Speaker 1: Dave. So we've had quite a lot of events and
Speaker 1: dinners this week. It's been like a social week for
Speaker 1: the podcast. And how many people ask you why is
Speaker 1: going on with the Bank of England and the government?
Speaker 1: I mean they all, I mean everyone's got their hair
Speaker 1: on fire. Basically if everything's melting down, it's historic moves
Speaker 1: in the gult market at the end of the government,
Speaker 1: what's going on? And the British stiff upper lip keep
Speaker 1: calm and carrying on. I usually just say it's like
Speaker 1: it's really without the good weather, don't worry, you'll get
Speaker 1: through it, and the good food, it's not so bad.
Speaker 1: But now I say, well, come on my podcast or
Speaker 1: listen and then come on actually and talk about it
Speaker 1: and subscribe. And actually, massive shout out to the person
Speaker 1: on the left at my dinner on Sunday who got
Speaker 1: his phone out and subscribed. We love love more people
Speaker 1: like that. Yeah, everyone we meet sign up to in
Speaker 1: the City listening rate as well and rates with five stars.
Speaker 1: We got so many points from our producer just now,
Speaker 1: it's just she's funny. I'm Franci Laqua and I'm David Merritt,
Speaker 1: and this is in the City Bloomberg's podcast connecting you
Speaker 1: to the stories and the voices at the heart of
Speaker 1: the City of London, and this week we spoke with
Speaker 1: Howard Davies. He is the chairman of the board of
Speaker 1: Directors of nat West Group. Previously he was Director of
Speaker 1: the London School of Economics, the Chairman of the UK
Speaker 1: Financial Services Authority, and Deputy Governor of the Bank of England,
Speaker 1: amongst other roles. Sir Howard, thank you so much for
Speaker 1: joining us. When you look at the Bank of England,
Speaker 1: when you look at guilt and market mayhem, what exactly
Speaker 1: is going on? Well, the bank is in a difficult spot.
Speaker 1: I think that's clear because we're in a slightly strange
Speaker 1: hiatus period where you've had a government announcement of a
Speaker 1: direction of fiscal policy, but you haven't had the details.
Speaker 1: And then you've got in the background people like the
Speaker 1: Institute of Fiscal Studies yesterday producing their Green budget saying
Speaker 1: there's a gap of sixty billion pounds. So people are
Speaker 1: focusing on that gap and saying how's that going to
Speaker 1: be filled? And in the meantime that's creating an environment
Speaker 1: in which the volatility of sterling assets has been very
Speaker 1: unusually high and the Bank of England is having to
Speaker 1: try to manage that through now the Bank of England
Speaker 1: can't fill the sixty billion hole, but it can for
Speaker 1: financial stability purposes try to manage the extreme volatility and
Speaker 1: try to prevent it cascading over into real markets and
Speaker 1: the security of people's pensions. And that's what they're trying
Speaker 1: to do. But I mean it's an imperfect operation because
Speaker 1: of the unusual circumstances. The messaging of the Bank of
Speaker 1: England has not been optimal, hasn't it. I mean we've
Speaker 1: gone from quantitative easing too tightening to easing back again
Speaker 1: and we're calling it quantitative confusion. I mean, is it
Speaker 1: is it their fault or is it just the situation
Speaker 1: they find themselves in. Well, my own view would be
Speaker 1: that it isn't fundamentally their fault because as I've explained them,
Speaker 1: you know, they're in an unusual period. No one would
Speaker 1: write this script if if you were at a at
Speaker 1: a central bank, and so I think one has to
Speaker 1: have some sympathy with them trying to react to a
Speaker 1: very very fast changing environment. And so i'm personally but
Speaker 1: then this is maybe because you know, you can take
Speaker 1: the man out of the central bank, You can't take
Speaker 1: the central bank out of the man. So I'm, you know,
Speaker 1: congenitally more sympathetic to the Bank of England. But it
Speaker 1: is the case that they were a bit slow to
Speaker 1: Titan and that hasn't helped I think, And I that
Speaker 1: was a few I took eight year or so ago.
Speaker 1: And it is true also that the Bank of england
Speaker 1: current shape is a bit confusingly engineered, I think for
Speaker 1: people outside to understand. So is there a credibility problem
Speaker 1: for the Bank of England today or is it just
Speaker 1: the bank saying I don't want to get dragged into
Speaker 1: this political mess. I don't think there's a fundamental credibility
Speaker 1: problem in my view. I think that people appreciate the
Speaker 1: power of the central bank, but they also appreciate that
Speaker 1: the central bank cannot create a fiscal policy. That's for
Speaker 1: the government. So it can act to try to calm
Speaker 1: markets while they wait for a fiscal policy. But that's
Speaker 1: a chicky posture to be in. But I fundamentally don't
Speaker 1: think it's a problem of the ultimate bredibility. Sounds like
Speaker 1: you're saying, has someone who's been there and been in
Speaker 1: the room that there's a structural problem with the Bankonglian
Speaker 1: and you know, let's trust to talked about the mandate,
Speaker 1: that's one question. But we've got these two different committees.
Speaker 1: Do you think there needs to be an overhaul? And
Speaker 1: all this confusion and the upheaving the market shows that
Speaker 1: actually it's time to have a rethink of how fundamentally
Speaker 1: how the Bank of England operates. Well, the logic of
Speaker 1: what was done, and this this was all done by
Speaker 1: George Osborne, so it's not not list Trust, it's not
Speaker 1: the Bank of England itself. The logic was pretty clear
Speaker 1: that you made the Bank of England once again the
Speaker 1: banking regulator, and you gave it an overall financial stability
Speaker 1: objective which people said was not clear enough in the
Speaker 1: last global financial crisis. So this structure is a response
Speaker 1: to the global financial crisis. Okay, And until now people
Speaker 1: have said, well that's that's fine. You know that sort
Speaker 1: of has has worked, and you know we haven't had
Speaker 1: another anymore, right, I mean historic moves in the guilt market. Yeah,
Speaker 1: but then this, this is a very unusual set of
Speaker 1: circumstances and now I'm personally reluctant to conclude that that
Speaker 1: means the structure is shot. We love changing structures in
Speaker 1: this country, you know, we just love it. We did it.
Speaker 1: Very few people actually change their regulatory structure after the
Speaker 1: global financial crisis, even though many countries had equal meltdowns,
Speaker 1: but they left the structure the same. We just love
Speaker 1: moving the deck chairs, reorganizing institutions. And so I'm very
Speaker 1: reluctant to say that because of this highly, highly unusual situation,
Speaker 1: you know that that should be used as a reason
Speaker 1: to change the structure of the Bank of England. That
Speaker 1: strikes me as being an order logic. But so how
Speaker 1: is this a power struggle then between the government and
Speaker 1: the Bank of England And are we going to see
Speaker 1: just two weeks of possible mayhem volatility in the markets
Speaker 1: until we know what the fiscal plans of the new government.
Speaker 1: I don't see it as a power struggle between the
Speaker 1: two because they each have their own responsibilities. The problem
Speaker 1: is that one of them, you know, there's a gap
Speaker 1: and there isn't a fiscal framework. But at the moment
Speaker 1: there we don't know exactly what it is because we've
Speaker 1: got a declaration of intent, but we have clearly a gap.
Speaker 1: Government doesn't deny that there is clearly a gap, and
Speaker 1: then other people are coming in with helpful ideas about
Speaker 1: how it might be filled, but nobody knows what they are.
Speaker 1: So in the meantime, the Bank of England is having
Speaker 1: to sort of block and tackle dealing with the symptoms
Speaker 1: of uncertainty. But I don't I don't see that's a
Speaker 1: power struggling. If you're on the on the MPC now,
Speaker 1: and you mentioned before that there were possibly a little
Speaker 1: late to raise rates, I mean, how high would you
Speaker 1: be recommending rates need to go to stabilize situation? Well,
Speaker 1: I wouldn't. I mean about the The MPC does not,
Speaker 1: which I was a member of briefly, But the MPC
Speaker 1: does not make that kind of forecast for the longer term.
Speaker 1: I mean, I think that on the short term, I
Speaker 1: would be recommending a pretty large jump, you know, at
Speaker 1: least a seventy five b jump, because I think the
Speaker 1: perception is that we're a bit behind the game and
Speaker 1: that inflation is becoming too embedded. The inflation forecasts other
Speaker 1: people are coming out with suggest that we are going
Speaker 1: to have embedded inflation for longer than other people. So
Speaker 1: I'd be wanting to bang up As for how far
Speaker 1: you get, I think you have to watch the reaction
Speaker 1: market reaction to that if you get the pension funds.
Speaker 1: So the idea of the Bank of England removes the
Speaker 1: axed up on Friday, does it think the bank that
Speaker 1: they're ready for it? Would they take a gamble and
Speaker 1: saying well, actually we don't know what happens, but we
Speaker 1: need to do it. Anyway you were talking about, you know,
Speaker 1: the backstop of the backstop which means that they could
Speaker 1: fund themselves. I don't know whether they go to shadow
Speaker 1: banking instead. As to whether they Bank of England thinks
Speaker 1: that they're ready, I mean, I think it was inherent
Speaker 1: in Andrew Bailey's statements last night in Washington that he
Speaker 1: doesn't think that they are yet ready, but he thinks
Speaker 1: they could be by the end of the week. Because
Speaker 1: what he said was you've got to get disorganized and
Speaker 1: you have to ensure that your liquidity problems are resolved
Speaker 1: in this window that we've given you to come along
Speaker 1: and get this liquidity problem solved. So I think, no,
Speaker 1: he doesn't think it's solved yet, but yes, he thinks
Speaker 1: it could be solved by the end of the week.
Speaker 1: You know, I would always say that if they need
Speaker 1: to do something else, they'll do something else, because they
Speaker 1: won't just say, oh, well we tried that policy, it
Speaker 1: did work. There's now the markets internal again that we're
Speaker 1: just going to sit back and say I told you so.
Speaker 1: That's not the way a central bank would operate. But
Speaker 1: this particular facility, which was targeted at a particular problem
Speaker 1: in the LDI market, I believe it's going to end
Speaker 1: on Friday. There are other things they've done, of course, however,
Speaker 1: which could carry over and still help the market. But
Speaker 1: we're not really seeing the full impact, are we of
Speaker 1: what's happened to these funds. You know, they're having to
Speaker 1: to raise to sell assets. That's going to ripple through
Speaker 1: markets in sort of unexpected ways, isn't it. And I
Speaker 1: think the scale of the shift in markets is has
Speaker 1: been unprecedented. I mean, what is the what is the
Speaker 1: fallout going to be? Yes? Well, first of all, I
Speaker 1: think it's important to note that this isn't a solvency
Speaker 1: crisis for pension funds. It's a liquidity crisis. Second thing
Speaker 1: to notice that the facility has not been massively used,
Speaker 1: which does suggest that this was you know, focused on
Speaker 1: on a smallish number of it's not as bad as
Speaker 1: it doesn't look to us to be as bad as
Speaker 1: it as it is being presented, but it has produced
Speaker 1: significant market moves. Um now my own view, but as
Speaker 1: I can't prove this is that to some extent those
Speaker 1: market moves are really reflecting a longer term uncertainty about
Speaker 1: the fiscal position and just the amount of funding that
Speaker 1: there's going to be from the government in that market.
Speaker 1: And it's not surprising that the guilt market should react
Speaker 1: to the fact that it looks as if the government's
Speaker 1: going to be pumping out guilts on a much larger
Speaker 1: scale than before. And so you know the price has adjusted.
Speaker 1: What you know, that happened rather suddenly, which is a
Speaker 1: bit of a puzzle. But then I'm afraid you know,
Speaker 1: that's the way markets to the market is in an
Speaker 1: in an appropriate way, you think, for where we're going
Speaker 1: to be as an economy in the coming year. It's
Speaker 1: done it rather suddenly. But I think it's quite hard
Speaker 1: to say that the gum five year guilts at four
Speaker 1: point seven or whatever is an unreasonable price given the
Speaker 1: scale of the funding that the government is going to
Speaker 1: be pushing through. That market. I mean, I can understand that.
Speaker 1: So how are you seeing any signs of distress amongst
Speaker 1: your your customers be individuals or bank or company? Very small?
Speaker 1: I mean sometimes people surprised, and indeed internally, you know,
Speaker 1: when I get the briefing saying no, no, no no, no,
Speaker 1: I say, you shure, you know, I don't want to
Speaker 1: go out there and say but no that the answer
Speaker 1: is that it is. It is early days, and but
Speaker 1: in the mortgage market, not much sound distress. But as
Speaker 1: we might come on to explain, that's because most people
Speaker 1: are on fixed rates. Hasn't happened changed from from the
Speaker 1: last time, which is a significant disclosi. I just switched
Speaker 1: my networt mortgage. I'm afraid my five was coming to
Speaker 1: an end to the Halifax, which was oftening, But I
Speaker 1: did it. I did it, so how it's going to
Speaker 1: what I did a month ago? But you know it
Speaker 1: is I feel like I've dodged a bullet, right, and
Speaker 1: a lot of people haven't. Well, that's what I mean.
Speaker 1: At the moment of our mortgages are fixed rate eight
Speaker 1: percent standard variable that our average the average residual maturity
Speaker 1: of these mortgages is two years and nine months. Therefore
Speaker 1: you can work that out. I can't instantly in my head,
Speaker 1: but I mean, you know, roughly a third of them
Speaker 1: are going to be coming up, So the incidence of
Speaker 1: this distress in mortgages is going to be very uneven.
Speaker 1: So one of the things I don't think anyone really
Speaker 1: thought a particularly is what happens in a fixed rate
Speaker 1: mortgage environment when there's a sudden change in rates. You're
Speaker 1: also saying out of was it two weeks ago that
Speaker 1: a lot of the banks had to pull some mortgages
Speaker 1: or some of the banks you didn't pull mortgages? Is
Speaker 1: that because you stress tested to a higher level. I
Speaker 1: don't completely know that. We do stress to a pretty
Speaker 1: high level. Actually, it's a sort of six or seven
Speaker 1: percent is what we do when we when we lend
Speaker 1: to people, we say, well, supposing the rights for six
Speaker 1: could you still afford this? Uh? And so our loan
Speaker 1: to valuation rate is usually about you know, most of
Speaker 1: an average, it's something like in the fifties, actually our
Speaker 1: leaned to valuation rate UM and very very very few
Speaker 1: mortgages would be issued more than seventy. And I don't
Speaker 1: want to imply that that's not gonna be a problem
Speaker 1: for people because some people will face a big increase
Speaker 1: in their mortgage costs. We would say that they could
Speaker 1: quite afford it, but they may have to adjust to
Speaker 1: other parts of their spending in a way that they
Speaker 1: don't want to do. I mean, I had I had
Speaker 1: a neighbor that you know, came over for a cup
Speaker 1: of coffee, former Air Force nurse, a force of nature,
Speaker 1: and she remarked, you know, she remembers when interest rates
Speaker 1: were like a twelve. Well, if you know, if the
Speaker 1: if the bank raises rates very sharply over a consenting
Speaker 1: period of time, clearly the stress that we would impose
Speaker 1: would be larger, and the consequences would be that the
Speaker 1: mortgage availability would reduce. I mean, for any individual, you know,
Speaker 1: you would be ending less than you would have done before.
Speaker 1: And that's abound to have an effect on the on
Speaker 1: the house price market. But is that a real possibility
Speaker 1: or at some point the market implied also that the
Speaker 1: interest rates would come down and this has huge application
Speaker 1: for more regin people spending well. I think the central
Speaker 1: forecasts that we would look at at the moment would
Speaker 1: be that you know, you will see a peak of
Speaker 1: rates and quite sure precisely how high it will be,
Speaker 1: but that eventually, you know, the energy prices will fall
Speaker 1: out of the calculation, because unless energy prices going on
Speaker 1: and on and on, the big spike will gradually fall
Speaker 1: out of the inflation rate. So I don't see at
Speaker 1: the moment anybody forecasting double digits interest rates. But I mean,
Speaker 1: it's it's logically true that if they did, then we
Speaker 1: would be stress testing at a higher level. That I
Speaker 1: don't see that at the moment. So what Okay, so
Speaker 1: rates go to five six pc or so, maybe peek
Speaker 1: at some point around there, But what is the impact then?
Speaker 1: You you mentioned the spending. Yes, maybe there's not so
Speaker 1: many defaults because people can cope with their mortgages, but
Speaker 1: they knock on effect the economy. I mean, what sort
Speaker 1: of recession are we about to side the world? I mean,
Speaker 1: you know, I've been taking the view that we must
Speaker 1: be careful to talk ourselves into a super gloomy posture
Speaker 1: because consumer spending has been holding up to be confidence
Speaker 1: has fallen, but there's still a lot of discretionary spending
Speaker 1: going on. And the big impact for us looking at
Speaker 1: the past on default rates and real distress has been
Speaker 1: unemployment and it's when unemployment rises that you get these
Speaker 1: particular problems because people do assume and you need we
Speaker 1: assume that you you've still got your income. And so
Speaker 1: I think the biggestsue is whether this recession does deliver
Speaker 1: a significant increase in unemployment. Not much sign of that
Speaker 1: at the moment. So people are are dropping off the
Speaker 1: labor for us, well, that's true. They will of course
Speaker 1: find it more difficult to get mortgages and if they
Speaker 1: need to in the future, because you know, once they've
Speaker 1: lost their their main source of income and the long
Speaker 1: term sick is extremely worrying for the overall economy point
Speaker 1: of view. So it depends. If you're asking me just
Speaker 1: about the overall economy, I would say yes, yes, yes,
Speaker 1: it looks a bit gloomy. If you're asking me about
Speaker 1: specifically about the bank, our customers, financial distress, financial stability
Speaker 1: at the moment, you know, businesses tend to be tending
Speaker 1: to repay. We don't have we don't have huge provisions
Speaker 1: for for bad debts. We don't seem to need that
Speaker 1: at the moment. There's still, of course, quite a lot
Speaker 1: of government guaranteed borrowing out there because of COVID so
Speaker 1: that's one reason why it is. But at the moment,
Speaker 1: the banks, I would say, and I don't think market
Speaker 1: leg markets still tight. As COVID meant that households also
Speaker 1: built in cash buffers, yes they did. I mean, you know,
Speaker 1: on average, or the average is slightly silly number, but
Speaker 1: on average, our customers had about five thousand pounds more
Speaker 1: at the end of the COVID period in deposits than
Speaker 1: they had before because their income for the most part
Speaker 1: remains remained the same and their expenditure felt now they're
Speaker 1: they're reducing that and if you go to any airport
Speaker 1: you'll see what they're doing sort of, you know, they
Speaker 1: travel expendure just going up and still still at a
Speaker 1: very high level. So people are running down those balances,
Speaker 1: but they still we still have more deposits than we
Speaker 1: would usually have at this stage of the cycle. Can
Speaker 1: I ask you about small businesses that West does a
Speaker 1: huge amount in terms of entrepreneurs in this country, and
Speaker 1: you know, the Prime Minister and the chance to talk
Speaker 1: about growth, growth, growth, The whole mantra of this government
Speaker 1: is around encouraging growth. What are small businesses doing in
Speaker 1: this environment? Are is this? Is this a country now
Speaker 1: that people want to start businesses where entrepreneurs want to
Speaker 1: build for the future, or is this environment or this
Speaker 1: uncertainty in high interest rates, is that really putting them off.
Speaker 1: I think it's bound to have an impact, but it's
Speaker 1: not catastrophic at this point. You know, we have some
Speaker 1: targets for the number of new businesses which we want
Speaker 1: to lend to. We did have to suspend that in
Speaker 1: COVID because the new new business formation fell during the
Speaker 1: COVID period, but it's picked back up again, so it's
Speaker 1: not bad. But if you ask me, do high interest
Speaker 1: rates and a recession have an impact, well, of course
Speaker 1: they do. What do you think about this characterization of
Speaker 1: anyone who disagrees with the Chancellor as being the anti
Speaker 1: growth coalition? Yeah? Well I've been trying to join, but
Speaker 1: I can't find the website at the moment, but I'm
Speaker 1: sure there will be one barely soon. You'll get an
Speaker 1: invitation after this podcast. I mean, this is you know,
Speaker 1: the politics, and you know, I'm not sure how much
Speaker 1: wisdom I can add to that, because you know, I
Speaker 1: think it mixes up quite a lot of different tendencies.
Speaker 1: I mean, there are clearly obstacles to growth in the
Speaker 1: planning system and all of that. And you know we
Speaker 1: we would benefit as a bank if some of those
Speaker 1: were eased because there'd been more lending opportunities for us
Speaker 1: and all of that. But you know, the rhetoric is
Speaker 1: politics and that sort of broader sort of financial rules.
Speaker 1: And you say as about I mean, there's a there's
Speaker 1: a big effort to try to deregulate and maybe you know,
Speaker 1: sitting where we are in the City of London trying
Speaker 1: to give the city a boost, do you think this
Speaker 1: government's instincts are right on that? And are you in
Speaker 1: conversations at all with the city minister, with the Chancellor
Speaker 1: about how we can make the city you know yet
Speaker 1: again the financial couple of Europe or increase that position. Yes,
Speaker 1: the answer is yes on that specific question. Are the
Speaker 1: discussions going on the government plans are a package sort
Speaker 1: of big bang two point zero as they tend to
Speaker 1: call it. And you know, people are being asked, not
Speaker 1: just us, but a lot of other people about asked
Speaker 1: for their ideas. And undoubtedly there are some ideas around,
Speaker 1: I mean, the most obvious being a reform of solvency too,
Speaker 1: though the Bank of England, you know, will have to
Speaker 1: be brought along with that. That's the rights, that's the
Speaker 1: right approach. Well, I think solvncy too, Yes, because I
Speaker 1: do think that Solvency two has had some unintended consequences
Speaker 1: in making it harder for the long term investments for
Speaker 1: a long term life insurance companies and pension funds to
Speaker 1: invest in long term infrastructure projects. I would say, incidentally
Speaker 1: that it's under reform in the EU as well, because
Speaker 1: this argument is is accepted. The question is just how
Speaker 1: far you go the matching adjustment? How far you know
Speaker 1: you are prepared to allow people to engage to invest
Speaker 1: in very long term projects which perhaps don't produce a
Speaker 1: return for a short foin for quite a few years,
Speaker 1: but eventually might So there's some technically issues there, but yes,
Speaker 1: I think I think that's worth doing myself. Then there
Speaker 1: are other things like well, we we would argue that
Speaker 1: ring fencing is a redundant imposition on on banks and
Speaker 1: it's quite costly for people like us, And the government
Speaker 1: has produced a report which they still haven't implemented on
Speaker 1: making some improvements to that regime. And that's another area
Speaker 1: which I think something could be could be done in.
Speaker 1: But what about banker bonuses does it attract I mean
Speaker 1: unclear whether they'll go ahead with this the regulation, but
Speaker 1: does it really attract talents? I remember you saying years
Speaker 1: ago that there was a top percentage of you know,
Speaker 1: top bank earners in London, but because of Briggs and
Speaker 1: the clearinghouses, that was that danger of going to Europe. Yes,
Speaker 1: I mean it's um, I think from about the bankers
Speaker 1: bonus thing, isn't It's not something that I was aware
Speaker 1: anyone was particularly lobbying for it. Certainly it's never come
Speaker 1: up in the beatings of the chairs of British banks UM,
Speaker 1: and particularly that you know, the timing is is interesting
Speaker 1: because of the squeeze on reeling comes elsewhere. I suppose
Speaker 1: the logic for that change is that if you are,
Speaker 1: particularly say an American bank, UM, wanting to move somebody high,
Speaker 1: very high earner from the US into Europe, then in
Speaker 1: if the banker's bonus control goes off in London, it
Speaker 1: would be a more attractive place to move them. I
Speaker 1: don't think it would make a great deal of difference
Speaker 1: to us or indeed most of the British banks. Actually
Speaker 1: now you know whether that's whether that's worth it, whether
Speaker 1: it will have a big enough impact to be worth
Speaker 1: the cost, and the sort of reputational issues is a
Speaker 1: moot point. Sir Howard, thanks so much for joining us.
Speaker 1: Thank you brilliant, thanks for listening to this week's in
Speaker 1: the City. We will be back next week, but in
Speaker 1: the meantime, if you like our show, please head on
Speaker 1: over to Apple Podcasts or wherever you listen to podcasts
Speaker 1: and rate, review and subscribe, and also don't forget to
Speaker 1: sign up for our newsletter, The read Out with Allegra
Speaker 1: Stratton on blombo dot com slash Newsletters, or check out
Speaker 1: the show notes for a link. This episode was hosted
Speaker 1: by Me Francine Laqua and Me David Merritt. It was
Speaker 1: produced by Summer Saidi and special thanks to Sir Howard Davis,
Speaker 1: A