Brexit: The Future of Financial Regulation and Supervision (European Union Committee Report)
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The Minister of State, Department for International Development (Lord Bates) (Con)
My Lords, I join other noble Lords in paying tribute to the noble Baroness, Lady Falkner, for this report. I came in, having read the report, thinking that it was an outstanding piece of research and teamwork, that the level of support that had been secured was outstanding and that its conclusions were clear, as were its questions. As the Economic Secretary, John Glen, made clear in his 18-page response to the report on 19 April, it has been extremely helpful. However, when I heard what I will call the varying views of the committee that have been articulated during the course of this debate, I grew in admiration for the noble Baroness and the way in which she had managed to corral these views into such a concise and clear report.
I am also conscious that this is the second report that the sub-committee has produced on this issue. I was delighted that my noble friend Lady Neville-Rolfe was able to take part in this debate, because she responded to the debate on the previous report in February last year. I am not sure whether the analogy should be poacher cum gamekeeper or gamekeeper cum poacher—
Lord Bates
I will not go there, as my noble friend Lord Hunt urges—I always follow his advice.
It has been an extraordinarily good debate. The noble Baroness, Lady Falkner, led us off by looking at the regulatory and supervisory architecture. My noble friend Lord Lindsay then looked at market mutual access and spelled out how it was in the UK’s and EU’s interests that that should continue. The noble Baroness, Lady Liddell, reminded us that the financial services industry extends way beyond the City of London and that Edinburgh is a major centre, as is Leeds. The Chancellor of the Exchequer recently visited both those cities and met people involved in financial services. It also extends into places such as Bristol, Norfolk and Bournemouth. The industry really is a focus of strength for the whole UK.
My noble friend Lord De Mauley pointed out that regulatory challenges can also be opportunities, and he cited developments such as the adoption of the FCA regulatory sandbox. I felt that at points the noble Lord, Lord Liddle, dragged us back to a Second Reading of the European Union (Withdrawal) Bill and I got deeply—no, perhaps I will not say what I felt about that. However, I want to focus on a point on which we do agree, which is the vital importance of the industry, with the £60 billion trade surplus in financial services and the mutual benefit that it brings. The noble Lord, Lord Bruce, raised a very important point about the continuation of existing contracts which many consumers rely on, and I will come back to that later.
My noble friend Lady Neville-Rolfe talked about international co-operation and reminded us that the global architecture extends well beyond the EU. Of course, we can play a major role in the G7, the G20 and the OECD. The noble Lord, Lord Davies, talked about issues such as Solvency II and passporting, which, in his view, had been working particularly well, but his challenges to the report’s conclusions were heard. The noble Lord, Lord Desai, pondered whether rational self-interest would have a determining effect and questioned whether EU negotiators would recognise the importance to the EU of the City of London as a venture. The noble Baroness, Lady Kramer, talked about the potential challenges for the continuation of financial services and regulatory supervision. The noble Lord, Lord Davies of Oldham, concluded by reminding us of the burdens which taking back these regulatory powers will have on Parliament and how that regulation will be undertaken. I will come back to some of the questions that were raised, but it has been an extremely helpful debate.
The UK is home to the world’s pre-eminent global financial and professional services centre, in part because of smart regulation and supervision that have tread a careful line between allowing businesses to flourish, and protecting consumers and financial stability. In the latest iteration of the Z/Yen Global Financial Centres Index, produced in March 2018, London again ranked first. That was not pre but post the referendum and post the triggering of Article 50. No other European city was in the top five. We want to preserve the world-leading position of our regulatory architecture and of our regulators. We are committed to high regulatory standards, and Brexit will never mean ripping up the rule book or a race to the bottom.
To sustain the level of cross-border activity between our firms and Europe’s businesses and consumers, we need a relationship that is robust enough to give confidence to those on both sides. We cannot rely on the EU’s existing equivalence framework, as has been mentioned. It is unilateral, piecemeal and unlikely to preserve and deliver much regulatory comparability over time. We need to agree a more comprehensive and stable bilateral deal that recognises the unique nature of the UK-EU future relationship. Paris and Frankfurt will not be the winners of market fragmentation; the winners will be centres such as New York and Singapore. We are aiming to shape a regime to manage future regulatory change that ensures that, although our rule systems might evolve separately, we deliver fully equivalent regulatory outcomes, maintaining commitments to support open markets and fair competition.
The Chancellor has set out a clear vision for our future relationship with the EU on financial services. This has been well received by the industry, and we are beginning to hear voices within the EU recognise the value of our proposition. Our vision is grounded in mutual recognition of equivalent regulation, with a dialogue on setting regulatory requirements and having supervisory co-operation arrangements that are reciprocal and reliable, and an independent arbitration mechanism to provide durable dispute resolution. Reaching agreement on this does not need to be a challenging objective—our rule books are already aligned and our markets are already deeply interconnected. We continue to ensure that our exit from the EU will be smooth and orderly. We made a big step forward in agreeing the legal text on the implementation period, which will keep market access on existing terms for firms and consumers.
Looking to the future, as the report notes, there are opportunities for the financial services sector to become more outward facing. The UK already has world-leading positions in the markets of the future, including fintech, for which we have developed what we call fintech bridges to other jurisdictions—most recently Australia. A recent report cited the prime centres for fintech around the world as Silicon Valley, Shanghai and the City of London, again underscoring the strength of our position.
We are world leaders in green and sustainable finance, or rupee and renminbi products, and we are committed to strengthening that position further. That also means expanding our bilateral relationships with key partners around the globe, including our economic and financial dialogues with China, India, Brazil, Korea, Hong Kong, Singapore and Japan. There are enormous growth opportunities for the future.
I shall now turn to some of the questions raised during the debate. The noble Baroness, Lady Liddell, and my noble friend Lady Neville-Rolfe referred to international bodies and standards. The Government remain committed to the full, timely and consistent implementation of agreed international standards. The UK is an active member of several international standard-setters, including the International Monetary Fund and the Financial Stability Board. The Government believe that continued participation in these organisations is essential to ensure the consistent adoption of international regulatory standards.
My noble friend Lord Lindsay and the noble Baroness, Lady Liddell, made a point about rule-taking or rule-making. Because of the size of the UK’s financial services market, the complexity of the products traded on it and the consequent risks to our taxpayers, we cannot sign up to accept automatically as yet unknown future rule changes. We must have the ability, if necessary, to deliver an equivalent outcome by different means while protecting UK taxpayers from potentially unacceptable risks. The noble Baroness, Lady Liddell, and my noble friend Lady Neville-Rolfe talked about continued access for skilled workers. We have repeatedly made it clear that we do not regard the referendum result as a vote for the UK to pull up the drawbridge. On the contrary, the UK will remain an open and tolerant country—one that recognises the valuable contribution that migrants have made to our society, especially in the realm of financial services.
The noble Baroness, Lady Falkner, asked about the transition period. We have now reached an agreement on the implementation period. This agreement and the statements made by the Bank of England and the FCA give business confidence about the future arrangements that will apply immediately after the UK’s exit.
Furthermore, our regulators have announced that they are prepared to act to enable firms accessing the UK from the EU to continue to operate in the UK without having to apply for UK authorisations for the duration of the implementation period. But we cannot provide full reassurance to firms on our own; we need a bilateral solution with the EU to resolve hugely important issues such as continuity of contracts.
The noble Lord, Lord Bruce, raised particular points on contracts. The Financial Policy Committee estimates that 10 million UK policyholders and 38 million EEA policyholders could be affected by these changes. There is a shared interest for both the UK and the EU in ensuring that we avoid outcomes that impose unnecessary costs and disruption on individuals and businesses. That is why we are focused on agreeing a deep and special future partnership with the EU. But of course, as a responsible Government, we continue to plan for all scenarios. It is vital that we work with our EU partners to put technical arrangements in place to avoid market disruption. Furthermore, the Treasury announced on 20 December 2017 that it would legislate if necessary to ensure that contractual obligations of EU firms with UK-based customers, such as those in insurance contracts, can continue to be met.
The noble Baroness, Lady Kramer, questioned whether it was unrealistic to include financial services in a free trade agreement. All the EU’s recent free trade agreements make provision for financial services, from CETA to Japan, and the need for a close relationship is even more important for two markets as intertwined as ours. In the TTIP negotiations, the EU even pitched a relationship based on mutual recognition of regulations and a dialogue on aligning future regulation.
Financial services firms across the UK have confidence that the Government are committed to leaving the EU in a way that underpins prosperity and avoids unnecessary disruption and dangerous cliff edges for businesses across the UK. We are making significant progress, and this has been well received by the industry. Since December we have reached agreement with the EU on the implementation period. We have agreed a technical dialogue on cliff-edge risks, to be led by the Bank of England and the European Central Bank, and the Chancellor has set out a clear vision for our future relationship with the EU on financial services. These measures have been well received by the industry in the UK. We continue to work closely with businesses located throughout the United Kingdom to ensure that they are prepared for a smooth and orderly withdrawal from the EU. We will continue to do that and remain grateful for the quality and contribution of this report to that effort.
Baroness Falkner of Margravine
My Lords, I thank all noble Lords who spoke in this debate. Naturally, noble Lords would expect me to be extremely grateful to members of the sub-committee who spoke, but I am also particularly grateful to noble Lords who are no longer members of the sub-committee and to those who have never been members. Their remarks are truly the important ones. I also know that there is another debate and many noble Lords have been sitting here patiently waiting for that to commence, so I will restrict my closing remarks to non-members of the sub-committee —and I will keep them brief.
The noble Lord, Lord Liddle, was extremely critical. I think he is no longer in his place but I will continue.
Lord Bates
The noble Lord apologised that unavoidably he had to leave the Chamber.
Baroness Falkner of Margravine
For the record, the noble Lord was critical that we took for granted single market withdrawal. All I would say is that he should read our 2016 report, Brexit: Financial Services, chapter 2, where we cover all the alternative arrangements. So in that case he was shooting the messenger unnecessarily.
The noble Lords, Lord Liddle and Lord Davies of Stamford, and my noble friend Lady Kramer did not at all like our identification of mutual recognition as a solution that had been raised by our witnesses, not least by the IRSG and several others. They, too, are shooting the messenger. If they had glanced at paragraphs 60 to 63, they would have seen that we have our own reservations about achieving that. We say, in terms, that we need more detail and decisions from the Government on how they intend to proceed—if in fact that is the Government’s position. With his usual objectivity and fairness, the noble Lord, Lord Davies of Oldham, acknowledged that.
The noble Lord, Lord Davies of Stamford, warned us that he was extremely blunt. He knows me well enough to know that I will reciprocate, although rather more softly. I will pick up two points that he made. He said that we were too kind to our regulators as they were tainted by scandals. In the examples that he gave, he omitted to mention that they took place under mainly the watch of a Government whom I believe he was a part of until 2010. They persistently seemed to believe in light-touch regulation. Our belief is that the old tripartite system that has now been replaced by the twin peaks of dual regulation by the FCA and the PRA is rather more robust and resilient. But that is not to say that I believe that banks will never fail. All I am confident of is that the new system will prevent wholesale contagion and a risk to the UK economy overall in terms of the risk to financial stability. In that respect, we should be much more confident of our new system.
Indeed, I know that Members of this House who served on the Parliamentary Commission on Banking Standards helped to create the new system. I believe that my noble friend Lady Kramer was a member of that. So let us have a little more confidence in the new architecture that we have put in place. It has been going for some years and we took our evidence in light of the current framework, not the framework that existed before 2010.
Both the noble Lord, Lord Davies, and my noble friend Lady Kramer commented on how UK institutions were somehow worse than others in terms of the UK institutions’ lack of probity and prudence. I did a quick Google check and I will not detain the House with my findings—we can have a bilateral meeting outside the Chamber. But I can say to the noble Lord rather confidently that Société Générale and BNP Paribas, to mention just two—I am leaving aside Deutsche and all the others—have had whopping fines imposed on them in the period since. So let us not just call out our own institutions. Let us accept that a financial system under a capitalist model will always carry some risk. Let us try to see where regulation can be improved and where it needs to be more resilient and sustained. That is what we were trying to do in this report, in looking forward to how supervision and regulation will take place after we leave the European Union.
It has been a pleasure to take part in this debate. But, above all, it was an incredibly stimulating experience to have conducted this inquiry as chair of the committee. I would just remind the House of the words of the noble Baroness, Lady Liddell, who said that, in deliberating what we found in this report, we were unanimous as a committee in coming to the conclusions. That is the way it should be. It is a very grown-up committee, where the members recognise that and behave accordingly. It has been my pleasure to chair the committee. I beg to move.