(3 years, 1 month ago)
Grand CommitteeThat the Grand Committee do consider the Capital Requirements Regulation (Amendment) Regulations 2021.
My Lords, among other things, these regulations support the implementation of the Basel III standards in the UK. I will begin by reminding the Committee of the background to this issue.
I am sure that noble Lords agree that strong prudential regulation is vital if we are to ensure that firms have enough capital and liquidity to operate effectively through periods of economic stress. However, the 2008 financial crisis highlighted major deficiencies in international financial regulation. Following the crisis, the international community came together to remedy this situation by developing updated standards known as the Basel III accords.
The UK, as a member of the G20, is committed to the implementation of the Basel III standards, given their positive benefits to financial stability. Now that the UK has left the EU, we must implement many of these standards domestically for the first time. This includes rules on subjects equivalent to those contained in the EU’s second capital requirements regulation, known as CRR2. Many of these rules do not yet apply in the UK due to the EU’s implementation date falling after the end of the transition period.
The Financial Services Act 2021 enables the Prudential Regulation Authority to make rules updating the existing provision in the UK’s capital requirements regulation for Basel III standards—the CRR—where the Treasury has or will revoke the relevant provision of the CRR. The devolution of responsibility to the PRA for updating these rules reflects its expertise in prudential matters. This is combined with a more flexible and tailored approach that comes with having these regimes set out in regulator rules rather than in statute.
On some of the detail of the instrument, to enable the PRA to update the prudential regime to account for these new Basel III standards, this instrument exercises the powers contained in Section 3 of the Financial Services Act to revoke elements of the CRR and make consequential amendments. These revocations must be within the limits imposed by Section 3(2), which limits the provision to only revoking those parts of the CRR which need to be updated to reflect the new Basel standards, and anything that is connected to, or consequential to, those standards.
When it makes CRR rules, the PRA is subject to an accountability framework, under which it must consider the impact of its rules on a number of areas; the relative standing of the UK compared to other jurisdictions; lending to the real economy; and the Basel standards themselves. For rules made after 1 January 2022, the PRA will also need to have regard to the net-zero carbon target. Additionally, the PRA must consult the Treasury on the potential impacts of any rule changes on equivalence.
This instrument contains additional EU exit-related amendments to the CRR. These are required to ensure that the prudential regime continues to function as intended now that the UK has left the EU. This instrument makes an amendment to Article 497 of the CRR. This allows for the Treasury to extend a transitional provision for certain foreign central counterparties to retain temporary qualifying status. Qualifying status allows UK firms to use these CCPs without being subject to higher capital requirements. Were these CCPs to lose this status, they would become substantially more expensive, thereby reducing the likelihood of their use by banks. This amendment will allow for the transitional period to be extended by regulation one year at a time.
My Lords, as ever, I am grateful to the Minister for introducing this statutory instrument. Unlike the last item of business, which was largely a formality, these regulations represent a significant shift in how the Government and bodies such as the Prudential Regulation Authority ensure that domestic financial regulation is fit for purpose.
During the passage of the Financial Services Act 2021, we spent many hours debating the proposed shift away from the capital requirements regulations to the contents of regulatory rules made by one or more of the Treasury, the PRA and the Financial Conduct Authority. We were told that this was the most efficient way for the UK to implement the new Basel standards, given that the EU no longer does most of the work on our behalf.
Many colleagues were nervous about the new process. This is not because it was an inherently bad idea to set rules domestically, rather than to rely on and continue to amend bits of retained EU law; nor was our concern around giving the PRA and FCA further powers, even if that warranted a higher degree of parliamentary oversight. Rather, there was a legitimate concern about the potential for unintended consequences when large parts of the existing capital requirements framework are revoked at the stroke of a ministerial pen. Indeed, some parts of retained EU law are being swept away entirely, with no requirements for certain revoked provisions to be replaced.
I got to that point in my thinking and was seized by the fact that these are incredibly important regulations. In a sense, the presence in the Room is completely disproportionate to the importance of these regulations. As far as I understand it—I am not an expert in this issue—they are the regulations that secure the safety and stability of the financial systems. Therefore, I thought I had better give it a little more thought. I turned to a letter from John Glen. It was not sent to me; in simple terms, it was sent to my colleague in the Commons, Pat McFadden MP, but it includes me at the end. He sent me a copy of this letter, and therefore I take account of it. I quote the opening paragraph: “I am writing regarding the Capital Requirements Regulation (Amendment) Regulations 2021, which were laid on 12 July. This statutory instrument revokes elements of the UK’s capital requirement regulations to allow the Prudential Regulation Authority to make rules implementing the outstanding Basel standards.” That sentence seems to go to the essence not only of the SI but of the Financial Services Act we laboured over some months ago.
I read on. His next paragraph is all about taking away the rules relating to this area that were in statute, which is what we did with the Financial Services Act, and introducing the rules made by the PRA. It says: “The PRA near-final rules, which fill the space, have been published and you will be able to find them here.” The word “here” is a little blue thing with a line under it. By now I should have learnt that you do not press those, but I did, and I got to a six-page document, which had two parts. One was from 9 July, PS17/21, Implementation of Basel Standards. The other was from 12 February, CP5/21, Implementation of Basel Standards. As I understand it, the first is the current PRA policy and the other document was the invitation to consultation. Tantalisingly, having been introduced to this idea of near-complete rules, I found that the first appendix was:
“Near-final CRR RULES INSTRUMENT 2021”.
Once again I was daft enough to press this. While I had been shocked before, this really took my breath away, because the first page—I had the wit to print only one page at a time—said, in very light grey at the bottom, “Page 1 of 307”. I lost the will to live at that point. I thought: how do you scrutinise 307 pages?
I returned for inspiration to John Glen’s letter, in which he said: “I would encourage parliamentarians”—he is very optimistic using the “s”, I think, but still—“to consider these rules as part of scrutinising this SI. As we discussed during the passage of the Financial Services Act 2021, the PRA ran a consultation on its draft CRR rules from 15 February 2021 to 3 May 2021, which was open to all—businesses, public and parliamentarians—to respond.”
Those two paragraphs seemed to invite us to condition our approval of this instrument on the basis of what was to replace it. Once again, I felt that burden to see whether I could get any way to understand this document better. I am not sure how I got there, but I found a Prudential Regulation Authority document, policy statement PS17/21, Implementation of Basel Standards from July 2021. I thought: let us try that. I turned over the next page, and it has 84 pages. That has to be progress.
At this point, I ran out of time and energy. I thought, “We’re not going to turn this down. Four times since the Second World War, I think, has the House of Lords turned down a statutory instrument. What’s the point?” I thought, “A good compromise is just to read the overview.
I do not know how well the Minister copes with this stuff, but you have only to read the overview to realise that you need a degree in this language to understand it. I did flog through it and, in my ignorance, virtually everything I came across seemed reasonable until I came to paragraph 124. This disturbed me, because this SI is very important—the Minister may say that I have misunderstood its importance, but I think it is important. That paragraph refers to climate change. The world feels a bit rough at the moment—in everything from Afghanistan to the pandemic, it is not in a good place—but the problems we have now pale into absolute insignificance compared with what happens if we do not get climate change right. The odds are stacked against us, let us be realistic. In the UK, we are trying hard, but to get the big powers involved and get them to agree? It is pretty worrying.
I was greeted in paragraph 124 with the words:
“The PRA must also have regard to the target in section 1 of the Climate Change Act 2008 (carbon target for 2050) for rules made after Saturday 1 January 2022. As these rules will be final before that date, they are out of the scope of that requirement. In addition, during the consultation period for CP5/21, the Prudential Regulation Committee’s … remit letter was revised to recommend that the PRC should, where relevant and practical, have regard to the Government’s commitment to achieve a net-zero economy by 2050. As consultation was underway at the point the PRC’s remit letter was revised, the PRA could not consider this new have regard for these particular rules, as to do so would have caused an impractical delay to their implementation.”
That struck me as a real Sir Humphrey kick into the long grass. I was very worried that about the only paragraph I felt I could understand did not have the right feel about it. What is more, I was confused because at this point, for reasons I do not quite understand, I was inspired to read the de minimis instrument which is called for to prove that it is under £5 million per year. All it took account of was the time people took to read the document. It did not take into account the fact that if you get these things wrong, the impact on the financial system can be profound.
My Lords, I thank the noble Lord again for his very thorough analysis of an immensely complicated subject. I will try to address his two substantive questions. The first was on the scrutiny of PRA rules and regulations by Parliament. I assure the noble Lord that Parliament ultimately sets the regulators’ objectives, and it is right that Parliament has the appropriate opportunity to scrutinise the work of the regulators and their effectiveness in delivering the objectives that Parliament has set them. The letter the noble Lord referred to was clear that we set out a reasonably long consultation period earlier this year and had substantive responses from the key players in the sector, and we have responded to those.
The regulator committed to sending these consultations and draft rules to Parliament during the passage of the Financial Services Act earlier this year. Consultation began in February so there has been a decent period to review and report on them. The PRA published its final rules in July—again, well in advance of this SI. The FSMA requires regulators to undertake these consultations and to consider and to respond to representations from Parliament as well as other stakeholders. Mechanisms for accountability, scrutiny and engagement are considered further through the further regulatory framework review. We should not rush to prejudge the outcome of the FRF review. The Government will bring forward proposals through a second consultation later this year.
On the noble Lord’s question about climate change, the Financial Services Act 2021 was amended to include a “have regard to” the net zero carbon target but its application was delayed until 1 January 2022. This means that the PRA does not need to have regard to climate change considerations in making the rules as a consequence of this specific SI. This delay will ensure that there is no unnecessary and impractical delay in implementing the Basel 3 reforms for 1 January next year, otherwise we would be in the unfortunate position where the regulators would have to reopen or restart their consultations which were first published, as I said, in February this year.
I assure the Committee that the PRA will still need to make rules to implement substantive reforms contained in Basel 3.1. I expect the regulators to use the powers again in future to update their rules: for example, to take account of new international standards or developments in the market. The PRA will need to have regard to the net carbon target in setting those rules.
I hope noble Lords will agree that these amendments strike the right balance between taking action on climate change quickly and taking swift action to reform our prudential regimes that aims to prevent a future crisis. I suggest that we write to the noble Lord to update him on the timetable for his specific concern on the net-zero targets.
Before the noble Lord sits down, I recognise that what I have said is perhaps complex so I would be grateful if he would also write to me on whether he has any further reflections on how Parliament might be involved. The formal position, as I understand it, is that the PRA can now make regulations without seeking any formal authority from Parliament; indeed, that is almost the essence of it. I sense some degree of sympathy that somehow Parliament ought to be involved, so if he and the Treasury have further thoughts on that, it would be valuable if they could share them with me.
Of course we will write to the noble Lord to provide a bit more clarity on that. Again, it is that difficult balancing act with incredibly complex regulations—as the noble Lord has so ably demonstrated as he has fought his way through layers of hyperlinks—and I recognise that.
The Prudential Regulation Authority has consulted on these rules. As I mentioned, in July it published the near-final version of the proposed rules, along with an accompanying policy statement. This set out how the regulator has taken into account the public policy factors in the Financial Services Act.
I hope that the noble Lord has found today’s debate informative. I will write to him on the specific items we have discussed. I hope he will join me in supporting this instrument and I beg to move.