Financial Services (Banking Reform) Bill

Debate between Lord Blackwell and Lord Lawson of Blaby

Wednesday 23rd October 2013 Lords Chamber

[Lord Blackwell]

My Lords, from the discussion, I am once again not clear on whether this needs to be built into the legislation in the way that is being suggested. As the noble Lord, Lord Turnbull, has said, I do not think that anyone would now dispute that it is a useful backstop to have a leverage ratio alongside the risk-weighted assets calculation of capital. However, that is built into CRD 4, and the PRA and FPC have recently demonstrated that they are perfectly capable of anticipating that in terms of the capital guidance that they give to institutions on the capital that they are required to hold.

There is an argument about whether 3% is the right level or not. I can assure my noble friend Lord Lawson that in the UK at least, whatever banks may have done in the past, they would not get away with applying whatever risk weighting they chose to devise against their own risk assets. All the risk weightings applied in the risk-weighting process are reviewed intensely by the PRA. It has to approve the internal model in order for it to be used to assess your own risk capital, and that process is now extremely well scrutinised by the regulator.

Nevertheless, there is a good argument that, because the process is bound to be imprecise, having a backstop of an overall leverage ratio makes sense. I think that is generally agreed. However, if you make that leverage ratio too restrictive, you may distort behaviour in a way that you do not desire by encouraging banks and other financial institutions to put too many of their assets into risky assets. If you have only a leverage ratio that does not discriminate by risk, and you are allowed only to hold that amount of assets, then you will stop risk weighting them and simply go for the riskiest assets you can get within that overall leverage ratio. The two have to work together. We should be careful about believing that having too hard a biting overall leverage ratio will reduce banks’ risks as it may work in the other direction.

[Lord Lawson of Blaby]

The issue here is not whether you should have a leverage ratio; it is not whether it should be statutory or not. The issue is who should determine it: the Chancellor of the Exchequer or the Financial Policy Committee of the Bank of England. That is the issue. Although I speak as a former Chancellor of the Exchequer, I still think it would be better left to the FPC. That is the issue; not whether it should be statutory or whether it should be alone without any consideration of risk-weighted assets. The issue is simply who should determine it.

[Lord Blackwell]

I thank my noble friend for that clarification, but I was responding to the points that were made by him and other noble Lords in advancing their arguments. If you come down to the question of “Does the PRA need more powers in order to enforce a higher or more restrictive leverage ratio?” then it can, under its existing powers, require capital add-ons to banks if it is not satisfied with the risk weightings. That is the way it would deal with it. It seems a slightly tangential point as to whether it is setting the overall leverage ratio or whether it is setting the capital ratio by other means. I should like to hear the Minister’s response on whether he thinks there is a case for this being built into the legislation.