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Financial Stability: G7 Initiative

Volume 597: debated on Wednesday 17 February 1999

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2.42 p.m.

To what extent the recent financial crises in south-east Asia, Russia and Brazil have been caused or aggravated by speculative money, based in or passing through "offshore" funds, largely outside the control of national central banks and inter-governmental institutions; and whether they will raise these questions in the G8 forum.

My Lords, the Government are taking a leading role in international efforts to promote global financial stability. Under the UK G7 presidency, an important declaration was agreed in October 1998, outlining a reform blueprint for the international financial system. As well as broader reforms, this included commitments to examine the implication of the operation of hedge funds and to find means to encourage offshore centres to comply with internationally-agreed standards. G7 finance ministers will report on progress in Bonn this coming Saturday.

My Lords, I thank the noble Lord for his helpful reply. I hope that he and his colleagues can make good progress. However, can he be more specific and say whether the Government are seeking better regulation both of derivatives and of speculative trading by major institutions together with better risk control on short-term loans made across international frontiers?

My Lords, unfortunately, I have not been invited to Bonn; the Chancellor is going on Saturday. Of course, derivatives exchanges such as LIFFE are subject to regulation, and regulatory standards are kept under review. The problem is that many traded derivatives are traded outside exchanges. That is why the Basle Committee under Dr. Brockmijer on banking supervision issued risk management guidelines which identify the types and sources of risks the counterparties face in these transactions and review sound risk management procedures. But I do not conceal that the issue raised by the noble Lord is extremely difficult to control.

My Lords, can the Minister say more about the initiative taken by the Chancellor of the Exchequer with regard to getting much more transparency into international financial arrangements? In particular, can he say anything about the proposal for much clearer accounting standards and codes of conduct that would touch upon banks dealing with international financial matters?

My Lords, I am grateful to the noble Baroness for that reminder of the initiative undertaken, first, by the Prime Minister in September of last year and then by the Chancellor at Ottawa in October. It is the results so far of the negotiations following that initiative which will be reported at the meeting in Bonn of finance ministers and central bank directors. I am sorry I am not able to anticipate that meeting.

My Lords, does my noble friend agree that while, in a financial crisis, resort to strict capital controls has usually proven to be counterproductive, as many countries in Latin America discovered to their cost in the debt crisis of the 1980s, there is a strong argument for setting prudential limits on cross-border flows of short-term loans where financial systems are weak? Does he agree also that the Chilean system, with its requirement that domestic borrowers abroad have to place 30 per cent. of their borrowings into the central bank for one year at no interest, has proven to be the best means of reducing the share of short-term debt in the overall external debt of Chile? That might be widely replicated, even at the cost of some rise in interest rates.

My Lords, my noble friend is right in saying that a retreat into capital controls more widely would be dangerous since capital mobility underpins global prospects for growth and development. Having said that, the prospect of more limited measures such as those introduced in Chile are of interest and are being considered by international organisations. I hope that my noble friend is not recommending what is called a "Tobin" tax on foreign exchange transactions. That would be much more difficult to implement.

My Lords, while the activities of speculators are a cause of legitimate concern, does the Minister agree that the main responsibility for avoiding destabilising capital flows rests with the governments concerned? Further, will the Government resist the populous trap exemplified by Dr. Mahathir of Malaysia of blaming speculators and something called "global capitalism" for the financial crises in east Asia and Russia and instead urge with all possible force, in all appropriate international fora, the importance of domestic reforms in the afflicted countries?

My Lords, I am not sure that I agree with the noble Lord. Of course, governments have very strong responsibilities and, depending on their relationships with the financial regulators and depending on how close they are to government, that locks into the responsibilities of financial regulators in individual countries. It is also true that interrational financial institutions—the IMF in particular—have heavy responsibilities in this area. Such responsibilities are among those which have been considered in the last six months since the Chancellor's speech in Ottawa.

My Lords, will the Minister tell us whether the concern that is felt by many is recognised? I refer to financial crises such as that in Russia which too often involve the bail-out of speculative western investors by the IMF and not enough stabilisation of the domestic economy. Are there any moves in the international institutions to provide a possible solution to that? As happened with the hedge fund in the United States, it is often western investors who are bailed out rather than the economy at risk stabilised.

My Lords, I am not sure that I accept the premise behind the noble Baroness's question. Of course, the noble Lord, Lord Hylton, in his original Question referred to the economies of Russia as well as east Asia and Brazil. However, the first priority must be to avoid any need for bail-out in the first place. Having said that, the noble Baroness is right. It is important to put the economies which are being supported on an even and sustainable track. That must be a very high priority.

My Lords, we are all responsible, whether in or out of euroland. The meeting of G7 includes representatives of countries which have the euro currency and representatives of countries which do not have the euro. The international financial community includes euroland, but it is not confined to euroland.

My Lords, before people go too far down the road of chasing speculators, does the Minister agree that the root problem in such countries is primarily good old-fashioned, bad practices such as gross over-borrowing and mismatching of currencies? Even hedging for risk control simply could not cope with it. We must not kid ourselves that it is just speculators.

My Lords, I hope the noble Lord is not misled by the grossly inappropriate term, "hedge funds". They are not "hedge funds" at all; they are the leading edge of extremely highly geared derivatives. "Hedge funds" is a great euphemism for what they actually are. Of course, the noble Lord is right that it is prudential management that is most important. I hope that the recommendations that will come forward in the next few days will cover—as I believe they will—prudential management by financial regulators and by the banking community as a whole.