Financial Services and Markets Bill

Debate between Lord Tyrie and Baroness Noakes

Committee stage
Wednesday 1st February 2023 Grand Committee

[Baroness Noakes (Con)]

I thank the noble Baroness for that. Of course, I got carried away by my usual desire to knock the EU and lost sight of the essential principle, which is that the PRA is in fact applying the MREL rules disproportionately. I think that on that, the noble Baroness and I will agree.

So the PRA is applying a system that is designed for systemic bank failure to smaller banks, which present no systemic risk at all. While some modifications were made in 2021, medium-sized banks still end up having to issue MREL-compliant capital, which adds to their cost of capital, and this in turn reduces their capacity to lend. A number of mid-sized banks told the Treasury late last year that this reduction in the capacity to lend could amount to £62 billion over the next five years. Everyone loses—except the larger banks, who see smaller competitors facing considerable competition barriers. I believe that the regulators need to focus more on proportionality, which is the aim of my amendment.

Earlier I said that I was sceptical about the regulatory principles in FSMA, but they exist and we need to make sure that they are comprehensive. My Amendment 77A introduces an additional regulatory principle of being evidence-based. We have inherited all those EU rules, which were drawn up in the context of the EU’s well-known precautionary approach to regulation. I can see how easy it is to slip into the habit of regulating in the UK in the same way, just because we had to regulate that way in the past.

On our first day in Committee, we had a short debate on short selling. There is no evidence that short selling is or has been a problem in the UK, and yet the Government and the FCA are lining up to carry on regulating it. We need a shift of mindset in financial regulation in the UK, because the regulators should regulate only where the evidence points to the need for regulation, and we should not be regulating on the basis of hypothesis or speculation. That may well mean stepping back from regulating in areas where there is a possibility of a problem but no evidence that problems actually exist.

If we have a nimble system with agile and responsive regulators—I accept that that might be a rather big assumption—we should have no problem in stepping back, because we can act when a problem emerges. I certainly do not recommend or seek the widespread dumbing down of our regulation, because good regulation is part of the strength of our financial services sector. However, I believe that we are failing to take advantage of our Brexit freedoms to liberate our financial services businesses where there is no evidence that it is not safe to do so. That is what lies behind my seeking to add an additional regulatory principle.

[Lord Tyrie (Non-Afl)]

I declare my interests as in the register. I was not intending to begin with these remarks but I think the one thing we can all agree on is the fundamental weakness of the Bill, which is that it repatriates considerable powers to UK regulators from the EU without giving any meaningful consideration as to how these powerful bodies will be scrutinised and held accountable.

The noble Lord, Lord Bridges, has made a detailed proposal; there are others around. Somewhere in that area we have to put something on to the statute book to accompany these measures. I think that is relevant to the consideration of the amendments in the name of the noble Lord, Lord Lilley. One task such a body can be asked to accomplish is to evaluate and make suggestions for more far-reaching reform. A number of the amendments in the noble Lord’s name might fall into this category and they may have quite profound effects on the way that we are regulated.

As for competition—which I also was not intending to speak about but I cannot resist it—I spent an enormous amount of effort and time, with the noble Lord, Lord Flight, and others, when we were in the other place, trying to get competition and competitiveness built into FiSMA; this was in 1998-99. We largely failed and even now we have not succeeded as much as we would like. I strongly agree with what the noble Baroness, Lady Noakes, said about these multi-tiered objectives and principles—operational objectives, strategic objectives, et cetera. The consequence, of course, is that they are gamed by regulators, which implement the bits that they most like and leave behind the bits that they do not like if they are all too difficult.

These two first points I have made are interlinked. Currently nobody holds regulators to account for that gaming. If we did have a more powerful body, if Parliament could have at its disposal more effective expertise—something akin, perhaps, to the NAO but much smaller and specialising in regulatory scrutiny; we will come on to this in more detail next week—we might find that the regulators stopped picking and choosing.

When I first read the amendments in the name of the noble Lord, Lord Lilley, I thought they were easy to support. They have some of the character of motherhood and apple pie about them. What could be more reasonable than that the regulator should be given the additional statutory objective of predictability and consistency? But, having thought about it a bit and discussed it with quite a few people, now I am not so sure. I am becoming concerned that, taken together—the noble Lord’s amendments are interlinked—and notwithstanding his good intentions, they could have a major effect on the conduct of financial regulation in the UK, and not altogether necessarily for the public good.

Perhaps I could step back for a moment and explain why, in the context of some of the work we did on the Parliamentary Commission on Banking Standards. The current regulatory framework derives directly from that commission, which I chaired, and from the Vickers commission. These proposals have largely been put on to the statute book and implemented, where appropriate, in the rulebook, with many of those rules being implemented only recently.

When the PCBS and subsequently the Treasury Select Committee were trying to work out how to improve the regulatory framework, which had so manifestly failed in 2008-09, we had several core purposes in mind. Among these were, first, to challenge and, where possible, expunge the box-ticking, back-covering culture which had grown up in both the regulators and the regulated community, often in the search for safe harbours—safe harbours for both of them, incidentally. In doing so, we hoped to bear down on regulatory capture—the dangerous community of interests between the regulators, the regulated and the sponsor departments, which develops at the least opportunity. I strongly agree with what the noble Lord, Lord Lilley, said about what regulators will regulate for if no one keeps an eye on them at all.

A second purpose we had in mind was to try to safeguard market entry; that is, in particular, to develop a regulatory framework that did not discourage challenger banks: regulation to competition, not from it. I mention in passing that this is very much unfinished business, to put it mildly. There are barriers to entry everywhere.

A third purpose, and closely related to the second, was to bear down on excessive legalism. Access to the law is rarely cheap and usually favours large incumbents. Regulatory barriers to entry suit them and they are difficult and expensive for small firms to deal with. Big firms can certainly look after themselves. Tracey McDermott—I am almost quoting; I tried to look up the quote just before I came in this afternoon but could not quite find it—once suggested in evidence that we catch the small fry, the big fish get away.

A related point on excessive legalism is that legal scrutiny can provide greater certainty, but after a certain point it comes at the price of effective regulation. Markets are themselves inherently uncertain. Risk-making is of its nature forward looking. It will therefore always be imperfect for the conditions in markets at any one time. Regulation can be a lot better than nothing, but there will always be regulatory failure, and there will always be some legal uncertainty.

The fourth purpose we had in mind was to limit the FCA to a narrow range of objectives and to expect it to explain in much more detail than prior to the crash how they should be applied. This lies at the heart, at least in theory, of principles-based regulation supported by guidance. Multiple objectives, as I said a moment ago, will always be gamed by the regulator. Generally, the fewer the objectives, the better.

Others may disagree with everything I have said, but I still think that those purposes, which were not the only purposes that we had in mind, were probably on the right track. What concerns me about these amendments is that, among other effects, several of them will strike at some of these core purposes. For example, building on Amendment 54, Amendment 85 seems to suggest that the regulator can make new rules only if, or will find it difficult to make new rules unless, they are fully consistent with existing rules and that they are capable of prediction. At the least, even if the regulator can make rules, can they be enforced? This is what I understand proposed new subsections (1) and (2) in that amendment to say. It seems to me that it is how the objectives of consistency and predictability will be satisfied in law. My concern is that this will restrict adaptation and enforcement by the regulator. Fast changes in markets and the creation of new markets are features of much of the financial sector. We want to encourage dynamism and creativity and it seems to me that this proposed new requirement of predictability could make it more difficult for a regulator to enforce rules to address new market developments. It certainly seems likely to make regulators more cautious about enforcement.

I heard calls on the radio today for regulation of the cryptocurrency markets. I offer no view on the merits of cryptocurrency market regulation at the moment, but if they are to be regulated and enforced, does that have to be done in a way that could have been predicted from current regulation; for example, from the regulation of securities markets? I hope not, and I may have misinterpreted. I certainly do not think that was the intention of the noble Lord, Lord Lilley, but I hope it is not the effect of his proposal.