Jeremy Warner's Outlook: Shell defends embarrassment of riches

Public finances head for the rocks; Standard Chartered acts over SIV
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The Independent Online

Banks can breathe a sigh of relief; there is a new capitalist bogey to take their place in the stocks – the big bad oil companies. You might have thought the new record of profitability set yesterday for a UK-listed company by Shell would be something to celebrate.

Yet Tony Woodley, director general of Unite, the trade union, finds the profits "quite frankly obscene" and urges the Government to impose a windfall profit tax. No doubt he'll be saying the same thing when Centrica and other energy utilities report their profits in a few weeks' time.

As it happens, the oil companies are already subject to a variety of windfall profit taxes. They are called excise duty, VAT and petroleum revenue tax and they account for the vast bulk of the price you pay at the pump.

Shell will also very probably pay a record amount of corporation tax this year, while the dividend – also at a record – will largely be paid not to the fat cats of popular myth but to pension funds and other long-term investors in which millions of ordinary people have an interest.

Many people don't approve of what oil companies do, yet these are not organisations that thrust their product on a reluctant world. It is the consumer that pollutes, not the oil companies themselves. Some of them, including Shell, are in fact at the forefront of best practice on the environment and emissions in terms of the way they operate.

Though Shell is a British company, the great bulk of its production and therefore profits comes from overseas. Even if the Government thought further taxation appropriate, it would find it quite difficult to impose, and, if it acted oppressively, Shell would merely up sticks and move back to Holland or somewhere else with a better appreciation of the company's need to make money. Last year, the company invested $24bn and plans to carry on at that pace into the indefinite future.

Oil is becoming ever more difficult and expensive to find and extract. By abandoning its usual practice of publishing reserves at the same time as the preliminary results, Shell seemed to confirm the suspicion that it is not replacing its reserves nearly as fast as it is expending them. It's not for lack of trying.

One thing that would ensure we are for ever to be at the mercy of the capricious and sometimes spiteful suppliers of Russia and the Middle East for our energy needs would be to start imposing windfall profit taxes on the likes of BP and Shell. Mr Woodley is no doubt a fine fellow, but he is being naive and financially illiterate in describing these profits as "obscene". Right now, Shell needs all the profits it can get.

Public finances head for the rocks

We didn't really need the official stamp of both the Institute for Fiscal Studies (IFS) and the National Institute of Economic and Social Research (NIESR) to tell us that the public finances are in a mess. That much has been obvious for some while now.

Yet the Government maintains the pretence that everything is perfectly fine, with the public finances still meeting the self-imposed "golden rule" to balance the books over the economic cycle, and, assuming Northern Rock doesn't come bounding on to the Treasury's books, public debt below 40 per cent of GDP.

Regrettably, these rules are now so far past their sell-by date that even a fool would struggle to take them seriously any longer. When they were introduced 10 years ago, they were a giant leap forward, but they have been so manipulated and abused since then they are now completely discredited and should be junked at the earliest possible opportunity.

There is surprising unanimity between the IFS and the NIESR on how much taxes would need to go up next year to address the problem. The IFS thinks £8bn, the NIESR £9bn. It scarcely needs saying that not in a month of sundays is the Government going to follow their advice. Indeed, Alistair Darling, the Chancellor, will feel much more inclined to follow the example of George Bush and the urgings of the IMF by providing a fiscal stimulus in the next Budget, now set for 12 March.

Despite all the talk of abolishing boom and bust in the public finances, we seem to have almost wholly returned to the situation that ruled under the Tories in the early to mid 1990s where the Treasury forecasts are essentially concocted to make the numbers fit what the Government wants to happen rather than what everyone thinks will happen.

Each year, the holy grail of balanced budgets is pushed further out into the future. Very few people now think the economy will meet the Government's forecast of 2 to 2.5 per cent for this year and even fewer next year's forecast of 2.5 to 3 per cent. As Martin Weale, director of the NIESR puts it, the Government seems to believe something will turn up at the end of the rainbow, but what if it doesn't?

No matter. The golden rule is met come what may. Gordon Brown has already declared the cycle essentially ended and begun again in 2006/7, with the effect that he met the golden rule in the last cycle and can now spend with impunity knowing he's got years ahead of him to make it all back again in the current cycle. The fact that nobody can say for certain until years after the event just when the cycle ended and began amply demonstrates the vacuity of the rule.

As both the IFS and NIESR have said, fiscal policy should be about saving up through the good times so you can spend through the bad. The Government seems to have been doing the reverse. It should have turned off the spending taps two or three years ago when the boom was in full swing. The tragedy is it is now being forced into a spending squeeze just as the downturn bites.

New rules, independently audited to ensure compliance, have become a matter of urgency, but it is in the nature of these things that it will very probably require a change of government for a suitably more exacting and credible system of medium-term targets to govern the public finances to be introduced.

Standard Chartered acts over SIV

Before the credit crisis hit, hardly anyone had heard of Structured Investment Vehicles (SIVs), conduits, monolines and all the other weird and wonderful structures dreamt up by clever financiers to facilitate the explosion of debt. Now Standard Chartered has become the latest bank to bring the $7bn of assets and liabilities that lie at the heart of one of its SIVs back on balance sheet. With credit markets still essentially closed, there are plenty more of these restructurings to come.

It is as yet unclear what the long-term consequences of this drawing in of horns across the financial system might be. On one level, it could reasonably be seen as a good thing, encouraging a return to more traditional standards of risk assessment and lending. Yet if it also means that the era of securitisation in debt markets is largely over, there will in time also be a very substantial contraction in the size and availability of credit.

What SIVs and conduits have allowed bankers to do is write lots of business and then flog it off through the bond and commercial paper markets to someone else, thus freeing up balance-sheet capital to write yet further business. With the markets now refusing to finance these assets, bankers have no option but to bring them back on balance sheet. The reverse effect then kicks in. Capital once free to pursue new business has instead to be devoted to supporting the old stuff. Available credit thereby begins to contract rather than expand.

If the process of securitisation is over for good, then credit-fuelled growth is also a thing of the past. Such an extreme outcome seems somewhat improbable. More likely is that securitisation structures will eventually re-emerge in more transparent and easily understood forms, allowing investors better to understand the nature of the risks they are taking on. But getting from here to there is going to be a bumpy and painful ride, possibly lasting some years.

j.warner@independent.co.uk

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