Banking Reform

William Bain Excerpts

Monday 29th November 2010 Commons Chamber

[Mr William Bain (Glasgow North East) (Lab)]

It is a pleasure to be able to contribute to this important debate. I thank my right hon. Friend the Member for Oldham West and Royton (Mr Meacher) for having the good sense to persuade the Backbench Business Committee to secure it. It is also a pleasure to follow the hon. Member for Clacton (Mr Carswell). I agreed with some of his remarks, particularly the one about breaking up the banks.

When I was preparing for the debate, I had occasion—and a little more time than I expected, owing to my difficult journey from Scotland to London today—to examine an excellent study of the banking crisis by three major economists in a book entitled “Balancing the Banks”, by Mathias Dewatripont, Jean-Charles Rochet and Jean Tirole. Jean Tirole’s chapter in particular details, in very precise order, the reasons for the crisis and makes several points. First, it deals with the crisis in United States home loans, which spread to other sectors and other countries. The staggering expansion in the level of securitisation partly explains the difficulties that the US banks got into. Between 1995 and 2006 the proportion of loans that were securitised rose from 30% to 80%, and the proportion of sub-prime loans that were securitised increased from 46% in 2001 to 81% in 2006. Jean Tirole also points out the lack of high-quality collateral backing many of these loans, which particularly came to our attention when the inter-bank bond and derivatives markets simply froze up. Added to that, excessive liquidity fed the demand for securitisation. As my right hon. Friend the Member for Oldham West and Royton pointed out, monetary policy was also very loose, particularly in the United States, and the performance of credit rating agencies hardly covered them in glory.

Another important point in understanding what went wrong is the failure of international regulation of the banks. For example, the level of off-balance-sheet liquidity support increased hugely, especially in America. There has also been a need to rediscover what prudential regulation of the banking system should be about. It should be about, first and foremost, protecting small depositors and investors, but also containing the domino effects of systemic risk.

We should therefore welcome some of the recommendations of the Basel Committee on Banking Supervision. The key failure of Basel II was its reliance on pro-cyclical capital controls, and one of the Basel III reforms we should welcome is the introduction of counter-cyclical buffers. I think it is also true to say that Basel II was too complex. It was based on a pillar structure that was both difficult to understand and unable to anticipate systemic risks to the banking system or, indeed, manage financial innovation. As my right hon. Friend pointed out, it was unable to predict the chaos that credit default swaps and collateralised debt obligations would create throughout the world. There needs, therefore, to be an increase in the capital and liquidity banks should hold.

I disagree, although only slightly, with my right hon. Friend in one respect, however. Basel III does introduce a powerful counter-cyclical element of up to 2.5%, which may be significant in preventing future problems. There is also a balance to be struck.

[Charlie Elphicke (Dover) (Con)]

Is the hon. Gentleman aware that Basel III also seems to introduce an incentive for increased invoice discounting and trade factoring, and is that not slightly undesirable?

[Mr Bain]

The hon. Gentleman raises an interesting point. I was about to make the point that Basel III strikes a balance between protecting the taxpayer and the state and promoting economic growth. I understand the banks have been lobbying to try to diminish some of the effects of holding extra capital. Indeed, when I met a representative from Lloyds Banking Group in Glasgow on Friday, he lobbied me to take that position.

What we have witnessed is a crisis that began in the housing and asset price markets in America. It spread to other countries and to the banks of other countries, and it has now also spread to the state. It is important that the taxpayer can see that there are buffers to prevent the state from having to bail out banks across the globe. Having a counter-cyclical element should help achieve that.

The Government should continue the work the previous Government did in pursuing the issue of getting a global deal on bankers’ bonuses. If they do not, or if they are unable to achieve a global deal, the UK and the EU should be prepared to take a lead in giving greater transparency and reducing some of the terrible incentives to sharp practices in the last decade.

Across the world, we are seeing the terrible effects of a credit crunch causing a banking crisis, in turn causing a deficit crisis and then a growth crisis. In the coming months and years, we need to put in place a policy that sorts out the system for good. We need a policy that learns the lessons from the crisis and ensures the taxpayer never has to foot a huge bill for the terrible behaviour of a greedy few.