Financial Services (Banking Reform) Bill

Lord McFall of Alcluith Excerpts

Wednesday 24th July 2013 Lords Chamber

[Lord McFall of Alcluith]

My Lords, it is a pleasure to follow my fellow member of the Parliamentary Commission on Banking Standards, the noble Lord, Lord Lawson, who played an invaluable and steadfast role. I also congratulate the noble Baroness, Lady Kramer, the noble Lord, Lord Turnbull, and the most reverend Primate the Archbishop of Canterbury on the work that they have undertaken. As the noble Lord, Lord Lawson, has said, special thanks go to the chairman for keeping it all together and producing a unanimous report for us.

It is exactly a year ago this month that the Parliamentary Commission on Banking Standards was established. With more than170 hours in 80 evidence sessions in public, 74 hours in private, and more than 9,000 questions later, what have we found? Mindful that the remit was to look at culture and standards in the banking industry, we have found an industry where standards are abysmally low and the culture is rotten. Even in the seven months in which we took oral evidence, we saw two more major LIBOR scandals; an interest-rate swap scandal; the PPI mis-selling scandal, the bill for which has risen £15 billion to £17 billion; a major bank guilty of money-laundering in Latin America; and another fined $700 million for sanction-busting in Iran.

The question is: how do we fix such a system where the public trust in these institutions is at rock bottom? Despite the worthy attempts of the Parliamentary Commission on Banking Standards, we have no magic solution. Yes, we provided a profound analysis that illustrated both the structural and organisational fault lines, but I would suggest that we have produced a signpost report which points the way for the Government, the regulator, the industry and also civic society to take things forward. This will not be done overnight; it will take a generation. If we are to change culture, we need that change to be a behavioural change and, for that, individuals need to buy into it. It starts at the top and permeates the organisation, which will take a considerable period of time. We have seen boards, chairmen and chief executives deficient in this regard. The report laid bare the lack of individual responsibility at the top—I would suggest that we witnessed a “no see, no tell” approach, where the collective decision-making was a defused responsibility. The concept that “the buck stops here” was non-existent in the banking system. I have two brief examples of that. From UBS top management, four senior executives came before the commission; a star trader had lost thousands of billions of dollars in the Far East and, when we asked if they knew the star trader, they replied no. We asked when they found out and they said, “When we read it on the Bloomberg wires”. Collectively, they were probably getting about £100 million a year, but they knew neither who the people were within their organisation nor what those people were doing on their behalf.

The payment protection insurance scandal has, as I mentioned, cost £17 billion and is likely to go up to £30 billion. Mindful that the cost of the Olympics was £8.9 billion, we are talking about the cost of four Olympics being put on, with a mis-selling scandal taking place over 18 years. Yes, the standards were abysmally low, because of a lack of ethical principles at the top of the organisation. Why, we may ask, did that situation prevail for so long without adequate challenge from outside? Here we come to the regulator; it is full of worthy people but it was, I would suggest, captured, conned and cowed by the industry. Captured, because there was an incestuous relationship where the views of wider society were rarely heard and never heeded. When I was chairman of the Treasury Select Committee, it took me five or six years to get at least one consumer representative into the Financial Services Authority. With the procession from the Financial Services Authority to the private industry—and with the former chief executive going to Barclays as a compliance officer for 10 times his salary at the FSA—I suggest that we could be seeing a postgraduate institute of the FSA for people to get better jobs in the private sector. If we want to have an even system, where the balance of power is maintained, we are going about it the wrong way, because the regulator will always be weak.

The regulator was cowed, because this is a powerful industry that is used to getting its own way and is impervious to challenge. The PPI scandal illustrated that very well. I also said that the regulator was conned. Why conned? It is because the FSA executives said to me for years that the business model of institutions and organisations was not their responsibility. They did not know, or seemed to care little for, how much risk there was on the balance sheets of banks as a result of complex models. That complexity provided an illusion of control; people felt satisfied but they did not know what was going on. That very much applied to the regulator. They did not wake up to the importance of the selling of PPI, because they did not look at the profit and loss of the balance sheets. One cursory look would have shown that there was a big problem.

I am not advocating for more regulation, we do not need more regulation. What we do need is tougher regulation and change to the commercial law of the land regarding the responsibilities of directors, so that the heads of the banks are answerable for the actions of rogue subordinates. We need to give the regulator both authority and autonomy. I turn to the ring-fence and leverage, because the Parliamentary Commission on Banking Standards did its job adequately in those areas. What have the Government done? To date, I would suggest, they have pulled the rug from under the feet of the regulators. Let us look at ring-fence and what the Government are proposing. In fact, some of us, as the noble Lord, Lord Lawson, said, were advocates of full separation and anyone who listened to the testimony of Paul Volcker when he said to the commission that an executive or director of an holding company is responsible for the ring-fence as well, would know, as the noble Lord said, that it is very hard to have a ring-fence situation. In the name of compromise, however, we sat down and said that if the Government established the Vickers commission and Vickers came out with ring-fencing, we were mindful that the Government would be unsympathetic to anything else. That is why we called for the electrification of the ring-fence. If anyone gamed the system, the regulator could bring them into line quickly and threaten or impose separation.

What have the Government done on paper? They have accepted that, but I suggest that to date they have neutered it. The noble Baroness has already mentioned the remarks of the chairman in the other place. How have they neutered it? They have done so by expecting the regulator to issue three preliminary notices to the offending bank, seeking permission from the Treasury on each occasion. What price the independence of the regulator in a situation such as that? The three permissions from the Treasury are followed by a five-year gap before there is any decision whatever on separation. I say to the Minister that that is an affront to the genuine efforts of the Parliamentary Commission on Banking Standards to seek a unanimous way forward. What we have now is not a ring-fence; I suggest that it is a hammock in which the executives can swing easily above the ground, while all the hassle takes place on the ground with the politicians and the regulators, and the executives look down from above, easy and relaxed. Therefore, the Government have to fundamentally change their opinion on that. I am going to be in the trenches with the noble Lord, Lord Lawson, in ensuring that the Government do the right thing on this issue.

The other area that we looked at was leverage. The noble Lord, Lord Lawson, said that the Bill as it stands remains defective in many key areas. There is no doubt that it is defective in the area of leverage. As the noble Lord said, we were of the opinion that the regulator should be in sole charge. However, the Government have rejected that out of hand. The noble Lord, Lord King, newly ennobled, was unequivocal when he said:

“Leverage is the one issue that matters above all others ... it’s precisely for that reason that the banks will resist most strongly the regulation of leverage and the politicians will compromise on precisely that”.

In the Financial Times today, the Business Secretary talks about those in the Bank of England as the “capital Taliban” because they are not listening. I agree with the leader in the Financial Times headed:

“Let the regulators show their teeth”.

The regulators have not shown their teeth so far, and if we allow the present situation to continue, we will undermine confidence in the entire system.

We all know that excessive leverage has been the trigger in every banking crisis in history. That is why Vickers recommended 4%, limiting gearing to 25:1. That is why we echoed Vickers, and it is why the interim Financial Policy Committee of the Bank of England asked for the power to vary leverage. However, the Government declared “no, no, no” three times, saying that they were wedded to Basel, despite the wise advice to the contrary. Robert Jenkins, a former member of the interim Financial Policy Committee, was very clear on the issue. He is no longer on the FPC because, I suggest, he challenged the Government too much, and he has now been dumped off it. However, he looked at Barclays, which we saw—and still see—as a poster child for excessive leverage.

The balance sheet of Barclays is roughly the size of the UK’s annual GDP. It funds £1.5 trillion of risk-taking, with 97.5% of debt and 2.5% of loss-absorbing equity. The noble Lord, Lord Lawson, mentioned hedge funds. The average hedge fund trades with three times leverage, but Barclays is operating with 45 times leverage—a gearing 15 times the average of any hedge fund. If Barclays’ assets eroded in value by a mere 1.5%, it would be leveraged 100 times over. I ask noble Lords: does that inspire confidence in building a sound, stable and sustainable system for a post-crisis environment? I think that the Government have to look again at that.

One last issue, which I advocated in the report, is the concept of the duty of care. It could be said that, despite all the scandals that there have been in banking, there has been only one big scandal, and that is that customers’ interests have been at the bottom of the pile. I suggest to the Government that if they implement this measure, it will be transformative for the industry because it will ensure that the buck does indeed stop with individuals at the top, and it will permeate the organisation. Therefore, my plea to the Government is that a duty of care needs to be a key element in the new banking standards rules.

During the many hours of questioning, I regularly asked senior bankers whether banks could change on their own. In response, they all said no. That is why the Government cannot stand aside and give the industry a free pass. To transform this industry, which is at such a low, the Government have to be an active participant. The parliamentary commission was the first of its kind for a century. The previous one, exactly 100 years ago, collapsed in a heap of partisan acrimony. This commission did not; it stayed together and was unanimous. At the end of the day, we do not want the Government letting the side down after a cross-party group has sat for a year and come out with a unanimous approach.

We resisted the temptation to be partisan and produced the report, so we have been faithful to the task that the Government gave us. However, if they ride roughshod over our efforts and recommendations, not only will that traduce the role of such a unique commission but it will fail to best serve the interests not only of the financial services sector but of the wider economy and of societal well-being in the long term.