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Bank of England and Financial Services Bill [HL]

Volume 765: debated on Monday 26 October 2015

Second Reading

Moved by

My Lords, it is now over seven years since the height of the financial crisis. In that time, many steps have been taken not simply to repair the damage done but to reform the entire financial sector. The regulatory system and regulatory standards are now vastly different from those which existed before the crisis—and rightly so. Those reforms, many of which were enacted by the last coalition Government, bear the imprint of a number of your Lordships. I would like to thank in particular noble Lords who were part of the Parliamentary Commission on Banking Standards. Although I cannot claim the considerable expertise that many of your Lordships have on financial matters, I have worked for two banks—HSBC and, more recently, Banco Santander. I mention this not just for the record but to say that, from that vantage point, I have seen the painstaking efforts your Lordships take to ensure that we fully address the failings of the previous regulatory regime, doing so in a robust but proportionate way.

Today our financial services are far more resilient than they were seven years ago. The Chancellor has talked of the British dilemma of being a host for global finance without exposing taxpayers to the costs of financial failures. We have made real progress in tackling this dilemma, but it would be hubristic to say that this is job done. Even if memories of what happened in 2008 may begin to fade, we must never forget the lessons that that crisis taught us. Eternal vigilance is required—but this should not be mistaken for ever more regulation. We must never fall victim to the belief that we can somehow magically regulate risk out of the system. Nor should we try to do so: risk and innovation are two sides of the same coin. Our challenge is to get the balance right—to deliver stability and protect taxpayers, while allowing free markets, enterprise and innovation to flourish.

This is the backcloth to the Bill, which seeks to implement a series of evolutionary changes to the regulatory system as part of this Government’s commitment to deliver a new settlement for financial services. There are four main elements to this.

First, the Bill will strengthen the governance, transparency and accountability of the Bank of England, as well as updating resolution planning and crisis management arrangements between the Bank and the Treasury. Secondly, it will extend the senior managers and certification regime across the whole financial services industry to increase the accountability of the sector and will build a new duty of responsibility into the regime, ahead of its introduction next year. Thirdly, it extends the scope of the Pension Wise guidance service. Finally, it makes technical changes to the Scottish and Northern Irish banknote issuance regime to allow new issuers to be authorised in place of an existing issuer to facilitate group restructuring.

I turn first to the measures which will strengthen the governance and accountability of the Bank of England. As noble Lords will be aware, the Bank was established in 1694 to finance the War of the Grand Alliance against France. At that time, the 24 directors of the Bank were each required to hold £2,000 of Bank stock. The first matter the new court discussed was “the method of giving receipts for cash”. At its third meeting, the court appointed the first officials of the Bank; there were only 19, including two doorkeepers. The new court also made a number of other important decisions, including appointing a committee to inspect the cash, and recommending that the cashiers should be “fenced in to keep off people from disturbing them”. Scroll forward to the 20th century and much had changed, but even in the interwar years the long-serving executive director of the Bank, Sir Otto Niemeyer, observed, “When the Permanent Secretary of the Treasury visited the Bank of England … he took a taxi because he was not quite sure where the Bank was”.

It is fair to say that both the role of the Bank and its governance have seen some changes in the intervening years. From a macroeconomic perspective, some of the most important developments have been in the recent past. In 1997 the Bank was given operational responsibility for monetary policy. During the last Parliament, the Government put the Bank at the centre of a fundamentally reformed regulatory architecture, giving it significant new responsibilities and the powers it needs to deliver its financial stability mandate. The Bank is tasked with delivering monetary and financial stability, and as such plays a critical role in maintaining the stable macroeconomic conditions that are a prerequisite for delivering the Government’s long-term economic plan. It is vital, therefore, that the structure and governance of the Bank put it on the best possible footing to fulfil its critical role in supporting UK economic stability.

The Bank itself recognises this need. Through its “One Mission. One Bank” strategic plan and its 2014 publication Transparency and Accountability at the Bank of England, the Bank has set out a series of changes to reinforce its transparency, accountability and governance and contribute to its strategic objective of operating as a single, integrated institution. The Bill brings forward a set of evolutionary changes that are complementary to the steps the Bank itself is taking. The key measures that I would like to highlight are as follows.

First, the Bill will strengthen the role and governance of the court, including by implementing the recommendation of the Parliamentary Commission on Banking Standards to remove the Oversight Committee and transferring its functions to the court. This will complete the job to enable the court to act as a modern unitary board, with performance overseen by the executive and non-executive together. Next, the Bill will end the Prudential Regulation Authority’s status as a subsidiary of the Bank, integrating microprudential supervision more fully into the Bank. The PRA board will be replaced by a new Prudential Regulatory Committee, modelled on the Monetary Policy Committee and Financial Policy Committee, with sole responsibility within the Bank for the PRA’s functions. These changes will support the Governor’s strategy,

“to conduct supervision as an integrated part of the central bank and not as a standalone supervisory agency that happens to be attached to a central bank”.

The Government also recognise that the PRA’s strong brand and operational independence need to be protected, and that transparency around the use of the PRA levy activities must be maintained. The Bill will therefore ensure that supervision continues to operate with appropriate independence and adequate resources, and the statutory objectives of the PRA, which underpin its forward-looking, judgment-based approach to supervision, will remain unchanged. In line with the approach taken to the MPC and FPC, the Bill will provide for a new remit letter from the Government to the PRC, to highlight those aspects of government economic policy that are most relevant to the PRC’s duties.

Turning to the Monetary Policy Committee, the Bill includes provisions to move the MPC to a schedule of at least eight meetings a year and updates requirements for the timing of MPC publications, implementing the remaining recommendation of the Warsh review, Transparency and the Bank of England’s Monetary Policy Committee, published in 2014. The Bill also includes a set of measures to strengthen and harmonise the legislative underpinnings of the Bank’s three policy committees; the MPC, the FPC and the proposed PRC. As part of these changes, the Bill will harmonise the provisions around conflicts of interest for the MPC, FPC and new Prudential Regulation Committee and put in place a requirement for each committee to publish a code of practice detailing how potential conflicts of interest will be managed.

Next, the Bill will give the National Audit Office the power to launch value-for-money studies across all parts of the Bank, thereby bringing the whole Bank within the purview of the NAO for the first time. This is a significant strengthening of the accountability of the Bank to the public and to Parliament. The Bill implements this important change in a way that protects the independence of the Bank’s policy-making functions. Alongside these changes to the Bank’s governance and accountability, the Bill builds on the existing arrangements and the strong working relationship between the Bank and the Treasury by updating the formal framework for how the Bank and the Treasury should engage with each other on the public fund risks and the financial stability risks of firm failure. These changes improve co-ordination while maintaining the existing clear and separate roles of the Bank and the Treasury in the event of a crisis. It is essential that both the Government and the Bank are in the best possible position to respond to a financial crisis. This will be supported by these measures. These measures concerning the Bank of England form one part of the Bill.

I turn next to the changes that we propose to make to extend the principle of personal responsibility to all sectors of the financial services industry. As noble Lords will be aware, following the report of the Parliamentary Commission on Banking Standards in 2013, we legislated for a senior managers and certification regime to replace the discredited approved persons regime. At the moment, this new regime, which is due to come into force in March 2016, would apply to banks, building societies, credit unions and PRA-regulated investment firms, but not to any other authorised financial services firms. The new regime consists of three key components. The first is regulatory pre-approval of senior managers at the top of the firm. The second is certification by the firm of other key individuals as fit and proper, both at hiring and annually thereafter. Thirdly, the regulators will be able to make rules of conduct for senior managers, certified persons and other employees.

The Government now propose to extend the senior managers and certification regime to all sectors of the financial services industry, replacing the approved persons regime, so as to have a single approach for the entire sector. In 2014 former members of the PCBS called for the regime to be extended, as did the fair and effective markets review. This expansion will create a fairer, more consistent and rigorous regime for all sectors of the financial services industry, enhancing personal responsibility and accountability for senior managers as well as providing a more effective and proportionate means to raise standards of conduct of key staff more broadly, supported by robust enforcement powers for the regulators.

The Bill will also introduce a statutory duty of responsibility to be applied consistently to all senior managers across the financial services industry. This supersedes the “reverse burden of proof”, which would, in the absence of legislative change, apply to banking sector firms when they become subject to the regime in March 2016. Under the statutory duty of responsibility, the same underlying obligation will remain on the individual to ensure that they take reasonable steps to prevent regulatory breaches in the areas of the firm for which they are responsible, but the burden will be on the regulators to prove that a senior manager has failed to do this.

A third part of the Bill extends the remit of the Pension Wise guidance service. As noble Lords will be aware, the Government are making fundamental changes to the pension system to allow people to access their pension pots flexibly without being hit with punitive tax rates. These reforms give people freedom and choice over how they spend their money. Following the decision to extend pension freedoms to those who already hold an annuity in 2017, the Bill will extend the scope of the Pension Wise guidance service, so that pensioners can access a free, impartial service to discuss their new options.

Finally, the Bill makes changes to the legislative framework governing the issuance of Scottish and Northern Ireland bank notes; it gives the Treasury power to make regulations authorising a bank in the same group as an existing issuer to issue banknotes in place of that issuer. This will increase the flexibility for banks to restructure their operations, while preserving the long-standing tradition of certain banks in Scotland and Northern Ireland issuing their own notes. This is a particular issue currently, as some banking groups will be adjusting their group structure in order to ring-fence their retail banking operations.

In summary, the Bill builds on previous reforms to financial regulation with a number of important measures that will contribute to the Government’s commitment to deliver a new settlement for financial services. I am aware that a number of noble Lords have great experience and expertise in these matters, and my door is always open to meet them and discuss the measures in the Bill as it progresses through Committee. I look forward to hearing your Lordships’ views. I beg to move.

My Lords, I thank the noble Lord, Lord Bridges of Headley, for introducing the Bill, and welcome him to our debates on financial regulation.

For those of us who spent many hours in your Lordships’ House examining, clause by clause, what were to become the Financial Services Act 2012 and the Financial Services (Banking Reform) Act 2013, achieving creative compromises with the then Minister, the noble Lord, Lord Deighton, and generally advancing the cause of effective regulation, this Bill makes depressing reading. That is not because of the proposals concerning the status of the PRA and consequential amendments, which are entirely sensible; nor because of the extension of the authorised persons regime to all authorised persons—in a seamless financial services industry that is obviously a sensible development. What is depressing is the Government’s back-pedalling on the governance of the Bank of England, and their spineless surrender to industry lobbying on the issue of the burden of proof in the senior persons regime.

First, on governance of the Bank of England, noble Lords will recall that the Treasury Select Committee of another place recommended in its report on the accountability of the Bank of England, published in November 2011, that there be established a supervisory board, replacing the Court of the Bank. The supervisory board would have a wide-ranging oversight role, including ex-post reviews of the Bank’s performance in prudential and monetary policy, and it should be provided with proper staff to perform that review function.

I remind the House why this proposal was made. First, it was argued that there was clear evidence of groupthink in the Bank during the financial crisis, and that it was important that there be appropriate challenge within Bank policy-making. Secondly, it was clear at the time that some of the groupthink emanated from an intellectually powerful and dominant Governor. While there is in this House the greatest respect for the noble Lord, Lord King, and, indeed, for Mr. Carney, we should all remember the maxim of Lord Keynes:

“It is astonishing what foolish things one can temporarily believe if one thinks too long alone, particularly in economics”.

For both these reasons, the Treasury Select Committee and, I recall, almost all who spoke on the matter in this House, agreed that an independent review body of considerable weight and influence should be established. After all, as the Treasury Select Committee put it:

“The Bank is a democratically accountable institution and it is inevitable that Parliament will wish to express views and, on occasion, concerns about its decisions. Our recommendation that the new Supervisory Board have the authority to conduct retrospective reviews of the macro-prudential performance of the Bank should, if operating successfully, provide the tools for proper scrutiny”.

So there is the third reason for the establishment of a supervisory board—that its reports will enable Parliament to do its job properly.

Noble Lords will recall that the Court of the Bank was hostile to the creation of a supervisory board, but instead proposed the establishment of the oversight committee, consisting entirely of non-executives who would perform the retrospective evaluations that the Treasury Select Committee felt were so necessary. Your Lordships’ House accepted the proposal as a reasonable compromise. Now, without ever having had the chance to prove itself, the oversight committee is to be abolished, and its functions handed back to the Court of Directors, the very body the activities of which it was supposed to oversee. Of course, there is reference in Clause 4 to an oversight function being delegated to a small sub-committee of the court. However, as noble Lords will be aware, a sub-committee, however talented, is not the same as a full non-executive director committee.

The impact assessment performed by the Treasury argues—and the noble Lord echoed this argument—that abolishing the oversight committee will,

“bring the Bank’s governance arrangements in line with normal best practice of a unitary board”.

All I can say is that whoever wrote that has not had much experience of unitary boards of major companies. The oversight committee was never intended to replace the court, as the impact assessment also erroneously suggests; it was intended to be a powerful instrument of non-executive director review—an instrument that the financial crisis revealed to be desperately needed.

In Clause 5, we find that the Court of Directors is taken out of its policy-making role and replaced by an amorphous entity called “the Bank”. The result is that Clause 9A of the Bank of England Act now reads: “The Bank must carry out and complete a review of the Bank’s financial stability strategy before the end of each relevant period”. That is typically called marking your own homework. The impact assessment says:

“Making the Bank responsible for setting the strategy … within the Bank … will ensure that Court is responsible for the running of the Bank and that the Bank’s policy committees are responsible for making policy”.

How do we know? We do not know. This Bill renders the governance structure of the Bank of England opaque and not fit for purpose. We do not know what “the Bank” is. Is it the court? If so, why the amendments? Is it the executive? Is it the governor? Where does authority really lie? We do not know.

Nor can any comfort be drawn from the section of the Bill on audit referred to by the noble Lord. Consider Clause 11. There we are told that:

“The Comptroller and Auditor General … may carry out examinations into the economy, efficiency and effectiveness with which the Bank has used its resources in discharging its functions”.

However, it is also in Clause 11 that:

“An examination under this section is not to be concerned with the merits of the Bank’s general policy in pursuing the Bank’s objectives”.

Moreover, Section 7E describes how the court may forbid the comptroller from proceeding with the examination if,

“the court of directors … is of the opinion that an examination under section 7D, or any part of it, is concerned with the merits of the Bank’s general policy”.

No wonder that Sir Amyas Morse who heads the National Audit Office—he is the Comptroller and Auditor-General—told the Financial Times on 15 October:

“The legislation proposed by the government includes a statement about my role. … However in departing from the existing legislative parameters governing my role it imposes unacceptable restrictions that, if enacted, would create an impression of increased public accountability without the reality”.

An impression of increased public accountability without the reality—that is what we are being asked to endorse.

Now I turn to the other major retreat in this Bill—the reversal of the proposal from the Parliamentary Commission on Banking Standards that in the case of senior managers the burden of proof with respect to the performance of their roles should rest with the managers themselves. The noble Lord, Lord Newby, the then government Minister, put the case clearly—what a shame he is not here this evening to enlighten us further. He said:

“The Parliamentary Commission on Banking Standards concluded that the current system for approving those in senior positions in banks—the approved persons regime—had failed … The commission’s central recommendation in this area is for the creation of a senior persons regime applying to senior bankers. The regime for senior managers in banks will … reverse the burden of proof so that senior bankers will have to show that they did what was reasonable”.—[Official Report, 15/10/13; col. 386.]

The most powerful speech in favour of the Government’s proposal was made by the noble Lord, Lord Lawson, who made it clear that he had wearied of the excuses paraded by senior bankers before the commission, including, “It wasn’t me; it was a collective board decision, so no individual is responsible,” or “It wasn’t me: I had no idea what the traders in my bank were doing; it was all them,” or blaming the regulators or monetary policy or anyone but themselves. The noble Lord, Lord Lawson, concluded:

“The standards in the City of London should be the highest in the world. The whole thinking behind the commission on banking standards was that we wanted to clean up banking … Personal responsibility is not the whole of the solution, but personal responsibility of the senior management is a vital and necessary element”.—[Official Report, 15/10/13; col. 398.]

I agree with the noble Lord, Lord Lawson.

So how is the Minister to explain Clause 22, which reverses the reversal? Can he explain in detail exactly why what was at the very heart of government policy two years ago is now to be abandoned before it has even been tried? Will the Minister also spell out in detail the rationale for ignoring the carefully considered arguments of the parliamentary commission?

Turning again to the Treasury’s impact assessment, we read that the “duty of responsibility”, as contained in the new Bill,

“will maintain the same tough underlying obligation on the individual to ensure that they take reasonable steps to prevent regulatory breaches”.

These words were also echoed by the noble Lord in his introduction. If it is the same, why bother to amend it? Clause 22 is unnecessary; but if it is necessary then the “underlying obligation” cannot be the same. The Government cannot have it both ways. Which is it?

Fortunately, the impact assessment gives the game away. It tells us:

“One of the unintended consequences of the enforcing this obligation using a ‘reverse burden of proof’ has been that firms will have to incur greater costs than originally envisaged in preparing the documentation required by the regulators setting out the allocation of responsibilities in firms”.

So there we have it: the Bill will result in less comprehensive documentation and hence less awareness of responsibilities and less detailed examination of the relationship between responsibility and risk. That is what the Treasury’s own impact assessment says. Is that what we want? Less clear responsibility and less appreciation of risk? The requirement to fully document was not an unintended consequence. We knew that effective regulation of individual responsibility would cost more, and so it should when the failure to exercise individual responsibility imposes heavy costs on the community as a whole.

So for the—let us call us—regulatory old lags among us who worked late into the night to get regulation right, this is a seriously defective Bill. It must be amended.

My Lords, this is a much shorter and simpler Bill than its two financial services predecessors, and I congratulate the noble Lord, Lord Bridges, on this welcome innovation, but, on the whole, it does not work to strengthen the regulatory framework put in place by those predecessors. On the contrary, and in very significant ways, it appears to weaken much of the work done in the past two Sessions.

There are four major areas of concern. The first is the abolition of the Bank’s oversight committee alongside the reduction in the number of non-executive directors on the court. There is also the role of the National Audit Office, the change in the status of the PRA and the changes to the senior manager regime and, particularly, the U-turn on the reverse burden of proof.

I shall start with the abolition of the oversight committee. The committee was recommended by the Parliamentary Commission on Banking Standards and was introduced into the Financial Services Bill by lengthy and detailed government amendments at the suggestion of the Bank. The very helpful Treasury briefing note to this Bill says that these new oversight functions have been a successful innovation, but it describes the oversight committee as an “unnecessary layer of governance”. As a reason for removing a key part of the Financial Services Act, this “unnecessary layer of governance” seems pretty weak. Will the Minister explain exactly how the existence of the oversight committee harms the bank’s ability to operate or how its existence as a separate body, as Parliament deliberately designed it, is damaging in any real or significant way?

The oversight committee consists only of non-executive directors. Its replacement, the court, has five bank officials and seven non-executive directors. This inevitably raises questions about robust independence, which was entirely the point of the non-executive director-only structure in the first place. The Bill reduces the number of non-executive directors on the court from nine to seven, although it contains the rather odd provision to allow restoration of the number to nine. There is nowhere any justification for the reduction in the number of non-executive directors from nine to seven: not in the Explanatory Notes, not in the HMT briefing note and not in the impact assessment. Will the Minister say why there is to be a reduction in the number of non-executive directors and why to seven? The abolition of the oversight committee seems certain to reduce the independence of oversight activity. The Government have presented no convincing reason why this committee should be abolished, and I am certain we will want to have a much better justification before agreeing to it.

The second area I want to discuss is the role of the NAO. The Treasury briefing note asserts that the purpose of this part of the Bill is to increase the accountability of the Bank to Parliament. There seems to be some significant disagreements on this. In evidence to the House of Commons Treasury Committee, the chair of the Court of the Bank of England, Anthony Habgood, said that the extent of the NAO’s proposed involvement had come as a surprise. That is a surprise in itself. Will the Minister say why Mr Habgood was taken by surprise? Was he consulted? Will he say whether the chair of the Court of the Bank of England is in favour of the NAO proposals in the Bill and whether he believes they will in fact increase the accountability of the Bank to Parliament? Certainly, Sir Amyas Morse, the Comptroller and Auditor-General and head of the NAO, does not think so. As the noble Lord, Lord Eatwell, said, the Financial Times reported on 11 October that Sir Amyas had,

“attacked ‘unacceptable’ government plans to increase transparency at the Bank of England, saying that they created a false impression of greater accountability”.

These are very important matters.

We welcome the prospect of increased public accountability of the Bank via the NAO, but it is not at all clear that that is what the Bill really offers. As the Financial Times pointed out, under the Bill’s proposals the Bank would have a veto over what the NAO could scrutinise. This would be the first time that a public entity could restrict the scope of a value-for-money study. It is very hard to see why the Bank should have this power of veto and fairly easy to see why it should not. At the moment, the NAO is responsible for the financial audit of the PRA. The Bill proposes to end that arrangement and hand over the financial audit responsibility to the Bank’s auditors. This seems a retrograde step and seems to signal a reduction in the independence of the PRA, which is the subject I want to turn to next.

The Bill proposes to end the PRA’s status as a subsidiary and make the Bank itself the Prudential Regulation Authority, exercising its functions through a new prudential regulation committee. The chief reasons given for this proposed change in the impact assessment are that it will,

“maximise the synergies between micro-prudential supervision and macro-prudential policy”,

and be,

“better able to exploit internal efficiencies by sharing knowledge, expertise and analysis”.

Will the Minister explain this in a little more detail and perhaps in plainer language? Will he give concrete examples of the synergies anticipated? Will he explain how internal efficiencies can be exploited in a way not possible under the current set-up?

Both the HMT briefing notes and the impact assessment assert that the PRA’s independence will be retained. The impact assessment says that the new PRC will have a majority of external members. However, the chart provided with the Treasury briefing note is open to a quite different interpretation. This chart says that the PRC will consist of the governor, three deputy governors, the CEO of the FCA, one governor’s appointment and at least six external Chancellor’s appointments. Unless one counts the CEO of the FCA as an outsider, which seems completely implausible after the summary sacking of Martin Wheatley, the outsiders are not in a majority. Would the Minister care to clarify this? Is he counting the CEO of the FCA as an outsider and, if so, on what grounds?

I now turn to the Bill’s proposal to make changes to the senior managers regime. I welcome the extension of the regime across all sectors of the financial services industry, as was recommended in 2014 by former members of the Parliamentary Commission on Banking Standards and by the 2015 Fair and Effective Markets Review. However, I am very concerned about the U-turn on the reverse burden of proof. This reverse burden of proof test has not even come into force-yet the Government are now proposing to abolish it before it does. The reverse burden of proof was a key recommendation of the Parliamentary Commission on Banking Standards, which said that it would,

“make sure that those who should have prevented serious prudential and conduct failures would no longer be able to walk away simply because of the difficulty of proving individual culpability in the context of complex organisations”.

The Government accepted this and wrote it into law. They were right to do that: the issue remains a serious problem.

Members of the House of Commons Treasury Select Committee, in February this year, investigating the scandal in which HSBC reportedly helped people around the world evade tax, were frustrated by senior executives, one after another, disclaiming personal responsibility. The Parliamentary Commission on Banking Standards was right to conclude that having a named executive with personal responsibility for key risks, accompanied by reversing the burden of proof, was essential to removing what it called this “accountability firewall”.

It seems to me that the Government have advanced three main arguments in favour of this U-turn. They are, first, that it was necessary because the Bill extends the scope of the senior managers regime to financial institutions for which the reverse burden of proof would not work. The Chancellor said that he wanted to avoid a dog’s dinner of a two-tier accountability system. This is very unconvincing. It is not obviously the case that a two-tier system would be problematic. In fact, a two-tier system may be necessary to keep the large, globally systemic financial institutions accountable.

The second reason, advanced by Harriet Baldwin in our recent meeting, was that senior bankers were losing focus on their real jobs because of the compliance burden imposed by the reverse burden of proof—presumably in preparation for it. We need to see the evidence for this. I assume that this is what the banks are claiming. Can the Minister say how these assertions have been evaluated? How do we know they are true and not the obvious special pleading?

The Minister also told us that the looming reverse burden of proof was causing senior managers to avoid the jurisdiction. This is a serious charge and I think we need to see evidence for it. Could the Minister provide us with some examples? The Bank has described the removal of the reverse burden of proof test as a matter of process rather than substance. I believe that is simply, straightforwardly incorrect. The issue of abandoning the reverse burden of proof is extremely serious and is central to the ability to hold bankers properly to account. I have no doubt we will return to this issue at later stages in the Bill.

There is one other provision in this part of the Bill that raises concerns: the removal of a senior managers regime obligation to report breaches of rules of conduct to the regulator. I can see no rationale for this in either the Treasury brief or the impact assessment. The impact assessment simply notes that this measure is likely to “mainly benefit larger firms”. Can the Minister say why this provision is in the Bill?

Our discussions of this and other changes to the senior managers regime will be helped, I think, by the full, quantified impact assessment covering these measures promised in paragraph 103 of the current impact assessment. Can the Minister assure the House that we will have sight of this further impact assessment well before Committee?

This is an unsatisfactory Bill. It undoes much of Parliament’s work on the previous two Financial Services Bills; it overturns a key recommendation of the Parliamentary Commission on Banking Standards; and it acts to reduce accountability and independent supervision. We have recently seen many moves in favour of the banks: we have seen changes to the banking levy and the sacking of Martin Wheatley, and we have heard talk of imposing a time limit on PPI claims. We should not let this Bill add to all that.

My Lords, I begin by echoing the noble Lord, Lord Eatwell, in welcoming my noble friend Lord Bridges to this area of his responsibilities, and we look forward to the further debates that we may have in the future. I am also grateful to my noble friend for his kind remarks about the Parliamentary Commission on Banking Standards, of which I was a member, as were others who will be speaking in this debate.

The hour is late, for reasons that we are all aware of, so I shall be very brief and refer simply to two areas, one of which has already been spoken about this evening; the other one has not.

The one that has been spoken about already is personal responsibility, and the noble Lord, Lord Eatwell, even went so far as to quote me on it. It is something to which I attach the first importance and I do not think that the change to the burden of proof affects it. Personal responsibility is important, and indeed the Parliamentary Commission on Banking Standards had other proposals to nail it. It is absolutely vital that there is personal responsibility. It is not banks but bankers who commit wrongdoing. If we are to deter bankers from committing wrongdoing, they have to be held personally responsible. What happens if it is not clear who is personally responsible? I hark back to my time in the Navy many years ago. Then, if a ship ran aground, the captain was court-martialled. There was always personal responsibility and there was no way in which it could be escaped.

Currently, too often when the authorities discover wrongdoing, they fine the banks. That is, if anything, counterproductive. Not only does it enable those who are personally responsible to escape scot free but very often it is harmful for the banks to have their capital ratios adversely affected by heavy fines. That is not in the public interest. Furthermore, at the end of the day the people who suffer are the shareholders, who have done nothing wrong, and those who have done something wrong are completely immune from any punishment. Therefore, we have to take personal responsibility seriously. It has to be front and centre of the business of disciplining and supervising those in the banking system.

My second point, which has not been referred to, concerns the ring-fence. We on the banking commission took very seriously the need to separate out deposit-taking and high-street banking from investment banking and merchant banking or whatever. Indeed, we did not think that the Government had been strong enough and we recommended that the ring-fence should be strengthened or, to use a term of jargon, electrified. What has happened now is that some, but not all, of the big banks have been campaigning and lobbying very hard for the Government to back down on the ring-fencing. That has happened so much that Martin Taylor, a member of the Financial Policy Committee in the Bank of England, was moved to make a very outspoken speech attacking the banks for trying to prevent the ring-fencing coming about.

Ring-fencing is essential for a number of reasons. First, as noble Lords taking part in this debate are well aware, banking is of particular importance to the economy as a whole. Therefore, there is an implicit taxpayer subsidy, which is, in my judgment, inescapable when it comes to the deposit-taking banks. However, it is quite wrong that investment banks, which often undertake a lot of risky trade of one kind or another—including proprietary trading, where there are no clients at all; they are just doing it for themselves—should be able to benefit in any way, however remote, from the taxpayer subsidy. That subsidy is there because of the need to prevent deposit-taking banks, which are not just retail banks but also finance SMEs, from folding.

There is another reason why there has to be a separation. One thing that was clear was the importance of the culture of banking when things went wrong. The culture of deposit-taking banking and that of investment banking are completely separate. It is very difficult to see how we can have two quite separate cultures in one organisation. All too often, the high-risk-taking or go-go culture of the investment banks takes over what should be the prudent, risk-averse culture of the deposit-taking banks.

However, the banks that are complaining do have a slight point about one thing. They say that this curious thing, which came out of the Vickers commission and which has not been tried anywhere in the world, is unworkable for governance reasons. It is very difficult to see how the governance of two quite separate, ring-fenced banks could work. But they have a remedy; the remedy is in their own hands. They could separate completely, and then all the governance problems would be gone. I believe that complete separation is the right answer and have been publicly arguing that for more than six years now. Nothing that I have seen has persuaded me that that is not the case.

The Government have said that they will monitor the ring-fence to see how it is working in practice. If individual banks are gaining from the system—as some, but not all, will try to do—the Government will move from ring-fencing to complete separation. I would like the Minister to confirm that it is still the position that not only are the Government not going to give way to this lobbying, which Martin Taylor spoke out about, but furthermore that they are monitoring the ring-fence very carefully and will, if that ring-fence is bringing gains in any way, move to complete separation.

My Lords, this Bill offers an important way to confirm the Government’s commitment to promoting real diversity in the financial services sector. I want to make a very brief contribution in support of such diversity.

I hope that your Lordships will allow me a very mundane analogy, appropriate to someone like me—an amateur in this complex area. In the recent past, the international Anglican communion has been wrestling with the question of how its local ministry relates to global structures. I will not bore you with any details: there have been quite enough of those to contend with this evening already. Suffice it to say that at the heart of our deliberations has been the question of which aspects of church life are best agreed, shared and implemented internationally and which best happen locally. We have realised that, although global and national structures enable us to deliver much in terms of ministry, local delivery is of prime importance. When people think of the Church, they do not predominantly relate to international structures or even national bodies: they relate primarily to the local church and the local vicar, who may have helped them out when the going got tough.

For those of us close to the ground, in the banking sector in my lifetime, we have seen a shift from the local bank manager who knew your affairs and could guide you—we hoped—wisely and discreetly, to rather larger and often faceless multinational institutions that cannot relate, never mind respond, to localised needs of customers. Therefore, I want to place on record the importance today of credit unions, which—now that the building societies seem to have stepped away from local engagement—are often the best vehicle by which banking can take place responsibly and accountably within the local community. A requirement for the Bank of England, including the PRA and FCA, to consider diversity of provider would be a significant commitment to the benefit of both consumers and the wider economy. I invite the Minister to confirm on behalf of the Government that commitment to locally accountable, directly accessible facilities and advice, which are so important in our communities.

My Lords, I, too, welcome this Bill. I am only going to concentrate on one aspect: diversity, because the Bill gives us an important opportunity to solidify the Government’s commitment to promoting real diversity in the financial services sector within legislation. A properly functioning, healthy and genuinely consumer-focused financial sector requires a broad range of different types and sizes of financial institutions operating in it to drive competition and financial resilience. This range of institutions should include customer-owned financial mutuals such as building societies, credit unions—as the right reverend Prelate has mentioned—and mutual insurers and friendly societies.

I recognise that, in the annual remit letters to the PRA and the FCA, the Government give a commitment to aim for, and follow up, diversity of provider and that is helpful, but it would be far better if it were put in legislation. I do not need to remind your Lordships of the difference between the mutual sector and the plc sector. One of the principal differences is the methodology of raising capital, whereby plcs can go to the market but mutuals have to raise organic capital. Your Lordships will be aware of the Private Member’s Bill that I took through in the last Session, which was the beginnings of an easing up on how the mutuals can raise capital. That was the Mutuals’ Deferred Shares Act 2015, but there is a long way to go still.

Why is it so important that this be put into legislation? There are two reasons. First, diversity increases the effectiveness of competition. After all, competition creates a better consumer environment in financial services through choice and so forth. Secondly, it makes the whole system a degree more resilient. We saw that in the recent financial crisis. Of course, out of it flows competition, which is helpful. One gets a superior service—and the evidence is there—from the mutuals. There are fewer complaints, and the evidence is there for that as well. Interestingly, one gets more competitive interest rates. What I found most persuasive is that, between 2012 and the end of June 2015, building societies provided no less than £52 billion of net new lending for mortgages. The rest of the mortgage market provided £7 billion. That is £52 billion from the mutuals and £7 billion from the plcs. That in itself is a demonstration of the importance of the mutual movement.

It goes wider than that. We have already heard about the great inclusion that comes from credit unions. There is a gap between the plcs and the high-cost providers. It is in that area that the credit unions are playing a key part. I submit to your Lordships that there is better conduct all round, more stable profitability and a lower risk appetite in lending; and they are, and remain, very efficient operations.

The thought that may be going through the mind of my noble friend on the Front Bench is, why do we have to put this into law? I submit to the House that, at this point in time, as we review the Bank of England and the financial sector, one size fits all is not acceptable. There were too many incidents in recent times where, as a last gasp, after much representation, either the European Union or our own Treasury suddenly remembered that there is a mutual sector. The fact that the mutual sector is a very important part of our financial sector should be right up front. What I and others in the mutual movement will be asking for is an environment where all types of firms can operate on a fair basis with regulations that are proportionate and appropriate to them, rather than this one-size-fits-all approach.

I should mention to my noble friend that I will be tabling an amendment to the Bill. It is important, but all it would do is impose a duty on the FCA and the PRA to consider models of ownership, such as mutual societies and firms of different sizes, when formulating any policy changes. I very much hope that when I have finished drafting it properly, it will find favour with my noble friend.

My Lords, I welcome the opportunity to participate in this debate. I welcome the Minister to his place and my fellow members of the Parliamentary Commission on Banking Standards, the noble Lord, Lord Lawson, and the noble Baroness, Lady Kramer. We started off on a three- or four-month project, which ended up taking over two years, with 10,000 questions. We presented the Government with recommendations and I am pretty disappointed in the Bill tonight, as are the noble Lords, Lord Eatwell, Lord Lawson and Lord Sharkey. I will focus on the ring-fence, the senior managers’ regime, Bank of England governance and, lastly, transparency and disclosure.

The noble Lord, Lord Lawson, and I were at one from the very beginning in that we wanted separation in banking. But we went along with the concept of ring-fencing to give it a chance. We actually spent almost a disproportionate amount of time on it, so it was a big issue in our deliberations. I well remember Paul Volcker coming to give us evidence on that. He was very clear. He said, “You are going to have two boards. It is naive to expect the holding company directors to have anything other than an unremitting interest in responsibility for the retail”. So you cannot separate those issues. He was very clear—as we were—that the culture is different. If it boils down to one thing, it is that the retail bank has to be customer focused, whereas the investment bank is trading and it is anonymous. It devalues and eliminates the personal relationships. That is the difference between the two of them. I do not think that this will ever change. We had individuals who came to the committee who were very supportive of the ring-fence—for example, Sir David Walker, who was chairman of Barclays. But hey presto, five or six months later, he has an article in the Daily Telegraph saying that ring-fencing has had its day—even before it has come in. The issue of lobbying is right at the heart of this very Bill.

Let us not forget that, post-crisis, banks are both bigger and more complex. The big issue now is “too big to manage”. I well remember the chairman of HSBC, Douglas Flint, coming before us. I asked him the question, “Is HSBC too big to manage?”. He said, “That is a good question”. There was no other answer on that issue.

Look at the size of the 28 global banks: in 2006 their combined total was $38 trillion—an average size of $1.4 trillion per bank. In 2013, seven years later, it has gone up from $38 trillion to $50 trillion, with an average $1.8 trillion for each bank. We speak here in trillions. Can we understand what trillions are? If we ask the question “What is a trillion seconds?”, the answer will come back: “32,000 years”. Trillions are a hell of a lot of money—and lots of people in the banking sector do not understand what the issues are in their individual institutions.

When Lehman’s went down, there were hundreds of legal entities connected globally. The issue was that it could not connect the individual pieces, hence it went down. Is it any different today? I do not think it is. So the concept of separation, as the noble Lord, Lord Lawson, said, needs to be kept alive by this Government. It cannot be dismissed.

On the senior manager regime, the main recommendation of the Parliamentary Commission on Banking Standards concerned the lack of individual accountability at the top. There was a no-see, no-tell policy, with no one responsible. We were very clear in our recommendation when we said that the problem is that:

“Top bankers dodged accountability for failings on their watch by claiming ignorance or hiding behind collective decision-making. They then faced little realistic prospect of financial penalties, or more serious sanctions”.

Now the Government are dropping the plans to reverse the burden of proof, which would have forced senior managers to demonstrate that they have done the right thing if there was wrongdoing on their watch. That is a concern. Why the change? We are changing the burden of proof from the senior manager to the regulator. It will be necessary for the regulator to prove that the senior manager had not taken steps before bringing disciplinary proceedings. The previous FCA chief executive, Martin Wheatley, was very clear when he said that there is an accountability firewall within institutions. Here we see the Government watering down that very proposal.

There is a history to the attempt by the regulator to hold banks to account. We should look at that history when we are filing this legislation. The mis-selling and misconduct of PPI, which went on for 15 years or more—we still have the remnants of it—has cost UK banks £40 billion in fines and redress. That £40 billion is three and a half times the cost of the London Olympics. Who has been fined or brought to account on this? If we look at Land of Leather, we find that the chief executive was disciplined by the FCA for mis-selling, but he is the only senior manager to have been disciplined. What is the moral in that? It is that if you mis-sell in a sofa shop, they are coming after you, but if you mis-sell in a financial system that is systemically important, then you are safe. What a condemnation.

I recall one regulator saying in a speech made in 1998 that senior managers were not held to account. He was very clear. He said that:

“One of the least appealing features of a number of the scandals I referred to at the outset was that while junior and operational managers have lost their jobs and been disciplined”,

the senior managers get away without that responsibility. He followed that up in a speech made in April 2001 when he said that, when things go wrong, we should look directly to the senior manager, whom we should hold accountable. In the case of the failure of Barings Bank or the pensions mis-selling debacle, senior management has not been held directly accountable. He asserted that:

“Now we have a system of personal registration, where specified individuals at the top of the firm have clearly set out responsibilities for risk management and compliance, for which we hold them accountable”.

Who was this individual who spoke in 1998 and 2001? Why, it was none other than the chairman and chief executive of the FSA at that time, Sir Howard Davies, who is now the chairman of the Royal Bank of Scotland. He said, in 2001, that they had a system in place. So, what price believing the Government when they say they have a system in place, given that the man whom they ensured was appointed chairman of the Royal Bank of Scotland made a statement 15 years ago that is full of holes, if ever anything was? We have a real problem in that, 15 years later, we have no decent remedy. The Government are jettisoning any chance of achieving that in this Bill, which is a matter of sorrow for us all, including the Parliamentary Commission on Banking Standards and others here tonight.

On the issue of Bank of England governance, much of the Bill does seem to be technical, but perhaps that is largely to do with the Governor wanting to reorganise the Bank. But the real problem is a lack of constitutional accountability. Mention has been made of Clause 12, entitled “Bank to act as Prudential Regulation Authority.” The Prudential Regulation Authority has responsibility for the microprudential regulation of the solvency of banks. As Chairman of the Treasury Select Committee at the time, I can tell noble Lords that the PRA did not work. That is why the Chancellor, George Osborne, changed it. But now, through his own architecture he is downgrading the PRA to a mere committee, not a subsidiary of the Bank that works as a separate authority. Given the experience of the past seven years or more, there is a need for a free-standing PRA with its own rule book. The recent failures of the Co-operative Bank and the Britannia Building Society should warn us that microprudential regulation is still vital. More answers need to be given as to why it is to be downgraded.

My noble friend Lord Eatwell made the very important point that the structure of the Bank is becoming opaque and not fit for purpose. Given the experience of the past seven years, there are many questions regarding the Bank and monetary policy. For example, what changes to the remit might have improved its performance before, during and after the recession? What has the true effect of QE been? Has it enriched the rich at the expense of the poor? Has it increased inequality? One thing we do know is that it has added £15,000 more debt to every person in the United Kingdom. Who pays that? Is it the banks or the investment companies? No, it is the ordinary citizen. These are relevant questions to ask of the Bank of England, which has not been probing enough.

Should the Bank of England have a broader, dual mandate similar to the Fed’s? In the light of devolution, should we have broader regional representation, as the Fed has with its 12 regional banks? How will an independent Bank of England be more accountable to Parliament, and what will the role of the court be with the Treasury Select Committee? This issue of the court is not finished. It proved itself not to be up to standard during the financial crisis, and this just seems to be shifting different responsibilities about with seemingly no coherent strategy from the Government.

We need a wider engagement and a review looking at the future of the MPC. A number of years ago, when I was Chairman of the Treasury Committee, I established the Future Banking Commission to take the matter up with Parliament. I asked David Davis to chair it and he did an excellent job; the Liberal Democrat Vince Cable was also on it. We came out with our proposal, reported in June 2010 and the Conservatives accepted it—David Cameron said he would take it forward. As a result, we had the Vickers commission, which also reported in due course. We then had a Parliamentary Commission for Banking Standards, and now we have the Banking Standards Board, of which I have been asked to be deputy chairman. A focus outwith Parliament—a social dimension—has led to politicians and regulators looking at this issue again.

That is why, when Professor David Blanchflower phoned me earlier this week to ask me to join a committee—along with Adam Posen, the former MPC member, and Simon Wren-Lewis, professor of economics at Oxford University—I accepted. He told me that John McDonnell, the Shadow Chancellor, had asked him to form the committee. I replied that I would be delighted to be on it, on two conditions. The first is that it has to be independent, having nothing to do with any political party; the second is that it should have no resources from any political party. We need a cross-party, wider social engagement and we will report to any and every party. It is very important that we undertake this work. I hope that over the next two years, we will be able to engage with different people who can point the way forward to the future for an independent Bank of England, because there is a big democratic and constitutional issue still to be resolved. If our recommendations are taken up after 18 months or two years, we will be delighted.

I would like to finish on a note of transparency, with the disclosure of a contemporary issue. A few weeks ago, the Investment Association sacked its chief executive, Daniel Godfrey. He had tried to establish a set of principles, following the recommendations of the Kay review, for the industry as a whole to abide by. Two of the principles are that,

“we … always put our clients’ interests first and ahead of our own”,

and that:

“Costs and charges should never be so high as to compromise the likelihood of achieving agreed objectives”—

that is, the objectives agreed with clients. It all seems quite reasonable, but Schroders, Fidelity and M&G adamantly refused to sign up—though others did, such as Hermes Investments, which has put the principles on its website. Consequently the Investment Association chief executive was booted out the door. I thought that seemed a little superficial and needed to be examined a little more, to see why it happened.

Further examination indicated to me that at the heart of the matter was the issue of dealing commissions. For every trade, as noble Lords know, a broker is paid—usually an investment bank. However, part of that sum is put into another account to buy research from the investment bank. In the United Kingdom, £3 billion per annum is spent on dealing commissions, with half that figure passed back to the fund managers who then pay investment banks and others for their research. That £1.5 billion—which does not appear on profit and loss accounts—is paid out of clients’ money. It is the ordinary person in the street, striving for a pension, who pays—and let us keep in mind that the average pension in this country is £15,000. Some £1.5 billion is being siphoned off these dealing commissions, which are paid by ordinary people. Should we not see this as a kickback—as bribery? Meanwhile people on small pensions are struggling to make their way to ensure a decent reward for themselves. That is a contemporary scandal: £1.5 billion of customers’ money being used not to satisfy customers’ own ambitions but those of fund managers. It is one of many scandals in the global banking sector—I think the total is getting near $300 million of fines or redress. Again, that money is not paid by institutions; it comes from the ordinary saver.

All these scandals could be reduced to one, core scandal: that the customers’ interests are secondary to the interests of the industry. I suggest to the Government that they are compounding the problem with the change to the senior management regime. Until they address the issue of personal responsibility properly, as the noble Lord, Lord Lawson, and others said, society will continue to be cheated and the Bill will do nothing to address that.

My Lords, in general I welcome the Bill as it applies to the Bank of England, but in the second part of my speech I will say a few words about overregulation. As other speakers have stated, the Bill is split into three main parts. The first sets out the proposed changes to the Bank of England’s governance and procedures connected to its accountability. The second includes a number of provisions linked to the regulation of financial services, in particular the introduction of the SM&CR regime. The third contains provisions on the issuing of bank notes in Scotland and Northern Ireland.

What I like is that many of the Bill’s provisions linked to the governance and accountability of the Bank of England build on changes and suggestions announced by the Bank in 2014. The announcement was accompanied by two reports containing further details on the proposed changes—the Warsh review and the Bank of England’s own report. The Bill was in the Queen’s Speech, when the Government said that this would ensure that,

“the Bank is well positioned to fulfil its … role of overseeing monetary policy and financial stability”.

It will also ensure that the UK’s regulatory framework remains at the forefront of internationally agreed best practice standards.

Clauses 1 to 15 contain the proposed changes to the Bank of England’s governance, financial arrangements and prudential regulation. The Bill changes the membership of the court—it adds an additional deputy governor post. This has not been mentioned by other speakers, so I ask the Minister: what is the rationale behind that? As other speakers have said, the Bill also assigns the oversight functions to the whole court to operate more like a unitary board. The Financial Policy Committee becomes a committee of the Bank, rather than a sub-committee of the court.

The Bill also intends to clarify the Bank’s responsibilities for prudential regulation by ending the status of the PRA as a subsidiary of the Bank. I note the concerns raised by the noble Lord, Lord McFall, on that front. Instead, the Bill provides that the PRA is the Bank of England and creates a new Prudential Regulation Committee with responsibility for the Bank’s functions as the PRA.

The Monetary Policy Committee is also subject to change in the Bill. Generally, the MPC has worked pretty well in recent years, judged by the low level of inflation and of interest rates. The big move is in the timing of publication of the MPC’s minutes. It is proposed that they are now published as soon as is reasonably practical following a meeting. The MPC will meet fewer times in the year, changing from at least once a month to at least eight times a year. I do not really know what effect that will have, but it may be less or more valuable in these circumstances.

As other noble Lords mentioned, the Bill gives the National Audit Office the power to carry out examinations of the economy, efficiency and effectiveness with which the Bank uses its resources in discharging its functions. It also gives the Treasury power to carry out value-for- money reviews of the prudential regulation functions of the Bank. I disagree with other speakers; it seems to me that that is a sensible role for the NAO. Also, I like new Section 7D(3), in Clause 11, which says:

“An examination under this section is not to be concerned with the merits of the Bank’s general policy in pursuing the Bank’s objectives”.

Clause 3 gives the oversight functions previously delegated to the oversight sub-committee of the court to the full court. I note the comments from the noble Lord, Lord Eatwell, on this. I am slightly concerned about the reduction of the oversight committee’s role, although the Government say that it will simplify the way the Bank’s oversight functions operate.

Part 2 of the Bill makes a welcome change. Here I disagree with most other speakers. I think that the reverse burden of proof in situations of regulatory breach was a very bad idea: that you should be presumed guilty until proved innocent does not seem to go down well in many other areas of the law. The original regime meant that a senior manager responsible for certain areas of a firm’s business would be presumed accountable when regulatory requirements were contravened in that area. Now it will be necessary, quite rightly, for the regulators to prove that a senior manager has not taken reasonable steps to prevent that contravention to avoid being found guilty of misconduct.

SM&CR is due to come into force in March next year for financial services firms, defined as banks, other deposit-takers and those investment firms which are regulated by the PRA. The Bill extends the operation of SM&CR to cover all firms carrying out regulated activities under the Financial Services and Markets Act 2000. Part 2 also extends—which I welcome—the remit of the Government’s Pension Wise service to holders of annuities specified by the Treasury, so that it can deliver guidance to pensioners who will be eligible to sell their annuity income stream in 2017. I also welcome the duty that Part 2 imposes on the Bank to give the Treasury information about what action the Bank proposes to take if a particular bank fails, such as what impact the failure will have on the financial system and on public funds.

In the rest of my speech I have a few words to say about a paper produced by an organisation called New City Initiative, which supplies an independent expert voice in the debate on financial reform. Its intention is to restore society’s trust in the financial sector. I worked in the investment management sector until 2005.

The UK investment management industry generates about 1% of GDP and remains Europe’s leading centre for fund management. It earns an estimated £12 billion a year for the UK, and London is the hub of specialist boutique firms. The financial crash of 2008 was especially damaging. The serious long-term cost was, perhaps, the death of trust.

Extra regulation was clearly necessary, but the extent is open to debate. The UK SME asset management sector has traditionally been vibrant and grown strongly, but is now stagnating, because start-ups cannot afford the cost of increased regulation. A chart from the FCA shows how the number of new firms—approvals—declined from 230 in 2004 to between 150 and 170 in 2014.

Boutique asset and wealth management firms find compliance increasingly onerous. New financial regulations from the EU and UK are applied equally to the very biggest and smallest asset management firms, disregarding their ability to shoulder the consequent financial and legal burdens. If financial regulation is not imposed more proportionately on large and small asset management firms, New City Initiative is convinced that many fewer start-up firms will come to market. This arrest of competition will damage all, but especially the consumer, because choice will become more limited. The complexity of new regulations, and the potential punishment for infringement of them, pose massive obstacles to the growth of competition in the sector.

A new priesthood, called compliance officers, has emerged from the financial crash. Extra regulation is necessary, but as the regulatory regime continually evolves, becoming ever more complex, and the scale of potential punishments becomes so damaging to small firms, the temptation is for compliance officers to engage in gold-plating, to avoid any possibility of failure to comply. Their numbers—again according to the FCA—have more than doubled in the last 14 years.

I make a final point on banking regulation generally. Can the Minister say whether it is true—as I have read—that retail banks are going to be allowed to pay dividends to their investment banking operations?

Overall I welcome the Bill and wish it safe passage through the House.

My Lords, I should declare an interest as the chair of the board of the National Audit Office and it is in that capacity that I want to address the audit proposals contained in Clauses 9 to 11. I should say at the outset that, unlike the previous speaker, I have major reservations about these proposals. Those reservations are shared by the Comptroller and Auditor-General, as has been mentioned. We believe that the clauses as drafted are deeply flawed and that, if they remain, they will create an expectation that the Comptroller and Auditor-General is prepared to carry out value-for-money studies in circumstances that would compromise his independence. They would also create a damaging precedent for other audit work across government. Let me explain those concerns by reference to specific clauses.

Clause 11 seeks to provide the Comptroller and Auditor-General with powers to undertake value-for-money studies at the Bank but does not provide for the audit independence that is essential to genuine accountability. The importance of this independence is enshrined in the National Audit Act, which applies to most of the C&AG’s work. Under that Act the C&AG has,

“complete discretion in the discharge of his functions”,

whether any examination is carried out,

“and … the manner in which any … examination is carried out”.

Under the Bill, the C&AG would not be able to decide whether an examination was carried out but would instead have to persuade the Court of the Bank of England to allow him to examine an area. This clearly limits greatly the C&AG’s freedom of action and therefore his ability to hold an important public entity to account for the use of its resource.

The Bill also states that the C&AG’s examinations are,

“not to be concerned with the merits of the Bank’s general policy in pursuing the Bank’s objectives”.

This is a further unacceptable constraint on the independence of the NAO and differs again from the language used in the National Audit Act. That legislation prohibits the NAO from questioning the merits of policy objectives but, in contrast, the Bill prohibits the questioning of the policy fulfilling those objectives and, as such, it limits and confuses the C&AG’s remit. I assume that the Bank, or maybe others, have argued that to give the NAO full value-for-money rights would limit the Bank’s own independence. But the NAO already operates in many different sectors with full rights, without impinging on the independence of the public bodies concerned.

It has always been accepted by the C&AG that he cannot, for example, question the merits of policy objectives. In many circumstances—for example, in the military—it is accepted that it would not be appropriate to question operational decisions. In the context of the Bank of England it is entirely accepted that it would not be appropriate, for example, to examine the Bank’s interest rate decisions. To suggest that the NAO might take a different view is to ignore decades of experience of successive C&AGs in the most sensitive areas of government. If this clause remains as drafted it will inevitably set a damaging, indeed dangerous, precedent for audit and accountability right across government. The NAO currently audits a wide range of public bodies, including the recent addition of Network Rail. Many of these, like the Bank of England, are concerned to be independent of government in their operational decision-making. If these provisions remain as drafted then every new body, and many existing ones, will want the same ability to veto and limit the NAO’s work, to the great disadvantage of Parliament and the taxpayer.

I can be more succinct in dealing with Clauses 9 and 10. Clause 9 seeks to provide the C&AG with some of the powers he would have if he was the auditor of the Bank’s financial statements. This aims to ensure that he has access to the information he would need to identify and undertake VFM studies. However, given the severe limitations placed on the C&AG’s VFM examinations, this is little more than ceremonial in reality. Clause 10 seeks to ensure that the activities of the Bank which are the subject of an indemnity or guarantee given by the Treasury, and which therefore represent a risk to public funds, are audited by the C&AG. The Bank would still, however, have the power to elect which aspects of the relevant financial reporting framework to accept—thus limiting again the NAO’s ability to conclude on the truth and fairness of financial statements.

I will make three further points of clarification. First, the NAO did not at any point lobby for powers over the Bank. The NAO was approached by the Treasury, not the other way around. When it became clear that the proposed clauses, as drafted, were unacceptable, the C&AG informed the Treasury of his strong concerns at the earliest opportunity. However, the clauses remain.

Secondly, the C&AG has sought to achieve some consensus with the Bank, and met with the deputy governor for prudential regulation on 3 September. At that meeting, he offered further discussions on the audit arrangements. Regrettably, that offer has not been taken up by the senior management at the Bank.

Finally, some might argue that some access on the part of the C&AG is better than none. However, limiting access in the way the Bill now proposes would create an expectation that the C&AG was prepared to carry out value-for-money studies in circumstances that would compromise his independence. He is not. It would also, as I have said, create a damaging precedent. Neither the C&AG nor the board of the National Audit Office regards this as acceptable, and I will therefore seek the removal of these clauses from the Bill, if the further discussions already kindly offered by the Minister do not find us a way forward.

My Lords, I regret to say that I, too, have reservations about this legislation. First, with regard to the restructuring of the Bank of England and the PRA, I agree with much of what the noble Lord, Lord Eatwell, said. It also, to some extent, came across to me like shuffling the deckchairs—I will not say on the “Titanic”—and I wonder really whether there will be much or any effect. Power will stay with the governor. The Bill is full of contradictions in that it says it is aimed at integrating the PRA and microprudential policy more fully into the Bank—not, by the way, why or how—but then makes the PRA responsible to the Bank’s Prudential Regulation Committee and at the same time counters this by moves to protect the PRA’s operational independence. What does it want? To be candid, I think the PRA needs to be an independent regulator. It should obviously liaise with the Bank of England on its other functions, but I would have thought that that would be pretty automatic.

I did not like the abolition of the oversight committee and agree with the comments made by other noble Lords. There are also measures that are described as strengthening governance, but to my mind what is missing is something comparable to the senior managers and certification regime which banks are going to have. At present there is no laying down of responsibility or accountability by regulatory staff in the PRA, the Bank or the FCA, and yet I think we all know that the FSA had significant involvement in causing the banking crisis through wholly inadequate and inappropriate regulation.

There is a code of practice for all Bank committees on handling conflicts of interest. That is excellent, but I am surprised to discover that, at least at present, the Bank is banning anyone joining the court who is either an executive or non-executive director of a bank. It seems to me that NEDs, in particular, are very much the eyes and ears of regulators and the court should have people on it who can actually report on what is going on in the real commercial banking world. I agree with what the previous noble Lord said about the National Audit Office. Again, it seems that the Bank wants to have its cake and eat it, in that, while the National Audit Office has power to launch value-for-money searches, the Bank is there to define what is policy and to exclude the NAO from anything it chooses to define as policy. That undermines the independence.

Back in 2012, as noble Lords will know, the Act set clear rules for the Bank’s operational responsibility and the Treasury’s responsibility in the light of the banking crisis, the Treasury having the whip hand as being responsible for any decision involving public funds. We now have a detailed MoU of how the two are to interact. Personally, I think it is inappropriate and unnecessary and could actually be cluttersome in a crisis, when speed is of the essence, but there seems to be an obsession everywhere nowadays with writing every last micromanagement detail down.

As for the senior managers and certification regime, the objective of raising standards of conduct—not just of senior managers but of the next layer of management also—and of identifying responsibilities is clearly excellent. However, I was disappointed to find no mention of the fundamental principle of integrity and honesty. In that context, I declare my interest in the register and, in particular, as a director of Metro Bank. I am seeing the other end of this coming in at Metro Bank. By the way, I think that “guilty until proven innocent” had to go. As Andrew Bailey pointed out, the courts would throw it out in due course anyway, as being contrary to the very fundamentals of British law.

At the other end of the new regime, again, there is an awful lot of paper. I chair the nomination and remuneration committee and at our first session looking at it there were 40 pages of detail and 26 different areas of responsibility to be worked out and gone through. To me, it has come across as somewhat overprescriptive, but, I repeat, without the all-important requirement of principles.

There is also a strange requirement for senior managers to notify the regulator every year if they think the regulator would have grounds for withdrawing approval from any particular senior manager. I think that a rather strange requirement; I certainly would not want to be the manager or director responsible for that.

The time limit for disciplinary action is raised from three to six years. I can understand the reason for that. I am slightly more critical of making a criminal liability for alleged reckless decisions leading to bank failure. It is fine after the event, but something viewed as reckless subsequently may not have been viewed as such at the time, so there are definitional problems there.

With the next layer certification regime—that is, internal management certifying annually the next layer of management’s fitness and propriety—there is a complication of three material risk areas: European Banking Authority criteria, PRA criteria and FCA criteria. It also covers staff with the ability to take independent decisions to commit the bank and to affect the bank’s risk profile, and all staff giving any form of advice. I think the certification regime is rather sensible and ought to be capable of being managed well by the banking industry. My main criticism is that it is wrong to include NEDs who chair one of the main committees within the management grouping, in that, first, NEDs are increasingly the agents of regulators on a bank board anyway—their duties are very much in the area of making sure that the bank is run properly. Secondly, they are not actually involved in the day-to-day management of banks, so I have yet to have anyone explain to me or particularly convince me as to the appropriateness of the chairman of the various committees being within the management regime.

Furthermore, I may be overly concerned, but extending the regime to all the financial services industry beyond banks seems strange, in that banks are quite different from fund management or insurance businesses. How they are run requires an appropriate oversight regime. I also make the point that the investment management industry came through the crisis perfectly well, and I do not really see that there is a huge need to impose new layers of management monitoring on it—it is quite a well-managed industry. But it is not yet clear what extending the regime across the whole sector actually means.

I have a few final points. When looking at the consultation document, it seemed to me that those who participated were nowhere near a representative sample of the City or the financial services industry generally. I would have thought that whoever organised the consultation should have roped in some other more suitable parties. I remain concerned at the mounting costs of regulation, ultimately borne by clients, pension funds and the public, and raised by the noble Lords, Lord Lawson and Lord McFall. Yes, indeed, the volume of fines paid since 2010 by the top five US banks and top 20 European banks is equivalent to $300 billion. As pointed out, that is shareholders’ money and, frequently, pension funds’ money; more seriously, it limits the ability of the banking system to lend. If there is one thing staring you in the eye that was wrong with the banking system, it was that it was under-capitalised, and it still is under-capitalised. I believe that banks should have a capital ratio of towards 8%; that is what one was taught when learning economics 50 years ago. So you are just taking away the capital—and I should like to see some attempt to address the ability of regulatory authorities to fine institutions in this way. It would probably at least need UK and US co-operation; it has got out of control and is completely damaging.

Despite the hour, I have enjoyed listening to the deliberations thus far and the many knowledgeable banking contributions. In fact, I signed up to speak on just one clause—Clause 24, concerning pensions guidance. As we have heard, this clause is an enabling provision which expands the scope of the guidance service, Pension Wise, to those considering selling their income from their annuities to a third party. It leads to regulations, what type of annuities might be covered and the interest therein. Doubtless, all this will be aligned with the legislation that ensues from announcements already made, and the Treasury consultation on the creation of a secondary annuity market.

The extension of Pension Wise to cover these situations is, in principle, unobjectionable, but it gives the opportunity to reflect on how the service is working so far and how the implementation of the reforms commencing in April this year are working out. It will be a pointer to whether Pension Wise is actually fit for purpose. The Budget 2014 announced that individuals aged 55 and over would be able to access their DC pensions savings as they wish, subject to their marginal rate of income tax. That was, for good or ill, a profound change to the tax landscape. It was recognised by most that for change to work, individuals would need help to review and explore the options available to them. So the Government determined that individuals should have a guarantee that at the point of retirement they would be offered guidance that was free, impartial and of a consistently good quality and that covered a range of options to help them make decisions, including taking further advice.

These arrangements were, of course, legislated for in the Pension Schemes Act 2015 and were debated at length in your Lordships’ House and the other place. A particular bone of contention was whether there should be a second line of defence in encouraging referrals to the service, which has certainly proved to be necessary. The upshot of all this is a service that consists of a face-to-face component to be provided by CABs, branded Pension Wise, a telephone service to be provided by TPAS and an online service organised by a Treasury team drawn from the Government Digital Service and the Money Advice Service. New duties have been placed on the FCA to have responsibility for the setting of standards and monitoring compliance. It seemed to be the Government’s original intent that the Treasury would retain responsibility for service design and implementation until it was,

“very satisfied that it is working well and is seen to be in a stable and successful state”.—[Official Report, 12/1/15; col. 568.]

Can the Minister therefore tell me how it considers this requirement has been met, given the announcement in September that, because of a strong strategic fit, Pension Wise should move to the DWP by April 2016, and the announcement in October that there is a need to identify a long-term home for the service? What on earth is going on? How does this uncertainty help the service, particularly in its early period, and especially if it is to take on the wider requirements for guidance which the creation of a secondary annuity market will entail?

Of course, we now have the benefit of the report from the House of Commons Work and Pensions Select Committee, hot off the press. The committee had a number of significant concerns about the current situation. One of these was the dearth of information on the use being made of the new pension freedoms, and in particular a near complete lack of data about Pension Wise itself. It pointed to there being no research programme tracking consumer outcomes. The committee noted that the take up of face-to-face and telephone guidance appeared to be lower than many had expected. Expectations when the Pensions Bill Committee was under way were that the take-up rate for guidance would be over 75%, and some 25% initially. The FCA found that, in the three months to June 2015, more than 200,000 individuals accessed their pension pots but fewer than 20,000 completed face-to-face and telephone Pension Wise appointments. This would seem to be consistent with suggestions that the CAB is running at 10% to 15% of its capacity and is redeploying staff to other duties. Would the Minister care to comment on this?

A number of reasons have been advanced for this slow take-up: limited early publicity because of parliamentary purdah, the propensity of individuals to take the path of least resistance and to look to existing established providers, and that the requirement on pension providers to give risk warnings and signpost consumers to Pension Wise is being followed more in the letter than in the spirit.

This is all deeply worrying. Pension Wise was designed to fill a gap in support for consumers, and the Government should see these concerns addressed before loading the service with further obligations arising from the secondary market. Of course, the service currently is predicated on the flow of those reaching retirement; causing the stock of those with existing annuities to be covered raises different issues of capacity. It is estimated there are some 5 million individuals with 6 million annuities.

The Select Committee report makes a number of recommendations, some of which the Government appear to be taking forward, although we would wish to probe these further in Committee. These recommendations include the Government publishing or causing to be published regularly a range of data on such matters as consumer characteristics, take-up of guidance and advice, and the decisions individuals make. Given that the pension freedoms have increased the prospect of people being conned out of their life savings, the recommendations urge a redoubling of publicity around pension scams, advise that the FCA strengthen its rules on guidance for pension providers regarding Pension Wise signposting and risk warnings, and state that there should be a research programme to track consumer outcomes.

It is acknowledged that the Government have launched a nationwide marketing campaign to raise awareness of the guidance service, and that two related consultations are under way. A consultation on public finance guidance has just been launched, and a financial advice market review consultation commenced in August. I presume we are unlikely to see these reports by the time the Bill leaves your Lordships’ House; nevertheless, we will use this legislative opportunity to take stock of how the pensions relaxations are progressing and to consider the protections that need to be in place for the secondary annuity market, which is a very significant development.

My Lords, I start by declaring my interests as in the register which are, I am afraid, rather specific to the Bill. I am a non-executive director and deputy chairman of a small British bank regulated by the PRA and the FCA. As a director of a bank, I am also an approved person, so I potentially have some conflicts of interest in the Bill, which I fully recognise.

New to the debate on banking regulation, the Bank of England and so on, I rather naively thought that the Bill would be relatively uncontroversial. Listening to this debate has rather changed that view, and I look forward to our debates in Committee because they have every potential to be quite interesting. I express my sympathy to the Minister because he is obviously in for a difficult time.

I welcome the changes proposed to bank regulation. They almost look like a tidying up of the internal structure of the Bank of England, but potentially they do more than that by integrating still further the PRA into the Bank of England. I hope that this will give the Bank of England the opportunity to strengthen the regulation of the financial sector in the UK. One of the reasons London is successful is because foreign investors and institutions have confidence in our tough but flexible financial regulations. In my experience, one of the weaknesses of the late, not very lamented, FSA was that it was very rules-based. Its rules ran to several substantial volumes, as those who dealt with it will remember well.

Financial institutions, and banks in particular, are not easy to regulate. On the face of it what they do is very simple, so to make a decent living banks have to devise clever ways of adding value and of distinguishing themselves from the competition. Many are very innovative and pay key staff a lot of money to find new ways of providing services to their clients. They are always developing new products and new ways of doing business. Regulating them based on what they did last year, or last time there was a financial crisis, will guarantee that the regulator is behind the curve on the risks that banks are taking. Arguably, this was a major contributory factor to the crash of 2008. Regulators around the world did not understand, or if they did, they did not have the powers to stop the banks taking unreasonable risks or selling products whose risks neither the banks nor the regulators could assess. I do not know if fully integrating the PRA into the Bank of England will make this better come the next financial crash, but it should make it easier for the Bank of England to run financial regulation on a holistic basis rather than on rules designed to stop the previous financial scandal.

I am not advocating a return to regulation by a nod and a wink, which formed at least part of the regulatory system prior to 1998, but it is vital for regulators to have access to market intelligence and to be able to act on it. Maybe market intelligence is putting it too high; what I really mean is that regulators should be able to listen to gossip and rumour. Perhaps this is a similar point to the one made by my noble friend Lord Flight when he was talking about the Court of Directors. Regulators have to have the power to follow and act on leads that no self-respecting lawyer would consider evidence-based. This would be helped if the Bank of England could take back some of the day-to-day money market activities presently undertaken by the Treasury. As an aside, I hope that the closer integration of the PRA and the Bank of England will enable the regulators themselves to be paid properly. If they are not, the good ones will be sorely tempted to switch sides and work for the banks they used to regulate, weakening the ability of the regulator to regulate and enabling the banks to game the system.

The other part of the Bill I want to mention is the proposed extension of the authorised person regime to all financial institutions in the UK including:

“UK branches of corresponding foreign institutions”,

and all types of financial service firms. This has to be long overdue although I can see that it will be fraught with difficulties. We are seeing a convergence of the risks taken by investment banks, hedge funds, family offices, sovereign wealth funds and investment managers. I dare say that some of these will not be capable of regulation under this—or probably any other—Bill or, at any rate, not without severely damaging London as a financial centre, which would be throwing the baby out with the bathwater, so to speak.

I welcome the Bill. I hope that when it comes into force the Bank of England and the PRA will use it to develop ever-smarter means of controlling risk in the financial sector, while encouraging innovation and the growth of the UK as a worldwide financial centre. I look forward to our discussions in Committee.

My Lords, the hour is late and I am sorry to detain the House longer than might have been expected. I wish to make a short contribution on a specific theme relating to the role of the Bank of England in helping deliver the Government’s economic policy for strong, sustainable and balanced growth. I wish to focus on the word “sustainable”. As we debate the Bill in this House, I hope we will think about the wider sustainability of our financial sector. In particular, I have questions I would like to put to the Minister. These relate to the role of the financial sector’s regulatory frameworks in helping to ensure that we are not susceptible to future shocks or crises born of growing global environmental risks.

At the start of the financial crisis, investors went from believing they knew the value of products containing sub-prime mortgages to realising they knew little about what they were worth, and that was a very disorderly transition. The lesson for the challenges we face from climate change is that we should not underestimate risks we know exist because we lack a sufficiently clear framework to understand their implications. I believe our financial regulators must have a role in ensuring that climate risks are properly appreciated and that the transition is as orderly as possible. The City of London has a particular exposure to climate risk: close to one-fifth of FTSE 100 companies are engaged in upstream fossil fuels and, according to the Bank of England, 30% of equity and fixed-income products are exposed to climate risk.

I would therefore like to touch briefly on three areas. The first is disclosure. In its response to the consultation on the Bill, the Treasury referenced the governor’s recent speech which talked of the need for more and better disclosure about climate risk. Does the Minister agree that there is currently an information gap and that better disclosure of information is needed? Are we, for example, monitoring the extent of the exposure to fossil-fuel-based risk that the UK-listed company market is carrying and how this risk is changing over time?

My second point concerns time horizons. Typically, monetary policy has a future time horizon of only one to three years, and other financial regulatory horizons, including credit rating agencies’ modelling, are typically also short term. How can longer-term risks be better incorporated into the Bank’s thinking without overloading it with impractical burdens? Both the Committee on Climate Change and DECC regularly use decadal-long timescales in advising on and setting policy. One answer could therefore be to require more joined-up thinking between different parts of the UK governance framework through, for example, a closer working relationship between the Committee on Climate Change and the Bank of England, both of which are independent bodies of experts reporting to Parliament.

Finally, is there more that can be done to enable stress testing of economic policy and investment decisions, through the use of carbon pricing scenarios? What role can the Treasury, the City of London and the Bank play in helping to ensure that comprehensive carbon-pricing policy is introduced and works effectively? We know that well-regulated capital markets can be incredibly efficient and drive strong and sustainable and balanced growth, but they do need to be well regulated.

We know that multiple risks lie ahead in relation to climate change and that London is a city well placed to think through its implications in advance of its becoming a crisis. We also know, in advance of the international climate talks in Paris, that the UK rightly wishes to be seen as a thought leader on climate change and our response to it. We must ensure that our economic regulatory framework protects us against the non-linear risks associated with the impacts of climate change and that it also helps to deliver an orderly transition to a world with a safe climate. I hope in Committee to progress this line of argument, and I thank noble Lords for their patience this evening.

My Lords, the hour is indeed late and I suspect that, like me, noble Lords are feeling utterly exhausted. However, this has been a genuinely brilliant debate and I am delighted that I have had the opportunity to listen to the speeches that have been presented so far. I shall try to restrain my comments because so much has been said, and I shall contribute to the debate only where I have something additional to say.

A number of Peers addressed the fundamental issue of oversight of the Bank of England. I share their concerns—in this, I am with the noble Lord, Lord Eatwell, my noble friend Lord Sharkey and the noble Lord, Lord Flight, rather than with some of the other speakers. During all the conversations that we had, particularly during the passage of the 2012 Bill, we were utterly focused on the issue that the noble Lord, Lord Eatwell, defined as “groupthink”. We had a financial services industry that allowed a systemic risk to grow and eventually lead to a crisis, in large part because independent thinking was continuously crushed. The Bank of England was just as guilty as any other party of becoming engaged in groupthink. This led to the demand for an independent oversight group. As I read the changes that this Bill puts forward, that group is now captured by the insiders within the institution, and that has to be examined. Independent supervision and oversight are surely critical. I know that the Bank does not like it but we who sit on the outside know that it is no insult to an institution to insist on independent oversight.

That brings me to the issue of the audit. We must listen to the noble Lord, Lord Bichard. He speaks with an expertise that, frankly, few in this House have. I hope very much that he will bring forward amendments at later stages of the Bill, because the concerns that he has expressed are absolutely central and key. I also hope that the Government will take notice of the issues that he has raised. The lack of independence in the audit provision is surely of fundamental concern.

I am with those who are very concerned about the absorption of the PRA back into the Bank. I remember the conversations around this—again, they concerned the groupthink issue. We talked about the importance of making sure that the Bank was not one single monolith and that there should be an opportunity for real challenge rather than groupthink. The sharing of agendas and the pursuit of the same priorities were things that we all sought to avoid when we looked at the 2012 Bill. I would much rather see the PRA move to greater independence than be absorbed back into the Bank. I see no reason for the latter other than a sense of architecture. We will be pursuing that issue.

The noble Lord, Lord Lawson of Blaby, along with many others, talked about personal responsibility. I rather disagree with the noble Lord, Lord Lawson, because he is willing to accept a change to the reversal of the burden of proof. He, the noble Lord, Lord McFall, and I sat in hearing after hearing where former chief executives of institutions constantly claimed that they had no knowledge of the abuses being perpetrated within their organisations, even though those abuses and the profits that they led to drove very large bonuses for those individuals. It is a fundamental principle that if you take the bonus, you take the rap. We heard chief executive after chief executive say things such as, “I was shocked when I read about it”. The LIBOR scandal, PPI, money laundering and the simple failure to follow decent credit standards all seemed endemic across banking institutions, but senior management and chief executives did not take responsibility.

What also struck me when we talked to those who had to enforce the regulations was the inability, having identified the abuse, to track up through the system and find the chain to senior management. That was one of the real drivers in reversing the burden of proof. When we listened to Tracey McDermott or Hector Sants, it was so evident that they could not find the email trail or track of phone calls; they could not find the path that took them up to senior management. I do not believe that the change to the statutory duty of responsibility deals with that adequately. The whole point about reversing the burden of proof was to overcome the ease with which that firewall was created between what happened inside banks and the awareness and responsibility of senior management.

We often talk about how limited regulation is in its ability to make fundamental change and that it is culture that counts. By making those senior managers responsible, we drive the change in culture. We saw banks with boards that never challenged what a chief executive did. However, a chief executive who is concerned that they might be liable for abuses in their own institution will want a challenging board. We saw bank after bank that failed to drive its culture down through the bank itself. Again, a chief executive is going to lead on this issue if he or she thinks that they are particularly at risk. It is that shift in the burden of risk that we wanted to achieve by the reversal in the burden of proof. I am very concerned that that has been abandoned.

A number of other noble Lords raised issues of great interest that this Bill gives us an opportunity to address, including that of diversity. The noble Lord, Lord Naseby, talked about the mutual sector and the right reverend Prelate the Bishop of Portsmouth talked about the importance of credit unions. We have in this country a real paucity of different types of financial institution. Look at the Mittelstand in Germany; it is very much supported by community and regional banks. In the United States, small businesses are very much supported by networks of community and local banks. We are missing those layers of banking. Regulators have always resisted any responsibility to have regard to that kind of diversity and the access that it offers, and have been satisfied with a very narrow definition of competition. In this Bill, we have a chance to change that and to emphasise the importance of diversity for long-term financial stability and also because of the way that it can create that generation of new activity and prosperity, particularly in local communities. I hope that we very much take advantage of that.

The noble Lord, Lord McKenzie of Luton, focused on Pension Wise. This is an excellent opportunity to be able to review where pension guidance is now, in a field that is constantly expanding. If change is needed, it would be an opportunity to use this legislation as a vehicle. I am personally very concerned by the number of people I talk to who do not understand the difference between guidance and advice and are getting themselves into a trap of faulty decision-making as a consequence of that.

This will be a useful Bill. However, I am sad that the direction in which the Government seem to have taken it is to roll back some key provisions, particularly around the reversal of the burden of proof and the oversight of the Bank of England.

There is nothing in the Bill that addresses the issues of ring-fencing. However, the noble Lord, Lord Naseby, raised the absolutely key issue. When we on the Parliamentary Commission on Banking Standards looked at the retail banks, it was evident that the taxpayer subsidy—the protection of the taxpayer deposit—created a pool of cheap cash that was funnelled from those retail banks up to their investment banking arms and drove a lot of the wild trading that we saw, which ended up undermining our financial stability. It is really important that that chain is broken. Therefore, the issue of ring-fencing is an entirely appropriate one to address within this Bill as we move forward to ensuring that the ring-fence, as the noble Lord, Lord Lawson, says, moves towards being electrified rather than weakened.

It has been tremendous to be part of this debate; I really look forward to the following stages. Like the noble Lord, Lord Carrington, I think this is going to be an exciting Bill if not a simple one.

My Lords, the House owes the Minister a degree of thanks for the effective and precise way in which he introduced the Bill, though I perhaps detected that, as this is a fairly modest Bill of only 30 clauses and four schedules and contains some measures of limited contention, he thought that this was a fairly straightforward exercise. As soon as my noble friend Lord Eatwell had made his contribution, however, the Minister probably realised that, in fact, there were going to be a series of challenges on some quite fundamental points. I am going to discuss those in some detail, but we all recognise that the great opportunities we have for following through the broad arguments put today are during the remaining stages of the Bill, on which we all will strive to be active. In my own party, the shadow Chancellor is carrying out a review of the very issues that have been commented upon in relation to this Bill, and my noble friend Lord McFall is due to serve on that committee, which will be chaired by David Blanchflower, formerly of the court of the Bank of England.

There have been a number of excellent contributions to the debate but I wish to acknowledge that of my noble friend Lord Eatwell, who has very considerable knowledge of these issues. He was unremitting in his trenchant criticism of certain aspects of the Bill. I assure the Minister that those issues will be presented further as we go along. In particular, questions of transparency and scrutiny have come out in this debate. I do not want to put words into the Minister’s mouth, but I hope he will accept that two key planks for the reforms the Government need to get right are in exactly these areas.

Furthermore, there were comments on the financial stability strategy and where the ultimate responsibility for that lies. Of course, this relates to the changes to the structure of the Bank and the new position of the Prudential Regulation Committee. We are bound to be interested in how effectively the Bank pursues financial stability strategies, against a background of its having to take some responsibility for the catastrophic failure that occurred in 2007-08.

There are two other areas that might have looked technical—the National Audit Office and the restrictive role envisaged for it in relation to the Bank—but it is quite clear from the comments of the noble Lord, Lord Bichard, that this idea will not be accepted in committee without the most vigorous debate. The Minister will also have noticed that several anxieties were expressed about the reverse burden of proof being abandoned before it had been significantly tried. We will certainly want to look at the Government’s reasoning behind that concept in the Bill.

Transparency and proper lines of accountability are key for any institution, particularly those whose decisions have such an impact on the public. They are also critical to the trust and confidence that people have in an institution. We need to ensure that the changes being made—particularly changes to the membership of the Court of Directors, the abolition of the Oversight Committee and the changed status of the Prudential Regulation Authority—meet those standards, a point made by my noble friends Lord Eatwell and Lord McFall, who made some trenchant comments on these matters.

On the Court of Directors, the Bill gives the Treasury the power, after consulting the governor, to remove or alter the title of deputy governor. That, along with the reduction in the number of non-executive directors on the court from nine to seven, will clearly alter its structure. The Bill also establishes that in future, alterations to the Court of Directors will no longer need to be done through primary legislation but will be subject to regulation. Who in the Treasury will determine the changes in relation to the deputy governor, and can the Minister outline how that decision will be taken? The Bill states that the Treasury can make changes to the Court of Directors after consulting the governor. Can the Minister say how that will work in practice, or be prepared to answer that fundamental issue in Committee?

Will the Minister go into more detail about the rationale behind the reduction in the number of non-executive directors on the court, and what does the Treasury regard as the benefits of this reduction? I would also be interested to hear why the Minister feels it is appropriate to make these changes through secondary rather than primary legislation.

Noble Lords also commented on the disappearance of the Oversight Committee, which the Bill intends to abolish, of course. It was established by the Financial Services Act 2012 in order to keep under review the Bank’s performance. As part of that, it may commission reviews and keep track of the delivery of any recommendations. The Government need to explain why they think they can dispense with that body, and how effectively its functions will be carried out in a different way. They will be transferred to the Court of Directors. However, Clause 4(3) states:

“The oversight functions of the court of directors (as defined by section 3A(2)) may be delegated to a sub-committee of the court consisting of 2 or more non-executive directors of the Bank.”

How on earth can this be removing a layer of governance, if the legislation gives enabling powers for another committee to be formed? There is an essential contradiction in the Government’s thinking on these issues. What safeguards are in place as a result of moving this committee in-house? Are the Government convinced that this will lead to self-evaluation, rather than some independent judgment? On the future make-up of the sub-committee for oversight, how far will oversight stretch if this function is being delegated to two non-executives? Previously, six non-executives were expected to perform that function. What prompted that change?

On the issue of transparency and oversight, the changes being made to the Prudential Regulation Authority and the reforms included in the Bill end the PRA’s subsidiary status and integrate its microprudential policy into the bank. The PRA board will be replaced by the Prudential Regulation Committee, which will be solely responsible for exercising the Bank’s functions as the PRA. We are concerned about whether this represents a downgrading, as it is no longer a freestanding committee, and we will want to explore that in Committee.

Turning to the financial stability strategy, the Bill moves the responsibility from the court to the Bank itself. What is unclear is how the various bodies that have previously been involved in developing this strategy will be affected by the proposed change. The Government’s impact assessment states:

“At present, the Bank’s financial stability strategy is set by the Court after consultation with the FPC … and HMT”.

It goes on to say:

“Making the Bank responsible for setting the strategy, and allowing the Court to delegate production of the strategy within the Bank”

—which is the essence of clause 5—

“will ensure that Court is responsible for the running of the Bank and that the Bank’s policy committees are responsible for making policy.”

We need to examine that further. Who in the Bank of England is responsible for producing the financial stability strategy? If it is the FPC, that needs to be made clearer than it is in the Bill.

The role of the MPC has been discussed in great detail as well, but I have a couple of technical points to make at this stage for the sake of clarity. The Bill makes changes to the make-up of the committee, the requirement on the number of meetings and the publication of minutes. Does the Minister anticipate that this will improve the MPC's work, and how? What prompted the change? More fundamentally, I ask the Minister how these alterations really succeed in terms of protecting consumers of banking services.

Then there is the crucial question of the operation of the National Audit Office. I do not need to repeat, but I fully support, the remarks made by the noble Lord, Lord Bichard. He is right that the quality of independence, which is critical to a successful and proper audit, may be compromised in the arrangements made in the Bill. The Minister will have to address that issue, too. It is quite clear that the National Audit Office will continue to have independence in determining a value-for-money programme within the framework proposed: it is for the Government to make sure that that framework guarantees that position.

The noble Lord, Lord Lawson, raised the crucial issue of how we hold banks and financial institutions responsible—in terms of personal responsibility, as he saw it. He also introduced the issue of ring-fencing, although I would imagine that as far as the Government are concerned that is also a fairly contentious measure. Nevertheless, the noble Lord, Lord Lawson, is quite right to raise that issue within the framework of this Bill. I hope that it, too, will be pursued in Committee.

A number of noble Lords—my noble friend Lord McFall and the noble Lords, Lord Flight and Lord Sharkey, and others—raised the question of why in replacing the approved persons regime the reverse burden of proof was being altered. We are by no means convinced of the arguments on that front as yet. The Minister will be asked to make those points clear in Committee.

A number of other issues were raised. The noble Lord, Lord Naseby, introduced the issue of the mutuals. We could not possibly deal with a Bill of this kind without paying attention to their significant role. The right reverend Prelate commented on credit unions. They, too, have their proper place for consideration in this Bill. My noble friend Lord McKenzie identified the anxieties about the progress with regard to pensions advice—in what is one of the most crucial years for this, but it is only the first or second of crucial years. It is quite clear that we are going to have to wrestle with this issue of adequate advice for those who are seeking to change their position with regard to pensions and annuities. They will need a great help on that. Finally, my noble friend Lady Worthington raised quite fundamental issues about the financial strategy being responsive to environmental risks. We surely would be remiss if we did not take that into account as well.

This has been a fascinating debate. The Minister does not have to reply to every point at this stage—we would be here for an unconscionable time if he did—and we have the delights of Committee, Report and Third Reading ahead of us before the Bill completes its passage. But if the Government think that the Bill is a relatively modest one, and even one with limited contentious issues within it, what has been established this evening is that it has much that we need to challenge them on.

My Lords, I begin by thanking all those who have spoken and for their excellent contributions. I am very conscious that the hour is late, so I am delighted that the noble Lord, Lord Davies, says that I do not have to respond to every single one of his points, as we would all need our sleeping bags if I were to do that. I think that the noble Lord also said that this Bill is exciting, and on a typically dull day in your Lordships’ House, I am sure that we could all do with some excitement to pep up our lives. Let me assure noble Lords that if I fail to respond to points that have been made, my door is open and I will certainly either write or meet to discuss them.

Let me start by addressing points that were raised by the right reverend Prelate the Bishop of Portsmouth and my noble friend Lord Naseby. They both stressed the importance of the diversity of business models, especially mutuals and credit unions. I agree entirely with the noble Lord, Lord Davies, on the need for diversity. As noble Lords will know, the PRA is required to have regard to differences in the nature of and the objectives of businesses. This important recognition of diversity is preserved under the new arrangements, but I would be delighted to meet and discuss these matters further.

My noble friend Lord Lawson talked about ring-fencing, as did the noble Lord, Lord McFall. Let me tell your Lordships that the implementation of the ring-fence is obviously the primary responsibility of the PRA, but we are monitoring the way in which firms are implementing it. There is no evidence to date that firms are gaming the ring-fence, and as noble Lords know, we discussed at length whether it was necessary to have full separation during the debates on the banking reform Bill, but obviously we decided to go for ring-fencing. The Government remain of the view that it is appropriate.

I turn to the issue of dividend payments, raised by my noble friend Lord Northbrook. The PRA proposed rules on dividend payments are entirely consistent with the ring-fencing legislation and the recommendations made by the Independent Commission on Banking. There has not been a watering down of what are very robust requirements. The ring-fenced bank will be required to be legally, economically and operationally separate from the wider banking group and will have to interact with entities in the wider group on an arm’s-length basis. It is entirely appropriate that excess profits from the ring-fenced entity can be used to capitalise the parent company. This must be viewed in the context of the significant extra capital that the ring-fenced banks will be required to hold. Only excess capital above and beyond this would be eligible to be moved to the parent company. The PRA has rightly retained the power to prevent these payments, which the ring-fenced bank must inform the PRA of in advance if it feels that they would impact on the resilience and resolvability of the ring-fenced bank. There is no threat that these rules will result in a poorly capitalised ring-fenced bank.

I am sure that we will return to that issue, as we will to the next one I wish to address, which is the oversight function and committee and groupthink, which the noble Baroness, Lady Kramer, and others referred to. Let me start by saying that the court will have the ability to appoint independent experts to manage reviews as well as the continued ability to delegate to a sub-committee, including a sub-committee of non-executives. The balance of non-executive and internal members will ensure external challenge, while the abolition of the oversight committee will ensure that the statutory oversight functions are the responsibility of the whole court. It is worth noting that Andrew Tyrie has welcomed this change. I suspect—although I do not want to put words into his mouth—that Mr Tyrie, like me, sees this as an issue of transparency and accountability, both of which I believe are improved by this Bill. The noble Lord, Lord Eatwell—who has had a lot more experience of these issues—described the Bill as,

“opaque and not fit for purpose”;

I dispute that, but I am sure we will return to that issue in Committee.

I would like to refer briefly to one of the problems caused by the oversight committee. I shall just quickly outline this, if I may. In 2013-14, the foreign exchange market investigation sought to establish whether any bank officials had been involved in or aware of FX market manipulation. As your Lordships may know, the Bank governors initiated an extensive internal review on this and made regular briefings to court. In March 2014, when it became clear that an independent investigation would be appropriate, the oversight committee took over the investigation, appointing the noble Lord, Lord Grabiner QC. That was a good use of the oversight functions, but in practice the executive needed to join the oversight committee discussions for them to function and be effective, both as the investigation progressed and once attention turned to delivering recommendations. It would have been better, in practice, to make the oversight function the responsibility of the whole court, which is what we are now doing.

I turn now to the question—which I believe the noble Lords, Lord Davies and Lord Sharkey, asked—of why the number of non-executive directors will be reduced to seven. This is to make the court a smaller, more focused unitary board, as I said at the start. The Bank’s 2014 report Transparency and Accountability at the Bank of England said that,

“consistent with best practice in the private sector, the Bank sees the value of continuing to evolve towards a slightly smaller body, with a non-executive chair and majority”.

It cited the Walker report—the review of corporate governance in UK banks and other financial entities, published in 2009—which identified the optimum size of a board as between eight and 12 people.

On the subject of the board, the noble Lord, Lord Eatwell, raised concerns about the shift of financial stability strategy from the court to the Bank. Under current legislation, the court is responsible for determining the financial stability strategy, but this Bill will make the Bank responsible for determining the strategy. The noble Lord suggests that this was a shift to an “amorphous entity” and may serve to weaken the production of the strategy. This Bill ensures that aspects of its preparation can be delegated, so that the full expertise of all relevant areas of the Bank can feed into production of a single overarching strategy for delivering the Bank’s financial stability objective. The court, as the governing body of the Bank, will retain ultimate responsibility for the strategy, as it has now.

I turn now to those who have made an eloquent defence of the reverse burden of proof. I would like first to address a small point that the noble Lord, Lord Eatwell, raised about lobbying. Concern has been expressed that the Government have removed this provision in response to lobbying from big banks. I wish to be very clear. We are aware of the views of the banks on this matter. It is no secret and no surprise that they were not in favour of the reverse burden of proof policy, but the Government did not discuss their intention to make this change with any Bank before they made their decision.

I ask noble Lords to let me explain why the Government believe that the reverse burden of proof should be superseded by the duty of responsibility. I am sure we will return to this in Committee, but I would like to make some points now. In the interests of fairness and regulatory coherence, it is vital that the regime is rolled out consistently across the industry. Otherwise, a senior manager in a small building society would become subject to the reverse burden of proof, but one in a large investment firm that did not quite meet the criteria to be PRA-regulated would not. That is not fair, nor is it proportionate. While misconduct by firms of any size can seriously impact on the welfare of consumers or on market integrity, the potential impact is larger in the case of the large investment firm than the small building society.

Secondly, it would clearly not be proportionate to apply the reverse burden of proof across the financial sector, including to the small organisations that will now make up the majority of firms which will come under the regime, and which pose more limited risks to market integrity and consumer outcomes. The reverse burden of proof makes it much harder for such firms to recruit senior managers, since they cannot offset the personal risk attached with high remuneration. This is particularly problematic for credit unions, for example, which provide vital services to vulnerable people.

Our solution is a tough statutory duty for senior managers to take reasonable steps to prevent regulatory breaches in the areas of the firm for which they are responsible, applied consistently across all authorised financial services firms and coupled with the other elements of the regime. This will deliver the intended benefits of the reverse burden of proof in a much more proportionate way. I draw your Lordships’ attention to my phrase “coupled with other elements of the senior managers and certification regime”. It is important that we do not underestimate the step change that the other reforms recommended by the Parliamentary Commission on Banking Standards, and those noble Lords who were part of that, will deliver.

As I pointed out earlier, the SM&CR marks a move to a situation where firms and senior managers must take responsibility for how a firm conducts its business. Crucial among the provisions that deliver this are the statutory statements of responsibility that each senior manager must keep up to date, sign and submit to the regulators, setting out clearly the areas of the firm’s business for which they are responsible.

The noble Lord, Lord Eatwell, raised the issue of transparency. I argue that these steps will mean that there can never be any doubt for the individual concerned, the firm or the regulators what each senior manager can be held accountable for. This makes a statutory duty to prevent regulatory breaches in these areas a powerful incentive for senior managers to run their businesses well and a formidable enforcement tool if they fail to do so. Let us not forget that if a senior manager does not fulfil this duty, the regulators can and will enforce against them. Penalties could include prohibition and/or an unlimited fine.

I will briefly touch on the point that my noble friend Lord Flight made. I believe that he is concerned about the mounting cost of regulation. The PRA and the FCA are committed to implementing the SM&CR in a proportionate way, particularly for small firms. The SM&CR will lead to a significant reduction in the number of appointments subject to prior regulatory approval, from just more than 200,000 approved persons to just more than 100,000 senior managers. The extended SM&CR will not include the obligation to report to regulators all known or suspected breaches of rules of conduct for employees. Feedback during the SM&CR implementation process for banks has shown that these obligations can have significant cost implications for firms, quite apart from their other burdens on firms or the individuals concerned.

I turn to the other major issue discussed, which is the issue of the NAO conducting value-for-money studies. The noble Lord, Lord Bichard, was concerned that the mechanism built into the Bill to protect the Bank’s independent policy-making goes too far and could impede the NAO’s ability to conduct independent value-for-money reviews. I note the noble Lord’s extensive experience in this field. His concerns are well argued and should be taken very seriously. No doubt we will debate them and I look forward to meeting him to discuss this in due course. However, pulling in the other direction are equally serious concerns for the vital policy-making independence of the central bank, where drawing the line between what does and does not constitute policy is particularly complex.

We have had to strike a balance in the Bill to protect the independence of two vital public bodies. That is why the Bill requires that, in the event of disagreement between the NAO and the Bank over the definition of policy, the NAO must make public the disagreement, ensuring that the process will be transparent and open to full public and parliamentary scrutiny. I hope that noble Lords will understand the desire for this balance and I look forward to discussing the mechanism we have chosen to achieve this in more detail in meetings and in Committee should that be useful.

The noble Lord, Lord McKenzie, raised some very specific questions on Pension Wise. To do him justice and merit, I will write to him to address them specifically. The noble Baroness, Lady Kramer, raised the issue of distinguishing between advice and guidance—a point very well made. The financial advice market review, which published its consultation document on Monday 12 October, recognises that the distinction between advice and guidance is not always consistent with people’s understanding of what advice is. It seeks views on how there could be greater clarity in this respect. As I am sure the noble Baroness knows, the consultation period for this will close shortly before Christmas.

I am very conscious that, at a late hour, I have not done justice to the excellent points that have been made. I look forward in the weeks ahead to debating and discussing these measures with your Lordships in more detail, and my door is always open. I thank noble Lords for their contributions today. To conclude, I would argue that—

My Lords, before the Minister sits down, can he comment on the sustainability issue that was raised by the noble Baroness, Lady Worthington, and that I happened to overlook?

Indeed I can. These issues were raised and I am more than happy to meet the noble Baroness to discuss them in due course. This issue was raised by the Governor, Mark Carney, in a recent speech, and it is one that the Bank is always looking at. I am happy to discuss that in due course.

To conclude, the reforms in the Bill will strengthen the governance and accountability of the Bank of England, update resolution planning and crisis management arrangements between the Bank and the Treasury, and extend the principle of personal responsibility to all sectors of the financial services industry.

Finally, I return to a point raised by the noble Lord, Lord Sharkey, about the balance on the PRC and the role of the FCA CEO. First, it is right to consider the FCA CEO as external to the Bank: he or she is not a Bank appointee. The legislation therefore ensures that there is a majority of externals on the PRC, since the legislation provides for at least six externals plus the FCA CEO, compared to five Bank committee members. It is also worth noting that, for the PRA board, the legislation requires a majority of externals on the board and includes the FCA CEO as an external for these purposes. The legislation, therefore, will reinforce the independence of the PRC compared with the PRA board.

In the debate I raised the issue of transparency and disclosure regarding the Investment Association. This is a current issue and I would like an assurance from the Minister that they will take this issue up with the regulators—both the Bank of England and the FCA—to see if we can do something to assist transparency and disclosure in this industry.

My Lords, I am all in favour of transparency and am happy to meet the noble Lord to discuss those issues. I hope the noble Lord will forgive me for not giving a blanket commitment here and now, but I am more than happy to meet him. Transparency must be in the interests of everyone, as long as it is applied proportionately. I am acutely aware that the noble Lord has a lot of experience in this field, so he will forgive me for not agreeing to that request here and now.

I thank your Lordships for all your contributions today.

It would be helpful if the Minister, after reading the debate, and after his officials have looked at it and seen areas in which he could usefully enlighten us before the Committee stage, could write to the Members concerned. Everyone in the House would appreciate that.

I certainly will do so, my Lords. Communication between us all will be very fruitful as we proceed. There are many technical issues here that we cannot perhaps do justice to on the floor of the House. It would be good to meet beforehand. I should also extend my apologies to the noble Lord, Lord Davies, because I believe he was unable to come to the briefing we had on this Bill, but that is my fault, not his. I am entirely in favour of good communication.

Can I simply ask whether the Minister agrees that we will see the new impact assessment, promised in the current impact assessment, prior to Committee?

My Lords, I can agree that it is certainly being worked on. We will continue to work on it, and share and discuss the issues of the impact of these measures with the noble Lord. I absolutely agree that we need to make sure that the measures on the extension of the SM&CR, which is what I presume the noble Lord is referring to, are done in a proportionate and careful way. We must heed previous cases where that has not been properly, so I entirely agree on that.

Let me end by thanking your Lordships for your contributions today. I ask the House to give the Bill a Second Reading.

Bill read a second time and committed to a Committee of the Whole House.

House adjourned at 10.41 pm.