Yesterday, Ed Miliband said the chief executive of Royal Bank of Scotland, Stephen Hester should not receive a bonus this year.

If Labour wanted control of executive pay of state owned banks, then they should have made renegotiation of contracts a condition of the bailout when they were in power.

Labour should have also demanded that all front office investment banking staff in those banks had to re-apply for their jobs, without any guaranteed bonuses.

Labour left the coalition toothless to deal with the issue. Once the banks returned to operational profitability, they lost the legal financial justification for placing investment banking front office staff under consultation to review pay and conditions.

Today, Vince Cable has proposed a series of measures to give shareholders a binding vote on executive pay, and crucially, given Sir Fred Goodwin’s deal at RBS, exit packages.

Vince Cable found himself unable to address high pay at RBS, Lloyds and HBOS, thanks to Labour’s failure to address the issue when it bailed out the banks.

Vince has done what Alistair Darling should have done, and proposed the legislation he needs to get the powers the government needs.

As the largest shareholder in RBS and other banks, the government will now be able to control the executive pay at those institutions, and fix the problems Labour created.

During the 2010 General Election, a campaign got under way in support of a ‘Robin Hood Tax’.  The suggestion seemed to have fizzled away but has been gaining some steam recently.  In particular, the Archbishop of Canterbury has come out in support of the proposal, in the midst of #Occupy movement’s presence at St Paul’s Cathedral.

The proposal on the face of it, has merit, focussing a tax on high risk speculative casino banking that created the Credit Crisis, the worldwide recession and the continuing troubles in the global economy.

However a deeper analysis shows that the Robin Hood Tax (RHT) is actually counter productive when it comes to reforming the banking sector, preventing a similar crisis in future and getting our economy moving again.

Firstly, a disclaimer.  I spent 10 years working in the IT departments of Investment Banks in the City of London, before leaving 7 years ago.  However there is no love lost between myself and the City.  Whilst I have friends from my time working there, particularly those in IT, I have little sympathy for the poor risk management that led to my former colleagues prompting the credit crisis.

What is the Robin Hood Tax?

The Robin Hood Tax is a type of ‘Tobin Tax’ whereby a tax of 0.05% of the transaction value would be levied on all banking transactions, where the financial institution is speculating with its own funds, as opposed to investing customer’s money.

The arguments in favour are that this could raise £250bn globally, and £20bn in the UK alone.  As the tax is only on trades that banks make with their own money, the tax cannot be passed on to their own customers.  Supporters want the tax to donated to charity and to help banks repay the damage they have done to the global economy.

Criticism has focussed on whether it would drive the Financial Services sector away from the UK, a crucial part of our economy and the need for it to be implemented globally to be effective.

Objectives for Banking Reform

There are some clear objectives that need to be reached by global banking reform, and any proposal needs to be assessed against them. The objectives must be to:

• Ensure that a similar crisis cannot happen again by reducing high-risk investment
• Get Banks lending to sound UK businesses to stimulate growth
• Recoup the money invested in bailing out the banks
• Protect our savings from the excesses of high risk banking
• Address the ‘bonus’ culture within the banking sector

Unfortunately, on examination, the Robin Hood Tax is actually counter productive on the first three of these and unhelpful for the other two.

High Risk Banking

Now, 0.05% does not sound like very much, does it?  Until you realise that the profit margins on low risk transactions are between 0.1 – 0.2%, which means that the Robin Hood Tax would be a 25-50% tax on profits.

Sound implausible?  If you look at the RHT website, it claims that the £20bn raised in the UK will be based on taxable income of £90bn, i.e., a 22% tax on profits.  This would be on top of 20% Corporation Tax.

Crucially, the tax is levied whether the bank makes a profit or not.  Given that the amount of tax raised is based on the amounts traded, rather than the profits, this means that in a bad year for banks, they would pay £20bn in tax, even if they were to make a loss

I am not arguing that we should feel sorry for the banks or that a higher level of tax on profits would be unfair or unjustified (although I do object to major taxes on companies that are not in profit).

The important thing to realise is that this will prompt banks to make more high risk investments, not less.

To understand why, we have to understand the recent history of investment banking.  As banking went global, electronic and hugely profitable through the 80′s and 90′s, the large amounts of money being made led to a lot of healthy competition, that in turn led to profit margins on trades being squeezed right down to 0.1% of transaction value.  Banks were still able to make large profits, because the amounts being traded were so huge.  A single £20m trade could still give a profit of £20,000.  The RHT would then take £10,000 of this.

To maintain profit margins, banks invented new investment products, for which they were able to charge a hefty premium.  When first introduced, products like Swaps, Convertible Bonds and Credit Derivatives were able to command profit margins of up to 2%.  However the cycle always repeated and increased competition squeezed profit margins.

This cycle has led to banks inventing more and more exotic products, that were increasingly risky.

And here is the nub of the issue.  Adding a 50% tax on profits on low risk, well understood, well managed banking transactions will simply drive banks to trade higher risk, higher profit margin products, just as increased competition has led them to do over the last 30 years.

Products like Futures, Options, Swaps, Swaptions and Convertible Bonds, were once high risk, poorly understood, high profit transactions.  They are now the staple of Investment Banking and most banks can trade them perfectly safely.

Credit Derivatives and complex securitisation structures are the high risk, high profit exotics that have brought the world economy to a stand still.  And we should not be encouraging banks to trade them until they are better understood and managed.

So the Robin Hood Tax would prompt banks to trade higher risk investments, not lower.

Liquidity and Volatility

Unfortunately here I need to add in some banking jargon.  Liquidity measures how easy it is to buy or sell in the market.  The more buyers and sellers there are, the easier it is to buy or sell something.

Volatility measures whether prices go up and down smoothly and gently, or jump up and down dramatically.

When a product is liquid, and you need to sell to avoid making a loss, then it is easy to do so and the price does not change dramatically.  If a product is not liquid, and there is a major problems, the market will slump quickly, and you cannot sell easily, leading to major losses.

For example, the current UK housing market has very few buyers and sellers.  The result is that no-one really knows how much houses are worth.  You can put your house on the market for what you think is the right price and end up having to sell for a lot less, potentially losing money.  Try to buy in a good school catchment area, and you can find you have to pay through the nose.  The market currently has low liquidity and high volatility.

Simplistically, liquidity is good, volatility is bad. In fact decreasing liquidity increases the riskiness of a product.

The Robin Hood Tax by definition is intended to stop banks trading as much of their own money.  As a result this will make products that are currently reasonably risk free, less liquid, more volatile and in fact more risky.

There is a knock on effect, in that other, non-banking investors will shy away from investments that they cannot sell out of easily, decreasing liquidity further.

Again, the RHT will prompt increased risk, not decreased.

Get Banks Lending and Investing in Business

As well as retail banks directly lending money to small and medium sized businesses, the investment banks also provide crucial credit and capital to larger businesses through buying shares and buying corporate bonds.

These are not always high profit investments by banks and form the more mundane part of an investment bank’s business operations.

Again, an additional 0.05% tax on the buying and selling of shares and corporate bonds will likely mean less investment into British companies.

And again, there is a knock on effect with other financial institutions.  If banks are not buying when companies either go public and sell shares, or when they try to raise money through corporate bonds, then they price per share will drop or the rate of interest for borrowing will increase, due to the lower demand.

An added knock on effect is that venture capital funds are less likely to support start up businesses, unless they are confident that there is a vibrant market for them to go public.

The Robin Hood Tax, by discouraging banks investing with their own money, particularly in low profit investments, will lead to a decrease in investment and lending to businesses.

Getting Our Money Back

The UK Government borrowed eye watering amounts to bail out and buy a number of UK banks to stop them collapsing.  Given the scale of borrowing, the only way to recoup this money is to sell the banks back into private hands.

Unfortunately, the markets are fully aware of this and know that at some point in the future, the Government will be selling large quantities of bank shares.  The markets know exactly what price the UK government paid for the banks, and the shares in banks have continued to trade under that price since 2008.

The share price of any company is directly linked to its profitability.  Taxing an additional 25-50% of profits will lead to a dramatic fall in the share price of the state owned banks.

Which means that the Government will struggle to sell off the banks and get back the money they have invested.

Frustrating as it sounds, we need our retail banks to be healthy and profitable to help get the country’s finances back on track.

So the Robin Hood Tax would make it harder for the UK government to get back the money it has invested in the banks, and at £20bn per year, it will take years to recover that money through the tax, and that is only if none of it is given to charity.

Protecting our Savings

The Robin Hood Tax does not in any way address the need to protect our savings from speculative trading by banks with their own money.  In this case it does nothing to harm it, beyond encouraging riskier trading.

Investment banks have merged with retail banks to take advantage of the large holdings of the retail arm to borrow more heavily and more cheaply for speculative trading.  The key is to split up the investment and retails arms to stop the investment arms ‘leveraging’ our savings for high risk trading.

Bonus Culture

Again, the Robin Hood Tax does nothing to address the bonus culture within banks. At this point, I should state that I have no objection to bonuses linked to profits, preferably long term profits.  However there is a case, I believe, to end guaranteed bonuses, whereby a trader gets paid a substantial amount, irrespective of their trading performance.

In the next two articles, I will address a couple of key questions.  If the Robin Hood Tax does not address our objectives for banking reform, what will?  I will also look at the causes of the banking crisis, other than the banks, which are increasingly ignored by the ever more emotional coverage of the banks.

The Economist has a blog post about the timing of Ed Milliband’s speech to the March 26 rally.  Whilst there is an interesting analysis of why Mr Milliband spoke so early, far more interesting is 3 paragraphs that neatly sum up the range of opinion about how and when to get the public finances back under control:

I think Mr Miliband’s problem boils down to this. Most people in this country, including a lot of people I met on the march today, think that Britain faces a period of painful decisions and choices, because the country has been spending too much. Within that majority, there are people who are (for variously selfless and selfish reasons) attracted to a Keynesian argument that deep, front-loaded cuts are counter-productive, and so some painful decisions should be postponed. That is an intellectually respectable argument: this newspaper does not agree with it, but there are people of goodwill on both sides of the debate.

Then there is a hard core of people who simply do not accept that the money has run out. These flat-earthers think that there need not be any cuts, because if you only taxed the banks/bankers/multinationals/tax avoiders/the rich a lot more, you would unearth a hidden money pot filled with so many billions that we could keep spending as before. I don’t think Mr Miliband agrees with them. I don’t think most voters in Britain agree with them. I don’t think even most of the marchers in Hyde Park agree with that hard core.

But that hard core has a firm grip on Labour’s base, as could be seen on Friday in Nottingham. And Mr Miliband, by endorsing the wider anti-cuts movement, risks becoming associated with that hard core and their breathtaking lack of realism. He said again in Hyde Park that he was proud to be addressing the “mainstream majority”. But he did not look proud: his nerves gave him away. “It is so important that this be a peaceful protest,” he said at one point, almost pleadingly. The crowd seemed pretty indifferent to his presence, in return.

Read the blog post “Ed Milliband shunted off television news by anarchists” at The Economist website by clicking here.

Liberal Democrat Candidate Sanjay Samani for Angus North and Mearns has revealed that 102,500 in Aberdeenshire and 53,200 people in Angus will pay reduced income tax from April this year, thanks to the Liberal Democrat-led increase in the personal tax allowance.

In addition, over 2,500 people in Aberdeenshire and 1,560 people in the Angus will not pay ANY income tax.

Liberal Democrats in the UK Government will be increasing the personal tax allowance to £10,000, meaning no-one will pay any tax on the first £10,000 they earn.  The allowance will rise by £1,000 this April, with a further £600 rise next April, as just announced in the UK budget.

Commenting, Sanjay Samani, said:

“Thanks to the Liberal Democrats, over 4,000 people across Angus, Mearns and Aberdeenshire will not pay any income tax and more than 155,000 people will pay much less than they did before.”

“Liberal Democrats promised at last year’s General Election to increase the personal allowance.  I am proud that my colleagues in Westminster are delivering on that promise.”

“Labour put an incredible income tax burden on the poorest in society.  It is not fair that people on the lowest incomes paid so much of their income in tax. “

Montrose councillor  David May added,

“Liberal Democrats have put money into the pockets of Montrose families.”

“In just 11 months, 54,760 people in Angus have benefited from Liberal Democrats in Government.  This figure will now increase as the tax system gets fairer under Liberal Democrats.”

Stonehaven councillor Peter Bellarby added,

“Liberal Democrats are delivering on their promise to help residents in Stonehaven, Laurencekirk and Mearns.”

“Over 105,000 people in Aberdeenshire will gain from April thanks to Liberal Democrats in Government.  The number who will benefit will rise again next year with the further increase in the allowance and more, year on year through the lifetime of the Coalition Government.”

The Scottish Government’s decision not to release the remaining Town Centre Regeneration Funds for Brechin is a disappointing decision

The SNP Government has really let down people in Brechin again.  By denying them access to over £900,000 of funding, it will be a bitter blow for attempts to give Brechin’s town centre a much needed boost.

Given that the money was already budgeted, the SNP must explain where the money has gone and where they have spent it instead of Brechin.

The whole Town Centre Regeneration Fund has been handicapped by the SNP from the start.  A sensible proposal for investment in town centres across Scotland by Conservative MSPs, has been hobbled by a poor implementation by the Scottish Government.

With short deadlines, poor communications and no committment to make the funds available when needed, the government has made the process as difficult as possible and clearly begrudged creating the fund in the first place.  It is yet another case of the SNP’s ‘Not Invented Here, We Know Best’ attitude.

The Town Centre Regeneration Fund is precisely the sort of investment that towns like Brechin desperately need during difficult economic times.

It is little surprise then, that people in Brechin will see this as just another broken SNP promise.

The Irish Bailout highlights the urgent need for the UK to get to grips with the national debt.  Any financial package agreed with Ireland will come with stringent demands on cuts to the Irish budget to ensure that the country can meet its debt obligations.  We cannot afford for a similar situation to arise in the UK.

That is why the Coalition Government’s plans for dealing with the budget deficit and the public finances are so critical.  By criticising every single reduction in spending proposed by the Government, Labour and the SNP are burying their heads in the sand.  It is vital that the UK Government remain in charge of the deficit reduction programme, rather than have it imposed by national creditors as part of a financial rescue package.  It cannot be appropriate for Germany, France, the US and China to impose decisions on cuts on us.

If Labour want to regain some credibility on economic issues, they need to be open about what cuts they would make.  They need to be honest that the scale and scope of their plans would need to be broadly in line with Coalition proposals. That way all parties can have an honest, open discussion about how to ensure that reduced spending is as fair as possible, and ensures growth in the economy.  If Labour actually suggest constructive alternatives to any decisions they oppose, their opposition could be taken far more seriously.

When Greece faced its budget crisis before the election, there were fears that the problems would spread.  The countries expected to have issues were in order of concern, Spain, Ireland, Portugal and the UK.  That was a reflection of the relative scale of each country’s debt compared to their GDP and their ability to manage their debt.  Prior to the Comprehensive Spending Review, there were very real concerns that the UK could have gone the same way as Ireland has done.  That is precisely the prospect we would face if Labour’s suggestions in opposition were taken seriously.

There is also a lesson for Scotland’s economy in the Irish crisis.  If Scotland were independent and RBS and HBOS were headquartered here, then the crisis facing Scotland would make the Irish situation look like a missed mortgage payment.  Scotland cannot be independent and also support a financial services sector the size it currently has.  Without those businesses in Scotland, the loss of jobs and corporate taxation receipts would be equally devastating to the Scottish economy.

Labour started racking up the UK’s national debt a long time before the credit crisis, spending more than they received in tax receipts in every year since 2001.  We now have a legacy of debt that genuinely threatens independence and democracy in our economic decisions making. It is time that Labour take responsibility for their mistakes and engage genuinely and constructively to try and get our debt under control.