But this can be partly or wholly offset if households and businesses lack confidence in the long-term fiscal outlook for our nation. It would be greatly beneficial if the Administration and Congress could more effectively work together to craft a coherent fiscal policy. As I see it, this would consist of two elements – continued near-term fiscal support to underpin economic activity and long-term fiscal consolidation to ensure debt sustainability. Without action in Washington, fiscal policy will turn sharply restrictive in 2012 – exerting a direct drag on real GDP growth of more than one percentage point. At the same time, the long-term path under current policy is unsustainable. It should be possible, even in a time of sharp ideological differences, to agree on some common pro-growth principles: support for demand today made possible by credible longterm fiscal consolidation, and a mix of fiscal adjustments that are supportive of future growth. This would involve making an appropriate distinction between outlays that support current consumption versus outlays that lift the economy’s long-run potential such as investment in infrastructure, research and human capital – similarly, between taxes that inhibit work and investment versus those that are more neutral in their impact. Broadening the tax base and making tax system simpler might also be helpful. Progress on the fiscal front would have an important ancillary benefit – a demonstration that Washington can put aside partisan interests and step up to the challenges our nation faces would boost household and business confidence.
Estimates of return on equity on SME and corporate lending are around 8% to 9%, which is roughly around the cost of equity for these activities, though it’s hard to say with absolute precision. Investment banking, however, is a different story; return on equity in the investment banking parts of UK banks is around 5%. It was 20% in 2010. Returns at European and US investment banks have followed a similar trend although the decline has not been as steep as for UK banks. Overcapacity, excess costs, removal of the implicit Too-Big-To-Fail government subsidy, tighter capital regulations and restructuring costs are all contributing to reduced returns on equity in investment banking. Large parts of investment banking are not meeting required returns which are estimated to be in the region of 11% overall for a sample of UK and international banks. Parts of investment banking are therefore not economically profitable. Banks have made good progress on restructuring their overall balance sheet – they have cut funded assets by nearly £ trillion since the end of 2010 – but they will probably need to shrink parts of their investment banking businesses or boost returns, for example, by increasing prices or cutting costs. Variable remuneration has fallen in absolute terms in investment banking and other parts of banks but that has been offset by an increase in fixed remuneration. Staff cost to income ratios for banks as a whole are similar to precrisis levels or if anything a little higher.