Bank Resolution (Recapitalisation) Bill [HL]

Lord Livermore Excerpts

2nd reading
Tuesday 30th July 2024 Lords Chamber

Moved by

[Lord Livermore]

That the Bill be now read a second time.

[The Financial Secretary to the Treasury (Lord Livermore) (Lab)]

My Lords, I am sure that all noble Lords will be pleased to see the noble Baroness, Lady Penn, in her place today. I enjoyed working with her on the passage of the Financial Services and Markets Act in the last Parliament, when I was new in my role and she knew a great deal more about the Act than I did. Now I am new in my role again, and I am quite sure she still knows a great deal more about this Bill than I do; I am sure that I will enjoy working with her just as much. I am also pleased to see and work again with the noble Baroness, Lady Kramer, who probably knows more about this subject than the rest of us put together.

The Bank Resolution (Recapitalisation) Bill will enhance the UK’s resolution regime, providing the Bank of England with a more flexible toolkit to respond to the failure of banks. It ensures that, where failing banking institutions require intervention, in particular smaller banks, certain costs of managing their failure do not fall on taxpayers. It strengthens protections for public funds and promotes financial stability, while supporting economic growth and competitiveness by avoiding new upfront costs on the banking sector.

The resolution regime was introduced in the wake of the global financial crisis and implemented in the UK through the Banking Act 2009. It provides a number of additional tools to the Bank of England to manage the failure of financial institutions safely, helping to limit risks to financial stability, public funds and the economy. The regime was introduced in recognition of a global consensus that reforms were needed to end “too big to fail” and ensure financial institutions could wind up their operations in an orderly way. This regime has been developed and added to steadily over the past decade by a succession of Governments, giving the UK a robust regime and supporting its role as a leader in financial regulation, while also reflecting relevant international standards.

The regime was last used to resolve Silicon Valley Bank UK, the UK subsidiary of the US firm that collapsed in March 2023. The Bank of England used its powers under the Banking Act to facilitate the sale of Silicon Valley Bank UK to HSBC, delivering good outcomes for financial stability, customers and taxpayers. All the bank’s customers were able to continue accessing their bank accounts and other facilities, and all deposits remained safe, secure and accessible. In doing so, the Bank of England ensured the continuity of banking services and maintained public confidence in the stability of the UK financial system.

While the case of Silicon Valley Bank UK demonstrated the effectiveness and robustness of the resolution regime, the Bank of England, the Treasury and international counterparts have carefully considered the implications of this wider period of banking sector volatility. This builds on the proposals set out in consultation by the previous Government, following the work they did with the Bank of England after the Silicon Valley Bank case. This Government believe there is a case for a targeted enhancement to give the Bank of England greater flexibility to manage the failure of small banks effectively. I hope that, given the origin of these proposals, they will be welcomed by noble Lords from across the Chamber.

It is worth noting that small banks that fail are typically expected to be placed into insolvency under the bank insolvency procedure and are currently not expected to meet the conditions that must be satisfied for the Bank of England’s resolution powers to be used. These conditions include whether exercise of the powers is necessary to meet certain objectives of resolving a bank and is in the public interest.

Under the bank insolvency procedure, upon entering insolvency, the Financial Services Compensation Scheme compensates eligible depositors for account balances up to £85,000 per depositor within seven days, with higher limits for temporary high balances. This compensation is funded initially through a levy on industry and then, where possible, recovered from the estate of the failed firm.

Following the case of Silicon Valley Bank UK, the Government’s view is that in some cases of small bank failure, the public interest and resolution objectives may be better served by the use of resolution powers than insolvency. If, in future, a failing small bank were to require resolution, it may require additional capital. This may be needed for a range of reasons: for example, to meet minimum capital requirements for authorisation or to sustain market confidence. At present, these costs may initially have to be borne by taxpayers, as the Treasury would be the only available source of funds to meet these expenses. That is an undesirable status quo.

A key aim of the Bank Resolution (Recapitalisation) Bill, therefore, is to strengthen the protections for public funds where a small bank is placed into resolution instead of insolvency. Overall, this is a necessary and, I hope, uncontroversial set of reforms in order to ensure the regime effectively continues to limit risks to financial stability and to taxpayers.

It is important to note that the bank insolvency procedure will still have an important role in managing the failure of small banks. Relatedly, the Government do not intend to make widespread changes to a resolution regime that is already working well. Instead, this Bill reflects the view that there is merit in a targeted set of changes which ensure that, if needed, certain existing resolution tools can be applied to small banks in a way that achieves good outcomes for financial stability while also protecting taxpayers.

The Bill achieves this by introducing a new mechanism. This mechanism allows the Bank of England to use funds provided by the banking sector to cover certain costs associated with resolving a failing banking institution and achieving its sale, in whole or in part. The Bill does three things to create the new mechanism. First, it expands the statutory functions of the Financial Services Compensation Scheme, which will be required to provide funds to the Bank of England upon request, to be used where necessary to support the resolution of a failing bank.

Secondly, the Bill allows the Financial Services Compensation Scheme to recover the funds provided by charging levies on the banking sector. This is similar to the current arrangements for funding depositor payouts in insolvency, with the exception of the treatment of credit unions. In response to feedback from industry, the Government have decided to carve out credit unions from levy contributions in recognition of the fact that they cannot be put into resolution, and so the new mechanism cannot be used on them. It is important to note that this means the banking sector is levied only after the event of failure, not before, thereby avoiding new upfront costs on the sector.

Thirdly, the Bill gives the Bank of England an express ability to require a bank in resolution to issue new shares, facilitating the use of industry funds to meet a failing bank’s recapitalisation costs. Taken together, these measures give the Bank of England a more flexible toolkit to respond to small bank failures in a way that promotes financial and economic stability. Critically, they strengthen protections for taxpayers’ money, while avoiding new upfront costs on the banking sector.

The Bill consists of five clauses and is narrow in scope. I will now set out how each of them operates and the effect they produce. The first clause inserts into the Financial Services and Markets Act 2000 a new section which introduces the new mechanism. It allows the Bank of England to require the Financial Services Compensation Scheme to provide the Bank of England with funds when using its resolution powers to transfer a failing firm to a private sector purchaser or bridge bank. It sets out what these funds can be used for: namely, to cover the costs of recapitalising the firm and the expenses of the Bank of England and others in taking the resolution action. It also allows the Financial Services Compensation Scheme to recover the funds provided through levies.

The second clause sets out that the Bank of England must reimburse the Financial Services Compensation Scheme for any funds it provides that were not needed. The third clause primarily ensures that existing provisions relating to the Financial Services Compensation Scheme apply to the new mechanism in the same way. The most substantive change specifies that the Financial Services Compensation Scheme cannot levy credit unions to recoup funds provided under this mechanism. The most substantive change in the fourth clause gives the Bank of England the power to require a failing firm to issue new shares. This will make it easier for the Bank of England to use the funds provided by the Financial Services Compensation Scheme to recapitalise the firm by using the funds to buy the new shares. The fourth clause also makes several consequential changes to reflect the introduction of the new mechanism. The fifth and final clause sets out procedural matters, including that the Treasury may make regulations to commence the provisions in the Bill.

The key proposals in this Bill have been subject to consultation with industry, and the Government appreciate the feedback they have received and have reflected on it carefully. The Government note the concerns about the appropriateness of credit unions being liable to pay levies under the mechanism. The Government have taken this feedback on board, and the Bill therefore carves credit unions out of the scope of levies where the new mechanism is used. The Government also acknowledge the questions raised by industry about whether additional safeguards should be included to ensure the Bank of England calls on the Financial Services Compensation Scheme only where this is less costly than putting a bank into insolvency instead. The Government have reflected on this feedback carefully and consider that the safeguards in the existing resolution regime remain appropriate.

However, the Government do intend to update the special resolution regime code of practice in due course, in order to set out how we will ensure clarity on how the Bank of England will consider relative costs to industry in different scenarios. As part of this, the Government intend to set out in the code of practice their expectations around what the Bank of England would need to report on publicly following the exercise of its new powers. Finally, the Government stress that the banking sector as a whole stands to benefit from use of the mechanism set out in the Bill, in particular in its ability to reduce the potential risk of contagion arising from small bank failures where resolution is in the public interest.

I recognise that noble Lords have in the past raised concerns about the exemptions applied when SVB UK was transferred to HSBC and, although these are not within scope of the Bill, may wish to raise such concerns today. It is important to note that the resolution of SVB UK presented an exceptional set of circumstances which required an exceptional response, recognised by noble Lords across the House at the time. The House also supported the conditions that were applied to the exemption, in particular to limit the type of business that SVB UK—now HSBC Innovation Banking—is able to carry out. I am assured that the regulator is in a position to ensure these conditions are met.

I would also like to reassure noble Lords that there is no expectation that ring-fencing provisions would be disapplied in the event of resolution in future; as with many aspects of resolution, they would need to be considered on a case-by-case basis, based on the balance of risks and the public interest at the time. The Government would, though, caution against steps that would create significant new procedural barriers to the use of the transfer tools, given unpredictable situations and the need to act quickly and decisively.

Stability is at the heart of the Government’s agenda for economic growth, because when we do not have economic and financial stability, it is working people who pay the price. The resolution regime is a critical source of stability when banks fail, by ensuring that public funds and taxpayer money are protected. This Bill delivers a proportionate and targeted enhancement to the resolution regime to ensure it best continues to provide that important stability. I look forward to hearing your Lordships’ views on it during this debate. I beg to move.

--- Later in debate ---

[Lord Livermore (Lab)]

I thank all noble Lords for their contributions to this debate. As noted in my opening speech, this is intended to be a targeted and proportionate enhancement to the resolution regime. It will provide the Bank of England with additional flexibility to manage bank failures in a way that strengthens protections for financial stability and taxpayers. Therefore, it supports the Government’s ambitions to promote economic stability and growth.

Without the Bill, a gap would remain in the resolution framework, meaning there would be a potentially significant risk to public funds in the event of a small bank requiring intervention. In certain circumstances, there could also be a greater risk of contagion from the failure of one small bank spreading to others. The bank insolvency procedure and other forms of modified insolvency remain an important part of the toolkit for dealing with the failure of small banks.

A key principle underlying the Prudential Regulation Authority’s approach to banking supervision is that it does not operate a zero-failure regime. Rather, it works with the Bank of England, as the UK’s resolution authority, to ensure that any firms that fail do so in an orderly manner. Any resolution action, including action involving the new mechanism, would continue to be subject to all four resolution conditions being met. The Bank of England must also have regard to a number of resolution objectives to ensure that the action taken is in the public interest. Not every small bank failure would meet those conditions to justify taking resolution action. However, in the event that a small bank failure does meet these conditions, it is right that the Bank of England has the appropriate flexibility to manage the failure effectively.

To address the key point made by the noble Lord, Lord Moylan, since the global financial crisis there have been international efforts to address the risks that crystallised during the crisis and to reform and strengthen financial supervision and regulation, making the financial system stronger and more stable. Financial stability is a priority for this Government, at the heart of our vision to support economic stability and growth. The Bill supports that priority by ensuring that there continues to be a robust regime for managing the failures of banks in a way that limits risks to financial stability and taxpayers.

The noble Lord also asked about the funding for the FSCS. The Financial Services Compensation Scheme is funded by levies on the financial services industry, as he knows. For deposit-taking firms, if a bank or a building society were to enter insolvency, the FSCS would have to pay out compensation and then raise its levy on the banking sector to recover the funds. To cover the gap between paying out compensation and recovering the funds through the levy, the Financial Services Compensation Scheme would use its overdraft as well as its commercial credit facility. Combined, these can provide up to £1.5 billion.

The noble Lord asked about the speed of providing the money. The Financial Services Compensation Scheme will provide the money as soon as it is able. Given that resolutions generally happen very quickly, in a matter of days, the Financial Services Compensation Scheme may be required to provide the money very quickly.

The noble Lord asked about the vehicle for the funds. Under the Bill, the Financial Services Compensation Scheme would provide the funds at the Bank of England’s request and recoup them from the banking sector. The Financial Services Compensation Scheme is well placed to perform both functions, as it already has the infra- structure and expertise to source funds at short notice, handle large sums of money appropriately and levy the banking sector.

The noble Lord also asked about the bank levy. The Government believe that their proposal to fund costs through the Financial Services Compensation Scheme is a targeted and proportionate approach, ensuring that the banking sector pays only when it needs to. Meanwhile, the bank levy continues to ensure that banks make a fair and sustainable tax contribution that reflects their importance to the financial system and wider economy. However, the Government believe that the mechanism provided for under the Bill should be funded by the wider banking sector. The bank levy would therefore not be an appropriate funding mechanism and is not paid by small banks, for which the new mechanism is primarily intended.

The noble Lord asked too about the regime being insufficiently robust and not yet tested. The resolution regime is designed to ensure that the Bank of England has the full suite of powers needed. The Bank of England and the Treasury regularly contingency plan to test the regime.

Coming to the points raised by the noble Baroness, Lady Bowles, I am very grateful to her for her support for the Bill. She asked about WealthTek and MREL in substance and raised concerns about the recent failure of WealthTek and the implications of that failure for consumers. It will not be possible for me to comment in detail on the case of an individual firm failure. However, I will respond to her on her general concern that costs due to an administrator can be deducted from compensation that is due to consumers when their firm fails. In the case of depositors of banks, I reassure the noble Baroness that PRA rules are clear that no insolvency or administration costs can be deducted from payouts due to covered depositors when their bank enters insolvency.

The investment bank special administration regime is a bespoke insolvency regime for investment firms that hold client assets. It is designed to offer better outcomes for customers by ensuring that the special administrators prioritise the return of client assets.

The noble Baroness also asked about requesting money more than once in a single resolution. The Bank of England is not limited in the number of times it can request money from the Financial Services Compensation Scheme. This provides appropriate flexibility in case further unanticipated costs arise following the initial intervention, for example in relation to subsequent litigation or compensation. This in turn reduces the risk to public funds.

On the question of small banks holding MREL, the Bank of England is ultimately responsible for MREL policy. The Government note that setting MREL for small banks would be very expensive for this cohort of firms.

The noble Baroness also asked about raising new taxes on the banking sector. The Bill avoids imposing any new upfront costs on the banking sector. Crucially, all costs are contingent and would crystallise only in the event of a firm failure. The counterfactual to using resolution powers alongside industry funds would be insolvency, in which scenario the banking sector would in any case be liable to pay levies to fund depositor compensation.

I am very grateful to my noble friend Lord Macpherson for his very kind words. The noble Lord asked about the banking insolvency procedure, as did the noble Lord, Lord Sikka. A key principle underlying the Prudential Regulation Authority’s approach to banking supervision is that it does not operate a zero-failure regime. Rather, it works with the Bank of England as the UK’s resolution authority to ensure that any firms that fail do so in an orderly manner. It is important to note that any resolution action, including action involving the new mechanism, will continue to be subject to all four resolution conditions, including the public interest test being met, just as it is now. Not every small bank failure would meet those conditions to justify taking resolution action.

My noble friend Lord Macpherson also asked about the Treasury’s ongoing role in authorising the new mechanism. As now, the Treasury will be consulted on any use of resolution powers. However, its consent is required only if the use of those powers would have implications for public funds.

My noble friend also asked about the Bank of England not being incentivised to keep costs down. It is right that Bank of England expenses can be recovered by levies. The alternative, of course, would be to use public funds.

My noble friend Lord Eatwell and the noble Lord, Lord Vaux of Harrowden, also asked about the scope of the Bill not being limited to small banks. The expectation is that the mechanism would generally be used to support the resolution of small banks. However, the Government consider it appropriate for the mechanism, in principle, to be applicable to any banking institution within scope of the resolution regime. This would give the Bank of England, in consultation with the relevant authorities, the flexibility to respond as circumstances required.

My noble friend also suggested that the regime does not protect against systemic risk and is dependent on a buyer to work. It is worth noting that the resolution regime includes an expansive set of powers designed to equip the Bank of England with the tools to manage systemic risks and to limit contagion across the financial system. As well as the powers to transfer a failing firm to a buyer, this toolkit also includes the bail-in power. As part of this power, the largest and most systemic banks are required to hold additional equity and debt to absorb losses and self-insure against their own failure.

In the event that these banks fail, the Bank of England can use these additional resources to recapitalise the firm, including by converting the additional debt into equity and turning those creditors into shareholders. This would allow the failed bank to continue as a going concern without necessarily relying on a buyer, thereby stabilising it sufficiently to give it time to restructure and address the issues that led to its failure.

Equally, the Bill will ensure the Bank of England’s toolkit to manage systemic risk is robust by ensuring that the Bank of England is able to mitigate risks of contagion that may arise from the failure of a smaller bank, including in situations where a buyer is not forthcoming.

My noble friend also queried the point of comparison in the cost-benefit analysis published by the Government on 19 July. One principle of the resolution regime, as it has operated to date, is a presumption that shareholders and creditors will be required to meet the costs of bank failure. This is why the largest and most systemic banks are now required to hold additional equity in debt: to absorb losses and self-insure against their own failure. For banks that are not required to hold additional equity and debt, the Bank of England’s preferred strategy for managing their failure is insolvency. The Bill would make an alternative source of funds available, such that resolution powers may be considered for small banks that would otherwise be expected to be placed into insolvency. I will look further into the points that he raises, but the Government therefore maintain that insolvency is the correct counterfactual and the right point of comparison with the new mechanism, and they stand behind the analysis that they have published.

The noble Lord, Lord Vaux of Harrowden, asked about costs of the industry being taken into account. There are a number of important safeguards in the regime. The Bank of England must consult with the PRA when considering resolution action. The PRA, in turn, sets a cap on what is considered affordable for the sector to be levied per year. The PRA will continue to have this role under the new mechanism. In addition, the Government intend to update the special resolution regime code of practice to provide greater clarity about how the Bank of England will take account of the costs to the Financial Services Compensation Scheme when considering whether to use the new mechanism in its assessment of the resolution, conditions and objectives.

The noble Lord, Lord Vaux of Harrowden, asked about the deal for buyers coming on the back of industry. The Bank of England will be responsible for determining whether resolution is in the public interest, including transfer to another firm. The new mechanism introduced by the Bill ensures that where there is no willing buyer, absent recapitalisation the taxpayer is not responsible for meeting the costs of recapitalisation. As now, the expectation is that usually any sale will be achieved by an auction process.

The noble Lord also asked about subsidiaries. It is possible that the parent company may be able to recapitalise its subsidiary outside of resolution, but there may be circumstances in which this is not possible, as was the case with SVB UK. It is important that the Bank of England has the necessary tools to deal with a failing firm, regardless of its home jurisdiction.

The noble Lord, Lord Vaux of Harrowden, also asked about levy affordability. In line with its safety and soundness objective, the PRA carefully considers the affordability of the Financial Services Compensation Scheme levy for firms. The Government are therefore confident that any levies imposed as a result of this mechanism will be set at a level that is affordable for firms.

On the noble Lord’s point about letting shareholders and creditors of the failed bank off the hook vis-à-vis other, larger banks that have to meet these rules in resolution, Sections 6A and 6B of the Banking Act 2009 require the Bank of England to ensure that shareholders and creditors bear losses when a banking institution fails. This is an important principle that will continue to apply when the new mechanism is used. This involves cancelling, diluting or transferring common shares so that shareholders are the first to bear losses.

The noble Lord, Lord Vaux, also asked about the flowback to the Financial Services Compensation Scheme. Any money requested by the Bank of England but not expended would be returned to the FSCS. Any money that the Bank of England recovers through the sale of the firm in resolution, or through its winding up, would also be returned to the FSCS up to the amount of the original payment.

Finally, the noble Lord asked whether taxpayers should pay. It is not right to presume that government should pay for resolution. The Bill rightly follows the approach taken in insolvency: the costs fall to industry. I hope I have covered all his points. If not, I shall write to him.

The noble Lord, Lord Sikka, asked about letting firms fail to impose market discipline. The failure of Silicon Valley Bank UK showed there may be some cases where it is in the public interest for the Bank of England to intervene in a small bank failure if doing so mitigates the risk of systemic impacts. However, insolvency remains an important part of the toolkit. It is important to know that any use of the transfer tools in their resolution regime would entail the writedown of regulatory capital. This would impose losses on shareholders and creditors of the firm and is an important means of maintaining market discipline.

The noble Lord, Lord Sikka, also asked about interaction with the corporation tax cap. This Government have been clear about their mission to boost growth; it is vital that the tax system support this. The Chancellor’s commitment on tax was set out in the manifesto. We keep all tax under review, and the Chancellor makes tax policy announcements only at fiscal events in the context of the public finances.

I am grateful to the noble Baroness, Lady Kramer, for her support for the Bill. She raised a number of questions about the ring-fencing exemptions. She specifically raised points about the circumstances surrounding the failure of SVB UK and the decision to provide HSBC with an exemption to the ring-fencing rules. As I alluded to in my opening remarks, this exemption was deemed crucial to ensuring that the sale of SVB UK could proceed. The success of the transaction was necessary to protect SVB UK depositors and the taxpayers, but it did not set a precedent. As I stated earlier, the resolution of SVB UK presented an exceptional set of circumstances that required an exceptional response, recognised by noble Lords across this House at the time.

I recognise the noble Baroness’s important point about ensuring that any resolution action is subject to appropriate scrutiny. That is why the Government have committed in their consultation response to updating their code of practice regarding reports. The Bank of England is already required to submit to the Chancellor to lay before Parliament in the event that this new mechanism is used. We will develop those amendments to the code of practice in due course and consult with the Treasury’s banking liaison panel, which advises on the resolution regime on the precise scope of its content. The noble Baroness invited me to write to her, so if I have not covered all her questions here, I absolutely will in a letter.

The noble Baroness also asked whether the Government are committed to the bail-in procedure. Bail-in is a crucial part of the toolkit for resolving the largest, most systemic banks. There is international consensus behind this.

The noble Baronesses, Lady Kramer and Lady Penn, asked about the impact on medium-sized MREL banks and what consideration the Government have given to the impact on medium-sized banks, which are required to meet their own requirements to hold equity and for debt to be bailed in, known otherwise as MREL, as well as to contribute to the costs of this new mechanism.

The Government recognise the important contribution made by challenger banks and note concerns raised during consultation about the broader policy surrounding MREL. MREL policy is set by the Bank of England, as set out in the Government’s consultation response. The Bank of England will reflect on the feedback raised during consultation and consider whether changes are warranted to its approach to setting MREL policy.

Notwithstanding that, I emphasise the Government’s belief that the funding approach set out in the Bill is targeted and proportionate, ensuring that the banking sector pays only when it needs to, avoiding a new set of upfront costs. The Government have concluded that the entire banking sector, including medium-sized banks, stands to benefit from the new mechanism through the protection of financial stability and the reduced risk of contagion. It will also contribute to ensuring that the UK retains a robust and world-leading resolution regime.

The noble Baroness, Lady Kramer, asked about the new mechanism applying only to small banks without MREL. I think I covered that in my previous answer.

I am grateful to the noble Baroness, Lady Penn, for her support for the Bill. As she says, its origins were cross-party, and I am grateful for her continued support. She raised the issue of using resolution procedure versus insolvency, which the noble Baroness, Lady Kramer, also asked about. Both noble Baronesses asked about the extent to which resolution will be used instead of insolvency, and for an example of where insolvency will be preferred over the new mechanism. I should reiterate that the bank insolvency procedure will remain a vital part of the toolkit and a preferred strategy in the event of many firm failures, and I stress that the Bill is not designed to replace the bank insolvency procedure; it is designed instead to expand the Bank of England’s options when faced with a small bank failure.

Whether to put a failing firm into a resolution is ultimately a decision for the Bank of England in its capacity as resolution authority. It will decide this based on an assessment of the resolution conditions, and in particular on the basis of whether it is in the public interest at the time. It will make this judgment in advancement of the statutory resolution objectives, including to protect financial stability and public funds. Therefore, if the Bank of England judges that the resolution conditions and public interest test for resolution would not be met for a specific bank, it would seek to place that bank into insolvency. That might be for a range of reasons but could include, as an example, a judgment by the Bank of England that the bank’s failure would not have systemic implications for the financial system or create significant disruption for customers.

The noble Baroness, Lady Penn, also asked about the accountability and for an update to the code of practice, and she asked to see the proposed updates to the special resolution regime code of practice alongside this legislation. I am happy to share a draft of the proposed updates with your Lordships at the earliest opportunity, and I can write to the noble Baroness once they are available. I note that the final wording of any proposed updates would be subject to review by a cross-section of representatives from the authorities and industry on the statutory Banking Liaison Panel, which advises the Treasury on the resolution regime, and of course on the final content of the Bill.

The Government’s consultation response noted that the Government anticipate that any reports required under the Banking Act to ensure ex-post scrutiny of the Bank of England’s actions when using the new mechanism would be made public and laid before Parliament as required. I am happy to state that the strong expectation is that such reports required under the Banking Act would be made public and laid before Parliament, and in many cases this is already required by statute.

The noble Baroness asked me to elaborate on where the Banking Act requires such reports to be laid before Parliament and where it does not. Section 80 of the Banking Act requires the Bank of England to report to the Chancellor of the Exchequer on the activities of a bridge bank as soon as reasonably practicable after each year of its existence, and for any such reports to be laid before Parliament. That reflects the fact that use of the bridge bank tool can have a wide range of implications that will likely be of interest and of concern to Parliament, notably the risks that using the tool could carry to public funds.

Section 80A imposes the same requirement to report to Parliament when the Bank of England exercises the bail-in tool. Section 79A of the Banking Act imposes a similar requirement on the Bank of England in relation to the use of the private sector purchaser tool, although there is no requirement for a report under this section to be laid before Parliament.

As I said in my earlier remarks, I can reassure your Lordships that in any event where the new mechanism was used the Treasury would intend to ensure that any such reports were made available to Parliament and the public unless there were clear public interest grounds for not doing so, such as issues of commercial confidentiality.

Since the global financial crisis, resolution policy has been developed as a key means of managing the risks that arise when banks fail. Although that regime has worked well in practice, it is important to learn the lessons from last year’s period of banking sector volatility. This targeted set of enhancements is a key part of the policy response and provides the Bank of England with a more flexible toolkit to respond to the failure of small banks. The Bill recognises that there should be protections for public funds and taxpayers’ money when a banking institution fails. It is a narrow and uncontroversial Bill and has been drafted with the aim of achieving its primary objectives while minimising financial and regulatory burdens on the sector.

The Government have listened to feedback from industry and designed their policy accordingly, ensuring that there is a carve-out for credit unions from the requirement to contribute towards levies for these purposes. The Bill is an important component in ensuring the economic and financial stability that will deliver economic growth.

Bank failures are highly unpredictable and can come about at short notice without warning, so it is right that the Government introduce this Bill now to enhance the resolution toolkit and protect public funds. I hope that your Lordships will recognise the merits of this Bill and are able to support it.

[Lord Moylan (Con)]

Before the noble Lord sits down, unless I missed it, I did not hear him give an answer to my question about whether the Bank of England will be able to recoup legal costs from the funds charged to the Financial Services Compensation Scheme or merely the reimbursement of the recapitalisation costs that would of course go into the bank. If he is not able to answer today, he may wish to write.

[Lord Livermore (Lab)]

I did endeavour to answer quite a lot of the noble Lord’s questions. On that one, I will write to him.

Bill read a second time and committed to a Grand Committee.

Bank Resolution (Recapitalisation) Bill [HL]

Lord Livermore Excerpts

Committee stage
Thursday 5th September 2024 Grand Committee

[Baroness Vere of Norbiton (Con)]

My Lords, it is a great pleasure to be back in this Room—sadly, standing on this side. Nevertheless, it is an interesting experience being in opposition and doing my first Committee—a learning experience. I am grateful to all noble Lords who have participated in scrutinising the Bill. I recognise that we are at the beginning of the Session and sometimes it takes a while for things to get into place. There has been quite a lot of work done and I think we have made some very good progress. I, too, did not speak on Second Reading, and I blame that entirely on the Prime Minister, because he extended Parliament and I was already on holiday, so therefore I could not do that. I am very grateful and put on record my thanks to my colleague, my noble friend Lady Penn, who did it in my stead.

The Bill was originally developed by the previous Government and was waiting for parliamentary time, so I think my role today is to test the thinking of the new Government to make sure that they are still on the same page. I am very grateful to the noble Baroness, Lady Bowles, for kicking off this debate so eloquently and knowledgeably. I note her concerns about the scope of the Bill. I would love to say that she did not slightly lose me, but she did, so I will come back to that if it seems to be a problem that we need to look at.

I want to go back—to be helpful, possibly to me—to first principles on this. Having listened to the contributions that have gone before me, I think I have got it right that there are three groups of financial institutions. I am going to call them “banks”, because “financial institutions” is long and it takes a while to get my tongue around.

The first group are the MREL—the big eight banks. These are the ones that have been directed by the Bank of England to hold MREL, and they must also submit a resolvability assessment framework, or RAF, to regulators. The RAF is structured so that these firms can think about how their business works and what capabilities they need to achieve the three resolvability outcomes: having adequate financial resources; being able to continue business through resolution restructuring; and effective communication and co-ordination.

I read somewhere that the 2024 assessment of these documents was due to be published in September, and I should like an update as to whether it has been published. Can the Minister comment on the outcomes of this scrutiny: is the system working? I understand that one bank was not quite there yet. Let us see whether we are going to try to exclude the largest banks from the scheme or whether we follow the suggestion of my noble friend Lady Noakes of getting the involvement of the Treasury. We need to test whether those banks which are deemed too big to fail have a coherent and funded plan in place should they get into financial difficulty. If that were the case, there would be some argument for potentially excluding them from the Bill, but there should at least be some safeguards in place.

Then there is the second group. This was raised with me by UK Finance, and this is why my amendment is slightly different to those of other people. There are those banks in the second group that are on the glide path to full MREL status. These institutions will get there, but it would be helpful to get an update from the Minister as to how many institutions make up this second group so that we can consider further whether there is a substantial risk and where that risk might reasonably lie—and so how long they will take to reach their destination.

Finally, there is the third group. These are the important ones. They are the ones that the Bill should be focused on. These are the smaller banks, and they are often innovative, they are often very high growth and sometimes that in itself can lead to challenges. It is these banks that the Bill seeks to target. Indeed, it was my understanding, as it was that of the noble Lord, Lord Vaux, that they would exclusively benefit from this scheme.

If things start to go awry, due to either a business-specific issue or wider market turmoil, these proposed powers would create this mechanism where the banking sector itself, in its entirety—all three groups—would fund the recapitalisation of the relevant bank or banks, and the taxpayer would be relieved of that burden. So that all makes perfect sense to me.

Then we come to the reasonable worst-case scenario, which I think is what the noble Lord, Lord Eatwell, was referring to. It is not beyond our imagination that things could get very bad very quickly, with a number of small or even medium-sized banks getting into trouble at the same time. The first group would, I hope, have their MREL in place; they would have their plan, which has been approved by the regulators to make sure that they continue.

I am slightly less clear what would happen to the second group—those on the glide path to MREL—were there to be a market-wide event. These are significant institutions and if they are to be included in this mechanism, we get into issues of how the banking sector then repays that through the levy, which I will come on to. There might well be a situation where one, two or more quite substantial institutions need recapitalisation from the FSCS in the same financial year. Have the Minister’s officials done any sort of assessment of how bad that could possibly get and any thinking about what the plan would be if it were to get that bad? Also, what would the hurdle be for declaring this sort of state of emergency?

While the FSCS might have a looming potential liability from the second group, there is also the third group to be considered. These ones are the potential future lifeblood of our financial sector in the United Kingdom and they would most likely need a relatively small amount of recapitalisation funding to get them through the turmoil. This is why parity is needed around the applicability of the scheme proposed in the Bill, but also the circumstances in which the scheme would reasonably and rationally be used—and, frankly, the circumstances in which it would not be, because it would just not work. In a reasonable worst-case scenario, how is anyone going to decide which ones get saved and which do not? One has to rely upon the amount of funding that could be affordable over several years of a levy applied to the UK banking sector, but that is not going to be enough money. How would that resolve itself and what would that process look like?

As mentioned by the noble Lord, Lord Eatwell, which I picked up in one of the briefings as well, the FSCS will have significant powers to apply the levy, not only in the financial year when the event or events take place but in subsequent financial years. If I am in the UK banking sector and things have gone pretty bad, and I suddenly have this massive weight of a levy going over several years to repay the events of one financial year, that to me is concerning.

It is also concerning because, of course, things are done differently in the EU, so you would get a slight mismatch from a competitiveness perspective. I would be worried about that. Has the Minister done an assessment of the impact of this potential multiyear hit, once we have an idea of the reasonable size and then the potential maximum size? Has he assessed the competitiveness of the UK banking sector, should this multiyear levy suddenly be required? How much could the UK’s system cost our banking sector and over what period of time? Are there circumstances, and in which circumstances, when rationally there is a systemic failure and the only person who could step in would be the taxpayer? I do not want the taxpayer to step in, trust me, but that would prevent permanent damage to one of our most important sectors.

The other key consideration is the impact on the FSCS and its ability to meet its obligations under the deposit guarantee insurance scheme, because if that has all gone to recapitalisation funding, there will be nothing left. I believe we will come on to that later in Committee.

This is a range of thoughtful amendments tabled by noble Lords and I am grateful for them. As many noble Lords pointed out, they very much go along the same sorts of lines. I look forward to hearing the Minister’s response to them. I will not go into a great amount of detail on them, but I note that my Amendment 8 takes into account those on the glide path, which we need to recognise. I am grateful to the noble Baroness, Lady Bowles, for the fine case she made for Amendment 22; I will move quickly on from that.

That brings me to the remaining amendment in the group: Amendment 18, which is in my name. Here, in essence, I am probing whether the Minister is content with the current imbalance between the banks liable to pay the levy versus the ones that, realistically, will make use of the new powers. Does he feel it is fair that the entire banking sector pays to recapitalise what, I feel, the Committee hopes will be smaller banks only? Does he accept and is he comfortable with the largest banks paying twice, in essence—particularly as they will have to have limited or no input in or influence on many of the events that might cause a resolution event or events? These largest banks will pay twice: once for their MREL and associated requirements, and again in the event of a resolution event or events of which they would not be able to take advantage.

Context is important here. We will come back to costs again but banks already pay a plethora of taxes, levies and charges, both to regulators and directly to Treasury funds. There is the bank levy, the bank corporation tax surcharge, the economic crime levy, the FSCS levy and the FCA/PRA fees. That is a lot—and let us recall that these costs are never borne by the banks themselves; they will always be borne by the businesses and consumers who use them.

[The Financial Secretary to the Treasury (Lord Livermore) (Lab)]

My Lords, I am grateful to all noble Lords for taking part in this debate on the first group of amendments. I note that the scope of the mechanism is a key and central issue, both for noble Lords and for the wider banking sector. I hope to offer some reassurance to the noble Baroness, Lady Bowles, and other noble Lords regarding this concern.

I start by addressing Amendment 1, tabled by the noble Baroness, Lady Bowles, which would prevent a recapitalisation payment involving a bank that has issued minimum requirements for own funds and eligible liabilities, otherwise known as MREL. I stress that the Government’s strong policy intention is for the mechanism provided by the Bill to be used primarily to support the resolution of small banks. The Government therefore do not generally expect the mechanism set out in this Bill to be used on the type of firms that these amendments would seek to exclude.

The principal issue here is whether that intention should be set out in the Bill. The Government’s considered view is that it is right for the Bill to contain some flexibility for the Bank of England to be able to use the mechanism more broadly in some circumstances. That is because firm failures can be unpredictable and there could be circumstances in which it would be appropriate to use the mechanism on such firms.

For example, this may be relevant in situations where a small bank has grown but is still in the process of reaching its end-state MREL requirements. Firms in this position would have at least some MREL resources to support recapitalisation but the new mechanism could be used to meet any remaining shortfall if judged necessary. Without the proposed mechanism, there would be a potential gap in this scenario, creating risks to public funds and financial stability.

Ultimately, the decision to use the mechanism would rest with the Bank of England, having assessed the resolution conditions. The Bank of England is required by statute to consult the Treasury before any use of resolution tools, providing an effective and legally binding window for the Treasury to raise concerns if it had any.

I also point out that, during the Government’s consultation period, more respondents were in favour of the scope set out in the Bill than opposed. I appreciate noble Lords’ concerns about this issue and am happy to commit to exploring how to provide further reassurance on the Government’s intent via the code of practice.

The noble Baroness, Lady Bowles, asked whether the Bank of England should reduce MREL requirements in the knowledge that it could instead use FSCS funds. The Bank of England sets MREL requirements independently of government but within a framework set out in legislation. Any changes to firms’ MREL requirements would therefore be a decision for the Bank of England. The Bank of England will consider, in the light of this Bill and wider developments, whether any changes to its approach to MREL would be appropriate.

I turn briefly to Amendment 8, tabled by the noble Baroness, Lady Vere, which similarly aims to exclude from the new mechanism those firms that are required to hold MREL. I hope that I have already fully responded to her concerns in that regard; the Government are clear that this Bill is primarily intended for small banks, but that it is right to retain flexibility.

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[Lord Vaux of Harrowden (CB)]

Just to clarify, is there anything in the Bill that changes the effect on shareholders and creditors compared with if it had been done by just the bail-in approach?

[Lord Livermore (Lab)]

I am told that the answer to that is no.

[Baroness Bowles of Berkhamsted (LD)]

I know that the notes have no effect, but those regarding Clause 4(3) say that it

“amends section 12AA … to allow the Bank to take into account the funds provided by the FSCS when they are calculating the contribution of shareholders and creditors required when exercising the bail-in write-down tool”.

That says that you will be able, and consider it positive, to adjust the contribution of shareholders. That is because you are using incoming capital. I think that the shareholders and bail-inable creditors should be written down as they are supposed to be, then, when you still do not have enough money for capitalisation, there is the money from the Financial Services Compensation Scheme. I understood that and have no problem with it, apart from the size issues. Saying no to the question just put by the noble Lord, Lord Vaux, contradicts what is written in paragraph 26 of the Explanatory Notes.

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[Lord Livermore (Lab)]

It may be best if I write to noble Lords to clarify this point.

Amendment 11, tabled by the noble Lord, Lord Eatwell, would exclude from the scope of the new mechanism those firms whose MREL requirement exceeds their minimum capital requirement. This would include both firms expected to be transferred to a private sector purchaser and those bailed in when they fail.

I stress to the noble Lord, as I have to others, that the Government’s intention is for the mechanism to be used primarily for small banks. That is ultimately central to the Bill’s purpose, but I emphasise the importance of having flexibility in the legislation for the Bank of England’s ability to respond effectively in a crisis. As I have noted, this may, for example, be relevant if a firm is still in the process of building up its MREL requirements to be able to fully implement a bail-in strategy.

I also note the amendment from the noble Baroness, Lady Noakes, which intends to ensure that, if the Bank of England seeks to use the new mechanism on a bank required to hold bail-in liabilities, it must first get the consent of the Treasury.

I am conscious that there are other amendments related to the subject of Treasury approval for the use of the Bank of England’s powers and that we will turn to this matter more substantively later. What I will say now to the noble Baroness is that the Government consider it important for the Bank of England to be able to take decisions in a resolution independently and decisively.

I will mention two important safeguards. First, as required by statute, the Treasury will always be consulted as part of the Bank of England’s formal assessment of the resolution conditions. Secondly, if using the mechanism on larger banks had implications for public funds, such as requiring the use of the National Loans Fund, this would be subject to Treasury consent. But I repeat that the Government’s strong policy intention is ultimately for the mechanism to be used primarily on small banks.

Amendment 18 was tabled by the noble Baroness, Lady Vere. It seeks to clarify the rationale for the scope of financial institutions liable to pay the levy for the new mechanism delivered by the Bill, given the expectation that the new mechanism would apply primarily to small banks. The Government believe there to be benefits to mirroring the existing process for recouping the costs of paying out depositors in insolvency and maintaining a broad-based levy. In particular, as noted in the Government’s cost-benefit analysis, the exclusion of larger banks would raise concerns about the affordability of the levy for other banks, which would in turn increase risks to public funds and the overall viability of the new mechanism.

In addition, in cases where the new mechanism may be used, the counterfactual would be for the failed bank to enter insolvency. As a result, the sector would already be liable to contribute to the costs of a small bank failure. As set out in the Government’s cost-benefit analysis, while highly case-specific, the upfront costs of an insolvency are generally expected to be greater than those under the new mechanism delivered by the Bill. The Government therefore feel it is right to mirror the arrangements in place for an insolvency and to maintain a broad-based levy.

The noble Baroness asked about the Bank’s resolvability assessment framework. I am told that the latest update was published in August. She asked how many firms were on the glide path. I will write to her with specific details, and if any of her other questions are not answered in my speech today, I will write to her also on those points.

[Baroness Vere of Norbiton (Con)]

One concern was raised in the document that has been published, so I would be grateful for the Minister’s comments on that.

[Lord Livermore (Lab)]

I will write to the noble Baroness on that point.

I turn finally to Amendment 22 in this group, tabled by the noble Baroness, Lady Bowles, which concerns the use of the bail-in resolution tool. Section 12AA of the Banking Act 2009 sets out the principles by which the Bank of England calculates the shortfall amount when the bail-in tool is used and, as a consequence of that calculation, how much of a failed firm’s resources needs to be bailed in. The addition to Section 12AA in Clause 4, which this amendment seeks to prevent, ensures that any available funds from the Financial Services Compensation Scheme via the new mechanism could be taken into account when calculating the shortfall amount and, as a consequence, how much of a firm’s resources would need to be bailed in when the new mechanism is used alongside the bail-in tool.

This change to Section 12AA is important as there are some circumstances where bail-in may be the preferred tool for the Bank of England to use as a precursor to transfer of the firm to a bridge bank or private sector purchaser, even if the bank is small. This is because the bail-in tool permits the writing down of subordinated debt or other liabilities, to which mandatory reduction under the bridge bank or private sector purchaser tools does not apply. There may be circumstances in which it is appropriate to write down the subordinated debt or other liabilities of a small bank. The intention is therefore for the bail-in tool to be available alongside use of the new mechanism.

In such circumstances, this amendment would preclude the Bank of England, when calculating the shortfall amount, from being able to take into account any funds that were available from the Financial Services Compensation Scheme under the new mechanism. As a consequence, when determining how much of the firm’s subordinated debt and other liabilities should be bailed in, the Bank of England would be obliged not to factor in those external funds and would have to write down more of the firm’s resources than it needed to. In certain circumstances this would be undesirable and could undermine the wider goals of a resolution process. The noble Baroness, Lady Bowles, and the noble Lord, Lord Vaux, suggested worked examples. We will of course take that idea away for further consideration ahead of Report.

I hope that these explanations have been helpful and that I have provided some reassurance on these points. I will of course write where I have indicated that I will do so. In the circumstances, I hope that the noble Baroness will withdraw her amendment.

[Baroness Noakes (Con)]

My Lords, before the noble Baroness decides what to do with her lead amendment, I will raise two points. The first is that the noble Lord referred fairly briefly to the code of practice. Could he explain, first, how he sees the code of practice being used for the issues that we have identified in this group of amendments? Secondly, will he update the Committee on when we expect to see a revision to the code of practice? At Second Reading, my noble friend Lady Penn asked whether she could have sight of the draft updates. The noble Lord responded very positively to that, but clearly no draft updates have yet appeared. My additional question is: are we likely to get those draft updates? Clearly they have not arrived before Committee; will we get them ahead of Report? Seeing codes of practice, or updates of codes of practice, helps us to understand exactly what the Government are doing.

The second point I wish to address is a mechanical one. The noble Lord has already said he will write on a number of things; I expect he will say that quite a lot as we go through Committee. It would be very helpful if those letters were copied to all the Members who are taking part in Committee, or that the mechanism of “will write” letters on the publications page of the Parliament website is used promptly so that all noble Lords who have an interest in the areas get an opportunity to see the correspondence.

[Lord Livermore (Lab)]

On the noble Baroness’s first point, we are committed to updating the code of conduct, to doing so swiftly and to consulting with industry thoroughly on it. I cannot give her a timescale today. On the commitment to write letters, of course I will make sure those letters are copied to all noble Lords.

[Baroness Bowles of Berkhamsted (LD)]

I thank everybody who has spoken in this debate. Not surprisingly, we have had quite a lot of good points. I am still not reassured that the Bill’s scope is right. I understand entirely wanting to give the Bank of England flexibility. Ultimately, it is in the best place to judge what is the best thing to do, taking into account public interest, not setting off a systemic failure and all those kinds of things. At the same time, I have this instinctive dislike of something that enables the Bank to do something that I think it definitely should not be allowed to do, which I have said is in paragraph 26 of the Explanatory Notes. I will not repeat it.

I noticed, as the Minister spoke, that he very carefully said “primarily small banks” the whole time. There is this issue of “primarily” and where it stops. There could be other ways to include up to medium-sized banks. The code of practice could be one way of doing it, or a strategy, as the noble Lord, Lord Vaux, had as part of one of his amendments. I do not think it can be passed in this case which, as was said by the noble Lord, Lord Eatwell, could start a whole systemic issue. It is really built for the idiosyncratic case, or maybe for a couple of small banks, but that is it. It is basically about saving the uninsured depositors and people like that, in the public interest, rather than, as unfortunately it says, saving the shareholders and creditors. We have to look carefully at which creditors and at the definitions. I would like to see that laid out, because my reading is that, when we looked at the sections I quoted that date back to the BRRD, we looked at the bail-in things that happen in big banks, not at the other liabilities generally held by small banks. I might have got that wrong, but I would really like to see this properly laid out.

So I still have some issues. There needs to be something in the Bill that takes account of the concerns raised, however that is done. I can be flexible about it, but I think that my Amendment 23, when we get to it, would be one way to do it.

I am afraid that I will withdraw my amendment at this stage, but I expect to return afresh on Report. We have all been hampered by the fact that this has been a first-up Bill after vacations—and this will happen again on Report, when we will have been back for only one week. That makes it very difficult to have communications and meetings with the Minister.

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[Lord Livermore (Lab)]

My Lords, in response to the amendment from the noble Baroness, Lady Noakes, I hope to explain and provide some clarification around the expenses within scope of the mechanism under the Bill, as well as clarify the Government’s rationale for our approach.

The key purpose of the Bill is to ensure that there is a source of funding for recapitalisation of a bank in resolution, where that bank does not hold the necessary resources to allow it to be bailed in. In addition to the core expense of the recapitalisation payment, other expenses are likely to be incurred. There are two in particular.

First, there are likely to be a number of ongoing expenses incurred by the Bank of England, or by a Bank of England-owned holding company or operating company, when running a bridge bank, beyond those concerned with simply injecting new capital into the failed firm. This could, for example, include additional staffing costs and advisory fees incurred by the Bank of England to support its ability to operate a commercial bank.

Secondly, there will likely be a set of ancillary expenses incurred by both the Bank and the Treasury in undertaking a resolution of this type. As set out in the Government’s consultation response, this could include, for example, the costs of receiving professional advice, such as on legal or accountancy matters. It may also include the costs of appointing an independent valuer, as required under the Banking Act. As such, the persons other than the Bank of England referred to in the legislation whose expenses could be met using the new mechanism are expected to be the Treasury and any other Bank of England-owned legal entities that are not the Bank of England itself. The noble Baroness asked why the full set of costs are not specified. It is important that the Bill is not overly prescriptive, allowing the Bank to respond flexibly when costs arise.

The noble Baroness, Lady Noakes, also raised concerns about the treatment of litigation costs. As the noble Baroness, Lady Vere, noted, this arose at Second Reading as well. Depending on the circumstances, these again may be covered by the relevant part of Clause 1 addressed by this amendment—for instance, where the Bank of England is subject to litigation concerning the resolution and recapitalisation process. Given the fast-moving and unpredictable nature of bank failures, the Government believe that it is prudent to ensure that there is broad provision to cover these potential additional expenses incurred by both the Bank of England and other persons such as the Treasury. Ultimately, the alternative is that the cost of such expenses may need to be met by the taxpayer.

I wish to reassure noble Lords that in determining whether to include certain ancillary expenses in its request for funding to the Financial Services Compensation Scheme, the Bank of England is subject to the usual obligations under public law to act in a way that is reasonable and it will need to factor this into any assessment of what is in the public interest. In addition, the legislation does not allow the Bank of England or any other person to claim expenses that arise exclusively for preparing for bank insolvency.

I hope this provides the noble Baroness with a helpful explanation of the Government’s approach, and I respectfully ask her to withdraw her amendment.

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[Baroness Vere of Norbiton (Con)]

I rise only to celebrate the fact that my noble friend Lady Noakes had so much time during recess in which to draft all these marvellous amendments because they certainly get the little grey cells going. I appreciate her eloquent explanation of her amendment and the very practical example of what could happen that was provided by the noble Lord, Lord Vaux. This goes back to a topic that was raised earlier about there being a certain feeling of a blank cheque in terms of certain elements of the scheme and wanting to ensure that there are appropriate guard-rails.

I will not go much further; I will come on to my observations about the sharing of powers and responsibilities between Ministers and regulators in due course. I look forward to hearing from the Minister.

[Lord Livermore (Lab)]

My Lords, I note that this amendment from the noble Baroness, Lady Noakes, is one of several concerning whether Treasury consent is needed when the Bank of England is exercising its powers—in this case, when the mechanism is used more than once for a particular institution.

Addressing the specific case of the amendment, although I think we can agree that it would usually be desirable to have to use the mechanism only once in respect of a particular institution, this may not always be the case. As an example, if a failed bank is transferred to a bridge bank, there is a risk of further deterioration in its balance sheet over time. It is foreseeable that, if that were the case, the Bank of England may need to use the mechanism again in order to recapitalise the institution; this would allow the Bank of England to maintain confidence in the firm, promoting financial stability.

The Government believe that it is important for the Bank of England to have reasonable flexibility to do so, reflecting that the full implications of a bank failure are hard to anticipate in advance. In addition, if further approvals are required, this may undermine market confidence in the original resolution action given that such approvals cannot be presumed in advance.

However, I note a few important pieces of context to this broader position. First, as required by statute, the Treasury is always consulted as part of the Bank of England’s formal assessment of the resolution conditions assessment. In practice, there is also frequent and ongoing dialogue between the authorities. Therefore, the Government are confident that there are proper and robust channels by which it could raise concerns if it had any.

Secondly, given that the new mechanism is ultimately funded by industry, we would expect the Bank of England to consult the Prudential Regulation Authority on any additional request to use the new mechanism. This is important as the Prudential Regulation Authority determines what is considered affordable to be levied on the sector in any given year.

Finally, if additional use of the mechanism had implications for public funds, such as requiring use of the National Loans Fund, provision of this additional funding would be subject to Treasury consent. Overall, the Government believe that this strikes the right balance in preserving the Bank of England’s freedom of action while ensuring the appropriate level of Treasury input into decision-making.

I hope that this provides some comfort to the noble Baroness and respectfully ask that she withdraw her amendment.

[Lord Vaux of Harrowden (CB)]

The one thing the Minister did not cover there was the question of whether, on a second or subsequent recapitalisation payment, the Bank would have to look again at whether the insolvency route is the one it should go down, rather than a secondary payment.

[Lord Livermore (Lab)]

It would always look at the situation at the time and make each individual decision on that basis.

[Lord Vaux of Harrowden (CB)]

It would always do so or it would always have to do so?

[Lord Livermore (Lab)]

It would always have to do so.

[Lord Vaux of Harrowden (CB)]

Okay.

[Baroness Noakes (Con)]

I am not sure who the “it” was.

[Lord Livermore (Lab)]

The Bank.

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[Lord Livermore (Lab)]

We can certainly take that away and look into doing so.

[Baroness Noakes (Con)]

That means you were not thinking about it, but you might think about it, so I will leave that for the time being.

I remain uncomfortable at the scale of the powers that the Bank has without any real practical constraints on how they are used. Given that we are using the banking industry to avoid amounts falling on taxpayers, which is reasonable and accepted by the industry up to a point, I think we need to make sure that it is protected in that, and I cannot see where the protections are.

I need to think about this further. I will certainly read what the Minister has said, but I suspect we will return to this in some way when we get to Report. I beg leave to withdraw the amendment.

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[Baroness Vere of Norbiton (Con)]

I rise briefly to build on the comments made by previous speakers. This is an important issue. Again, it is worth recalling that this will not just be the recapitalisation funding; there might also be associated expenses. I note the point made by the noble Lord, Lord Eatwell, about the Basel accord and it being a subsidiary et cetera, but it strikes me that this is of a different level of political salience than a purely domestic collapse might be, where one has established structures. It could get incredibly uncomfortable for the Government if we do not have a better and fuller understanding of what safeguards exist already to make sure that banks are appropriately capitalised by their parents abroad and of how we avoid the perception of the Bank of England acting in interests which are not necessarily aligned with those of Daily Mail readers—let us put it that way. It is not that they have to align with Daily Mail readers, but one might imagine that this could be very problematic.

I would like some reassurance about what we would do if it were to be a significant amount rather than the very small amount for Silicon Valley Bank and how we would seek to address the concerns that would inevitably arise from the general public.

[Lord Livermore (Lab)]

My Lords, in response to the amendment tabled by the noble Baroness, Lady Noakes, I hope I can provide some clarification on how the resolution regime operates currently with respect to subsidiaries of international banks, and therefore how the Government have approached the design of the new mechanism with respect to those banks.

One of the strengths of the UK’s banking sector is that a number of international banks seek to operate within the UK, including by setting up subsidiaries. These are often providers of critical banking services, such as current accounts, business accounts and sources of working capital to businesses. It is therefore important that a robust system of regulation is in place to ensure that such subsidiaries can operate safely within the UK. This includes ensuring that in the event of their failure they can be managed in an orderly way. The resolution regime does not currently make a distinction between domestic UK banks and subsidiaries of international banks in terms of which authority is responsible for taking resolution action in the UK. In all cases, this responsibility falls to the Bank of England, except where there are implications for public funds. The Government continue to believe this is appropriate.

While the failure of banks is rare, the most recent example, and the genesis of this Bill, was Silicon Valley Bank UK, itself a subsidiary of an international bank. The Government consider that there were two key lessons from that event. First, it is critical that the Bank of England has the flexibility to move decisively during a crisis. Secondly, it is important to introduce the new mechanism delivered by the Bill in those cases where there is not a willing buyer. The Government do not therefore believe that there is a strong justification for treating subsidiaries differently from domestic UK banks and requiring a further set of approvals. To do so would create additional obstacles to efficient resolution decisions, which recent experience suggests can be necessary.

The noble Baroness asked whether the Bank would have used the mechanism on SVB. I cannot comment on an individual case or decision that it may have taken, but the case showed the usefulness of the option of having a mechanism provided to the Bank.

The noble Baroness also asked whether this issue will be covered in the code. The code updates will cover a broad range of issues following the Bill’s passage. We will progress and publish that code swiftly.

The noble Baroness further asked whether a parent company should be able to support the failure of a subsidiary. While the parent company may be able to recapitalise its subsidiary outside of resolution, there may be circumstances where that is not possible, as was the case with SVB UK. It is important that the Bank of England has the necessary tools to deal with a failing firm regardless of its home jurisdiction. In practice, the mechanism uses the Bank of England’s transfer and writedown powers, so the parent company would suffer losses on its investment in a subsidiary.

I therefore respectfully ask the noble Baroness to withdraw her amendment.

[Baroness Noakes (Con)]

I thank noble Lords who have taken part in this debate. I found what the Minister said very helpful. What the noble Lord, Lord Eatwell, said, was also helpful, although I had understood that, where there are large groups, the group parent will be responsible for ensuring the capitalisation of the subsidiaries, in particular by holding MREL at the top level, but I may need to check my facts on that. I thought colleges of regulators would be working among themselves towards the health of the group overall, so I did not I think it was entirely located in the UK, but I will check that out.

What the Minister said is very helpful and I will reflect carefully on it. If the case is that there is no difference between a UK-owned and a foreign-owned bank, no issue arises. But if there are any differences in the way that a foreign-owned bank is treated in the UK, then that would be a case. I will go away and think about that further and I beg leave to withdraw the amendment.

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I am testing the Government’s thinking here. I am serious on the first bit; I am concerned about the power of regulators and the lack of oversight. It will be something I return to, maybe on this Bill or maybe in other areas.

[Lord Livermore (Lab)]

My Lords, I note that a number of other amendments have touched on the topic of Treasury consent before the Bank of England exercises its powers. I hope to fully address the Government’s position on that matter now.

I start by addressing the amendment laid by the noble Baroness, Lady Noakes; I will touch briefly on some points that I have made previously. The Government believe that the existing division of responsibility between the relevant authorities in resolution works well. It is important to maintain the position that the Bank of England can take decisions on the appropriate resolution action independently, guided by the objectives given to it by Parliament under the Banking Act and in line with relevant international standards.

There would be two key risks if that system were to change. First, it would confuse the lines of accountability for resolution decision-making, in effect making the Treasury the de facto resolution authority in the case of certain banks that may be subject to the new mechanism. This would undermine the Bank’s role as the resolution authority and may be seen as out of step with the intent of the relevant international standards. Secondly, a resolution is more likely to succeed when it is conducted by a single decision-maker backed by the right resources and expertise. The Bank of England is ultimately best placed to make those judgments and, therefore, to ensure that there is market confidence in resolution action.

However, there are safeguards to ensure that the Treasury can engage with the Bank of England’s decision over resolution matters, including any use of the new mechanism. As I have noted before, the Bank of England must consult the Treasury during any resolution action as part of its assessment of the resolution conditions, which are required by statute. This is an important legal requirement and ensures that the Treasury is meaningfully engaged in the Bank of England’s decision-making process. The Treasury and the Bank also maintain a productive ongoing dialogue.

Finally, the Treasury retains absolute approval in any resolution with implications for public funds, ensuring that the interests of taxpayers are appropriately reflected in resolution decisions and the Chancellor’s ultimate accountability for public funds to Parliament. The Government view this as an appropriate and proportionate framework in the context of the new mechanism.

The noble Baroness, Lady Noakes, asked about the Bank’s accountability to Parliament. I note that the Bank must inform the Treasury and share copies of legal instruments when taking resolution action. The Treasury must lay those in Parliament. The Bank must also report to the Treasury on the use of those powers; in some cases, the report must also be laid in Parliament.

I turn to the amendment in the name of the noble Baroness, Lady Vere—I note what we might describe as a slight change of heart from her position in government over the past 14 years. Her amendment would require the Financial Services Compensation Scheme to seek the approval of the Treasury in circumstances where it has to levy in subsequent financial years after the mechanism under the Bill has been used. I should clarify that, in principle, the mechanism provided by the Bill could be used to manage multiple firm failures at once; of course, the Bank of England would carefully consider the implications of doing this when assessing the resolution conditions, having regard to the special resolution objectives.

Moreover, any levies would be subject to the affordability cap set by the Prudential Regulation Authority, based on how much the sector can be safely levied in a given year; currently, that is £1.5 billion. In the event that multiple failures resulted in a recapitalisation requirement under that cap, the expectation is for the Financial Services Compensation Scheme to be able to levy safely for the funds within 12 months. It would not do that only if the Prudential Regulation Authority considered that it would carry issues of affordability, in which case the levies could be spread over a longer timeframe. In the event that the amount exceeded the £1.5 billion cap, the Government would expect the Financial Services Compensation Scheme to levy over multiple years, ensuring that it remains affordable for the sector.

It is important also to note that, in these circumstances, the Financial Services Compensation Scheme would be able to turn to the Treasury and request a loan under the National Loans Fund. The levies charged over multiple years would then be used to repay such a loan. Of course, borrowing from the National Loans Fund remains at the sole discretion of the Treasury.

I hope that I have been able to provide noble Lords with some reassurance on these points, and that the noble Baroness is able to withdraw her amendment as a result.

[Baroness Bowles of Berkhamsted (LD)]

I did not speak earlier because all the points I wanted to make were picked up, but there are two things on which I wish to comment. We have a change now in that, before, the Treasury would be more involved when the matter involved use of public funds; now, that has been transferred to the industry, so the Treasury is less involved and perhaps less concerned. Yet the Treasury remains the only possible constraint around and is far from perfect.

For the PRA and the FCA, there are plenty of powers to instigate reviews by government. The big mistake, apart from us not having proper oversight of regulators in general—there are various mistakes—is that those reviews have not been used a lot more often. They should be done almost on a rolling regular basis, not just when there has been a big disaster.

The other thing we have done differently is that we have made the central bank the resolution authority. Therefore, you cannot hold the central bank to account, because of its independence, in the same way that you could if you had constructed an independent resolution authority. That is, as you might suppose, the subject of a big debate that went on in Europe when I was ECON chair. There is an independent resolution authority there; it is not the central bank. That was one of the big considerations, because you cannot really hold a central bank to account. Ultimately, the sort of change that is envisaged in this Bill may move us further towards considering whether we need to do that.

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[Lord Livermore (Lab)]

My Lords, before I turn to the specific amendment from the noble Baroness, Lady Bowles, I note that the Government fully recognise the importance of market competitiveness and the critical role played by small and growing banks in serving customers across the UK.

On the specifics of this amendment, I note that, before undertaking resolution, including when using the new mechanism, the Bank must be satisfied that the resolution conditions in the Banking Act have been met. The third resolution condition is that resolution is necessary having regard to the public interest in the advancement of one or more of the special resolution objectives. Those objectives are set out in detail in the Banking Act and are intended to reflect the key objectives of the resolution regime across all in-scope firms. For instance, this includes maintaining financial stability, protecting public funds and enhancing confidence in the stability of the financial system.

The objectives do not explicitly reference market competitiveness or supporting small banks. This reflects how, in undertaking resolution, the Bank of England should be appropriately focused on managing the significant risks to financial stability that can arise in a highly unpredictable scenario. As set out in their consultation response, this has informed why the Government believe that the broader resolution framework works well, including the existing balance of special resolution regime objectives, and why we have not proposed to change them.

I note, however, that the Government actively considered both the role of small banks and market competitiveness when developing the policy approach for this Bill. In particular, market competitiveness is a key reason the Government chose to pursue a solution whereby banks must contribute to the costs of recapitalisation only after a failure has occurred. Crucially, this means that the new mechanism does not create any upfront costs for the banking sector.

As noted at Second Reading, the Government have also committed to updating the code of practice to ensure there is a clear process by which the Bank of England calculates the costs that could arise for industry if the new mechanism is used. In addition, the Government believe that the new mechanism supports the UK’s small banks. It ensures that there is a robust system in place for resolving them and maintaining continuity, when that is judged to be in the public interest. This should help support wider confidence in the regulation of the sector.

The mechanism in the Bill is also designed to be proportionate. This is why any levies associated with recapitalisation will be spread across the entire banking sector, ensuring that it is affordable for small banks. Overall, the Government believe this strikes the right balance in that these wider policy issues have influenced the design of the Bill, but that in using the mechanism the Bank of England is ultimately guided by the existing special resolution objectives. I therefore respectfully ask the noble Baroness to withdraw her amendment.

[Baroness Bowles of Berkhamsted (LD)]

I thank the Minister for that response. Again, I make the point that, through the Bill, we are changing from an inherent public interest in public money into using private money to do the rescue. I am not sure that the Banking Act was drafted with that in mind and I doubt that we could amend relevant sections through the Bill. It is just worth having another look with those eyes, maybe after a period of time, to see whether some kind of adjustment is needed because this safeguard check that exists around the use of public money has been taken away. It has not been replaced by anything; it has not even necessarily been replaced by more transparency. With those comments I beg leave to withdraw my amendment.

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Can the Minister please explain how costs can be recouped in such situations? Do we need to strengthen any regulations to ensure that the wider industry is not expected to pick up the cost while management and shareholders can walk away with full pockets? How do we ensure that a decision by the Bank of England to undertake a resolution process at the cost of the industry does not lead to an advantage to either management or shareholders who may be at fault? That would introduce a level of moral hazard that would be unacceptable.

[Lord Livermore (Lab)]

My Lords, I turn first to the amendment tabled by the noble Lord, Lord Sikka, which seeks to ensure consideration is given to a clawback of executive pay and bonuses from a failed firm before using the new mechanism. I note that while the bank resolution regime does not set out powers allowing the Bank of England to claw back money from shareholders or management, it does provide an extensive and proportionate set of powers to the Bank of England to impose consequences on the shareholders and management of a failed firm in resolution.

First, on placing a firm in resolution, we expect that any existing shareholder equity would be cancelled or transferred. This is an important principle that ensures the firm’s owners must bear losses in the case of failure. In many circumstances, this will affect directors and management who hold shares or other instruments of the failed firm.

In addition, the Bank of England has the power to remove or vary the contract of service of its directors or senior managers. The Bank of England exercises its discretion in deciding whether to use this power. However, as set out in the Government’s code of practice, the Bank of England generally expects to remove senior management considered responsible for the failure of the firm and to appoint new senior management as necessary.

Finally, as reflected in the code of practice, it is a key principle of the resolution regime that natural and legal persons should be made liable under the civil or criminal law in the UK for their responsibility for the failure of the institution. This is delivered by Section 36 of the Financial Services (Banking Reform) Act 2013, which provides for a criminal offence where a senior manager of a bank has taken a decision which caused the failure of a financial institution, if the conduct of the senior manager

“falls far below what could reasonably be expected of”

someone in their position. Overall, this ensures that, as appropriate in the circumstances, there are material consequences for shareholders and senior management when a firm goes into resolution.

More broadly, I can further reassure the noble Lord that the Government recognise the importance of high standards in financial services regulation. The senior managers and certification regime supports high standards by ensuring individual accountability for senior individuals within firms, and by promoting high standards of conduct and governance. The Prudential Regulation Authority sets rules on remuneration and applies these to medium-sized and large banks, ensuring they are proportionate, and there are clear requirements in the PRA’s rules for firms to ensure they have policies on malus and clawback in place to align management incentives with that of the bank.

I should also note the intention of the amendment of the noble Lord, Lord Vaux, to ascertain under what circumstances the Bank of England may be able to recover all or part of remuneration to management and shareholders, or require a shareholder to cover all or part of the recapitalisation costs. If recoveries were made from management or shareholders of the failed firm, the amendment would make it clear that these types of remuneration could count towards these recoveries.

I hope I have addressed the broader point about the treatment of shareholders and former management in my earlier remarks. As a point of detail, I would add that the Government expect any recoveries not otherwise specified in the clause to be covered already by the catch-all phrase “or otherwise” at the end of proposed new subsection (2)(a). I hope that addresses the points raised and I respectfully ask the noble Lord to withdraw his amendment.

[Lord Vaux of Harrowden (CB)]

I think the Minister has answered the point about management, and I recognise that the words “or otherwise” are at the end of the new subsection. Where I am not sure that he has answered the point is on the inappropriate dividends paid to shareholders beforehand—the Thames Water situation, and how that would be dealt with. Just saying that the equity would be written down makes no difference; in this situation, the equity is already worthless. We are talking about recouping the costs of the recapitalisation rather than the fact that the worthless company is worthless.

[Lord Livermore (Lab)]

I have managed to get through several groups without promising to write, but on this occasion I will write to the noble Lord.

[Lord Sikka (Lab)]

I thank the Minister for his reply. I will divert slightly to the point made about dividends. The legislation is a complete mess on distributable dividends. The previous Government were going to table legislation about some disclosures of distributable reserves, then just a day before—without any notice to Parliament—they withdrew that, because most companies do not have a clue what their distributable reserves are. This raises all sorts of questions about what are realised or unrealised profits. I will not go into the technicalities at the moment. Any time I hear a Minister talk about dividends or say, “We are going to control dividends”, whether it is about water companies or any others, that is just a no-go area at the moment. It cannot be sorted out without major primary legislation.

The Minister said that there is already legislation in place for civil criminal prosecution. I am afraid that legislation delivered hardly anything after the last banking crash. Countries such as Iceland and even Vietnam prosecuted far more bankers for their negligence than the UK did, though we managed to elevate some afterwards to some very senior political positions, so that legislation is not really effective. I take it from the Minister’s reply that he is not prepared to consider legislation specifically saying that there will be a clawback of executive remuneration. That is the point—in the absence of it, who knows whether the management concerned will bear any personal cost at all? Is my interpretation of the Minister’s reply correct?

[Lord Livermore (Lab)]

I do not have anything further to add to what I said.

[Lord Sikka (Lab)]

I thank the Minister. I withdraw my amendment for the time being, though I may bring it back at the next stage.

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[Baroness Vere of Norbiton (Con)]

My Lords, I am particularly grateful to the noble Lord, Lord Vaux, and to my noble friend Lady Noakes for thinking carefully about reporting and tabling amendments accordingly. I had to support one of these amendments and I am afraid that I picked the noble Lord’s on this occasion. This is not favouritism; I was purely trying to spread the love a little. But as we approach Report, we might want to go back and check that whatever we end up putting into the Bill is future-proofed.

Sometimes one can put in too much detail, then people can slide round the edges by saying, “Oh, you didn’t tell us to do that”. Alternatively, there is being too broad, when people slide round another edge by not putting in the detail that you want to see. There is a balance, but this is certainly worth taking forward and looking at. Obviously, the accountability element is key here.

Another thought I had around this was on timing. Again, sometimes one can go too far and have a report too far in the distance, so by the time it comes out no one remembers what the problem was in the first place. The amendment tabled by the noble Lord, Lord Vaux, says “three months”; I was thinking “as soon as practical” or, in any event, within six months. I do not know, but in very complicated and complex circumstances there might still be issues and context to resolve to produce a report that is relevant in timing terms, but also incorporates everything that stakeholders wish to see.

When I was a Minister, my heart would sink when an amendment was put down about producing a report. I would think, “Another report—are we really going to read it?” To me, the question is: we might produce a timely report in a good fashion and with the right amount of detail, et cetera, but how do we then ensure the scrutiny of that report? It goes back to the issue of expenses which, as we agreed, could be quite significant. But who is going to look at those expenses and suck their teeth? Will they look at the legal fees of firm XYZ and say, “Do you know what? That’s too much”. Who is going to do that? Is there any body at all—not anybody—which would be able to look at it and do that? It has been suggested to me that the National Audit Office might occasionally pay attention to this sort of thing. This is about trying to get us beyond “Just produce a report”. Well, just produce a report and then somebody can look at it. I am sure that these are going to be great reports, but even so it is a concern.

I am looking forward to the response of the Minister. I believe that this should be our last group today, fingers crossed, but I am not sure that many of us want to go outside, given the weather.

[Lord Livermore (Lab)]

My Lords, I fully understand the substantial focus on the reporting requirements that will apply when the new mechanism is used. I shall start by addressing Amendment 12 on this point, tabled by the noble Lord, Lord Vaux.

The Government agree that, should the new mechanism be used, it is right for there to be a reporting mechanism to hold the Bank of England to account for its decisions, and that this should encompass estimates of the costs of different options. However, the Government intend to achieve the principles of scrutiny and transparency in a different way; namely, through the existing requirements placed on the Bank of England under the Banking Act 2009. As set out in their response to the consultation, it is the Government’s intention to use these existing reporting mechanisms to ensure that the Bank of England is subject to appropriate scrutiny when using the mechanism. The Government have committed to updating their code of practice to provide further details on how these reporting requirements will apply when the mechanism is used; I can re-confirm that the Government intend to include in the code confirmation that, after the new mechanism has been used, the Bank of England will be required to disclose the estimated costs that were considered as part of these reports.

The Government consider that using the code of practice is an appropriate approach to hold the Bank of England to account for its actions, rather than putting these requirements in the Bill. The Bank of England is legally required to have regard to the code and the Government are required to consult the Banking Liaison Panel, made up of regulatory and industry stakeholders, when updating it. Using the code will therefore ensure that a full and thorough consultation is taken on the approach. Given the complex and potentially fast-moving nature of bank failures, this is important to ensure that any approach is sufficiently nuanced to account for the range of possible outcomes under insolvency or through the use of other resolution tools. The Government believe that amendments to the code of practice are more likely to be successful in achieving this outcome. As I committed at Second Reading, the Government will share drafts of these updates to the code of practice as soon as is practicable and will provide sufficient opportunity for industry stakeholders to be consulted on them.

I acknowledge the further amendment from the noble Lord, Lord Vaux—Amendment 24—which would make such reports available to Parliament when the new mechanism was used to facilitate a transfer to another buyer. It is the Government’s clear intention that any such reports required under the Banking Act, following the use of the mechanism, will be made public and laid before Parliament. The Government would not make reports public only if there were clear public interest grounds not to do so, such as commercial confidentiality reasons. This may particularly be the case when exercising the power to sell a failing bank to a commercial buyer. While such cases would hopefully be limited, it is important that they are allowed for.

I appreciate the intent of Amendment 14 in the name of the noble Baroness, Lady Noakes, which would require the Bank of England to report to the Treasury more swiftly than under the current requirements. The use of resolution powers is complex; in some cases, the Bank of England may be executing a resolution over a long period, particularly when placing a firm into a bridge bank. It is therefore sensible for the Bank of England to report a reasonable period of time after exercising its powers, ensuring that its report provides a full and meaningful assessment. On reporting more broadly, I repeat the points made in response to the amendment tabled by the noble Lord, Lord Vaux.

Finally, Amendment 25 in the name of the noble Baroness, Lady Bowles, would require the Chancellor to assess in the light of the Bill the appropriateness of the thresholds used by the Bank of England to determine which firms are required to hold additional loss-absorbing resources, known as MREL. As before, I should start by noting that the Government recognise the important role played by smaller and specialist banks in supporting the UK economy. I appreciate the concerns raised by the noble Baroness at Second Reading.

The Government have carefully considered the perspective of such banks in developing the mechanism in the Bill, which is intended to be a proportionate solution. On MREL, the Bank of England is responsible for determining MREL requirements for individual firms within a framework set out in legislation; that is an important principle, as the resolution authority, the Bank of England, is ultimately best placed to judge what resources banks should hold so that they can fail safely. I point out to the noble Baroness that, as set out in the Government’s consultation response, the Bank of England has committed to consider the potential case for changes to its indicative thresholds. Specifically, it has noted that it will consider whether any changes are appropriate in light of this Bill and other wider developments.

I hope that these points provide reassurance to noble Lords. On that basis, I respectfully ask the noble Lord to withdraw his amendment.

[Lord Vaux of Harrowden (CB)]

I will ask the Minister for one point of clarification. He referred to the reports under the Banking Act that will be provided as covering the costs and expenses. I do not think that he talked about the comparison with the counterfactual of the costs of insolvency, which is a critical aspect of this. Would those reports cover that?

[Lord Livermore (Lab)]

If the noble Lord does not mind, I shall add that to the letter to him.

[Lord Vaux of Harrowden (CB)]

My Lords, I thank all noble Lords who have spoken in this short debate and apologise to the noble Baroness, Lady Vere, for failing to thank her beforehand for signing her name to my amendment.

A number of points were raised. The noble Baroness was right when she discussed the timings. They were put in as a starting point; I would be very happy to look at what is appropriate. I still think that we need to beef up the reporting clauses in the Bill. I am encouraged by what the Minister said about the reports that exist being laid before Parliament, but, as the noble Baroness, Lady Noakes, referred to, there is more to do on the timings.

There is some merit in trying to put in the Bill at least some minimum requirements on what those reports should include. That will be important because, although I acknowledge what the Minister said about the code, we will not see it before Report. If we were able to see the proposed changes to the code before Report we might be able to take a different view. It happens quite regularly that we are told that something will be in a code of conduct, a future statutory instrument or whatever else, but we do not see it before we have to make the decisions on the amendments themselves. In the absence of that, I feel that we will probably want to come back to this on Report. In the meantime, I beg leave to withdraw my amendment.

Bank Resolution (Recapitalisation) Bill [HL]

Lord Livermore Excerpts

Committee stage
Tuesday 10th September 2024 Grand Committee

[The Financial Secretary to the Treasury (Lord Livermore) (Lab)]

My Lords, I hope I can address the concerns of the noble Baronesses, Lady Bowles and Lady Vere, and provide them with reassurances about the protections in place for depositors as a result of the mechanism under this Bill. I can assure the noble Baroness, Lady Bowles, that in the event that the mechanism under the Bill is used, it would not reduce a covered depositor’s entitlement to a payout in the event of a subsequent bank insolvency. In this situation, eligible depositors would continue to be paid out up to the coverage limit set by the Prudential Regulation Authority, which is currently £85,000. That protection is enshrined in the rules set by the Prudential Regulation Authority. If the mechanism under the Bill is used and a bank subsequently enters insolvency, the Financial Services Compensation Scheme will continue to have access to the same resources as it does now. This means that it would first seek to use any existing funds or its commercial borrowing facility to meet its costs. If that is not sufficient, the Financial Services Compensation Scheme is able to turn to the Treasury and request a loan under the National Loans Fund. Any borrowing under the National Loans Fund would then be repaid by future levies. That is an important backstop that means that the Financial Services Compensation Scheme can continue to access the funding it needs.

The noble Baroness, Lady Bowles, asked a specific question about affordability being taken into account when deciding to recapitalise using the payout in insolvency. The answer to that is yes. The bank would consult the PRA when deciding to use its powers to consider affordability in levies. I hope this provides the reassurance that the noble Baroness is seeking that covered depositors will not face a reduction in what they are entitled to in insolvency if the new mechanism is used. On that basis, I hope she will be able to withdraw her amendment.

[Baroness Noakes (Con)]

Can I just clarify what happens when the FSCS has gone to the Treasury, because there does not appear to be a limit on the amount of money that it could draw down to meet its obligations to protected depositors? As the noble Lord, Lord Eatwell, pointed out on our first Committee day, there might be several financial institutions—my noble friend also raised this—in play at one time. It cannot be the case that an infinite amount of money can be funnelled through the FSCS and ultimately funded by loans from the National Loan Fund with the expectation that that will always then be met by subsequent years’ levies on the institution. Is there is there no break in the system which says, “No, this is too much for the FSCS to deal with”, especially as it is now potentially being loaded with a different kind of expense to process through its mechanisms?

[Lord Livermore (Lab)]

As the noble Baroness said, we touched on this briefly in the first day of Committee. If it is okay with her, I will write to set out the precise way in which the mechanism would work in that instance.

[Baroness Bowles of Berkhamsted (LD)]

I thank the noble Lord for his reply, which was broadly as I expected. We can draw from it that, in a situation in which the scheme will be used for recapitalisation, it will not set any precedents, because we do not know how much money will be in the pot if there have been other events. It will be considered case by case.

On the one hand, that has to be so, otherwise you might fall into the sort of trap perceived by the noble Baroness, Lady Noakes: that it is a perpetual pot, which the banks will have to fill, no matter what. That is not satisfactory but, at the same time, it is nice to have as much clarity as possible about the expected outcomes. We come back to the same point about what goes into the code of practice or other versions of it, whatever they may be.

My final point—I do not need to labour points that we have been around before—is that, in his answer about eligible depositors, the Minister said that this is enshrined in PRA rules. I just wish that it was enshrined in primary legislation, as it used to be. I had not absorbed how that was in the rules and was therefore changeable by the PRA. I thought that it would be fixed in primary legislation, but that is something else to think about. With those comments, I beg leave to withdraw my amendment.

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[Baroness Vere of Norbiton (Con)]

My Lords, there is not an awful lot more to say. This is a very elegant amendment from my noble friend Lady Noakes, and it was very elegantly explained. I am the sole member of this Committee today who is not a member of the Financial Services Regulation Committee—no, neither is the Minister—and I am sorry about that. All noble Lords involved in getting the committee set up have an enormous amount of experience in the field of financial services regulation and, looking at the inquiries that it is already doing, I think it will be a very valuable part of our regulatory infrastructure. I look on this amendment with warmth and favourability and I should imagine that the Minister will do so, too.

[Lord Livermore (Lab)]

My Lords, the amendment tabled by the noble Baroness, Lady Noakes, focuses on the important theme of how the Bank of England is accountable to Parliament. As I have said in response to other amendments, the Government agree that it is right that the Bank of England is held to account for the actions it takes in resolution. That includes being accountable, as appropriate, to Parliament, so I do look warmly, in the words of my noble friend Lord Eatwell, at the intent of this amendment. I also stress that it is right that the Bank of England can act quickly and decisively when exercising its powers. That is particularly important in a crisis situation.

That said, the Government expect that the Bank of England would engage with Parliament after taking resolution action, including when the mechanism under the Bill is used. Specifically, under the existing provisions of the Banking Act, when the Bank of England exercises its resolution powers it must provide a copy of the relevant legal instrument to the Treasury. The Treasury must then lay that instrument in Parliament and the Bank of England must also publish it. This will continue to apply under the new mechanism and ensure that Parliament is notified when resolution action is undertaken. I shall give one specific example. In the case of SVB, the Bank sent to the Treasury the copy of the legal instrument the same morning as it exercised its power. The Treasury then laid the relevant document in Parliament on the very same day.

I also reiterate points I have made elsewhere about the Government’s commitment to require the Bank of England to produce reports in the event that the mechanism is used. The Government strongly expect such reports to be made public and laid in Parliament unless there are clear public interest grounds for not doing so, such as issues of commercial confidentiality. I hope this provides some comfort to the noble Baroness and, on that basis, I respectfully ask her to withdraw her amendment.

[Baroness Noakes (Con)]

Just to clarify something with the Minister, I understand that the resolution instruments are notified to the Treasury and laid before Parliament but they, of course, do not refer to the use of the mechanism in the Bill. That is what I was focusing on, rather than the resolution action itself. They may be separated, so it is not quite satisfactory to say that the law already provides for the resolution instruments to be relaid, unless that bit of the legislation, from the 2009 Act, were amended to cover the use of the Bank’s payment capitalisation power. I was trying to fill in a gap that I thought existed.

[Lord Livermore (Lab)]

I do not know whether this goes far enough for the noble Baroness but we absolutely intend, and would be clear, that we expect the same exact procedure to apply for this new mechanism.

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[Lord Livermore (Lab)]

My Lords, I am about to write to the noble Lord, Lord Vaux, on the matter that he raises in his Amendment 17, following a commitment that I gave on the first day in Committee. I will also happily reflect any points raised in this debate in that letter, if helpful. In the meantime, I will set out some of the content of that letter, while providing some additional clarity on the points he raises. Again, I hear the request for worked examples that we discussed on day one.

The Bill extends the role of the Financial Services Compensation Scheme to include providing funds at the Bank of England’s request, which the Bank of England could then use to recapitalise the firm in question. As I have set out previously, the intention would be to achieve that recapitalisation by injecting equity into the failed firm, helping to restore it to viability. In the event that the Bank of England places the failed firm into a bridge bank, the Bank of England would become the sole shareholder for that bridge bank.

It is therefore possible that the Bank of England would receive recoveries in a subsequent winding-up of the bridge bank if all other claims were met, reflecting its position in the creditor hierarchy as a shareholder. The Bill provides for any such recoveries to be returned to the Financial Services Compensation Scheme. The Government consider this to be an appropriate method for dealing with funds used in a resolution and in keeping with the existing principles of the creditor hierarchy. I note four further important points.

First, by ensuring an injection of equity, it achieves the core purpose of the new mechanism, which is to restore the firm to solvency. By contrast, if such a payment were classified as debt—even if that had a more favourable ranking in the creditor hierarchy— there is a risk that it would not restore the firm to the necessary level of balance-sheet health.

Secondly, I note that the primary intention in deploying resolution tools using the new mechanism would be to sell the firm. It is therefore the Government’s expectation that a sale should be the outcome in the majority of cases, rather than placing the firm into insolvency and winding it up from a bridge bank.

Thirdly, I point out that, if the firm entered insolvency from a bridge bank and there were still eligible depositors, the Financial Services Compensation Scheme would pay compensation to those depositors and take on their position in the creditor hierarchy, as it usually does. That of course is the right approach, ensuring depositors maintain their super-preferred status in an insolvency. It is important to note that changes to the creditor hierarchy must be considered carefully to ensure there is clarity for investors and market participants as to how they would be treated in a failure scenario. Treating the funds provided by the Financial Services Compensation Scheme as a debt only at the point of winding up the firm, and not prior to that, might create uncertainty as to its interaction with insolvency law more broadly.

Finally, I note that the super-preferred status in the creditor hierarchy that the Financial Services Compensation Scheme currently enjoys in insolvency reflects a different set of objectives. In those circumstances, the Financial Services Compensation Scheme is standing in the shoes of depositors and that preferred status is seeking to protect depositors’ interests. That is different to the intent of the mechanism delivered by the Bill, which is to provide a source of resolution funding to recapitalise a failing firm.

I appreciate the Committee’s interest in what is a technical but important matter. I hope that I have been able to clarify the intent of the Bill and that the noble Lord is able to withdraw his amendment as a result.

[Lord Vaux of Harrowden (CB)]

I understand what the Minister says about the equity of the original shareholders being effectively written down to zero, but what happens with, for example, lenders who are transferred into the bridge bank? It cannot be right that they probably lose everything in the event of an insolvency situation, but if the FSCS, via the Bank of England, has injected a load of money into the failing bank and it then goes into insolvency, there is more money there and therefore those lenders will receive a share of their cash, if there is enough, which they would have lost in an insolvency situation. However, the FSCS gets nothing back because there is nothing to recoup as it has gone to the lenders. In effect, in certain circumstances the lenders to the failing bank may be bailed out by the FSCS through the Bank of England. That does not seem right to me. Those lenders took a risk in the first instance that was not predicated on being bailed out. I think there is something here that needs to be followed up. Have I got that right?

[Lord Livermore (Lab)]

In the letter I will write, we will set out exactly what would happen in the example that the noble Lord gives.

[Lord Vaux of Harrowden (CB)]

I thank the Minister for that explanation and look forward to receiving the letter with the details and, I hope, a detailed worked example. However, an issue remains. The principle must be that a recapitalisation of the bank by the FSCS will not, in effect, bail out the existing shareholders—which it seems it does not do—or existing creditors, with the exception of the depositors, who are protected separately. There is something that needs looking at quite carefully here. I think we will come back to this on Report, but for the moment I beg leave to withdraw the amendment.

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[Baroness Vere of Norbiton (Con)]

I also support the sentiment in the amendment from my noble friend Lady Noakes. I think all noble Lords here, including the Minister, would agree that this has the right intention but, as the noble Baroness, Lady Bowles, mentioned, there will be edge cases which we cannot foresee at this time. The question is: should such a statement of intent be in the special resolution objectives and, if not, where should it go? I do not know—perhaps in a code of practice, or perhaps not. I am interested to hear what the Minister has to say.

[Lord Livermore (Lab)]

My Lords, the amendment tabled by the noble Baroness, Lady Noakes, seeks to introduce a new objective into the special resolution regime. The new objective would state that the costs in using the new mechanism should not exceed those that would be incurred in the counterfactual of placing the firm into insolvency. This amendment therefore touches on an important point raised both in consultation and during Second Reading, which is whether there should be a formal test or objective that seeks to prevent the use of the new mechanism, or make its use significantly more challenging, where the cost is higher than insolvency.

I also note that the noble Lord, Lord Vaux, raised similar points on the first day of Committee, which he alluded to today, making the case that the Bank of England should be required to present an assessment of costs in reports to the Treasury and to Parliament.

The Government carefully considered the case for inclusion of various forms of such a safeguard, sometimes referred to as a least-cost test, in response to feedback received during the consultation. In considering this matter, it is important to strike the right balance between ensuring that the Bank of England can respond quickly and flexibly to a firm failure and ensuring that costs to industry are properly considered. Having considered this, the Government concluded that the existing public interest test and special resolution regime objectives remained the appropriate framework for deciding whether the mechanism in this Bill could be used.

Adding a specific objective for the Bank of England to ensure that the costs to industry from using the new mechanism do not exceed insolvency could prevent it taking the most appropriate action to advance its broader resolution objectives. Those objectives include protecting financial stability, certain depositors and public funds. It is right that these aims are prioritised at a time of significant risk, which is part of the reason why the Government have not proposed changes to the broader resolution framework.

There is also the potential for such a change to impose important practical challenges. Resolution would likely take place in an uncertain and fast-paced context. Estimating the costs of different approaches during this period will be highly challenging and could change over time. There is therefore a risk that such an objective could create legal uncertainty around any resolution action, which in turn may undermine the usability and effectiveness of the new mechanism in situations where it is justified. This could have significant and undesirable consequences, including crystallising a set of indirect costs for the financial services sector and the wider economy. Further, it should be borne in mind that the alternative if the new mechanism is not available may be to use public funds.

However, I appreciate the intent behind the noble Baroness’s amendment and hope that I can provide some reassurance by reiterating previous points on the subject of the scrutiny and transparency of the Bank of England’s actions. As I have noted, the Bank of England is required under the Banking Act 2009 to report to the Treasury when exercising some of its stabilisation powers and, as was set out in response to the consultation, it is the Government’s clear intention to use these existing reporting mechanisms to ensure that the Bank of England is subject to appropriate scrutiny when using the mechanism provided by the Bill. However, I take the point that the noble Baroness made in response to my earlier point.

The Government have committed to updating the code of practice to provide further details on how these reporting requirements will apply when the mechanism is used. I reaffirm that the Government intend to include confirmation in the code that, after the new mechanism has been used, the Bank of England would be required to disclose the estimated costs to industry of the options considered, including the comparison with insolvency. The Government consider that using the code of practice in this way, rather than putting these requirements in the Bill, is the best approach to hold the Bank of England to account for its actions.

The Bank of England is legally required to have regard to the code and the Government are required to consult the Banking Liaison Panel, made up of regulatory and industry stakeholders, when updating it. Using the code will therefore ensure that a full and thorough consultation is taken on the approach. Given the complex and potentially fast-moving nature of bank failures, this will also ensure that any approach is sufficiently nuanced to account for the range of possible outcomes under insolvency or through the use of other resolution tools.

As I have previously said, the Government will share drafts of the updates to the code of practice as soon as practicable and provide sufficient opportunity for industry stakeholders to be consulted on them. The noble Baroness also made the case that insolvency should be a preferred strategy for small banks and I stress that this is the case. I hope that I have provided some helpful explanation to her of the Government’s position on this matter and respectfully ask that she withdraws her amendment.

[Baroness Noakes (Con)]

My Lords, I thank noble Lords for supporting the principle behind my amendment, even if they did not fully align with the mechanism that I have chosen. We have had a useful debate on the issues involved. The Minister’s response was clearly helpful and I want to consider it carefully.

The Minister talked about things being very fast-paced, which I completely accept. Nevertheless, the Bank has to make a decision on the best information that it has. I am trying to build only on what it should be doing anyway, even though that is difficult to do when things are moving very fast.

Let me reflect on what the Minister said. It may come back to the issues which I am going to discuss in the next amendment, which are about the code of practice and needing to see what is likely to be said in that. I will shut up at this point and save my powder until the next group. I beg leave to withdraw the amendment.

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[Baroness Vere of Norbiton (Con)]

My Lords, I added my name to the amendment in the name of my noble friend Lady Noakes about the code of practice because it is important that we have this debate. I recognise what the noble Lord, Lord Eatwell, says, but it slightly struck fear into my heart because it is about those circumstances where there is not sufficient guidance or a code of practice. Essentially, this is not necessarily just for the Bank of England; it is for all those stakeholders who will be involved in the other side of a resolution. A lot of people will read the code of practice and internalise it. When it is needed, it will therefore already be in their hearts because they will have read it, so I am not as concerned as the noble Lord is about putting in too much detail. The simple fact is that we have not seen anything, so we do not really know what we are dealing with.

It struck me that in the slight rush to bring forward some legislation to keep Parliament occupied, perhaps, the Government are not providing all the information that the House needs to consider this Bill fully. It is complex, and as noble Lords go through it, it is clear that we are all picking up new nuances that we consider might be of concern in the future. The code of practice makes up an important component of the regime and the Committee is slightly flying blind, having not seen a draft of the changes—not only a draft of what would happen as a result of the Bill, but also potentially to fill gaps that we know are not going to be part of the Bill. We know that the code is potentially the only protection between anybody who uses banks—essentially, the taxpayer—and the Bank being able to perform maximum adaptation to a situation. There has to be something in the middle that stops that happening.

I am warming to my noble friend Lady Noakes’s suggestion that the Bill should not come into force until the code of practice is finalised, but I sense that that might be a little churlish. The amendment itself is a little anodyne. I think all noble Lords agree that the Government will, of course, make changes to the code of practice, but I would appreciate hearing more information from the Minister about what changes are anticipated—specifically, what will be left out—and the timing for any code of practice because while it remains outstanding, even in draft form, there is a significant lack of clarity.

At Second Reading, the Minister stated that the update will happen in due course. How many times have I used that phrase? I know exactly what it means. It means “when we are sort of ready”. We need to be a bit more ambitious than that. Can the Minister give any further guidance on timing? If he cannot, would it be helpful if I tabled an amendment on Report that required the code of practice to be updated within, say, three months and subject to approval by both Houses? I am happy to do that if it is helpful.

As my noble friend Lady Noakes and the noble Lord, Lord Vaux, pointed out, the Minister has referred to these things being addressed in the code of practice. Many of the elements in the reporting are also supposed to be in that code. My concern is that six weeks have now passed since the Minister said “in due course” and the House rises at the end of the week for Conference Recess. I presume that the Treasury is still working, so that would be a further window during which progress on a draft code of practice could be made. Therefore, I very much hope that the Minister can commit to having a draft document available for review before Report stage is scheduled. I look forward to hearing from the Minister.

[Lord Livermore (Lab)]

My Lords, I should state at the outset that the Government have no objections to the principle under discussion. Indeed, the Government have already stated publicly in our response to the consultation on these proposals that we intend to update the code of practice to reflect the measures in the Bill. I have already committed to share a draft of the proposed updates at the earliest opportunity, and I am happy to reaffirm that commitment today. I am aware that this is not the answer that the Committee is looking for, but I am afraid that I cannot commit to providing that before Report. However, I expect it to be available before the Bill comes into force.

As set out in the Government’s consultation response, the updates to the code will do three things: first, they will ensure that the code appropriately reflects the existence of the new mechanism; secondly, they will set out that the Bank is expected to set out estimates of the costs of the options considered and, as noted elsewhere, this is expected to include the case of insolvency; and thirdly, they will set out the expectation that any use of the mechanism is subject to the ex post scrutiny arrangements that I have described elsewhere.

The noble Baroness, Lady Noakes, perfectly fairly asked for a series of clarifications of what the code will include. She asked about two points specifically. The first was whether the code will confirm the mechanisms intended for small banks and the expenses covered? Yes, it is the intention that it will. She also asked whether the code will cover multiple uses of the mechanism. Yes, the code will cover that. I will answer other specific questions in writing.

In preparing these updates, the Government are mindful to ensure that they are done efficiently and carefully to ensure that they achieve the intended effect within the wider resolution framework, for instance, ensuring that the right set of costs is considered on the appropriate basis.

The Government will ensure sufficient opportunity for industry stakeholders to be consulted on these proposed updates to the code of practice. In particular, the final wording of any proposed updates would be subject to review by a cross-section of representatives from the authorities and the industry on the statutory Banking Liaison Panel, which advises the Treasury on the resolution regime. As noted, the Government will aim to progress these updates and make the proposed changes available for consultation with industry as soon as practicable.

Finally, I note that the Banking Act 2009 already imposes an implicit requirement on HM Treasury to update the code of practice, even without this amendment. Addressing the operation of the new mechanism would therefore already fall within the scope of this requirement.

I know that this explanation may not be sufficient, but I respectfully ask the noble Baroness to withdraw her amendment.

[Baroness Noakes (Con)]

The Minister just referred to an “implicit requirement” in the Act. Does he believe that Section 5 can be interpreted only as requiring the code of practice to include matters relating to the bank recapitalisation power? That would be extraordinary because nobody knew about the bank recapitalisation power when the 2009 Act was drafted, so under the principles of ordinary interpretation, it would not be included.

[Lord Livermore (Lab)]

I will write to the noble Baroness on that.

[Baroness Noakes (Con)]

I thank noble Lords for taking part in this short debate. There were three parts. First, Section 5 of the 2009 Act needs to mention the bank recapitalisation power, which is what the amendment does. The Minister is going to write on that.

We moved on to issues with the content and timing of the code. I say to the noble Lord, Lord Eatwell, that we all understand that the Bank needs powers to act as quickly as possible. Nobody is trying seriously to harm that. Taking what the noble Lord said to its logical conclusion, the statute would say just that the Bank of England can do whatever necessary when it comes to situations of bank failure—full stop. We would not have the many pages of the 2009 Act and all the complicated, mind-blowing arrangements that exist, holding companies and everything like that. We would not need that because we could just say that it could do everything. It is overstating the case to say that trying to write codes of practice would hold the Bank up in doing its duty when things go wrong.

What the Minister said on content is a helpful move forward from where we were. We may want to explore that a bit further on Report. However, timing is a concern, as we will not have further clarity by the time we reach Report. The only useful thing he has said is that they expect to reissue the code of practice prior to this Bill coming into force. I suggest that it would be pretty negligent not to update it before bringing the Bill into force.

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[Baroness Vere of Norbiton (Con)]

My Lords, I simply make the same point. The noble Lord, Lord Vaux, was absolutely right to summarise the principle which I think all noble Lords on the Committee feel is the purpose of the Bill. There cannot be any circumstances by which there is MREL or whatever it might be left, yet money is going in from FSCS to ensure the resolution of the bank. I cannot see any circumstance in which that would happen—perhaps Treasury officials would be able to think of one—but I think all noble Lords are agreed on the need for some clarity on what would happen.

I appreciated the comments from the noble Baroness, Lady Bowles. I got about 60% of them, so I was really proud of myself; the other 40% went way over my head. I am going to try to understand her points. We are in quite a difficult situation, but the way that she has been so forensic about it has allowed the noble Lord, Lord Vaux, to state what the principle is. It is about combining those two things—the forensic attitude to “This is what the Bill could say if read in a certain way” versus “Just tell us whether the Bill abides by the very simple principle that basically FSCS money should be a last resort, not there for anybody else, but just to prop up a bank to make sure it gets through to the other side of resolution, for the public interest and no more”.

[Lord Livermore (Lab)]

My Lords, in response to the amendment tabled by the noble Baroness, Lady Bowles, I reassure her that the Bill does not seek to introduce measures to bail out shareholders. I note that she raised concerns about this point on the first day in Committee, about which I am about to write to her. I hope my response will provide the clarification she is seeking pending that letter and the worked examples that we have discussed.

The amendment relates to a subsection of the Bill that would amend Section 12AA of the Banking Act 2009. This sets out the definition of the shortfall amount, which is a figure calculated by the Bank of England when using the bail-in resolution tool. The shortfall amount determines how much of a firm’s resources need to be bailed in to restore its capital ratio to the extent necessary to sustain sufficient market confidence and enable it to continue to meet the conditions for authorisation for at least one year and to continue to carry out its authorised activities. The methodology for determining the shortfall amount is not changed by the Bill, and it remains the case that when using the bail-in tool a firm’s own resources and eligible liabilities—its shareholders and creditors—would bear losses.

The relevant provision is not intended as a means of reducing the amount of MREL that should be used when bailing in a firm. Instead, it is intended to ensure that, in the event the mechanism is used alongside the bail-in tool, funds from the Financial Services Compensation Scheme are taken into account and used rather than the Bank of England having to bail in other creditors further up the creditor hierarchy. As an example, without this provision, if a firm had insufficient MREL to meet its shortfall amount without being able to take into account Financial Services Compensation Scheme funds, it may need to bail in creditors, such as uncovered depositors. Retaining this provision therefore ensures that the Bank of England may exercise some discretion in not bailing in other liabilities beyond a firm’s MREL, such as uncovered deposits, where to do so might risk further destabilising the business of the firm, other participants in the banking sector or other sectors, or reducing wider confidence in the financial system. Therefore, the Government consider it important to maintain flexibility to respond to the relevant circumstances.

In this context, I also note that funds provided by the Financial Services Compensation Scheme under the new mechanism can be used to cover the costs of recapitalising the failed firm, the operating costs of a bridge bank, and Bank of England and HM Treasury costs in relation to the resolution.

It is important to note that Sections 6A, 6B and 12AA of the Banking Act 2009 require the Bank of England to ensure that shareholders and creditors bear losses when a banking institution fails. This is an important principle that will continue to apply where the new mechanism is used.

I can reassure the noble Baroness, Lady Bowles, that the regime provides an extensive and proportionate set of powers to the Bank of England to impose consequences on the shareholders of a failed firm in resolution. The bail-in tool specifically enables the Bank of England to impose losses on shareholders and to write down certain unsecured creditors. This is an important principle that ensures the firm’s owners and investors must bear losses in the case of failure.

This is of course a highly technical area, and I understand the noble Baroness’s concerns. To that end, I am happy to explore whether there is further material that the Government can make available, such as worked examples, to help illustrate how this approach may work in practice. I hope these points can reassure the noble Baroness and I respectfully ask her to withdraw this amendment.

[Lord Vaux of Harrowden (CB)]

The noble Lord has just confirmed the point that we talked about in Amendment 17, that there are situations where the use of the recapitalisation payment can, in effect, bail out some types of creditors. Indeed, he referred to unprotected deposits as being one area that might make sense. This is quite complex and I suspect that when we have seen the worked examples and so on, there is going to be more to discuss. Would he be prepared to meet with officials and Members of the Committee to go through these things prior to Report, so that we can make sure that we all really understand in what circumstances that that could happen and in what circumstances it cannot?

[Lord Livermore (Lab)]

Yes, absolutely; I will very happily meet. I will write a letter setting this out in greater detail, provide the worked examples, and then perhaps we can meet on that basis.

[Baroness Bowles of Berkhamsted (LD)]

I thank the Minister for his replies but I am still not satisfied, in part because of what is in the Explanatory Notes. They should be amended because they cannot stand alongside everything else that is said. I know that they have no legislative power but if we are looking for ways to interpret, they are there. The problem comes from, as I said, “shortfall”, which is defined in a way that has ambiguities. I know full well that “shortfall” was an unusual word; it did not need to be in the BRRD and was put in by the counsel—I think I know who did so because I was told to guard it with my life—for various operations that may still be needed. Now is the time to make it clear. The linkage back to it is not good.

Alongside worked examples, it would probably be quite useful to have a list of the instruments that we think are covered and those that are outside. MREL, which is loss absorption amount plus recapitalisation amount, covers common equity tier 1, other equity instruments, subordinated senior non-preferred instruments and ordinary unsecured senior instruments. It does not include repayable deposits and non-returnable deposits.

How have we ended up talking about bailing in unsecured depositors when we are talking about MREL, because they should not be there in the first place, as far as I understood things? If we cannot understand that, that is not right to put before the public. Can we have a list of the instruments that we think can be bailed in, where they are bailed in, and then the point at which in that stack the FSCS compensation can come in? Once we have worked out where that is and can see it clearly, I should be much better pleased if we could define that ab initio in the Bill rather than reference back to language that is flawed and risks either leading us up the garden path or not being able to understand it, even though I declare that I have confidence that the Bank of England will probably get it right.

It is splitting hairs, but I cannot make that wording work; I am sorry. Therefore, in hoping that I will get some more explanations, for the present, I shall withdraw the amendment, but it may well be that either this or my Amendment 22 in some form might need to reappear on Report. I beg leave to withdraw the amendment.