SNED Launch Dinner In Partnership with the Scottish Council For Development and Industry (SCDI), 6th October 2010
Oliver Rothschild, Keynote Speaker
0 – Introduction
Ladies and gentlemen, I’m pleased to be in Glasgow this evening and delighted to attend the launch of the Scottish arm of NED. I’ve seen a list of recent speakers at such dinners and I am indeed honoured to have been invited as one of the few speakers from south of the border.
On a previous trip to Glasgow, I remember arriving at the airport when everything smelt of toast, as it was a day after the attempted terrorist outrage. The ability of Glasgow to overcome the shock was such that the airport was in full operational use within hours. The purpose of my visit then was to write an article about how Glasgow had really turned around into a welcoming and cultural city again, having been in depths of recession for decades.
The positive culture is evident even more so today and it is interesting that we are launching in this City, which sees itself as the commercial capital of Scotland. However, we do have to look at the reality of the present day economic and commercial environment. To be frank, I did not choose the theme of my speech, but I want to discuss the topic of my speech in historic, present and future terms, because the outlook is very positive and exciting.
1 – Credit Crunch Causes
Let’s look at where it all went wrong. We’ve all heard acres of press on the causes of the crunch, but we do need to deconstruct the causes in order to learn the lessons for strong foundations so we may build for the future. The Financial Crisis of 2007 to the present day, many now agree, was the worst of its kind since the Great Depression of the 1930s. It was triggered largely due to a liquidity shortfall in the US banking system, but quickly reverberated across the globe as the calamity to hit the world’s largest economy affected other nations on every continent. Every industry as well as every economy were affected as a result. The collapse of a global housing bubble, which peaked in the U.S. in 2006, caused the values of securities tied to real estate pricing to plummet, thus damaging financial institutions globally.
Economists, politicians and men and women of big business have attributed many factors to the Financial Crisis, but arguably the most important factor was the end of the US housing bubble that peaked in 2005-6. Why though, did the bubble bursting have such a negative impact on the US economy? The collapse of the US housing market was so strong due to 3 factors: sub-prime and predatory lending (loaning money to those who would struggle to repay), development of a culture whereby homeowners would “ride the boom” of the housing market by financing consumer spending through successive remortgages and the ease at which credit was not just available, but available at an almost-guaranteed low interest rate. The US Federal Reserve had cut interest rates following the dot-com boom, the rise in the risk of deflation and the 9/11 terror attacks from 6.5 to 1.0% from 2000 to 2003.
How then was it possible that the negative impact of the burst US housing market bubble prompted a worldwide Financial Crisis? Mortgage-backed securities ensured that any changes positive or negative in the US housing market were felt globally in the world financial markets. Bulge bracket investment banks had traded these securities between themselves for years, each time not accurately accounting for risk or engaging in proper due diligence that determined the true origin of the asset the security derived its value from. Once this news came to light, foreign investors withdrew money from the system, and the once called “savings glut” by Ben Bernanke that had flooded the US financial system some 6 years prior was removed. This led to a decline in credit availability for both companies and consumers, leading to negative equity (resulting in a fall in consumer spending) and many major international financial institutions entering bankruptcy.
Credit rating agencies such as Fitch, Moody’s and Standard & Poor’s have much to answer for. Why did the rating system fail to alert traders as well as regulatory authorities as to the instability of these real estate derived securities? Banks that traded such securities must accept significant blame. Buying and selling banks allowed traders to shuffle responsibility amongst each other. Bit this high rate of purchase and sale gave credit agencies countless opportunities to re-grade the securities, but such opportunity was never taken advantage of.
There are numerous examples in commercial history of poor corporate governance. The failure of credit rating agencies to properly oversee the financial services industry is but one example. There is a constant need for sharp and experienced non-executive Directors who can aid the company leadership in making key strategic business decisions. In addition, many non-execs bring valuable contacts and industry-specific expertise. SNED recognises the value non execs can bring, and will provide such support to businesses across Scotland.
UK, US and international framework to regulate the financial services industry did not match 21st century need. It also overlooked the imperfections of the free market in financial services to properly price risk.
Once news to came to light these securities were potentially toxic, foreign investors withdrew money from the system and the once called “savings glut” by Ben Bernanke that had flooded the US financial system some 6 years prior removed. This led to a decline in credit availability for both companies and consumers, leading to negative equity, resulting in a fall in consumer spending, and many major international financial institutions filing for Chapter 11 bankruptcy.
Changes to tighten or adapt regulatory legislation to prevent future financial sector crises have negatives. Adapting regulation has been compared to painting the Forth Bridge; by the time you have finished painting from one end, its time to repaint from the end you started at.
Since the recession hit, governments worldwide have forced through legislation forcing banks to increase the amount of capital they hold against unpredictable changes in deposits, value of their investments and the economy in general. For those unfamiliar, tier 1 capital is the core measurement of a bank’s financial strength and the tier 1 capital ratio, normally between 6 and 12%, is the ratio of a bank’s strongest capital to its total risk weighted assets. Risk weighted assets are those assets with risk in return such as loans or bonds. It took from mid 2009 to last month for the international financial body, the Basel Committee, to determine minimum capital requirements. Definitions of what count as capital, as well as what capital can be classed as tier 1 have been tightened, forcing banks into action. Bank of America and Citigroup will be restricted in how much cash they can return to shareholders and employees, while others like Deutsche have announced plans to raise additional capital to comfortably surpass requirements.
Such unprecedented changes will lead to a reduction in the financial sector’s ability globally to provide funding, not just for consumers, but also for companies. Even experienced businessmen, should approach the sector with greater self-assurance of a sound business model if decisions are to be made in their favour.
Regulation is like a hydra, the hydra had many heads, but each time they tried to change the look of the hydra by cutting its head, two grew in its place, the same is with trying to alter regulation. As a result, regulation becomes more complicated and intrusive. With greater regulation by the Basel Committee to strengthen banks’ ability to weather economic crises, the sector’s ability to fund private sector growth may be inhibited.
We must be careful however that regulatory entrenchment in the financial services sector does not lead to state sponsored capitalism – we must preserve free market enterprise at all costs. The influence of the free market is the single greatest stimulator of economic growth, and is the market aspect that will aid Scotland’s future expansion.
2 – Recession: UK Emphasis
The harsh reality that the UK was one of the worst hit in the G7 by the Credit Crunch was a key Conservative Party campaign weapon in the run up to the last election. The effects of the bursting of the US housing bubble affected some countries faster than others, but it was the UK that was one of the hardest hit. The country had the 4th highest decline in GDP out of the G7 and was the longest in recession.
The recession was short and shallow for many including the US and Canada. It is clear from this O.E.C.D. economic data that the UK was hit hard. However despite the negativity last year, in 2010 the UK economy has been amazingly resilient. Whether we will be able to continue the recovery will depend upon how severe economic competence and economic reality is affected by the coalition’s austerity measures. Make no mistake; these measures will hit all sectors hard, but are actions necessary to move down the road of a genuine recovery.
The S.C.D.I, as Scotland’s leading economic development organisation, is leading the way in encouraging greater entrepreneurial spirit in the country. The Institution has been a key player in creating sustainable economic development for Scotland since its establishment in 1931. S.C.D.I’s membership includes a range of high-profile companies and institutions, including Cisco, Dell, BT, Royal Mail and Microsoft. It is with this in mind that the S.C.D.I is calling for entries for its Awards which recognise business skill, company leadership and market development. As both the S.N.E.D. and S.C.D.I show, there is light at the end of the tunnel, and help and advice there for those willing to become market leaders in Scotland’s post recession recovery.
3 – Scotland: Unemployment
Moving back to the Figures published by the Joseph Rowntree Foundation last week revealed that Scottish unemployment and child poverty levels are rising at a higher rate than in England. Unemployment in Scotland for H1 2010 was 7.7% while in England it ran at nearly a percent lower at 6.8%, even though unemployment was lower in England pre-recession. Scotland’s unemployment level is now 8.9%, some 1.1% higher than the UK average, with some 239,000 Scots out of work. However these current figures are by no means different from trends in previous recessions. In the previous two, the important fact is that Scotland has been the first into recession but the last out. Its resilience is such that Scotland has always held its nerve knowing that growth and prosperity are ahead.
4 – Public Sector Contraction
Scotland has a greater level of reliance on the growth or decline of the public sector than many other areas in the UK, like that of the south east of London. Damien Paterson, Managing Director of Glasgow-based IFA Paterson Financial Planning stated that as government plans to cut public sector works in Scotland came into force and unemployment in the private sector continued to rise, that the country would be in real dire straits. Paterson remarked upon how “the public sector is huge in Scotland, particularly in big cities” and that this was a “big issue for Scotland”.
If the coalition government attempts to fulfil its electoral mandate and cut public sector workers, this could in effect keep Scotland in recession. A cut in the public sector when the private sector is still struggling to grow might prevent overall GDP growth. As can be seen from the graph, public spending in Scotland increased in real terms by between 2 and 9% annually between 2000 and 2009. However now with soon to be imposed austerity measures, public spending in Scotland is due to fall at its peak 6% annually in real terms over the next 6 years. Such high cuts in real terms will lead to difficult choices in the public sector, especially in terms of jobs and the provision of public services. Scotland can no longer rely on the growth of the public sector to provide employment or business opportunities in an advisory or support role to the Scottish government or local authorities. The private sector must be encouraged to grow in place of the growth that has been seen in the past in the public sector. This is now, today, an opportunity that private non-public entrepreneurship has the chance to really show itself as the engine room of the Scottish economy. We need to encourage risk taking, we need to encourage entrepreneurship and private initiative.
Cuts to public sector spending should not be viewed totally as a negative. As the role of the public sector lessens in Scotland, the role of the private sector in the provision of services to the public will increase. Assessed properly, there are numerous business opportunities where the public sector is cutting funding but the consumer demand remains. This, amongst many other areas, is where opportunity in the private sector can flourish.
5 – Exports
The Government has already recognised that a major building block in the economic recovery has to come from exporting. We cannot, in this post-public sector economic era, to rely solely on big businesses to lead the way – we must also look to the SME marketplace to become a significant player in the export market moving forward. I know that in Scotland the S.C.D.I plays a major role in encouraging companies to expand into new export markets and I congratulate you on the work you are doing, but more needs to be done.
SMEs need to be encouraged to move away from the line of thinking that the effort of exporting is possibly too complicated. SMEs need to have encouragement from both national government and at local level to take advantage of those markets available. In all businesses, whether exporting or in the domestic market, that encouragement must not be wasted by having to deal with the unnecessary growth of red tape and regulation.
Scotland has a lot to offer the world in terms of expertise and product opportunities. The country has the right to be courageous in its valid attempts to export abroad. Time invested building contact networks and supply lines will be rewarded. Further opportunities in the long term to expand into neighbouring countries will present themselves, helping forge a name for Scotland abroad for its unique service offering and product range.
6 – Universities
At present, Scottish universities are under real threat. In recent 2010 university rankings, Edinburgh dropped 20 places in world rankings from 20th to 40th. A similar drop was encountered by St Andrews, falling from 87th to 103rd. Many believe this is because cuts to higher education funding are making it more difficult for Scottish universities to compete internationally.
But we all know, and it is internationally recognised that Scotland has some of the finest universities in the UK. SO much innovation has emanated from these institutions – nowadays in this new economic era, there are many success stories emerging out of new spin out companies being developed as a result of successful academic research and skills, working in partnership with commerce. I myself am Chairman of a dynamic, young IT company which has a commercial joint venture with one of the leading universities in the UK. Universities need to accept the realism of the need to be more commercially minded and I am sure that the Scottish universities are ready to meet this challenge head on.
We need to do more to support and encourage this whole sector of joint venture partnerships between commerce and the university sector. Scottish cities such as Glasgow, Edinburgh and Aberdeen, where universities are based, need continually to review and develop closer links with these educational institutions; through greater collaboration and sharing of experience and expertise, real progress and success can then be achieved.
The quality of Scotland’s universities determines the strength of the country’s graduates for the future. Outstanding levels of education are therefore a prerequisite for Scotland’s prosperous future.
7 – Business Confidence
This slide shows the evolving differences in business confidence between Scotland and the UK average. As can be seen, prior to 2008 when the UK as a whole entered recession, business confidence between the two variables waxed and waned as the business cycle does. However, since the recession deepened, we can see that Scotland has fared far better than the UK as a whole, with consistently more positive business confidence from the start of Q3 2008 until at least the middle (Q2/3) of 2010.
Business leaders generally are optimistic about their company’s prospects for the future. It’s not all doom and gloom; many sectors in the Scottish economy, as we will see, have continued to grow despite recession or have jumped back into growth faster than others. Yes, spending cuts will have an impact on businesses that rely on public sector funding, but such cuts could also provide a catalyst for GDP growth – we need to seize that opportunity and use the basic building blocks of laissez faire free market thinking to prompt private sector growth.
Scotland’s future relies upon the future of private companies to succeed domestically and internationally. S.N.E.D knows that businesses in Scotland can develop and grow. It knows that the existing management teams in some businesses will need to be expanded if the companies are to develop and grow.
S.N.E.D also recognises that providing experienced Directors who can mentor and develop strategies for business growth is not sufficient. For individual businesses in Scotland to grow, we have to utilize the talents in existing businesses, encourage more collaborative working between companies and ensure that the right people are leading and driving change. The Scots are a masterful people, and over the last 3 centuries have made some of the greatest discoveries and inventions. The first Encyclopaedia Britannica was published by a Scot, as was the popularisation of the decimal point, the discovery of the powers of hypnotism and cloning of the first mammal. The Scottish invented curling, cycling, golf and rugby sevens, and were responsible for understanding the causes of malaria, now even more important to medical science since it has become such a worldwide problem. The Scots developed the first beta-blocker drugs, invented the fridge, flush toilet, piano foot pedal, electric clock and the lawnmower – the list is endless. (And what did the English give us? ….)
S.N.E.D provides this same innovative approach to business, and in doing so we are helping Scottish businesses achieve success. As an example, Douglas Millar, our CEO, has been supporting Morrision PLC in the their bidding process for a major public sector contract earlier this year – a short clip will play following my presentation with what they had to say about the contribution S.N.E.D. made to their successful tender application.
8 – Scotland: Emerging From Recession?
As the graph shows, some industries in Scotland are faring better in the economic recovery than others, and are growing at different rates than in the UK. This in turn reveals in what industries opportunities exist for business people in Scotland, post-recession. Services in the Scottish economy constitute some 75% of its GDP, and recovery in this sector remains central to overall economic growth, despite that as of the beginning of Q2 2010, the sector had been struggling. This, in part, is due to the cuts that have already materialised in public sector funding. The private sector, in order that the Scottish economy remain robust and grow in the future, must ensure that opportunities in the services sector are quickly capitalised on. High growth in the construction sector, with flat, but recovering growth in the agriculture, forestry, fishing and production sectors reveals further opportunities for businessmen in Scotland.
There is evidence however that the services sector in Scotland is making a sustained come back. Lloyds TSB Scotland, stated that the country maintained its “steady emergence from the recession” in the 3 months to August, when a clear majority of service sector firms increased or maintained turnover. In a recent publication made last week, Lloyds latest Business Monitor report stated that those who were optimistic about sales prospects in service sector firms for the first time outnumbered the pessimists, since Scotland entered its recession. Some 30% of firms increased revenues with 35% stating they remained constant. Sales prospects results provided “the best result in 2 ¼ years” according to the report. Some 2% of firms increased revenue abroad – this is not enough and reaffirms my belief that much more encouragement needs to be given to those firms looking to open up foreign markets. Almost 1 in 3 service sector firms reported a growth in new business leads. The above are not just statistics – they show a slow yet genuine recovery in Scotland’s most important business sector, and the country should be proud of this turnaround.
9 – Moving Forward
There are a number of opportunities in Scotland in the post-Credit Crunch recovery era, especially in rebuilding the services sector, and taking advantage of the anticipated growth of the agriculture, forestry, fishing and production sectors. However, entrepreneurs, SMEs as well as big businesses must now compete in a new Scotland where the public sector can no longer be relied upon to be a source of readily accessible financial support to steady the ship and provide growth.
We must now look at business from a different angle – innovate, modernise and create fresh and long-term, forward-thinking ways to grow the Scottish economy. Creating a “lean and mean” services sector independent of public sector funding needs to be equipped to fill the vacuum which will necessarily exist as a result of the reduction in public sector spend. This must now be a priority, as well as steady growth in Scotland’s secondary industries that yes, are at the point of growth, but require further support to facilitate long-term expansion.
The private sector must be able to provide greater on the job training and business-backed vocational qualifications to provide the graduates of tomorrow with the innovative skills required to push the growth of the Scottish economy. In this globalised world in which we live, Scotland must be capable of facilitating connections with the BRIC economies and the those aggressive tiger economies of the Far East as well as retaining and entrenching current ties with the rest of Europe and the English-speaking world.
S.N.E.D. Directors have contacts with both private companies and public institutions across the UK and therefore the ability to collaborate with NED south of the border and offer greater opportunity to work with other areas of the UK. This S.N.E.D./S.C.D.I. dinner acts as evidence of S.N.E.D’s ability to forge mutually beneficial relationships.
In conclusion, turn things on their head; assess opportunities with a new mindset. If Michelangelo had not taken a risk, the unique work of beauty that is the Sistine Chapel’s ceiling would have been painted on the floor.
Ladies and Gentlemen thank you for coming this evening and I leave you with Morrison PLC’s thoughts on S.N.E.D. and their successful tender application.
SHORT CLIP PLAYS
Oliver Rothschild's Blog 
Leave a comment