(1 year, 11 months ago)
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Lord Sharkey
That this House takes note of the importance of stability in the financial markets and its impact on pensions, mortgages and the rental markets.
Lord Sharkey (LD)
My Lords, I start, as is now traditional, by welcoming the return of the Minister, and by thanking the Library for the outstanding note it has produced for this debate.
The Motion before us seems simple: financial stability sounds like a common-sense kind of thing and obviously desirable. However, the reality is significantly more complex. There are at least two readings of the phrase “financial stability”. The first reading, in this context, is defined by the Bank of England, which has a statutory objective to protect and enhance the stability of the financial system in the United Kingdom. The definition is that
“financial stability is the consistent supply of the vital services that the real economy demands from the financial system (which comprises financial institutions, markets and market infrastructure).”
The FPC has qualified that definition by saying:
“Financial stability is not the same as market stability or the avoidance of any disruption to … financial services.”
This qualification was quite properly abandoned in dealing with the events of September and October.
The second reading of the words is the usual and common-sense one: things should not change violently, radically or without warning—and that definitely includes inflation. The mini-Budget of 23 September was probably the most incompetent, damaging and destabilising ever produced. It is still hard to believe that a Chancellor would put forward such a list of spending measures without any indication of how they were to be funded. It is astonishing that the Chancellor explicitly refused the offer of an input from the OBR. It defies belief that the Chancellor and Prime Minister took no account of the likely bond market reaction.
It is not as though the bond market reaction was unknown or of no importance: Bill Clinton famously encountered it when preparing the programme for his second term. His advisers told him that some of his policies would not be possible. Clinton said:
“You mean to tell me that the success of the program … hinges on the Federal Reserve and a bunch of”—
expletive deleted—“bond traders?” One of his advisers, James Carville, said at the time:
“I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”
The bond markets certainly terrified our Government and probably most of the rest of us as well. Long-term gilt yields rose by 30 basis points on the day of the mini-Budget, and by another 50 in the next three days. On 26 September, the pound fell to $1.03, its lowest ever level. On 27 September, there was an initial fall in gilt yields and then a rise of 67 basis points. On 28 September, the Bank intervened with a short-term commitment to QE of up to £65 billion. In all, the Bank bought £19 billion of bonds to stabilise a market that the Government had directly caused to crash. That was added to the Bank’s existing QE stock of £875 billion. Given the asset-inflating effect of QE and the deflationary pressure imposed by the inevitable higher interest rates, some commentators noted that the Bank appeared to be driving with one foot on the accelerator and the other foot on the brake.
Katie Martin noted in the Financial Times on 7 October:
“The intricacies of bond yields rarely trouble the general population, but homeowners quickly figured out what this meant for mortgage repayments, making it a searing political issue. Plus, it all jacks up the price tag for the government’s plans”.
The Financial Times returned to the issue over two weeks later, with Patrick Jenkins writing:
“To describe the ‘mini’ Budget of outgoing prime minister Liz Truss and outgone chancellor Kwasi Kwarteng as ill thought-out is almost a compliment. If they underestimated how spooked the markets would be by £45bn of unfunded tax cuts, they clearly had no notion at all about the collateral damage it would cause—to mortgages, to government and corporate borrowing costs and most alarmingly to the £1.4tn defined benefit pension system, via the now infamous ‘LDI’ hedging structures buried within many schemes.”
So here we have rising mortgage costs, rising energy costs, rampant inflation, no increase in real wages over two decades and now a threat to the pension system. I think that it is entirely probable that neither Liz Truss nor Kwasi Kwarteng had heard of, or understood anything about, LDIs. I do wonder whether the Treasury had understood and had given sufficient warnings to the Prime Minister and the Chancellor. The Bank, the Pensions Regulator and the FCA certainly did know about LDIs: each of them has a partial regulatory role over some parts of the LDI sector, and each of these institutions has now written not very convincing letters of exculpation to parliamentary committees. We seem to have uncovered a remnant of the pre-crash regulatory regimes, where a plurality of regulators failed to deliver necessary oversight or control. It is surely time that the regulation of these LDI funds was made simpler, clearer and more rigorous, so that we can avoid further unpleasant surprises and outbreaks of finger-pointing. When the Minister replies, I would be grateful for her thoughts on the matter.
This all, emphatically, does matter. All this rather obscure and technical stuff has clear effects on the real economy: mortgage rates have been rising as the bank rate has risen—probably to 3% in a moment or two. In December, the average rate offered for a two-year fixed deal was 2.34%; by 3 October, it was 6.07%; by 18 October, it was 6.53%. Of course, this means a steep rise in mortgage repayments. The Resolution Foundation predicts that over 5 million families are set to see their annual mortgage payments rise by an average of £5,100 between now and the end of 2024. The chief economist of the Royal Institution of Chartered Surveyors took the view that mortgage arrears and repossessions would inevitably move upwards over the next year; of course, this influences the rental market.
In late October, Moody’s, having downgraded its assessment of the UK’s economic outlook from “stable” to “negative” because of instability and high inflation, also estimated that more than half of landlords looking for a new fixed-rate deal in 2023 or 2024 would be unable to remortgage without raising rents if mortgages were 4 percentage points higher. Given the fall in real wages, this might push rents up beyond what tenants could afford.
Rents were already rising anyway, driven by what Knight Frank described as
“an ever-deepening mismatch between supply and demand”.
Shelter has said:
“Private renters are disproportionately exposed to the cost of living crisis”
and
“the most likely tenure to already be in fuel poverty.”
When the Minister replies, I would be grateful if she could tell the House whether the Government are actively considering increasing the local housing benefit allowance rates—frozen since March 2020—to ensure that housing benefit keeps pace with inflation, as Shelter recommends.
The current economic situation and the ongoing cost of living crisis bear very heavily on households, exacerbated by uncertainty about the future. Is the triple lock on or off today? Will inflation really rise to 12%, as the Bank seems to think? Will benefits be uprated in real terms? What will happen to my energy costs? Is my pension safe? Will there be reasonable pay rises? What will happen to the NHS and our schools? The need for some assurance and stability in these uncertain times is absolutely clear.
The most comprehensive survey of household and individual finances is the FCA’s excellent Financial Lives Survey. The next survey is due to be published early next year, but the FCA has just released some of the findings from its 19,000 respondents—they make for very distressing reading. One in four adults in the UK was either in financial difficulty or would fall into trouble if they had a financial shock. Nearly 8 million people were finding it a heavy burden to keep up with their bills—an increase of 2.5 million people in the last two years—as wage growth fails to keep pace with inflation, which is now at a 40-year high.
Over 4 million people missed a bill or loan repayment in the six months to February and, unsurprisingly, these problems were worse in the most deprived areas of the United Kingdom. About 12% of people in the north-east and 10% in the north-west are struggling financially, compared with 6% in the south-east and the south-west. Already, by the end of June, over 2 million households were behind with their electricity bills and just under 2 million behind with their gas bills. Citizens Advice reports a sharp rise in people being forced on to prepayment meters, which are more expensive. Can the Minister confirm that to address at least some of this, benefits will be uprated by inflation? Can she stop our energy companies moving customers to prepayment meters?
Of course, the real question is what should be done about the mess we are in. How can a measure of stability be restored to our financial lives, our real incomes and the institutions on which we depend? We may know more on 17 November; I do not expect the Minister will be able to say anything of any substance about what the Autumn Statement might contain, but some things are already clear. Last week, the Institute for Government, of which I was a governor for five years or so, and the Chartered Institute of Public Finance and Accountancy published their annual government performance tracker, and it is worth quoting at some length from the introduction. It states:
“Public services are in a fragile state. Some are in crisis. Patients are waiting half a day in A&E, weeks for GP appointments and a year or more for elective treatments. Few crimes result in charges, criminal courts are gummed up, and many prisoners are still stuck in their cells under more restrictive regimes without adequate access to training or education. Pupils have lost months of learning, with little prospect of catching up, social care providers are going out of business or handing back contracts, and neighbourhood amenities have been hollowed out.”
The report goes on to say:
“These problems have been exacerbated by the Covid crisis but are not new. After a decade of spending restraint, public services entered the pandemic with longer waiting times, reduced access, rising public dissatisfaction, missed targets and other signs of diminishing standards … Governments since 2010 may have been seeking efficiency over resilience but achieved neither.”
All this is simply a preamble to the report’s conclusions that most services do not have sufficient funding to return to pre-pandemic levels of service and performance:
“There is no meaningful ‘fat’ to trim from public service budgets. If the government wishes to make cuts in the medium-term fiscal plan, it must accept that these are almost certain to have a further negative impact on public services performance.”
Perhaps the Minister when she replies can tell the House whether she agrees with the IfG and CIPFA in their conclusions and, if not, why not.
The economy needs stability of purpose, policy and direction. People and business need a stable and reasonably predictable environment in order to plan, save and invest. People need stability because many families have very low resilience to financial shocks or steep movements. The Government could make a start on all this. They could honour the triple lock. They could raise benefits in line with inflation. They could devote scarce resource to where it is most needed and most productive. They could be open and honest about the state of the economy and what that really means for us and for our children. I look forward to hearing the contributions from other noble Lords and to the Minister’s reply and I beg to move.
Lord Young of Cookham (Con)
My Lords, I very much welcome this timely debate, introduced by the noble Lord, Lord Sharkey. While the economy has been centre stage for the last two months, we have not debated it since the summer—apart from the 40-minute Statement on 19 October. I join others in welcoming my noble friend Lady Penn back to the Front Bench, this time as a fully-fledged member of the Treasury team.
I want to focus on the final element identified in the noble Lord’s Motion—the rental market and, in particular, the private rented sector. I suspect the noble Lord, Lord Best, will also do this. There is a vicious circle operating here. Rising interest rates with earnings lagging inflation are making home ownership less affordable. This adds to demand for private renting, pushing rents up. This is reinforced by cost pressures on landlords, as buy-to-let mortgage rates increase, with less advantageous tax arrangements and higher environmental standards. This in turn leads to landlords leaving the market, leading to a further imbalance between supply and demand and yet higher rents. Too many renters already pay more than 50% of their income in rent, making home ownership less attainable. The ONS notes:
“Given the excess of demand over supply, rental prices are expected to rise further.”
In September this year, Rightmove reported annual growth in rents of 12.3%.
One in five households now lives in private rented accommodation—a doubling in two decades—and nearly all are on six-month assured tenancies. The theme of the noble Lord’s debate is stability. I believe we need a fundamental review of the private rental market to put it on a more stable and sustainable basis. In a nutshell, we need to move from a market dominated by the small private landlord, buffeted by tax changes and interest rate movements, where tenants have limited security of tenure and where it is not their tenure of choice, to a market more like that of France, Germany or Switzerland. There, a higher proportion of the population see private renting as the “normal” tenure choice and financial institutions invest in the sector for the long term, ensuring that properties are professionally managed and in good condition and, crucially, have long leases to provide stability for the tenant.
This is not to say there is no role for the private landlord, but the sector as a whole needs to be put on a more stable long-term basis. There are signs that this transition is taking place here. Institutions such as Legal & General have started building thousands of flats for rent, targeted at students, professionals living in cities, and those who need mobility for their career. But we need to accelerate the transition and broaden its base. Build to rent is only 5% of the rented market. This would be a good investment for pension funds. Historically, they have invested in equities, gilts, commercial property and fixed interest loans, but they have had little direct exposure to the residential property market. This is perverse, as it has consistently outperformed equities.
To make the transition happen smoothly, we need to understand the motives of private landlords. They invested in buy to let for two main reasons: capital appreciation and a buoyant income. In many cases, they preferred this over a pension. But the disadvantage is that their capital is illiquid and owning property brings with it management problems and the prospect of a tougher regulatory regime.
To facilitate this transition, what is needed is a quoted housing investment trust to whom landlords could sell their property not for cash but for shares in the trust. So the investor would retain his investment in residential bricks and mortar—the trust’s only asset—with an income stream linked to rental values and capital values rising over the long term, but without the hassle of management and with easy access to capital. The property could be sold to the trust without giving notice to the tenant as it would be held as an investment.
The process could start with blocks and properties in a specified area, with management undertaken by registered social landlords such as housing associations, giving further reassurance to tenants. There would be a role for the Treasury to play in helping the transition to get off the ground. Normally, when a private landlord sells, capital gains tax is payable, and this could be a deterrent. However, under the scenario I have outlined, if capital gains tax was deferred until the shares were sold, that would act as an incentive.
I put this proposition forward to provide stability to a sector that is the least stable form of tenure in the housing market. I do not ask for immediate adoption today, but it would be good if the Minister could give it a nudge by encouraging the Department for Levelling Up, with its new Secretary of State, to explore further the potential of the idea I have just floated.
Lord Kestenbaum (Lab)
My Lords, I thank the noble Lord, Lord Sharkey, for securing this vital debate, the urgency of which is of course prompted by an experiment in fiscal policy as calamitous as it was unprecedented.
Recent weeks offer a cautionary tale of how such mayhem—stemming in part from political incompetence—spirals, demanding costly intervention and creating misery for so many. As we survey the wreckage, we are left with two salutary observations. First, the nervous breakdown in the system, such as we saw in recent months, matters to every single household in the UK. Let us remember, these rising markets of recent years have been fuelled in some measure by a striking injection of personal finance from the retail investor. Market analysis suggests that small individual shareholders’ share of equity trading volumes in the largest stocks has climbed to 24%. Gone are the days when stock markets were the sole preserve of large institutional investors. So every time we hear phrases such as the markets are “correcting” or “repricing”, they are just euphemisms for the utter misery felt by large numbers of households in the country.
Market instability, as in the title of this debate, is not an economic technicality affecting the privileged few. It profoundly touches many millions of citizens. It is not uncommon for as much as 35% of a stock to be owned by everyday, small investors, often representing a meaningful percentage of their liquid assets. The Government would do well to be less zealous—certainly less frivolous—in toying with a system in which so many will be harmed if things go wrong.
These spillover effects are felt even more acutely in the housing market. Noble Lords will know the disastrous effect on mortgage rates—as the noble Lord, Lord Sharkey, suggested—following the mini-Budget and subsequent market meltdown. The numbers of those affected speak for themselves: 25 million homeowners in the UK have gained a home with the help of the mortgage sector, and let us remember that the UK has the highest total outstanding value of all residential mortgages in Europe. This is a country where homeowners are critically reliant on the stability of mortgage rates.
In those chaotic 12 days, we heard how the numbers spiralled. The catalyst for what played out in front of distraught mortgage holders is all too well known and worth repeating: the announcement of vast unfunded tax cuts, leading to ratings agencies taking fright, risk premia reacting accordingly and a spiralling yield on gilts that placed mortgages out of reach or, worse, unable to be serviced.
If my first observation is that the trauma in financial markets had a political catalyst, my second is that what lies beneath may be equally damaging. The entrenched view has been that, for the last 15 years, we have lived with a monetary experiment as a reaction to the disasters of 2008. Such an experiment comprised the dual anaesthetic of the unlimited printing of money together with near-enough zero interest rates—all designed, reasonably perhaps, to prop up markets.
However, the spillover effect on us all was, we must admit, that more risk was taken than was advisable: too much risk in our mortgages and too much illiquidity exposure in domestic expenditure, let alone what felt like unlimited government borrowing. A judicious appetite for risk was exceeded because the implicit message was twofold: we can always print more money and we can always keep interest rates low—so keep borrowing. In doing so, all involved forgot the golden rule that one day the music will stop and, when that day comes—and with it unaffordable mortgages and debt that cannot be serviced—the entire system is at risk.
Against this backdrop, we have had the calamity of recent weeks, which saw dramatic intervention by the Bank of England and the undignified spectacle of pension trade bodies rushing out statements to say that they believed UK pensions should be safe. It seems to me that the mere fact that such statements were required should be a cause for alarm. But this cannot be seen as a “Thank goodness that’s over” moment, which leads me to my conclusion.
The case I make today is that the trauma of recent market instability is both episodic and systemic. My concluding comment, however, is about something equally significant, namely a reckoning. The last time we experienced market shock of such magnitude was in the crisis of 2008. Perhaps the most important question posed in that tumultuous time was asked by our late Queen, who, not the first time, spoke for the entire nation when asking a group of economists, “If this crisis is so large and so far-reaching, how come you didn’t see it coming?”. We may well ask that again—and we do.
Some calm has been restored but the debris is everywhere, with unaffordable mortgages, new entrants to the housing market priced out and pensioners with hard-earned savings in funds that have lost meaningful, material value. Amid much talk of good judgment being restored, one cannot help feeling that the lasting consequence of this instability is that, ultimately, the British electorate will exercise their judgment and, when it comes, a reckoning will be made.
Baroness Bowles of Berkhamsted (LD)
My Lords, the mini-Budget caused sharp falls in the value of sterling, gilts and confidence in the UK’s rating. Despite policy reversals, there is substantial residual damage in people’s pockets and pension funds.
But this was not just an economic event. It triggered a systemic financial stability event, leaving question marks over regulators. The devil was liability-driven investment funds—LDI—and, as if we learned nothing from the great financial crisis, financial engineering that hides behind three-letter acronyms eventually leads to four-letter expletives when it blows up. So what was lurking, and why? The Pensions Regulator—TPR—has overly favoured investment in gilts, which steered funds away from higher-yielding productive investments. The accounting practice also developed of requiring net present value of liabilities, based on gilt interest rates, to be used in both pension scheme valuations and sponsor company accounts. That transferred artificial volatility to both scheme and company balance sheets.
Ways to smooth that volatility were therefore sought. LDI emerged and, with it, borrowing and leverage using repo and derivatives. Gilts were subject to repo—that is, sold but with retention of interest, a buy-back agreement and margining—and the cash used to buy further investments. Along with interest rate swaps, this quashes the accounting volatility and the pension fund gets to hold equities that regulatory edicts had inhibited. This sounds a bit like regulation-dodging, but the practice was actively encouraged by TPR. Alas, it also exposed pension schemes to cash margin calls. They were borrowing short against long liabilities—maturity transformation, just like Northern Rock, with shades of the great financial crisis again.
Then excess set in and, instead of buying equities with the borrowed money, more gilts were bought and underwent repo and so on. They were often leveraged four times, or seven times, as admitted in a TPR survey, or, anecdotally, 13 times. In 2018, the Bank of England Financial Stability Report noted that leverage and exposure to derivatives in pension funds was far greater than in hedge funds. It advised liquidity buffers and stress-tested market moves to 100 basis points based on historical review. My thoughts were that it did not think widely enough, not even to taper tantrums. The Bank pointed to international concern about systemic risk in non-banks but, despite the known UK-specific circumstances of DB schemes and a systemic feedback loop on gilts should there be a falling market, direct action was not—maybe could not—be taken. So the systemic trigger event happened. There was a spiral of margin calls and, although the Bank intervened to purchase gilts, the fire sale of assets within pension schemes cost many of them around 25% of asset value.
Now we come to the funny money accounting illusion where the TPR, FCA and BoE all say that, due to the recent rise in gilt yields, the net present value of liabilities has dropped, deficits have narrowed and pension schemes are in a better position for buyout. Rejoice they may, but assets—out of which pensions will actually be paid, both now and in the future—have dropped by 25%. That hole will be felt.
Was LDI, at least in its simplest embodiment, a smart move? Possibly, but there is the issue that pension scheme borrowing is not legal. TPR hides behind the sophistry that repo is a sale and repurchase, though the BoE and FCA more honestly call it borrowing. Thus, in pursuit of buyout or accounting niceties, employers, trustees and regulators have embraced the contrivance of dubious legality to evade primary principles in legislation, with the Pensions Regulator, the FCA and the BoE seemingly oblivious to those primary principles. It is an accident waiting to happen again.
Lord Liddle (Lab)
My Lords, I welcome the noble Baroness, Lady Penn, back to her rightful place on the Front Bench. The speeches so far, led by the noble Lord, Lord Sharkey, have been of the highest quality. I must confess that I have already learned a lot from listening to experts such as my noble friend Lord Kestenbaum. I will make some brief observations on how we handle the situation we are now in.
First, we have to recognise that our national sovereignty, where we live in the world, is limited. Kwasi Kwarteng and Liz Truss thought that Brexit had somehow liberated them from constraints on national sovereignty. It has not, and that fact must be recognised.
Secondly, financial stability is essential. I believe we will face a very tough Budget but, when we make these tough decisions, it would be a great mistake to cut the programmes which are most likely in the long term to improve our rate of growth and therefore our ability to finance public services and a generous welfare state. If a Government present well-worked-out plans for investment, which should be audited by independent bodies, and if we invest wisely, we can borrow wisely to improve our position in future. I hope that will still be the case, because we need to invest in not only capital programmes but training. If we are to solve the problems of the health service, we need to invest in the workforce, particularly the social care workforce, because that is a crucial condition of getting the escalating costs of running the NHS under some kind of control. We need to invest in order to save; that is essential.
Thirdly, in tough times we should not neglect problems of poverty and inequality, or the essential role played by public services. We are getting to the familiar point that we want a Nordic welfare state with US levels of tax. That cannot be sustained with our demographic pressures, particularly on the health system. How do we get out of this? I do not believe we can solve the problem simply by imposing fantastically high taxes on the top 2% or 3%. We can do a bit more of that, but we cannot solve the fundamental problem of the welfare state by doing it. We need tax reform.
The noble Lord, Lord Young, illustrated in his excellent speech how prudent tax reforms could improve the housing situation and bring in more money to the Exchequer. The same is true of pensions. Why should better-off people get 40% tax relief when they invest in a pension, as I did, when people on average earnings get only 20%? We should have a standard incentive for investment in pensions. That would bring in a lot of revenue to the Exchequer, and it would be fair.
There are ways forward. Rachel Reeves has begun to address tax reform in business rates, but we must go further in other areas. I hope we can find a way out of this crisis that allows us to invest in growth and also maintain a sense of social justice.
Lord Best (CB)
My Lords, I thank the noble Lord, Lord Sharkey, for initiating this debate and for his excellent opening speech. My contribution will seek to identify actions which the Government could take to avert an ever-worsening housing situation and even extract something positive from the instability in financial markets which has led to higher borrowing costs.
First, to prevent a spate of repossessions—with the misery and huge cost of families being made homeless—there needs to be a robust safety net to meet the inevitable rise in home buyers running into serious mortgage arrears. In response to the 2008 global financial crisis, the Government introduced an improved income support for mortgage interest scheme. However, help was much diminished in 2018. On 9 June this year, the Prime Minister’s office announced a new plan to support homeowners which would strengthen protection at this time of other cost of living increases, but no further detail about these proposals has been given since. Can the Minister say when it is expected that the Government will take this forward to avert a serious outbreak of mortgage repossessions and homelessness?
Secondly, turning to new housebuilding, Secretary of State Michael Gove this week re-established the Government’s target for the construction of 300,000 homes per annum. This has sent out a signal that the Government believe it is essential to ease shortages and improve affordability by stepping up housebuilding. But, sadly, it will be harder to achieve this target with the rise in borrowing costs. Housebuilders are likely to sit on their hands rather than build more homes when costs are higher but prices may be falling; when there will be far fewer first-time buyers able to afford the new mortgage costs; when Help to Buy subsidies are finishing; and when deep uncertainty about the future will hold back potential purchasers.
The benefit which society can salvage from this predicament could come from a boost in the supply of new social housing, with support for the acquisition by social housing providers of sites or not-yet-finished developments. Not for the first time, this would keep the construction industry going through hard times and prevent a construction-led recession while achieving a real increase in desperately needed affordable social housing.
Thirdly, turning to the private rented sector—I welcome the helpful contribution of the noble Lord, Lord Young of Cookham—the hike in borrowing costs will now affect thousands of landlords. The number exiting the market has already been growing following less favourable tax treatment and necessary new and forthcoming regulatory changes. Two-thirds of the country’s 2 million landlords who have buy-to-let mortgages will face the higher costs of borrowing alongside higher costs of management, maintenance and new energy performance requirements. Very few will be able or willing to pass on all these extra costs to their tenants, not least since some tenants are already paying half their income in rent. So a greater exodus from the private rented sector can be predicted, with dire consequences for those already struggling to find rented accommodation.
This is not necessarily a disastrous phenomenon if struggling landlords are enabled to sell to social landlords—local housing associations and community-led housing organisations—which can modernise and re-let the properties as secure, affordable homes with low energy costs. The 2021 Affordable Housing Commission, which I had the honour of chairing, proposed a national housing conversion fund of £3.5 billion which could, with the usual private financing, achieve this switch for many thousands of properties. Will the new levelling-up funds open up this powerful route to addressing poor conditions and fuel poverty in the private rented sector, regenerating neglected areas, reducing the escalating housing benefit bill, saving NHS and social care costs and helping with net-zero targets?
I encourage the Minister to pass on to her colleagues Churchill’s wise advice: “Never let a good crisis go to waste”.
The Lord Bishop of St Albans
My Lords, we are living in challenging times, with inflation rates at a 40-year high. Turbulence in the financial markets, with higher interest rates and larger mortgage payments, is adversely affecting people in all walks of society. With the wholesale price of energy and gas increasing due to Putin’s appalling and illegal invasion of Ukraine, it is vital that His Majesty’s Government do all they can to protect renters, those with mortgages and, of course, pensioners.
To put a human face to this debate, I thought it might be worth while just quoting one of a number of emails I have received from communities in my diocese this very week. One person emailed me on Friday: “In my role as chair of a food bank, we are having to make decisions around both frightening increases in demand and a growing decline in donations. This summer, we increased our warehouse capacity to handle food for somewhere around 500 food parcels a day. The problem is in-work poverty which is growing substantially. In the past few weeks, we have been approached by a hospital, a large business, schools and a local council about whether they can refer low-paid staff to us.” He went on: “Apparently, employers are not prepared to talk about the problem of in-work poverty, feeling ashamed. They would like to raise wages and want the best staff welfare but can’t because that would move them into a deficit budget.” The human reality of what we are facing is stark. Unfortunately, the mini-Budget of 23 September made a challenging financial climate much worse.
I want to say a few words about the challenges facing pensioners. Statistics show that more than 2 million pensioners are living in poverty, with this figure increasing by around 200,000 in the last year. Age UK has suggested that one-quarter of elderly people are being forced to choose between heating and eating. These pressures are being felt particularly by those who are reliant on the state pension alone. I know many of us are hoping that in the forthcoming Budget we will be given some assurances about the commitment to maintain the level of state pensions.
I turn to private pensions for a moment and particularly raise concerns about the use of LDIs, which other noble Lords have mentioned. According to the Pensions Regulator, 60% of defined benefit pension funds incorporate LDIs. Without the Bank of England’s promise this September to purchase £65 billion in government debt, it is near certain that some of these funds would have been imperilled—that is perhaps a very mild description. The Bank of England has described this scenario as capable of
“driving a potentially self-reinforcing spiral and threatening severe disruption of core funding markets and consequent widespread financial instability”.
I understand why LDIs are being used. Nevertheless, as in many things, the issue is how and to what extent they are being used. I have heard reports that some of the funds were using too much leverage with too little protection and in so doing potentially causing a great deal of danger not only for themselves but to more responsibly managed pension funds and markets. We have to ask, and I hope the Minister will give some reassurance on this: are these LDIs being properly regulated? Are the risks really understood so that we are protecting pension funds? Are they subject to adequate stress tests? Indeed, I am tempted to throw in the question: if we are worried about LDIs, are there other financial investment mechanisms that might threaten the long-term stability of pension funds?
The Government must ensure that pensioners, some of the most vulnerable in our society, are protected from the riskiest of investment policies adopted by some pension funds. Will His Majesty’s Government investigate the use of LDIs by pension funds and ensure that pensions are properly protected?
Lord Sikka (Lab)
My Lords, I thank the noble Lord, Lord Sharkey, for facilitating this very timely debate. I want to talk about the elephant in the room, which is the finance industry and how it has destabilised the whole society. We have about 41 regulators for the finance industry, but they have very little idea of what the finance industry actually does. Indeed, it came as a shock to them after the banking crash that they were using derivatives to such a large extent. After the fiasco of the mini-Budget, some £1.3 trillion has been wiped off the UK bond market, and that includes £882 billion from gilts and the index-linked gilts market. The Pensions Regulator tells us now that some 7,500 pension schemes may well be technically insolvent. Did the Bank of England, the Treasury, the regulators or the FCA know how the pension funds are funded? We frequently get impact assessments accompanying financial Bills, but none of them looks at the destabilising effects of what the Government actually do. I hope we will get something different.
Financial markets are inherently unstable and, in the absence of effective regulation, continue to destabilise society. Short-termism is prevalent, compounded by fraud and anti-social practices, which are rife in the City of London. Numerous financial products have been mis-sold for more than half a century. Has any big company ever been liquidated as a result? No. Governments bail out the industry—that means there is no threat of bankruptcy at all for the key players and they then have a public licence to continue to misbehave. Financial sanctions are puny and they continue to engage in tax avoidance, rigging interest rates and exchange rates, forging customers’ signatures, money laundering and anything else we can think of.
The finance industry is the only industry that has the capacity to decimate economies. Research by my colleagues at the University of Sheffield has shown that between 1995 and 2015, the bloated, scandal-ridden finance industry made a negative contribution to UK GDP of £4,500 billion, yet the Government do not take that on board in anything they do in relation to this industry. There is no public inquiry of any kind as to how the industry operates. Can the Minister tell us when we will get a public inquiry into this scandal-ridden industry?
Effective regulation is the key. That was recognised after the 1929 Wall Street crash, when the US created the Securities Exchange Act. Of course, it has not fully succeeded. The UK has a rather laissez-faire approach. Until the mid-1970s banking crash, there was no regulator for the banking industry at all. The Banking Act 1987 handed the keys to the Bank of England and it failed miserably, as was shown by the frauds at BCCI and Barings and the collapse of Johnson Matthey. Then we had, through the revolving doors, the Financial Services Authority, after which the 2007-08 crash showed that the chaps regulating the chaps does not work at all; it has never worked. Then we brought in the FCA and the PRA and the scandals have not gone away, whether it is London Capital & Finance, Blackmore Bond, Woodford Equity or any other. The HBOS and RBS frauds are still unresolved. My colleagues have sent regulatory bodies 10,000 pages of evidence to show that banks are forging customers’ signatures to repossess their homes and businesses, yet we have seen no action of any kind.
The shadow banking industry is not regulated at all, yet it is bigger than the regulated banking industry. That is another elephant in the room and we saw part of the effects of that through its effects on pension schemes. Can the Minister tell us why the shadow banking industry is not regulated on the same terms as the banking industry?
I shall wind up by reminding noble Lords that we need effective independent regulation in which the stakeholders, not the City elites, are in control of what happens in our society. Until that happens, there is little prospect of stability in the finance industry and that will affect the rest of the economy, because everything is now financialised. Indeed, private equity owns supermarkets: if they collapse, supermarkets will collapse too.
Lord Bilimoria (CB)
My Lords, between 8 and 19 September, after Her Majesty the Queen sadly passed away, the whole world looked to this country with the utmost respect thanks to that wonderful lady. On 23 September, it all came crashing down. I had been travelling around the world, in Asia and in Europe, and people said to me, “What is your great country doing to itself?” On 24 October, on Diwali day, our first south Asian-Indian Prime Minister, Rishi Sunak, was appointed. What happened on 23 September? Liz Truss and Kwasi Kwarteng’s plan was a good plan with its intentions for growth and to cut taxes. When I was president of the CBI, I constantly said to Rishi Sunak, when he was Chancellor, “Please don’t put up taxes”. The Indian Budget in 2021 deliberately did not put up taxes. The Indian Government said, “We do not want to stifle the recovery and hamper growth, because that is what will happen if we put up taxes, and businesses have suffered enough”. Instead, we have the highest tax burden in 70 years.
In life, more often than not, it is not only what you do but how you do it. I remind noble Lords of the irrational exuberance of Liz Truss and Kwasi Kwarteng on 23 September, pulling rabbits out of a hat, including removing the cap on bankers’ bonuses. This is the right thing to do to make the City of London more competitive, but not when people are going through the most acute cost of living crisis in memory. Reducing the top rate of tax from 45% to 40% is absolutely the right thing to do. It was 40% under Margaret Thatcher, John Major, Tony Blair, and Gordon Brown, who put it up to 50%. Then it was taken down from 50% to 45% by George Osborne, and not to 40% because of the coalition with the Liberal Democrats. He would have taken it down to 40%; it should be at 40%, but not now—timing is everything.
The markets were spooked of course, because there was no OBR report to back up and support the so-called mini-Budget. There was no plan and no budgeting. Removing the national insurance rise of 1.25% is again the right thing to do. The Labour Party itself said that it would not have increased national insurance. Now everyone is focused on this black hole of £50 billion. No one talked about the black hole of £400 billion that was spent during the pandemic. Our debt to GDP is, at the moment, about 100%. It is the second lowest in the G7. Japan is at 250%, America is at 150%, Italy and France are both over 110%. Our debt is not that high. It is all about perception, and about the Government and the Treasury having a plan, and the Government and an independent Bank of England working together.
Before the financial crisis in 2008, we had an average growth rate of 2.5% and interest rates of about 5%. After the financial crisis we had austerity. Austerity did not work; it led to no growth and declined productivity. We had almost 0% interest rates for over a decade. We must not go down the austerity route. We need efficiencies in public services. We are all grateful for the National Health Service; its expenditure has gone up from £110 billion to £150 billion, and will continue to increase. It needs root and branch reform. We need to be able to continue to offer health, social and dental care free at the point of delivery, and that will need efficiencies.
Putting up corporation tax from 19% to 25% is going to hamper our competitiveness and will harm businesses in every way. To counter that, the Government should encourage investment. The super-deduction of 130% has been taken away. I ask the Government if they will introduce a 100% tax deduction for capital investment, innovation and R&D to encourage investment? We need to invest in skills and to reform the apprenticeship levy. Can the Minister tell us if the Government will reform it?
We are crying out for the reform of business rates. The rates we have are some of the most expensive and unfair in the world. They are killing our high street, hospitality and retail sector. Will the Government reform business rates? Will the Government agree that business needs help right now to survive this winter, in the face of a recession? We need to temporarily reduce VAT to 10% for the hospitality sector, as we did in the pandemic. We need to give business rates relief, as we did before. We need to activate the shortage occupation list. Do the Government agree that we need a revamped Migration Advisory Committee, much like the Low Pay Commission that sets the minimum wage, and the independent Monetary Policy Committee that sets interest rates? We should have an independent MAC that activates shortage occupation lists, sector by sector, granting one or two-year visas, to give industry the workforce it needs.
We need access to cash flow and government-guaranteed loans. That way businesses will survive. If not, we will have 10% of hospitality going bust. We need the help now. I would rather do that to prevent unemployment and businesses going bust. We need a credible plan and a credible budget, not irrational exuberance, and to continue to invest in education, infrastructure and defence—and I am sorry to say I think that 3% defence expenditure is going to be required.
We now have a Prime Minister and a Chancellor with business backgrounds. We have interest rates that have gone up to 3%; they will go up to 5%. We must focus on investment, growth and this country’s strengths, with its strongest combination of hard and soft power in the world, and a reputation for integrity, which is why we have been trusted historically by the world.
Lord Desai (Non-Afl)
My Lords, I thank the noble Lord, Lord Sharkey, for initiating this debate and the powers-that-be for holding it in the main Chamber and not shoving us off into the Moses Room. I have never enjoyed an economics debate in the Moses Room. It is much better in here.
We have already had three overlapping crises. First, we had come out of a pandemic, which had caused us to spend a lot of money and build up a deficit, but that was necessary. Secondly, as I said last time that we had a general economic debate in July, we are in a stagflation crisis as serious as the one we had in the 1970s. That crisis lasted 15 years and we have to take this crisis very seriously. It is partly the result of the Russia-Ukraine war, partly other things, but the shock of energy price rises is going to stay here and not go away any time soon. Thirdly, we had the desire on the part of the then Prime Minister, Liz Truss, to ignore all this and go for growth. I have lived here for nearly 60 years and as a professional economist I have never known any time when the British economy has not been going for growth—not actually getting it, but going for growth. Going for growth is the great thing. “How can we grow faster? How can we be like Germany or America?” That has cost us a lot. This is a very fragile economy. I remember the days of stop-go when the weakness of sterling was causing us a lot of problems and we could never get growth. Then we had the long battle about Europe and we finally Brexited. I think Brexit has done some damage, which the Government still do not admit, but the Office of Budget Responsibility was very clear how much Brexit has harmed us.
Given that these conditions were facing us, during the debate about the Conservative leadership it was quite clear that there were two views. One was of fiscal responsibility and the other was a dash for growth. I think the dash for growth won the support of the Conservative Party members.
The surprising thing about what happened then was the indecent haste with which the dash for growth was implemented. The new Prime Minister had plenty of time: unfortunately, because Her Majesty the Queen had died, Parliament was not sitting. She had a month or two to think about her policy. But no—she was in such a hurry I can only call it Maoist. Mao Zedong, when he became the leader of China, suddenly thought, “Within five years we are going to catch up with the UK in steel production”, and he totally ruined the economy. This economy can be ruined much faster than China’s, and that is what happened.
To propose tax cuts which are not properly funded was such an elementary mistake that it made the financial markets respectable and much loved in this country; for the first time, ordinary people thought, “Well, thank God for the financial markets, because this madness would have cost us a lot”. So in a sense it is quite right that the financial markets offer good advice to politicians: “Don’t do foolish things; try to do better”.
I do not have much time, but let me put it to the Government this way: do not start on the growth run. Please preserve our stability. There is plenty of time—this country is not going to go away. Right now, we are still suffering from the loss of skilled labour due to Brexit, and we need to take care of social care, the health service and so on. Conserve, preserve, and save the economy. We will have enough time to grow later.
Lord Campbell-Savours (Lab) [V]
My Lords, following the excellent speeches from the noble Lords, Lord Young of Cookham and Lord Best, I will concentrate my remarks on the narrow issue of housing and the instability in the housing and rental markets arising from the crisis brought on by the war in Ukraine. That war, with its consequences worldwide, is undermining housing markets across Europe, with escalating interest rates and a drop in construction activity. In London there is a particular crisis: Foxtons and Chestertons are reporting between 20 and 30 applicants for each rental property, with supply at an eight-year low.
Escalating rents are driving desperate prospective tenants into offering 12-month upfront rental payments. With thousands of new builds on hold, a Budget forcing up interest rates on mortgages—topping 6%—and escalating building costs, we have a real crisis in the making. This is all against the background of the Bank of England’s statutory objective to
“protect and enhance the stability of the financial system”.
We all know what that means for those who lack resources and buying power. Those with resources will see savings increase in cash terms, while those without will really suffer as they service their borrowings. Of course, all lose in conditions where inflation bites into savings.
Faced with rising mortgage costs, landlords are responding, often erratically, in defence of their business models. On the one hand, they have rising mortgage costs, and on the other hand the problem of affordability by tenants. Faced with escalating mortgages, some landlords are pulling out of the rental market. There are reports that the number of properties available for rent in quarter 1 of 2022 was down a third from the pre-pandemic five-year average—all at a time when demand from new tenants is rising and existing tenants are struggling against demands by landlords for increased rents. In June, the BBC reported on tenants’ bidding wars, with renters under 30 spending 30% of their income on rents, and Shelter’s August survey found that 32% of private renters spend at least half their monthly income on rent—and this was all before the consequences of the disastrous Kwarteng-Truss Budget measures, with their ruinous effects on interest rates.
One of the consequences of the most recent escalation in interest rates is deeply worrying. My contacts in the housing market talk of huge increases in rents being sought from tenants who, on pleading an inability to pay increased rents, are being evicted or pushed to leave, some under the provisions in Section 21 of the Housing Act 1988. This brutal section enables private landlords to repossess properties from assured shorthold tenants without having to establish fault on the part of the tenant.
In April 2019, the Government announced the repeal of Section 21, and the Conservative manifesto equally promised repeal and a better deal for renters. In this year’s Queen’s Speech, the Government announced the “renters’ reform Bill”, and its accompanying White Paper proposed abolishing Section 21 evictions—all good news. However, we now hear some ambiguity in recent statements from Commons Ministers about the timetable of the legislation. Whereas originally it was to be introduced
“in the 2022-23 parliamentary session”,
it is now
“in the course of this Parliament.”—[Official Report, Commons, 17/10/22; col. 355.]
Meanwhile, insecurity of tenure and potential evictions can proceed. Renters in this volatile market need urgent action. They need protection now, not delay. The crisis requires early action, and the Government need to respond. I appeal to the Government to introduce legislation as a matter of priority. Landlords cannot always be relied on to act sensitively.
I want to repeat a question I asked earlier this year, and again ask the Minister to consider my suggestion that
“with vulnerable, low-income elderly groups in this highly inflationary period facing unaffordable, escalating service charges and possible loss or even forfeiture of their homes, why not promote or sponsor a national scheme for elderly leaseholders that rolls up service charges in the form of a debenture against property title—effectively a rising legal charge? The debenture holder would pay the service charge on behalf of the resident, and then claw back payments—interest-serviced or otherwise—on death or even before.”—[Official Report, 20/6/22; col. 12.]
I have not been informed that there is work going on in the department. I hope that the Minister can take my suggestion away and consider it, because there is a real problem developing in this area of housing policy.
Baroness Bennett of Manor Castle (GP)
My Lords, I thank the noble Lord, Lord Sharkey. It is very tempting to use the opportunity he provided to reflect on the immediate impact of the reckless unleashing in September of failed 1980s policies built on a fundamental misunderstanding about the nature of markets—which are not some abstract, immutable, timeless force but a human creation shaped by human-made rules and, as ours are now constructed, subject to wild irrationality and mindless seeking of short-term profit without any concern for long-term costs, structured so that a few benefit and the rest of us pay.
But I am not going to do that. Instead, I am going to focus on stability, which the noble Lord asks us to contemplate with reference to the obvious recent impacts of instability on pensions, mortgages and the rental market—to put it another way, on the provisions of the essential needs of life, or the needs for survival.
Stability demands resilience and resistance to shocks. It is not just our financial markets that need resilience but our entire society in this age of shocks: pandemics; geopolitical earthquakes; the climate emergency and nature crisis; and demographic shifts such as our ageing population. In the past we tried to deal with such issues with stress tests. To quote the Deputy Governor of the Bank of England, Jon Cunliffe, in a recent letter to the UK Treasury Select Committee,
“the scale and speed of repricing leading up to Wednesday 28 September far exceeded historical moves, and therefore exceeded price moves that are likely to have been part of risk management practices or regulatory stress tests.”
A stress test can only ever be as effective as the stress that it can imagine, and we are now in an age of shocks like we have never seen before.
The right reverend Prelate the Bishop of St. Albans asked whether we should not have better stress tests but, practically, this is not enough. No one truly understands the current system and, as the noble Lord, Lord Sikka, so powerfully outlined, we have an innately risky and unstable system that is absolutely stock-full of fraud and corruption, as well as a lack of transparency.
It might be said that maybe this is the price we have to pay to live in a modern society. As the noble Lord, Lord Sharkey, said, I think it is worth looking back to the excellent House of Lords Library briefing here, which—I think rather pointedly—started by quoting the Bank of England’s definition of financial stability. It says that it is
“the consistent supply of the vital services that the real economy”
needs. Those are the human needs that the noble Lord’s questions refer to: the need for a roof over your head and for an income when you are old so that you can feed yourself. We can look again to the Bank of England’s website to ask: what are financial markets for? The Bank of England says that
“financial markets … exist to bring people together so money flows to where it is needed most.”
Let us think about where money has been flowing. If we go back to 2007-08, where did money flow? It flowed massively into the banks, to rescue them. At that moment, that had to happen or the cash machines would have stopped working and no one would have had any money to buy their food, et cetera. But what happened after that? The money stopped flowing to our essential public services; it stopped flowing to the basic benefits that keep people alive.
I invite noble Lords to imagine an alien landing on Earth today, in the UK. Where does money need to flow? Obviously, it needs to flow into households that are struggling to heat their homes and feed their children; into schools contemplating a four-day week because they have not got enough income; and into hospitals with queues out the door. But where is it flowing? It is flowing to tax havens and rich men’s yachts; it is swilling around and around in the City of London.
To give some figures, according to the Bank of England, lending from banks to the non-financial sectors accounts for only 20% of their balance sheets. The rest is interbank claims: money swilling around and around in the financial sector. Now, that figure excludes trading derivatives, which are often several times larger than banks’ balance sheets. The fact is that on banks’ balance sheets, their loans make up a tiny proportion of their total banking interests. Two-thirds of the non-financial lending goes into mortgages, pumping up prices, and the rest into business assets, again pumping up prices.
The Treasury directed the Financial Conduct Authority in the last financial crisis to make financial markets work well. If they work well, they have to serve the real economy, which they patently and clearly are not doing now. They are risking the secure future of us all.
Lord Davies of Brixton (Lab)
My Lords, I first offer my thanks to the noble Lord, Lord Sharkey, for initiating this debate, and to the previous speakers. I have to declare an interest as a fellow of the Institute and Faculty of Actuaries. I have to say, based on over 40 years in the world of pensions, I find it quite difficult to cram what I want to say into five minutes—less than five minutes now.
I will, however, make three points. First, thanks to the noble Baroness, Lady Bowles of Berkhamsted, we have heard a clear exposition of the technical difficulties that arose in the episode in September. We need to understand, however, that this is a systemic problem with our pension system and the way that it is funded. It is not just a question of overleverage or pooled funds being difficult to manage. It is about the whole approach to how we fund defined-benefit pensions. There is a mistaken belief that if you look to reduce short-term volatility, that in some sense helps in the long term. The contrary is true: the real risk to pension funds is that they do not deliver their benefits, or the obverse, which is that the cost of providing those benefits is set too high, dissuading us from making adequate provision. It is a complicated subject, but this is encapsulated by this short-termism and focus on mark-to-market valuation at the behest of company accounts. That is the fundamental problem and it needs to be broken.
To address that issue, we must have a proper review of this incident and what it means for funding in general. Currently, we have an alphabet soup of regulators involved: there is the Joint Forum on Actuarial Regulation; within that we have the Institute and Faculty of Actuaries, the Financial Conduct Authority and the Pensions Regulator—it goes on. They are undertaking a review next month of what happened but we need an important and clear independent element in that review. I pressed the issue in Questions earlier in the week: I hope that the Treasury will take a more long-term view of what is happening here. We are told that three Select Committees are looking at this issue. Perhaps we will have to wait until their conclusions, but the Treasury has to take hold of this issue and look at what needs to be done, rather than relying on this alphabet soup of regulators.
Thirdly, what impact does this have on pension benefits? A lot of commentators in the industry have said that funding ratios have gone up, so it is all right. As has been explained, ratios have gone up not because there is more money—there is less money—but because of the adjustment in the value attributed to future liabilities. That is fine, but the problem is that the better funding ratio is not looking at what that means for benefits. The funding ratio might have improved, but the higher rate of inflation that comes with that reduction in interest rates will have a devastating effect on members’ future benefits. It is no good having a higher funding ratio if the benefits have, effectively, been reduced because of the impact of inflation.
Baroness Kramer (LD)
My Lords, I join in welcoming the Minister to her role and thank all noble Lords who have spoken. It has been a quite exceptional debate, both for its quality and new ideas and the wide range of contributions. But while we have been standing here, the Bank of England has raised interest rates by 0.75 of a point to 3%. That is the biggest hike since 1989 and it is forecast that the UK is facing a “very challenging” two-year recession, which would be the longest on record.
I say to the Minster, since she is here, that this calls for the Chancellor to come to Parliament and to speak more generally to the nation. So many people will now be desperately worried about what will happen to them. Several speakers today—I am thinking of the noble Lords, Lord Young, Lord Best and Lord Campbell-Savours—focused on housing, both on mortgage costs and the immediate impact on the rental market. That will feed through to people long before we get to the Autumn Statement on 17 November. Will the Minister ask the Chancellor to reassure the nation before then, rather than leave people twisting, quite frankly, with overwhelming concerns? All three of those speakers talked about longer-term reforms. Those things matter, both for housebuilding and for the rental sector, but we have an immediate crisis, and that is what I ask the Minister to focus on and deal with immediately.
After the events of the past weeks, I hope we no longer have to deal with discussions that question the need for financial stability. It is a prerequisite for a functional economy, and fiscal responsibility clearly underpins that stability. I have been listening for years to people who have claimed that we can print money, borrow, cut taxes and spend, with almost no limit. I pick up the phrase of the noble Lord, Lord Kestenbaum, who said that one day the music will stop. We have to take proper responsibility.
We also need to recognise that we are not the US economy with the almighty dollar and a domestic market of 350 million people. We are not in the EU with a domestic market of 450 million and 27 countries at our back. We are a medium-sized European economy, adrift since Brexit from any significant trading bloc and with a currency that is no longer a globally used trading vehicle. We have made our economy significantly more vulnerable. I pick up the point made by the noble Lord, Lord Desai—that the UK is an inherently fragile economy and we have to recognise that in the decisions and actions we take.
I also hope—I really disagree with the noble Lord, Lord Bilimoria, here—that we have heard the last from those who claimed that very low corporate taxes, reducing taxes on the richest, slashing regulation and cutting public services are the answer that will hand us growth.
Baroness Kramer (LD)
I misunderstood; I thought the noble Lord was advocating cuts in public services to balance the books.
Baroness Kramer (LD)
I would like to deal with that issue of efficiencies and cuts. After so many years of cutting out the fat and getting to the bone and flesh, the word efficiency is used extremely casually. Very often, it is expensive to make the change that underpins efficiency, so I will be looking to see if the noble Lord, Lord Bilimoria, speaks out against cuts in the real financing of public services.
We have been through this low-tax strategy and, frankly, it is an ideology that has been proven to be wrong. It may have suited or looked sensible when first implemented, but we have seen consistently over a long period that it does not deliver growth in the UK economy. I shall be fascinated to hear speeches from the Conservative Benches after the Autumn Statement. I am sure there will be lots of support for whatever the new orthodoxy is, and I look forward to seeing how Members opposite align that with the enthusiastic speeches in favour of the mini-Budget.
Businesses are now trying very hard to get the Government to hold back from their other false growth claim, which is slashing regulation. I noted that even the noble Lord, Lord Wolfson, said in this House that business is not looking to cut or change existing regulation. Last week I was at Mansion House to hear the Lord Mayor of London trying to impress on the Government and regulators that the City and financial services depend on the accreditation and confidence that regulation provides. If ever we needed to understand that regulation, having standards and getting it right are important, it is in light of the crisis triggered by LDI.
Numerous speakers picked up that point, including my noble friends Lady Bowles and Lord Sharkey, the right reverend Prelate the Bishop of St Albans and the noble Lord, Lord Sikka, as well as the noble Lord, Lord Davies, who looked specifically at the need to reform the way we think about and structure pensions. These are not deregulatory actions; they will often incur different, but firm, regulation. Regulation is a mechanism for enforcing standards, and the casual notice that a deregulation agenda somehow leads to growth is something most of industry is pleading with the Government not to adopt.
In the end, it is ordinary people and small businesses that pay the price of decisions that fly in the face of the real world and the experience we have been through. The noble Lord, Lord Kestenbaum, made the point that market instability hits many ordinary people. I will not repeat the many conversations that have taken place today on the impact of the rising cost of living, mortgages and rents; that has been very well laid out. The noble Lord, Lord Liddle, made the point that we cannot ignore poverty, the right reverend Prelate the Bishop of St Albans talked about the problems of in-work poverty, and all the conversations about rental reform very much feed into these concerns. I have simply no idea how most families manage when the cost of the very basics for living are up by 17%.
The Government are going to have to confront the impact of declining real wages. You cannot clap nurses one week and push them to food banks the next. I disagree again with the noble Lord, Lord Bilimoria, that uncapping bonuses is just a timing issue. You cannot say that one group of people cannot work effectively unless they have uncapped bonuses, then look at nurses and say that they can work effectively even with declining real wages. That bonus system, together with light-touch regulation, played a huge role in driving the 2007-08 crash that still scars us today. There is an old saying: fool me once, shame on you; fool me twice, shame on me. We have to be very careful about how we handle the financial services industry, for which I have great respect but where the wash of money tempts people to find a workaround in so many different ways. Indeed, LDI is a very good example of the industry trying to find a workaround.
We wait to see the Autumn Statement on 17 November. I think everyone here is very well aware that Shell announced last week not just quarterly global profits of $9.5 billion, over twice those for the same period last year, but that it also paid no windfall taxes. BP had almost the same earnings and paid a tiny bit of windfall tax. The House might be interested to know that the oil and gas sector has in just this quarter paid out $29 billion to shareholders. This, if anything, demonstrates that this tax has been very badly structured. I understand the Chancellor wanted to put in many thoughtful loopholes, but they desperately need to be removed and this must become a meaningful tax. To pick up on points made largely by the noble Lord, Lord Liddle, one of the things we need to think through is a shift from taxing earned income so heavily to looking at unearned income.
I agree with the noble Lord, Lord Bilimoria, that small businesses are under terrible pressure, and that needs to lead to reform of business rates and various schemes that will let them manage the debt they are carrying, many for the first time. Of course, I also join with others in calling for the uprating of benefits in line with inflation and protection for the triple lock.
There are many things that I do not forgive this Government for, because for years they have ignored the fundamentals of growth in the economy. That may be a point for a different debate—I would love the opportunity to develop it. The Chancellor faces hard choices. The Conservative Party has over the last decade brought those choices on itself, but the unfortunate part is that it has also brought them on the country.
Lord Tunnicliffe (Lab)
My Lords, I congratulate the noble Lord, Lord Sharkey, on securing this important debate. I congratulate all noble Lords who have participated; I enjoyed their critique of various factions. I found particularly helpful the discussion on LDI. Studying it over the last few days, it finally failed a test that I have always found useful: if it looks too good to be true, it probably is, and is in many ways a charade.
I have already welcomed the noble Baroness, Lady Penn, back to her place on the Front Bench. She had no role in the recent economic turmoil, yet she shares responsibility for clearing up the mess. I wish her well—it will be a tough task—and hope her first priority will be to stress to the Chancellor the importance of fairness as he prepares his Autumn Statement. It must place the burden on those with the broadest shoulders, recognising the very serious financial struggles being faced by so many across the country.
It says a lot about the mini-Budget that it was announced less than six weeks ago yet managed to: crash the economy; lose Mr Kwarteng his job; be torn to pieces in record time, in such a public manner; and evict Liz Truss from Downing Street. As we heard during this debate, the damage done by the mini-Budget will not be undone for some time. This was an economic crisis made in Downing Street. Through instability to pension funds and significant hikes in mortgage rates and rents, ordinary people are paying the price for the Conservative Party’s reckless gamble.
On pensions, I admit to leaving the Chamber on Tuesday afternoon with more questions than answers. Responding to questions on the use of liability-driven investment strategies, the Government seemed to have four fallback positions: non-banking activity is subject to different regulation; pension funds had been stress-tested in 2018; the Financial Policy Committee does not believe funds can ensure against all extreme events; and this is an issue of international concern, meaning there is no domestic fix. Let us take each in turn.
First, we will shortly consider a hefty Financial Services and Markets Bill. What provisions, if any, are there in that Bill which may help address concerns around the risks posed by LDIs and indeed any other instruments in the future that create those dilemmas? Is the Treasury actively considering adding any provisions in response to recent events? If so, when will those new measures be introduced?
Secondly, can the Minister confirm whether any additional stress test has been carried out since the exercise in 2018? Do these occur at regular intervals, or was it a one-off exercise?
Thirdly, while it is true that funds may not be able to guard against all possible market events, that does not absolve them of the responsibility to guard against the risks they are taking on behalf of pensions beneficiaries. The FPC will, in due course, come to its own view on where the bar should be set, but does the Treasury have its own position?
Finally, on mortgages, it is true that there is an international element. That is why I used my question on Tuesday to cite the news that other countries’ regulators are expanding their surveillance of activities with links to UK pension funds. The Minister told the House that the Government are advocating for international agreements in this area. Could she outline the forum in which these talks are taking place? Do the discussions pre-date the mini-Budget, or have such talks commenced only since the events in September? Does the Minister believe that the UK has suffered material harm to its international reputation for financial stability?
While the detail and regulation of LDIs is very important, the biggest impact in the UK’s recent financial instability for many people has been the sudden increase in their housing costs. For many, the legacy of Liz Truss’s short spell in Downing Street will be higher mortgage bills or rent costs, not just for the few weeks she was in office but for years to come. The Resolution Foundation warned two weeks ago that more than 5 million households could see their annual mortgage payments rise by £5,100 by the end of 2024. Labour analysis of mortgage market data suggests that the costs may be even higher: those who borrow £200,000 will now spend almost £6,700 more a year than they would have last September.
Of course, these costs may rise further still. The Bank of England will continue to hike interest rates in the coming months as it seeks to bring inflation down. Given that economic picture, there can be little surprise that mortgage approvals for purchases were down 10% over the past month. Many first-time buyers have had their dreams dashed, with banks withdrawing mortgages for those with low deposits and drastically increasing the rates on the products that are left.
Renters are also feeling the pain, with many anecdotal reports of landlords increasing charges to offset higher costs. As the Library briefing outlines, various property firms have produced evidence that rents are spiralling. For many, this was the case even before the mini-Budget—a reflection of the Government’s poor record on housebuilding, regulation, and so on.
People’s lived experience of the last six weeks means that they simply do not believe the Conservative Party’s assertion that the recent economic crisis was driven by international events. Yes, interest rates are rising across the world, but the mortgage and rent hikes seen in the UK are simply not being replicated elsewhere. Other countries’ pension funds did not require a bailout from the national bank. These events were the result of a catastrophic failure of judgment from the former Prime Minister and Chancellor. The new Prime Minister may have acknowledged that mistakes were made, but we are yet to see any evidence that the Government know how to put this right.
The Conservative Party is out of ideas. Only Labour can deliver the stability and growth Britain needs, through strong fiscal rules, an office for value for money, our green prosperity plan, a modern industrial strategy, and our plan to scrap and replace business rates.
The Parliamentary Secretary, HM Treasury (Baroness Penn) (Con)
My Lords, I join all noble Lords in thanking the noble Lord, Lord Sharkey, for the opportunity to debate this important topic.
The central responsibility of any Government is to protect national security, and an essential pillar of that security is economic stability. That economic security and stability has real and profound impacts on people’s lives, as we have heard in today’s debate, from pensions and savings to mortgage costs and the broader cost of living.
The Motion that we are debating today speaks of the importance of stability in financial markets, and I agree with all noble Lords on the desirability of this. However, it is also important to recognise that many of those factors influencing stability can be beyond our control. There are global forces that can create volatility in the financial markets, as we saw in the past with the global financial crisis and more recently with the shocks of the global pandemic and the energy shock in the aftermath of Russia’s invasion of Ukraine. The role of government and the regulators is to ensure that we have a system that is resilient to those shocks. Since the financial crisis in 2008, that is what we have sought to build.
We created a new Financial Policy Committee to look at risks across our financial system, backed by the powers to tackle them. On the question the noble Lord, Lord Tunnicliffe, asked about whether the Treasury will take a view on financial stability risks in addition to the Financial Policy Committee, the Government remain committed to the Bank of England’s independence, so it is right that the FPC can independently assess the level of resilience required to promote UK financial stability.
We have also developed the UK resolution regime, which provides the financial authorities with powers to manage the failure of financial institutions in a way that protects depositors and maintains financial stability, while limiting the risks to public funds. We have implemented regulations to strengthen the resilience of the banking system, with the major UK banks now reporting core capital ratios three times higher than before the global financial crisis. There has also been a concerted international effort to strengthen the financial system and ensure that the authorities have the necessary tools in place to protect financial stability.
Recognising in particular the significance of the non-bank sector, over the last decade the Government and UK regulators have worked closely with our international partners through the Financial Stability Board to identify vulnerabilities and enhance the sector’s resilience. It is important to pursue this work through international fora due to the global nature of the financial system, and the Government, the Bank of England and UK regulators play an active role in this work. As a result, the system is much more resilient today than it was in 2008.
However, alongside the UK’s independent financial regulators, we continue to closely monitor any developments that could be relevant to UK financial stability. The Treasury, the Bank of England and the Financial Conduct Authority have well-established and mature systems for monitoring the health of our financial services firms and responding when incidents occur. We are also committed to maintaining and enhancing the UK’s position as a global financial services hub.
The noble Baroness, Lady Bennett, questioned what the financial sector delivers for the United Kingdom. She will probably be familiar with the statistics that financial and related professional services employ more than 2.3 million people across the UK, creating £1 in every £10 of the UK’s economic output and contributing nearly £100 billion in taxes to help fund vital public services. We plan to continue to strengthen that sector through the Financial Services and Markets Bill, which is currently in Committee in the House of Commons. We are all—
Lord Liddle (Lab)
The Minister has stressed, rightly, the importance to the prosperity of the City of London of financial regulation, and of a stable financial regulatory regime, which I certainly support. However, the Government are talking about taking powers to overrule regulators. Can the Minister confirm whether or not these powers will be included in the Bill when it gets to this House? Can she tell us how she thinks that will contribute to the independence and stability of the regime, which is so fundamental, as she admits?
Baroness Penn (Con)
I cannot confirm that, but I am sure that when that Bill comes to this House, we will spend sufficient time scrutinising its provisions and ensuring that they deliver the outcome that we all want—a stronger financial services sector—which is important not just for the City of London but for people’s everyday lives in the country.
Baroness Bennett of Manor Castle (GP)
The Minister referred to the amount of employment from the financial sector, which, by my figures, is about 7% of total paid employment, meaning that 93% of people are not working in the financial sector. If the Government are focusing their efforts on increasing the financial sector while failing to meet the needs of the sectors of the economy that provide 93% of jobs, are we not all losing out?
Baroness Penn (Con)
I do not believe that that characterisation is right. Ensuring that we have a strong financial services sector also benefits many other parts of our economy in terms of access to capital, and many other things. It does not need to be at the expense of the rest of our economy. It strengthens the rest of our economy.
Lord Sikka (Lab)
The Minister referred to £100 billion of tax from the finance industry. That is misleading, because it includes things such as the VAT collected by the finance industry, which is borne by customers; PAYE, which is borne by employees; and national insurance, part of which is also borne by employees. Surely that £100 billion number needs to be corrected.
Baroness Penn (Con)
No, it is correct. The noble Lord seems to know how it is composed, so we are transparent in how that number is reached. I would like to make a little progress.
Baroness Bowles of Berkhamsted (LD)
I am sorry, I know that the Minister keeps being interrupted, but maybe it should all come at once. She mentioned that the Bank of England had powers to intervene. I would be very interested to know what preventive powers she thinks the Bank of England could have used to intervene on LDI and leverage. It put it in its Financial Stability Report, but genuinely, I do not know what powers it has to intervene over something that is not covered by FiSMA. It is DWP and there is another regulator, yet it is causing a systemic glitch that could happen again.
Baroness Penn (Con)
The noble Baroness is right that there is more than one regulator at play in this space. That point was also made by the noble Lord, Lord Davies of Brixton. If the noble Baroness will forgive me, I will come on to some actions taken after the 2018 stress test shortly.
The noble Lord, Lord Tunnicliffe, asked what the forthcoming Bill will do to promote financial stability. Allowing us to tailor our financial services regulation to the UK’s situation and needs will mean that we can create the best regulation for our circumstances. In a world where financial services are evolving all the time, with new developments and technologies requiring regular changes, the measures in the Bill will mean that UK regulations can remain up to date and effective.
It is also the role of the Government to ensure that their own decisions lead to trust and confidence in our national finances. Our responsible approach to managing the economy meant that we went into Covid and the current economic crisis with strong public finances, allowing us to intervene to support people’s lives and livelihoods. In that context it is important to acknowledge that, while well intended, the recent growth plan had unintended consequences for economic volatility.
Mistakes were made, and we have taken steps to fix them. Most of the tax measures in the growth plan have been reversed and the associated volatility dissipated. However, we are still faced with a profound economic crisis, with global inflationary pressures driven by increased demand post Covid, elevated energy prices after Putin’s invasion, widespread labour shortages and, in response, central banks across many major economies raising interest rates.
My right honourable friend the Chancellor of the Exchequer has been clear that we will take the measures needed to restore confidence and trust in the UK’s public finances and to deal effectively with the economic shocks that are being felt across the globe. In doing so there will be difficult decisions to take, but I hope that I can reassure the noble Lord, Lord Tunnicliffe, and others, that in taking them, this Government will protect the needs of the most vulnerable.
Specifically on recent events, the FPC noted in its July Financial Stability Report that the worsening global economic outlook had caused markets to be volatile in recent months. Since July, global inflationary pressures have intensified further. Specifically on the intervention by the Bank of England, all noble Lords will be aware that in late September there was elevated uncertainty in the UK bond market that resulted in gilt yields rising rapidly and significantly. LDI funds, many of which held leveraged positions in the gilt market, faced significant margin calls as a result. In some cases, these calls exceeded the cash buffers that they held, forcing them to raise cash by selling gilts into a falling market. Large sales of gilts into an already illiquid market led to yields increasing even further, in turn triggering further margin calls and forcing further gilt sales to try to maintain solvency.
This would have led to a spiral of falling prices but increasing pressure to sell gilts, so, within its remit, on Wednesday 28 September, the Bank of England started temporary purchases of long-dated UK government bonds, with the aim of restoring orderly market conditions. In line with the Bank’s statutory financial stability objective, the purpose of these operations was to act as a backstop to restore orderly market conditions and reduce any risks from contagion to credit conditions for UK households and businesses while the appropriate adjustment takes place. This operation was fully indemnified by the Treasury.
It is worth remembering that the Bank’s intervention served to keep the gilt market stable so that funds had time to adjust their positions in line with the changed market conditions. The speed and scale of repricing far exceeded historical moves, and therefore fell outside the expectations of risk management plans or regulatory stress tests. Throughout the intervention, the Bank worked with LDI funds and pension schemes as they built their financial resilience ahead of it coming to an end. Market conditions have since improved. The Bank’s usage of the scheme, at under £20 billion, was significantly below the maximum size permitted under its maximum daily auction size and below the increase in the indemnity provided by the Treasury. This stress in the LDI sector highlights the necessity of ensuring that the appropriate risk oversight and mitigation systems are in place for market-based finance.
I shall try to address the question asked by the noble Baroness, Lady Bowles, and the noble Lord, Lord Tunnicliffe, about what has happened since the 2018 exercise that looked at this. Since then, the Bank of England has worked with other domestic regulators, including the Pensions Regulator and the FCA, on enhancing monitoring of the risks. That included working with the Pensions Regulator on a survey of DB pension schemes in 2019 and prompting work to improve pension liquidity risk management. As the FCA noted in its letter to the noble Lord, Lord Hollick, and my noble friend Lord Bridges in March this year, the FCA contacted the largest LDI fund managers to ask them what plans they had in place to deal with increased volatility. It also probed large managers on the speed with which they could call money from underlying pension funds in the event of stress.
In response to many noble Lords, including the noble Lords, Lord Sharkey, Lord Sikka and Lord Davies of Brixton, and the right reverend Prelate, the Government recognise that there will be lessons that need to be learned from the market volatility seen in recent weeks. The regulators are working with the industry to improve their resilience to market shocks, and it remains a focus of the Government and regulators to ensure that we have a robust regulatory system.
In addition to the ongoing monitoring of systemic risks by the FPC, His Majesty’s Treasury and UK financial regulators have been working internationally as part of the Financial Stability Board, as I previously noted, to develop global approaches to identify and address vulnerabilities in market-based finance. The noble Lord, Lord Sikka, asked why we take a different approach to the regulation of banks versus non-banks in the financial system. Part of that is the international nature of the non-banking part of our financial system.
The Bank of England has also committed to working with the Pensions Regulator and the Financial Conduct Authority to ensure that appropriate levels of resilience are in place to mitigate risks to UK financial stability. As the Pensions Regulator chief executive emphasised earlier this month, DB pension schemes were not and are not at risk of collapse due to rapid movements in the price of gilts, and savers should not make any hasty decisions about their pension pots.
I turn to pensions. As I have just stressed, defined-benefit pensions remain strong, and members of those schemes that were invested in LDI funds are not at risk of losing out as a result of either the aforementioned volatility or interventions made by the Bank. Indeed, the independent Pensions Regulator issued a statement on 12 October for trustees of defined-benefit and defined-contribution schemes and their advisers, which communicated its expectations on matters for trustees to consider in relation to managing schemes and supporting savers.
The noble Lords, Lord Sharkey, Lord Best and Lord Campbell-Savours, and my noble friend Lord Young of Cookham, rightly mentioned the housing market, and I want to respond directly. The fact is that interest and mortgage rates have been rising since last autumn in response to global trends. This is not a UK phenomenon, with the US Federal Reserve having raised its base rate since March 2022 and the ECB taking similar steps. In the UK, around 75% of residential mortgages are on a fixed rate and therefore, in the short term, shielded from rate rises. However, I know that, for those on variable rights and those who are seeing their own fixed-rate deals coming to an end in forthcoming months, there will be significant concern. Where mortgage holders fall into financial difficulty, FCA guidance requires firms to offer tailored forbearance options. While it is important to note that the pricing of mortgages is a commercial decision for lenders in which the Government do not intervene, the Government do offer support through Support for Mortgage Interest loans for those in receipt of income-related benefits and protection in court through the pre-action protocol.
Similarly, the setting of rates is a commercial decision for private landlords in which the Government do not intervene. However, we understand that many people will be worried about the impact of rising prices. My noble friend Lord Young of Cookham spoke more broadly about the reform needed in the private rented sector in order to provide more security to tenants in that sector. I agreed with much of what he had to say. Indeed, the Government’s programme of work to reform the private rented sector continues through, for example, our commitment to ban Section 21 no-fault evictions. We heard ideas from my noble friend Lord Young and the noble Lords, Lord Best and Lord Campbell-Savours, for other changes that we could potentially make in housing. I will take those back to the department and ensure that they are looked at carefully.
The noble Lord, Lord Sharkey, asked whether the local housing allowance would be uprated. He will know that, as part of our response to Covid, the rates of local housing allowance were increased significantly to the 30th percentile of the market, with 1.5 million households gaining just over £600 a year. We have maintained those rates at an elevated level last year and this year in order to ensure that claimants can continue to benefit from this. This is reviewed annually, and I will not comment further on the uprating of benefits.
More specifically, many noble Lords spoke about the difficulties that vulnerable people are facing this year with the rising cost of living. The Government absolutely recognise that and are focusing our support most heavily on those households. People are facing a difficult time. We have put in place an energy price guarantee and further support for those on income-related benefits, pensioners and those with disabilities. There is also discretionary support for local authorities to provide help in their local areas.
I am conscious of the time so I will begin to wrap up. Many noble Lords used this debate as an opportunity to look ahead to the Chancellor’s Autumn Statement. I welcomed the constructive efforts by the noble Lord, Lord Liddle, to make suggestions not just about areas of spending that should be prioritised but about ideas for tax reform to help to fund them, which always needs to come alongside. I will only say to him, on his suggestion for equalised pension tax reform, that we have heard in this Chamber in recent weeks about the challenges of keeping GPs and others in their roles because of the tax treatment of their public sector pensions, and the idea might perhaps be a bit more complicated than it may look at first sight.
Baroness Penn (Con)
I am afraid I am really short on time, so I will make some progress and finish.
As the Chancellor has said, and as I think the noble Lord, Lord Desai, and the noble Baroness, Lady Kramer, agree, stability is a pre-requisite for growth. It is vital for families across the country—from the jobs they depend on to mortgages they have to pay, and to savings for pensioners and businesses investing in the future—and vital for the Government’s ability to borrow and invest in our economy.
The Chancellor will deliver his Autumn Statement on 17 November. Many noble Lords have asked me to speculate on its contents. They will know that I cannot, but I can say at this stage that the Prime Minister and the Chancellor are clear that the priority will be to ensure economic stability by setting out a concrete plan to get debt falling in the medium term. However, they are also clear about their priorities when taking the difficult decisions that this will necessarily entail: to support the most vulnerable and to drive growth to ensure that we have a strong economy by building jobs for the future—and our resilience to future shocks, too.
Lord Sharkey (LD)
My Lords, I thank the Minister for her response, much of which we will no doubt return to frequently. I also thank all other noble Lords for their contributions.
On 23 September, the day of the mini-Budget and the beginning of the period of extreme financial and political instability, Mark Carney was being interviewed by the FT in New York. In that interview, he pointed out that in 2016 the UK economy was 90% of the size of Germany’s but in 2022, even before the crisis, it was less than 70%. We need to put this right but we must not do that by increasing the burden on the poor, the sick and the old.