Tuesday 15 January 2019
My Lords, if there is a Division in the Chamber, we will adjourn the Committee for 10 minutes.
Interchange Fee (Amendment) (EU Exit) Regulations 2018
Considered in Grand Committee
My Lords, the Treasury has been undertaking a programme of legislation to ensure that the UK continues to have a functioning legislative and regulatory regime for financial services in the event that the UK leaves the EU without a deal or an implementation period. This statutory instrument will fix deficiencies in UK law relating to interchange fees applicable to card payments, as well as in rules for card schemes, issuers, acquirers and merchants.
The approach taken in this legislation aligns with that of other statutory instruments being laid under the European Union (Withdrawal) Act. While fundamentals of current financial services legislation will remain the same, amendments are required to ensure that it continues to function effectively. Every time someone makes a payment using their debit or credit card, interchange fees are paid from a merchant’s payment service provider—for example, their bank, which is referred to hereafter as an “acquirer”, to a card user’s payment service provider, referred to hereafter as the “issuer”.
Interchange fees are typically set by card schemes, for example Mastercard and Visa. The EU interchange fee regulation of 2015 introduced two main policy interventions. First, it imposes caps on the interchange fees where both the acquirer and the card issuer are located within the EEA. The caps do not apply where either the acquirer or the card issuer are located outside the EEA. The caps limit these interchange fees to 0.2% of the total value of the transaction for consumer debit cards, including prepaid cards and 0.3% for consumer credit cards. It allows member states to set lower caps for domestic debit and credit transactions where both acquirer and issuer are in that country. Secondly, the EU interchange fee regulation sets rules on cards schemes, issuers, acquirers and merchants; these include requiring the separation of card schemes and processing entities, for example WorldPay.
Under a no-deal scenario, the UK would be outside the EEA; the scope of the EU interchange fee regulation would therefore no longer include the UK. As a result, the interchange fees set by card schemes would no longer be capped for payments that involve a UK acquirer and an EEA card issuer.
Higher interchange fees could in turn be passed on to UK businesses and consumers directly or indirectly. Without a change in scope of the UK legislation, caps would still apply to card payments involving an EEA acquirer and a UK card issuer. This would result in asymmetrical obligations on UK businesses.
This statutory instrument will make amendments to retained EU law related to the EU interchange fee regulation 2015 to ensure that it continues to operate effectively in the UK. First, it will reduce the scope of the EU interchange fee regulation in the UK from the EEA to the UK; the result is that the interchange fee caps will continue to apply to card payments where both the merchant’s acquirer and the card issuer are located in the UK. Card payments where either the merchant’s acquirer or the card issuer are located outside the UK but within the EEA will no longer be subject to the interchange fee caps. This statutory instrument mirrors the EU interchange fee regulation with regard to setting the level of the cap for domestic card transactions. It allows the Treasury to set lower caps on UK consumer debit and credit card transactions by making regulations exercisable by statutory instrument, subject to the negative procedure.
The statutory instrument also transfers powers from the European Commission to the Payment Systems Regulator to make regulatory technical standards regarding the requirements for separation of card schemes and their processing entities. This is in keeping with the Treasury’s general approach of delegating responsibility for technical standards to the appropriate UK regulator. The Treasury has engaged with the Payment Systems Regulator and industry in drafting the SI.
In November, the Treasury also published the instrument in the draft, along with an explanatory policy note to maximise transparency to Parliament and to the industry. The Secondary Legislation Scrutiny Committee requested further information on the costs that might result to businesses and consumers. As explained, and as is included in the updated Explanatory Memorandum that was relaid on 19 December, the most significant impact in this area is that interchange fee caps will no longer apply where either the merchant’s acquirer or the card issuer are located outside the UK but within the EEA. Any adjustment to interchange fees thereafter would be a commercial decision. Such impacts would be as a result of the UK leaving the EU, rather than as a result of an approach taken in this SI. The direct costs as a result of this SI are minimal.
In summary, therefore, this SI is necessary to ensure that the UK’s legislation and regulatory regime remains effective in the event that the UK leaves the EU without a deal or an implementation period. This will be to the benefit of UK businesses and consumers. I hope noble Lords will agree, and join me in supporting these regulations, which I commend to the Committee.
I thank the Minister for his introduction. It is said that if you drown, your past life floats before your eyes. I feel a bit like that every time we meet to discuss these onshoring of SIs. Not only are we drowning in them, but there is rather a lot of my past life wrapped up in them. I got a double dose yesterday. It occurs to me that if I were to pick this up for the first time, as is the case for other noble Lords, I could not rely on the Explanatory Memorandum to help me out with the complete background and context of why there was such legislation in the first place. We know what the EU did and what it does in imposing the cap, but why it is done or why it was done is relevant to remarks that I will make on how the onshoring has been done.
Placing a cap on card payment interchange fees was a hotly contested debate at the time, not for great party-political differences, but by the payment service providers, who did not want a cap on their profits or to have to be transparent about the breakdown of costs. I recall that it was incredibly difficult to get a true handle on what was or was not reasonable as a cap, because the lobbying was so confusing and lacking in transparent facts. If I further recall correctly, the UK Government were quite sensitive to the lobbying and were not among the most hawkish when it came to fixing the cap. In Parliament we harboured rather greater suspicions about the credit card companies. What was known was that EU consumers paid billions in interchange fees, because the costs, of course, are passed on to the goods. It was €9 billion in 2011. There had been competition investigations by national competition authorities and the Commission, which took proceedings against Mastercard and Visa.
The key problem was that cardholders, who are generally unaware of interchange fees, or at least their size, are encouraged to use cards that generated higher fees; at the same time the card companies competed to attract issuing banks by offering them the higher interchange fees. Those mechanisms operate to drive fees up rather than drive them down. As a consequence, that caused the disappearance of some of the cheaper cards, and the UK was among the countries that suffered—so did the Netherlands, Austria, Finland and Ireland.
On the receiving end of the fees, the merchants and consumers had no power of redress on the competitive balance, even though the cost of the interchange fees was ultimately borne by them. So market intervention was needed, and that, in the end, resulted in the agreement of these caps. The measure was copied by other countries because there are benefits to that regulation, even in an individual territory.
There was an added cross-border dimension in the EU because it enabled banks from other countries that offered lower fees to come in and compete. Prior to the legislation, card schemes were able to apply rules to prevent retailers using better-priced schemes from other countries. The difference could be significant. Interchange fees varied from 0.1% to 1.5% in 2014, prior to the cap. The UK was neither one of the worst nor one of the best. From the largest providers, debit card rates were of the order of 0.24%, and credit card rates were 0.9%. The new caps of 0.2% and 0.3% were clearly an improvement, and applied to cross-border transactions within the EEA as well as domestic ones, as has been explained.
I fully understand the logic of how the onshoring has been done, in that the UK and EEA will be third countries to one another, and the Explanatory Memorandum makes it clear that cross-border transactions with the EEA will no longer be capped. That comes from the third-country provisions of the regulation and presumably how the UK will be treated by the EU. I have no doubt that, where relieved from an obligation, credit card companies will seize the opportunity of making more profit.
In particular, I draw attention to paragraph 12.4 of the Explanatory Memorandum:
“It is technically possible that, in this instrument, the UK could mandate interchange fee caps that apply to the interchange fees that UK card issuers would be permitted to charge to international transactions. However, this would place asymmetrical obligations on UK businesses vis-à-vis third countries, whereas the current situation provides symmetry with EEA countries. The default onshoring approach to fixing deficiencies relating to the scope, is therefore to reduce the scope of the regulations to UK-only, rather than extending the scope worldwide”.
There might well have been other ways of dealing with it. I have seen a lot of these onshoring SIs now, not just from the Treasury and other departments, and sometimes symmetry is aimed at—sometimes not. Sometimes the EEA is put in the third-country box and sometimes not. Sometimes a continuing, although asymmetrical, arrangement is used. We have examples of that in the next batch of SIs on funds. We have already had it with regard to occupational pension funds.
I greatly regret the choice that the Treasury has made. It has given in to saying we will let card issuers make more profit. What is the justification beyond defaulting to symmetry? If I go on holiday and use my UK cards, will I find that merchants start to add on surcharges? Will I find that my UK cards might not be accepted? Was there really the need to aim for symmetry? If the fees on the cards are increased, those are the kinds of consequences that we saw before we had PSD1 and PSD2, the payment services directives. I cannot find a reason why the credit card companies should be protected rather than the UK consumer. Those companies are being given a windfall.
Of paragraphs 12.2 and 12.5—I think they were added in addition due to the Secondary Legislation Scrutiny Committee—the former says:
“Businesses may potentially face more significant costs as a result of the scope of the regulations”,
but that is going to rely on,
“commercial decisions taken by card schemes”.
Paragraph 12.5 addresses the effect on the consumer—it is all going to result from,
“the commercial decisions of businesses to adjust interchange fees, as opposed to the onshoring approach taken in this instrument”.
But the onshoring approach could have been taken as one to protect the consumer rather than to give the credit card companies their head. Would it not have been better to try to maintain the current state and, then, if for some reason it was not working, to give the Treasury the power to make a change?
I would like a little more information from the Minister about what efforts were made to see whether costs for the UK end could be properly pinned down. Just because the EU end can become a rip-off does not mean that the same practice should be condoned at the UK end. I do not count it as a competitive disadvantage to not be able to rip off customers. After Brexit, the issuers in the UK will no longer be in direct competition with the issuers in the EU. To say that they are at a competitive disadvantage—I think that is what “asymmetric obligations” is meant to imply—does not hold. All that is being allowed is a potential rip off, and what is the logic of that?
Finally, I turn to the cap itself. I know that the Treasury has not so far availed itself of the discretion to reduce the cap below the maximum set in the EU regulation—nor, I think, has it done the 5 cent debit card limit—but it is good to see those possibilities being onshored. Currently, the UK is stuck at 0.3% for credit card fees, although 19 EEA countries have reduced that to 0.2%. Is providing HMT with that power a precursor to using it? Would the Treasury perhaps consider using it as compensation for allowing cross-border holiday rip-offs to commence? I do not consider paragraph 12.4, or the accompanying explanations in the other paragraphs I have quoted, a good enough justification for what has been proposed. I can see the headline: “Government abandons consumers to credit card rip-offs on holiday”.
This is badly done. If we had the opportunity to amend it, I would suggest that we did. On most of the things done by the Treasury, the jump has been made the right way. I regret to say that, on this, the jump has been made the wrong way. The asymmetrical approach would have been much fairer to the consumer.
My Lords, last night, the House expressly rejected no deal in its vote. That is also Labour Party policy. These orders should not be necessary, but when the Government put instruments in front of us, our role is to ensure effective scrutiny of all SIs and to expose any serious concerns. We believe that this is consistent with our role as a revising and scrutinising Chamber. Having said that, and having listened to the splendid seminar on credit cards by the noble Baroness, Lady Bowles, which leaves me better informed, if not necessarily wiser, I have very few comments to make on this particular SI.
I start by expressing my sheer irritation with the failure to provide timely impact assessments. It seems utterly absurd. Paragraph 12.5 of the Explanatory Memorandum states:
“A full Impact Assessment will be published alongside the Explanatory Memorandum on the legislation .gov.uk website, when an opinion from the Regulatory Policy Committee has been received”.
That might have been snuck out in the past two or three days, but there is no reason to have an impact assessment if it arrives only after all the legislative procedures have been completed. We should have a thorough explanation from the Treasury as to why that is happening.
Once again, having said that, the Treasury produced guidance on these SIs—at paragraphs 7.1 to 7.9, I think—which are, word for word, the same in all Treasury no-deal Explanatory Memorandums. Therefore, I have had to read them in increasing detail. My favourite sentence is at paragraph 7.4:
“These SIs are not intended to make policy changes, other than to reflect the UK’s new position outside the EU, and to smooth the transition to this situation. The scope of the power is drafted to reflect this purpose”.
As an amateur in this field, all I can do is try to test the SIs against that promise. It seems to me that the test is whether they are necessary and whether they obeyed the constraints of new policy. An interesting new area has been introduced by the noble Baroness: was there a better solution that still stopped within the test? I am persuaded that they are necessary; indeed, the Economic Secretary to the Treasury, as is required, signed a statement to that effect. I suppose that if they were left unmade, the credit card companies could rip the public off even more than where we are. I do not think that they introduce new policy, but the theme that runs through many of these SIs concerns symmetry and asymmetry. The noble Baroness has suggested that a better solution for the UK customer would have been an asymmetric solution. I will be very interested in the Minister’s response to that.
I note that the order comes into force on exit day. What I really want to know is how will the order be repealed if there is a deal. Can the Minister assure us that it is a genuine no-deal-scenario instrument and that it will be removed from the statute book if there is a deal? That seems the fundamental proof that it is a no-deal instrument.
My only other comment is that, because a no-deal solution is such a dreadful idea, virtually all these statutes create a situation in which the consumer is less well off; this is no different. As has been pointed out, consumers in the UK trading with a UK bank and suppliers will continue to enjoy protection, but there will be no protection overseas. I find it very sad that the Government believe that the chances of that happening are sufficient to require these SIs. I hope that we do not go down this road, because each of these little increments of loss of protection, particularly for consumers, is highly undesirable.
My Lords, I thank the noble Baroness, Lady Bowles, and the noble Lord, Lord Tunnicliffe, for their scrutiny of these SIs and I shall seek to address the points they made. First, in relation to the noble Lord’s point on the impact assessment, in line with the better regulation guidance the Treasury considers that the net impact on a business will be less than £5 million a year. There is potential for limited costs relating to compliance reporting to the Payment Systems Regulator. Firms will benefit from the reduction in uncertainty under a no-deal scenario. Without this instrument the legislation would be defective and firms would be left to deal with an unworkable and inconsistent framework that would substantially disrupt their businesses.
I will come to that point in a minute. There is a group of impact assessments before the Regulatory Reform Committee, the body within BEIS that reviews these. It is currently considering them and will publish an impact assessment on a wider group of SIs, including this one. If that is not the case, I shall certainly come back to the noble Lord. However, that is why it sounds as though there are two answers when in fact there is one.
My Lords, I missed the whole of the statement of the noble Lord, Lord Bates. I thought the beginning of the debate was at 3.30—which it was—and I arrived at 3.32. If the noble Lord, Lord Bates, takes the view that I should not intervene, I would quite understand. However, I am interested in this and I wonder if he would allow me to do so. Or perhaps the noble Lord, Lord Young, as the guardian of the procedure, will allow it. If he says no, I will accept that. I leave it to the noble Lord. I throw myself at the mercy of the Whips. Please say no if you do not want me to intervene.
This specific SI, to which the noble and learned Lord refers, does not have a direct impact assessment of its own because it fails to reach the de minimis threshold of £5 million. Remember, we are seeking to transpose what already exists into UK law, and the costs of doing this are meant to be de minimis. A wider group of assessments is currently going through the regulatory reform process, which will look at the impact of these SIs as a group. This is one of potentially 45 affirmatives and 14 negatives which are coming through. That work will be helpful in satisfying noble Lords on this.
The noble Lord, Lord Tunnicliffe, asked whether the SI will be repealed if there is a deal—which, I underscore, we hope there will be. In the event of an implementation period—which will be delivered through separate legislation; the EU withdrawal agreement Bill—this legislation would not come into effect in March 2019 and would be delayed until the end of that period. It could be amended to reflect an eventual deal on the future relationship or a no-deal scenario at the end of the implementation period.
The Government re-laid the Explanatory Memorandum to include additional information requested by the Lords’ Secondary Legislation Scrutiny Committee on impacts. Therefore we do not consider it necessary to publish the de minimis impact assessment at this stage.
I am trying to follow this, but is the Minister saying that all of these no-deal regulations assume that there is a deal and will therefore be repealed by the EU withdrawal implementation Bill—which is a requirement under the European Union (Withdrawal) Act at the moment—to implement a deal, or is he saying something different?
I am saying that the SIs we are dealing with derive their power from the EU withdrawal Act—in Section 8(1), as we have been through many times before. They are necessary because that Act, in whose passing the noble and learned Lord was an active participant, contains a repeal of the European Communities Act 1972. It will therefore be necessary to have something to supplement that. In the event of a deal it is anticipated that there will be an EU withdrawal agreement Bill, which would pass through both Houses, and within which provisions would be made to address the continuation of these arrangements into an implementation period. The noble and learned Lord is looking at me—
I am bewildered by this for the following reason. I understand that these regulations are required because if there is no deal, there is no implementation period. If there was an implementation period, everything would continue as before. Separately from that point, Section 13 of the EU withdrawal Act requires another Act of Parliament after a deal is approved by the Commons to give effect to the deal, whatever it is. I do not want to be too pressing but I am not getting clarity from the Minister about what the Government envisage—assuming we do a deal—in that Bill, which is required by the EU withdrawal Act. Will they simply repeal all these no-deal regulations? This instrument is a good example of the reason it matters. If it continues in force when there is a deal with a two-year implementation period, two regimes will on the face of it apply to the capping of the charges that can be put on consumer credit transactions via debit and credit cards. I may have misunderstood this but it is quite important that we know how the Government will prevent there being two regimes in practice.
I do not think the noble and learned Lord has misunderstood it. He makes a fair point as to how this will operate. The clarification I offered in my previous comments is that the withdrawal agreement Bill, which we are talking about, will delay the need to implement the provisions and allow them to be amended or repealed. It effectively gives a choice as to how these SIs would be handled. This instrument would not be required or in force during the implementation period. In that event, current EU law would continue to apply. I think it was on that point that the noble and learned Lord sought an on-the-record response.
The noble Baroness, Lady Bowles, gave a helpful analysis of the situation with regard to why we did not cap interchange fees for UK card issuers. At the moment, the interchange fee regulations maintain symmetry for payment service providers. If HM Treasury applied the interchange fee caps vis-à-vis the EEA without corresponding commitments from the EEA, that would constitute a policy change. The noble Lord, Lord Tunnicliffe, has been consistently assiduous throughout our engagements on these matters in ensuring that there should not be—
I am not quite sure that I buy that line. I can use the examples of the regulations we are about to debate, or the ones on occupational pensions. There, funds contain UK assets and EEA assets. When they are onshored, the symmetrical position and the one that we might expect the EEA to take is to narrow down the fund content: just to the UK for the UK and the continuing EEA for the EEA. That was what was done for occupational pensions, but then the point was made that that requires a lot of divesting of assets for funds—it is far better to have diversity—and that is generally not good for investors or for pensions. The occupational pensions regulations were changed so that the diversity of assets could remain. That is the proposal with the regulations we are about to debate on the subgroup of funds—the venture capital and social entrepreneurship regulations.
At the same time, third countries are still treated differently, so there is not a uniform choice that we go it alone or go down the third country route. There are occasions when this midway has been chosen to continue to stick within the greater EEA area. The noble Lord, Lord Bates, was here yesterday when we discussed this regarding parallel imports. He might have been thinking about what would be coming later, but this choice between symmetry and asymmetry, and the fact that we now have divided up into three potential territories—UK only, UK plus EEA and third country—exists. There are precedents. I am afraid that I do not think that the arguments the officials have presented the noble Lord with stand up to scrutiny.
I certainly recall every word of the four glorious hours we spent waiting to debate these instruments in Grand Committee yesterday. I also remember the eloquence of the noble Baroness’s exposition on patents, drawn from her experience as, I believe, a patent attorney in Europe.
I can only repeat that what we are doing here might not be satisfactory to the noble Baroness. She has highlighted—it is to the benefit of the Committee that she has done so—that there is a choice here. She is making the argument that there is a choice. Our view, in consultation with the industry and the Payment Systems Regulator, is that the way we have presented this best reflects the way we have onshored this approach, remaining consistent with the commitments and undertakings given in Section 8 of the withdrawal Act. I will certainly take back to my friend the Economic Secretary to the Treasury the point the noble Baroness has made. If she will allow me, I will write to her with some more details as to why that policy choice was taken. It is a choice that is there and the one used in the statutory instrument. I commend it to the Committee.
Alternative Investment Fund Managers (Amendment etc.) (EU Exit) Regulations 2018
Social Entrepreneurship Funds (Amendment) (EU Exit) Regulations 2018
Venture Capital Funds (Amendment) (EU Exit) Regulations 2018
Considered in Grand Committee
That the Grand Committee do consider the Alternative Investment Fund Managers (Amendment etc.) (EU Exit) Regulations 2018, the Social Entrepreneurship Funds (Amendment) (EU Exit) Regulations 2018, and the Venture Capital Funds (Amendment) (EU Exit) Regulations 2018.
My Lords, as with the previous statutory instrument, the Treasury is in the process of laying statutory instruments under the European Union (Withdrawal) Act. These three statutory instruments are part of the same legislative programme and will fix deficiencies in UK law relating to the regulation of investments.
The approach taken in these SIs aligns with that of other SIs being laid and debated under the EU withdrawal Act by maintaining existing legislation at the point of exit to provide continuity, but amending it where necessary to ensure that it works effectively in a no-deal context. These instruments have already been debated in the House of Commons on 9 January.
The alternative investment fund managers regulations relate to the management, administration and marketing of alternative investment funds. Investment funds are investment products created to pool investors’ capital and invest it in financial instruments such as shares, bonds and other securities. Alternative investment funds are investment funds that are not covered by the directive for undertakings for collective investments in transferable securities, commonly known as UCITS, which are aimed at retail investors. Alternative investment funds include hedge funds, venture capital and private equity funds, and are often aimed at professional investors. The EU alternative investment fund managers directive—AIFMD—created the alternative investment fund framework, and was domestically implemented primarily through the Alternative Investment Fund Managers Regulations 2013.
The second and third SIs relate to two subcategories of alternative investment funds. Registered venture capital funds aim to promote investment into small and medium-sized enterprises, such as start-ups, whereas social entrepreneurship funds focus on social enterprises whose main objective is tackling societal challenges, such as youth unemployment. These regulations create a UK-only regulatory framework for alternative investment funds in the UK. Regulations for alternative investment fund managers, venture capital funds and social enterprise funds enter into what is to be known as a temporary marketing permissions regime. The alternative investment fund managers regulations create a temporary marketing permissions regime. Currently, European Economic Area funds can make use of the EU passporting regime, which gives funds the automatic right to market across the EEA. In a no-deal scenario, the passporting system will no longer operate and EEA funds would lose the right to market into the UK, and would not be able to continue servicing UK customers as they would have before.
In December 2017, the Government announced they would introduce a temporary permissions regime for inbound passporting EEA firms and funds. The draft alternative investment funds regulations create a temporary marketing permissions regime for EEA managers of alternative investment funds, including the European venture capital funds and European social entrepreneurship funds. This will allow EEA fund managers who currently have a marketing passport to continue to market funds as they could before exit day for a temporary period. This period is for three years. However, subject to an assessment by the Financial Conduct Authority as to the effect of extending, the Treasury can extend the period by no longer than 12 months at a time.
As outlined in my letter to the noble Lord, Lord Tunnicliffe, on 7 January, the Treasury has now committed that any extension of this or any other temporary regimes would be preceded by a Written Ministerial Statement issued to both Houses of Parliament. The Statement would give Parliament advance notice of the Government’s decision to extend the temporary permissions regime ahead of the extension SI being laid. This commitment responds to the concerns raised by the Secondary Legislation Scrutiny Committee and by my colleagues in this House. While it is our continued position that the negative procedure is appropriate, we take parliamentary scrutiny seriously and hope this commitment will allay the House’s concerns in this regard.
The temporary marketing permissions regime provides continuity and certainty for passporting funds that enter the regime and the UK customers they serve. The FCA will have the power to oversee operation of the regime and have supervisory oversight of all funds with temporary permissions. While in the temporary marketing permissions regime, fund managers will be directed by the FCA to notify under the national private placement regime, which is the current mechanism that allows non-EU third country fund managers to market in the UK.
On the other provisions of these instruments, first, all these draft regulations remove references to the Union and to EU legislation, which are no longer appropriate, and replace them with references to the UK and UK legislation. Secondly, in the alternative investment fund managers regulations, the definition and scope of alternative investment funds will be amended to reflect the UK leaving the EU. Any fund that does not meet the new definition of UK UCITS will be defined as an alternative investment fund. This will therefore mean that all EEA UCITS will be regarded as an alternative investment fund in the UK. UCITS funds are a simple and regulated type of fund intended for retail investors, whereas alternative investment funds are more complex, aimed largely at professional investors, and have additional requirements, such as transparency of reporting. Requiring EEA UCITS to meet additional requirements for an alternative investment fund would be disproportionate. Recognising this, this instrument removes certain aspects of the regime for alternative investment funds that were not designed for retail funds, such as reporting requirements. This will ensure that UCITS funds will continue to be regulated proportionally in the UK as retail funds.
As UK-located funds will no longer be part of the EEA framework and will be subject to the UK regime, UK-only labels will be created. These will replace EEA labels with the “registered venture capital fund” and “social entrepreneurship fund” labels for their respective regulations. This will ensure that the regulatory framework for investment funds and their managers in the UK is clearly distinguishable from the regulatory framework in the EU.
Moving on, in line with the general approach taken to the onshoring of EU regulations, these three SIs will transfer functions currently within the remit of EU authorities from the European Securities and Markets Authority to the Financial Conduct Authority, and from the European Commission to Her Majesty’s Treasury. The FCA, as the UK’s regulator for investment funds, has extensive experience in the asset management sector, and is therefore the most appropriate domestic institution to take on these functions from the European Securities and Markets Authority. The regulators undertook a public consultation on the changes they propose to make to binding technical standards, and the FCA will release consultation feedback and the final rules before exit day.
Furthermore, powers are transferred from the Commission to the Treasury, as the suitable government body, which will have powers regarding the rules and regulations of investment funds. For example, the Treasury will be able to specify conditions for alternative investment fund managers and their obligations to disclose information to investors.
These regulations will also maintain the eligible investment arrangements and rules for registered venture capital and social entrepreneurship funds. Currently, EU legislation sets out rules on what assets these subcategories of funds can invest in. To maintain continuity for investors, this instrument will maintain existing investment rules for funds located in the UK.
An amendment to the Alternative Investment Fund Managers (Amendment) Regulations 2018 will be brought forward under the related Collective Investment Scheme (Amendment Etc.) (EU Exit) Regulations 2019, which were laid in Parliament on 17 December 2018. This will amend Part 1 of the alternative investment fund managers regulations to bring forward the commencement date of the temporary marketing permissions regime to the day after the collective investment scheme regulations are made. This will ensure that the FCA has the powers to operationalise the regime. Specifically, it will give the FCA power to process notifications before exit day.
To summarise, the Government believe that these SIs are needed to ensure that the regulatory regime for investment funds and their managers will work effectively in the UK if it leaves the EU without a deal or an implementation period, and to ensure continuity for the UK customers, the funds and their managers that they serve. I hope colleagues will join me in supporting these regulations and I commend them to the Committee.
Once again, I thank the noble Lord, Lord Bates, for his explanations. I declare my interest as a director of the London Stock Exchange PLC as some of these provisions could cover funds that might list on the exchange, although nothing I say is to do with the London Stock Exchange.
The AIFMD was a controversial piece of legislation. It was improved greatly during its long passage through the European Parliament and through trilaogues with the Council and the Commission—I think it took us more than 20 trilaogue meetings, which is a large number. I used up every ounce of my patience and innovation to keep it going until everything was in an acceptable place.
The directive started life as a way of regulating hedge funds, which were in the firing line after the financial crisis for their perceived role in the eurozone sovereign debt crisis and for selling unsuitable investments to retail investors—particularly in France which, unlike the UK, did not have any retail consumer protections in place. It was expanded to cover asset stripping. There are anecdotes around why that happened but I will not go into them here—and as I have not written my memoirs, noble Lords will not get to know them. Some hedge fund managers congratulated me on the fact that the legislation ended up in an acceptable place with nothing silly, but many resented moving from an unregulated space into a regulated space and, in the words of one manager, “having to spend time reporting things instead of just earning money”. I am afraid that, as a consequence, the legislation became a recruiting sergeant for the Brexit cause, with funds to boot. That is its sad legacy. That little bit of history augments what has already been said.
Further arrangements were introduced for the specific funds we are also talking about: social entrepreneurship funds and venture capital funds. I considered those introductions very useful, not just in their own right but because it represented the first breakthrough where some people recognised that AIFs could be good; they were usually considered to be at the bad end of the spectrum.
I have no comments on the way in which the onshoring has been done in so far as it follows the kind of path we have seen before, with temporary permissions in place until transfer to the domestic regime—in this case, the UK national private placement regime—takes place. I do, however, have a couple of questions, and I gave notice to the Treasury of the first one.
I believe that, in his introduction, the noble Lord, Lord Bates, covered the reasons why there has been a change to the private placement regime’s reporting requirements. The reasoning, which I understand fully, is that EEA UCITs become AIFs and therefore slot into a regime meant to cover the sort of funds used by only professional investors, whereas it has protections that correspond to the retail case from the EEA UCITs. That was given as a reason for changing the reporting requirements for those under the national private placement regime.
However, I do not understand what power the Government are using for that proportionality, and here I refer to what is said in paragraph 7.10 of the Explanatory Memorandum concerning Regulation 10(9)e. Is it a continuation of the withdrawal Act powers or are the Government using another form of empowerment? I did not perceive the withdrawal Act as giving powers to amend the national private placement regime, but I may have missed something in the logic. I hope that there is an answer there; it is quite likely that there is, which is why I gave notice of my question. Paragraph 7.10 also references the “reporting requirements for funds” recognised as retail funds under Section 272 of FSMA. It is true that they are less risky, so less reporting is needed, but where has the power to amend the private placement regime come from? Has it come from FSMA? That may be possible. If so, that should be said. I decided not to spend yet another weekend trying to work out where it came from, but to ask the question instead.
My second question concerns asset stripping. The asset stripping provisions have been contracted to apply only to UK companies. Does that mean that EU funds that are allowed to continue in the UK under the temporary regime can come here to asset-strip EU companies that they acquire? Are we going to get ourselves a bad reputation—“Come to London and we will strip your EU assets”—or are they covered by the built-in requirement of their home member state? Could they separately acquire something that is somehow ring-fenced in the UK? When they are converted to the UK national regime, will it still have all the asset stripping protections? It may not be the place to correct that here but, on a point of information, will our NPPR have UK asset-stripping protections? That was a novel aspect that was introduced into the AIFMD.
I will move on to venture capital and social entrepreneurship funds. When they were proposed, they were said not to be attracting much interest in the UK; people said that we did not need this kind of thing and we had all the funds we needed. I wonder therefore whether there are any figures for the volume of assets under management or sold in the UK using this heading.
We come now to the interesting point I have already mentioned: symmetry and continuity of assets under management. This is an instance of where we are treating the EEA preferentially and not as a third country, so that these funds can still have EEA assets within them, which I fully understand—you would not want to have to rapidly divest assets. But when they were constructed, preferential bias was built in to try to help the EU and EEA companies. Will there be a review of that in the fullness of time, for example to restore in some way the benefit of the UK footprint rather than an EEA footprint? What has been done is sensible in the immediate, but it would be interesting to know the longer-term view, partly because the logic of coming under the same jurisprudence no longer holds. The other side of that is: why not open up so that they can have all funds, including third countries, in them? How are we going to deal with that?
That is probably all that I need to say. My question is, what is the justification? The choice was between three options and the continuity option has been chosen. But where are we going to jump to next? Are we going to shrink back to the UK or are we going to open up to third countries?
My Lords, I thank the Minister for presenting these instruments. I am sorry to sound like a broken record but I want to start with my concerns about the impact assessment. The Explanatory Memorandum says:
“A full Impact Assessment will be published alongside the Explanatory Memorandum on the legislation.gov.uk website, when an opinion from the Regulatory Policy Committee has been received”.
Is the Minister going to tell me that it is also de minimis or is this different from the last one? I had hoped that there would be an impact assessment, because I have absolutely no idea of the scale that we are talking about: I do not know whether we are talking about millions, billions or semi-trillions floating around. I would have found an impact assessment useful.
Nevertheless, I felt it important to scrutinise this SI as best I could, so I went through it and tried to précis it to understand what it was doing and whether it met my tests of being necessary and not a new policy. I did quite well. There is a bit on definitions of AIFs that sounded fair enough. A bit sets out the naming convention, which seemed okay. There was a bit that set out the FCA’s reporting requirements. I sort of understood that. A paragraph or two set out the transfer of functions from the Commission to the Treasury, from ESMA to the FCA.
But then I came on to the temporary marketing permission regime. I confess that I partly lost my place. It seems that this is, in the terms that the noble Baroness and I have used, an asymmetric situation. I would be grateful if the Minister could confirm that, but it seems to favour EEA managers and disfavours, or whatever the right term is, UK fund managers. I assume that there is a good reason for that, which I assume is something to do with the good brought to investors outweighing the disadvantage to managers.
I sort of felt that I had got on top of understanding this, until I came to paragraph 7.21 of the Explanatory Memorandum on third-country passports. Everything that I had read up to there seemed to say that there would not be any passporting. I would be grateful if the Minister could better inform me what that paragraph is doing. Is there a contemplation that third-country passports will be issued—I do not know what the mechanism will be—to EEA managers so that they can market in the UK after the end of the temporary marketing permission? Is it contemplated that such passporting, or whatever the right term is, is accompanied by a reciprocity regime? If it is, that will be a good thing; if not, it would seem a step too far.
Finally, we have the same debate again on the same question about what happens. The instrument comes into force on exit day. I am terribly sorry to confess that I cannot remember the definition of “exit day”; clearly, if we crash out of the EU, exit day will be 29 March, but if we go into the 21-month interim period, will exit day be at the end of the 21 months or is it still 29 March? If it is, the legislation will need either to delete the commencement provision or to put it under some control or other. I do not know whether the noble Baroness shares my concerns, but the more of these SIs we do, the more we have this worry that they might, almost by accident, seep into the future because the commencement provisions are not sufficiently clear.
Finally, this shows once again what a dreadful idea this is, because there would appear to be no mechanisms to require reciprocity. Therefore, it seems that at least part of the UK population will be served less well by this regime than it was before.
I thank the noble Baroness, Lady Bowles, and the noble Lord, Lord Tunnicliffe, for their questions and for their focus on and scrutiny of these important regulations.
I shall start with the impact assessment because there is a different answer to the usual one we have given of “de minimis”. The Government have undertaken an impact assessment on these instruments, which we hope to publish shortly. As a whole, these SIs will significantly reduce the costs to business in a no-deal scenario, as without them the legislation would be defective. In making these changes, we have attempted to minimise disruption to firms and their customers. We have identified the main costs to firms as familiarisation costs arising with the new legislation, transition costs because of changes in legal definitions and changes in the reporting requirements for firms using a temporary marketing permissions regime.
The noble Baroness, Lady Bowles, asked why the asset management stripping provisions have been contracted and how they will apply to EU AIFM firms in a temporary marketing permissions regime. Such firms will be able to market under the same conditions as they could pre-Brexit. That follows the consistent approach we have sought to take in drafting these SIs: by considering how they will work and consulting with the industry. They will therefore be subject to the asset-stripping provisions in their home member state, which of course—without wanting to give the noble Baroness flashbacks to her 20 trilogues in the European Parliament—will continue to govern such activities.
If I may gently challenge the Minister, he said that the Treasury has taken a consistent approach with these SIs but it has not. Sometimes it has chosen to be symmetric and sometimes it has chosen to be asymmetric. That may be perfectly reasonable if there is a good explanation—particularly for why it would choose an asymmetric approach—but such an approach, which at least disadvantages some parts of the UK’s financial services industry, should be justified by the fact that it gives greater benefits than not having that asymmetric approach available.
I hear what the noble Lord says. On that particular point, I was referring to the general objective of the onshoring process in which we are engaged. This is to effectively onshore the current rule book to allow for no or limited disruption to UK firms—and, most importantly, their customers and clients—in the unlikely event of no deal. I accepted that point on the previous SI. I will reflect on the point raised by the noble Baroness, Lady Bowles, and the noble Lord, Lord Tunnicliffe, about how the choice will be applied in future—how it will be arrived at—and I shall copy them in on my letter.
The noble Lord, Lord Tunnicliffe, asked me to clarify how the passporting regime will work for third countries post-Brexit. The passporting regime between the UK and the EU will cease in a no-deal scenario. There is a third-country passport, which is currently not in force. The SI transfers to the Treasury the Commission’s function of appointing the day when this passport comes into effect. If in force, the third-country passport can be used to allow third-country fund managers to be authorised to manage and market funds in the UK.
The noble Baroness, Lady Bowles, asked about opening up to third countries in the future, which is a pertinent question. This instrument deals only with the inoperability that comes with withdrawal from the EU in the event of no deal. However, the national private placement regime is a functioning regime for any third country to take advantage of.
I understand fully that to some extent we do not need a third-country passport because our national private placement regime is sufficient to do almost the same job. But in my question I was also talking about the assets that the venture capital funds and social entrepreneur funds are allowed to hold. Would those be opened up and be able to have third-country assets in the fullness of time? I do not mind being written to about that.
We may have to do that but I will go as far as I can with the information which I have. There is some more information which I can convey to the noble Baroness and the Committee. The Government recognise that the alternative investment fund managers regime and the UCITS regime aimed at retail funds do not intertwine perfectly. This is why we have made fixes, where possible, within the confines of the EU withdrawal Act.
Section 272, which the noble Baroness referred to, is to ensure that EEA retail funds are treated as any other third-country funds, in keeping with the UK’s obligations under the World Trade Organization rules in a no-deal situation. It is not possible for UCITS to buy or build a controlling stake in the securities of a company or to hold private equity interests. The small number of non-UCITS recognised under Section 272 are all subject to UK-equivalent rules for retail funds on eligibility of assets, borrowing and risk spreading. I undertake to reread the record of this debate and ensure that the noble Baroness’s point is addressed directly, if that did not quite cover it.
The noble Lord, Lord Tunnicliffe, asked about exit day. Is it 29 March and how will this instrument be switched off if there is a deal? Exit day is defined in the EU withdrawal Act as 29 March 2019. As I said in the previous debate, the withdrawal agreement Bill will contain provision to change the commencement date of the SI in the event of a deal.
The noble Baroness, Lady Bowles, and the noble Lord, Lord Tunnicliffe, asked about the volume of assets under management for these various fund categories. At the moment, the numbers we are referring to are fairly small. They combine fewer than 50 European venture capital funds and European social entrepreneurship funds in the UK, based on FCA estimates. But as a result of these changes and the temporary permissions regimes, we may get greater visibility of them. I share her desire regarding venture capital, which of course provides seed corn to many small and medium-sized enterprises that will be vital to our economic future, and regarding the importance of social entrepreneurship funds. I know that many departments across government are looking at those funds as a way to implement the sustainable development goals and leveraging private sector capital to meet those objectives.
I think that covers most of the points raised by the noble Lord and the noble Baroness. Again, I thank them for their assiduousness in looking through these regulations. I also recognise and thank the Secondary Legislation Scrutiny Committee for its work, which was extremely helpful in this regard, and I commend these instruments to the Committee.
Committee adjourned at 4.44 pm.