Financial Services Bill

Viscount Trenchard Excerpts

Committee stage
Monday 1st March 2021 Grand Committee

It is especially important for the FCA, where it looks like so much has returned to invisible case-by-case decisions by supervisory teams, and which is so very exposed to system failure and capture. But the PRA should be included too in what will, I suspect, become the new best international practice in financial regulator oversight. After all, Australia got to twin peaks regulators first in 1998, so let us not be a decade behind it this time. I beg to move.

[Viscount Trenchard (Con) [V]]

My Lords, the noble Baroness, Lady Bowles of Berkhamsted, makes a good case for introducing skilled person reviews of the regulators in addition to the parliamentary oversight arrangements that I hope will be agreed satisfactorily. This transfers the boot to the other foot; the difficulty would be in deciding who could be skilled enough to assess the regulators. Would the costs ultimately be borne by the regulated firms?

In the first three years after the introduction of skilled person reviews by the regulators in 2014, fees paid for skilled person reviews, generally confined to a number of issues on parts of a firm’s business, or only one, amounted to more than £500 million. The cost of a review may amount to several hundred thousand pounds. The real cost in terms of diverted management time, legal costs and remediation activities is often much greater than the simple cost.

It is interesting that only some 8% of skilled person reviews have led to enforcement actions, even though many reviews at the time of launch were feared by firms as likely precursors to enforcement. The number of skilled person reviews commissioned by the PRA and FCA increased from 44 in 2017-18 to 51—or nearly one a week—in 2018-19. I worry that regular reviews of the regulators would be very expensive, in terms of money and time. As my noble friend Lady Neville-Rolfe often suggests, is this not a clear example of a case where an impact assessment should be undertaken before introducing a statutory requirement? I look forward to the views of other noble Lords and the Minister on this matter.

[Lord Desai (Non-Afl)]

My Lords, I very much welcome the amendment. I have been a Member of your Lordships’ House for 30 years. Throughout that time we have had one crisis after another in the financial markets. I have the impression that most of the time they have been due to ignorance by top people of how the market is changing and of the new products and challenges. When I first got here in 1991 we had the Baring Brothers crisis. There was no doubt that the people sitting in London had no idea what a derivatives market was, and nor did the Bank of England. Nobody knew that Nick Leeson was operating on the Yokohama stock exchange. Public information was available, but nobody in London knew where it was. Therefore, they completely missed it. We also had the BCCI crisis, but that was a pure, untechnical fraud. That is another matter.

Most importantly, I remember debating the legislation that set up the FSA. At that time we thought the problem was that self-regulation had failed in various sectors, and that these sectors were interdependent, so we had to have an overarching framework. We set it all up, but it did not help when the crisis occurred in 2008. I remember reading the report by Adair Turner—now the noble Lord, Lord Turner. He said that they had been told by the experts not to disturb the markets and to trust them. We were very impressed by that and trusted the markets, but they were wrong.

Obviously, the interesting point is that by then the market had so many new products, with fairly sophisticated probability models behind them, that it would have been necessary for the regulators to be constantly aware of new developments in this field to be one step ahead of where the market was. I will give a slightly technical example. Adair Turner said that they were told that the markets were efficient, and therefore we should try not to correct what the markets were doing. We now know that the people who believed the market efficiency hypothesis and all that—and who convinced the world—were using very simple normal or bell-shaped distribution to model movements in the stock market. While normal distribution is very easy and frequently used, it is not suitable for every occasion in the market. What we call fat-tailed distribution would have been better and predicted the crisis much sooner. But this is a technical matter.

The regulator might not know what is happening out there in the financial, economics field. It ought to be informed periodically where the knowledge has got to and where the products are. This is not something where the skilled person can necessarily come from the banking sector of one country or another. We might have to find a skilled person who knows how rapidly the market is changing, how new products are being developed, and how the nature of uncertainty itself is changing.

I believe that the amendment is very welcome. I will add one more thing. When I first read the Bill I was appalled that so much weight is being put on the FCA. I really feel that the FCA is not up to the task. I hope that after all this legislation, the Treasury review and so on we might get a better FCA, but I have grave doubts. If we are to have the FCA as it is right now, we urgently need a skilled person review, maybe not every five years but more frequently than that.

The noble Viscount, Lord Trenchard, referred to the cost. I can tell noble Lords that the cost of not doing this will be much more horrendous than the cost of doing it.

--- Later in debate ---

[The Deputy Chairman of Committees (Baroness Fookes) (Con)]

The next speaker is the noble Viscount, Lord Trenchard.

I believe the noble Viscount is muted. Would he be kind enough to unmute?

[Viscount Trenchard (Con) [V]]

[Inaudible]—Amendment 45 in the names of my noble friends Lady Noakes and Lord Holmes of Richmond, and of the noble Baroness, Lady Bowles of Berkhamsted. We are midway through the process of transitioning from the familiar Libor benchmarks, the replacements for which have become more necessary since banks’ funding patterns have changed following the financial crisis. My noble friend Lord Holmes already asked the Minister what he thinks about synthetic Libor. I would also be most interested to hear his reply on that.

The Investment Association welcomes the additional powers for the FCA in the Bill as it will be better able to manage the transition, which should help to mitigate the uncertainty for holders of derivative contracts. There is the additional uncertainty caused by the existence of only temporary equivalence between UK and EU benchmark regulations. It is to be hoped that the EU will soon adopt the European Council’s recommendation to extend the transitioning period for third-country benchmark administrators to the end of 2025.

My noble friend’s Amendments 44 and 45 would be helpful improvements to the Bill, by making it clear that changes to benchmarks made by the FCA will apply to contracts made under benchmarks being revised. Rightly, they offer a safe harbour protecting parties to such contracts from legal actions resulting from benchmark changes. It is encouraging, as I mentioned, that the Investment Association supports this part of the Bill and I welcome these powers being handed to the FCA. My noble friend’s amendments would improve and reduce the risks inherent in exercising these powers and I support them.

[Lord Desai (Non-Afl)]

My Lords, this is a technical matter and I have nothing to add to what was said by the noble Baroness, Lady Noakes. I am merely an academic but, when these things were going on, I wondered how people who swore by the free market could have had a cartel sitting in a little room, generating a rate of interest on which billions were based. Someday, somebody ought to explain to us how anybody could trust a cartel and hope that it will not be dishonest.