Draft Cash Ratio Deposits (Value Bands and Ratios) Order 2018

Anneliese Dodds Excerpts

Tuesday 15th May 2018 General Committees

[Anneliese Dodds (Oxford East) (Lab/Co-op)]

It is a pleasure to serve under your chairmanship, Mr Robertson. I am grateful to the Minister for those helpful explanatory remarks.

It is clearly essential that the Bank’s monetary policy and financial stability functions are adequately funded, and I therefore understand why some reform is necessary, given the shortfall arising under current arrangements. None the less, it is important that we properly interrogate this matter, given that we are talking about very large sums needing to be raised—£845 million over the five years to 2023—and extremely large sums of the Bank’s capital being held in order to raise that sum. I therefore have some questions for the Minister.

First, has a proper cost-benefit analysis been conducted on this approach to raising funds, as against other possible options? According to the summary of consultation responses for the scheme review, one respondent

“considered that a fee-based mechanism would be the fairest, most efficient and most transparent means of funding the Bank’s critical monetary policy and financial stability policy work. The respondent noted that, whilst the consultation paper explained that a fee-based model would require more in-depth analysis, no indication had been given to if, or when, such in-depth analysis will take place. The respondent understood that the current legislative agenda makes changing the basis of funding the CRD scheme difficult, but nonetheless considered that discussions on this proposal should begin.”

It will be interesting to discover from the Minister when and where those discussions about a fee-based model will take place.

I tried to do my own back-of-an-envelope calculation yesterday to work out whether the current approach is a relatively expensive or cheap way of raising the funds that the Bank needs for the overall economy, given that returns from gilts are generally low compared with other forms of investment. We could say that this is a rather banal calculation, in some ways. Banks are returning to substantial levels of profitability, in many cases, and something that costs a bank a lot may only cost its shareholders; that would not, therefore, necessarily constitute a major public policy concern.

I thought it was helpful to think this through from the neutral point of view of overall economic efficiency. In theory, the freed-up balances from banks could be invested in riskier but more profitable forms of investment. The five-year yield on UK gilts currently appears to be 1.15%. Traditionally, banks’ return on equity has been substantially higher than that, outside crisis periods. However, the return on equity has been reduced substantially by the financial crisis and subsequent regulatory requirements, and Brexit is also predicted to challenge returns on equity. I think it is interesting, and important, to compare the two levels of returns.

The respondent who suggested a fee-based approach may not have been concerned with efficiency—although the protection of banks’ profits may have been involved, given that, as I understand it, the respondents to the consultation were the banks that already contribute to the scheme. None the less, the respondent also referred to greater transparency arising from a fee-based system. I think there is some argument for that, given that it is, as I understand it, the method used to cover the cost of financial regulation via the Prudential Regulation Authority.

It was maintained in some of the documentation that I read that it would not be possible to adopt a fee-based system because the Bank’s monetary policy and financial stability functions affect all market actors. However, one could surely say the same thing about the PRA’s functions, to an extent. Furthermore, the threshold applied to this scheme means that, as the Minister rightly mentioned, the lion’s share of the contribution is made by the 20 largest institutions, with 146 making some kind of contribution and many other institutions that have eligible liabilities of less than £600 million making no contribution. Not each and every institution that benefits from financial stability currently makes a contribution, so I do not really understand that argument.

To conclude this point, it may indeed be sensible to stick with the current approach, albeit with the changes that the Minister has just adumbrated. However, given that at least one respondent suggested a fundamentally different methodology, it would be helpful to hear the Minister’s thoughts.

Secondly, how sensible was it to retain the current five-year cycle for determining the method and level of funding for the Bank on these operations? I say that because many of its financial stability functions, in particular, could be impacted significantly by Brexit, as of course could its monetary policy functions. As colleagues may well know, the PRA has introduced an EU withdrawal fee to its regime for financial institutions. However, there seems not to be even a single mention of Brexit in the explanatory memo for this change or the document “Review of the cash ratio deposit scheme: consultation on proposed changes”, which was released in February this year. Indeed, the latter suggests that the Bank’s policy costs will remain static over the four years following 2018-19. Does the Minister genuinely feel that the proposed method of contribution is likely to prove sufficient if we see the kind of no deal, highly disruptive scenario for which some Government Members have been pushing?

Finally, I note that the consultation suggests that we are talking about relatively small beer. The consultation document notes:

“In the wider context of the total tax burden on banks and building societies the review notes that in 2016-17, £3.0 billion was raised from the government bank levy, and over £1.6 billion from the bank corporation tax surcharge. Corporation tax receipts from the banking sector over the same period totalled £4.8 billion. By comparison the CRD scheme is looking to recover £169 million per annum.”

That tax burden is reducing in incidence because of decisions made by the current Government. I accept that the absolute value of tax collected has not diminished, given the return of many banks to profitability, as I have already mentioned.

Of course, many learned commentators suggest that that is one of the main reasons why corporation tax receipts appear to have increased despite a lowering of the rate. Those commentators suggest that the receipts would have not reduced, but risen if the rate had not been cut. In addition, I gently draw colleagues’ attention to the fact that the reduction in the bank levy is not compensated for by the corporation tax surcharge, and it leads, over time, to a £1.4 billion gap, as evidenced by the Government’s Red Book at the last Budget. We should therefore take decisions in this area informed by the fact that, overall, this Government have substantially reduced the taxation that falls on our banking sector. That is not, I suspect, an approach with which many of our constituents would agree.

--- Later in debate ---

[John Glen]

For the deficit over the last five-year period on its expenditure on these two functions, the Bank will have been obliged to find the funds from other sources within its organisation. We want to ensure that these particular functions—the monetary policy and financial stability functions—are properly funded and that there is flexibility over the amounts based on the prevailing gilts; they will be transparently and publicly available, because they are quoted all the time.

On the risk of the expansion of costs in the light of Brexit, the Government are working toward a solution that involves a long-term economic partnership. The enduring functions of the Bank of England to satisfy monetary policy and financial stability will continue. If, at some future point, the Bank of England realises further costs, it will be for the Bank to have conversations with the Treasury about the matter, but that is not anticipated. The Bank has been able to make projections over the next five years and commit to a budget that it is happy with under this model.

I have just received some advice on carried-forward costs. There are no fixed costs over five years, and there will be no carry-forward of the deficit. That will be dealt with, and we will start on the basis of the budget over the coming five years.

The hon. Lady made some wider observations about corporation tax. I think that they are out of the scope of this discussion, which is simply about the provision for this function of the Bank of England.

[Anneliese Dodds]

I mentioned corporation tax only because the consultation for the order set the requirement to place deposits with the Bank in the context of overall tax burdens on banks. It was mentioned in the consultation first; I did not come up with it initially.

[John Glen]

That was mentioned in passing, but the order is designed to give better assurance about the realising of the return required for the Bank of England to carry out these functions. I do not have anything more to add, so I hope that the Committee will agree to this draft order for the benefit of the Bank, our banking sector and the users of those services across the country.

Question put and agreed to.