Financial Services Bill

Lord Hodgson of Astley Abbotts Excerpts

Monday 12th November 2012 Lords Chamber

Moved by

[Lord Hodgson of Astley Abbotts]

41: Clause 6, page 34, line 1, leave out “or restriction which is” and insert “, restriction or operational rules which are”

[Lord Hodgson of Astley Abbotts]

My Lords, in moving Amendment 41, I will speak to Amendments 42 and 43. My noble friend Lord Sharman has put his name to them as well but sadly he cannot be with us tonight. This is familiar territory for noble Lords who took an interest in Committee, so I will endeavour to cut to the chase, emphasising both the reasons for these amendments and why I have so far failed to be reassured by my noble friend’s response. These amendments seek to change Clause 6, which introduces a new Section 3B entitled:

“Regulatory principles to be applied by both regulators”.

The clause goes to the heart of the philosophy that underpins the new regulatory structure. At present, the regulator is only required to be “proportionate” in its approach. My amendment seeks to add the words “reasonable and fair” so that there are three adjectives.

I make it clear at the beginning that this is not an attempt to plead for lower regulatory standards. It is absolutely in the interests of the City to have proper standards of regulation, which is the best way to encourage the growth and development of the financial services industry. Achieving the appropriate level of regulation requires a difficult balance to be struck. If it is too low, London’s reputation as a good and safe place to do business will be damaged and business will move away. If it is too high, the costs, both financial and in management time, will mean that innovation will be discouraged, whole areas of activity will have the stability of the graveyard and plans for the expansion of established businesses will be shelved or transferred to other financial centres. Somebody explaining it to me in the City said, “It’s like Neapolitan ice cream, you have to try to scoop out the vanilla layer that is in the middle between the chocolate and the strawberry”.

I am convinced that the new system will work most effectively if we can encourage the use of judgment and not rely merely on the rigidities of process or box-ticking. Process of course has an important part to play; it provides the framework of the regulatory system, but unless it is informed by judgment it cannot be truly effective. In earlier debates on this issue, I explained why, in my view, confining regulatory principles to “proportionate” emphasised process at the expense of judgment. I explained in Committee the definition of these three words in the Oxford English Dictionary. I pointed out that “proportionate” suggested a defined, fixed relationship, as well as a one-way one. The example that I used from the Oxford English Dictionary was:

“The toll .. on the canal is proportionate to weight”.

By contrast, “reasonable”—

“Having sound judgement; ready to listen to reason, sensible”—

suggested an element of judgment and of a two-way process.

Currently, there is a widespread view in the City that the regulatory philosophy has shifted to give a much greater emphasis to process and box-ticking, and to the regulator being seen to have covered the bases at the expense of an open judgment-based relationship. I referred earlier to the Star Chamber-like processes of the significant influence function committee, whereby individuals are left in a Kafkaesque limbo for months. I have referred to the indiscriminate use of Section 166 skilled persons reviews, 800 of which are said to be outstanding and likely to cost some £160 million to £200 million to complete. All of that will in due time be paid for by the consumer.

My noble friend Lord Sassoon, not here tonight, has pointed out that if people or firms believe that they have been unfairly treated, they can apply for judicial review. The idea that an individual would take on the might of the regulator is laughable. Whichever of my noble friend’s Bill team officials drafted that reply needs to get some exposure to the real world.

This change of approach by the regulator has caused an equal and opposite reaction in the regulated community. We have seen the emergence of plea bargaining. Just as Mr Tappin, extradited to the US on a charge that he strongly denied, concluded that a guilty plea leading to three years in a UK jail was preferable to a possible 30 years in a US penitentiary, so individuals decide to give up the fight and agree to a reduced penalty in return for a guilty plea. As one person put it to me, “I want to get on with my life”. He did not believe that he was guilty, but he had a life to live and did not have the time available or the resources that the regulator has at his disposal.

As my noble friend Lord Flight pointed out in our debate in Committee on 24 October, firms now disclose the minimum necessary to comply with the law. They have learnt that any admission of weakness will be seized on by the regulator, who all too often appears to act as if they believe that they have been told only half the story.

I do not believe that these and similar developments bode well for a future regulatory approach. How do we break this vicious circle? The early signs from the FCA are not encouraging. Some testosterone-fuelled remarks about “shooting first and asking questions after” have been quoted previously in your Lordships’ House. Could there ever be a sensible regulatory principle? The tone of Journey to the FCA, the booklet recently published, seems to give only the slightest of nods to the need to create appropriate relationships with the regulated firms. I have quoted previously at some length from that document to show what I mean and I shall not trespass on the good will of the House at this late hour again this evening.

This is not just a theoretical discussion. Once confidence in the regulator’s readiness to listen to reason is damaged or lost, we risk a move away from the United Kingdom and the City. It may be a trickle at first, but it could quickly gather pace. I hope that the Minister’s officials have drawn his attention to the article in last Friday’s Financial Times,

“MPs to probe London job losses”,

in which a lobby group points to,

“an ‘amber warning light’ flashing over the country”.

I hope that his officials have also picked up the piece in the Sunday Times about London being ousted by New York as the largest financial centre. The Bill team may disregard that as journalistic puff, but they might like to read the document from the ABI which states:

“As we discussed in Chapter 1, we would like to go further in developing a common FCA and industry sense of purpose, to deliver well-functioning markets that benefit consumers and, ideally, help the country tackle some significant public policy challenges. It is in the interests of the FCA and the industry to work together to jointly enhance their reputations. Increased public trust and greater customer confidence would be beneficial for the industry, but they would also reflect well on the FCA, and indeed the Government”.

Significantly, it then states:

“This requires a change from the FSA’s traditional approach, which did not usually convey a drive towards medium-term positive outcomes”.

These may or may not be the beginning of a trickle, but they are certainly a lot of straws in the wind of people dissatisfied with the philosophy that is being adopted and that would be enhanced if we had just the word “proportionate” left in the regulatory principles.

I shall make one final point. I said earlier that my noble friend had always maintained that there is no need to add “reasonable and fair” because “proportionate” includes that requirement. As I have explained, I do not agree. However, I am not sure that the Government really agree either. When my noble friend wrote to me, the noble Lord, Lord Phillips, and the noble Baroness, Lady Kramer, about the social investment issue that we discussed earlier today, the note read,

“Ministers are clear that this should not be done at any cost … we want to see the regulator react flexibly, openly and proportionately”.

Clearly, his officials do not believe that the definition of proportionality includes flexibility or openness, or why would they have drafted the note in that way? How then can they argue that “proportionate” includes “reasonable and fair”? If my noble friend were to say that, if I were to withdraw my amendment in favour of one that replaced the words “reasonable and fair” with “flexible and open”, he would accept it, I would be happy to do so. I beg to move.

--- Later in debate ---

[Lord Newby]

My Lords, these amendments again look to amend the proportionality principle to which both regulators are required to have regard when carrying out their general functions. Noble Lords will not be surprised to hear me say that that principle will play an extremely important role in the new regulatory system. It ensures that the regulators must consider whether the burdens they impose will be proportionate to the benefits that are likely to result. I am sure that that principle is universally accepted.

Amendment 42 specifically adds a requirement for the regulators to have regard to being “reasonable and fair”, as well as “proportionate”. Noble Lords will remember that my noble friend Lord Sassoon expressed support for the sentiment behind the amendment at an earlier stage. I am sure that all noble Lords would accept that nobody from this Dispatch Box would be a proponent of a new regulatory system we were creating if for one second we thought that the regulators would act in a way that was unfair or unreasonable.

Does the Bill achieve that objective? We believe that it does. The regulators will not be required to have regard to being fair and reasonable; they will have legal duties to be fair and reasonable; they go further than the amendment proposes. As we explained at an earlier stage, the regulators will have a duty under public law to act reasonably; they are also under a duty to comply with the rules of natural justice, so they will be required to follow procedures and processes that are fair.

My noble friends Lord Hodgson and Lord Flight gave a definition of proportionality. The definition that they gave was narrower than most people’s view of what proportionality means. In certain circumstances, it is a mere mathematical concept, but if I say that I am going to give a proportionate response to something that someone does to me, it is not simply calibrated or adding up figures; I think that it is seen in common parlance as being synonymous with a reasonable and fair response. As I said, the requirement on the regulators under public law to act in that way underpins that thought.

I have considerable sympathy, however, in respect of the threats that London faces as a pre-eminent financial centre. It is not surprising that Hong Kong and Singapore are growing very quickly, given what has happened to the economies in those parts of the world. You would expect growth there, although London is contracting in part because some of the activities that have been undertaken in London are no longer either profitable or, in some cases, credible. When one sees, for example, UBS downsizing significantly in London, it is not doing it because of the regulatory regime; it is doing it for fundamental business purposes, against which these provisions would have no bearing.

Where I agree with my noble friends is that we must ensure that the mindset of regulators in the UK is not negative. It has always been our intention that they would adopt a judgment-based approach; that has been stated on many occasions. That is the key to effect a change of culture in the way that the regulators work. If the amendment would have that impact, the Government might be more sympathetic to it. We simply do not believe that it would. As I said, we believe that the Bill will require the regulators not just to act proportionately but, under their more general duties, to act reasonably and fairly as well. On that basis, I hope that my noble friend will feel able to withdraw the amendment.

[Lord Hodgson of Astley Abbotts]

My noble friend will not be surprised to hear me say that I am extremely disappointed with that response. I thank my noble friend Lord Flight for his helpful comments, in particular, about effective regulation being a two-way street where people communicate issues and problems that they are facing, not in fear that they will have the book thrown at them but because it is in the regulators’ and regulatees’ interests to address problems and find solutions before they become unmanageable.

My noble friend falls back on the legal words that the regulator has to be fair and reasonable and that there is natural justice. I prefer his point about mindset. The fact is that “proportionate, fair and reasonable” imposes a different mindset on the regulator than “proportionate” on its own. He and the Government may have convinced themselves that the threat to London is coming from the natural effluxion of economic activity to the Far East. I think that they are in danger of being sadly mistaken. We have a chance in this Bill to address the problems that have bedevilled us until recently and to set out our stall for a new, judgment-based, regulatory regime, philosophy and approach. By these as by a series of other decisions taken by the Government, we are missing an opportunity which we will greatly regret having not taken in the years ahead. However, the hour is late, and though I am sorely tempted to divide the House just to have my own bit of testosterone, I beg leave to withdraw the amendment.

Amendment 41 withdrawn.

--- Later in debate ---

[Lord Newby]

My Lords, we all accept that the financial services sector is integral to the prosperity of the wider economy. However, we have also seen what happens when light-touch regulation and excessive risk-taking by financial institutions conspire to produce the perfect storm, culminating in the recent financial crisis. The aftermath of this, of course, is still an impediment to growth in the UK. An appropriately regulated financial sector will be key to the economy’s resurgence, and I am confident that the reforms that we are making to the regulatory system in this Bill will ensure this.

However, at Second Reading and in Committee, my noble friend Lord Sassoon listened to concerns from noble Lords on all sides of the House that the regulators would be excessively focused on their remits and would act in a disproportionate way which might constrain the financial services sector from acting to support activity in the wider economy. That is why a commitment was made to return with an amendment that would require the PRA and FCA to consider the wider impact of their actions.

Amendment 44 delivers on this commitment. It requires the FCA and PRA to have regard to the desirability of sustainable growth in the economy of the United Kingdom in the medium or long term. This is a concept with which of course it would be extremely difficult to disagree. Sustainable economy growth is desirable, and it is important that the regulators will now be required to show how they have considered this in carrying out their general functions.

To a certain extent, this gets back to the amendments that we have just debated. The regulators should not be the agents of the industry that they regulate. Regulation itself is not about enhancing the international competitiveness of our domestic financial sector, even if that is an outcome when regulation is proportionate and effective. This amendment recognises the link between an apparently appropriately regulated financial sector and the growth of the wider economy, and requires that the regulators bear it in mind. That is why the amendment I have tabled strikes an appropriate balance: it creates an expectation that the regulators must think carefully about the impact that their regulation may have on the wider economy; this is absolutely right. Seen in the light of the recent financial crisis, it is clear that taking appropriate regulatory action in good time would have served to safeguard sustainable economic growth in the medium to long term. This amendment will ensure that the regulators consider the wider economic impact of their actions. I beg to move.

[Lord Hodgson of Astley Abbotts]

My Lords, despite my disappointment over the last three amendments, I congratulate the Government on having brought forward this amendment. It follows the Government’s sensible decision earlier in the passage of the Bill to give the Financial Policy Committee an explicit objective of growth and employment. This amendment achieves a sensible and pragmatic solution, takes account of the needs of the economy and the priorities of business and the financial sector, and at the same time allows regulators rightly to focus on their important consumer protection and financial stability objectives.

There is a small sting in the tail for the Minister. Given that this is a new requirement for the regulators, I encourage him to ask the FCA to come forward with its vision of how it will interpret its regard to economic growth. The regulator is already up and running in shadow form, with designated leadership teams already starting to set out publicly their approach. It is clearly important that the will of the Government and indeed of Parliament is incorporated in that regulatory planning. I applaud the Government for bringing forward this amendment but would argue that in order to achieve their desired goal of supporting growth, work needs to begin now to set out how the regulators will interpret and implement this new requirement.

--- Later in debate ---

[Lord Flight]

My Lords, during the Committee stage of this Bill I made the point that it would surely be appropriate for the life industry to be represented on the PRA board, against the background that the PRA fairly openly was admitting that it did not have much interest in the life industry. It was really concerned with its banking duties. But in the event of severe bear markets in equities, life companies can get into a situation where it is desirable for the solvency rules to be suspended in the short term so as not to have a downward spiral effect on asset values. This amendment simply proposes that there should be at least two non-executive members with experience of the insurance business on the board of the PRA. The Government certainly took the point in principle that the industry should be regulated. This is designed to put modest bones on that. I beg to move.

[Lord Hodgson of Astley Abbotts]

I will briefly support my noble friend’s amendment. There has been quite a lot of talk about how the Bill is oriented towards banking and that particular sector of the financial services industry. The insurance industry—particularly the life insurance industry, which marches to the beat of several different types of drum, one of which, in respect of solvency, my noble friend referred to—needs to make sure that its voice can be heard, because it is such a critical part of our savings industry. While one does not wish to be too prescriptive in the way these bodies are made up, I am sure that some reassurance to the life insurance industry that its particular expertise and particular needs will not be overlooked would be welcome and desirable.

[Lord Newby]

My Lords, the Government absolutely agree that insurance expertise should be represented on the PRA board. That is why my noble friend Lord De Mauley said when we previously debated this matter that the Bank had committed to that principle and that there would be insurance expertise on the PRA board. However, we believe that it is up to the Bank to ensure that the board has the right balance of skills and experience to enable it to make effective decisions and deliver its objectives in respect of all the firms it regulates. The trouble with the amendment is that if we were to require in the Bill that the board should have insurance expertise, people would rightly ask why the Government had not made similar provision for other sectors such as mutuals and investment banks. We do not think that that is a sensible way to go. However, with the commitment that there will be insurance expertise on the PRA board, I hope that the noble Lord will feel able to withdraw his amendment.