How to make finance serve society
Where we stand today
The fundamental reform of the financial system that was promised after the 2007-2008 crisis has not been delivered. New rules introduced have already been heavily watered down thanks to the powerful influence of the financial lobby. More importantly, though, these rules have not clarified that the purpose of finance should be to serve the real economy and society, nor addressed the financial system’s size and reach. Financial firms therefore continue to privatise gains for activities that have no social benefit, whilst socialising losses. The new rules have not resolved the first issue they set out to tackle: the stability of the financial system.
This unstable financial system is propping up an unfair, unequal society and an unsustainable economy. The warning signs are clear: Business as usual will not work. The rising gap between the wealthiest and poorest parts of society is made worse by a lot of the rent-seeking activities of the financial sector. It is also contributing to the increasingly present and worsening effects of climate change on the environment by supporting the fossil fuel economy, as fossil fuel projects are more profitable. This will not change whilst fossil fuel subsidies and a very low carbon price continue to exist. We are sleepwalking into future financial crises and environmental collapse. The financial firms that operate the system have not been held to account for the last crisis and are not being held to account for the current issues in the system. This has to change immediately if the system is going to change.
Why we need change now
More and more of Europe’s citizens are demanding change. They are voting against the status quo and business as usual. By changing the financial system, we can use finance as a tool to address the pressing and linked economic, societal and environmental issues that urgently need to be solved for all citizens. We need to shift the power balance to collectively shape a new financial system that citizens can trust and support, one that delivers a fair and sustainable future. Such a financial system will ensure that multiple future crises do not break out, bringing serious consequences for society.
To bring about change, Finance Watch makes these concrete reform proposals to the financial system:
In order to avoid future financial crises and their heavy consequences for society, we urgently need to make the financial system more stable. Therefore, we need to deconcentrate economic activity and risks. Financial institutions need to shrink to a size that is bearable for society and to become more diversified, which allows the system as a whole to be more resilient and to better absorb shocks.
We also need to encourage long-term investment by introducing regulation that stops harmful speculation and credit-fuelled bubbles. Finance needs to go back to being simple and boring.
- Ensure that no financial firm is too big to fail including by proposing legislation to separate traditional banking and investment banking activities.
- Regulate the governance of financial firms so that risks and stranded assets from social and environmental damage are avoided.
- Introduce regulation to discourage harmful speculation and credit-fuelled bubbles.
- Implement proposals to regulate all shadow banking and reduce the amount of shadow banking activity by curbing the re-use of collateral and set minimum haircuts in securities financing transactions.
- Introduce an EU-wide Financial Transaction Tax
- Bring an end to tranching of securities and prevent securitisation in infrastructure.
Today’s financial system is dominated by large, shareholder-owned financial institutions that have little democratic accountability and that are disconnected from a broader, coherent economic vision. More transparency about their activities and impact on society and the environment is a precondition for making them accountable.
At the same time, we need more mission-oriented financial institutions such as public, development, community-based, stakeholder-owned and ethical banks, impact investors, among others.
We also need to ensure that finance serves the needs of all citizens, by offering simple, easy to understand, transparent, accessible and affordable financial products and services, which they need to participate fully and equally in society.
- Make private financial institutions accountable for the impact of their lending and investments on the UN Sustainable Development Goals, starting with implementing mandatory reporting of such impacts.
- Ensure a diverse banking sector by promoting small, local, community and ethical banks, different ownership structures and the representation of a broad range of stakeholders.
- Free up public investment capacity by adapting deficit rules, changing spending priorities and/or strengthening tax revenues.
- Investigate, and if necessary, redefine state aid rules and fiscal accounting, in order to remove potential barriers to public banking.
- Increase the accountability of the ECB to the European Parliament, with regard to the effects of their policy on inequality, climate change, environmental depletion and sustainable development of the EU economies and societies.
- Ensure that all citizens have access to a set of basic financial services that are needed to fully and equally participate in society.
- Ensure that the public interest is properly represented in the regulation of the financial system, through sufficient representation of civil society organisations in expert and stakeholder groups and the transparency of the legislative process.
- Reduce the influence of the financial lobby by setting limits on access to policymakers, regulators, supervisors and politicians who should guarantee integrity of legislation and prioritise public and citizens’ interests.
We need to re-direct capital to where it is needed for society as a whole, away from unsustainable and towards sustainable and socially responsible lending & investments, including alignment with biodiversity and ecosystems restoration and conservation.
The most effective way of redirecting financial flows is to regulate and ensure that economic regulation is aligned with a democratically defined economic project. To do this, we have to redefine the role of central banks, individual banks and the financial system as a whole. They can be the driving force to shift investment towards building a sustainable economy and society.
- Ensure that the EU Action Plan on Financing Sustainable Growth takes clear steps towards meeting the Paris climate objectives and the UN Sustainable Development Goals. All legislation should aim at phasing out loans and investments in socially and environmentally damaging activities. This includes mandatory social, environmental and governance (ESG) impact assessments of all activities to be financed on the economy and society, throughout the lifetime of the loan/investment and beyond, including through due diligence and prudent person principles of all activities.
- Ensure an ambitious and mandatory EU Taxonomy that fully integrates all social and environmental criteria.
- Ensure that EU eco-labels for financial products will only be awarded to environmentally beneficial financial products, which go beyond doing no harm.
- Ensure that the reporting of non-financial information is subject to a mandatory, common and harmonised reporting framework.
- Ensure that the scope of the set of legislations incorporates not only climate-related, but also environment-related, social and human rights risks and metrics.
- Ensure that central banks integrate climate and environment-related risks and impacts, as well as risks to raising inequality in the conduct of their monetary policy and prudential supervision tasks.
- Ensure that regulators properly take into account climate, social and environment -related risks and make full use of their micro- and macro-prudential tools – such as additional capital requirements, capital buffers, sectoral leverage ratios, credit guidance, large exposure limits and stress tests.
Compared to 2008-2009, the international community’s arsenal for dealing with another global financial crisis has been depleted. While the prudential risks facing the financial system have remained broadly unchanged, the fiscal and monetary tools available to governments and central banks have been dramatically decimated.
Economic, business and credit cycles are indicating that we are overdue for another downturn, yet the decisions of policy makers do not reflect this situation. We urgently need to improve the way in which failing banks are restructured or resolved, without having to recourse to public funds and their risk management systems.
- Set up contingency plans to deal with another financial/economic crisis.
- Review the current regulatory instruments, and ensure they are operational in the event of a major crisis.
- Build up national deposit guarantee schemes to sufficient levels, and reduce the levels of non-performing loans to be able to eventually phase in the European Deposit Insurance Scheme.
- Ensure the full and proper usage of the single resolution mechanism, and avoid further precautionary recapitalisation.
- Reduce operational risk through strengthened governance, end the shifting of responsibility down the organisational hierarchy and ensure staff of financial firms are given the resources, time and training they need to properly meet necessary regulatory requirements.
- Improve the current stress testing to include not only banks, to include ESG factors and forward-looking scenarios.
- Ensure the security and integrity of financial services IT infrastructure, which is essential for the protection of critical IT infrastructures at the national and European level.
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