The fallout from the crisis in the banking sector that prefaced the worst recession of modern times has brought with it greater scrutiny of the City and its role in the wider economy.

 

Only last week, Labour leadership candidate Ed Miliband argued that his party needed to “take responsibility for the fact that our economy was too significantly based around financial services.”

 

 

Full Fact has previously looked at the ways in which the relative size of the composite elements of UK industry can be judged.

 

But today one of the City’s biggest names hit out at the perception that his industry had become bloated.

 

Writing in this morning’s Times, Steven Hester, Chief Executive of the Royal Bank of Scotland noted that “it is a myth to believe that banking dominates the British economy”.

 

So should Mr Miliband reconsider his remarks?

 

 

At first glance, it would appear that Government data backs the Labour leadership hopeful.

 

The Office of National Statistics (ONS) ‘Blue Book’ reports that the financial sector accounted for 31.9 per cent of Gross Value Added (GVA) to the British economy. This is much larger than the second largest sector – distribution – which forms 14.1 per cent of economic output in this country.

 

However, as an ONS spokesperson told Full Fact, this doesn’t necessarily contradict Mr Hester’s assertion.

 

“Our definition of financial services is wider than just banking, and includes elements such as legal, IT and business services,” he said.

 

When looking specifically at banks and hedge funds, Victoria Redwood of Capital Economics told us that she estimated their share to be “closer to the 8 per cent figure” attributed to financial intermediation in the Blue Book.

 

This still means that the UK financial service sector is above the average size by GVA of OECD nations, as the chart below shows:

 

 

Whilst representing a much slimmer share of the British economy than financial and business services as a whole, this 8 per cent figure is still significant, representing a larger slice of GVA than agriculture, mining and public administration combined. So is it fair to say that it ‘dominates’ the wider economy?

 

In a recent speech, Lorenzo Bini Smaghi, a Member of the Executive Board of the European Central Bank, cautioned against such assertions.

 

“That “the financial sector is too large” simply cannot be an absolute claim …[as] it is relative to the point at which further enlargement leads to lower economic growth because of the emergence of bubbles,” he said.

 

“[Bank assets in the UK] stood at around 50 per cent of GDP until the 1970s, they rose to 300 per cent by 2000, and to 550 per cent by 2007. It is difficult to justify such expansion.

 

“For example, in 2007 the liabilities of Barclays exceeded the UK’s GDP…such financial institutions may not just be “too big to fail”, but in fact “too big to exist”,” he added.

 

These are concerns shared by the National Institute of Economic and Social Research’s Simon Kirby. He told Full Fact: “The scale of bank liabilities also depends upon household debts.”

 

“The problem with comparisons with other sectors of the economy is that when other industries fail, they don’t have a knock on effect on the wider economy,” Mr Kirby added.

 

 

As Mr Smaghi notes, there is always a value judgement to be made when assessing whether the financial sector of any economy is too ‘dominant’, and the conclusion reached will always depend upon the criteria chosen.

 

There is no doubt that banking in the UK does represent a larger share of economic activity in the UK than it does in most other developed nations, and that this share has been steadily growing in recent years.

 

Equally it is worth noting that rapid expansion in the size of the financial sector is not simply a British phenomenon, and that Ireland, the United States and Australia all sustain banking industries of equal or greater size.

 

The economic reach of the banking sector is certainly greater than in any other sector, meaning that the risk inherent in its assets depends to a greater extent on business and household debts. It is therefore fair to argue, as Mr Kirby does, that when the banking system fails as it did in 2007, the impact is such that it can be seen to be the ‘dominant’ economic concern.