence of a given project, and crowdfunding to support a local SME business take off. Greater transparency so that people know exactly where their money is and what it is doing is key.

Beyond this there are many different financial arrangements, all with different implications for funders and fundraisers. Peer-to-peer loans, bonds and debentures have to be repaid with interest. Community shares are regulated to keep dividend payments low, but give shareholders a say in the governance of the fundraising organisation.

Government backing?

Despite the very public loss of reputation suffered by high street banks following the financial crisis in 2007, we still seem to trust them with our money. In wondering how mainstream banks were able to return so quickly to “business as usual”, one answer is that we did too. A big reason for this might be that we didn’t know what else we could do with our money and the perceived risks of new ways of investing.

There are understandable anxieties about alternative investments at a time of significant restraints on household budgets, especially when two in five of the UK workforce have less than £100 in savings. This is why the government should step in and guarantee retail investments in alternative finance.

It’s a relatively small ask compared to the Financial Services Compensation Scheme, which is the current guarantee of cash deposited in UK-regulated accounts in banks and building societies up to a limit of £75,000 – even though such investments provide very little financial return to savers or deliver tangible social or environmental value from this money.

Alt fin tries to provide us with a way of diverting our money away from habitual patterns of economic behaviour. And it is delivering real social and environmental benefit to communities. These include renewable energy schemes, community home building, or renovating disused land into play spaces for children.
One of the banks that has been bailed out by the government since the financial crisis. Elliott Brown, CC BY
We argue that the government should help the process of building trust in alternative finance investments by providing this maximum guarantee with the condition that investment is directed into the “real economy” and not just financial markets.

Proceed with caution

Of course, any such guarantee should be approached with caution. After all, this suggests a breaking of the “risk/return” cycle – a basic tenet of banking that with any investment comes risk – and potentially opens the way to abuse, with people making risky investments with the comfort of a government backstop.

But if we are to build a more resilient financial system, we need a far greater range of options for where to direct our money. Alternative finance is not perfect, and a growing entanglement with mainstream finance may see the sector start to resemble mainstream practices. To manage the process of truly democratising finance and providing genuine alternatives to putting our money “safely in the bank”, the Financial Conduct Authority should play a leading role as regulator.

And if a taxpayer guarantee sounds contentious, it is worth remembering that the risk/return cycle was significantly broken by the process of bailing out the banks in 2007-08. Banks, too big to fail and to jail, currently create 97% of “money” through credit, preferring to speculate on money and financial markets in the hope of creating profit, rather than investing in the “real economy”.

If the practice is good for safeguarding the hidden financial speculation of the few, why not for safeguarding the transparent material social and environmental gains for the many?

In continuing to assume the mainstream banks are the safest place to invest, we might be missing the opportunity to make our money do good by working harder for us and our communities.

Author: Mark Davis, Associate Professor of Sociology, University of Leeds

Can We Trust Price Comparison Websites?

As digital acceptance continues to deepen, more consumers are using Price Comparison Websites (PCW) or Comparator Websites or apps, to inform their purchasing decisions. From financial services, utilities, phone plans, flights, holidays and shopping, use is on the rise. Clearly such sites have the potential to empower consumers and make choice simplier. But should we trust them? Are they giving truly independent results?

Below the waterline, there are commissions being paid, results filtered based on affiliations and other commercial incentives or targets, and the basis of recommendation is not always clear.

ASIC highlighted issues with PCW’s in 2012, and with specific Superannuation and Insurance comparison sites.

The ACCC published “The comparator website industry in Australia” report in November 2014. They said:

Comparator websites are almost universally free for consumers to use, with revenue earned through one of the three business models. The two primary means of remuneration are:
• Fee per lead or call (used by ‘lead generation’ sites)—a fee is paid by the service provider for each lead that is generated to the service provider. This model includes a fee per ‘click-through’ where a service provider pays a fee for each customer that is directed to its website from the comparator website.
• Commission on sales (used by ‘end-to-end’ sites)—commission is paid by the service provider for each successful sale. Commission is paid either upfront, on a trailing basis (commission paid over a period of 3−4 years, subject to the customer remaining with the service provider) or through a combination of both.

Comparator website operators and service providers reported that the fee and commission payments received vary depending on the service provider and sector. For example, in the private health insurance sector, commission payments are generally between 20 to 40 per cent of the first year’s premium, with a trailing fee also payable in some cases. Where a trailing fee is payable, the upfront fee tends to be lower. Additional methods of achieving remuneration include charging for advertising on the comparator website or selling customer data. The use of these methods is minimal, with the majority of comparator website operators reviewed by the ACCC focusing on generating revenue via click-through or commission per sale.

Now, in the UK, the UK Regulators Network (UKRN) (a peak body covering a wide range of industry segments) has just published a report looking at UK price comparison websites. In addition, the UK Competition and Markets Authority (CMA) would commence an investigation of digital comparison tools – including PCWs – in the autumn 2016.

Here are some thought provoking comments which I think have relevance to our market too.

Why people use PCWs

Consumers’ stated reasons for using PCWs tend to relate to price, with users indicating that their principal aims are to find the best deal (85%), compare prices for specific products (83%) and save money or reduce costs (79%).

However, price is not the only factor that drives consumer use of PCWs. Studies has found that consumers use PCWs as a research tool to find companies offering relevant services (69%), a significant proportion stated they use PCWs to save time (65%) and to inform them when considering switching providers (62%).

One of the underlying views was that price comparison sites are used to get a ‘better’ deal and not necessarily the ‘best’ deal.

Consumers’ uses of PCWs can vary by sector, as the following examples, from research carried out by Mintel in 2014, illustrates:
home insurance – 33% used a PCW for research, 19% purchased or arranged via a PCW;
broadband, TV, phone – 21% used a PCW for research, 7% purchased or arranged via a PCW;
mortgages – 9% used a PCW for research, 4% purchased or arranged via a PCW.

Evidence on why consumers may differ in their use of PCWs is limited. However, for some products, like insurance for example, consumers may be more likely to use PCWs to make their purchase and complete a transaction. This may be due to two factors: first, with a product like insurance, buyers make frequent choices about their service provider. Second, it may be easier for PCWs to have relationships with insurance providers to complete the transaction. Conversely, products such as mortgages may be more complex, may require professional advice and security checks that are less amenable to being completed in one portal. This may therefore explain why consumers may be less likely to purchase certain products through PCWs and why the use of PCWs in general differs across sectors.

Use of multiple PCWs

When consumers use PCWs to shop around, they often use multiple sites. This is referred to as multi-homing.

Consumers appear to use at least two sites before making a decision. A 2013 study by Consumer Futures found that 16% used one site, 57% used two to three, and 26% more, before making a decision.43 For instance, the FCA’s market study on credit cards found that, of those that took out a credit card in the last 12 months after shopping around, 39% had used one PCW and 27% had used two or more, indicating that consumers not only utilise PCWs to search for suitable credit cards, but also that some are comparing between sites.

Panellists from the Ofgem Consumer First Panel in March 2016 held the underlying view that it was necessary to use multiple PCWs as they offered different ranges and may have commercial relationships with certain suppliers.

Common problems consumers may have with PCWs searches

Whilst PCWs can bring benefits to consumers, research has found there are some common problems that reduce their effectiveness and potentially result in poor outcomes. These issues include the following:

Consumers can become frustrated when there is no ability to customise and personalise searches – users typically desire a large amount of information but want to use filters to reduce the number of results. This function increases confidence, as it reinforces the perception that the results are tailored to the specific needs of the shopper.

Consumers prefer a range of ranking options – studies undertaken by the European Commission indicate that users were less likely to select a PCW when only one default ranking option is offered, as there was a preference for sites that provided a choice of one to three settings in addition to ranking by price only.

Consumers do not always find rankings to be clear – in some studies consumers have found that the presentation of information on PCWs and the criteria used for rankings can be unclear. An FCA report observed a wide variation in how products were displayed on PCWs, with some websites providing less clarity on the criteria used for default rankings.

Fear that sharing personal data could result in unsolicited marketing communications – concern and uncertainty over how PCWs use personal details was often linked to a fear that providing such information would result in unsolicited communication.49 Consumers also expressed concerns over their data being sold onto other companies with some entering fake phone numbers as a precaution against this. This was also an underlying view of panellists from Ofgem’s March 2016 Consumer First Panel.

Some consumers find the layout of PCWs difficult to navigate – one study found some features created issues for consumers.52 This included: unclear signposting in menus, small text, links and buttons being difficult to identify, creating uncertainty on where to go next, difficulty in locating explanations and definitions of terminology, and the positioning of advertising in such a way that it seems part of the search results.
Consumers rarely understand how PCWs work or generate revenue – when prompted they tend to hypothesise that revenue is drawn from ‘advertising’, ‘commission on sales’, ‘click-through to providers’ sites’ or ‘access or listing fees’.

Some concerns that results may not be impartial due to business models – the impartiality of PCWs is sometimes expressed as an issue amongst consumers. For example, during Ofgem’s Consumer First Panel discussions in March 2016, some panellists were aware that relationships between suppliers and PCWs could be in place, while others were surprised that not all PCWs were independent of suppliers. Those panellists were suspicious about these relationships, and were unsure how or why these were formed; they were cautious about any relationships that might reduce customer choice. Conversely, however, other research shows that few consumers attach any importance to information on PCWs’ business models.

Trust in PCWs

A key potential problem that may limit the use and effectiveness of PCWs is the extent to which consumers trust price comparison sites and have confidence in using them.

Levels of consumer trust in PCWs can differ across sectors. In the energy sector for example, a survey in the CMA Energy Market Investigation identified levels of consumer confidence and trust in PCWs as being a potential issue: 26% were not confident that they could use PCWs to get the best energy deal; of these, 43% said they were not confident because they did not trust or believe PCWs.

However, in another study, it was found that that a large majority (94%) of consumers recalled PCWs that they had used to be either ‘very’ or ‘fairly’ reliable’. Although the majority of consumers use multiple sites, only a small minority do so due to a lack of trust. Instead, consumers normally engage in ‘multi-homing’ to give themselves confidence they have not missed a good deal.

A 2014 study by the FCA60 found consumers to have a high level of confidence in the well-known PCWs to offer dependable insurance quotes. Furthermore, the trust that the users had in these popular comparison tools led to a “halo effect”, whereby even previously unknown providers listed were now seen as trustworthy. This was because of an expectation that these recognised sites would vet and check providers included in their directory.

Ranking

Regulators have identified that:

Rankings may be complex – for example in the credit cards sector, ranking of credit cards and their offers might not always be helpful for consumers – e.g. one PCW’s table ranked in a formula that included the likelihood of acceptance, Balance Transfer Period, Balance Transfer Fee and Representative APR.
Rankings may not be suitable for all customers – PCWs’ rankings are sometimes ordered by ‘popularity’. This may not be helpful for consumers and it could lead to an unfavourable outcome if previous users have made poor choices or if it is not the most relevant factor for them (e.g. if they are looking to save money).

PCWs may give prominence to suppliers they have a commercial relationship with – some PCWs give prominence to certain products because of a sponsorship agreement, instead of displaying options that might be better for consumers based on their search criteria. To ensure results are accurate and unbiased, Ofcom’s Accreditation Scheme requires default ranking to be by price and by a measure of total amount payable for the service. Price ranking means that consumers may avoid the potential risk of using a PCW that ranks deals based on commissions received by Communication Providers (CPs), rather than based on the cheapest total price. The requirement to display a total amount payable can help consumers identify the complete price of their contract. Joint research by the Advertising Standard Authority and Ofcom found that consumers can struggle to identify the total costs of broadband contracts when prices are advertised separately and/or less prominently.

Not all products are presented to consumers because of a lack of commercial relationship – whilst regulators have encountered examples where commercial relationships have given prominence to some results over others, the opposite can also be true. Where a PCW does not have a direct relationship with the supplier, the search results from that supplier can be ‘hidden’ or difficult to find.

The method of ranking may affect which deals consumers use – the method by which the deals are sorted (e.g. price, contract type, customer ratings) can have an impact on the number of consumers that are likely to select the best product for their needs. The strength of this effect depends on precisely how the products are sorted. For example it has been found that the sorting method that resulted in the most customers identifying the best deal displayed the offers sorted by price (with the cheapest deal being ranked on top). A study undertaken as part of the FCA’s work on high-cost short-term credit also highlighted the importance of positioning when consumers used PCWs. When the cheapest deals were listed on top, users selected these deals 63% of the time, compared to 27% of the time when deals were sorted at random.

Accuracy and impartiality

A lack of accuracy on pricing can mean that consumers are not making fully informed decisions. In addition, PCWs do not always provide clarity regarding their role in the distribution of a product or the nature of the services they offer. In a review of annuity comparison sites, the FCA found that PCWs do not always satisfy the key FCA requirement to be ‘fair, clear, and not misleading’. For example, PCWs may describe a service as ‘free’ when commission is actually received by the firm if the user selects that particular product.

Other competition issues

Agreements or commercial relationships between PCWs and product suppliers have the potential to weaken competition between PCWs themselves, between competitors in the upstream markets, or both.

Most Favoured Nation clauses

These are agreements that commit a supplier not to sell the same product more cheaply elsewhere. Such agreements have the potential to distort competition through raising barriers to entry and limiting the commercial freedom of suppliers.

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

UK Bank Rate Unchanged in September 2016

The UK Bank Rate was held at 0.25%, government bond purchases at £435bn and corporate bond purchases at up to £10bn. Inflation remains well below target and business investment weak.

The Bank of England’s Monetary Policy Committee (MPC) sets monetary policy to meet the 2% inflation target and in a way that helps to sustain growth and employment. At its meeting ending on 14 September 2016, the MPC voted unanimously to maintain Bank Rate at 0.25%. The Committee voted unanimously to continue with the programme of sterling non-financial investment-grade corporate bond purchases totalling up to £10 billion, financed by the issuance of central bank reserves. The Committee also voted unanimously to continue with the programme of £60 billion of UK government bond purchases to take the total stock of these purchases to £435 billion, financed by the issuance of central bank reserves.

The package of measures announced by the Committee at its August meeting led to a greater than anticipated boost to UK asset prices. Short and long-term market interest rates fell notably following the announcement; corporate bond spreads narrowed, and issuance was strong; and equity prices rose. Since then, some of the falls in yields have reversed, driven by somewhat stronger-than-expected UK data and a generalised rise in global yields.

Many banks announced cuts in Standard Variable Rate and Tracker mortgage rates in line with the cut in Bank Rate. Deposit rates fell in August, although on average these falls were slightly smaller than the cut in Bank Rate. Fixed rates on new mortgage lending also fell.

Overall, while the evidence on the initial impact of the policy package is encouraging, the Committee will monitor closely changes in asset prices and in interest rates facing households and firms and their effect on economic activity.

The MPC set out its most recent detailed assessment of the economic outlook in the August Inflation Report. Based on the data available at that time, the Committee judged that the UK economy was likely to see little growth in the second half of 2016. In light of the tendency for survey indicators to overreact to unexpected events, the Committee expected some bounce-back in surveys of business and consumer sentiment following the sharp falls in the immediate aftermath of the vote to leave the European Union. Nevertheless, since the August Inflation Report, a number of indicators of near-term economic activity have been somewhat stronger than expected. The Committee now expect less of a slowing in UK GDP growth in the second half of 2016.

It was more difficult to draw a strong inference from these data about the Committee’s projections for 2017 and beyond. Moreover, there had been no new information since the August Inflation Report relevant for longer-term prospects for the UK economy.

In the August Inflation Report, the Committee judged that some parts of the economy would be more sensitive than others to heightened uncertainty. Business and housing investment were expected to decline in the second half of 2016, while consumption growth was expected to slow more gradually, alongside households’ real disposable incomes. While most business investment intentions surveys weakened further since the August Inflation Report, the near-term outlook for the housing market is less negative than expected and the indicators of consumption have been a little stronger than expected. Overall, these data remain consistent with the Committee’s judgement in the August Inflation Report that business spending would slow more sharply than consumer spending in response to the uncertainty associated with the United Kingdom’s vote to leave the European Union.

Data on global economic activity have generally been in line with the Committee’s August Inflation Report projections, with growth in the United Kingdom’s major trading partners expected to continue at a modest pace over the next three years.

Twelve-month CPI inflation remained at 0.6% in August, lower than projected at the time of the August Inflation Report, and well below the 2% inflation target. As the unusually large drags from energy and food prices attenuate, CPI inflation is expected to rise to around its 2% target in the first half of 2017, consistent with the August Inflation Report, albeit with the projection a little lower over the remainder of 2016 than had been anticipated in August.

The Committee’s view of the contours of the economic outlook following the EU referendum had not changed. News on the near-term momentum of the UK economy had, however, been slightly to the upside relative to the August Inflation Report projections. The Committee will assess that news, along with other forthcoming indicators, during its November forecast round. If, in light of that full updated assessment, the outlook at that time is judged to be broadly consistent with the August Inflation Report projections, a majority of members expect to support a further cut in Bank Rate to its effective lower bound at one of the MPC’s forthcoming meetings during the course of this year. The MPC currently judges this bound to be close to, but a little above, zero.

Against that backdrop, at its meeting ending on 14 September, MPC members judged it appropriate to leave the stance of monetary policy unchanged.

What Britain can learn from how public housing is run in Europe

From The UK Conversation.

The UK government’s so-called “pay to stay” proposals for rent hikes for social housing tenants on higher incomes in England have led to a barrage of criticism, most recently from the Local Government Association, which argued that the bureaucratic costs and complexities involved would erase most income the scheme might generate.

The policy certainly raises concerns. It seems odd and unfair to on the one hand force tenants on higher incomes to pay market rents, while on the other hand offering tenants wishing to take advantage of their right to buy a significant discount to their property’s market value, whether they need it or not. As the LGA argued, it’s questionable how feasible it is to implement the means testing required, especially in the short time frame demanded (by April 2017). How should councils calculate accurate market rents, given the lack of appropriate data? And it seems incoherent for the government to demand a reduction of 1% a year in social rents, while promoting “affordable rent” properties at significantly higher rents than social housing.

But behind these details are bigger questions. If we take social housing to mean housing offered at below-market rents, can and should this ever be justified without means testing? And ultimately, what is the purpose of social housing? Are we to believe that it is only for the very poor until they are able to house themselves on the open market? Or is this approach and the ghettoisation that it entails, as Nye Bevan put it, “a wholly evil thing … a monstrous affliction upon the essential psychological and biological oneness of the whole community”. It bears noting that Bevan also acknowledged that there was still a place to ask higher rents of higher earners.

Britain has wrestled with what it wants social housing to be and how it should be run for decades, alternating between governments of different hues but also with the changing political and economic landscape. But of course other nations operate social housing and have different approaches. What can Britain learn from her European neighbours?

Vienna: using the state to keep rents down

For example, if Bevan were alive today and was disenchanted by the problems of under-supply and erosion of social housing in Britain, he would find a happy berth in Vienna, Austria. The city retains some 220,000 housing units of its own, supplemented by 136,000 units through housing associations, and requires new developments to be of mixed tenures (social rent, market rent, leasehold), with state financial support for developers and projects coming with social obligations.

The result of wide availability of affordable and secure social housing and regular new construction is that the social rent sector in Vienna actually depresses rents in the market sector, reducing the disparity that would otherwise exist and keeping rents generally more affordable. Although there are income thresholds beyond which new tenants may not access social housing, they are quite high (€44,000 for a single-person household, €66,000 for a two-person household), and once a flat is occupied the tenants enjoy security of tenure. All this leads to genuinely mixed communities, none more famous than the Karl Marx-Hof.
Vienna’s Karl Marx-Hoff. Roger Newbrook/Flickr, CC BY
Historically the Netherlands, Sweden and to some extent Germany (in east Germany and the cities) have been associated with this model, although it has come under significant political pressure in recent times.

Market answers to market problems

Such arrangements do not please everyone. In 2009, a Dutch investor succeeded in arguing to the European Commission that state aid (for social housebuilding) should only be used to support accommodation for “disadvantaged citizens”. As a result, the Dutch housing minister agreed to reduce the income threshold for access to social housing from €38,000, above the average, to well below it at €33,000 (although recent negotiations have subsequently reversed the decision).

The European Commission and the OECD in their respective country reports have frequently favoured an approach where rents are always at the market level regardless of whether the tenancy is social or private, with those on low incomes assisted through housing benefit rather than through the offer of accommodation that is cheaper per se. This comes with a clear focus on shaping social housing as something for disadvantaged groups.

If private real estate investors and right-of-centre politicians using competition policy is one pressure on the Bevanite view of social housing, the other comes simply from the fact that demand so often outstrips supply. If the state takes the (on the face of it, sensible) decision to prioritise those in greatest housing need then, de facto, social housing will progressively become the preserve of those at the lowest end of the income spectrum – a process sometimes referred to as residualisation.

This acute shortage of social housing has affected even thriving German cities such as Berlin, where social housing was privatised at a time when lack of cash was the issue not housing supply, leading to acute shortages now when both are being squeezed.

What conclusions can we draw? The debate in England about “pay to stay” is by no means unique, and reflects pressure from private investors, right-of-centre politicians and the European Commission to move away from cross-income social housing. Nevertheless politicians have a genuine choice: housing benefit might be considered a more efficient use of public money in the short term than offering lower rents for everyone living in social housing. But to restrict who may live in social housing so that it becomes the preserve only of the poorest risks concentrating deprivation in estates. It also stops social rents applying downward pressure, through competition with the private sector, on the wider market – which might increase housing benefit expenditure in the long run.

In the end, when the situation is as it is in Britain and a growing number of other countries, the whole debate becomes insignificant when the overwhelming problem is the shortage of housing supply.

Author: Ed Turner, Senior Lecturer in Politics, Head of Politics and International Relations, Aston University

Brexit Uncertainty Dampens UK Housing & Mortgage Outlook

Fitch Ratings has revised its UK housing and mortgage outlook from Stable/Positive to Stable in light of the UK’s referendum on leaving the EU, to reflect increased uncertainty around the UK housing market and economic fundamentals created by the vote.

A Stable sector outlook will continue to support our Stable RMBS ratings Outlook.

UK house price growth and mortgage performance have exceeded our expectations in 1H16. However, the vote to leave the EU has potentially put some of the supportive macroeconomic factors we identified in January, such as strong growth, in jeopardy (Fitch reduced its real GDP growth forecasts for 2016-2018 following the referendum), and house price appreciation and mortgage lending growth are likely to slow. Early indicators suggest that increased economic uncertainty is filtering through to the housing market.

The Bank of England’s policy response will support mortgage performance and keep rates on new lending low over the next one to two years. Arrears are likely to remain low for the short term and certainly through 2H16. Affordability stress-testing rules introduced in 2014 should help ensure that borrowers are resilient to future rate raises.

The buy-to-let (BTL) market has already been affected by higher stamp duty, which saw a very high number of completed purchases in March, immediately before the raise took effect, helping drive a sharp increase in gross mortgage lending overall. But BTL demand could be hit if the prospect of Brexit results in a fall in net migration and/or a notable economic slowdown in London and the South East, to which BTL RMBS pools typically have higher exposure. Upcoming changes to tax relief for landlords and moves by a number of lenders to increase their Interest Coverage Ratio requirements may also hamper BTL growth.

How running companies for shareholders drives scandals like BHS

From The Conversation.

You might think the £423m Philip Green made from British Home Stores, which is now under administration, is a one off. Unfortunately, it is not. It is just one of the outcomes of our shareholder value-driven economy that is backed by business “common sense” and required by company law.

Let me explain. Company law requires directors to act in the interests of shareholders – it doesn’t require directors to preserve the company for the benefit of employees, BHS or otherwise. In other words, the law requires Green as a director to act in the interests of himself and his wife, as two of the major shareholders.

But there are legal limits to what shareholders can claim. The law is clear that while shareholders own a right to revenue they don’t own the company’s assets – so in law they are not owners. And there are rules about paying dividends – the sum of money paid regularly by a company to its shareholders – from company assets. There are also rules about what counts as a “realised profit” for the purposes of distribution. But there are ways around this.

How to make shareholder value

The first step is to avoid the scrutiny applied to public companies by becoming a private company. After Green bought the shares in BHS plc from Storehouse plc in May 2000, one of his first acts as director was to re-register it as a private limited company. A 75% shareholder vote is all that is required to do this – which was easy enough given the Greens’ shareholdings.

Then there is a finessing around what counts as a “distributable profit” – in law, this is accumulated realised profit minus accumulated realised losses. But in practice it is fuzzier.

With BHS it went something like this. BHS shares cost Green £200m in 2000, which was considerably less than the net assets of £388,086,000 shown in its accounts up to March 1999. However BHS profits had been patchy and the company had an image problem so Green acquired it at a bargain price. This bargain for the buyer is called “negative goodwill” and is shown as an asset on the company balance sheet – although it can also be shown as profit on the profit-and-loss account.

Negative goodwill enhanced BHS’s profit by more than £103m, and to further boost short-term profits, Green sold BHS property worth £106m to Carmen Properties – whose shares were owned by Tina Green. These were then leased back to BHS. These profits were cashed in as dividends: £166,535,000 in 2002 and £256,000,000 in 2004. As a result, little money was used for the business or for pensions and the company was loaded with debt.
The BHS brand will disappear from high streets on August 20 with the closure of the chain’s final stores. Martin Christopher Parker/Shutterstock
By 2004, BHS debts totalled £373,870,000 and net assets were just £5,358,000. For the remaining years of its existence, BHS languished in debt. No more dividends were declared for the Green family but they were repaid a £28,975,000 bond and their companies charged BHS an estimated £124,000,000 in rents.

Huge dividends were also declared in other parts of Green’s retail empire. Green purchased the shares in Arcadia Group, which owns Topshop, through a Jersey-based company, Taveta, for £866,395,000 – a sum which was mostly borrowed from HBOS. Green (as director) later transferred the shares to a newly formed company, Taveta Investments, for shares worth £2.3 billion, effectively revaluing the Arcadia shares – even though Taveta Investments was ultimately wholly owned by Taveta.

Taveta Investments then declared a dividend of £1.3 billion for its shareholders in 2005 – which ultimately went to the Greens as the shareholders of the parent company. By using Taveta Investments, Arcadia’s shares could then be revalued and owned by another company so that the increased value could be in some sense “realised” and qualify as dividends.

The revaluation obviously did not produce extra actual cash. But it did allow accountants PwC to approve the dividends, even though they were funded by loans. Green described it as “a technical move … approved by the courts, the Inland Revenue, our auditors Price Waterhouse Coopers, our lawyers Allen & Overy and our tax advisers, Deloitte”.

Squaring morality and the law

So was selling company assets and taking out loans to pay dividends wrong? While common sense screams yes – the law is not as clear and there is no suggestion that the Greens did anything illegal.

Private companies have much more freedom to transfer value to shareholders and need to disclose very little. Public companies that re-register as private companies are treated like small family concerns even where the business and the workforce are unchanged. In BHS’s case, the sale of assets and the taking of loans to fund dividends were a fatal drain on a business that employed more than 11,000 people.
Green speaks before parliament’s business select committee on the collapse of BHS. Reuters
On the other hand, negative goodwill does account for a bargain and a value for the company. The accounts were audited and they were signed off. Similarly, Arcadia’s shares had been revalued by a well-regarded firm – the accounts were upfront about these transactions and they were audited and signed off. And the directors successfully delivered returns for shareholders. Of course, they were the shareholders but that’s usual in private companies.

Green might have pushed the envelope a little – and how much he did will be key to establishing any possible liabilities or disqualification as a company director. However, what Green did for himself, company directors are doing for other shareholders all the time. Their remuneration and employability depends upon it. The pursuit of shareholder value destroys jobs, communities, innovation, investment and the long-term health of the economy, but as long it is a legal imperative, Green’s behaviour is just business as usual.

Author: Lorraine Talbot, Professor of Company Law in Context, University of York

Bank of England Cuts Rate, Lifts QE

The Bank of England has thrown the kitchen sink at the UK economy, today, reacting to the Brexit vote. This package comprises: a 25 basis point cut in Bank Rate to 0.25%; a new Term Funding Scheme to reinforce the pass-through of the cut in Bank Rate; the purchase of up to £10 billion of UK corporate bonds; and an expansion of the asset purchase scheme for UK government bonds of £60 billion, taking the total stock of these asset purchases to £435 billion. The last three elements will be financed by the issuance of central bank reserves. Savers will be badly hit, once again. The rate cut may well hinder productivity, not support growth.

The Bank of England’s Monetary Policy Committee (MPC) sets monetary policy to meet the 2% inflation target, and in a way that helps to sustain growth and employment. At its meeting ending 3 August 2016, the MPC voted for a package of measures designed to provide additional support to growth and to achieve a sustainable return of inflation to the target. This package comprises: a 25 basis point cut in Bank Rate to 0.25%; a new Term Funding Scheme to reinforce the pass-through of the cut in Bank Rate; the purchase of up to £10 billion of UK corporate bonds; and an expansion of the asset purchase scheme for UK government bonds of £60 billion, taking the total stock of these asset purchases to £435 billion. The last three elements will be financed by the issuance of central bank reserves.

Following the United Kingdom’s vote to leave the European Union, the exchange rate has fallen and the outlook for growth in the short to medium term has weakened markedly. The fall in sterling is likely to push up on CPI inflation in the near term, hastening its return to the 2% target and probably causing it to rise above the target in the latter part of the MPC’s forecast period, before the exchange rate effect dissipates thereafter. In the real economy, although the weaker medium-term outlook for activity largely reflects a downward revision to the economy’s supply capacity, near-term weakness in demand is likely to open up a margin of spare capacity, including an eventual rise in unemployment. Consistent with this, recent surveys of business activity, confidence and optimism suggest that the United Kingdom is likely to see little growth in GDP in the second half of this year.

These developments present a trade-off for the MPC between delivering inflation at the target and stabilising activity around potential. The MPC’s remit requires it to explain how it has balanced that trade-off. Given the extent of the likely weakness in demand relative to supply, the MPC judges it appropriate to provide additional stimulus to the economy, thereby reducing the amount of spare capacity at the cost of a temporary period of above-target inflation. Not only will such action help to eliminate the degree of spare capacity over time, but because a persistent shortfall in aggregate demand would pull down on inflation in the medium term, it should also ensure that inflation does not fall back below the target beyond the forecast horizon. Thus, in tolerating a temporary period of above-target inflation, the Committee expects the eventual return of inflation to the target to be more sustainable.

The MPC’s choice of instruments is based on a consideration of their likely impact on the real economy and inflation. The MPC has examined closely the interaction between monetary policy and the financial sector, both with regard to ensuring the effective transmission of monetary policy to households and businesses, and with consideration for the financial stability consequences of its policy actions.

The cut in Bank Rate will lower borrowing costs for households and businesses. However, as interest rates are close to zero, it is likely to be difficult for some banks and building societies to reduce deposit rates much further, which in turn might limit their ability to cut their lending rates. In order to mitigate this, the MPC is launching a Term Funding Scheme (TFS) that will provide funding for banks at interest rates close to Bank Rate. This monetary policy action should help reinforce the transmission of the reduction in Bank Rate to the real economy to ensure that households and firms benefit from the MPC’s actions. In addition, the TFS provides participants with a cost effective source of funding to support additional lending to the real economy, providing insurance against the risk that conditions tighten in bank funding markets.

The expansion of the Bank of England’s asset purchase programme for UK government bonds will impart monetary stimulus by lowering the yields on securities that are used to determine the cost of borrowing for households and businesses. It is also likely to trigger portfolio rebalancing into riskier assets by current holders of government bonds, further enhancing the supply of credit to the broader economy.

Purchases of corporate bonds could provide somewhat more stimulus than the same amount of gilt purchases. In particular, given that corporate bonds are higher-yielding instruments than government bonds, investors selling corporate debt to the Bank could be more likely to invest the money received in other corporate assets than those selling gilts. In addition, by increasing demand in secondary markets, purchases by the Bank could reduce liquidity premia; and such purchases could stimulate issuance in sterling corporate bond markets.

As set out in the August Inflation Report, conditional on this package of measures, the MPC expects that by the three-year forecast horizon unemployment will have begun to fall back and that much of the economy’s spare capacity will have been re-absorbed, while inflation will be a little above the 2% target. In those projections the cumulative growth in output is still around 2½% less at the end of the forecast period than in the MPC’s May projections. Much of this reflects a downward revision to potential supply that monetary policy cannot offset. However, monetary policy can provide support as the economy adjusts. Had it not taken the action announced today, the MPC judges it likely that output would be lower, unemployment higher and slack greater throughout the forecast period, jeopardising a sustainable return of inflation to the target.

This package contains a number of mutually reinforcing elements, all of which have scope for further action. The MPC can act further along each of the dimensions of the package by lowering Bank Rate, by expanding the TFS to reinforce further the monetary transmission mechanism, and by expanding the scale or variety of asset purchases. If the incoming data prove broadly consistent with the August Inflation Report forecast, a majority of members expect to support a further cut in Bank Rate to its effective lower bound at one of the MPC’s forthcoming meetings during the course of the year. The MPC currently judges this bound to be close to, but a little above, zero.

All members of the Committee agreed that policy stimulus was warranted at this time, and that Bank Rate should be reduced to 0.25% and be supported by a TFS. Eight members supported the introduction of a corporate bond scheme, and six members supported further purchases of UK government bonds.

These measures have been taken against a backdrop of other supportive actions taken by the Bank of England recently. The FPC has reduced the countercyclical capital buffer to support the provision of credit and has announced that it will exclude central bank reserves from the exposure measure in the current UK leverage ratio framework. This latter measure will enhance the effectiveness of the TFS and asset purchases by minimising the potential countervailing effects of regulatory requirements on monetary policy operations. The Bank has previously announced that it will continue to offer indexed long-term repo operations on a weekly basis until the end of September 2016 as a precautionary step to provide additional flexibility in the Bank’s provision of liquidity insurance. The PRA will also smooth the transition to Solvency II for insurers.