Cyprus

By Mandeep K Bhandal, on 20 February 2013

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ISRS Research Manager, Mandeep Bhandal provides an update to ISRS’ Net Assessment Bulletins on Cyprus (28 January & 11 February 2013):

Cyprus Update

The geo-strategic significance of Cyprus has been overlooked for far too long by many policy and decision makers. It is only now; in recent years that the Eurozone crisis has unveiled the strategic consequence of Cyprus’ debt problems and the triggering of a feared contagion in the Eurozone. In our Net Assessment Bulletins (28 January & 11 February 2013), ISRS highlighted the prevalent strategic issues taking hold in Cyprus from political, economic and energy perspectives. In dealing with the uncertainty and ensuing ‘crisis;’ decision-takers need to identify competitive strategies as well as identifying the competitive advantage of pursuing such options. ISRS indeed recognised Cyprus’ strategic role and purported that it should not be examined in isolation, but rather as part of a dynamic network. A Net Assessment of Strategies (NAS) of the region, including Iran, Israel, Turkey and Syria, should consider Cyprus as a pivotal outcome. Similarly, an FT article published on 19 Feb (Cypriot crisis creates one last chance to reunify the island) recognises these very issues and the important role that Cyprus plays. Given the forthcoming run-off ballot next week, there is pressing urgency to address the island’s divisions. This is vital given we live in a multipolar world.

Measuring the resilience of Micro Nuclear Energy

By Mandeep K Bhandal, on 20 February 2013

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ISRS Senior Researcher, Jas Mahrra comments on the need to explore the resilience of Micro Nuclear Energy.

Measuring the resilience of Micro Nuclear Energy

On the 15 February the FT commented on the state of the nuclear industry (Price gap threatened nuclear aims and Nuclear flexible fission). It pointed to the debate around Britain’s nuclear options as being in a state of flux as the battle for pricing and subsidies continues. There is increasing enthusiasm across the world to continue a nuclear option but on a much smaller scale. These micro generation nuclear plants are seen as the answer to the escalating investment decisions of building the traditional big nuclear power plants and their corresponding decommissioning costs.

Nuclear energy has been the archetypal energy generation and distribution mode for the 20^th Century in that it was big centralised and worked through wide area distribution. This underpinned and defined health and safety, protective security (physical, personnel, information etc) and how Industrial Control Systems (ICS) linked this mode with all others through the grid.

Whatever the options are for either a big nuclear plant programme verses smaller scale nuclear plants the resilience of micro generation plants need to be explored and there is a need to understand both the benefits and the measure of resilience. It is worth noting that the resilience of networks, whether generation is centralised or decentralised has not been properly explored. Micro generation has been thought the preserve of renewables (wind, solar etc) and has had to address distribution and storage issues but has not been seen as involving big health and safety or protective security issues. The advent of micro generation with local and wide area distribution creates the opportunity to define resilience on new and more appropriate terms. These characteristics challenge the defining assumptions that underpin security and resilience within the nuclear sector. Such transformation means that templating legacy approaches would evidently be inadequate. Micro-nuclear generation can reframe all these assumptions about what is needed for the future.

In our forthcoming publication, entitled Resource Resilience, ISRS examine the complex and interacting energy system through an assessment of the geo-strategic, economic and environmental implications of competing resource use. We posit that a major re-think of the complexity and risk management tools are needed to better navigate through the energy crisis and enable a more resilient model. In a networked world, crises continually test for resilience. Nuclear will prove no exception to this.

Update to Cyprus Assessment

By Mandeep K Bhandal, on 11 February 2013

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ISRS Senior Researcher, Jas Mahrra provides an update to the Net Assessment Bulletin, posted on the Resiliblog on 28 January 2013.

It has been unveiled today that the EU officials have been working towards finding a way of rescuing Cyprus without triggering a contagion in the Eurozone financial markets. Whatever the bail in/out options being proposed they will have a long term impact on Cyprus as a tax haven for foreign investors and substantially scale down the country’s financial sector. Recognising the challenges in negotiating with Cyprus just around a rescue package, there is the opportunity for the EU to consider leveraging the situation not only in resolving a better settlement for the whole island but within the strategic context of an EU-NATO free-trade area. This could open up advantages on several fronts in the region & beyond.

Brittle Energy

By Mandeep K Bhandal, on 7 February 2013

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ISRS Research Manager, Mandeep Bhandal provides a brief assessment on the irresilience in the energy system and how ISRS’ forthcoming publication, ‘Resource Resilience’ will address the complexities.

BRITTLE ENERGY

Shale Oil

By 2030, the global population will reach 8.3 billion people. Within this population increase, it is the growth of the middle classes that is dramatic – implying a greater consumption. Scarcity of global resources to meet global demand is perhaps the most pressing challenge we as citizens, businesses and our governments face. Yet, there is plenty of reason to be optimistic. The International Energy Agency (IEA), an intergovernmental organisation and OPEC’s counterpart affirms growing global production of key fossil fuels in the coming decades. Much of the increased production is to be found from unconventional oil and gas, in which the US has seized a strategic lead over the last few years.

Assessing resilience & irresilience

However, the US’ strategic lead has consequences. Today, the Executive Director of the IEA, Maria van der Hoeven, comments in the FT regarding the potential of the shale boom turning to bust, should the US fail to address the bottlenecks in its energy policies and regulations. This greatly underscores that the energy system is brittle. It is irresilient. It is easily disrupted, fragile and prone to catastrophic failures. Although uncertainty cannot be removed, we need to build a more resilient energy system. At the Institute for Security and Resilience Studies (ISRS), we define resilience as the enduring power of a body or bodies for transformation, renewal and recovery with the flux of interactions and flow of events. Resilience is our ability to act decisively and learn in a world of change. Irresilience (the inverse of resilience) must not be overlooked though but is poorly assessed. What the physicist Per Bak called “self-organised criticality” too often builds up undetected irresilience in our systems. Irresilience makes our systems prone to catastrophic cascading failures.

Brittle Energy

Recent experience evidences such irresilience in energy systems. Whilst Libya produced only 2% of global oil, the importance of “sweet” crude to regional consumers is understated by that percentage. The refinery capacity fed by Libya’s sweet oil can only process low-sulphur crude oil. Unrest in Libya not only sent the price of oil up but also disproportionately disrupted supplies of oil to Europe, which consumed 85% of what Libya produced. The heavy dependence of Italy, France and Germany on Libyan sweet oil was revealed. Dependence was not limited to crude supply. Even with Saudi Arabia pumping more oil to replace the lost production capacity, Europe did not have the additional capacity to refine the more sulphurous and dense crude. Instead, the oil was shipped to newer refineries in Asia who were able to process the oil and once refined passed to European consumers.

The success of US shale oil production is poised to reveal a similar brittleness. Although vast quantities of shale oil can now flow from mid-continental US, a few major supply barriers are now evident. Shale oil is sweet oil. US refinery capacity is for heavier more sulphurous oil. It is also concentrated on the coast for imports. Moreover, the legislative legacy of the 1970s energy crises means that exporting shale oil needs US presidential ascent under the Export Administration Act of 1979. To build on the successful production of US shale oil will require improved transportation infrastructure, refinery capacity for sweeter oil and changed legislation. If the US is to maintain a strategic advantage and benefit from the shale boom, it needs to welcome options for overcoming legacy energy bottlenecks. As Maria van der Hoeven suggests, failure to do so is already making the value of lighter oil relative to heavier oil collapse. This is a perhaps a lead indicator for wider irresilience in a system.

In our forthcoming publication, entitled Resource Resilience, ISRS examine the complex and interacting energy system through an assessment of the geo-strategic, economic and environmental implications of competing resource use. We posit that a major re-think of the complexity and risk management tools are needed to better navigate through the energy crisis and enable a more resilient model. In a networked world, crises continually test for resilience. Leaders need to show vision and stimulate innovation in tackling irresilience. The US is not alone in learning how to strengthen the energy system’s resilience.  Partnerships are indeed needed if we are not to become victims of success and failure in our increasingly interdependent world-economy.

Resilience A, B, C

By Mandeep K Bhandal, on 6 February 2013

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ISRS Senior Researcher, Jas Mahrra comments on Character & Resilience, following today’s Character & Resilience Summit, hosted by the  All-Party Parliamentary Group (APPG) on Social Mobility.

Resilience A,B,C

Resilience to Adversity

Today the All-Party Parliamentary Group (APPG) on Social Mobility is hosting a Summit on Character & Resilience which brings together practitioners, commentators and opinion formers “to help stimulate new practical solutions or highlight and help the spread of proven existing ones”. This takes forward many of the findings from an interim report (May 2012) by APPG on 7 Key Truths About Social Mobility. The research in this report is not new but rather it synthesised the existing work around social mobility.

They identified that the early years contribute significantly to social mobility. Making the most of an individuals life potential relied on the drive for educational attainment. It was not a parents’ class or income which determined outcomes for children but how these factors were correlated with educational attainment. Education offered greater opportunities to individuals in improving social mobility. Interestingly enough, they identified personal resilience and emotional well-being as the missing link in the chain. A combination of the right characteristics will allow individuals to triumph and overcome adversity.

Resilience to Bounds

Resilience is a far reaching term which can be used to describe both character and action. At the Institute for Security and Resilience Studies (ISRS) we recognise the importance of both uses, having defined resilience as the enduring power of a body or bodies for transformation, renewal and recovery with the flux of interactions and flow of events. The resilience of the body, either as an individual or organisation is manifest as the ability to sense decisive moments and make critical turns well.

Personal characteristics both constrain and enable social mobility. The challenges are therefore to improve the capacity of an individual to deal with ‘the knocks’ by developing the social and emotional skills to deal with such stresses.  In the case of the individual, we can look to the work of Professor Mike Rutter (a leading researcher in the field of resilience studying children) who points to the fact that a child’s ability to cope is seldom just about the “temperament, IQ or even genes” but the interaction with his or her environment. We live in a networked world, where everyone and everything is connected. The fact that people’s environments deny them the opportunities to be resilient has profound implications for policy interventions. Falling behind in the early years provides greater challenges later on. Education and learning can lift some of the barriers to social exclusion.

Knowledge and learning does indeed enhance an individual’s capacity for social mobility. However, recent research has found that education alone is not enough to determine future success. It seems that personal characteristics can have a significant impact on academic success too[1]. Governments need to address the school policy initiatives which seek to develop how these non-cognitive skills are enhanced in a positive way at school so that individuals develop the resilient characteristics, such as persistence and an ability to recover from failure.

Resilience rather than risk is more likely to drive the differentials for well-being. Rutter says, “That exposure to stresses or adversities may either increase vulnerabilities through sensitisation effect or decrease vulnerabilities through a steeling effect[2]”. A resilient character requires some exposure to risk since any attempt to build immunity requires some exposure to an infection. The worst possible action to take is to avoid risk altogether.

Building immunology to disease shows how the body can be resilient to infections and there is much to learn from the study of health and well-being and its relationship to resilience. Paul Trough (How Children Succeed) points out that the brain can pinpoint stress (prefrontal cortex). Research in health and resilience (where UCL and Yale are leading the way) will help contribute policy initiatives beyond the health sector. The transfer of knowledge in this area is of huge importance to the way in which citizens can learn to equip themselves to live with crises rather than catastrophes i.e. navigating decisive moments with agility, stamina and an unrelenting willingness to learn.

Resilience to Crises

The personal capabilities and resilience that individuals show in their everyday lives under crisis conditions will stand them in good stead to transform, renew and recover from events in healthy ways. Going back to our definition of resilience as the enduring power of a body or bodies to describe public, private, voluntary sectors involving individuals or organisations, we see the measure of resilience as how these bodies bounce-forward rather than being taken over by events. It is this measure that defines whether an individual sinks or swims in a crisis.

In a networked world, crises are everyday, not just exceptional. Resilience to crises needs to promote healthier appetites for risk. Strengthening resilience can be learnt. Through its research, the ISRS have drawn out some of the essential characteristics of resilience a few are detailed below. They rely very much on the learning behaviours of individuals;

• Learning behaviours (competencies) allows for healthier appetites for risk and uncertainty.
• Taking timely decisive actions (allowing for healthy risk taking).
• Leadership engaged in anticipating crises (not caught out by (un)knowns).

ABC of Resilience

Ultimately resilience is about our capacity to adapt and learn. So the ABC of resilience is:

• Adversity ~an ability to triumph and overcome events;
• Bounds ~ dealing with the constraints and enablers; and
• Crises ~ associated with decisiveness, a turning point.

Resilience is very much about growth. In order for society to maximise social and economic prosperity we need to better equip the citizen to become resilient.

Net Assessment Bulletin: Cyprus

By Mandeep K Bhandal, on 28 January 2013

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ISRS Senior Researcher, Jas Mahrra provides an assessment of Cyprus – a strategic country connecting three continents.

Cyprus

Cyprus is a strategic country connecting three continents. It also has the possibility of reigniting an EU financial contagion if decisive action is not taken. Following our Net Assessment Bulleting (NAB) warning in November 2011 this is a slightly updated assessment:

~  Cyprus: Reigniting the contagion

Its exposure to the Greek debt and lending to the Greek private sector, as well as fiscal and structural problems within the island’s economy resulted in all three major credit rating agencies downgrading Cyprus to junk status.

The Cypriot taxpayer faces the prospect of a possible bank bailout package in the region of €10 billion, the equivalent to over 50% GDP of Cyprus. As a proportion of GDP it is one of the largest bailouts ever.

Russia offered a rescue package of a €2.5 billion loan to the Cypriot Government. As one of the main foreign direct investors into Cyprus, this loan is seen as a means of continuing investment.

~  UK & Russian Presence: geo-strategic positioning

Cyprus is a key financial centre for many Russian business elites but a large number of Russian nationals reside in Cyprus (estimates are between 8,000 and 40,000). The incentives for Russia rescuing Cyprus are obvious, less so, is the geo-strategic advantage. Russia’s only naval base in the Mediterranean is the Syrian port of Tartus which is no longer assured. Russia will do its utmost to maintain its only foothold in the Mediterranean. Cyprus could be the answer.

Although Cyprus gained independence in 1960, the UK has retained two Sovereign Base Areas indefinitely. These two sites provide the gateway to the Middle East. If tensions mount with Turkey and the Middle East, the UK could find itself at the interface of yet another uprising.

~  Economic / energy conflict: beyond Turkish-Cypriot dispute?

Cyprus until recently had no proven natural resources. The discovery of potentially 122 trillion cubic feet of gas in the Levant Region of the Mediterranean changes the regions energy zone. Cyprus is a bridge between three continents and has the potential to become a major destabiliser as tensions go beyond a Turkish-Cypriot dispute.

Israel has deepened its ties with Greece and has agreed with Cyprus on delimiting respective Exclusive Economic Zones and co-operating in oil and gas exploration. This energy find is a real revenue prospect for Cyprus but political policy decisions mean that funds are unlikely to materialise as quickly as Cyprus needs. Rather than building a pipeline to Turkey the plan is to export via an LNG terminal, which has not been built.

Turkish-Israeli relations have soured since the flotilla crisis where Turkish citizens were killed and tensions were raised soon after the first test drilling started last year. Turkey also started its own drilling exploration as they looked to enhance their own energy and economic agenda.

Turkish citizens no longer support the country’s EU membership. Turkey is moving eastwards, towards closer Turkish-Arab relations. It has much to occupy its attention with concerns for political demands from the Kurdish community (Iraq Kurdish Region may have been overplayed and the assassination of three Kurdish women in Paris derailing Turkish Government and Kurdish talks) and a civil war neighbouring on its border, in Syria.

The EU won the Nobel Prize for peace and can ill-afford Turkey disengagement. If Turkey moves away from democratisation at the same time that EU countries close off the nuclear power option, (Turkey is an energy corridor which the EU can ill-afford to lose), then this becomes a dangerous situation just as the Arab awakening is reshaping the balance of power in the region.

~  Germany: What is their decisive move?

Much of Germany’s wealth has been accumulated over the years through trade deficits other (mostly periphery) countries have run with Germany. Products have been dumped and the Landers Banks have provided credit to countries that could not be sustainable.

Germanyand its citizens are loath to bail out yet another government or foreign bank. Much depends on the outcome of the next general election. Whilst Angela Merkel retains much of her popularity, her premiership is not guaranteed as the prospective SPD dominated coalition is no longer certain.

The recent leaked report by its intelligence service which estimates that Russian’s oligarchs and ‘Mafiosi’ will be the prime benefactors of any bailout make any appeal to its citizens to support financial assistance unlikely. Angela Merkel has been steadfast in her decision that the EU must be saved at all costs. Will it stretch to supporting the investments of Russian oligarchs?

June 2012,Cyprusturned to the troika of EU, the ECB and the IMF for emergency aid of €10 billion. In turn, the troika have demandedCyprusreform its economy. Germany is insisting that the EAC (Electricity Cyprus) is sold off to pay Cypriot debts.

Submission by Chris Cook to the Land Reform Review Group

By Mandeep K Bhandal, on 16 January 2013

ISRS Senior Research Fellow, Chris Cook, on behalf of Nordic Enterprise Trust, was invited to submit evidence to assist the work of the Land Reform Review Group (LRRG). The Group has been set up by the Scottish Government to develop innovative and radical proposals that will contribute to Scotland’s future success.

Please see below and here for a transcript of the submission:

Back to the Future – 21^st Century Land Tenure and Investment

Introduction

21^st Century problems cannot be solved with 20^th century solutions

In the course of my research as a Senior Research Fellow at University College London’s Institute for Security and Resilience Studies (ISRS), and my practical implementation of this research with the Nordic Enterprise Trust, I have come to the conclusion that the solutions to 21^st Century problems are, ironically, to be found – ‘Back to the Future’ style – in updating legal frameworks and financial instruments which date back hundreds if not thousands of years.

Many indigenous peoples, such as American Indians and Australian Aborigines, find it impossible to understand how anyone can own land. Whereas most religious traditions – including Christianity, Islam, and Judaism – were all founded upon a belief that absolute ownership, particularly of land, is God’s alone, and that a tribute should be paid accordingly, such as a tithe.

In Mathematics there is +1, -1 and 0; in Physics , there is positive, negative and neutral; but the property rights which underpin modern political economy are based upon conflicting absolute property rights: Freehold vs Leasehold; Equity vs Debt; Public=State vs Private=Plc.

Intriguingly, the neutral/indeterminate state does exist in Scottish criminal law as the Not Proven verdict, which supplements the absolutes of Guilty and Not Guilty. However, there is no satisfactory and sustainable civil legal framework in Scotland or anywhere else for the Commons. This absence has led over many centuries, all over the world, and particularly in Scotland, to expropriation and enclosure of the Commons in one way or another and eventually to the concentration of land in relatively few hands.

In the absence of a word which describes a neutral framework for the property relationship in which no stakeholder is dominant I have adopted a neologism –  Nondominium. Such a collaborative and consensual legal and financial framework for sustainable development and management of resources is capable of revolutionising Scotland’s economy and society.

The enabling investment instrument for Nondominium is a form of investment which pre-dates modern finance capital, and in fact has existed for as long as mankind itself: Prepay.  In this submission I shall describe firstly, the neutral Nondominium framework for land tenure and secondly, the Prepay investment instrument, and then address the application of these tools to the Land Reform Review.

2/ Nondominium

(a) The Property Relationship

As Jeremy Bentham pointed out, Property is not an object or thing, but a relationship: the bundle of rights and obligations which connect the subject individual to an object, such as land (real property) or increasingly, knowledge (intellectual property).

While there are many types of rights and obligations, this proposal identifies four key classes of stakeholder rights:

ñ  Use – exclusive or otherwise

ñ  Usufruct – the fruits of use

ñ  Management

ñ  Custody – stewardship.

Existing legal frameworks for the relationships between these stakeholders are riddled with conflicts and complexities.  Apart from the basic forms of tenure, such as freehold and leasehold, there are further rights and obligations such as easements and burdens, mortgages and statutory restrictions such as those relating to planning.

Beyond these, is the use of an overlay of judge made ‘common law’ in respect of land to address shortfalls and iniquities arising from statute. There is also the use of corporate vehicles as a framework for property rights in land, which give rise to contractual rights of use, usufruct and management, and which is a subject to which I will return below.

(b) What is Nondominium?

 Nondominium is an agreement which not only brings together these stakeholders jointly/collectively to hold land in common but also enables them severally/individually to share the rights and obligations as they may consensually agree.

In simple terms, the user of the land pays a rental in money or in kind (‘money’s worth’ such as produce) and a proportion of this flow of value is allocated to a Manager stakeholder group which provides services such as introducing occupiers and investors; dispute resolution; valuation; maintenance or supervision of maintenance.

It will be seen that the Manager’s interests are aligned with those of any Investors who participate in the Nondominium agreement by investing in the value which flows from use of the land.  No stakeholder has a dominant or positive right to impose themselves on any other.  But stakeholders do have certain veto rights within the agreement to say what may not be done by others.

The outcome of the use of what is essentially a ‘Co-operative of Co-operatives’ is that the Occupier, Investor, Manager, and even the Custodian may all change, but the land is never sold again, remaining in perpetuity within the Nondominium.

(c) Comparatives

Tenure

Existing multi-stakeholder forms of tenure are all flawed in one way or another.

Community Land Trusts own land on behalf of the community and lease the land to occupiers,  and typically loans are secured against leases to develop the land – although an extremely complex and so far unsuccessful attempt has been made using trust law to create a type of unit investment.

Ebenezer Howard’s Garden City movement was implemented through corporate ownership which was intended to keep the homes affordable in perpetuity, but increased land values led owners eventually to collectively agree to privatise their properties in order to collect windfall gains.

A form of co-operative individual Co-ownership was implemented in Scotland using Industrial and Provident Societies as a vehicle for the land ownership, but again this fell to privatisation through the introduction of ‘right to buy’ coupled with freely available bank credit.

Co-operative housing still exists, whereby contractual rights of occupation arise through membership of a corporate vehicle such as a Friendly Society or another, but such Co-ops rely on levels of altruism among members which are no longer widely in evidence.

Investment

There are several ways of investing in land and buildings.

One is to invest directly in the shares of property companies, some of which buy, develop and sell property, typically using debt financing to enhance returns.  Other property companies buy and hold property and are popular with long term investors seeking reliable income.

Other legal forms such as trusts and limited partnerships are used as vehicles for property investment.  More recently, we have seen the introduction of Real Estate Investment Trusts (REITs) which distribute to investors almost all the rental income received and which are said to be ‘tax transparent’ because the REIT pays no tax, and the income passes directly through to the investor.  There are problems with all of these vehicles, such as a conflict of interest with the manager, and the difficulty in buying and selling Units, because the underlying properties can take a long time to sell.

(d) Why ‘Nondominium’ ?

There is an extremely successful form of co-ownership tenure known as ‘Condominium’ which is a combination of collective ownership and private use and management now in widespread use throughout the US, with variations in other countries.  Developers of Condominiums finance the development, and occupiers fund purchase of completed apartments and houses, through bank mortgage loans, which were a major contributor to the US property bubble.

But the Condominium is interesting for another reason, which is that it was in the US a form of agreement introduced – ‘bottom up’ – by a lawyer and which was subsequently codified State by State as its use spread rapidly.  Whereas the word ‘Condominium’ implies shared dominant rights, the proposed agreement brings within it the rights to the usufruct in a way that no stakeholder has dominant rights, and hence the neologism ‘Nondominium’ seemed appropriate.

(e) Company Limited by Guarantee (CLG)

A CLG is one of the most flexible corporate forms there is. In the UK, it is envisaged that the Nondominium agreement will form the constitution of a ‘multi-stakeholder co-operative’ CLG.

There are extremely topical precedents for this in the way that the Mount Stuart and Applecross Estates were both vested by their owners in perpetuity in CLG vehicles. However, the use of the CLG as a vehicle has been criticised for the absence of participation by community or tenants in the CLG, whom the former owners who founded these Trusts chose to exclude from participation.

But the use of the CLG restricts these Trusts in terms of their financial capacity to invest in the estates and this often gives an unsatisfactory outcome for tenants who rent land or houses from a CLG Trust.

The innovation which enables investors in land to participate in a CLG Nondominium agreement is an instrument which in fact pre-dates modern finance – Prepay.

3/ Prepay

(a) Origins

For many hundreds of years UK sovereigns funded their expenditure through creating IOUs which were returnable in payment for taxes, and exchanging them with tax-payers for value received.

In other words, tax-payers were able to ‘pre-pay’ their taxes, and they received as a record or token of that pre-payment the half of a ‘tally stick’ accounting record known as the ‘stock’. The other part of the tally stick retained by the issuer (which in the case of taxes was the Exchequer) was known as the ‘counter-stock’ or ‘foil’.

Clearly, no creditor would give £10 of value to the sovereign in exchange for a £10 tax IOU, and stock was issued at a discount which gave rise to a profit upon the return of the stock to the Exchequer.  So tax-payers would pay forward, or ‘pre-pay’, their tax obligation, at a discount.

The phrase ‘Tax Return’ for tax-payers’ annual accounting to HMRC originates from this annual settling of accounts. Even more significant is the origin of the phrase ‘Rate of Return’ which simply describes the rate over time at which the profit arising out of an initial discount was achieved through the return of the stock to the Exchequer for cancellation.

So by way of example, if £10 of tax was prepaid with £8 of money or money’s worth, the profit of £2 would be achieved in a year if £10 tax was payable in a year, and this would give rise to a 25% annual rate of return (£2 divided by the £8 investment). If the tax rate was £5 pa then the profit would be made in two years and the annual rate of return would be 12.5% and so on. It will be seen that there is no compound interest, although there is a return in respect of the use of the money or money’s worth provided by the creditor.

(b) Rental Prepay

If rentals are prepaid at a discount, the result is a simple new (but in fact, ancient) instrument for direct investment in land.  A Rental ‘Prepay Unit’ or rental credit issued by the Custodian with a ‘par value’ of £1.00 will be accepted by the issuer in payment for £1.00’s worth of rent.

An investor is not restricted through having to find another financial investor in order to realise a profit, but may do so by returning the Unit against land use himself. He may also sell to property occupiers either collectively, through periodic auctions conducted by the Manager before rental due dates, or by private treaty at any other time. The point being that Occupiers will always seek out and buy Units at the cheapest available price below £1.00 and then pay the balance of the rental in £ sterling.

(c) Outcomes

Occupier

The absence of compound interest, and the fact that no debt repayment need be made of debt in respect of the land element, means that the rental level may be set at a lower level.

The increased affordability means that the rental is more likely to be paid, and moreover, Occupiers who choose to maintain the property themselves or even invest in improvements, will be allocated rental credits, subject to valuation and supervision by the Manager.

Investor

For the Investor there is no possibility of default, because there is no debt obligation. The risk to the Investor is that the Rate of Return will be less than anticipated, or even zero, because the flow of rentals against which Units may be returned falls short of expectations.

By definition, an affordable rental is more likely to be paid, and therefore the risk that rentals will be less than expected is reduced, which justifies a lower rate of return.  At a time when conventional investments pay derisory or even negative ‘real’ (after inflation) returns Rental Units will be attractive to long term investors such as pension funds.

The outcome is similar to a Real Estate Investment Trust (REIT), but with the feature that Units are returnable against property use.  In this context the Holiday Property Bond (HPB) enables investors to acquire an entitlement of ‘Points’ which give rights to occupy HPB property.

Manager

In all other forms of legal and financial structure, with the limited exception of co-operatives, the interests of a Manager (where relevant) are not aligned with those of other stakeholders, and nowhere is this more evident than in Scotland, where the conduct and service levels of Factors has long been a running sore.

In Nondominium, a Manager shares proportionally in the gross rental flow, and therefore has an incentive to ensure high standards of quality and energy efficiency, since this minimises the cost of occupation and maximises returns.

However, a Manager may nevertheless be incompetent or otherwise fail to fulfil the expected duties, and the Nondominium agreement will incorporate provisions to enable that situation to be addressed.

4/ Land Reform Review

(a) Enable more people in rural and urban Scotland to have a stake in the ownership, governance, management and use of land, which will lead to a greater diversity of land ownership, and ownership types, in Scotland;

(b) Assist with the acquisition and management of land (and also land assets) by communities, to make stronger, more resilient and independent communities which have an even greater stake in their development;

(c) Generate, support, promote and deliver new relationships between land, people, economy and environment in Scotland.

The use of these tools opens up a plethora of urban and rural; public, private and third sector policy options, all with potentially wide ranging effects which combine to completely transform existing forms of tenure of and investment in land, both in Scotland and elsewhere

The consensual framework agreement is infinitely flexible, and will be used in a wide range of applications, depending upon existing use, tenure, and the extent of financial encumbrance.

Perhaps the most important outcome is that the use of these two complementary tools enables the resolution of unsustainable debt through exchanging debt for Prepaid Rental Units. As previously stated these undated credits were the original form of equity which preceded the absolute ownership form of equity comprised in shares of a ‘Joint Stock ‘Company as this entity evolved.

Such a ‘debt/equity swap’ of debt exchanged for rental credits, provides a better outcome for existing lenders than any refinancing with new debt can ever do. It also offers new hope for existing property owners with negative equity or insufficient equity to move and for a younger generation with little or no hope of a home they may call their own. For the older generations Prepay offers a form of equity release which is superior in outcome to any other.

So this ability to create rental credits opens up a new currency for social policy.  A generation which is ‘long’ of land and ‘short’ of care both for themselves and their home could essentially exchange rental credits with a generation which is long of care and short of land.

The Nondominium – which is not so much an ‘organisation’ as a framework agreement for self organisation to a common purpose – enables community assets to be transferred simply and effectively. Public bodies who wish to transfer assets to a community may retain a measure of veto control in the public interest as a ‘custodian’ member.  In terms of achieving ‘best value’ an agreed proportion of the flow of rental credits could also be retained by the public body, and allocated to a suitable use, such as to youth enterprise.

Development of land within a Nondominium makes redundant the existing form of profit-maximising development transactions where the developer’s only interest is cost minimisation, and energy efficiency and build quality are secondary.  This“4 B’s” (Buy, Borrow, Build & B…er Off) model is replaced by a co-operative agreement to share in mutually created surplus value, where high standards of build quality and energy efficiency are implemented because they reduce the cost of occupation over time and maximise the rental value.

The principal stumbling blocks are regulatory, and taxation issues, but these are by no means insurmountable.  Detailed, prescriptive financial services regulation is largely transcended by the fact that a ‘Nondominium’ is essentially a private ‘club’, but with open access due to the fact that anyone who agrees to the rules may join. It therefore does not involve the Public, and a combination of transparency and quality control by Manager stakeholders provides a form of self-regulation.

Taxation is an interesting issue, but there is the potential for a shift to a much more efficient and equitable fiscal approach than applies today.

To a great extent, since the Nondominium agreement is consensual, there is no reason why it needs legislation at all, and work is proceeding in respect of several prototypes.

The role of Government would be to disseminate best practice; to develop new policy options; to lead adoption of the model in respect of public land; and above all to facilitate the ‘bottom up’ evolution of a new wave of community-based value from land held in common.

The principal resistance to simple, consensual solutions tends to emanate from those with a vested interest in complexity and conflict, and some resistance may be expected from the professions and from consultants.  But even here, emerging areas such as collaborative law, and accounting for a ‘triple bottom line’ demonstrate that the professions can and will change with the times.

5/ Open Capital Foundation

The proposal is to bring together interested stakeholders in policy development in the public; private and academic sectors within a suitable framework – itself a ‘Nondominium’ agreement – to develop, implement and conduct ‘action-based research’ through a programme of local property prototypes across a range of applications.

With this in mind, an unincorporated association with the working title of the ‘Open Capital Foundation’ has been founded for the explicit purpose of the development of the concepts of Nondominium and Prepay.

Reality-based Economics and the Last Big Thing

By Mandeep K Bhandal, on 17 December 2012

In an interview with the Independent on 17 December, 2012, Andy Haldane, director of financial stability at the Bank of England takes a positive view of peer-to-peer lending (P2P). In response, ISRS Senior Research Fellow, Chris Cook says that P2P is only the beginning.

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Andy Haldane is in the news again today, this time on the subject of P2P banking which directly connects lenders and borrowers.  He does not say so explicitly, but it is of course in the interests of risk intermediaries such as banks to outsource risk to ‘end-user’ lenders and borrowers, since banking service providers require only sufficient capital to cover operating costs.

Dis-intermediation has been increasingly happening under the radar in relation to market price risk for some time, as investment banks have sold (some might say mis-sold) market risk to ‘inflation hedgers’ but retained credit/counter-party risk. Risk-averse investors in Exchange Traded Funds and Index Funds thereby cause the very inflation they aim to avoid, to the benefit of producers.

In order for banks to facilitate direct P2P connection of lenders and borrowers using interest-bearing debt, another framework of trust must necessarily be found. An existing trust model is that of the ‘Protection and Indemnity (P & I) Clubs’ which have been quietly mutualising shipping and transport-related risk for 140 years, of which135 years has been under the management of the same service provider.

However, in my view, financial and IT connectivity is evolving so fast that such an architecture would be obsolete before it could even be implemented.

Introducing T2T

Since Andy Haldane’s job is to prevent the UK’s financial system from falling over again, he necessarily has acquired a closer grasp of the mechanics of the banking system than either the current or future Governor, but he shares with them a fundamental, and pervasive, mis-understanding as to how the banking system works in practice.

If we look back, as I have been doing, at the historical development of the financial system and financial instruments, then the reality of the relationships, and the nature of the myths which have clouded them, becomes apparent.

Until the foundation of the Bank of England in 1694 the UK’s financing and funding was essentially Treasury to Taxpayer (T2T).  From that point onwards, the national enterprise model has involved banks operating as risk intermediaries between the Treasury and the Taxpayer.

Tax Returns

For many hundreds of years UK sovereigns funded their expenditure through creating IOUs which were returnable in payment for taxes, and exchanging them with tax-payers for value received.

In other words, tax-payers were able to ‘Pre-pay’ their taxes, receiving as a record or token that half of a ‘tally stick’ accounting record known as the ‘stock’. The other part of the tally stick retained by the issuer (which in the case of taxes was the Exchequer) was known as the ‘counter-stock’ or ‘foil’.

Note here that there was also another type of accounting record – the ‘memorandum tally’ – which acted as a transaction record or receipt, and recorded title, rather than obligation.

Of course, no creditor would give £10 of value to the King in exchange for a £10 tax IOU, and stock was issued at a discount which gave rise to a profit upon the return of the stock to the issuer.

The phrase ‘Rate of Return’ therefore refers to the rate over time at which profit arising out of an initial discount was achieved through the return of the stock to the Exchequer for cancellation.

The phrase ‘Tax Return’ for tax-payers’ annual accounting to HMRC has the same origin.

Fiscal Agency

The myth of ‘fiat’ money creation is that the Treasury and the Bank of England have a conventional banking counterparty relationship so that a Treasury credit is reflected by a Bank of England debit and vice versa.

This is not and never has been the case. What happens is that the Bank of England creates – as ‘fiscal agent’ of the Treasury – what are essentially Treasury IOUs, and it records these on behalf of its Principal, the Treasury, on a Memorandum Account.  In other words, a Treasury credit equates in accounting terms to a Bank of England credit.

So the reality is that tax credits created by the Bank of England as fiscal agent of the Treasury are spent or lent into circulation.

The role of private banks is a bit more insidious, since they act opaquely as Treasury fiscal sub-agents, creating ‘look-alikes’ (some might say ‘counterfeits’) of Treasury Credits when they spend or lend ‘fiat’ money into existence.

Only the Central Bank can destroy such ‘fiat’ money, whether it is created openly by the Central Bank or behind smoke and mirrors by private banks.

Orthodox or Reality-Based Economics?

The fundamental misconception which distinguishes orthodox economics from the real world is that it treats as a positive what is in fact a negative, and it bears as much relationship to reality as Physics would do if physicists assumed that anti-matter is matter.

The reality is and always has been that stock is an undated credit/equity instrument – indeed it is the original equity instrument, which pre-dates shares in the entity known as a ‘Joint Stock’ Limited Liability Company.

It follows that the National Debt is in reality better described as a National Equity where Treasury ‘Gilt-Edged’ Stock equates to dated interest bearing shares in UK Incorporated.

By dispelling the myths of the system, and basing Economics upon the reality, we may also blow away some of the ideological cobwebs which are integral with Orthodox Economics.

Blowing Away the Cobwebs

Firstly, the ‘Fractional Reserve Banking’ myth, that deposits are first collected and then lent.

A moment’s reflection indicates that if that were indeed the case, then there could not be any new money.  The reality is that private banks acting as credit intermediaries first create >97% of fiat money into existence and then lend or spend their ‘look-alikes’ of tax credits by crediting the memorandum account maintained by the Bank of England.

Secondly, the ‘Tax and Spend’ myth, that taxes are first collected and then spent.

The reality is that the Central Bank first spends fiat money into existence by creating credits as the Treasury’s fiscal agent, and this is then typically ‘funded’ through being acquired by private banks who create ‘look-alike’ Treasury credits for the purpose.

In other words, Tax-Payers’ Money never goes anywhere near a tax-payer until it’s been spent by the Treasury, and taxation then acts to prevent inflation by taking fiat money out of circulation.

Prepay – the Last Big Thing ?

In my analysis the banking system died in October 2008, and is now in zombie mode, since the imbalance of wealth and purchasing power is now such that only systemic fiscal reform will work. So all Central Bank targeting, whether of GDP, unemployment, or inflation, is completely useless.

Banks have already moved on to an ‘adjacent possible’ of a new generation of quasi-equity funds, and have thereby translated the property bubble into correlated bubbles in equities, precious metals and commodities which have perversely caused the very inflation which risk averse investors aimed to avoid.

When these bubbles collapse, which they must, through the unsustainable transfer of purchasing power to rent-seeking producers, we will then see a transition to the next adjacent possible, which is already quietly in use.  Enron, as ever the smartest kids on the block, was opaquely the ‘first adopter’ of Prepay some 15 years ago but unfortunately it came to be used to defraud creditors and investors.

In other words, we will see a return to Prepay, but this time rather than prepaid T2T taxation we will firstly see direct Peer to Asset prepay investment in revenue streams such as property rentals and energy flows, and secondly, direct Peer to Peer credit, where ‘Real Bill’ IOUs issued by providers of goods and services are accepted directly and are then cleared through a decentralised credit clearing system (VISA is a centralised example) within which there are no deposits.

The next few months, before Andy Haldane’s new boss takes office, but not power – since the steering wheel has come off in the Bank of England’s hands – promise to be interesting.

Chris Cook

ETF’s – Virtues or Vices for Investors?

By Mandeep K Bhandal, on 10 September 2012

ISRS Senior Research Fellow, Chris Cook,  discusses the  virtues and vices of Exchange Traded Funds in the FT on the 10 September 2012.

Dear Sir

I was interested to read John Gapper’s article today re the virtues of ETF’s for investors.

Now, the virtues of ETFs for their originators is quite evident. A stampede of risk averse ‘passive’ investors has, particularly post QE, been convinced by investment banks of the virtues of ‘inflation hedging’. Since market risk is taken by the investor, and not by the banks, excellent returns on minimal capital requirements may be made by banks through strategies such as High Frequency Trading and Delta One proprietary trading incorporating asymmetric information.

Unfortunately, the virtues of ETFs for the originators comes at a price both for the underlying markets and for ETF investors.

Firstly, the presence of generally ‘long only’ passive and risk averse investors in markets –  whose motivation is to avoid loss rather than to make speculative transaction profit – has largely destroyed the price formation mechanism and has thereby financialised those markets where they have become predominant.

The result has been correlated bubbles in equities, energy and commodities and, to use a term coined by the FT’s Izabella Kaminska, a ‘Dark Inventory’ of encumbered shares and commodities. We therefore see a two tier physical market where a privileged few profit from asymmetric knowledge of the encumbered assets.

Secondly, and as a result, we have seen bemused value investors departing equity markets which have lost almost all connection with the underlying reality of assets and dividends, and market participants in commodity markets who are at a loss to understand how market prices are connected to the reality of production and consumption.

In summary, ETFs have killed our present generation of markets and constitute the next great regulatory accident waiting to happen when, not if, the current correlated bubbles collapse and risk averse ‘muppets’ realise that they have been mis-sold market risk on a cosmic scale.

I think that we shall soon find that the unseen vices of ETFs far outweigh any apparent virtues.

Rage Against the Dying of the Light

By Mandeep K Bhandal, on 18 July 2012

ISRS Senior Research Fellow, Chris Cook, argues that the Brent/BFOE crude oil price is the subject of routine manipulation by market participants.

A generation of markets is dying and the era of the Middleman is coming to an end.  The ‘Bezzle’ – as J K Galbraith described financial misbehaviour in a boom, revealed by a bust – is now coming to light.

We now see a wave of popular rage against the freshly revealed manipulation by banks of LIBOR, the London Interbank Offered Rate benchmark for interest rates which is the cornerstone of the money market.

This manipulation in the financial world is being augmented by a groundswell of protest against manipulation taking place in the real world.  Here, the allegation is that the Brent/BFOE (Brent, Forties, Oseberg, Ekofisk) crude oil benchmark price, against which global crude oil prices are set, is the subject of routine manipulation by market participants, particularly investment banks and traders of physical oil.

In both cases, the popular outcry is based upon misconceptions as to what has actually been going on. The good news in the oil market at least is that the manipulation which is being revealed is nowhere near as serious in its effects on the general public as is believed. The bad news is that the true manipulation, as yet still concealed, is far more serious than anyone has yet conceived.

They shoot horses, don’t they?

The current LIBOR pogroms are the regulatory equivalent of flogging a dead horse. The Interbank money market in wholesale lending had a heart attack in 2007 and essentially died in October 2008 with the collapse of Lehman Brothers. The money market is now on life support directly to central banks and to all intents and purposes there is no independent Interbank Market in money and there never will be again.

LIBOR is dead, and the markets are moving on.

The Brent/BFOE crude oil market benchmark, on the other hand, has been in failing health for a long time as the North Sea oil production upon which it is based has been in secular decline. Despite the best efforts of Platts – the Price Reporting Agency who are getting most of the flak – the market is at the point where if it were a horse it would be put down.

Market Manipulation

A regulator friend of mine used to joke that since excessive market manipulation is a US felony, the implication is that there is such a thing as ‘acceptable’ market manipulation. My response was that trading might be defined as ‘acceptable market manipulation’.

While producers desire a stable high price, and consumers desire a stable low price, for a trading intermediary who aims for transaction profit, price stability is Death, and the only bad news is no news at all.

I am not familiar enough with the endemic LIBOR manipulation to say much about the victims and their losses. But I can say that from its inception in the mid-1980s crude oil trading and the associated fun and games in the Brent/BFOE complex of contracts have taken place entirely among consenting adults. The outcome of the routine short term ‘micro’ manipulation by oil market participants has been pretty much a zero sum game between trading intermediaries.

Some of these middlemen are traders of physical oil like Vitol and some of them are the ‘Wall Street Refiner’ traders in investment banks such as Goldman Sachs. There have been no direct effects from these continuing trader games on the man in the street, but there are indirect effects such as the higher cost of energy investment arising out of unnecessarily high market price volatility.

Whenever producers or consumers can gain market power, through some kind of leverage, to either support or suppress prices in the medium and long term, then they will. The history of markets is full of examples of such ‘macro’ market manipulation and while LIBOR is among them, that is only now of historic interest, now that the market is dead.  In crude oil, on the other hand, we are approaching the end of the greatest macro market manipulation in the history of commodity markets, by comparison to which Yasuo Hamanaka’s $2bn manipulation of the copper markets through Sumitomo is a car boot sale.

Cui Bono

Ask yourself who benefits from high oil prices? It’s the producers, stupid. From 2005 onwards a market bubble in crude oil has been deliberately created. This has been achieved opaquely through use of the Prepay funding used by Enron to sell commodities at a discount for cash now, and deliver them later.

Creditors and investors who were unaware of Enron’s ‘off-balance sheet’ liabilities were misled as to the true financial position and were thereby defrauded. Most oil market participants have been similarly misled as to the true position in the oil market through the use of prepays by producers, funded by passive investors.

In simple terms, risk averse investors have lent dollars to producers, and producers have lent oil to investors.  None of the resulting changes of ownership of oil in the physical market were visible to other market participants, and the price has become a completely distorted and financialised bubble as a result.

The bubble first collapsed during the second half of 2008 from $147 to $35 per barrel and it was then re-inflated in 2009 through the use of prepays, facilitated by US investment banks to the benefit of producers.  Oil prices have since been kept pegged as far as possible between levels which: (a) do not endanger US presidential re-election; and (b) enable producer populations to be financially anaesthetised.

A key element in the evolution of this macro manipulation has been that banks as financial intermediaries are no longer capitalised to take risks in the way that they could and did prior to the collapse of the banking system. The outcome has been that market risk – i.e. the risk that the oil price will fall – is no longer held by the banks but has been transferred to passive and risk averse investors.

The motive of passive investors is not the speculative desire of active investors to make a transaction profit, but its very opposite: the desire to avoid loss. So they invest in oil funds in order to offload the risk that the dollar will depreciate in value relative to oil. Unfortunately, they are blithely unaware that they have a massive market risk if the oil price falls in a market ‘bust’, as it did in 2008; has recently been doing; and will continue to do at least until the end of the year. This is a regulatory accident waiting to happen.

Napsterisation

The direct ‘Peer to Peer’ connections between producers and consumers which were first demonstrated by the music file-sharing phenomenon Napster have also been evident in the financial markets for some time through Peer to Peer lending businesses such as Zopa, and the new phenomenon of ‘crowd-sourcing’ of investment and donations.

But it is not widely understood that in financial services, the transition of middlemen to a role as service providers managing risk, business platform and direct P2P relationships is actually in the interests of the middlemen themselves. The reason is that when credit or market risk is with end users, then the only capital needed by service providers is the limited amount necessary to cover operating costs.

This is precisely why, since 2008, investment banks starved of capital have been originating and selling the new generations of funds responsible for the bubbles, where the market risk is with the investors, and not the banks. Unfortunately they have also been able to prey upon end users through their privileged ‘asymmetric’ access to markets and market data and through trading such as ‘High Frequency Trading’ (HFT).

Intermediaries are also responsible for short term micro manipulation, but they are not directly guilty of the macro manipulation of markets which has inflated the medium and long term market price because they simply do not have the capital to invest in this way anymore, even if regulators allowed it.

The End Game

Once the current bubbles collapse, which is only a matter of time, I believe that we will see markets evolve to the next ‘adjacent possible’, which will be the widespread – and necessarily transparent – use of direct Peer to Peer relationships through a new generation of market instruments, of which Enron’s Prepay was the first.

This return to what is in fact an ancient form of financing and funding will complete a cycle which began some 300 years ago when modern money and capital markets began with the foundation of the first Central Banks and the wave of Joint Stock Companies which financed and funded the Industrial Revolution.