Now we see it, now we don’t

This statement was made by the governor of the Swedish Riksbank, Stefan Ingves, in April 2020 (Swedish Television 2020). It was but one in a series of statements made in response to the Covid-19 pandemic. Prior to this the Riksbank had announced a smorgasbord of measures to mitigate the financial impact of the pandemic, among them an injection of SEK 500 billion of interest-free loans into the banks. At the press conference, Ingves described the SEK 500 billion as follows: “This is basically free money and we expect the Swedish banks to pass it on to Swedish companies” (Reuters 2020).

From the MMT perspective outlined in this book, Ingves’ statements are interesting in at least two respects. First, Ingves is incorrect in claiming that banks lend on central bank reserves; they do not. In the Riksbank's (2020) press release this mistaken conception was reiterated several times: “The Riksbank is offering the banks up to SEK 500 billion against collateral for onward lending to non-financial companies operating in Sweden.” The statements derive from the inaccurate “money multiplier” theory. Similar to the “household analogy” and the “budget constraint”, the money multiplier makes up yet another error within orthodox economics that still holds sway among central bank and finance ministry officials, as well as in macroeconomic textbooks and the news media.1 Second, and more important for our purposes here, Ingves is right on the money when he speaks of “free money” and, especially, when clarifying that the Riksbank can provide as many Swedish kronor as it wants. In Chapter 3 I quoted Alan Greenspan saying something very similar about the federal government's money creation ability.

For a few short months in 2015 Germany and Sweden approached their large refugee reception as if this was the right thing to do. In doing so, the two countries broke one of the European Union's core taboos, namely that of saying “Yes” – or, at least, not emphatically “No” – to the admission of refugees. But, in initially agreeing to receive a significant number of refugees, this also meant that Germany and Sweden had to violate another of the Union's principal taboos (at least prior to Covid-19), namely that of agreeing to fiscal expansion. Germany and Sweden's massive spending (starting in 2015) created an MMT, or Keynesian, laboratory environment. The two EU governments that were arguably the most wedded to the doctrine of sound finance thus felt compelled to practise, de facto, functional finance: they spent to resolve a real problem instead of creating a problem by trying to guarantee fiscal balance – or, as in the Swedish case, surplus – at the end of the year. Both governments were soon to agonize over this issue vociferously, bracing their citizens for potentially perilous deficits, spending cuts and borrowing. Although both governments would subsequently revert to sound finance, this did not change their functional approach during the period in question.

In discussing these issues further this chapter will mainly focus on the Swedish case, just briefly commenting on Germany. The first part takes a close look at the fiscal impact of Sweden's increased spending on refugee reception and integration in the period from 2015 to 2017. What really happened? Did the spending lead to the allegedly dangerous deficits and borrowing that the government and the economic expertise had predicted? How did the government and economists reason when they made their predictions and forecasts; and why did they routinely present these as foregone conclusions and not as the predictions and forecasts they were?

The second part of the chapter then goes on to examine further the real resource impact of Sweden's refugee migration, an exploration that I began in Chapter 3.

The focus of this chapter and the following one is on the European Union's external labour migration policy. Whereas Chapter 5 takes a detailed look at this policy's directives and their strong correlation with sound finance logic, the present chapter delineates the general historical context of labour migration in the EU, surveying the developments from the early postwar decades to today. Below, I will devote most of my attention to the contemporary consequences of the major shift that took place around the turn of the millennium, when Brussels decided to scrap its three-decade-long “zero” external labour migration policy in favour of a policy able to attract tens of millions of labour migrants over the subsequent decades. Whereas to some this signalled a new openness and a less preventive approach to migration, I will show why it was actually premised on the opposite. More migration was thus perceived as requiring a larger security apparatus in order to ensure that those who come are of the right type and that the length of their stays, access to welfare benefits and other rights can be closely adjusted, monitored and controlled. As I will also elaborate on in the chapters ahead, many of the security measures have been aimed at preventing the entry of asylum seekers, as well as any other type of migrants seen as inflicting fiscal burdens on the welfare systems in the member states.

Before accounting for the broad historical and contemporary developments, a conceptual discussion of labour migration is necessary. This is to underline the importance of knowing what labour migration, as a policy term, really denotes in a European Union dominated by sound finance. How, for instance, should we understand the stratified character of current labour migration policy; and why does current labour migration policy have such an awkward relationship with social rights?

It is important to keep in mind that the European Union's supranational competence over external labour migration (ELM) is weak, to say the least. This is in stark contrast to “free movement”, or EU-internal labour migration, which forms part of the EU's core competence – one of the “four freedoms”.

The novel coronavirus pandemic taught the world three things: money invested in public healthcare pays huge dividends in terms of social and economic resilience; government deficit spending to support economic performance is better than seeing the destruction of human and physical capital; and some of the least attractive and least well-remunerated jobs are nevertheless “essential” for the functioning of society. Europe's political leaders were quick to recognize these “truths” as manifest. The first major European lending programme targeted national health systems; the second targeted national employment protection schemes; and all the while European leaders celebrated their societies’ “frontline workers”. Now everyone in Europe is looking ahead to the double challenge of planning for recovery and resilience because meeting that challenge is critical for Europe's next generation. Where European integration looked to be stumbling in the aftermath of the last crisis, particularly following the British referendum, now the European project has a powerful narrative behind it.

The question Peo Hansen asks is whether that new narrative is powerful enough to overturn deeply rooted misconceptions shared among Europeans about the financial cost of refugees and asylum seekers. These are people who come to Europe by necessity rather than out of choice. When they arrive, they are usually prevented from seeking employment until their applications for asylum can be processed. By implication, they receive “benefits” in the form of food, lodging, healthcare and education long before they are able to pay taxes. Once those applications are processed, those who are accepted enter the workforce wherever they can find a job – which often means doing unskilled or semi-skilled labour in the public or private sector. Because those jobs tend not to pay high wages, these refugees tend not to pay high taxes even as they continue to access social benefits. Hence, the conventional wisdom in Europe is that refugees impose a cost that the rest of society must bear.

For Hansen, however, that financial reckoning is wrong because it focuses too much on the refugee as “benefit recipient” and on the rest of society as a sort of aggregate “taxpayer”.

“Fluchtlingshilfe: Unser Land uberrascht sich selbst” – “Help for refugees: our country surprises itself.” So ran the headline on Die Zeit's web edition in the evening of 18 September 2015 (Liebsch 2015). Underneath the headline, a photo showed volunteers distributing water and other necessities to newly arrived refugees at Munich's train station. The volunteers’ expressions suggest that they know they are doing something meaningful.

I have lost count of the number of times that I have opened a presentation or a lecture with this front page. Usually, I have to help the audience to get what I am after. Once they do, people sigh in disbelief, laugh in a subdued manner or shake their heads. We are surprised when we do good deeds. How did it come to this: that we find it surprising when people do the right thing and help foreigners in need?

Die Zeit's headline captures succinctly the hardwiring of sound finance in societal cognition: that foreign refugees in need should be received warmly and enthusiastically is a surprise precisely because it contravenes everything we have been taught about sound national bookkeeping. According to the fiscal impact literature, with more people to house, feed, school, train and provide social assistance to, there will be less tax money to spend on everyone else. Whereas the admission of a small number of refugees may be regarded as a legitimate human rights tax by some, the mass enthusiasm for the arrival of hundreds of thousands (in Germany and Sweden) should strike us as unusual. Society has been taught that refugee admission is an expense, which, consequently, translates into a socio-economic sacrifice by the host population. If conceived of as a sacrifice, we also know that popular sacrifices on such a scale are rare, even non-existent, today. People generally do not smilingly volunteer in large numbers to become materially worse off. In this sense, the 2015 refugee response was Janus-faced; for some it was a nice surprise, while for others it was the opposite: the manifestation of mere delusion and foolhardiness.

In the previous chapter I discussed Rainer Baubock and Peter Scholten's (2016: 6) “realist approach”, whereby they “consider the politicized trade-offs as facts that are just as hard as if they were grounded in general social laws”. Listening to EU governments, researchers and the news media, this might indeed seem like a realist approach, at least at first glance. But, as the reader may have noted, in the preceding chapter I have already begun to display, and thus cultivate, an alternative type of realism. It comes to the fore in the scattered quotes in Chapter 2, such as when the Swedish government (2018b) concedes in a report on the future of elderly care that, “[w] ithout the foreignborn women and men, elderly care would face significant problems in fulfilling its task”. Tucked away in this report we also find this phenomenal piece of information from the Swedish government, one it made sure not to reveal during the election campaign in 2018: “The number of persons in the population belonging to the most labour active age is expected to increase from 5.7 million in 2015 to 6.3 million in 2035. It is those who are foreign-born who are expected to make up the entire increase of working-age persons” (Swedish government 2018b: 13– 14). This is refugee migration's real impact on Sweden; it has blessed it with a unique boost in the working-age population, one that puts Sweden in a uniquely fortunate position when dealing with the increase of the elderly population.

In the previous chapter, I also pointed to the severe staff shortages within Swedish and European healthcare and care sectors and how migrants and refugees increasingly are becoming the mainstay of these and other public services. Various versions of the message “Without the immigrants, healthcare collapses” are thus becoming commonplace across the European Union. As seen, many depopulating areas in Sweden and across the EU realize that welfare services are unsustainable if labour is unavailable, and this goes for welfare functions and services in urban areas too, of course.

It is evident that institutional and behavioural change is required if the problems outlined in previous chapters are to be addressed. This chapter will first suggest what may be considered the optimum conditions in an economy which need to be met in order to achieve effective financial institutional structures and strong business performance, especially for the key business sector of SMEs. The differing approaches of Germany, the United States, and the UK will then be compared in relation to these criteria. The aim will be to identify the institutional structures and modes of cultural behaviour in the three countries. The intention is not to suggest that there is some perfect set of institutional structures and operational behaviours which the UK should adopt. However, the contrasting situations will provide some clues as to what might, with advantage, be changed in the UK. The potential for changes will then be addressed: covering changes in banking institutional structures and operational practices; potential alterations in the policy approaches of the UK government in dealing with the British business banking sector, and improvements in SMEs’ performance, aimed at more productive interaction with banks. First, a summary list of optimum performance requirements, for banks, for SMEs, and for the state, are set out.

Optimal performance requirements

Banks

Bank lending to business involves risks. This is simply a reflection of the fact that business itself involves risk. Entrepreneurs are the supreme risk-takers. But most businesses need to consolidate their positions and try to reduce risks by achieving a level of competitivity to provide a stable platform to continue in business for many years. Their needs for finance and investment throughout their lifecycle, especially SMEs, will vary. Much of the finance of successful businesses may be sourced through retained earnings, but not all. Investment finance and working capital will be required from external sources, especially banks.

Historically, the role of banks has been to raise funds from savers via deposits, creating liquid funds, and recirculating these deposits to businesses needing to borrow to invest in productive capital. The businesses will also require working capital and this short-term funding they will also request from banks.

National political and economic policies and preferences determine the environment in which banking systems operate. They also influence the activities of business, including SMEs, which in turn influence the nature and rate of economic growth. This chapter will analyse the differing political economic frameworks in the UK, Germany, and the United States. It should be said that the two “models” of political economy discussed in this chapter – the liberal market economy and the coordinated market economy – are stylised representations of real economies. Moreover, they have developed incrementally over the past 150 years or so and there has been no specific government decision to adopt one or the other of the models, they have just grown.

The UK liberal market economy

The origins of the UK's adoption of a liberal market economy as its preferred political economic approach date back to the changing geopolitical and geoeconomic conditions of the eighteenth and nineteenth centuries and the political philosophy embraced by the intellectual and political elites at that time. During the first part of the nineteenth century the “mercantilist”, protectionist approach to trade had continued from the eighteenth century (and indeed earlier). The spread of the British Empire had accelerated with the dominance of the Royal Navy's control of sea routes after the Napoleonic Wars ended in 1815. The East India Company had by 1800 already captured and occupied almost the whole of India. The aim of occupying territories such as India and particularly the Caribbean was to maintain control of the supply of staple commodities and Navigation Acts were passed to ensure that as much trade as possible was carried in British ships.

However, the middle of the nineteenth century was to see a significant change in British economic and trade policy. Informed by the intellectual contributions of Adam Smith and David Ricardo, in the second half of the eighteenth and the first part of the nineteenth century, economic doctrines of competitive markets and comparative advantage in trade were gradually absorbed and endorsed by the political elites. The key shift was the endorsement of Ricardo's comparative advantage/free trade approach with the repeal of the Corn Laws (which had imposed a high tariff on cereal grains) in 1846.

According to UK Cabinet Office figures, in 2018, there were in the region of 5.4 million small and medium-sized enterprises (SMEs) in the UK. They represent approximately 60 per cent of employment and roughly 50 per cent of total private business turnover. Their banking business is worth some ￡2 billion in revenue and SME business loan balances are around ￡90 billion. By any standards, this is a sizeable market.

To date, as we have demonstrated, whatever failings there may be on the side of SMEs, the major banks have not been able or willing to develop their provision of higher value services to the sector with any real success. This as we have seen is a long-standing problem, which has its roots in historical and cultural reasons as well as financial and political economic structures. In this chapter, we will examine the current embedding of banking practices and the relationship of those practices to the oligopolistic structure of British banking, with five very large centralized banks dominating the banking sector. This analysis is a prerequisite to change, successfully, the operating nexus between SMEs and banks.

The chapter will utilize the work done by the 2011 UK Independent Banking Commission (the Vickers Commission) referred to in Chapter 2, including the evidence submitted by the author himself to the Commission on behalf of the Global Policy Institute, as well as a variety of more recent work, both academic and official. The chapter will also integrate information sourced from semi-structured interviews with key organizations and potential players in the business banking market.

The overall intention will be to: (1) anticipate how far the British business banking sector appears willing to provide the long-term investment finance required to raise the productivity and positive economic impact of the UK SME sector; (2) illustrate how the current UK banking structures and systemic flaws are likely to inhibit any proposed reforms; and (3) explore the alternative finance routes and banking competition which is emerging and how banks are likely to respond to this competition.

How UK SMEs are currently viewed by major banks

SMEs expect from their banks the efficient provision of basic banking services. These they will tend to define as business current accounts, payments and related processes, and overdrafts.

Within the European Union the dominance of bank lending in the financing of small and medium sized enterprises (SMEs) is well-observed. Indeed, so much so that one main aim of the 2014 launch of the Capital Markets Union (CMU) programme was to change what was viewed as an over-reliance by European Union companies on bank lending for investment (Pesendorfer 2015). In the EU, 86 per cent of new funding in 2017 came from banks, principally investment loans, and only 14 per cent from capital markets. The intention of the CMU was to encourage SME access across a more integrated capital market across the EU.

But this preponderance of bank investment loans to SMEs across the EU conceals the startling fact that in one country, the United Kingdom, exactly the opposite is the case. In the UK, most SME funding is not via standard bank investment loans, but instead short-term bank overdrafts and credit cards (83 per cent; Ernst & Young 2018). This puzzling outlier position of the UK, in relation to the relative absence of long-term investment finance provision to SMEs, requires an explanation. Currently, in the UK, SMEs are defined as having a turnover of less than ￡25 million and less than 250 employees and represent 99 per cent of all private businesses. A considerable variety of sectors are represented within this overall SME universe. Note that the EU SME definition has a higher turnover level, up to €50 million/£45 million and this is the definition employed in this book. This book, therefore, addresses an important, and persistent, problem in British political economy: namely, why British banking has not adequately invested in British SMEs, and especially manufacturing.

The position in the UK has its roots in the culture and historical and institutional structure of the British banking system, alongside explanatory factors among the UK SME population. However, banking systems and industrial companies do not exist in a vacuum. The political economic environment of the country and its culture play an important role in influencing institutional, cultural, and business behaviour, both historically and today. It is the case that, during principally the eighteenth and nineteenth centuries, business banking structures evolved differently in the UK than in other European countries (and in the US).

Time for change?

The book has sought to provide an analysis of British business banking, its SME customers, and the political and economic environment within which it operates. The analysis has been set in a historical context, going back to the inception of the UK's industrial revolution spanning the end of the eighteenth century and the first part of the nineteenth. The subsequent period of industrialization and banking, running from around 1830 into the twentieth century, has also been described. Finally, the period from the early twentieth century to the present day has been examined in detail to answer the key question of the apparent lack of constructive engagement between British business banking and UK SMEs, and the associated lack of long-term investment finance provided to this key industrial sector. To provide a comparative analytical perspective, the UK historical and cultural account has been accompanied by contemporaneous comparisons of the German, French and US experience. This approach has yielded interesting insights into the derivation of contemporary twenty-first century business banking behaviours, institutional development, SME cultural behaviour, and the manifest political economy environment in the UK.

Critical of the apparent inattention of the major clearing banks to their socio-economic role as financial intermediaries, particularly in relation to SMEs, it has been argued that blame also attaches to the dominant short-term culture and behaviour of British SMEs. It has also been suggested that the operational peculiarities of the form of liberal market economy of the British state has led to inadequate interventions from government to rectify the problems faced by SMEs in seeking and obtaining long-term investment finance. This is not to suggest that various short-term interventions have not taken place, but they have not tackled the underlying deficiencies of the lack of structural engagement of the major clearing banks with the SME sector.

Many previous reports, investigations, and initiatives have failed to achieve the necessary reform to SME funding in the UK. The lack of a close relationship between British banks and British business – and particularly the small and medium-sized enterprise sector – has been remarked upon and criticized in a variety of official reports over almost 100 years.