Bank of England and Financial Services Bill [HL]

Lord Davies of Oldham Excerpts

Wednesday 11th November 2015 Lords Chamber

[Lord Davies of Oldham (Lab)]

My Lords, we are in agreement with the Government.

[Lord Ashton of Hyde]

Then I beg to move.

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[Lord Sharkey (LD)]

My Lords, this is essentially a probing amendment and I shall be brief. Clause 21(3)(c) amends Section 64B of FSMA 2000—the responsibilities of authorised persons in relation to rules of conduct—by omitting subsection (5). The subsection to be omitted says:

“If a relevant authorised person knows or suspects that a relevant person has failed to comply with any conduct rules, the authorised person must notify the regulator of that fact”.

This seems a perfectly straightforward, reasonable and clear duty to impose on the relevant authorised persons. Who could imagine or want a regime in which misconduct was known or suspected and there was no obligation to report the fact?

I asked the Minister at Second Reading why this obligation to report to the regulator was being abolished, and I wondered, of course, whose interest was being served by its abolition. The impact assessment helps here, in that it notes that,

“the removal of the SM & CR obligation to report breaches of rules of conduct should result in savings (mainly for larger banks and building societies) … This cost reduction should mainly benefit larger firms because of the large numbers of staff they employ”.

There is no mention of any other impact as to conduct or misconduct. The only impact listed is a financial benefit, mainly for larger banks and building societies. The Minister addressed the question in his letter to me of last week. He said that,

“the requirement for firms to report all suspected or confirmed breaches of the rules of conduct has proved to potentially be a very costly obligation for firms, especially the larger firms which employ large numbers of staff, as they have to put in place detailed systems and controls to ensure compliance …The regulators can ensure that they are notified of any information about employee misconduct in a more proportionate way in their rules”.

This raises more questions than it answers. How does the Minister know that the obligation to report misconduct is, “proving potentially very costly”? Who has told him so? What evidence have they provided? How was this evidence assessed? How did he guard against the obvious danger of special pleading? What independent views were solicited? Critically, how did he assess the cost benefit of removal of the obligation to report misconduct against the cost of unreported misconduct? Can the Committee see the evidence base for all this?

I note that the Minister defends the removal of the obligation to report misconduct by saying that there are other non-statutory ways the regulators can assure they are notified of misconduct. Does he mean the FCA general notification rules, SUP 15.3.1(3)? Do not these rules impose a non-statutory burden equal to that imposed by the statutory obligation that the Bill removes? If they do not, does that not suggest they are weaker, or has the Minister in mind new rules?

What all this means is that we are being asked to repeal a statutory safeguard without knowing what its non-statutory replacement may be. That seems an unsatisfactory situation. In addition to answering the questions that I have just asked, could the Minister at least postpone activation of this measure until Parliament has had a chance to assess whether the current FCA rules are likely to be as effective as the current statutory obligation—or, if there are to be new rules, could he introduce them via statutory instrument to give Parliament a chance to scrutinise them? I beg to move.

[Lord Davies of Oldham]

My Lords, I shall also speak briefly and, largely, to endorse the arguments put forward by the noble Lord, Lord Sharkey. The impact assessment does not give a rationale for why the Government have made this decision, which we seek at this point. It would be useful to understand the reasons for the decision having been taken; without such information, we are not quite clear as to the advantages. Who was consulted on this, and what are the benefits to consumers and regulators? Surely it would put more pressure on the regulators to identify wrongdoing. Have the Government conducted investigations that take any of this into account? The Minister has a chance to reassure both of us who have spoken in this short debate on the reasons for the Government’s position.

[Baroness Kramer (LD)]

My Lords, I shall say a brief word. My noble friend Lord Sharkey and the noble Lord, Lord Davies of Oldham, have both been very calm on this issue, but I shall admit that, frankly, I am outraged. The obligations that exist for so many people in the public sector to report misconduct—on teachers, police officers and members of the NHS—are taken as absolute requirements. There is no question of whether they are costly; it is understood that the importance of propriety and integrity in all those activities is crucial. I suggest that, after the years that we have been through following the financial crisis, no one should doubt that integrity in this sector is absolutely vital.

When we sat on the Parliamentary Commission on Banking Standards, we discussed whistleblowing extensively. Every single institution that we talked to and everyone we could identify had in place mechanisms for whistleblowing; the problem is that none of them was effective. The kind of issues that were reported through whistleblowing systems were situations such as when someone had noticed someone sliding a £5 note out of a cashier’s desk—they were on that kind of scale. So none of the major abuses, whether it was PPI, the LIBOR scandal, the mishandling of credit issues or money-laundering, came to the surface through any kind of whistleblowing system. This measure—the statutory requirement to report a breach when someone sees or recognises that it is happening—is one of the few mechanisms that we could conceive of to try to counter that particular set of problems. Without exception, everybody who gave evidence to the parliamentary commission talked about the importance of making whistleblowing much more effective. So far as I can see, there is no replacement to this requirement that is effective, that has been proposed—and, frankly, if there is a burden, surely any burden is significantly smaller than living with the consequences of sustained and ongoing abuse.

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[Lord Ashton of Hyde]

My Lords, government Amendments 27 and 28 make some minor and technical changes to the Financial Services and Markets Act 2000 in relation to the regulation of consumer credit. The Government fundamentally reformed consumer credit regulation, transferring responsibility from the Office of Fair Trading to the Financial Conduct Authority on 1 April 2014.

The FCA regime is already having a substantial positive impact and is helping to deliver the Government’s vision for an effective and sustainable consumer credit market which is able to meet consumers’ needs. The amendments considered today are, as I have already said, technical in nature. They concern the application of provisions relating to the enforceability of agreements.

Amendment 27 amends subsections (4) and (5) of Section 26A of the Financial Services and Markets Act 2000, which concern the enforcement of credit agreements by persons acting on behalf of the lender, either by administering the agreement or by collecting debts under the agreement. This amendment makes it clear that a consumer credit agreement may be enforced by anyone who is able to carry on a credit-related regulated activity lawfully under the Financial Services and Markets Act 2000. This includes firms that are exempt from the need to have FCA authorisation to carry out these activities either because the firm has an individual exemption or because it is entitled to an exemption as a member of a designated professional body. It also includes appointed representatives of authorised persons.

The current provision requires the person to have a relevant permission under the Act. The amendment clarifies that this is not limited to persons who are directly authorised by the FCA but also includes persons who are exempt from needing authorisation either by virtue of a specific exemption or because they are appointed representatives or members of a designated professional body. In such cases, the person does not need FCA authorisation, provided that, in the case of an appointed representative, another firm with the relevant debt collecting or debt administration permission takes responsibility, as principal, for their activities and compliance with FCA regulations. In the case of designated professional bodies, if the FCA has approved the professional body’s rules under Part 20 of FISMA, and these cover debt collecting or debt administration, then members of the body can carry on those activities without needing direct authorisation from the FCA, provided that they do not engage in regulated activities which are outside the scope of the Part 20 permission. It was always the Government’s intention that subsections (4) and (5) of Section 26A should cover such persons, but the amendment puts this beyond doubt.

Government Amendment 28 amends Section 27 of FSMA, which deals with agreements made through unauthorised persons. Subsection (1) of Section 27 provides that an agreement made by an authorised person carrying on a regulated activity is unenforceable where it is made in consequence of something said or done by a third party in circumstances where that third party should have had, but did not have, permission. In the case of consumer credit and hire agreements, this could potentially cover any credit broker in what could be a long chain of multiple brokers, even if the provider is not aware of the particular third party or their involvement in the transaction.

This is in contrast to the position under the Consumer Credit Act 1974 prior to the transfer of regulation from the OFT to the FCA. Section 149 of that Act, which was repealed as part of the transfer, limited unenforceability to situations where the introducing broker was unlicensed and it was immaterial whether any other broker in the chain was unlicensed. The amendment would ensure that Section 27 is proportionate for consumer credit lenders and consumer hire providers in the context of the consumer credit market, where chains of credit brokers are often involved in bringing together the consumer and the lender.

Specifically, the amendment would ensure that this applies only if the provider knows—before the agreement is made—that the third party, such as a credit broker, had some involvement in the making of the agreement or in matters preparatory to its making. In such cases, if the broker is acting in breach of the general prohibition, the agreement will be unenforceable against the consumer, as is currently the case. However, if the provider is unaware of the broker’s involvement, the fact that it did not have permission when it should have done would not in itself make the agreement unenforceable.

The Government believe that this strikes the right balance between protecting consumers and ensuring that burdens on firms are reasonable and proportionate. I beg to move.

[Lord Davies of Oldham]

My Lords, we consulted the Financial Services Consumer Panel on these amendments, and it confirmed that they were entirely technical. As I always take the panel’s advice, I think they are technical and agree with the Minister.

[Lord Ashton of Hyde]

I am grateful to the noble Lord.

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[Lord Ashton of Hyde]

My Lords, Amendment 29 introduces a power into the Financial Services and Markets Act 2000 for the Treasury to make regulations relating to transformer vehicles. Transformer vehicles are used for risk-mitigation purposes, particularly in the insurance and reinsurance industry. The Government plan to use this power to implement a new framework for insurance-linked securities business.

In an insurance-linked securities transaction, an insurer contracts with an entity specifically established to take on insurance risk. These entities come within the definition of “transformer vehicles” in the amendment. The insurer transfers risk to the transformer vehicle and the vehicle raises collateral to cover that risk by issuing securities to capital market investors. The vehicles exist solely to transform risk into capital market instruments and to compensate the insurer should the insured event take place. Investors receive a return from the premiums paid by the insurer and the collateral is returned to investors if the insured event does not take place. Unlike conventional reinsurers, ILS transactions do not pool risk. The transformer vehicle takes on a specific risk and typically holds collateral that is at least equal to the risk transferred. This key safeguard will be a firm requirement in the UK framework. The framework will ensure that insurers can rely on the protection they arrange through ILS deals.

Insurance-linked securities are now an important and growing part of the global specialist reinsurance market. By enabling insurers to access the capital markets as an alternative way of reinsuring risk, this business has brought additional capacity to parts of the reinsurance market. But despite the importance of London as a global insurance hub, that growth has taken place elsewhere. In London Matters, a report by the London Market Group on the competitiveness of the London insurance market, the UK’s out-of-date regulatory framework for insurance-linked securities was highlighted as inhibiting London’s ability to compete as a reinsurance hub.

Therefore, the March 2015 Budget announced that the Treasury, the PRA and the FCA would work closely with the London market to develop a more effective framework for insurance-linked securities business. The London market established the insurance-linked securities task force, which is working with the Treasury and the financial regulators to design a fit-for-purpose regime. Work is ongoing, but it is clear that the Financial Services and Markets Act needs to be amended to provide for the introduction of detailed regulations which will implement the new framework. In particular, the Government intend to use the power to create a bespoke corporate structure for transformer vehicles which assume risk from insurers and reinsurers. This will ensure that these vehicles are robust and managed in a way so that they can meet their obligations to insurers and investors. Given that this is a rapidly evolving market, the power will enable the Treasury and financial regulators to keep the regulatory framework up to date.

The clause enables the regulatory arrangements of Lloyd’s of London to be updated, should that be needed to facilitate the Lloyd’s market adapting to ILS business or the use of transformer vehicles. If this requires amendments to the Lloyd’s Acts then the regulations concerned will be dehybridised, so that the amendments are not delayed in Parliament by the hybrid procedure. I am grateful to the Delegated Powers Committee for its report on this clause, which recommends that the clause be amended to ensure that the consent of the council of Lloyd’s is needed before the FCA or PRA can be enabled to require the council to carry out functions on their behalf. I fully understand that the committee would want to be reassured that those affected by the use of a dehybridising provision are afforded an alternative protection. The Government will therefore give careful consideration to the committee’s report.

Although the Government’s current plan is to introduce a framework focused on the insurance industry, it is possible that the use of transformer vehicles by non-insurance entities, for example a company seeking to mitigate the longevity risk associated with an employee pension scheme, may become more common in the future. The power provides the flexibility for regulation to keep pace with such market developments, should that be required.

Finally, I am pleased to say that the London Market Group, which represents London’s insurers and reinsurers, has welcomed this first step in implementing a new framework for ILS business. I beg to move.

[Lord Davies of Oldham]

My Lords, it is third time unlucky for the Government because we do not consider these amendments to be entirely technical and they contain some aspects on which we seek clarification. The Minister has already recognised the significance of the report by the Delegated Powers and Regulatory Reform Committee, which I know will be studied with care. I make the assumption that the Government will come back before or on Report with a clear response to the committee’s conclusions. If the Government do not act on them then I can assure the Minister that we will, as the committee was quite clear that it thought there should be an amendment to the legislation.

The noble Lord, Lord Ashton, has already indicated the extent to which the Government have looked at the issue in relation to the council of Lloyd’s. I therefore hope that we will have clarity on this matter on Report. We will of course look at his remarks today with the greatest care. I give the obvious indication that while we will not object to these amendments at this stage, we will be coming back to this issue and, more accurately, we hope that the Government will be coming back to it as well.

[Lord Ashton of Hyde]

My Lords, I note what the noble Lord has said and, as I said before, we are considering this carefully. As I think I indicated, we accept what the Delegated Powers and Regulatory Reform Committee has said. We are looking carefully at this and a response will be forthcoming before Report.

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[Lord Davies of Oldham (Lab)]

My Lords, I endorse the remarks of my noble friend Lord McFall in introducing the debate on the amendments. My remarks are necessarily cut short because the noble Lord, Lord Deben, provided a great deal of the supportive evidence and arguments the Government ought to take seriously; we hope that they will.

There was a time, not so very long ago, when we prided ourselves on the extent to which this country was to the fore in being aware of the problems of climate change and taking the necessary action to reduce the frightening possibility of the rise in temperatures and general climate change, which would make such great difficulty for the whole world. I know that my noble friend Lady Worthington, who is, unhappily, not with us today, is very concerned that the French this year have taken steps that are somewhat in advance of what we have made so far. They passed a law requiring listed companies to disclose in their annual reports how exposed they are to the financial risks related to the effects of climate change, and what measures have been adopted by the company to reduce those risks. The law also requires pension funds, insurance companies and other institutional investors in France to disclose how they are managing climate change risk. This law makes France the first country in the world to introduce a carbon-reporting obligation on financial institutions.

Amendment 29B gives an indication of the road we could tread. I therefore hope that the Minister will at least commit the Government to creating a standardised set of questions that financial services providers must ask to gather and present information on companies and asset owners. The aim would be to make it easier to compare and assess risks to which companies may be exposed because of the impact of climate change. That is not asking too much of the Minister, in his more constructive mood, and I hope I will establish that point very shortly.

[Lord Bridges of Headley]

I always try to be constructive with the noble Lord, Lord Davies. I thank the noble Lord, Lord McFall, for introducing this amendment. It is a shame that the noble Baroness, Lady Worthington, is not with us. What strikes me from this interesting and useful discussion is that at issue is not whether we disclose more but how we do it in a meaningful way that people can understand and that is consistent.

Just taking a step back, as I outlined in my response to the noble Baroness, Lady Worthington, on Monday, I fully recognise that climate change, as well as demographic change and technological change, which she referred to, are important structural issues that could have a significant impact on not just financial stability but society more broadly. As my noble friend Lord Deben, who has a lot of experience in this field, said, climate change cannot be put into a silo and seen as the responsibility of one government department, nor, in a business, one part of the business. It needs to be seen as a common endeavour to tackle.

It is right, therefore, that the UK’s macroprudential authority should be alert to climate change as well as to the other long-term systemic risks that I mentioned and that it, and other parties, should have access to clear and sufficient information to make an educated assessment of those risks. As the noble Lord, Lord McFall, and others, are well aware, the Government have put in place legally binding, long-term commitments to reduce our greenhouse gas emissions in the Climate Change Act 2008, and we will be pushing strongly for an ambitious and global agreement on climate change at this December’s United Nations conference of parties in Paris, involving commitment by all countries to act. The steps that will be taken to meet these commitments will involve a range of adjustments to production and consumption across the global economy, and the Government fully recognise the importance of ensuring that this transition is as orderly as possible.

As the noble Lord, Lord McFall, said, the Governor of the Bank, in his capacity as the chairman of the Financial Stability Board, has already highlighted the risks that climate change could pose to financial stability—and, more pertinently to the amendment, the role that consistent, clear and comparable disclosure at international level could play in responding to those risks. As your Lordships will know, the Financial Stability Board has been actively considering these issues and recently, at the end of September, convened a workshop of public and private sector participants to consider how the financial sector should take account of climate-related issues.

Following that workshop, the FSB published for this month’s G20 summit a proposal for an industry-led task force on climate-related risks. The G20 will then recommend principles for climate-related disclosure. I do not want to prejudice that discussion but agree with the noble Lord that obviously more could be done with disclosure practices. As he rightly said, so many disclosures—ironically and perversely in an age where we want more information—could add to confusion and not add clarity. We look for added clarity and consistency.

In the light of the need for comparable information across countries, I would argue that this issue is rightly considered at that international level. That said, one may well ask what the Government are doing at a UK level. I point your Lordships to what happened last week when the Treasury concluded a written consultation on reform to the UK’s business energy efficiency tax landscape. This included questions related to greenhouse gas reporting, including a requirement under the Companies Act 2006 for quoted companies to report their greenhouse gas emissions as part of their annual directors’ report. As I said, that is out for consultation.

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[Baroness Kramer]

First, I thank the noble Lord, Lord Naseby, for allowing me to put my name to his very fine amendment, and also for drafting it in such a way that I could arrange the conversation beyond just the matter of mutuals. I very much support his comments on mutuals. They are important to our past, our present and our future.

The noble Lord commented on the regulatory scope available to the PRA in dealing with the sector, which I believe is governed by CRD IV, the relevant European directive. He will know that there is a great deal of scope for flexibility under that directive precisely to recognise the various needs of mutual—and similar and smaller—institutions across quite a wide range of facets. It is a flexibility of which the PRA has essentially not availed itself. Since those flexibilities were largely negotiated by the UK with the domestic variety in mind, it seems a little extraordinary that we have not taken advantage of them. I recommend to the Government that they might want to have an appropriate conversation with my soon-to-be noble friend Lady Bowles, who will shortly be coming to this House. She was a member—in effect, chair—of ECON, the Committee on Economic and Monetary Affairs within the EU. She can provide some helpful advice and direction on this issue.

I have said many times in this House, and I shall repeat it again today, that in the UK we are missing a layer of banking. In Germany, regional government—the Länder and municipalities—are able to sponsor banking institutions. The financial institutions provide the backbone to Germany’s small and medium-sized businesses, the Mittelstand. During times of recession that banking layer provided ongoing support to those companies because they understood them and their remit was such that they had to find their routes to profit from within that scope of geography and companies. It has been a very successful model and we have no equivalent here in the UK.

In the United States, which we also very much recognise as a competitor, local community and regional banks also play a much more significant role in supporting both individuals and small businesses. The community development movement in the US, which is very much local, has something in excess of $30 billion of assets under management. It is highly significant. It comes out of the US history of local banking, strengthened by the Community Reinvestment Act which was introduced in the late 1970s, largely as a civil rights measure, to deal with the red lines that major banks had drawn around ethnic minority communities, as they were not lending into those communities. That has been balanced out by the Community Reinvestment Act. It provided the Obama Administration with a very significant route to channel funds to small businesses during the recession in the US and again played a very significant role in making sure that those small businesses could be resilient.

By contrast, following the financial crisis, the major mainstream banks in the UK largely withdrew from SME funding. The Government tried to support various programmes and schemes, including the growing but still small P2P industry, to fill something of that gap and vacuum. However, that does not overcome the fact that we still do not have the appropriate layer of banking to provide the community and local perspective which enables companies to rely on ongoing support from financial institutions in both good times and bad.

I think that if you spoke today to the Federation of Small Businesses, it would say that even though we are in recovery, most of the mainstream banks have not returned to lending to SMEs and, where they do, it is frequently property lending, or at least property is required to provide collateral for what should be cash-flow loans, and that the banks are still fairly slow to come to decisions. Having been on this House’s sub-committee on SMEs and export finance, I know that it was evident that small businesses found it extremely difficult to source any kind of financing for exports. Even when they had a long history of exports and were well established, it was still very difficult and very expensive to find that kind of financing in the UK. Therefore, it is reasonably self-evident that we are missing a layer of banking. Frankly, the regulator has never addressed that issue but has always waited passively for the market to come forward rather than taking positive action itself.

A combined report from Newcastle and Coventry universities was recently published and states:

“In 2013, the unmet demand of individuals and businesses excluded from mainstream finance (‘the finance gap’) was estimated at around £6 billion per annum”.

That is a huge figure and it seems to me that the regulator must begin to pay attention to it.

During the passage of the Financial Services Act 2012, the noble Lord, Lord Sharkey, and I proposed a measure to require the banks to disclose their lending practices in detail and by postcode. That led to a voluntary framework for the disclosure of bank lending which came into effect in December 2013 and was supported by HM Treasury and BIS. According to a recent letter sent to the Treasury from the Community Investment Coalition, it is starting to have a real impact. The letter states that in 2014,

“Coventry University and Newcastle University were commissioned by Big Society Capital, Citi, the Community Investment Coalition and Unity Trust Bank to analyse the data and assess its value in supporting increased market competition and interventions to overcome financial inclusion”.

That is a very interesting report. It is supported by a sibling report, as it were, from the University of Sheffield, which looked at mortgages.

The only conclusions one can come to from reading those reports is that lending across the UK is incredibly haphazard. The data do not yet allow sufficient fineness of analysis, if you like. I hope very much that the Government will look at whether or not more measures are necessary to provide appropriate data to the degree required to enable proper analysis to take place. However, it is very clear that different parts of the country have very different experiences as regards access to lending. Strangely enough, in the London area, for example, access to lending for small businesses seems to be very much less than one would expect compared with other parts of the country. It will be very helpful when we finally have those data because they will expose where the system continues to fail. Regardless of that, I hope the Government will see that there is a role that must be played by the regulator as well as by the Government in ensuring that the patchiness and inadequacy of banking facilities for small businesses and individuals is countered. I ask the Government to look seriously at the amendment moved by the noble Lord, Lord Naseby, because it begins to tackle that particular set of issues.

[Lord Davies of Oldham]

My Lords, I congratulate the noble Lord, Lord Naseby, both on his amendment, for which he has secured widespread support, including from this Bench, and on the way in which he detailed the key arguments behind it, which I know the Government will take seriously. It is somewhat unnecessary for me to fill in any of the interstices that the noble Lord, Lord Naseby, may have left—which were not many—because the noble Baroness, Lady Kramer, has certainly emphasised the significant point, which is that British banking needs to be a good deal more diverse than it is at present.

After all, the Competition and Markets Authority disclosed its findings last month from its review of competition in the retail banking market and found—predictably—that the four largest banks had long dominated the British scene, stifling competition that would give consumers and businesses a better deal. We all know the limited success that has been obtained by the various reforms to make the switching of accounts easier. The British people, I am afraid, are somewhat inured to minor blandishments when it comes to their bank accounts, so there is a need for much more imaginary thought at the centre on how we can make our financial provision more diverse.

We have support from the Treasury Select Committee. The chair, Andrew Tyrie, has written to the CMA to ask it to report back before the Budget in March next year regarding the 8% surcharge on bank profits. He wants to know what impact that has had on the big four and what implications it has for the wider banking sector. It is clearly the case, he believes, that one size does not fit all. That phrase has obtained throughout this short debate and is one to which I entirely subscribe. The Minister will be all too well aware that the Building Societies Association has made it clear that the problems encountered by financial mutuals in recent years almost certainly would have been fewer if there had been greater diversity in the sector.

I think that the case for this amendment has been made strongly. No doubt the noble Lord will be withdrawing it on this occasion but the purpose of this debate is to give the Government the chance to show a constructive response to what we all recognise is a real issue with regard to British banking. The noble Baroness, Lady Kramer, cited the German position. Is it not somewhat extraordinary that even under the so-called northern powerhouse, our great cities do not have individual banks? They no longer have individual building societies, either. That says something about the structure of finance in this country, which surely the Government should address in the context of a Bill about the most significant banking structure of them all—the Bank of England.

[Lord Ashton of Hyde]

My Lords, I am grateful to noble Lords who contributed to the debate. I have listened carefully to the interesting points, particularly on banking diversity and availability, especially for SMEs, made by the noble Baroness, Lady Kramer, and the noble Lord, Lord Davies, but I will concentrate on the amendment in hand.

I am glad to say that noble Lords are pushing at an open door—or, at least, one that is slightly ajar. This amendment would add a duty to the PRA to consider diversity of ownership model and size alongside its competition objectives. For the FCA, the amendment would add diversity of ownership model and size to the list of factors to which it may have regard as part of its competition objective.