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Banking: Parliamentary Commission on Banking Standards

Volume 750: debated on Thursday 5 December 2013

Motion to Take Note

Moved by

That this House takes note of the Reports of the Parliamentary Commission on Banking Standards (1st Report, Session 2012–13, HL Paper 98), Banking Reform: towards the right structure (2nd Report, Session 2012–13, HL Paper 126), Proprietary Trading (3rd Report, Session 2012–13, HL Paper 138), “An accident waiting to happen”: The failure of HBOS (4th Report, Session 2012–13, HL Paper 144) and Changing Banking for Good (1st Report, Session 2013–14, HL Paper 27).

My Lords, your Lordships are asked to take note of the work of the Parliamentary Commission on Banking Standards. I speak not only on my behalf but on that of some of the commissioners who, for various reasons, cannot be here. I should add that it is coincidental and owing to constraints of the diary that this debate falls so neatly between Report and the Third Reading next week of the Financial Services (Banking Reform) Bill. I am particularly looking forward to the maiden speech of the noble Lord, Lord Carrington of Fulham. I am sure his contribution will be significant given his vast experience in another place, especially on the Treasury Select Committee.

In 2008, the Chancellor of the Exchequer found himself faced late one night with the choice of commitment of large sums of money—hundreds of billions of pounds—or of the collapse of almost everything in our society that makes money real, as the banks ran into a collective wall. In the years since, scandal after scandal has become apparent. Out of these vast events arose what was described as,

“a profound loss of trust born of profound lapses in banking standards”,

and thus the formation of the Parliamentary Commission on Banking Standards. The breadth of the task laid at the commission’s feet is hard to overstate. As one can read on the first page of each of the five reports published by the commission, it was appointed,

“to consider and report on professional standards and culture of the UK banking sector, taking account of regulatory and competition investigations into the LIBOR rate-setting process, lessons to be learned about corporate governance, transparency and conflicts of interest, and their implications for regulation and for Government policy and to make recommendations for legislative and other action”.

As further incidents came to light and Bills came forward, the commission was tasked with investigating the incidents and with pre-legislative scrutiny of the Bills. It was initially said that it would be all over by Christmas—last Christmas. I hope we shall hit it this year. The work was extensive. It involved many hundreds of hours of oral evidence and thousands of questions asked, with a majority answered. Seven volumes of our final report, Changing Banking for Good, are dedicated entirely to the written and oral evidence received.

Neither the quantity nor the quality of the material produced could have been achieved had it not been for a commission made up of such outstanding colleagues, with a great deal of experience, who worked so determinedly together. Their dedication and insight has been immense. I pay special mention to the Member for Chichester, under whose chairmanship we were led with great expertise and forthrightness, and a certain amount of sheer nerve and chutzpah in the way that the commission went forward. I also put on record the enormous debt of gratitude that I and my colleagues at both ends of the Palace owe to the staff that supported the work of the commission. They came from government and the private sector and included counsel. They worked night and day, in a new form of inquiry. We are also much in debt to the work already done by Sir John Vickers and his Independent Commission on Banking, whose recommendations on structural reform were the foundation of our own work.

Our first report provided the pre-legislative scrutiny for the Financial Services (Banking Reform) Bill. We made recommendations to strengthen the proposed legislation, as well as suggesting further necessary measures to enhance the stability of the banking system.

In our second report, Banking Reform: Towards the Right Structure, we considered the Government’s response to our first report and, somewhat unusually, proposed amendments further to improve the Bill in a number of key areas, many of which have now been accepted. Our third and fourth reports focused on specific examples from the banking system that were especially concerning to us.

In the report entitled Proprietary Trading, we examined the effect of one particular banking activity on the culture and standards in banks. We welcome the breadth of the review into proprietary trading that the government amendments announced today appear to allow for. We hope that nothing will delay the timetable that is set out within the amendments, so that the PRA and independent reviews of proprietary trading can be completed most effectively and any necessary action taken as quickly as possible. I will return to that point in a few moments.

The next report, ‘An Accident Waiting to Happen’: The Failure of HBOS, is a case study of bank failure—and one of remarkable quality. The work on this was led exclusively by the noble Lord, Lord Turnbull, whose vast experience and forensic skills were stretched considerably as the paper mounted up, but whose work is foundational to understanding this crisis. While not making specific recommendations, it serves as a stark reminder of the many aspects of poor banking standards and culture that pervaded the industry in the run-up to, during and following the great crisis of 2007-08.

Our fifth and final report, Changing Banking for Good, outlines the radical reform required to improve standards across the banking industry and presented Government, the regulators and the industry with a package of recommendations which, taken together, will raise standards and drive positive cultural change, ultimately changing banking for good.

Although we have made progress on structural and regulatory aspects of banking reform, through an enormous amount of work by your Lordships in this House, if we think that by changing the law we have solved the problems revealed by the crisis, we are profoundly mistaken. In this light, I wish to focus on those parts of our work that cannot be implemented through legislation or regulation but require cultural change within our banks.

As any vicar will tell you, a sermon should have three main points. I hope that your Lordships do not feel that you are being preached at today, but I wish to ask three questions which must be answered if we are to cut to the heart of how the rotten culture was found to be in the banking industry and how it can be changed for good.

The first question is the most essential: what is our vision for banking? We—not only the commission but legislators, regulators, bankers and society at large—have been tasked to find a once-in-a-generation leap of imagination that does not simply attempt to repair what was destroyed in 2008 but to replace it with something that is of substantial and lasting value. A vision for banking that is sustainable and of value needs to offer the possibility of a flourishing society at every level of the economy, through investment, lending and understanding the communities in which the banks work—a vision that enables all banks to respond better to their customers and to the well-being of society. Without good banking, savings stagnate in fetid pools of hoarding, and good ideas and entrepreneurial vigour wither without the water of capital and liquidity. Such is the state into which we have been growing for many years, which is one—although only one—contributory factor to inequality, social immobility and areas of the country being condemned to generations of poverty and deprivation.

However, secondly, when we asked witnesses, “What is the social purpose of banking?”, worryingly, it seemed to be a question that often stumped them and which they had never asked themselves. Activity without social purpose is ultimately anarchy. The work of the commission, in my view, fundamentally has been about enabling the financial services industry to retrieve its basic purpose of supporting the common good and social solidarity. Banking is ultimately a utility function. It is of course one that is especially important to our economy, but there is a danger in treating the industry entirely differently from other utilities. It is necessary that a culture of service and social purpose is renewed in our banking industry. Banks must assert their roles in both national and local economies for without their investment in and service to local communities everywhere, there will be no durable and universal recovery.

Finally, we must ask: what ultimately will drive cultural change? Taken together, the commission’s recommendations are an effort to encourage positive cultural change. Proprietary trading, in the opinion of many of us—and it is subject to review—should be banned. Remuneration should be reasonable and proportionate. Regulation should be effective and accountable. The implementation of the ring-fence is a clear and welcome effort to ensure that distinctive and possibly irreconcilable cultures are kept separate. The ring-fence will, we hope, make the development of good culture more possible—and with the right safeguards, we hope also that it will be more durable than the walls of Jericho, so that not even the trumpets of Joshua’s army could find a way through.

However, it is clear that law and regulation cannot cause people to be good: making people good by law has been—to put it mildly—tricky since the days of Moses. Read the Epistle to the Romans to see why. Culture is set by leadership, training and implementation. In a recent report, the City of London emphasised remuneration and shareholder activism. Such recommendations illustrate the problem. Good culture is good through virtue, not out of hope of reward alone, although of course that must play a part. Shareholder activism also has had little or no impact historically, with the average share traded five times a year.

For a culture to become dominant, it was clear to us that it must be internalised by employees at all levels. A set of values governed by a deeply-held belief in what is right and wrong is foundational to long-lasting cultural change. Such beliefs are caught and also taught. If no one inside a bank believes that some of the practices we have heard about, some as recently as last week, are wrong, or if they believe it has no adequate way of expressing their concerns—the commission, by the way, has recommended improvements to facilitate whistleblowing—then cultural change will never take place, and poor standards will continue to fester.

Introducing informal mechanisms to catch poor standards early on was one of the commission’s recommendations—it can be found in paragraph 786 of our final report—but in situations like this, once the principle of the recommendation has been accepted, the responsibility for bringing it about must be on banks themselves. That is why the commission recommended that, as well as the essential reforms to regulation and law, the industry must professionalise the sector in a similar way to the medical and legal professions. This recommendation has been much overlooked, but provides a convincing long-term answer—complementary, not an alternative, to the other things in the report—as to how culture can be shaped and styled, and virtue measured, understood and valued.

The banks have started on this work and it is especially clear that the chief executives of the major British banks are working very hard in this area. The struggle to change the culture has begun. It will be a long one. In our view, we are talking of years—decades, a generation perhaps—to embed a completely different culture to replace the one that seeped slowly away over the years after big bang. On the outcome of this struggle hangs to a considerable extent the flourishing of our society and the re-establishment of the reputation of our most successful industry.

For all these reasons, Parliament must hold regulators and market participants to account, not only for their adherence to written laws and regulations but, perhaps more importantly, for their commitment to the common good and to a culture of virtue, so that, possessing extraordinary power and influence, they may enable extraordinary good and development.

I wholeheartedly commend the work of the Parliamentary Commission on Banking Standards to the House. I hope that its work will not be in vain but will continue to be drawn upon as a new system is built in place of its failed and discredited predecessor. I beg to move.

My Lords, it is a privilege to be the first participant in this important debate to congratulate the most reverend Primate the Archbishop of Canterbury on having secured it, and for the manner in which he introduced it. His qualifications for it are enviable. Having read his mini-biography in wonderment at where he found the time to achieve so much, I hope he will forgive my language if I say that I think he is playing a blinder. I thank him, too, for having arranged the packaged provision of relevant papers in the Printed Paper Office.

My own participation in this debate is for three reasons. The oldest of these is that when, long ago, I spent two years at Harvard Business School acquiring an MBA, my highest marks were in a course titled “Business Responsibilities in American Society”, which I supposed played some part in determining my subsequent career. My second reason is that for 24 years I was the third longest serving Member of Parliament for the City of London since 1283. Those years included the paradigm shift of Big Bang, from personal contact to largely screen and telephone business. Although the dramatis personae of that era are not an interest to declare, Sir Nicholas Goodison, the chairman of the Stock Exchange who negotiated and navigated Big Bang so well, was and is my oldest friend. My third reason is the debate on banking standards during Report stage of the Financial Services (Banking Reform) Bill on 26 November 2013, not least the most reverend Primate’s comments.

I must allude to a longstanding friendship with the honourable gentleman the Member for Chichester in the other place, who chaired the Parliamentary Commission on Banking Standards—henceforth referred to as the PCBS—and who has been a mentor to me on this, as he was earlier on the development of the euro. I say “mentor” because during the four years that I was a Treasury Minister under my noble friend Lord Lawson of Blaby, I was the only one of eight Ministers in the department in that period who had never worked in the City of London. Thus my responsibilities were concentrated on what Sir Douglas Wass once defined to me as the housekeeping end of the Treasury—a more fascinating portfolio than it sounds.

After leaving government, I was briefly a director of an investment bank but my comments hereafter reflect the views of the City of London Corporation. When the issues of this debate were discussed on Report for the banking reform Bill, your Lordships’ House heard, as we have heard again today, informed talk of standards, ethics and culture—not, I have to say, unknown at the Harvard Business School. One institution that spans this arena is the City Values corporate forum, a collaborative project supported by the Lord Mayor and the City Corporation. It draws on learning from the professions, academia and, happily on this particular occasion, clergy-based as well as secular sources. A report recently published by the forum provides a guide to help chairmen and boards to calibrate their approach to the oversight of values. Its goal is the achievement of ethical behaviour in the financial and business services sector.

We learnt from the PCBS that some banks tried to encapsulate values in their businesses by creating human resources handbooks running to in excess of 1,000 pages. I share the PCBS’s scepticism about mechanistic expressions of values. If we had consulted the Delphic oracle, I suspect that it would have found a discreet way of conveying a conclusion based on the criticism faced by the Financial Services Authority for just such a modus operandi.

The forum’s preference was for half a dozen building blocks that cumulatively would help institutions to build and maintain values. As an example, one building block would seek to cause a board to develop ways of measuring values, behaviour and culture and to deploy internal audit to renew and enforce them. The board would receive regular misdemeanour reports. This process would lead in due course to the board agreeing its values with its customers and employees as well. Finally, there would be an annual values report to the board for wider publication.

All this will need to go further than discussion in your Lordships’ House but I hope that the process that I have described, and other initiatives like it, will stimulate the debate. Existing mechanisms can also be deployed more prominently. For example, the rights and duties of shareholders also have an important part to play in influencing board behaviour. As other noble Lords have pointed out in numerous debates on governance in this House, they are frequently underused controls. The All-Party Parliamentary Corporate Governance Group, of which I am a member, now has four or five years of informed debate in this area literally under its breakfast belt. The rights and duties of shareholders are frequently underused controls.

In conclusion, I shall borrow some words from the forum’s report to which I referred earlier:

“Governing values well is a prerequisite for a truly sustainable business … The need for the board of any financial services business to govern values is now central to its agenda—not an ‘optional extra’”.

I owe to the Harvard Business School the wise observation that if you do not know where you are trying to get to, any road will get you there. From 18 years of running an international business outside the financial sector before I entered Mrs Thatcher’s first administration as its absolutely most junior member, I can confirm the virtue of that corporate satnav.

The participation in this debate is nicely balanced around the Chamber. In particular, I wish my noble friend Lord Carrington of Fulham well in his maiden speech, to which I look forward

My Lords, the most reverend Primate has spoken with great force and clarity about matters of considerable moment to our society in a speech that will no doubt inspire the noble Lord, Lord Carrington, in his maiden speech.

We owe a deep sense of gratitude here in Parliament, here from the Government and outside from the public for the work of this Parliamentary Commission on Banking Standards, first, for its impartiality—the 10 members, nine of them politicians, could not be accused by any fair observer of having put party interest above public interest in the work that has been done here. The fact that the most reverend Primate has been described throughout the reports as “unaffiliated” is politically accurate but a graceless way of describing a Minister of religion. No doubt in future some other term can be found for that. Impartiality is exceptionally important. A great commission of this kind should be seen and respected at the end of its work, as this one is, because it represents the best standards of parliamentary behaviour.

The second reason for gratitude is the extent of the investigation, which is remarkable. There were many witnesses, yards of documents, innumerable meetings, specialist advisers and expert staff, all working together in a most effective way.

Thirdly, there is the speed of the commission’s deliberations, which is commendable. To examine the banking system of our nation after a disaster in July of one year and then by June of the following to have delivered five comprehensive reports is a real achievement.

Lastly, the quality of the commission’s analysis and conclusions is convincing. For all those reasons, gratitude, yes, but let us look at the process that produced its conclusion. First, there is the parliamentary power given to it to send for persons, papers and records: “You will come to Parliament to explain”. Secondly, there is the quality of inquiry of those who came to Parliament to explain. Fortunately, it was thought unnecessary to take evidence on oath, but the very threat that you might have to is an extremely good instigator of honesty by witnesses before the commission. Lastly, there was the use of specialist advisers; I understand that there were about 20 of them. That provides an administrative and process base of high quality. Most important is the fact that this was an evidence-based inquiry, it was in public, society knew what was going on and the conclusions have been regularly debated.

Such an inquiry has a continuum over 10 or 11 months, where the participants have a quality of intellectual dynamism lacking in those who subsequently, in Parliament, in government or in the public criticise or debate the contents of their conclusions. That work fully vindicates the view of the Commons Public Administration Select Committee when in 2008 it called for parliamentary commissions of inquiry in these terms:

“Proper parliamentary scrutiny should include the ability to undertake inquiries into significant matters of public concern. Parliament has, in the past, conducting investigations of this kind—and, as the great forum of the nation, should be expected to do so”—

not often, but when it does, to speak as part of the great forum of the nation. Indeed, only a few months ago the same committee asked for a parliamentary inquiry to be commissioned into the Civil Service.

The importance of that is not to be underestimated. Select Committees serve a purpose, which is basically to keep up with the regular, day-to-day activities of Parliament and the Executive. Joint Committees—there are five permanent ones—have specific objectives. Ad hoc Select Committees, such as the one that I sat on about the Chinook helicopter inquiry, are almost quasi-judicial. None of them performs the function that this commission has performed. Parliament challenged its membership through this commission to meet the concerns about the banking world. The commission has met that challenge. By its title, it has confirmed that the challenge is not just for Parliament; it is for banking and the community.

Einstein said:

“Not everything that counts can be counted. Not everything that can be counted counts”.

That elementary proposition should be the opening remarks in every inaugural lecture at the beginning of an MBA course at any university in the world. We should start with education. A couple of years ago the Yale Business School demolished its traditional mathematics-led, behaviour-ignorant course in business administration. It changed the title to “Honesty, The Value of Labour, Profit: Service to the Community”. Applications to the Yale Business School doubled in the first year. If you prescribe for greed, you will incentivise greed. This kind of course changes that at the beginning. Afterwards it is for bankers themselves to meet that challenge—the cultural challenge.

This commission has been a model of its kind, for the following reasons. First, it has been generally accepted by the public. Secondly, a great many of its recommendations have been accepted by the Government. Thirdly, it has given Parliament confidence in its own processes. Lastly, it provides a basis, as the most reverend Primate has reminded us, for a continuing challenge and for cultural change for the future. Changing banking for good is a challenge for us, not a conclusion for Parliament.

My Lords, like all noble Lords I very much welcome this debate introduced by the most reverend Primate and indeed look forward to the contribution of the noble Lord, Lord Carrington, with whom I last had an involvement when canvassing for the noble Lord, Lord Liddle, now not in his place, in the famous by-election in Fulham in the early 1980s. I am sure they look forward to renewing their rivalry over the Benches.

As the various reports from the most reverend Primate have indicated, it is clear that 2008 was the culmination of a series of problems within the banking industry. The 2008 crisis exposed problems not just with the regulatory regime but also, as he said, with the culture of the industry. Banks had become unable to manage risk properly, had lost sight of their responsibilities to customers and were seriously over-leveraged. In addition, they had not guarded against other long-term problems in the economy, particularly the housing bubble.

The result is a significant loss of confidence and trust among the public in the banking industry and huge harm being caused to the UK economy. As somebody memorably said, recently we moved from a culture of inky-fingered bankers to a culture of sticky-fingered bankers.

It is interesting that those banks which received bailout money from the taxpayer are often those which have the highest level of customer dissatisfaction. A recent survey by Which? found an overall customer satisfaction rate with RBS of only 50%—and that was before the recent allegations against it—and that Lloyds had a satisfaction rating of 56%. The highest-rated bank, First Direct, had a rating of 85% satisfaction in services provided. A recent YouGov survey asked people which three aspects of British banking, from a list of eight,

“have damaged your view of the UK banking industry the most”,

and found that the top two concerns were excessive bonuses and the LIBOR scandal. Notwithstanding this, the financial rewards handed to the City’s highest paid bankers rose by a third last year, with more than 2,700 of them paid more than €1 million in 2012.

The Government have addressed these issues in a number of ways. The first is through the banking reform Bill, which will ring-fence the retail banking services of banks away from the high-risk trading that they may also conduct and to which the most reverend Primate referred—he would go further and ban that entirely, but that is not what the legislation says. In addition, in response to a recommendation by the commission, the Government have amended the Bill to allow regulators completely to separate the retail aspects of a particular bank from the rest of the business where that bank seeks to breach or get around the ring-fence. This is known in the jargon as electrification of the ring-fence.

On the regulatory system, the Government have sought to learn the lessons of the financial crisis. They have listened to the banking commission in setting up a new regulatory system via the Financial Services Act 2012. I shall not bore noble Lords with the detail of this, but there are three separate bodies aimed at fixing the regulatory problems: the Financial Policy Committee, the Prudential Regulation Authority and the Financial Conduct Authority. The Act also creates clear channels of communication and decision-making in the event of another financial crisis. This is because—and I think that we are all agreed on it—in 2008 there was concern that the powers available to regulators, the Bank of England and the Treasury were not clearly defined, making it hard for any one body to react quickly to events. In addition, the Act ensures that the Treasury is ultimately to act as the “point” in event of a financial crisis and can ensure that others act.

As the most reverend Primate has indicated, trust is the most fundamental issue, which cannot be dealt with by legislation. I make no apology for relying on a lot of the evidence that was given to the commission. The commission indicated:

“The loss of trust in banking has been enormously damaging; there is now a massive opportunity to reform banking standards to strengthen the value of banking in the future and to reinforce the UK’s dominant position within the global financial services industry”.

It further stated:

“It is essential that the risks posed by having a large financial centre do not mean that taxpayers or the wider economy are held to ransom. That is why it is right for the UK to take measures … which not only protect the UK’s position as a global financial sector, but also protect the UK public and economy from the associated risks”.

We have to remember that the overwhelming majority of people working in banks undoubtedly wish to serve their customers well and are as angry as the wider public about the activities of a minority of their colleagues.

The report elsewhere states:

“The mis-selling of IRHP and PPI demonstrate what can happen when banks exploit information asymmetries between them and their customers. However, providing too much small print to customers, effectively drowning them with information, may be as detrimental as not providing enough information to them”.

Peter Vicary-Smith gave the following example to the commission:

“To open an HSBC packaged account, the consumer is expected to read 165 pages of information. No one is going to do that. As long as banks ... provide so much gobbledegook that the real things you need to know are hidden, we will continue to have these problems”.

Many people said that it had been more than 25 years since Tom Wolfe had used the term “master of the universe” to describe a New York bond trader, but that it had never been more apt as a description of bankers than in the past decade. I have often relied in comment on this subject on the wise words of the noble Lord, Lord Turner, who is not in his place. He told the commission that:

“One of the most dismal features of the banking industry to emerge from our evidence was the striking limitation on the sense of personal responsibility and accountability of the leaders within the industry for the widespread failings and abuses over which they presided. Ignorance was offered as the main excuse. It was not always accidental. Those who should have been exercising supervisory or leadership roles benefited from an accountability firewall between themselves and individual misconduct, and demonstrated poor, perhaps deliberately poor, understanding of the front line. Senior executives were aware that they would not be punished for what they could not see and promptly donned the blindfolds. Where they could not claim ignorance, they fell back on the claim that everyone was party to a decision, so that no individual could be held squarely to blame—the Murder on the Orient Express defence. It is imperative that in future senior executives in banks have an incentive to know what is happening on their watch—not an incentive to remain ignorant in case the regulator comes calling”.

I agree with the noble Lord.

My Lords, I rise with some trepidation to give my maiden speech, particularly in this debate introduced so ably by the most reverend Primate the Archbishop of Canterbury. First, I wish to declare my interest as a non-executive director and deputy chairman of a bank, as declared in the register of interests, but I shall return to that later. No, the reason for my trepidation is that it is a bit cheeky to intervene in a debate on a detailed and comprehensive report which I had no part in preparing. My only justification is that, when not being a politician, and indeed sometimes when trying unsuccessfully to be a politician, I earned my living as a banking practitioner.

First, I would like to thank my sponsors, my noble friends Lord Trefgarne and Lord Patten, each of whom has been hugely kind to me both now and over many years. Since I took my place in your Lordships’ House, they have given me invaluable advice, some of which I have taken. My mistakes and blunders, however, are my own, although I am delighted to give them the credit for anything I might have got right.

I would also like to thank the staff who look after your Lordships’ House so well. Black Rod and his staff and the Clerk of the Parliaments and his staff have been hugely friendly and willing to answer even the silliest of questions with good humour and patience.

As some of your Lordships may know, I spent some years in the other place. As has been said many times before, the contrast between the Chamber down the Corridor and here could not be greater and is almost universally in your Lordships’ favour. Noble Lords on all sides of your Lordships’ House, who I knew as sparring partners and controversialists before they came to the Elysian fields, have been mellowed by the transformation and have treated me with friendship and kindness. Your Lordships will understand that I found this at first a confusing contrast with past attitudes but a huge and welcome relief.

One of the other joys in this place is the Chamber itself. Although the Chamber in the other place is a delight, the Luftwaffe removed much of its history. Your Lordships are fortunate to have a Chamber where it is still possible to see the ghosts of our great predecessors—perhaps Lord Beaconsfield sitting impassively, watching events cynically through his monocle, or the great third Marquis of Salisbury making one of his many speeches in favour of social reform with his back turned firmly towards the Woolsack, the better to address the Press Gallery.

As I mentioned earlier, I am deputy chairman of Gatehouse Bank. It is a small and very specialised institution. It is a Sharia-compliant bank, providing services that are often called Islamic banking. Its client base is Muslims who wish to live their lives and conduct their business affairs in accordance with the precepts of their religion. We expect our staff, a mix of Muslims and non-Muslims, to act in a highly ethical way. We are also forbidden by the Sharia from entering into some of the more complex hedging instruments which caused such devastation to conventional banks.

Banking has gone through traumas. One of the puzzles is what went wrong and why. We understand the trajectory that has brought us where we are. We will be able to see how we get back on to a better path. The excellent report of the Parliamentary Commission on Banking Standards highlights many problems and provides many remedies. I want to look at only two.

The first is the role that regulation played in the banking crisis. The regulators did not, of course, cause the banking crisis but neither did they prevent it. I am a regulated person and have some first-hand experience of the excellence, as well as the limitations, of the old FSA. Part of the problem is that they took the understandable approach of developing a detailed rule book, which led to what my honourable friend Andrew Tyrie, the Member of Parliament for Chichester, has referred to as the box-ticking culture.

The problem with a rule book is that, if an action is not specifically forbidden by the rules, it is assumed to be allowed. Banks employ very clever people, often recruited from the regulator itself, who did and do ensure that the banks’ unacceptable risk-taking rarely breaks the rules. So I am delighted that the new regulator, the PRA, is taking the view that it has rules but that it also has opinions and will rely on what it calls a “judgement-based, forward-looking supervision”—which I think and hope means that if, in the opinion of the PRA, something a bank is doing is unacceptable, even though it is not forbidden, it must stop. This is the way the old Bank of England banking supervision regime used to work when I first started my career in the City. It may be the only way to regulate banks, which are ever changing and innovating. Unless a regulator can say, “What you are doing may not be illegal, but I will not allow you to do it”, another banking disaster will sooner or later occur.

The second issue I want to comment on is the culture of the banks. The culture of payment by results and of large bonuses dependent on doing deals leads to all sorts of unintended consequences such as short-termism and disguised risk-taking. Other than for staff who took short-term risks, such as money market and foreign exchange traders, it was only in the late 1980s that bonuses in banks became substantial multiples of base salary. I accept that deferring bonuses is a way of curbing these disasters in waiting, but in reality the motivation of employees to take unacceptable risks will be removed only if the long-term risk-takers are paid through salary rather than bonus.

This is an excellent report, but we are on a long path to resolve the issues in banking. Ultimately, it will require international agreement, which will be hard to achieve. My last thought is that, whatever we do here in the UK, we must ensure that London—and the UK generally—retains its place as one of the three global banking centres. Our country’s tax receipts and hundreds of thousands of jobs depend upon it, so whatever changes we propose in the future must make London the centre most trusted in the financial sector and not give less scrupulous financial centres an opportunity to take away jobs from the UK.

My Lords, I welcome warmly the noble Lord, Lord Carrington, to your Lordships’ House and congratulate him on a most succinct but wise and constructive maiden speech. His knowledge of finance and banking is exemplary. We have already heard from my friend the most reverend Primate of the noble Lord’s service in the other place, notably as chair of the Treasury Committee. He also brings a wealth of experience in banking. The particular bank mentioned, Gatehouse, of which he is deputy chairman, has this remarkable attention to Islamic finance. As someone who serves in Birmingham, that is of course well known and much appreciated.

Your Lordships may also like to know that the noble Lord, Lord Carrington, is a trustee of the St John’s Notting Hill restoration trust. That is something that he did not find time to mention in his maiden speech, but about which I hope that we will hear more in the future. It is a beautiful Victorian building which, at the same time, has a new community hub associated with it, bringing together a reimagination of ministry and parish outreach to ordinary people. On these Benches and across the House, we wish the noble Lord, Lord Carrington, great success in that project and a most enjoyable time as he serves here in this place.

I welcome the enormous contribution of the Parliamentary Commission on Banking Standards, and recognise the structural and technical details contained in our extensive debates over the past few months. I want to focus on the imperative of driving change in our culture, which many noble Lords mentioned, including the most reverend Primate—as the noble Lord, Lord Brooke, said, he played a blinder. I am sure that although he had the privilege of visiting Birmingham last night, it was not a peaky blinder—if your Lordships are aware of that television programme and early 20th-century behaviour.

The debates that we have had are about the balance of regulation and freedom. They have included a realistic approach to our position in global capitalism, and its benefits and dangers—the benefits and dangers, too, to our national economy—and to the remarkable achievement of the banking industry over the years. At the same time, there is an underlying desire to see enterprise, which develops wealth, continue. Those who know the parables of Jesus know that wealth for the ambitious and successful farmer was in no way criticised; what was criticised, and ultimately judged fatally, was the farmer’s use of the abundant wealth that he had created and his selfishness in keeping it for his own use.

The reports before us have serious recommendations about increased responsibility, greater and clearer accountability, more competition in the industry, better business judgment and a vision for the long term. Coming from a business city such as Birmingham, outside London, I would like to reflect for a moment on the perception of our progress so far in these areas. What we have done and are doing here will be judged by whether it makes a difference to the tens of thousands of employees of the industry, and to the hundreds of thousands of clients and customers who are necessarily dependent on its success.

What about increasing responsibility? I have noticed that in each of these areas we are encouraged to see the responses to the detail of the commission, as well as that of the Government to its recommendations, in a constructive and positive way. The Deutsche Bank chief executive, who was at a conference the other day of all the risk managers for the global company, said that his bank will combine a culture of performance with a culture of responsibility. This is a great ambition for a commercial operation, and one that the chief executive says will do good for the world.

Increasing responsibility is being taken at corporate level, and much of the detail of our work has been on that. It is also being taken at the individual level. For example, regionally in the Royal Bank of Scotland, local directors are responding to their chief executive’s advice that to know their community as well as their business and retail clients, is good for business, but also that it is the right thing to do in exercising power and success. Greater accountability is part of our debate, and we have heard about the regulations and regulators. The Ecumenical Council for Corporate Responsibility’s report, The Banks and Society, which was published and ignored in March 2011, is now on the agenda of regional and perhaps national bank leaders, along with its main recommendations—particularly the desire for transparency in the business activity of a bank in a region that is trying to develop the economy as whole. That kind of approach and permission from the centre will be much welcomed.

More competition can be seen in the regional banks that may be emerging. From my own interest in the Church Commissioners, I know that the proposed Williams & Glyn’s Bank, which is emerging from the 300 RBS branches, may have an opportunity to demonstrate how to be a good bank in the terms that we have already heard about, but at the same time that it will be freed from some of the responsibilities of the bigger banks and respond to people’s needs locally. The background to that bank’s ambitions touch on most of the areas that we have been dealing with in these debates, whether that is to do with remuneration, a reluctance to indulge in—or even a ban on—proprietary trading, the participation of all the staff, appropriate levels of leverage, and whether, simply, as all the banks seem to say, that it is important to treat your customers well.

Would we get better business judgment? We heard again recently of another series of bad debts, and of the difficulties one of the major banks had in dealing with them. However, to follow, for example, the recent discussion led by Andrew Whittaker of Lloyds Bank, the approach of proper risk management is something that people, both locally and nationally, expect to operate at a very high level of skill and attention. In a healthy and successful business one would expect certain things—the nuances of avoiding looking the wrong way at the wrong time, self-deception that gets going when we have a lot of power and adventure, opportunity taken without due diligence, misplaced assumptions about the future, lack of contingency, and so on—to be part of the bread and butter of how the governance is operating.

In conclusion, I will touch upon that discussion in the reports about longer-term vision. As the noble Lord, Lord Carrington, said, we not only hope that we will have a vigorous and world-beating industry here, we expect in the regions and localities that the powerful engine of the economy will also attend to bringing more of the poorer and less powerful people into the economy. It can do that by attending to credit unions and to the needs of people by removing and managing unmanageable debt, and by the ability to go into all the communities and schools and enable young people from the very start to know that money is a very good and wonderful thing if it is managed responsibly for their own good and for the good of their community.

I hope that the areas of expectation that are woven through these reports will build up, as noble Lords have said, that elusive and most precious gift of a renewed trust in one of our most fundamental industries, for the good of community and of society. I hope that people will begin not only to say, proudly, that that industry is a good mega-engine driver for the economy, contributing to rather than drawing from taxpayers’ money, but also that their participation, as an ordinary citizen or a micro, small or medium-sized enterprise—which is how most of the people in this country begin to participate in the economy—will be one of the long-term fruits of all your Lordships’ work. I trust that we ourselves will continue to remain accountable for making sure that banks exist to enable the economy to work and not to be the economy itself.

My Lords, I start by warmly congratulating the noble Lord, Lord Carrington of Fulham, on his excellent and insightful maiden speech. He set a formidably high hurdle for those of us who follow him. I also congratulate the most reverend Primate the Archbishop of Canterbury on securing this debate. I congratulate him and his fellow commission members on the reports that they have produced and the use to which they have put them. I know that the commission no longer exists, but listening to its members in the House in the debates on the banking reform Bill, is surely conclusive proof that there is life after death.

I know that it is conventional to praise the work of our committees—sometimes before going on to qualify that praise—but I will make it plain from the start that I have an unreserved and unqualified admiration for the work of the commission and the reports that it has produced. I am struck by the force of its analytical inquiry. I am struck by the force of its criticisms and by the essential simplicity of its recommendations. I am struck, too, by the clarity and simplicity of the language in which all this was expressed.

The commission’s reports deal with all aspects of the banking crisis and many of its recommendations have been adopted by the Government. The focus and debate has, quite rightly, been on legislation to produce better regulation. Although banking culture formed a prominent part of the commission’s report, it played, perhaps, a less prominent part in our debate. It is the issue of banking culture on which I wish to focus my remarks.

The commission was clear that there was, and indeed is, a problem with the culture in banking. It is worth quoting paragraph 754 from volume 2, which states:

“Poor standards in banking are not the consequence of absent or deficient company value statements. Nor are they the result of the inadequate deployment of the latest management jargon to promulgate concepts of shared values. They are, at least in part, a reflection of the flagrant disregard for the numerous sensible codes that already existed. Corporate statements of values can play a useful role in communicating reformist intent and supplementing our more fundamental measures to address problems of standards and culture. But they should not be confused with solutions to those problems”.

In other words, fine talk will not solve real problems—and the problems are very real.

It is a sad reflection that there is no need to rehearse the consequences of the banks’ corrupt culture in any great detail; it is all too appallingly familiar. Nevertheless, we should not forget the scale of the problem with the ethics and behaviours of the banks. There was the mis-selling to SMEs of products that were completely inappropriate; there were the LIBOR and the EURIBOR scandals; there were the HSBC money-laundering scandals; and there is now the possibility of another huge scandal if the allegations about RBS’s treatment of small businesses prove true. All these were bad enough, but much worse was the PPI mis-selling scandal, because it was the clearest example of a deliberate exploitation by the banks of their customers.

John Lanchester wrote in the London Review of Books recently:

“PPI was about banks breaking trust by exploiting their customers, not accidentally, but as a matter of deliberate and sustained policy. They sold policies which they knew did not serve the ends they were supposed to serve and in doing so treated their customers purely as an extractive resource”.

There is a common thread running through this criminal, or near-criminal behaviour. It is a kind of contempt that the banks have had for their own customers. It is clear that the banks have not behaved in the interests of their customers—nor, for that matter, in the interests of the rest of us. The banks are almost unique in doing this, and they are certainly unique in getting away with it. Many huge and complex commercial concerns exist, but they do not systematically loot their customers.

My own long experience as an adviser to the senior management of very large, complex, commercial companies suggests a reason for this. One factor common to all the multinationals I have worked with was a fundamental belief in competition—a word that has so far not played much of a role in our debate. Competition in the service of customers was the key. That belief was not just a form of words, or just the shared view of senior management. It was the belief that defined the company at every level and in everything it did. It formed a strong cultural bond, where the obvious question to ask about anything was: is this really in the interests of our customers? No one in our banks asked this question about the introduction of PPI.

What makes the belief in serving the interests of customers a culture, and not just jargon, is competition. In all normal enterprises, large and small, what keeps companies focused on their customers is competition. If you do not serve the interests of your customers, your competitors certainly will—or at least they will if you operate in a competitive marketplace.

I have heard it argued that our large banks really did want to compete with each other. If that was ever true, it is certainly not true now. They do not compete and they probably will not because they do not need to do it to make money, and they make more money for themselves by not competing. Why do they not need to compete? It is because they effectively form a cartel. The EU Commissioner for Competition said yesterday:

“What is shocking about the LIBOR and EURIBOR scandals is not only the manipulation of the benchmarks, which is being tackled by financial regulators worldwide, but also the collusion between banks which are supposed to be competing with each other”.

He added:

“If you take the opportunity to see the conversations between these cartel traders, you will be appalled”.

A cartel means no competition, and no competition means no need to serve the customer, who does not have many real choices anyway.

It is now a bit easier to switch banks, but where do you go? Which bank is better than the other, which is different, and which has senior management that will put your interests firmly before its own? As long as there is a banking cartel there will be no competition, and as long as there is no competition there will be no reliable driver of sustained cultural change. As long as banks are too big to fail, as long as they are too big to manage, and as long as there are too few of them to be competitive, the chances of real and sustained cultural change are very low.

Of course we will see, as we are beginning to see, banks trying to say plausible things about customer focus. We will see new codes of conduct, new mission statements and reassuring advertising. But the sad fact is that without real competition, the banks have no real and sustained incentive to change, and the consumer has no real choice and no real chance. There is only one way to fix this, and that is to break up the banks. They are too big to fail, so let us make them smaller. They are too big to manage, so to make them easier to manage, let us make them smaller. There are not enough banks to really compete, so let us make more by breaking them up.

I realise that we have had to give priority to fixing the obvious regulatory failures, and we are well on the way do doing this. Now we should turn our attention to failures in culture and in competition. Unless we do this, I fear that in 10 years’ time our successors will be looking at yet another series of banking scandals, and at yet another PCBS report on our failures in both culture and competition.

My Lords, I join noble Lords in welcoming the noble Lord, Lord Carrington, to this House. I suspect that the smaller, innovative banks like Gatehouse are going to make a disproportionate contribution to the improvement of banking services in this country, so his knowledge and wisdom in that area will be valuable to us.

The final report of the PCBS opened with the following summary:

“Banks in the UK have failed in many respects. They have failed taxpayers, who have had to bail out a number of banks including some major institutions with a cash outlay peaking at £133 billion. They have failed many retail customers with widespread product mis-selling … They have failed their own shareholders, by delivering poor long-term returns and destroying shareholder value. They have failed in their basic function to finance economic growth, with businesses unable to obtain the loans that they need at an acceptable price”.

That is a harsh verdict that poses a number of questions. Is it a fair verdict or is it just banker-bashing, providing politicians with a smokescreen for their own failures? Were other players also to blame? Are the remedies appropriate? Has something gone wrong with bank culture and can something be done about it? Lastly, will we kill the golden goose and drive away banks and/or bankers?

On the first question, it is certainly the case that the banks were not uniquely to blame for the financial crash. Top of my list of contributors is a major intellectual failure. The model of the financial world that was taught in our universities and business schools, and championed by Alan Greenspan among others, presumed that capital markets functioned efficiently. In fact, almost all of those assumptions proved to be wrong. Financial markets were riddled with serious flaws, such as major externalities, misaligned incentives, irrational herd instincts and asymmetry of information.

Secondly, there was the connivance of western Governments, particularly in the US and the UK, who actively promoted access to credit for their citizens as a way of promoting the appearance of rising living standards. Thirdly, there was the widespread use of inflation targeting of price indices based on a narrow basket of consumer goods while ignoring asset prices and underlying credit conditions. The list goes on—there were all the players that should have provided checks and balances but did not, such as regulators, auditors and rating agencies—but it is clear that the banks played a powerful role as an accelerator and transmitter of these forces, taking greater and greater risks.

Initially, the response to the financial crisis was largely a structural one. The first phase was to restructure the regulators. A twin-peak structure was put in place in the first Financial Services Act 2012. In my view this is not necessarily the only, or perhaps not even the best, model, but it has been done and we should get on with it and make it work, rather than continuing to debate the alternatives.

The other part of the structural response was through the Independent Commission on Banking led by Sir John Vickers, set up in June 2010, which reported its conclusions in September 2011. The ICB set itself four objectives. The first was to make banks more resilient and better able to absorb losses, through higher capital and lower leverage. The second was to make it easier and less costly to sort out banks that get into trouble by dividing them into ring-fenced entities carrying out the core functions of taking deposits, supplying overdrafts and operating the payments system, with other, riskier investment banking activities being kept in a different entity, though still within a banking group.

The third objective was to curtail incentives for excessive risk-taking. In particular, the ICB wanted to cut back the implicit guarantee that arises if banks, and those investing in them, come to believe that banks are too big to fail or too complex to be allowed to fail. Finally, it wanted to strengthen competition and consumer choice by creating a more diverse, less concentrated banking market and by making switching easier.

By mid-2012 the debate was still dominated by these structural issues. Some people argued that if incentives and structures were improved, if the implicit guarantee was curtailed and if the banks were properly capitalised, behaviours would improve. If that view was ever true, though, it was blown away by a series of revelations about conduct in the summer of 2012. The straw that broke the camel’s back was LIBOR fixing. At this point the patience of politicians snapped and we moved on to a different agenda, one concerned not just with structure but with behaviour, standards and culture. The PCBS was created to investigate this.

I should at this point record my thanks to my colleagues on the commission and to the clerks and advisers who supported us. Not only did we pioneer some new approaches to committee evidence-gathering, such as the use of counsel, but we demonstrated how much can be achieved within the discipline of unanimity. Even as the commission began its work, reports of misconduct multiplied. They came more or less weekly.

There was widespread mis-selling to consumers and SMEs of retail products such as PPI and interest rate swaps, there was mis-selling of complex mortgage securities in the wholesale market and there were poorly supervised rogue trading, aggressive tax planning, money laundering and sanctions busting. This time even the survivors of the crash, such as JP Morgan, HSBC and Standard Chartered, were implicated. The list of abuses grows even to this day, with rumours that there may have been fixing in foreign exchange markets and claims that RBS has exploited some of its SME customers.

The PCBS has produced five reports but its findings on conduct can be summarized briefly. First, there was a lack of personal accountability. The approved persons regime was found wanting, as it served only to control entry into senior posts—although, as the Reverend Flowers’s case indicates, at times it did not even achieve that. It was ineffective in influencing conduct and in enforcing standards. In this crisis only one senior banker has been fined, and no action has been taken against any CEO.

Secondly, there was remuneration that was widely perceived as excessive and incentivising poor behaviour. Thirdly, there was an erosion of professional standards and a decline in the status of chartered bankers. Fourthly, there was a loss of customer focus.

Anthony Salz, once of Freshfields and then of Rothschild, was asked by Barclays to review its business practices. He found a,

“culture that tended to favour transactions over relationships, the short term over sustainability, and financial over other business purposes … remuneration systems that tended to reward revenue generation rather than serving the interests of customers and clients”,

and a bank acting,

“within the letter of the law but not within its spirit”.

In a few words, he pretty much captures it, and the same could be said of most other banks.

The commission’s recommendations provide an extensive agenda to rectify this, including a senior managers regime to replace the APR, which will define responsibilities and hence create a chain of accountability. That will make it easier to identify who is responsible and therefore to sanction or disqualify poorly performing executives. It seeks to eliminate the Macavity defence of “I didn’t know” or “I wasn’t there”. Below senior management, banks will be required to identify all staff whose actions are capable of damaging the bank, its shareholders or customers and to attest that they will operate to proper standards.

A new body has been created by the banks, led by Sir Richard Lambert, to promote codes of professional standards. A new criminal offence of reckless conduct is to be applied where a bank has failed and required state assistance. There would be a tougher remuneration code requiring a larger proportion of pay to be deferred and for longer, plus a power for the regulator to claw back remuneration that has already vested where a bank fails and requires state support.

I return to some of the questions I posed at the start. Is this unfair targeting of banks and bankers? I would argue that it is not. Even now, banks accept that their conduct was not acceptable and that they have forfeited the trust of their customers. Banks are also exceptional in a number of other ways. They provide a public service through the payments system, which cannot be allowed to be interrupted. They are highly interconnected: a failure of one bank can damage other banks either directly or by undermining the trust on which the whole system is based. They can fail with astonishing speed. Even after the structural changes have been made, they will still enjoy some degree of implicit guarantee. In addition, their funding structure is different. Compared with most industrial and commercial companies, equity forms a tiny part of their balance sheet. Almost of necessity, they are highly geared organisations.

Will banks, and hence London as a financial centre, be forced by tighter regulation and higher capital requirements to contract or divest themselves of certain lines of business? To a degree, yes they will, and we should accept that. Our largest banks became too big to manage. Cutting RBS down to size so that it concentrates on serving UK firms and households is to be welcomed. It is essential that leverage is brought down. The UK is a middle-sized economy with a global-sized banking sector. In 1990 the combined balance sheet of UK clearing banks was 75% of GDP. In 2010 that had risen to 450%. Even by 2012, it was still at 350%. That exposes us as a nation to certain risks that we have to be prepared to face.

A lot of proprietary trading is better conducted in the hedge fund sector where the proprietors have more at stake and the implicit guarantee does not operate. Will banks or bankers move out of London, as many around the dining tables of the City tell us? Where would they go—into the hands of the US Department of Justice, the land of the orange jumpsuit and the perp walk, or into the bureaucratic clutches of the European Commission and the European Parliament? We should have the confidence to see a better regulated London as a source of strength, not weakness.

Finally, we must ask whether it is all going to work. In our debates, some noble Lords have described the ring-fence structure, even as strengthened by the commission, as an experiment. To a degree, it is, but so, too, would be fuller structural separation. The option of staying with the status quo simply is not available. Will the report achieve the objective of its title, Changing Banking for Good? We need a regime that works not just now, when banks have been chastened, but when animal spirits have revived and memories of the crash have dimmed. If it is to succeed we need to address both parts of the agenda, structure and culture, as they are closely linked.

The Government said they strongly endorsed,

“the principal findings of the report”—

and intended—

“to implement its main recommendations”.

The initial proposals in the Financial Services (Banking Reform) Bill fell short of that claim. Some recommendations were accepted but only weakly implemented, while others were ignored altogether. However, I can report that through the process of Committee and Report, a number of important amendments have been agreed, and significant assurances have been secured on the nature of reviews and on how the regulators will operate the new regimes. I hope that by Third Reading next week we can resolve the remaining issues.

Ultimately, however, the question of behaviour is for the banks themselves. Will they get back to a greater emphasis on relationships rather than transactions, and to serving their customers rather than seeing customers as the people from whom they make money? Opinion is clearly shifting for the good, but will this be temporary or will it be a change that lasts? Only they can answer this.

My Lords, the Parliamentary Commission on Banking Standards’s reports form a landmark, dissecting the structure of banking in this country and hence exposing the serious systemic weaknesses both within the banking industry itself and in government policies toward banking. The reports display a constructive blend of financial and institutional analysis. They also display a healthy disdain for the common fallacies which have been propagated by the banking industry in an attempt to limit change, such as the fallacy that higher capital requirements will reduce lending, as if greater capital were simply hidden away in the cellar rather than lent out for profitable return. The Government’s response has been generally welcoming, though a little timid.

The commission was established following the revelations of LIBOR manipulation. Its primary goal was to examine the culture of the banking industry, but its work soon broadened to included systemic risk. This was not simply because banking culture is itself a source of systemic risk to the UK, but also because the work of the Independent Commission on Banking, bold when published, was revealed by longer-term examination to be less powerful than originally thought—hence the PCBS proposals to electrify the ring-fence, and the commission’s numerous dark hints that ring-fencing is not going to work at all.

This is not, however, the occasion to stage a re-run of banking Bill debates. Instead I hope the House will forgive me for recalling that at the time of the establishment of the Parliamentary Commission on Banking Standards, I argued that it would not have the time or the resources to do the job needed—namely, a wide-ranging inquiry into UK financial services and their role, or lack of it, in rebalancing the real economy. I was right. While the commission has exceeded expectations, there is an enormous amount still to do if we are to have a financial system that does not just provide stable finance, but provides the high-quality, long-term financial support that modern industry needs.

My agenda of future work for a reincarnated commission covers three areas: the size and composition of the financial services industry, the changing nature of systemic risk, and the development of high-quality finance to support innovative, competitive industry. I shall discuss size and composition first. In a speech in mid-October, the Governor of the Bank of England, Mark Carney, suggested that UK banking assets would rise from about four times UK GDP today to nine times UK GDP by 2050. In other words, he predicted Britain would become Iceland circa 2007. In defence of his relaxed anticipation of this ominous prospect he argued that,

“a vibrant financial sector brings substantial benefits”,

not only to the UK, but to the world, saying:

“The UK’s financial sector can be both a global good and a national asset—if it is resilient”.

The governor is calling for greater international financial integration, and it is easy to understand why. The City of London is absolutely brilliant at taking funds from around the world, repackaging them into new risk-return structures and selling them back to the rest of the world. It is the world’s finest offshore financial centre. But is a financial sector nine times bigger than GDP such a good idea, even with all the measures of the recent Financial Services Act and the new banking Bill in place? Is the ring-fence sufficient to limit national risk exposure to those inside the ring-fence, while all the risks outside fall on private sector shoulders? We should remember that Lehman Brothers would have been outside the ring-fence. Perhaps it is in the wrong place and should be between, on the one hand, domestic operations and, on the other hand, international operations, thus at least in part insulating the British economy from international financial instability. These issues should be the first items on the agenda of the new incarnation of the commission—whether the governor has got it right.

The second item on the agenda of the new commission should be the changing nature of systemic risk. The key warning of this came last May, when Ben Bernanke hinted at a tapering of US quantitative easing. The result was a massive slump—even chaos—in international bond markets around the world, particularly in emerging markets, and severe difficulties in some foreign exchange markets. In the press, this was attributed to the reversal of flows of what was called a “wall of money” that had originally migrated to emerging markets in the search for yield, given the near-zero interest rates in advanced countries. That portrayal of the problem was wrong, because flows of funds to emerging markets have fallen year on year since 2008—there is no wall of money. What is important is that their form has changed. The capital flow from global banks to emerging markets has slowed to a trickle. In its place, emerging market banks have increased their issuance of bonds. Even more dramatically, non-bank investment in emerging market bonds has soared. Today, in emerging market funding, the global banks have given way to asset managers and other buy-side investors who have global reach. Most of this new bond issuance has been in US dollars, so that emerging market corporates have become much more sensitive to US interest rates and to fluctuations in exchange rates vis-à-vis the US dollar. This increased sensitivity in the changed structure of the market is clear in emerging markets.

Exactly the same transformation of funding flows is taking place here at home. Industrial and commercial firms starved of funding by the banks are turning to the bond market. Asset management firms and insurance companies are responding by increasing their flow of funds into corporate bond markets—which are far more sensitive to prospective interest rate changes than traditional bank lending. A new vicious cycle is being created in which the prospect of interest rate rises leads to falling bond prices, which leads to a flow of managed funds out of the corporate bond market, which leads to declining investment and growth, which in turn undermines future bond yields so that asset managers cut back the flow of funds. That is the vicious cycle.

These distress dynamics have some unfamiliar elements. We normally invoke either leverage or maturity mismatch when explaining crises, and the usual protagonists in the crisis narrative are banks or other financial intermediaries. By contrast, in the newly emerging scenario, asset managers are at the heart. Those are usually the people we characterise as benign, long-term investors, routinely excluded from the list of “systemic” market participants. However, the distinction between leveraged institutions and long-only investors matters less if they share the same tendency to procyclicality. Today, asset managers increasingly base their trading on the same measures of risk used by the banks, so the behaviour of asset management firms will tend to exhibit the same type of procyclical risk-taking that the banks are known for. None of those issues is dealt with in current legislation; they must be dealt with by the new commission.

The third item on my extensive agenda for the reincarnated commission is how the financial services industry serves the need to rebalance the real economy. For the harsh truth is that despite the fact that banking balance sheets around the world are today 15 times greater, relative to GDP, than they were 30 years ago, trend world growth in the real economy is certainly no faster than it was then; and in the West it is significantly slower. No wonder the noble Lord, Lord Turner, labelled much of financial services as “socially useless”.

Most notably, private sector investment in research and development is slowing down. Indeed, if there were not substantial public sector R&D spending, investment in crucial drivers of future growth would be falling. Here, the public sector is really sustaining the R&D agenda. In 2012 alone, state development banks financed $109 billion-worth of investment in renewable energy, energy efficiency, and electrical transmission and distribution, while private sector investment was less than a third of that. In the US, it is government funding in high-growth areas such as the life sciences that is absolutely essential. Where would British life sciences be without the long-term funding provided by the Wellcome Trust?

The private sector problem is lack of the right sort of funding. Even venture capital, designed in theory to provide high-risk finance for innovative companies, snubbed by risk-averse banks, has become itself increasingly risk-averse. The sector is focused on early exit, usually through IPOs in three to five years—while innovation takes 15 to 20 years.

If we are to steer the economy from the consumer-driven mini-recovery that we have at the moment to a productive investment-driven economy, where is the long-term finance to come from? We need the reincarnated commission to refocus reform of the financial sector on quality of financing, not solely on stability or quantity. Reform of the financial sector should be joined up with innovation policy so that productive, not speculative, investment is nurtured in companies of all sizes.

My report card for the commission therefore reads as follows: “Has done an unexpectedly good job; indeed, a brilliant job, and should be congratulated; but has the potential to contribute even more, if only there were a Government that would give it the mandate to fulfil its potential”.

My Lords, this has been a very constructive and timely debate. I felt that I was getting one of my exams marked there, for a minute; that was the feedback I used to get 38 years ago. It is the right time to be talking about this, given where we are with the Financial Services (Banking Reform) Bill, which has been extensively amended in response to the recommendations of the Parliamentary Commission on Banking Standards. Of course, as a number of noble Lords pointed out, we are moving toward the end of that Bill’s progress through the House. That marks the final stage of the Government’s programme of legislative action to reform banking.

We are all aware of the serious problems that have come to light in recent years. I thought that the noble Lord, Lord Turnbull, gave us the best exposition of all the individual incidents and the questions that we should be asking. We are absolutely right this evening to be focusing on the culture within banking.

Step 1, from the Government’s point of view, was to fix the regulatory system. As well as giving the Bank of England responsibility for financial stability, therefore, the Financial Services Act established the Financial Conduct Authority as a tough new conduct regulator, focused on making sure that conduct issues get the serious attention they need and deserve.

I welcome the insightful comments in the maiden speech of my noble friend Lord Carrington. He enumerated far more concisely than I could the merits of the new judgment-led approach that the regulators will apply to supervision, and the disappointing failure of what we describe as the tick-box approach. I am in tune with that analysis. I was also quite taken by my noble friend’s discussion of Islamic banking, which is values-based. There are probably some lessons for the rest of the banking sector there.

The Government supported the establishment of the PCBS under the chairmanship of the honourable Member for Chichester, Andrew Tyrie, and the work of that commission has played an absolutely vital role in shaping the future approach to conduct and standards in the UK’s financial services sector. Of course, its pre-legislative scrutiny of the draft banking reform Bill, which has been referred to, also led to a strengthening of the ring-fence, with its electrification.

The commission’s impressive final report, Changing Banking for Good, which was published in June, made some key recommendations, ranging across individual accountability, corporate governance, competition and long-term financial stability. In July the Government published our response to those recommendations. We endorsed the main findings of the commission’s report and committed to implementing its principal recommendations, using the Bill where legislation was the right way forward. I would like to think that the Government have delivered on that commitment. The debates we had in this House were extremely helpful to the Government—and, I hope, refined some of the commissioners’ thinking—and we have ended up in what I think is a very good place. I hope that next week, at the next stage, it will all come to fruition.

We tabled amendments to establish the new senior managers regime, which is the critical control system to ensure that the culture is right, and are going to implement the commission’s recommendation to introduce what is in effect a licensing regime to cover more junior banking staff. For the first time, regulators will be able to make conduct rules applying to all employees of a bank, and these changes form the basis of a much more robust focus on conduct and standards within these banks, both by giving the regulators new and important powers with regard to senior managers, such as time-limited and conditional approvals, and by placing firm obligations on banks themselves to take responsibility for the conduct of more junior staff. The Government have put in place a new offence of criminal recklessness in the management of a bank so that in future those who bring down their bank by making thoroughly unreasonable decisions can go to jail for their actions.

All these changes have improved the Bill significantly, and I thank all noble Lords who have contributed to the debates so far. I particularly express my gratitude to the former members of the commission for their continued constructive engagement throughout, which has enabled the Government to realise their vision comprehensively.

Of course, to a man with a hammer everything looks like a nail, and there is sometimes a risk that to a parliamentarian every problem looks like it needs legislation, but this debate is a timely reminder that legislation is just one weapon in our armoury towards building the highest standards within the industry. As the most reverend Primate said, you cannot solve problems by changing law, and you cannot make people good through law. I absolutely agree with that.

The commission’s recommendations about the regulation of individuals in banks rely heavily on rules that the regulators will make underneath the legislative provisions, and the way in which those rules are applied. We have to work all this through to see how it works in practice.

The Bank of England and the FCA published their responses to the commission’s report in October, and set out their positions on each of the recommendations. They continue to make progress. I hope that the regulators will take note of the points that have been raised this evening—I know many of them are here witnessing this—as they go ahead to implement the commission’s recommendations through their rules. They will be launching public consultations on these rules next year. I urge all those who have spoken this evening to reiterate their views to the regulators through this process.

I return to the issue of creating culture change. One of the most reverend Primate’s questions was, “What will drive this cultural change?”. Regulatory rules are a necessary but not a sufficient condition for creating a profound change in the culture of banking. It is clearly an area where banks themselves must take significant responsibility. They have committed to the establishment of a professional standards body, which represents some progress; but I also hope that the industry’s leaders will take notice of this debate and continue to work to rebuild the fundamental trust which the public need to have in them if this is going to improve over time. That trust will only grow through a relatively long healing process.

Perhaps I may take a couple of minutes to refer to my own experience and what I learnt in the business. I was in the banking business for 27 years. What attracted me to it in the first place resonates with the comments of the noble Lord, Lord Eatwell, about the quality of finance and those of the most reverend Primate about what banks are for and what contribution they make to local and national economies. The thing that made me want to go into banking was the opportunity to work with so many different businesses; to work with so many other different kind of financial institutions; to work with different countries around the world; and to use finance to make things happen, to build things and to see development. For me, it was the best possible opportunity to make an enormous difference to so many businesses around the world.

I never lost the sense of magic that the position you get at the centre of things gives you. My career divided into two halves. In the first half, my responsibility was to manage and build a group of clients and, frankly, to maximise the market share for my firm from those clients by winning as much business from them as we possibly could. I learnt one very simple thing: the most important rule for success was to put the customer’s interests first. There was nothing worse than an unhappy client. My most profitable long-term client relationships were with those people whom I had initially advised not to do transactions. We have heard a lot of discussion about taking care of the customer and putting the customer first. My own experience tells me not only is this the right thing to do, it is also in the bank’s long-term financial interest to behave in precisely that way too. The essence of effective leadership of a bank is to bring those things together.

In the second half of my career, when I was in much more of a leadership role, I spent an enormous amount of time building and managing the systems of controls and compensation to try to align that kind of long-term profit maximisation with taking care of clients and doing the right thing in a regulatory environment. I understand the enormous challenges of sitting near the top of these big organisations; wanting to do the right thing, yet never quite being sure whether there was a so-called rogue trader out there and whether you had the capacity to spot them and deal with them early enough.

A number of noble Lords have pointed to the importance of competition as a way of keeping everybody honest on a number of respects. I absolutely support competition as a healthy and stimulating part of this dialogue.

My final comment about the culture of banks is that it comes from the top—the tone is set at the top. You absolutely need systems, controls and management structures to ensure that it is effectively deployed throughout the organisation, but, for me, culture is ultimately about leadership. It is about leadership of the financial institutions, in the regulators and in government. That triumvirate needs to continue to display the right kind of leadership if we are effectively to change backing for good, as the commission has recommended.

Finally, I thank noble Lords who have spoken this evening, and thank the most reverend Primate for presenting us with this important opportunity to discuss these matters.

My Lords, I add my thanks to all noble Lords who have contributed this evening. A number of striking comments and speeches have been made, notable among them that of the noble Lord, Lord Carrington, with his description of a Sharia-compliant bank and the impact that that can have and his deployment of his experience both in the other place and in the banking industry over many years.

The debate has ranged far and wide. I want to draw on two characters. One is Dracula. We have the threat of reincarnation—or, if one is into “Doctor Who”, regeneration—of the Parliamentary Banking Standards Commission. I saw the blood drain from the face of the noble Lord, Lord Turnbull, as I sat from this distance. I hope that we can find some stake and clove of garlic that can put it into its grave and that someone else will have the pleasure of reincarnating it at some point.

The speech of the noble Lord, Lord Eatwell, clearly reminded us that financial services are immensely connected and that what you squash down in one place pops up in another—to put it less elegantly than he did—often with great force, little regulation and usually much danger. His exceptional speech should be noted and thought about. I fear that there will be need for continual monitoring of what happens over the next few years.

I have a couple of comments. I shall be brief, because we are at the end of our time and it has been a long day. The comments made by the noble Lord, Lord Sharkey, about size were also strong reminders of the difficulties that we face. One of the most memorable comments in evidence for me was from a former head of UBS, clearly deeply affected personally by the pain of what he had gone through. He was one of those bankers who came who had borne the whole weight of it on his shoulders and suffered greatly as a result. There was no lack of responsibility from him. When asked if, in the depths of the night, he looked back and thought that he might have done differently, he said that you can have a big simple bank or a small complicated bank; you cannot have a big complicated bank. He said that if he had his time again, he would have kept it simple.

When I listened to the noble Lords, Lord Sharkey and Lord Eatwell, I was reminded of the extraordinary statistic anticipating the banking industry at nine times GDP. I was reminded of the need for banks to be kept to a size where they do not threaten everything else. They are not the only goose laying golden eggs in our economy. We cannot be a “monocrop economy”, as Martin Wolf described us in a notable article in the Financial Times in January 2009.

I cannot go through all the other points raised, but I heard with gratitude the comments about education. Competition is obviously essential, but, as the Minister said a few moments ago, competition must be to be the best supplier of the customer, not the most profitable bank going. You may get the second through the first, but if you aim solely for the second, you will never get the first.

Finally, the quality of finance—to which the noble Lord, Lord Eatwell, referred directly and indirectly—is that which sustains our communities and enables the talent of our nation to flourish, grow and develop jobs. He used a phrase, “financial services”, that has been used many times in the debate. All these industries, banking and the others, are there to serve, not to rule. They are, as I was taught as a child by my grandmother, when talking about fire, good servants and very bad masters.

Motion agreed.

House adjourned at 8 pm.