The Financial Secretary to the Treasury (Greg Clark)
I beg to move,
That the draft Bank of England Act 1998 (Macro-prudential Measures) Order 2013, which was laid before this House on 24 January, be approved.
One of the most significant failings of the previous system for regulating financial services was the lack of clear responsibility for financial stability. It has been all too easy for the identification and management of risks to financial stability to fall in the cracks between what those organisations believed were their respective roles in protecting and promoting stability in the financial sector. That confusion was a key contributing factor to the emergence of the financial crisis in 2007. None of the institutions involved was effectively horizon-scanning to identify macro-prudential risks to stability across the financial system.
In the light of those failings, the Bank of England Act 1998, as amended by the Financial Services Act 2012, gave the Bank of England clear responsibility for financial stability. To support that objective, the Act creates a new committee of the Bank, the Financial Policy Committee, with the role of identifying, monitoring and managing systemic risks to the UK financial system. In order to carry out that role, the FPC will need macro-prudential measures to mitigate the risks to stability it identifies. The FPC will act through the regulators, which work directly with financial institutions.
The FPC will do that in two ways: first, through recommendations, which can be made to the regulators, to industry, to the Treasury, within the Bank and to other persons; and, secondly, through directions that can be given to the Prudential Regulatory Authority and the Financial Conduct Authority. The FPC’s direction power is governed by the measures set out in the order before the House. The regulators must comply with a direction, but they will have discretion over its timing and implementation method.
Before discussing the measures that will be granted to the FPC, it is worth noting that there is an international consensus on the need for macro-prudential regulation. International regulations such as Basel III and the capital requirements directive IV go some way towards establishing minimum standards while retaining room for national discretion, although areas such as the leverage ratio remain under discussion. The UK strongly supports the ability of national supervisors to exercise discretion where appropriate.
In February 2011 the Government and the Bank established an interim FPC to undertake, as far as possible, the work of the statutory FPC ahead of the passing of the relevant legislation. One of the tasks set for the interim FPC was to analyse and recommend macro-prudential measures over which the statutory FPC would have direction-making powers.
Mr Andrew Tyrie (Chichester) (Con)
The Minister has just mentioned the leverage ratio. There are two crucial issues: first, the leverage ratio should be firmly in the hands of the FPC, not the Government; and, secondly, the UK should be able to act unilaterally, rather than necessarily having to wait indefinitely for international agreement—we should not move at the speed of the slowest. Indeed, the United States demonstrates how necessary that is. Does the Minister agree with that sentiment and, if so, why is that not reflected in what he is announcing today?
Greg Clark
As my hon. Friend knows, that has been a matter of much debate in the Treasury Committee and the Banking Commission, both of which he chairs. It is appropriate to have regard to the international debate on this. There is a difference between the debate on the leverage ratio and the two other tools that we will move on to talk about, the sectoral capital requirements and the counter-cyclical buffer, over which, it has been established internationally, there should be domestic discretion. We are not at that stage with the leverage ratio, as he will know, but I can certainly confirm to the House that the Government’s intention is to provide the FPC with a time-varying leverage ratio by 2018, subject to a review by the European Banking Authority, which is planned for 2017.
Chris Leslie (Nottingham East) (Lab/Co-op)
I am intrigued by the Minister’s 2018 commitment, but would it not make good and prudent legislative sense to take the opportunity in the draft Financial Services (Banking Reform) Bill, which will arrive in the House imminently, to insert provisions that would allow the leverage ratio to be triggered sooner if there is a delay in the international discussions?
Greg Clark
We do not expect such a delay. The discussions are continuing and are live, as we know, so we do not expect to need that, but of course it is open to the House as it debates the Bill, presumably at some length, to keep that under review as the discussions progress.
The statutory instrument we are debating today relates specifically to the ability to set sectoral capital requirements. I will deal with that tool first before briefly covering the others. The interim FPC recommended that the statutory FPC should have a power of direction to vary financial institutions’ capital requirements against exposures to specific sectors over time. It argued that the over-exuberance that precedes crises often begins in specific sectors before spreading further. The Government agree that this targeted approach would allow these risks to be managed more effectively and proportionately than raising capital requirements more generally. The FPC has stated that it would wish to avoid what it terms an
“overly activist, fine-tuning approach”,
which should limit this risk. However, there may be times when using the tools in a granular way may be necessary, so the Government will keep the use of this tool under review to ensure that it is being used effectively and proportionately. There is also a risk that imposing sector-specific requirements could displace excessive risk into other sectors, so the FPC will need to monitor carefully the impact of any policy interventions using this tool and perhaps consider adjusting more general capital requirements if displacement turns out to be a significant problem.
I should take this opportunity to bring to the House’s attention the one change that the Government have made to the order following the consultation that we undertook on the draft version that was made available for that purpose. The current order excludes investment firms that are not regulated by the PRA from the FPC’s power. This will ensure that systemically important firms are captured while smaller firms that are not systemically important will not be subject to additional requirements.
Let me discuss briefly the other macro-prudential tools that the Government intend to give the FPC: the role of setting the UK’s counter-cyclical capital buffer; and, as we have briefly discussed, the power to intervene to limit leverage ratios. These are not covered by the draft order, but it might be useful if I provide a bit of context to the debate. The counter-cyclical capital buffer is part of the Basel III agreement, and it will be implemented in Europe by the capital requirements directive, commonly known as CRD 4. The directive aims to ensure that banking sector capital requirements take account of the macro-financial environment in which banks operate. It will be deployed by national jurisdictions when excess aggregate credit growth is judged to be associated with a build-up of system-wide risk to ensure that the banking system has a buffer of capital to protect it against future losses. Banks, building societies and larger investment firms will be required to build up capital during upturns. This will help to increase the resilience of the financial system and might also dampen the credit cycle. Unwinding these requirements in the downturn once the threat has passed might help to mitigate contractions in the supply of lending.
It is clear that with its macro-prudential focus, the FPC will be the body best placed to determine the level of the counter-cyclical capital buffer. This was supported by the results of the Government’s consultation. As the counter-cyclical capital buffer is expected to be provided for in CRD 4, on which discussions are continuing, the simplest way to incorporate it into UK law is via regulations made under section 2(2) of the European Communities Act 1972 to transpose into UK law the provisions of CRD 4 which relate to the counter-cyclical capital buffer.
It is vital that the FPC’s decisions in relation to the counter-cyclical capital buffer should be subject to comparable procedural and reporting requirements to the FPC’s other tools. Therefore, in addition to the requirements imposed by the EU legislation, the Government intend to ensure that the counter-cyclical capital buffer will be subject to the same transparency requirements as other FPC decisions, with a summary of the FPC’s discussions when taking decisions on the buffer set out in the FPC’s meeting records, and the FPC’s use of the buffer covered in the biannual financial stability report. The Government will make any necessary changes to achieve this in the regulations that incorporate CRD 4 into UK law.
The interim FPC recommended that the statutory FPC should have a power of direction to set and vary a minimum leverage ratio. The Government think that a leverage ratio could indeed be a useful macro-prudential tool for the FPC. The unweighted nature of the measure would guard against risk weights underestimating the true riskiness of assets and provide a directly comparable figure across firms. Firms’ leverage ratios were a useful indicator of failure during the last crisis, and the period immediately preceding the crisis was characterised by sharp increases in leverage. The Government strongly support the inclusion of a backstop leverage ratio in the EU prudential toolkit and consider it an essential measure to ensure that leverage remains at sustainable levels. It is clear that there is some way to go, but the review in 2017 will address that, and it will not be implemented across the EU until 2018, so we have some time to consider it.
Greg Clark
The discussions on those need to proceed separately—I think that the Financial Services (Banking Reform) Bill Committee will have some vigorous discussions—but the order relates solely to the sectoral requirements.
The Government will, of course, be able to add to the suite of macro-prudential tools in the future by further order, subject to the approval of this House and the other place. At the moment, we believe that the measures I have described are appropriate and sufficient starting points for the FPC. The Government expect the tool kit to adapt and evolve as the international debate and academic literature on the subject develops and empirical experience becomes more widely available. We expect the FPC to make recommendations to the Treasury if its macro-prudential measures require amendments or the addition of new measures is required. I hope that my explanation has been helpful.
Mr George Mudie (Leeds East) (Lab)
I rise to put two points to the House. First, I object to the statutory instrument on a matter of principle, which I will outline. Secondly, I want to ask the Minister why he included residential property among the first prudential tools. Some of the tools make sense—including commercial, and, obviously, investment and financial services—but the residential property one does not.
Specifically, I object to how we are dealing with discussion, debate and decisions on the macro-prudential tools. I have constantly raised the matter in the Treasury Committee and the Independent Commission on Banking, and I have raised it on the Floor of the House with the Chancellor. As my hon. Friend the Member for Nottingham East (Chris Leslie) said, these can be seen as boring matters, but it is accepted that they could lead to decisions that affect the standard of living of many of our constituents; affect the future of industries such as the construction industry; and affect the economy. The decisions will be taken by non-elected individuals and tonight appears to be the House’s only opportunity to debate and challenge the measures.
The matter is being dealt with by statutory instrument. In other words, we have 90 minutes to discuss the measures and cannot amend them. We can only vote against the whole measure if we disagree with it or feel strongly about any part of it. The measures are proposed by the Government. If Opposition Members have strong feelings, they have only one chance to influence the decision, and they must turn down the whole order. That is a nonsensical procedure.
I have raised the matter with the Chancellor of the Exchequer in the Chamber. He indicated that he understood the measure’s sensitivity and importance and that he had an open mind. He accepted that the usual channels would deal with it. I pay tribute to him for placing the order on the Chamber’s agenda rather than dealing with it upstairs in Committee in the normal way. That is a step forward. The FPC is made up of unelected individuals, but they set policy, so the statutory instrument is a pretty disgraceful way to deal with the matter. Statutory instruments and secondary legislation are not supposed to deal with policy or principle—they deal with measures that need to be adjusted as time passes. They are not a way to decide things of such importance.
The Treasury Committee raised the matter with the Minister when they discussed macro-economics. He seemed to accept what we said and I have a quote if he challenges me. However, his approach to the question—sadly, because he is a well regarded Minister—was this: “We’ve appointed these individuals and should not second-guess them.” That is a recipe for disaster.
The Treasury Committee yesterday heard evidence from the Monetary Policy Committee, including officers and non-executives from the Bank of England. It was a hairy meeting, because those individuals take decisions, but there was no sign that the battle of inflation is definitely winning the argument against the battle for growth. If we read the words of the former Chancellor, my right hon. Friend the Member for Edinburgh South West (Mr Darling), and see the present Chancellor, we can see the difficulty they have had in getting so-called independent bodies to accept the sensitivity of some of their decisions. It is an impossible task. The bodies shelter under their independence. Both Chancellors have experienced this, and if they want bodies to do something they feel is necessary, the issue of independence is thrown back in their face: “You gave us independence and therefore you should not interfere”. I am worried about this issue, which is why I am taking the opportunity to put it on the record.
On residential matters, to which my hon. Friend the Member for Nottingham East referred, one of the macro-prudential tools discussed in the Financial Policy Committee and dropped was loan-to-value mortgages. Most of us were pleased when that was dropped, but it was a runner and was being discussed in Financial Services Authority circles for some 18 months. I am certain, from watching the industry, that that had a great effect on the industry’s decisions—it was trying to second-guess the FSA. The business of 90% and 80% mortgages had a devastating effect on individuals and couples who were trying to buy a house and begin family life. They were unable to take that step because the regulator was signalling to the regulated that they should be going in the direction of 90% and 80% at a time when the economy was dying for the construction industry to pick up and start building houses, which would have had a roll-on effect of people buying carpets, furniture, curtains and so on. The regulator was conditioning the decisions and behaviour of the regulated—it is that sensitive.
On a higher level, we are going through this business with the Monetary Policy Committee. As someone said—maybe in a crowded House this might have an effect—when an individual or a couple cannot get a mortgage, they do not blame the building society. When the building societies say it is the Monetary Policy Committee, they come to see us and we say it is the Monetary Policy Committee. The ordinary person in the street will ask, “Who set up the Monetary Policy Committee? Who is it answerable to?” It is answerable to us, but it is not really answerable to us because there is no real opportunity to make things happen. A yearly remit from the Chancellor is hardly a procedure for democratic accountability, and we are prevented from dealing with these matters on the Floor of the House in order to indicate our displeasure and unhappiness. I see the Treasurer of Her Majesty’s Household, the right hon. Member for Uxbridge and South Ruislip (Mr Randall), a very prominent member of the usual channels sitting in the Chamber. I hope he is listening to this debate and gets people to think about it.
I want to ask the Minister why on earth residential property was placed in the initial order. This is 2013. The Minister is as anxious as I am—probably more than I am—to see houses being built and sold and the whole procedure started. There is no question of any systemic risk in the foreseeable future. Even when the problems were at their worst, there was no systemic risk, just an industry with problems. I accept that some banks that had over-extended on their loans had real problems. I accept the point about the commercial side and the likes of RBS and HBOS—it was on a greater scale and of greater concern than on the residential side—and the point about investment and financial houses. However, for the MPC to start worrying—in shades of the FSA—about systemic risk in the construction industry spreads unnecessary alarm.
Mr Mudie
I see the Minister nodding. I am sure that he will explain, but that is the sort of thing I am talking about. If the loan-to-value ratio had been in this statutory instrument—if the interim FPC had stuck at it—I think this place would have been full and the Minister would have had little choice but to allow the thing through. None of us could have tabled an amendment stating how important it was that the rest of it went through; as politicians and constituency MPs, we would have had to vote against the whole thing to prevent it from happening. I hope that the Minister will consider both those issues.
Greg Clark
Let me respond to the points made by the hon. Members for Nottingham East (Chris Leslie) and for Leeds East (Mr Mudie). They made some thoughtful points about the House’s ability to scrutinise the powers that will be available to the FPC, particularly those relating to residential mortgages. Their comments went to the heart of the dilemma behind the setting up of these institutions and powers. The purpose of macro-prudential policy is—to adopt the analogy often used—to take the punch bowl away from the party just when the guests are getting over-exuberant. For the first time, there will be a group of people with the explicit task of monitoring conditions and taking a considered view of what is in the interests of financial stability but which might not be at the forefront of the minds of the people participating, either as practitioners, commercial players or politicians.
The hon. Member for Nottingham East acknowledged the consensus on the need to set up these institutions of macro-prudential policy, but that does not take away from the fact that their establishment is designed deliberately to introduce a necessary tension into the debates. The question arises, then, of whether these powers can be exercised appropriately—for example, whether the House has appropriate scrutiny and discretion over them.
One reason why we have initially given the FPC a minimal—I think he will agree—set of powers through a statutory instrument being debated on the Floor of the House is that these things should be properly scrutinised. We timed this debate so that it could follow the hearing of the Treasury Select Committee, of which the hon. Member for Leeds East is a member and which has considered this matter in recent days. Our intention is that these things should be properly scrutinised and well considered. It is for the Government to bring forward proposals about what the tools should be. Future proposals will be put before the House, and Ministers will be accountable to the Committee and the House. Indeed, the statutory instrument is available for debate. As the hon. Members would acknowledge, we have not loaded it with so many different provisions as to give the House a Hobson’s choice.
Mr Mudie
As a member of the Treasury Committee, I hear it said all the time that we have the ability to scrutinise, and that people are accountable to us. That carries little weight with me; it does not impress me. This is ultimately a question of who takes the decisions when a Minister or a Chancellor—such as the last Chancellor—going through a crisis meets an unelected Governor and asks him to do something in the interests of the economy and the future of the country, and the Governor says no. That is what we are talking about.
Greg Clark
Let me go on to describe some of the other elements involved. I said that we had committed to bringing to the House particular measures that could be debated. The hon. Gentleman has anticipated one such possibility. He was correct in suggesting that, if we had been proposing a power over the loan-to-value rate, the House would have been substantially more occupied than it is at the moment, that such a matter would engage Members and that there would have been a fuller debate on the matter. However, this is not the only mechanism by which scrutiny can take place.
The secondary objective of the Financial Policy Committee has been mentioned. Through the scrutiny of the House and of the hon. Gentleman’s Committee, that objective has been set up, and it means that the FPC’s duty to support the court of the Bank of England in achieving its financial stability objective is subject to supporting the policy of Her Majesty’s Government, including their objectives for growth and employment. That is significant. That power is there for a reason, and we expect it to be used. It requires the Chancellor of the day to write annually to the FPC to set out what he expects it to have regard to in making its decisions. The House will have the ability through that mechanism to scrutinise and take a view on whether Ministers—in this case, the Chancellor—are giving the right directions to the Committee in terms of what it should understand the Government’s economic objectives to be. I believe that the mention of growth and employment will address one of the concerns that has been raised.
It is worth noting that the measures we are talking about relate to peacetime; they are not for use in a crisis. The Chancellor will retain the ability to give directions to the Bank in a time of financial crisis, for example, when that is in the public interest. The measures before us are for use in the normal course of events.
There will also be a requirement on the FPC to account for its decisions. It will appear before the Treasury Committee after it has held its meetings and published its reports, and it will have to explain the basis of its recommendations and directions. It has made a commitment to setting out in advance the types of indicators that it will bring to bear on those questions, so there will be no arbitrary use of discretionary powers. The committee will seek to be predictable in regard to the types of instrument that it will use.
On the format of statutory instruments, the parliamentary Delegated Powers and Regulatory Reform Committee will take a view on whether the choice of procedure is appropriate. I think that the hon. Gentleman will approve of the fact that the affirmative resolution procedure is to be used in these circumstances.
Let me address the hon. Gentleman’s point about residential property, which is of course a matter of interest to our constituents. It has been pointed out that all these matters have a bearing on our constituents. I think he would acknowledge that any review of the recent financial crisis—and, indeed, of financial crises around the world—would note that housing bubbles are often associated with the kind of over-exuberance and excess that contributes to financial instability, which the arrangements that we have in place are designed to address. It is appropriate for the powers to be there. These sectors have been debated at the European level, and this is one of a limited number of sectors for which it is anticipated that the national regulators should have a sectoral power.
I think it important to note that the power to make recommendations and give directions is available to the FPC, but that there is no requirement that it should get in the business of micro-managing these sectors. It seems to make sense, on the basis of history, for this initial set of sectors to be included. The powers are there, as I say, but there has been some debate about whether they should be more specific in respect of loan-to-value powers, which is not part of the proposals. It is no part of the Government’s purpose, as the hon. Gentleman rightly anticipates, to prevent what we hope will be an increase in home ownership and house building as a result of the order.
Let me deal with some points raised by the hon. Member for Nottingham East. He forcefully made the point that we need an explanation from the Financial Policy Committee of why it is using its powers. This should not take place in a vacuum or in secret. I completely agree, and this is provided for in the Financial Services Act, as the hon. Gentleman, a veteran of the Committee, knows. Section 9S requires the FPC to give an explanation of the reasons for its use of direction powers, and the explanation needs to be published in the financial stability report and it needs to account to Parliament for its use of the powers.
Let me pick up one of the hon. Gentleman’s earlier points, which was not quite right. He mentioned credit card repayments, for example. The powers provided for in the statutory instrument do not go into that level of detail, and the FPC will not have those powers and they are certainly not in this order—and neither are the loan-to-value powers available.
The secondary objective addresses the hon. Gentleman’s point about the necessary symmetry of these arrangements. Macro-prudential regulation is certainly about damping down excessive exuberance when it takes place, but on the other side of the cycle, by retreating from some of the provisions by varying requirements downwards, it also has the power to reverse the dampening of those sectors.
Chris Leslie
I am sorry, but as I read the order, I note that it says that UK firms can be required to maintain “additional” funds, but there seems to be no provision to dial it down the other way. Have I misread the order?
Greg Clark
What I am referring to is the fact that if the requirements have been dialled up, they can be dialled down. That will be required. The fact that they are time varying precisely reflects the different conditions that will apply from time to time.
The hon. Gentleman mentioned the exemption for small firms, and he was quite right to raise the issue of what proportion of mortgages might be covered. To be clear— when he sees my remarks, he will be clear—the exemption applies to small investment firms. It is still the case that all deposit takers and banks, including building societies, will be within the scope of the power. That contribution will be recognised.
As to whether we should take the power—either through the order or, more likely, through the Banking Reform Bill or previous legislation on the leverage ratio, which is a live issue—it is already possible by order under the Financial Services Act to make provisions to vary the leverage ratio. Such an order would, of course, be subject to prior parliamentary approval. There is no requirement for additional primary legislation; the powers will be there at the time we expect to bring the provisions into force.
The hon. Gentleman asked about the penalties for contravening the views of the Financial Policy Committee. The committee makes recommendations to the regulators, and it is the regulators—the PRA and the FCA—who are responsible for implementing them. The hon. Gentleman will know—again, from the Financial Services Act—that considerable powers are available to the FCA and the PRA, in the form of regulatory sanctions, constrictions on firms’ activities, and unlimited fines. That is why the sector regulators have the powers of direction.
The hon. Gentleman raised a geographical point, asking whether the sectoral powers could be used to specify a particular area. The answer is that they could, if there were evidence of a particular problem in a particular area. However, as he will recall, there is a general requirement for the FPC to act proportionately, and one of the principles that has been agreed is that it should not become involved in the micro-management of these matters or in close detail. I consider it unlikely that it would make recommendations on a narrow geographical basis.
I hope that I have responded adequately to the points that have been made this evening. I gather from the Whips that I may have done so to the satisfaction of the House, and I hope that it will agree to the recommendations.
Question put and agreed to.
Resolved,
That the draft Bank of England Act 1998 (Macro-prudential Measures) Order 2013, which was laid before this House on 24 January, be approved.