Committee (5th Day)
My Lords, the hybrid Grand Committee will now begin. Some Members are here in person, respecting social distancing, others are participating remotely, but all Members will be treated equally. I must ask Members in the Room to wear a face covering, except when seated at their desk, to speak sitting down, and to wipe down their desk, chair and any other touch points before and after use. If the capacity of the Committee Room is exceeded or other safety requirements are breached, I will immediately adjourn the Committee. If there is a Division in the House, the Committee will adjourn for five minutes.
I will call Members to speak in the order listed. During the debate on each group, I invite Members, including Members in the Grand Committee Room, to email the clerk using the Grand Committee address if they wish to speak after the Minister. I will call Members to speak in order of request.
The groupings are binding. Leave should be given to withdraw amendments. When putting the question, I will collect voices in the Grand Committee Room only. I remind Members that Divisions cannot take place in Grand Committee. It takes unanimity to amend the Bill, so if a single voice says “Not Content”, an amendment is negatived and if a single voice says “Content” a clause stands part. If a Member taking part remotely wants their voice accounted for if the question is put, they must make this clear when speaking on the group.
74: After Clause 40, insert the following new Clause—
“Alignment of accounting to prudential standards
Where the prudential capital and profit or losses for a banking company are lower than the accounting numbers for that banking company where International Accounting Standards have been used, then the accounting numbers must have an adjustment to the balance sheet and profit and loss account in order to—(a) align the accounting numbers with the regulatory capital of the banking company which constrains the growth of a banking company and its ability to lend,(b) align the regulatory capital for going concern purposes with the accounting capital for going concern purposes,(c) align the regulatory capital and profits for remuneration purposes with the accounting capital and profits in accordance with the regulations for shareholder approval of director remuneration, and(d) align the regulatory capital and profits for distribution purposes with the accounting capital and profits for distribution purposes.”Member’s explanatory statement
This amendment ensures that when there are prudential filters discounting capital these should be carried through to accounting capital figures.
My Lords, I declare my financial services interests as in the register. The two amendments in this group concern the use of international financial reporting standards, particularly with regard to banks. Their aim is to permit a very abbreviated explanation of some of the problems with and lack of transparency of IFRS and to probe the return of a role for the Bank of England concerning the endorsement of accounting standards now that the approval of IFRS is repatriated to the UK and their approval under UK legislation involves an economic interest test. I thank my noble friend Lady Kramer and the noble Lord, Lord Sikka, for signing my amendments.
It is undeniable that IFRS played a part in the financial crisis and, even though they have been amended since in recognition of that role, they are still not fit for purpose for calculating prudential capital. As far as banks are concerned, they have two sets of numbers: statutory accounts for Companies Act going concern, on which there is an auditor’s opinion, and numbers for the prudential regulator which—if I may put it this way—really show the going concern situation, because that is what prudential regulators want to know.
It is worth looking at a couple of points to see the sort of thing that regulators discount for prudential purposes. Good will is taken out, because obviously it is not loss-absorbing and is not much good when a company is running out of money. It is also the case that a bank’s debt can be shown merely at the junk bond debt value in a bank’s IFRS accounts rather than the sum actually owed, which again is not the real money situation. For a bank that is going bust, or just not doing so well, the published accounts can show a rosier picture than the prudential numbers. I do not know any serious analysts who use the IFRS accounts rather than regulators’ numbers.
Regrettably, there are many other anomalies affecting other businesses. IFRS 15, for example, can introduce a smoothing effect, changing some sales into an income spread over future years and therefore providing exactly the kind of disguising of downturns that has caused problems in the past.
Given that a bank’s ability to trade is determined by its prudential solvency and banking licence rather than its IFRS accounts disclosed to the market, it is actually a bit absurd to say that a set of accounts can fit the Companies Act going-concern requirements and be signed off for the market when a bank might be a gone concern as far as the regulator is concerned and no longer able to trade. That may be the theoretical end-game problem, but it would seem more sensible for the banks to have to disclose to the markets the accounts that they have to live by for their licence. That is probably a better set of numbers on which to reward executives as well.
Many other countries recognise such anomalies and do not allow IFRS to be used without modification. Australia has its guidance note AGN 220.2, Impairment, Provisioning and the General Reserve for Credit Losses, and fared better in the financial crisis as a result. EU countries do not allow IFRS or IFRS-like calculations at the company level for determining going concern. The US will have nothing to do with it and only very grudgingly allows it to be used by non-US companies. I know that because I helped to negotiate it. The UK is really the outlier here.
Amendment 74 suggests that where the prudential capital and profit or loss for a banking company are less than the accounting numbers, the accounting numbers should be adjusted to the prudential numbers in the balance sheet and the profit-and-loss account because it is the regulatory capital that is the true amount for limiting growth, the real going-concern number, the safe distribution calculation and the fair director remuneration assessment. Yes, I am being provocative because I want some thinking on this, not the usual bland leave-us-alone acceptance.
I turn to Amendment 77. The PRA is the body closest to dealing with the unrealities still existent in IFRS that affect banks and recognising the effects that they have on the safety and stability of companies. The Bank of England is surely the pre-eminent body for analysing economic effects in the UK. Therefore, my Amendment 77 proposes to give the Bank of England a role in determining whether there is an adverse effect on the economy of the UK—the test set in the relevant statutory instrument for endorsing IFRS—and whether the standard is suitable for use in prudential regulation and, if not, to require that it not be used for the purpose of prudential regulation. Of course, some of this overlaps with what it is already doing.
I am sure that the Minister and other Members of the Committee realise that I am using this opportunity to highlight a matter that should be looked at more carefully, rather than just letting the IFRS juggernaut trundle on, whether that be for another HBOS or another Carillion. There are significant issues that affect the economy as well as many other issues with IFRS that depart from the normal logic of what accounts should mean and that are hard, if not impossible, to reconcile with the various requirements of company law. They have been swept under the carpet for far too long. I beg to move.
My Lords, I am struggling with Amendment 74 because I think that it is aiming at a target that does not really exist, and it confuses capital and profits and losses.
The amendment would require what are quaintly called the “accounting numbers” to be adjusted to align with regulatory capital. Apart from anything else, that would result in accounts that do not comply with the Companies Act 2006, which requires, under Section 393, that accounts show
“a true and fair view of the assets, liabilities, financial position and profit or loss”.
The amendment seems to suggest that adjustments would be made to the accounts other than for the purposes of compliance with international accounting standards or to show a “true and fair view”, and, in that case, I believe that the resulting accounts would not comply with the Companies Act. We have to emphasise that these are international accounting standards, to which all countries that sign up follow, so this would be a major departure for accounting by banks and other institutions in this country.
I also note that, in proposed new paragraph (d), this is to apply to “profits for distribution purposes”, but that seems to misunderstand the fact that distributable profits are determined at the level of the parent entity solo accounts, whereas the adjustments that I believe are being targeted would be found in the accounts of subsidiary regulated entities or in the consolidated accounts, rather than those of the parent itself.
Regulatory capital already operates as a constraint on lending, so I fail to see what real-world impact any adjustments in the statutory accounts would have. While I understand the concept of regulatory capital, I do not understand the concept of “prudential” or “regulatory” profits or losses. I do not believe that “regulatory profits or losses” is a term that really exists, except to the extent that accumulated profits or losses form part of regulatory capital. It is difficult to see how proposed new paragraph (c) in Amendment 74 would work in relation to remuneration.
The noble Baroness, Lady Bowles of Berkhamsted, has explained the sorts of adjustments that are made for regulatory purposes and that, under her amendment, would be taken into the statutory accounts—for example, the treatment of intangible assets. It is not clear to me why the prudential treatment of these items should be imported into true and fair accounts. The treatment for regulatory capital is linked to loss absorbency, which is not an underlying principle of financial accounting, and it therefore cannot readily be accommodated within the structure of accounting standards.
Pillar 3 statements, which are required to be produced by all regulatory banks, set out the information required in much detail. If the noble Baroness is correct—I am not sure that she is—that analysts use and rely on Pillar 3 statements, not statutory accounts, they already have that information: all of it is in the public domain.
Amendment 77 is unnecessary. It is already open to the PRA to base regulatory capital on different numbers from those in the annual accounts. I have already mentioned intangible assets. It also ignores gains or losses or known liabilities, a very arcane bit of the accounting standards that makes companies recognise gains when their credit ratings reduce the fair value of their outstanding liabilities. The PRA has not needed any special statutory cover to eliminate that from regulatory capital.
Furthermore, it is unsound for the Bank of England to approach accounting for individual institutions on the basis of the impact that a standard may have on the economy of the UK, as if accounting were a mere plaything of policymakers. I hope that the noble Baroness, Lady Bowles, will not press these amendments.
My Lords, it is a great pleasure to follow the noble Baronesses, Lady Bowles of Berkhamsted and Lady Noakes. I will speak to Amendments 74 and 77 because they both raise some real, important and fundamental issues.
As the noble Baroness, Lady Bowles, indicated, vastly different numbers for bank capital and profits are communicated through conventional financial statements and by the regulators—because they are prepared on different assumptions, for different audiences and for different purposes. I hope that the Minister will tell us which of those numbers can considered true and fair. Can he also say whether the regulators are justified in relying on something that does not pass that test?
Amendment 74 raises questions about going concern. The auditor’s assessment of going concern is based on accounting numbers in financial statements and not on the numbers used for regulatory purposes. If anything, the regulatory capital is likely to be smaller than financial reporting capital as the PRA ignores some accounting numbers; good will has already been mentioned and there is ongoing debate about the recoverable value of software assets. So is the PRA relying on the auditor’s assessment of going concern or does it ignore that and make its own assessment? If so, how?
Every year, the regulators are required to have a tripartite meeting—that is, a meeting between regulator, bank directors and bank auditors—to discuss matters of mutual concern. At these meetings, the auditors can surely speak about audited financial statements and capital only from the perspective of IFRS-led financial reports—they cannot speak from any other perspective. How effective is this dialogue now?
The accounting and regulatory capital differ; that means that there are different numbers to consider for distributable reserves as well. Yet banks pay dividends out of distributable profits—distributable reserves as some would call them—as required by company law. Again, there is an issue of how the PRA forms its view about distributable reserves, given that it ignores large chunks of the conventional financial statement.
Accounting profits are a factor in many executive bonus schemes operated by banks. A payment based on accounting numbers can also erode regulatory capital. A reconciliation of accounting and regulatory capital is essential; this is really the essence of Amendment 74. A more efficient and practical approach would be to align the two and thus eliminate the confusion and duplication that exist at the moment.
I will now speak to Amendment 77. The post-Covid economy is likely to throw up a large number of insolvencies. This will have consequences for banks, insurance companies and pension funds. With the downturn in brick-and-mortar retail and the trend of remote working, the value of many city-centre shops, shopping malls and offices may well decline. Many a property company may experience difficulty in servicing debt, which will inevitably have implications for banks. The crucial question is whether financial enterprises have a good capital base and safety buffers to absorb losses.
The Government’s faith in Basel III does not fill me with great confidence. The Basel Committee on Bank Supervision was established in 1974 after serious turbulence in the foreign currency market, most notably the failure of Bankhaus Herstatt in Germany. The committee’s main concern was to protect the interbank market and ensure that, in the event of bank failures, there would be sufficient capital to meet those obligations. The Basel I capital accord was issued in 1988 after the Latin American debt crisis. It called for a minimum ratio of capital to risk-weighted assets of 8% to be implemented by the end of 1992. Basel I did not differentiate the risks very well and, somewhat perversely, encouraged risk-seeking. It promoted the loan securitisation that led to unwinding in the subprime market. So Basel I was not a roaring success.
Basel II measures began to emerge in 2004 and were finally issued in June 2006. Their deficiencies were highlighted by the 2007-08 crash. The banking sector entered the financial crisis with too much leverage and inadequate liquidity buffers. Lehman Brothers had a leverage ratio of 30:1. Bear Stearns had a leverage ratio of 33:1 and almost all its profits came from speculative activities. Basel II underestimated both the risk of losses on assets and their exposure to the failure of others.
Now we have Basel III. The minimum capital adequacy ratio that banks must maintain is 8%; its calculation is risk-weighted and obviously highly technical. The capital buffer is essentially the shareholder funds in a bank’s balance sheet. However, the long-standing problems about such markers in the balance sheets have not really been addressed. I will mention just a few.
First, equity is a key component of regulatory capital, but it has no definition in company law. The PRA relies primarily on bank financial statements for sight of equity. These are based on the international financial reporting standards issued by the International Accounting Standards Board. In financial reporting, equity is simply the arithmetical residue arrived at after deducting liabilities from a bank’s assets. It includes things such as realised and unrealised reserves, the share premium account, and sundry other bookkeeping entries. The equity side of a bank’s balance sheet is the product of a hotchpotch of bookkeeping entries. Equity does not equal cash or liquid assets. It cannot be touched, has no physical existence and therefore cannot really reflect economic value. Yet it is a foundation stone of the PRA’s regulation.
Secondly, the PRA is concerned about capital maintenance, but financial reporting has no recognisable concept of capital maintenance. In accordance with the IFRS, some items in bank balance sheets are shown at historical cost, while others are shown at amortised cost, net realisable value, present value, fair value and numerous other bases. The addition, subtracting or netting off of these numbers gives us a crude arithmetical calculation, but it does not yield any recognisable measure of capital maintenance. Banks are maintaining neither money nor any variety of real capital.
For most of the early 20th century, court cases relating to distributable dividends were concerned that after paying dividends, companies should maintain capital that was adequate to protect creditors; that is, capital was seen as a kind of fund, or buffer, out of which creditors could be paid. Such is the confusion about the IFRS that the Local Authority Pension Fund Forum and Pensions & Investment Research Consultants have reported that many companies have paid or are in danger of paying illegal dividends. It would be helpful to know how the PRA deals with these problems.
Thirdly, the financial statements and accounting practices which form the basis of PRA calculations are not prepared for regulatory purposes. They are aimed primarily at short-term investors or speculators in capital markets. The International Accounting Standards Board, which issues IFRS, which in turn are rubber-stamped by the Financial Reporting Council, states:
“The objective of general purpose financial reporting is to provide financial information about the reporting entity that is useful to users of financial statements (existing and potential investors, lenders and other creditors) in making decisions about providing resources to the entity”.
It goes on to add that
“other parties, including prudential and market regulators, may find general purpose financial reports useful. However, these are not considered a primary user and general purpose financial reports are not primarily directed to regulators or other parties.”
This is a big issue: why are the bank regulators relying on IFRS-based statements?
Fourthly, accounting standards give management too much discretion in the choice of accounting policies. For example, in building fair value models to calculate a figure for assets and liabilities, directors have considerable discretion; you have only to look at what happened at Carillion. In the banking industry, the same account or item can be ascribed a different value at entities. What, therefore, is the PRA comparing? How does it discount—or not—managerial discretion, which is embedded in the IFRS, in accounting policies and choices?
Fifthly, I am sure that the Minister would say that the PRA adjusts capital reported in financial statements for regulatory purposes—the examples of good will and software costs have already been cited—but what about other items on balance sheets, such as deferred tax, which is simply a residue of timing differences relating to capital allowances and accounting depreciation? What about prepayments and accruals, which are simply devices for allocating expenses to accounting periods and rarely have any economic significance from a regulatory perspective?
Sixthly, as has already been mentioned, Section 393 of the Companies Act 2006 requires that the
“directors of a company must not approve accounts … unless they are satisfied that they give a true and fair view”.
Such accounts should be based on prudent accounting practices. In accounting, prudence dictates that profits should not be anticipated and should be set aside to meet foreseeable losses at the earliest opportunity. However, before the 2007-08 crash, prudence was abandoned or seriously downgraded by IFRS and replaced with what was called the incurred loss model. This created an overexuberance of expansion, unrealised profits, unjustified bonuses and dividends. Accountings rules were severely criticised by the Parliamentary Commission on Banking Standards; I gave oral evidence to that commission. Even now, the full measure of prudence has not really been restored, although the IASB has back-pedalled to some extent.
Seventhly, the accounting treatment of items depends on the politics of accounting. In accounting, there is no objective truth lurking out there, waiting to be captured; rather, that reality is to be constructed in accordance with the theories and politics of standards-setters and the organisations that have colonised those bodies. The IASB is primarily influenced by Chicago economics and assumes that balance sheets can somehow mimic markets and show market values—a misguided and impossible aim. Annual revaluations of assets and liabilities can impart considerable turbulence to the balance sheets of banks and insurance companies, especially when assets and liabilities are held for the long term. This issue is at the heart of the dispute about accounting for financial instruments and insurance contracts. It would be interesting to know how the PRA adjusts bank and insurance company accounts to take account of these periodic differences.
The IFRS are not fit for regulatory purposes but continue to be used by the PRA. Basel III calculations continue to be mired in earlier weaknesses that still have not been addressed. Wrong accounting and regulatory choices played a major part in the 2007-08 crash. It is imperative that the Bank of England examines the appropriateness of accounting standards for regulatory purposes and their consequences for the stability of the financial system. That necessarily requires a view about the impact of accounting on the whole economy. At the very least, it needs to pay attention to matters relating to capital maintenance. An even better solution would be for a state agency to promulgate accounting standards, not only for the finance industry but perhaps for all corporations.
Even were that to be carried out, there remains a major problem: that a focus on the balance sheets of individual banks will not tell us much about the systemic problems, because there are lots of interdependencies. The Parliamentary Commission on Banking Standards urged the Government at the time to develop alternative accounting reports so that they could focus on those systemic risks. They chose to ignore that advice. I very much hope that they will urgently revisit the issues, and I would be delighted to help if they need it.
My Lords, these amendments, which are technical in nature, require banks that prepare their accounts in accordance with international accounting standards to apply prudential filters discounting capital to the banks’ statutory accounts. Having read the amendment, I am not clear which is the tail and which is the dog. Amendment 74 in the name of the noble Baroness, Lady Bowles of Berkhamsted, requires a bank to align its accounts with its regulatory capital or prudential capital, and at the same time requires the bank to align its regulatory capital with its accounting capital, for three separate purposes.
I agree with my noble friend Lady Noakes’s forensic criticism of the amendment. I am not a chartered accountant, but I have worked in corporate finance and mergers and acquisitions for many years, and I find the amendment confusing. Does
“then the accounting numbers must have an adjustment to the … profit and loss account”
mean that the bank concerned must alter its accounting principles and adjust its accounts to use the prescriptive and conservative accounting principles used by the PRA for the monitoring of banks? If so, would a bank be required to restate past years’ published accounts for consistency’s sake? Proposed new paragraph (a) suggests that the PRA’s measurement of capital must be carried through to the bank’s accounts, but proposed new paragraphs (b) to (d) suggest that the bank’s regulatory accounts should be adjusted to conform with the PRA’s measurements. I am not clear how that can be done and what the PRA would have to say about it.
The amendment refers to international accounting standards, which were standards issued by the International Accounting Standards Board, based in London. EU legislation has continued to use the term “international accounting standards”, but they were replaced in 2001 by international financial reporting standards—IFRS. The noble Baroness confirmed that she meant IFRS rather than IAS in her amendment, but how does she intend that her amendment should affect banks that apply other accounting standards, such as American banks, which still prepare their accounts according to GAAP? Concepts in the amendment such as accounting numbers and regulatory capital need proper definition.
I have rather more sympathy with Amendment 77. The International Accounting Standards Board develops and issues IFRS for use internationally. In the EU, things are then at the discretion of the European Financial Reporting Advisory Group—EFRAG—which advises the European Commission on whether and how the IFRS should be adopted for businesses in the EU. EFRAG will consult the relevant national bodies as part of that process; for example, if a new or revised IFRS is issued by the IASB that impacts the banking industry, EFRAG will consult the European Central Bank on the impact of that standard before making a decision on its adoption.
Now that the UK is able to establish an independent endorsement process, it seems sensible that that process should similarly involve the Bank of England in matters relating to IFRS that may impact the institutions over which the PRA has regulatory authority. I am not sure whether the amendment as drafted is satisfactory, but I would support the introduction here of an endorsement role for the Bank. I look forward to hearing my noble friend the Minister’s views on that.
My Lords, in this area I cannot pretend to have the scope of knowledge or the expertise of my noble friend Lady Bowles or the noble Lord, Lord Sikka, but I have a great deal of sympathy with their amendments which comes from long frustration with trying to deal with banking standards. I probably had some small part to play in the focus that the Parliamentary Commission on Banking Standards applied to looking at IFRS and other banking frameworks. I would defy almost anybody looking at the published accounts of Northern Rock, HBOS or RBS to have identified how fragile those institutions were and how easily they would crack the moment any pressure was applied to the very fragile arrangements they had in place. It is no wonder that it was missed by the regulators if they were looking at the disclosures that came from those institutions. They were not falsified; it is just that working your way through the disclosures very often discloses very little.
I spent a good part of my banking career trying to extract real and consistent information from accounting statements. That was largely in the States, so we were using GAAP, which I think many people will acknowledge tells one a lot more than IRFS ever does, but a bank has the resource to do that kind of deconstruction for a potential or existing credit client. Investment firms have the resources to do that kind of deconstruction, and so do regulators, but for any normal investor, and certainly for any smaller creditor such as a trade creditor, it is impossible to have those resources, as it is for any normal politician, even if in the end we carry the buck, in a sense, for whether or not we have a system that works. Over many years, the only clients who ever handed me a straightforward deconstructed set of accounts were Warren Buffett and Charlie Munger, who headed up the GEICO insurance subsidiary. They did it simply because they felt that bankers should know what was going on. That is a good enough recommendation for any company or regulator.
My Lords, I have sympathy with the concerns behind these amendments. As the noble Baroness, Lady Bowles, and my noble friend Lord Sikka have spelled out so clearly, there is an intimate link between accounting standards and effective prudential regulation. It is probably true that nothing has a greater impact on policy than the manner in which relevant variables are measured.
That relationship between accounting standards and prudential regulation has been exposed just this last week with the collapse of Greensill Capital, a supply chain financing firm. Its business model was based on flaws in UK accounting—that was how it worked. As the Financial Times reports:
“While a company that uses supply-chain finance owes money to a financial institution, accountants do not class these facilities as debt. Instead a company typically books the money owed in the ‘trade payable’ or ‘accounts payable’ line of its balance sheet, mingled in with all the other bills owed to suppliers. While a footnote to the accounts might explain how much of this line is made up of money actually owed to financial institutions, rather than suppliers, there is no requirement to disclose it.”
Lack of disclosure means that the supply chain has proved popular with struggling companies looking to mask their mounting borrowings. When nervous lenders remove these facilities from heavily indebted companies, it can create an effect similar to a bank run on their working capital position, whereby that quasi bank run then escalates into risk to the financial services sector. Who really suffers? Typically, it is the SMEs at the origins of the supply chain. Greensill is not an isolated example. Parliamentary investigations into the collapse of the Carillion group, already mentioned, found that it made heavy use of the Government’s supply chain finance programme. MPs investigating the outsourcer’s demise said that the scheme allowed it to “prop up” its failing business model.
This is a major concern in the prudential management of the financial services sector in the UK. If accounting standards and methods do not accurately represent the fragility or strength of an institution, especially a financial institution, they severely compromise our efforts at prudential regulation.
A quite different prudential and market conduct risk created by accounting standards arises from the fact—again already mentioned—that while the UK’s accounting standards apply IFRS, the US maintains its own GAAP different standard. Are the UK Government pursuing negotiations with the US Administration to encourage the adoption of a common standard, perhaps one that accurately represents the risks present in financial institutions?
The issues raised by the noble Baroness, Lady Bowles, and the noble Lord, Lord Sikka, require urgent consideration, not just by the accounting profession but by Her Majesty’s Treasury and by the prudential regulators.
My Lords, as we have heard, Amendments 74 and 77 concern accounting standards. I have listened carefully to what the noble Baroness, Lady Bowles, and other Members of the Committee have said. It is perhaps best to begin by making a key distinction: the objective of accounting numbers is to show a true and fair financial position of a company; the objective of regulatory capital numbers is to provide information to the regulators in meeting their supervisory objectives. These are different numbers used for different purposes.
Amendment 74 proposes a kind of conflation of those purposes by requiring UK banks to align their accounts prepared under international accounting standards with their regulatory capital equivalent where the regulatory capital number is lower. My noble friend Lady Noakes rightly made the point that I have just made: these accounting standards are international. It is in the UK’s interests to maintain convergence with international accounting standards—IFRS—set by the International Financial Reporting Standards Foundation. The IFRS bring consistency to financial statements and allow investors easily to compare the financial statements of companies across the world. It is therefore consistent with the Government’s aim of ensuring that the UK retains its reputation as a global hub for business for the UK to continue to adopt these standards.
The amendment would result in financial statements of UK banks not being prepared in accordance with those international accounting standards. UK banks wishing to maintain listings abroad would however still need to prepare a second set of financial statements. The UK prudential regime for banks is supported by detailed regulatory reporting. It is these reports and other data gathered from firms that are the basis for prudential regulation, and not financial statements and annual reports.
A subset of the information contained in the regulatory reporting is published in the form of what is referred to as Pillar 3 reports. These reports include details of the regulatory capital held by banks. Therefore, while Pillar 3 reports are not identical in form to financial statements prepared for accounting purposes, they already provide a significant amount of the information sought by this amendment.
The noble Lord, Lord Sikka, made the suggestion that as a matter of routine a reconciliation statement could be made to match one set of statements with another. In fact, most of the largest UK-headquartered banks also provide in their annual reports a reconciliation of accounting capital to regulatory capital, so in practice his suggestion is already borne out. He made a number of detailed points about the individual components of published accounts and their implications for prudential monitoring. If I may, I shall review his comments in Hansard and write to him if there are statements that I think should be placed on the record over and above those that I am now making.
Amendment 77 would require the Bank of England to express a view on the UK’s endorsement of any international accounting standards based on criteria different from the endorsement criteria enshrined in UK law. The Government have recently created the UK Endorsement Board, whose remit is to implement the framework for endorsing and adopting new international financial reporting standards. This approach will ensure a high degree of transparency and international comparability of financial statements and the efficient allocation of capital, including the smooth functioning of capital markets in the United Kingdom. A requirement for the Bank of England to make a determination on international accounting standards, as the amendment proposes, would undermine the independent decision-making process.
I hope that the noble Baroness will understand why I cannot accept these amendments, even though I understand that they are largely probing in nature, and that she will feel able to withdraw them.
My Lords, I thank all noble Lords for having taken part in this debate and for enabling me to find some way in a busy parliamentary schedule to enable airing of a few of the problems with IFRS. I regret that IFRS has not been picked for a study by a Select Committee; I have tried but it is a rather dry subject that gets few votes when set against competing topics.
I have to admit that Amendment 74 was not only probing but perhaps a little impetuous in trying to provoke some thought about what was actually going on. My main point is that accounting has made it very difficult to get a genuine view of what is true and fair. If anybody wants to look at the RBS preliminary hearings that went to the courts, it was said there that the law was not for experts but for ordinary people. The fact is that we have got to a stage where there is such a departure between accounting standards and what the normal person would understand that I seriously challenge whether they really do give a true and fair view.
Things that can be done with supply chain financing, as the noble Lord, Lord Eatwell, expressed, have undermined several significant businesses, yet still it is there and going on. I accept that one needs something like IFRS for international comparisons, but the UK is still the outlier in having copied a lot of the flaws of IFRS into the national accounting, so it appears again at the company level beneath. It is that which can therefore cause some of the crashes, whereas, in other countries, because they do not apply it at their national accounting standard level and to company-level accounts, they manage to escape.
Amendment 77 is not as impetuous, perhaps, as Amendment 74. Once upon a time the Bank of England used to jointly appoint the head of the FRC, so it had some say in it, but that now seems to have disappeared and it is left just to the Minister and BEIS. But I did not invent the bit that I pointed out about the economic analysis; that is what the endorsement board has to do to endorse IFRS and what is present in the International Accounting Standards and European Public Limited-Liability Company (Amendment Etc.) (EU Exit) Regulations 2019, one of the 100 or so SIs that I diligently scrutinised with other noble Lords. So I have not invented the test; a test is there and is going to be conducted by a subset of the FRC, a board established under the auspices of the FRC, or the ARGA, when we get round to doing it. Will it really be the right body for that economic interest test? As the noble Viscount, Lord Trenchard, explained, taking an opinion from the Bank of England would seem appropriate.
The Minister’s argument is that we should not rock the boat on anything. We can let the deceptions and failures keep on coming but, underlying this, if we do nothing and leave it with the accountants to do their fancy footwork on the figures, which might suit them but nobody else, we can record now that the Treasury did not go poking around to find out what was going on and has done nothing to help. For now, I beg leave to withdraw my amendment.
Amendment 74 withdrawn.
Amendments 75 to 77 not moved.
78: After Clause 40, insert the following new Clause—
“Short selling review
(1) Within the period of six months beginning with the day on which this Act is passed, the Secretary of State must commission a review of legislation relating to short selling.(2) Following the conclusion of the review, the Secretary of State must lay a report before Parliament.”
My Lords, I am delighted to have this opportunity to speak to and move Amendment 78, and to thank my noble friend Lord Holmes of Richmond for his support and for co-signing the amendment.
Clause 40 deals with subordinate legislation made under retained direct EU legislation. This is a probing amendment to look at what I consider to be a timely review of the practice of short selling. The background to this is that short selling is regulated now by the Short Selling (Amendment) (EU Exit) Regulations 2018, based on the earlier EU regulation 236 from 2012, also amended by the Technical Standards (Short Selling Regulation) (EU Exit) Instrument 2019. Clearly, there are powers for the UK to prohibit or restrict short selling or limit transactions when the price of various instruments admitted to trading on a UK trading venue, which includes shares, sovereign and corporate bonds and ETFs, has fallen more than the appropriate percentage threshold from the previous day’s closing price. In exceptional market conditions, there are also powers under these regulations to address adverse events or developments that pose a serious threat to financial stability or market confidence in the UK.
The powers are set out and include extending the scope of the notification disclosure regime to include additional financial instruments admitted to trading on a UK trading venue and requiring lenders of financial instruments admitted to trading on a UK trading venue to notify any significant change in their fees. There are other powers as well.
Most recently in the UK, the Bank for International Settlements conducted a study suggesting that fund providers offered lower-quality paper to fill redemption markets, as reported in the Financial Times, and that it was felt and alleged that bond ETFs might have short-changed market-makers during the 2020 panic—as if there was not enough going on with the Covid-19 pandemic. It is obviously deeply worrying that this happened in 2020, as confirmed by the Bank for International Settlements. This is a good opportunity to revisit this, as this is not supposed to happen. Obviously, this is a timely moment to look at this, after the collapse and then the surge in the US of the GameStop share fiasco in January and February.
I take this opportunity to ask my noble friend whether he is convinced that an event such as GameStop would not happen in the UK and that we have robust regulations, as I have set out. I am slightly concerned that they have not been tested enough and I believe that we should revisit them. If the ETFs performed in the way that was alleged and concluded by the Bank for International Settlements in 2020, that was deeply unhelpful at a very difficult time. Therefore, does my noble friend agree that this would be a good opportunity for the Government to look at this and undertake to conduct a review to ensure that the regulations, as I set out this afternoon, are fit for purpose? Are they robust enough in terms of Covid, as we saw in March 2020 in the UK, to prevent something like GameStop happening here?
I realise that anybody making an investment is taking a risk, and that we are always told that share prices can go down as well as up, but this is a very modest amendment, ensuring that, within six months of the Bill being enacted and coming into force, the Secretary of State will commission a review of the legislation relating to short selling and, at the conclusion of the review, lay a report before Parliament. I personally have deep misgivings about short selling and question whether the regulations in place are sufficient. As we have left the European Union, and were told that the United Kingdom Government would take every opportunity to revisit those regulations that we have now adopted as part of UK law, it would be a good opportunity to review them within six months of the Bill’s enactment. It gives me great pleasure to move this amendment today and look forward to the Minister’s response. I beg to move.
My Lords, I was not sure where the debate on short selling would go. I am broadly satisfied with the present rules that prohibit naked short selling and require that a short seller has identified where they will obtain the shares when delivery is required. There is a little bit of wriggle room in the identifying, which was very hard fought for by the UK when the EU regulation was being negotiated. Some would like it more relaxed so that there is a looser understanding of how the shares will be found; others would like to ban short selling altogether. I am not convinced that any significant change is needed in that area but, having negotiated the current compromise, I am both biased and happy for someone else to gather the scars on their back.
As the noble Baroness said, there has been additional interest in short selling because of the developments around GameStop and AMC shares, with some retail investors deliberately seeking to put a short squeeze on to hedge funds with large short positions. The shares became heavily promoted on internet sites and social media, and no doubt there are individuals who made poor decisions about investing as a consequence. Eventually, brokers took steps to curtail retail access, and therefore activity, which stopped extreme movements, but that also calls into question rights of retail access and whether there will be discouragement of things such as commission-free retail trading.
In the UK—and, indeed, the EU—we do not have such large net short positions as tend to be found in the US. That may well be due in part to the more restrictive requirements on the identification of where one is going to get the shares from, and stricter disclosure requirements. Retail access is not so well developed here, either.
I do not know whether the Treasury Select Committee has taken any evidence on this—it seems taken up by the Gloster review—but the chair of ESMA appeared before the corresponding committee in the European Parliament on 23 February. In that appearance, there was a suggestion that other things around the subject may need looking at—such as market abuse and best execution, which would be under MiFID II—rather than short selling.
The FCA website has a six-line generic statement, put up on 29 January, about “recent share trading issues”, warning about potential loss of money, that losses are unlikely to be covered by the Financial Services Compensation Scheme, and that broking firms are not obliged to offer trading facilities to clients, which covers the point about withdrawal of service. It tweeted a similar warning.
Here I should probably draw attention to my specific interest as a director of the London Stock Exchange. I know that a close eye has been kept on the situation, looking at additional analysis, possible additional monitoring and scenarios that could arise within our markets, and having discussions with the FCA, but that is all work in progress.
A lot of people seem to consider short selling fundamentally evil, but it is really just like ordering a book from a bookseller, paying for it, and getting it later when the seller has purchased it from the publisher. That is okay if you know there is a book and a publisher and you have not already been told that it is sold out. It is not okay when there is no book, and so on. That is the distinction between naked short selling, when you do not know whether the book is there, and having identified that you can actually get your hands on the book to fulfil the order. Broadly speaking, I am not sure that a huge overhaul of short selling needs to be looked at. If all these things are to be looked at, it probably needs to go beyond what is in the short selling regulation and look at how execution has to happen as well.
My Lords, it is a pleasure to take part in day five of Committee of the Financial Services Bill. In doing so, I declare my interests as set out in the register.
I was keen to speak to the amendment in the name of my noble friend Lady McIntosh of Pickering—and have put my name to it—mainly because of the reasons set out by my noble friend and the noble Baroness, Lady Bowles. That is, given the position we are now in with financial services, it seems opportune to review this practice. In saying that, I agree with the noble Baroness, Lady Bowles, that it makes sense to see this as part of a wider review of a number of other market practices. Indeed, it reflects an earlier amendment that I put forward on day one on the opportune moment to review all our financial services regulations and regulators’ rules, given that our situation is so fundamentally different from what it was a matter of weeks ago.
On short selling, it is important to understand the difference between different markets, as the noble Baroness, Lady Bowles, eloquently set out. It is important for that to be understood, not least as a number of people’s understanding of short selling will have been informed by the earlier situation with GameStop on the exchange in the United States and the excellent film “The Big Short”—excellent unless you happen to be on the wrong end of that practice. However, it is different in different jurisdictions. Which jurisdictions would the Minister look at in considering potential better practices around the world? Would she also see this as a positive, opportune step to take as part of a wider review of all financial services regulations and the rules of our regulators?
My Lords, I support the call of my noble friend Lady McIntosh of Pickering for a review of short-selling legislation, although I start from a very different position to her. As she explained, our short-selling rules were acquired via the EU, which is how they found their way on to our statute book. I believe that all EU-derived legislation should be reviewed at some stage; I am not sure this is the most pressing area, but it should certainly be reviewed.
When the EU introduced its short-selling rules in 2012, we had to follow, but it is far from clear that, left to our own devices, the UK would have introduced such rules. The FCA has been clear that the existing powers to trigger a ban on short selling would not be exercised lightly and the bar must be set very high. That must call into question whether we actually need the powers. The trouble with regulators is that, once they have powers, they never give them up voluntarily, even if they can never envisage when they would be used. A review would allow us to look at this again. We ought not to allow regulators to keep draconian powers to intervene in markets without very strong justification.
Against that background, I was particularly disappointed to see that the EU’s temporary—though extended several times—reduction of the threshold for notification of short selling, which expired when we left the EU, was almost immediately reinstated into UK law. That is not a good direction of travel.
There is nothing intrinsically wrong with short selling. It can provide liquidity to markets, improve bid-ask spreads and assist in price discovery; it also offers a route to hedging long-only exposures. There are, of course, downsides, including the potential for unlimited losses, so the risks have to be well understood and managed. We recently saw in the US that some hedge funds got their fingers burned on short selling GameStop shares due to action taken by amateur investors; but that merely highlights the need for sound risk management—it does not speak to short-selling itself being a problem or suggest that powers are needed for market intervention.
My Lords, I refer to my interests in the register. It is always a pleasure to follow the noble Baroness, Lady Noakes; it is also something of a challenge as she speaks so authoritatively on matters such as these and I often find myself agreeing with her.
The noble Baroness, Lady McIntosh, spoke compellingly in her introduction to this amendment. She made the point that she has misgivings about the practice. Clearly, for a practice that dates back to the first days of stock markets, short selling retains its ability to attract controversy. Indeed, a short seller was accused of manipulating the share price of the Dutch East India Company in Amsterdam as long ago as 1609. The noble Baroness, Lady Bowles, suggested that it is sometimes regarded as an evil practice, so I felt that it deserved a defender today.
The goals and effects of short selling are often misunderstood and, when markets enter a downturn, many are quick to call for short selling to be banned. While such bans are unfortunate, they have left us with a wealth of data on the effects of short selling and how the practice contributes to the proper functioning of markets. The practice of selling a stock short is always the same but the intention behind it varies considerably. At its most common and passive, short selling is a conservative investment technique used to hedge against risk, as the noble Baroness, Lady Noakes, has just highlighted, but obviously at the cost of forgoing some returns. On the point made by the noble Baroness, Lady McIntosh, about the volatile first quarter of 2020, the Alternative Investment Management Association, which represents 2,000 corporate members in 60 countries, reported that funds which had hedged in this way outperformed the broader market by 20%.
To be sold short, a stock has to be borrowed, and it will usually be borrowed from an asset owner for a fee. The fee helps the returns to the holders of that stock—in practice, anyone who participates in a long-term equity fund and, therefore, probably everybody involved in this debate. The fact of selling the stock helps create valuable liquidity, which is often essential to ensure the smooth functioning particularly of smaller markets, but it also works in reverse during periods of market turbulence. In practice, short sellers are often the buyers of last resort when markets are under pressure; they take profits in their short positions and therefore help to provide stability to markets.
The more controversial end of the short-selling spectrum is that populated by activist short sellers. They are often characterised as predators who create and exploit misery, but that is simply not the case. These investors act as the canaries in the coal mine. Short selling does not directly undermine the health of a company any more than buying its shares improves its fundamentals. Companies are not deprived of funds when investors sell shares, nor do they become financially stronger when investors buy shares in public markets. Short sellers cannot send a good business under. What they can do is expose bad business models, bad management, dodgy accounting, fraud and other bad behaviour. At a more mundane level, they can expose unjustifiable valuations.
There are plenty of recent examples but one will suffice as the regulatory reaction was instructive; here I am very grateful to Jack Inglis, the CEO of the Alternative Investment Management Association, who provided me with some detailed facts. In 2019, Wirecard in Germany famously went bust. It was at the time a member of the main German index, the DAX 30. The first queries into the company’s accounting practices date back to 2014, when short positions began to be initiated. However, when the pressure mounted on the company to explain itself, the German regulator instead went after journalists at the Financial Times who had published a deep dive into the company—and, of course, the short sellers. They filed a criminal complaint against them, accusing them of market manipulation, and, in February 2019, initiated a two-month ban on short selling the shares, citing the need to curb
“a serious threat to market confidence”.
As we all know, the company subsequently went bust, the subject of a multiyear fraud involving €1.9 billion going missing and the CEO being arrested, among other things.
Since then, Germany has become much more circumspect about joining other European states in banning the practice. Indeed, the regulator’s president apologised and paid tribute to those
“journalists, analysts or yes, let it be short sellers, who have been digging out inconsistencies persistently and rigorously.”
In saying this, he was following a long historical tradition—such bans are inevitably repealed.
It is worth noting that, as my noble friend Lady Noakes mentioned, short sellers take enormous risks. Their potential losses are theoretically infinite. As discussed, it costs money to hold short positions so time is against them, and though they provide much-needed liquidity, they are always at risk of a squeeze, as the recent example of GameStop in the States showed. However, that is their problem; any losses they incur do not represent a systemic risk. I am not arguing that activist short sellers deserve our sympathy. They do what they do to make a profit; sometimes they will profit from circumstances that cause others distress, but they do not cause that distress. What they do is keep markets more efficient and transparent by aiding price discovery.
As the noble Baroness, Lady Bowles of Berkhamsted, pointed out, under the current rules, short selling is a remarkably transparent activity—rather more transparent than the opposite, in fact. From 1 February this year, the notification threshold for reporting short positions was reduced to 0.1% of the issued share capital of an issuer, down from 0.2%. Under reporting requirements such as these, this can never be a shadowy practice; short figures are made available to all market participants in as close to real time as possible. If the Government are minded to accept these amendments, will they encourage a review of the current short selling rules with a view to making them less onerous, in acknowledgement of short selling’s proven utility?
My Lords, Amendment 78, in the names of my noble friends Lady McIntosh of Pickering and Lord Holmes of Richmond, seeks to commission a review of legislation relating to short selling. It is a pleasure to follow my noble friends Lady Noakes and Lord Sharpe of Epsom; I must say, I agree with everything they said.
From time to time in the UK and in other countries, financial regulators have sought to restrict short selling, as the British Government did to stabilise the market after the bursting of the South Sea bubble in 1720. While short selling has been blamed for market crashes and is considered unethical by some as it is a bet against positive growth, many economists and financial practitioners now recognise short selling as a key component of a well-functioning and efficient market, providing liquidity to buyers and promoting a greater degree of price discovery.
I note that, under the statutory instrument transposing the European regulation into UK law, the minimum threshold for the notification of short positions has been set permanently at 0.1% of the issued share capital of a listed company, whereas in the EU, the threshold will revert to the less onerous 0.2% of issued share capital on 19 March. I consider both thresholds unnecessarily restrictive and wonder why the Government have adopted a rule that will be even more cumbersome and bureaucratic than the EU’s, when the Prime Minister and the Governor of the Bank of England have said that we will get rid of red tape. The EU will relax its red tape on short selling reporting on 19 March but we will not. That is disappointing, is it not? What does my noble friend the Minister have to say about that?
In any case, the competitiveness of the market would be best served by removing the current restrictions on short selling. However, I do not think it would be helpful to place in the Bill this kind of requirement, which will add to uncertainty over the freedom to sell short in future and send the wrong message about the kind of regulatory framework the Government intend to adopt.
My Lords, once again, I am moving outside of any area where I can claim expertise. Essentially, I have no problem with short selling in the right place and time and under the right regulations, but I am concerned that, in the current environment, any move to look at the regulations again would listen more closely to the noble Lord, Lord Sharpe, the noble Viscount, Lord Trenchard, and the noble Baroness, Lady Noakes—in other words, look for opportunities to reduce the restrictions on short selling.
We have had a number of exchanges on short selling in the Chamber. The noble Lord, Lord Leigh of Hurley, is particularly vocal, and I do not think that I represent him unfairly by saying that he believes that the restrictions on short selling that were set in place in 2012, which severely limited naked short selling on AIM, are too onerous and that relaxation would be a good thing. He would argue for bringing more liquidity into AIM. I remember that campaign, which was strong and led by companies that were either listed on AIM or wished to be so but that were concerned about becoming the target of speculators who were not interested in supporting sustainable growth but were very interested in bubbles. Of course, this is a risk that goes alongside naked short selling in particular.
I suspect that this issue will be reviewed; I am sure my noble friend Lady Bowles is right that it should be done in a much wider context—I think the noble Lord, Lord Holmes, agreed with that. But I would not work on the assumption that this comes from a concern that rules need to be tightened and safeguards increased; this will very quickly become a process of trying to see whether we can return to the old animal spirits and largely casino-like speculation that once fired London so powerfully and which many of us think largely contributed to the financial crash in 2007-8. While I understand the concerns of the City of London that it needs to make itself more of an exception in order to gather increasing amounts of business, I am rather disturbed if that mode of exception is to allow a great deal more risk to be taken in ways that then impact on the real economy.
My Lords, this request for a review of short selling is essentially a request to focus on just one of the aspects of the financial markets today that may contribute to enhanced instability in times of stress. It is not just short selling that involves the sale of borrowed assets—this is what the repo market, for example, is all about. The repo market was central to the dangerously short-term funding of the banking sector in the run-up to the financial crisis of 2007-9.
Of course, short selling is prominent because it is a factor in falling markets, when money is being lost, as opposed to similar practices in rising market bubbles, when money is being made. Of course, the short sellers sometimes get their comeuppance, as has been mentioned by several noble Lords in reference to the case of GameStop. The fundamental question is not whether short selling is a process that can be abused—of course it can. What is important is whether the very existence of the practice contributes to market instability and risk or, as has also been argued, to price discovery and greater liquidity.
Those questions may be asked of many practices in our financial markets today, and, at a time when the UK is rethinking its economic and financial future after leaving the European Union, perhaps the time is right for such a wider review of permitted practices. This could begin with consideration of the impact of trading in borrowed assets—as well as, of course, naked transactions—in forward markets.
Since the liberalising years of the 1970s and 1980s, a wide range of these market practices have developed, with potentially serious destabilising consequences—indeed, we have seen these. As such, does the Minister agree with the many noble Lords who have argued that it is time to stand back and think through whether matters have gone too far, are just right or have not gone far enough? Perhaps such a review is too specific for the regulatory framework review that is going on at the moment because, after all, that is about the framework. However, it is necessary to consider, from time to time, practices that will inevitably have downsides but may also have upsides. That sort of consideration should not be delayed at a time when market regulation is changing significantly, with the exit from the European Union.
My Lords, it is important to stress, as a number of noble Lords have done, that short selling is a legitimate investment technique that can contribute to orderly and open markets supporting many consumers. Taking short and long positions can ensure that investors are able to manage risk and volatility in their portfolio, particularly during uncertain times; for example, if a firm has purchased a large number of shares, that firm might want to short some of those shares if they have a volatile price.
As my noble friend Lady McIntosh of Pickering ably set out, the UK’s regulatory regime for short selling is predominantly set out in the short selling regulations, which were introduced in 2012 to regulate short selling practices while safeguarding companies and the financial system. Among other things, it requires persons to notify the FCA of the size of their short positions in shares traded on a UK trading venue. It also gives the FCA various powers to intervene in response to exceptional circumstances that pose a serious threat to financial stability or market confidence in the UK. These include requiring the notification or disclosure of short positions, as well as restricting short selling to periods of up to three months. Furthermore, the FCA can temporarily prohibit or restrict short selling when the price has fallen significantly during a single trading day relative to the closing price of that instrument on the previous trading day. This regime is working as intended, providing the necessary safeguards to allow the operation of a fair and effective market. The Government continue to work closely with the regulators and market participants to monitor the effectiveness of the entire regulatory regime to ensure that legislation continues to be fit for purpose and delivers on its objectives, in particular to support economic growth and maintain financial stability.
As my noble friend Lady McIntosh of Pickering noted on the example of GameStop, the UK short selling regime was not breached because it does not apply to shares admitted to trading on US trading venues. Furthermore, the regime that I have just set out that applies to short selling would mean that in such a scenario in the UK the FCA would have been able to identify short positions building up and would have been able effectively to engage with the firms holding the short positions in that case.
I am not sure that I recognise the characterisation of the Bank for International Settlements’ report set out by my noble friend Lady McIntosh of Pickering, but I will happily write to her on that matter.
A number of noble Lords have spoken, from different perspectives, in favour of a review of short selling. In response to a number of direct questions about what jurisdictions such a review would look at or whether it would look at relaxing or shoring up such regulations, at this point the Government do not see this issue as the most pressing area of financial services regulation to look at. We see no need to conduct a review of this legislation at this time, so I ask my noble friend Lady McIntosh to withdraw her amendment.
I am grateful to the Minister and to all those who have contributed. I recognise the role that the noble Baroness, Lady Bowles, played in the adoption of the current EU regulation. I am grateful to my noble friend and others who set out the arguments on one side or the other. I have a great deal of sympathy with my noble friend Lord Holmes of Richmond and his earlier amendment calling for a review of all financial regulations and regulators’ rules, and I note that my noble friend Lady Penn does not see the need for this at present.
This is something that I will personally continue to monitor. I have no doubt that my noble friend Lady Noakes, who speaks with great authority and expertise on these issues, and my noble friends Lord Sharpe and Lord Trenchard would prefer that many of the regulations would just go away, but I am rather pleased that they are not going away for the moment. My concerns have been addressed to a great extent. I will continue to support my noble friend Lord Holmes’s call for a further review of all these practices. I am grateful to have had the opportunity to debate these issues and I beg leave to withdraw the amendment at this stage.
Amendment 78 withdrawn.
79: After Clause 40, insert the following new Clause—
“FCA duty to regulate buy now, pay later firms
(1) Within 3 months of the day on which this Act is passed, the Secretary of State must lay before Parliament regulations which confer a duty on the FCA to regulate—(a) buy now, pay later credit services, and(b) other lending services that have non-interest-bearing elements.(2) The duty conferred in regulations under subsection (1) must take effect no later than 6 April 2022.(3) Regulations under this section are subject to the affirmative procedure.”Member’s explanatory statement
This new Clause would require the Chancellor to confer responsibility for regulation of the non-interest-bearing elements of buy-now-pay-later lending to the FCA, with such a duty to come into force no later than the beginning of the 2022/23 tax year.
My Lords, many colleagues will recognise Amendment 79 as a response to the recent publication of the Woolard Review into change and innovation in the unsecured credit market.
The Government have been on something of a journey on buy now, pay later products. In December 2020, the Economic Secretary resisted a similar amendment tabled by long-standing personal debt campaigner and MP for Walthamstow Stella Creasy. He said that while the Government were aware of potential risks resulting from a boom in the use of buy now, pay later products,
“we are yet to see substantive evidence of widespread consumer harm”,—[Official Report, Commons, Financial Services Bill Committee, 3/12/20; col. 398.]
and it would therefore be inappropriate to act.
To be fair to the Government, they did not want to pre-empt the findings of the Woolard Review, which was published a month ago and is a very strong piece of work. It warned of “significant potential customer harm” if there was not a role for the FCA. By bringing certain unregulated credit products under the FCA’s watchful eye, we could see requirements around affordability checks, as well as the introduction of proper protocols for individuals who find themselves struggling to repay the loans they have taken out.
The review also stressed the importance of ensuring a well-functioning debt advice sector, and the need for both government and regulators to take a more holistic approach to a range of issues around personal finance and debt. I know that this piqued the interest of my noble friend Lord Stevenson of Balmacara, who has already dealt with the concept of financial well-being and will turn his attention to Victorian log-book loans shortly. We support his endeavours and hope that at the very least the Government will commit to a review of the antiquated legislation whose repeal was recommended by the Law Commission several years ago.
We strongly welcome the Government’s acceptance of the Woolard Review’s recommendations, as well as their commitment to implement the necessary changes as soon as practicable. It is in some ways a curious change of position, as the review’s discussion of theoretical risks does not appear to meet the evidence test set by the Treasury just three months ago. However, this is a policy change that we can support and, luckily for the Minister, this legislation provides a means of delivering on the Government’s promises.
No doubt we will hear later that this is a very complicated matter and the Treasury needs time to think through the consequences—intended and unintended. Mr Glen hinted at this back in December, talking about the need for the Government to “assess the options” and to weigh up whether they “would be proportionate” in responding to potential harm.
One worry previously cited by the Government related to the potential restricting of flexible payment options for such things as gym memberships or sport season tickets. Nobody would wish to restrict access to such options, in part because they have shown themselves over many years to be low risk. We therefore welcome the distinction made in the review, which talks of “certain new credit products” being brought under the FCA. Our Amendment 79 is more wide-ranging but is, as so often in Committee, a vehicle for debate.
Another worry of those who oppose regulation relates to the potential stifling of innovation in the sector. Of course we welcome new entrants and new services, but on the basis that they operate in a responsible manner. These products are booming in part because of Covid-19 and changes to peoples’ shopping habits. Buy now, pay later grew exponentially during 2020, with an estimated 5 million people using products from firms such as Klarna and Clearpay. The value of these transactions is in the billions, and that figure is likely to grow.
We do not oppose Klarna, Clearpay or other providers of these services. They offer a product which many shoppers wish to avail themselves of, and I am confident that such companies will continue to grow once subject to FCA regulation. All we are asking is that these players, as with others across the financial services sector, are subject to the correct balance of rights and responsibilities, including duties to those who may have problems with debt.
I have no doubt that the brilliant minds at the Treasury and the FCA can come up with a solution, and do so while the Bill remains under consideration. Our amendment mentions the 2022-23 tax year, and if we are to learn lessons from the past, including the failure to properly regulate payday lenders, surely we must keep this target at the forefront of our minds.
I know from previous discussions with the Minister and officials that they are working very hard on this. Therefore, I am hopeful of seeing a government text on Report, if not establishing the detail then committing to the principle and providing the powers that will be needed to implement changes in the coming months.
Other noble Lords with amendments in this group will be very keen to make their speeches, so I will not detain the Committee for too much longer. However, I want to voice support for the other amendments, including that from my noble friend Lord Stevenson referred to earlier in my remarks. I also look forward to the Minister’s response to the amendment on access to bank accounts and cash. Sadly, we continue to see the withdrawal of bank branches and cash machines from towns and villages across the country, suggesting that previous initiatives have not had the desired effects. I beg to move.
My Lords, I start by expressing support for Amendment 79, introduced by my noble friend Lord Tunnicliffe. As the Woolard Review pointed out, the buy now, pay later issue is a hotspot at the moment and in need of urgent action. My noble friend’s amendment would require that the non-interest-bearing elements of lending under that regime should be regulated by the FCA, and we support that. I thank the Economic Secretary for the time given to us recently on this issue and I appreciate that this is not easy to regulate for. However, as my noble friend pointed out, there is time to get this right by the next financial year.
At heart, this looks like a consumer-friendly initiative—something we could all support. Credit-financed purchases have been with us for a long time, and there are some examples of activity in this field that could be damaged if the regulations to be brought forward are too aggressive. My noble friend mentioned employees, advances of salary and season tickets, and similar arrangements. However, the real profit motive which drives these schemes lies in the small print. Like so many similar schemes, these buy now, pay later schemes put pressure on customers to make unnecessary purchases, do not make effective credit checks, and there is evidence that they can cause mental health difficulties for those who sign up. I am sure that it would be possible to get this side of things properly regulated. However, what is less easy to regulate—although in fact it is far more damaging to hard-pressed consumers—are the penalties that get applied to missed payments and the excess interest that is loaded when payments are missed. In addition, compulsory insurance is often levied against default, links to loyalty follow-up purchases are imposed, and no real comparator APRs are somewhere available for those who wish to shop around before purchasing.
The focus placed on the FCA’s duty to promote competition rather than on a duty of care is an issue in play here. When the FCA was asked to regulate payday lenders, this House made it clear that its concern was the usurious rates of interest being charged, often many thousands of percentage points measured by APR. The solution favoured by the House was banning the products, which was why many of us were mystified by the FCA’s proposed solution of reducing the number of players in this market to a smaller number of well-capitalised companies—which indeed got the interest rates down, but only to around 1,000% APR, so consumers were left facing usurious rates. I hope the Minister will be able to reassure us that the approach that the Government are thinking of taking to buy now, pay later will not fall into the same trap as the payday lender regulations. The aim is consumer care and stamping out egregious behaviour, and not just promoting competition by allowing companies to rip off vulnerable consumers.
My Amendment 101, which I am grateful to the noble Lord, Lord Holmes of Richmond, for signing, is also about high-cost credit. As I said at Second Reading, it is high time we repealed the Victorian bills of sale legislation, which permits an egregious area of high-cost credit to continue and flourish outwith current consumer protection rules. Harm is being done.
Bills of sale are an early form of mortgage, aimed at goods and chattels and not property, which allow individuals to use goods they already own as security for loans while retaining possession of them. The use of bills of sale grew from fewer than 3,000 cases in 2001 to more than 30,000 in 2016. The number has dropped recently, but it is probably still in the order of 15,000 a year and it is going up. Ironically, bills of sale were legislated for before cars were invented, but they are used today mainly for what are called log-book loans, where a borrower raises cash on the security of his or her vehicle. Borrowers may continue to use their vehicle while they keep up the repayments, but if they default, the vehicle can be repossessed, sometimes from outside their front door, without the protections that apply to hire-purchase transactions or other consumer credit. It is also difficult to discover, when a car is being sold, whether it has a log-book loan attached. The register is kept by the High Court and it is not easily searchable. The new owner has no protection against losing the car if that loan has been defaulted on by the previous owner. This is just not fair.
Bills of sale are currently governed by two Victorian statutes, the Bills of Sale Act 1878 and the amendment Act of 1882—the statute was apparently so obscure in 1878 that it had to be re-regulated for in 1882. The legislation is described by the Law Commission as “archaic” and “wholly unsuited” to the 21st century. The current law creates hardship for borrowers and for private purchasers. The Law Commission argues that it imposes unnecessary burdens on lenders, and the lack of a proper chattels mortgage system restricts access to finance for unincorporated businesses and high-net worth individuals.
The great majority of bills of sale are taken out by borrowers who have difficulty in accessing other forms of credit. The current APR in a recent advert that I saw was 450%. The Law Commission says that the statutory form of a bill of sale as set out in the 1882 Act, which has to be followed absolutely to the letter, confuses borrowers rather than helps them to understand the consequences. It is clearly an area that should be cleaned up. A simple way, which is what I propose in my amendment, would be to repeal the Acts. While I accept that some people currently using log-book loans would be adversely affected by such a radical change, the greater harm lies in continuing the status quo.
I currently have a Private Member’s Bill on this issue, drafted by the Law Commission, which includes provision also for a goods mortgages scheme. Perhaps a way forward on this would be for the Government to agree to take on all or part of this Bill in the next Session using the special scheme for approving uncontentious Law Commission Bills. I would be happy to meet the Minister on this issue, if he could find the time, to see whether this would turn out to be a way forward.
My Lords, it is a pleasure to speak to this group of amendments. In doing so, I declare my interests as set out in the register. It is also a pleasure to follow the noble Lord, Lord Stevenson. Before I speak to Amendments 127, 131 and 136C in my name, I shall speak to Amendment 101, so eloquently introduced by the noble Lord, Lord Stevenson of Balmacara; Amendment 135, in the name of my noble friend Lord Leigh of Hurley, who is speaking after me so I shall not eat too much of his afternoon tea; and, briefly, Amendment 136F.
First, if you ask what Amendment 101 is about, the answer, unfortunately, is exactly as set out by the noble Lord, Lord Stevenson: Victorian statutes, which are unfortunately put to purposes for which they could not have been intended, and are certainly not an area of financial services, products and practice that we would care to see continue in 2021. If my noble friend the Minister needs any further lead in his ministerial pencil on this point, I believe it is given by the report of the Law Commission some four years ago which suggested the removal of these two statutes. Like my friend, the noble Lord, Lord Stevenson, did, I ask my noble friend the Minister seriously to consider removing these out-of-date and literally Victorian statutes from our legislation. Perhaps the vehicle already proposed by the noble Lord, Lord Stevenson, in his Private Member’s Bill would be an efficient and effective means of doing just that.
Amendment 135 seems eminently sensible, straightforward and perfectly statute-bookable. Does my noble friend the Minister agree? I have a brief note on Amendment 136F. Again, this area requires a deal more looking into, and this amendment certainly seeks to do that. Does my noble friend agree that some government time looking into the activities of bailiffs, as well as a better appreciation of their impact, are required, not least after the Covid year that we have had? It requires careful consideration of how we go about approaching the whole area, which impacts on so many people’s lives.
Amendment 127 in my name is a very simple amendment. It would prohibit the sale of mortgage loan books from authorised to non-authorised entities. The phrase “mortgage prisoners” is exactly right, as thousands of people find themselves in such a situation through no fault of their own. It seems an extraordinary regulatory loophole that a whole book can go from an authorised to a non-authorised entity with, apparently, not a single regulatory eyebrow being raised. A timely reminder of this is the excellent report on the subject published this very morning by UK Mortgage Prisoners, which makes pretty grim but incredibly impactful reading. Has my noble friend the Minister had a chance to review that document? What thoughts do the Government have on the approach that they would like to take on this issue, which should never have been enabled in the first place? Will my noble friend commit to action to prohibit the practice of such sales of mortgage loan books? My Amendment 127, in tandem with other amendments later in Committee, would, in effect, put an end to this practice and give the right level of support to those thousands of people who find themselves in such dire straits—again, it is worth repeating, through no fault of their own.
Amendment 131 looks to put an objective relating to financial exclusion on the Financial Policy Committee of the Bank of England. This amendment is tied to my Amendment 9, which we debated some days ago and which, in similar terms, sought to put a financial inclusion objective on the Financial Conduct Authority. My aim is to set out a golden thread of financial inclusion, which runs from government through the Bank of England, the regulators and the authorised firms and, indeed, has no gaps, falls or trips along that thread. I believe that, if we have this joint golden thread of action, we can make a real, material difference to financial exclusion—or, indeed, the positive side of it, financial inclusion—in this country.
The examples that I set out in the amendment are illustrative but nevertheless real. The FPC defines financial stability in terms of enabling individuals and firms to get the support they need when they need it, irrespective of the overarching arena. Given the more than 1.3 million UK citizens currently without a bank account, and the tens—or maybe hundreds—of thousands of small and medium-sized enterprises without the lines of credit they require to grow their business, it is difficult to stand by the definition and claim of financial stability made by the FPC. It would be helpful for the Government and, indeed, the Bank to reconsider and reimagine the whole conception of financial stability: how it ties to, and intertwines with, financial inclusion and how this reimagined view could benefit the nation, both the individuals who find themselves on the sharp end of financial exclusion and all those SMEs which for decades have been denied lines of credit. For individual businesses, this is a tragedy; for the UK economy, so much GDP unenabled. Does my noble friend agree that serious consideration of placing such a financial exclusion—or, indeed, financial inclusion—objective on the FPC is certainly worth considering?
I turn to Amendment 136C on “cashback without a purchase”. At first blush, it is quite a niche amendment—quite small in scope, and specific—but its impact could be transformational. Over the last year, Covid has demonstrated how cash operates in our country and how, in so many ways unequally, that cash operation rolls out. Covid has shown us both sides of the cash coin and has again gone to the heart of the question: what is financial inclusion in the UK?
In October, the Treasury correctly stated that it was not possible to fully enable cashback without a purchase because of barriers from the European Union, not least the PSD. Well, that barrier has now gone. Does my noble friend the Minister agree that it would be a real boost for individuals, businesses and communities if cashback without a purchase could be enabled—for all those individuals who need, rely on and trust cash, and all those businesses that could have an additional strand by being able to offer this service? It may well be the case that cash is no longer king. It is certainly very much the case that cash still has currency. Does my noble friend agree—and does he agree that this amendment needs serious consideration between now and Report?
My Lords, I shall speak on Amendment 135 in my name, although I find myself in agreement, as is so frequently the case, with the noble Lords, Lord Tunnicliffe and Lord Stevenson of Balmacara, on their amendments, and, of course, with my noble friend Lord Holmes of Richmond, who very kindly served as my warm-up act for my amendment. With such unanimity, let me explain what this is about.
At Second Reading, the Minister might have read that I raised two issues of concern. The first was that FOS and the FCA had been overzealous and overreached themselves. As a result, they had destroyed a segment of the financial services industry, namely the SIPP industry. I was disappointed that there did not seem to be anything in this Bill dealing with that, but I am pleased to say that I have had constructive meetings with the City Minister, John Glen, and representatives of the FCA and FOS and there are further meetings ahead. I accept that this matter will not be in this Bill, but perhaps it will be dealt with at a later stage elsewhere.
The second matter that I raised was about a situation in which FOS and the FCA were not doing enough to protect consumer interests, and I had an idea that might enable them so to do. As the Minister here today was not at Second Reading, I will just remind him of the reason why I have raised this. In the summer, I received a letter in the post with a credit card in my name, which was very nice except that I had not applied for it. It arrived unsolicited. I did not think too much of it, but a few days later—in those halcyon days of last summer when one could go outdoors and talk to one’s neighbours—a neighbour mentioned to me that they had seen some slightly unsavoury-looking individual rummaging through my letterbox at the front gate. I managed to put two and two together and worked out what had happened. Someone had found my home address and date of birth—which is not difficult, I am sorry to say, because they are available at Companies House; I have since changed that, but it is generally true. Then clearly he applied for a credit card in my name and was rummaging around in the letterbox to find it and to find the PIN, which followed in the post a few days later. It was clearly an unsatisfactory situation.
I contacted people in the company concerned, which I shall not name on this occasion, and complained that it was odd that they had sent me a credit card that I had not requested. I invited them to explain why and perhaps to change their procedures. They replied that they were sorry to hear it, but as I had not lost any money, there was nothing that they could do, or chose to do. Eventually, after a few letters and emails, they sent me a form to use to complain to FOS. I could not resist, of course, so I put a complaint into FOS—and it took FOS six months to reply to the complaint. After six months, a very well-crafted letter arrived from FOS, explaining to me that it could not help me because I was not actually a customer of the credit card company concerned. I was a potential customer of the credit card company concerned, and under the FCA handbook—the FCA instructs FOS—it has no power to deal with situations in respect of potential customers.
There were audible gasps of horror at Second Reading when I explained the situation, and my noble friend Lord Agnew agreed to write to me because he, too, was surprised. He wrote to me on 9 February and said:
“As you set out in your speech, the FCA is responsible for setting the rules for what complaints the FOS are able to consider. These rules do not allow FOS to consider a complaint from someone who is not a customer or potential customer of a firm. Extending eligibility to make a complaint to the FOS about a firm that they are not a customer or a potential customer of would be a very significant expansion of the FOS’s remit, which could result in delays to other complaints being resolved. However, the FOS are able to consider complaints from people who are being pursued for a debt that is not theirs following an identity theft. Therefore, had the attempted identity theft you experienced resulted in losses, then the FOS would have been able to consider a complaint from you.”
I am trying to prevent such losses and future losses. My amendment would enable FOS and the FCA to deal with complaints from potential customers before they have lost money, something one would have thought we would all want to see. More importantly, it would not just enable them to investigate complaints but empower the FCA to go to these credit card companies and invite, if not instruct, them to change their policies and procedures so that this cannot happen—simple things such as insisting on verification that an application has been made before the credit card simply arrives in the post from someone who has not made this application.
I appreciate that this group is a bit of a ragbag of amendments on very different subjects, but I hope that, rather than treat it as a probing amendment, my noble friend will be able by Report either to agree it or come up with some wording that achieves what I seek to achieve. My amendment has been supported by my noble friend Lady Altmann but, as noble Lords will be aware, the Domestic Abuse Bill has taken away a number of Peers from this debate, so she is not able to speak. However, I am grateful to those noble Lords who have sent me messages of support for this amendment; I very much hope we will be able to deal with this situation satisfactorily.
My Lords, I am most grateful to the noble Lord, Lord Tunnicliffe, for putting down Amendment 79; I will address that first and then move on to Amendment 93.
I spoke earlier about the difference between home credit companies and payday firms, so I shall not go down that route again. Buy now, pay later reminds me of the old days of hire purchase and some of the challenges that arose then. In many ways, this is almost equivalent to gambling: it plays on people’s weaknesses, who then build up a cycle of debt, as so many noble Lords have said—and lingering in the shadows, ready to swoop, are the claims management companies. Frankly, I do not see why, in this scenario that we all know is happening and will get worse, not least with the huge temptation that will come after furlough is lifted, we cannot act earlier than the next financial year. I do not know the answer to this, but I begin to wonder whether all these payday loans are registered. If they are not, something should certainly be done about that. Finally in this area, we need to ensure that the FCA and the Financial Ombudsman Service are really watchful of the action of the claims management companies when it gets to that state.
Turning to Amendment 93 on access to cash, I thank my friend the noble Baroness, Lady Kramer. As has already been said, 1.3 million people have no access to a bank account. Cash is vital, particularly to the elderly in our society. Covid has made the whole thing even more difficult; the impression has been left that those who carry any notes in their wallet could be carrying Covid. It took some weeks for Her Majesty’s Government to put out clear statements that that cannot happen—it cannot transmit Covid; nevertheless, the rumour was out there and has stuck. The problem then comes down to the many outlets with a sign up in the door or on the cash till basically saying “Cards only”. Indeed, our own refreshment department is card only. The question in my mind is whether it is legal to trade and offer card only. I would have thought the very fact of being given a licence to trade ought to mean they can trade but must accept legal tender in whatever form it is offered.
The Post Office provides a really good service, and I pay full tribute to what it has done in these months of turmoil that we have faced. However, from the little work that I have done, I understand that the people behind the cash machines—those promoting them and the companies involved—state that they are becoming increasingly unviable. If that is the situation, it is very worrying, and I hope that Her Majesty’s Government will take this very seriously and make sure that, one way or another, cash machines are still available to the more than 1.3 million people who do not have bank accounts.
My Lords, this group of amendments has an underlying theme of identifying the need for greater consumer protection in this area. I support the noble Lords, Lord Tunnicliffe and Lord Eatwell, in the aims of the much-needed—it would appear—Amendment 79. If he is minded to say that there is no need for such an amendment, could the Minister, in responding to this debate, point to the consumer protection regulations for those using buy now, pay later services? Many of us have seen how the level of personal and household indebtedness has greatly increased due to the lack of regulation in the area identified by Amendment 79.
I will turn to Amendment 101 before coming back to the others. I entirely support the thrust of this amendment in the name of the noble Lord, Lord Stevenson of Balmacara, supported by my noble friend Lord Holmes of Richmond. It seems extraordinary that when consumer protections apply to hire purchase of a vehicle, they do not apply to the circumstances that have been set out and so eloquently identified by the noble Lord, Lord Stevenson, so the time has come for these two Victorian statutes to be replaced. I would like the Minister to give a very good reason why this could not happen and why we cannot simply rely on hire purchase schemes, which give greater protections to the owner and the existing user of a vehicle, for this form of purchase.
Amendments 92 and 93 from the noble Baroness, Lady Kramer and Amendment 136C from my noble friend Lord Holmes identify the need for access to cash. I find cashless societies highly regrettable, particularly for elderly and other vulnerable people; I know there are some in Europe; Sweden is well down this path and Denmark is going down it. On continuing access to cash, the noble Baroness, Lady Kramer, has set out, and my noble friend Lord Holmes set out in his Amendment 136C, why it is extremely important to have proper protections in these areas.
My noble friend Lord Holmes pointed out the role of cash in Covid and why it goes to the heart of financial inclusion. Without wishing to put words in his mouth, I will take his thoughts one step further: I am deeply concerned that the Government propose that the amount available in a contactless transaction will imminently be increased to a maximum of £100. This will possibly enable many people to lose control of their finances, and it will open the door to greater fraud, even where a debit or credit card has not left your possession.
I have been the victim of such fraud. I am delighted to say that the credit card company I was with at the time reimbursed me almost immediately for the loss. What that means is that we are all paying for that loss as credit card or debit card users. The existing limit of £45 is right at the moment; I would hesitate to increase it to £100. I do not know whether there is a bottomless pit for endless frauds or what it means if the limit goes up to £100 on a contactless transaction. Are there limitless reserves? Who pays for the fraud in this regard?
In Amendment 136F, the noble Baroness, Lady Meacher, has identified an area that is timely for review: the regulation of bailiffs and bailiff firms for the purpose of taking control of goods. I would be delighted to hear from the Minister that, even if the Government are not minded to accept this amendment, he will come forward with similar provisions as set out therein and recognise that there is a need for this to take place.
On Amendment 135 in the name of my noble friend Lord Leigh, I think all of us say, “There but for the grace of God go I”. Identity theft is a compelling crime. He set out some modest requirements that the Government would do well to follow.
I find that the amendments in this group have an underlying theme of the need for greater consumer protection. Although they are disparate in what they seek to achieve, each of them has merits to commend it. I very much look forward to hearing the Minister’s response to the excellent case that has been made for each amendment in this group.
My Lords, it is always a pleasure to follow the noble Baroness, Lady McIntosh of Pickering.
I wish to speak in support of Amendment 79 in the names of the noble Lords, Lord Eatwell and Lord Tunnicliffe. It seeks to protect people from buy now, pay later firms that, in many instances, financially abuse people. It is important that people who find themselves in this position are financially protected. In many ways, the amendments in this group seek to do what the noble Baroness said: they are all about consumer protection.
In his introduction, the noble Lord, Lord Tunnicliffe, referred to the Woolard review, part of which clearly states the need for customer harm to be minimised and to come under the purview of the Financial Conduct Authority. From doing some background reading, I thought I learned that the Government were receptive to the review’s findings. In this regard, I wonder whether the Government, through the Minister, will bring forward on Report amendments to deal with this issue if they are not prepared to accept Amendment 79 today. However, it may be that they will accept it in view of their acceptance of the Woolard review.
At Second Reading, I highlighted this area and asked whether the Government would bring forward in Committee amendments to ensure that buy now, pay later credit services are brought into the scope of the Financial Conduct Authority to protect people from spending more than they can afford. Indeed, many people in this net take out further debt to repay initial credit, then end up with their debt spiralling out of control.
Individuals in this position need legislative protection from the Financial Conduct Authority. It is a matter of regret that so far the Government have not brought forward such an amendment, but there is always the possibility that they might accept this amendment or bring forward amendments on Report. I too commend the noble Lords, Lord Tunnicliffe and Lord Eatwell, on their compassionate and interventionist amendment which would protect people from a genuine humanitarian point of view. I note that this matter was raised in the other place by the Labour MP Stella Creasy and that at that stage it was rejected by the Government, but the noble Lord, Lord Tunnicliffe, said that that was perhaps in view of the fact that they were waiting for the results of the Woolard Review. The Government should put social justice and humanitarian matters along with compassion at the heart of financial policy and therefore should consider accepting this amendment, which would ensure that the Chancellor of the Exchequer conferred responsibility for the regulation of the non-interest-bearing elements of buy now, pay later to the Financial Conduct Authority, with such a duty to come into force no later than the beginning of 2022-23. This amendment, if accepted, would be a much-needed initiative in legislation to prevent those in debt getting further into debt. We must always remember that buy now, pay later schemes encourage all of us to spend when we might not have done so if we were simply using cash.
My Lords, I read all the amendments in this group, and I found myself in support of every one of them. It is an excellent group. We all realise now that Amendment 136F, tabled by the noble Baroness, Lady Meacher, is in the wrong group, which I suspect is why she is not speaking on this group under the heading that I loosely call offences.
Picking up on that theme, I say to the noble Lord, Lord Leigh of Hurley, that he was the victim of an attempted fraud. It is astonishing that action did not follow. When we discuss that group of offences, one of my underlying concerns is about the lack of resources to pursue offences of any kind within the financial services spectrum, so I suspect that that is probably where the resistance has been coming from. It is an area that we need to resource properly, and we need to make sure that when a red flag is raised by an experience such as his there is follow-up, knowing that that will have been one of many attempts to defraud and that some of them will have succeeded. I hope that the Government will look at resourcing.
When I look at quite a number of the amendments in this group, whether on buy now, pay later, bills of sale or mortgage prisoners—which I think we will deal with in more detail later—it strikes me that all of them could have been headed off at the pass as problems if we had had an underlying duty of care. That takes me back to the first group of amendments that we dealt with, because with that in place we would not have had a regulator hanging back to see what the competitive implications were, whether or not various tests were reached and so on. It would have shaped very early the framework within which these activities sat. It really is a very strong argument for that duty of care.
On the excellent Amendment 79, I understand, following Chris Woolard’s report, that we are to expect action. The Woolard report raises the issues in detail; I will not repeat them here today but I will say this: if the FCA does nothing more than introduce an affordability test, which is how it tried to manage the payday lenders, we can guarantee that this House will intervene. We will expect stronger action than that, to make sure this problem is grasped—and not allowed to encourage people to fall into debt which frankly they cannot handle—and to put a proper framework around what is essentially a form of lending. I note in that context that Klarna is described today as the most valuable new start-up in Europe; its rate of growth and the appetite for buy now, pay later should set alarm bells ringing.
I thank the noble Baroness, Lady McIntosh, for supporting my Amendment 92. It is a probing amendment that deals with a crucial aspect of financial inclusion—I find echoes of this in some of the words of the noble Lord, Lord Holmes. The inadequacy of basic bank accounts and the reluctance of many of the banks that offer them to engage with the needs of basic bank account customers is an underlying problem. It certainly means that basic bank accounts do not lead to appropriate vehicles for people in the most disadvantaged end to borrow or save, or to engage much more broadly with financial service products. In this day and age, that is a serious issue.
The situation is better today than it was a few years ago; I remember listening to high-street banks who would encourage those coming in to open a basic bank account to go down the street to Nationwide, where they would receive a friendlier reception. Basic bank accounts were regarded just as cost; this was not only inappropriate but meant that those who were welcoming ended up with the greatest share of the burden. I have always taken the view that trying to make an institution provide a service to a customer that they do not want will mean a failed product. We have about 7.5 million people with basic bank accounts and some 1.2 million people completely unbanked. We have to grasp this nettle.
In the United States, intended or not, the approach to people who have been shut out of the financial services system has been different and rather more effective. I would like the Government as well as the regulators to go away and look at it. Under the Community Reinvestment Act 1977, any bank that sought permission to acquire or merge with another bank—something almost every bank was doing at the time—was required to demonstrate that it fully served the disadvantaged communities in its service area. As a civil rights measure, banks were basically red-lining African American, Latin American or Central American communities. They were allowed to serve those communities by supporting local institutions identified as much better fitted to the purpose. This gave a new lease of life to community development financial institutions—CDFIs—of all kinds, including credit unions and community banks. The major banks invested in them to pass that threshold and be able to do acquisitions and mergers, and supported them with expertise in marketing and technology.
I would very much like to see that model here; that is the purpose of my amendment. The DWP’s 2019 report on financial inclusion states:
“Social and community lenders such as credit unions and … CDFIs … provide a lower cost alternative to high-cost lenders, they are small in comparison and lack the visibility and capability to compete at scale. The UK needs a much larger, more vibrant social lending sector”.
CDFIs know the needs of their clients—that is where their work is targeted. They often work with local charities and civil society groups to provide money advice, business advice and a wide range of additional support to make people financially capable.
Some investors in the UK are developing new entities in this space. I am aware of two potential new mutuals, one in the south-west and one in London, targeted at this group of people. The recent report by Ron Kalifa on fintechs identified that new fintechs have the capability to provide a tailored, low-cost offering. But the reality is that very few new players have emerged to serve the excluded sector, which tells me that the system that we have at present is not working. I want all major UK banks to engage with this sector and for the regulator to make it a requirement, not just an act of charity or public relations. That could be done within the banking licence or through regulation, but that would change it from being a passive set of actions to an active way in which to make sure that this gap in the market is filled by people capable of doing it well.
I thank the noble Lord, Lord Naseby, and others who supported Amendment 93, which deals with the current and accelerating crisis of access to cash. The Government promised legislation at last year’s Budget, but there is no sign of it yet. Covid has driven a sharp drop in cash usage from three in 10 people before the crisis to just one in 10 people. That is a huge drop, but it still leaves about 5 million people who rely on using cash. Of course poverty and age are often a characteristic, but for many people it is a strong cultural preference; they want to use cash, and it is really their right.
As I understand it, the Government are going to follow the direction recommended by the noble Lord, Lord Holmes; they will be able to confirm whether that is correct. That would permit retailers to provide cash without a purchase, which would help, but it is still very hit and miss. The Access to Cash Review done by Natalie Ceeney in 2019 highlighted the fact that retailers’ reluctance to accept cash is driving a lot of the change. Bank branches are closing across the country, especially in rural and disadvantaged communities. LINK, the largest cash machine network, has a contract with the Post Office, but it has about 18 months or so to run. Free-to-use ATMs are disappearing fast; when I talked to the industry, the estimate that I was given was that, if we do not do something quickly, half the ATMs in the country will be pay to use within 18 months.
We will need intervention by the FCA. Lots of commercial companies are involved in the system and any change or rationalisation throws up competition issues. The banks, for example, could be given an obligation to provide free access to cash but then allowed to use a utility model whereby they combine to provide free, shared smart machines capable of a range of services, perhaps with an assistant present to help users to navigate the machines. That changes how we think about this issue quite dramatically—and normally we would have time to do that, but we are now faced with an urgent situation.
I quote one final phrase of Natalie Ceeney’s report, because to me it says it all:
“It is … critical that action is taken now, so that no-one is left behind.”
I recommend that the Government take urgent action to deal with access to cash.
My Lords, I thank all those who have spoken very genuinely, because we are considering an important group of amendments on consumer access to credit. I am very grateful for the continued and thoughtful interest of noble Lords in this area. I assure all those who have spoken that we are listening carefully and will read this debate.
Amendment 79 would require the Treasury to introduce legislation to bring buy now, pay later products into FCA regulation, to which all speakers referred. The Government are committed to protecting the interests of consumers and, since Second Reading, as the noble Lord, Lord Tunnicliffe, said in moving his amendment so ably, the Woolard Review has recommended that these products should be brought into the scope of FCA regulation. The Government are acting swiftly, following the outcome to this review, just as the Economic Secretary committed to do during this Bill’s passage through the other place. That is why, on 2 February, we announced our intention to legislate to bring them into regulation. However, it is important to know that these products are interest free and, therefore, inherently lower risk than most other forms of borrowing, so it is essential that regulation protects customers in a way that ensures that they can continue to use these products to manage their finances, rather than more expensive forms of credit on which they might otherwise rely. The Government therefore intend to consult stakeholders to ensure that a proportionate approach to regulation is achieved.
However, the Government are committed to ensuring that any regulatory intervention into the buy now, pay later market is effective and will allow us to act quickly. I thank noble Lords on all sides of the Committee for their focus on this issue and I recognise the strength of feeling on it. I appreciated the opportunity to discuss it prior to Committee and I am open to further discussions. I reassure noble Lords that the Government share their belief in the need to move forward on this decisively and quickly.
Amendment 92 in the name of the noble Baroness, Lady Kramer, would require basic bank account providers to provide access to budget management tools and debt advice alongside the basic bank account. Access to a bank account is the first step on the path to financial inclusion and capability. It provides people with a way to receive their income and manage their money securely and confidently.
Since 2016, the UK’s nine largest retail banks have been required to offer basic bank accounts to eligible customers, although the largest UK firms had been providing similar accounts voluntarily for some years before this. The Payment Accounts Regulations set out a minimum requirement for designated firms to offer fee-free everyday banking services, including direct debits and standing orders, to basic bank account customers. This ensures that all basic bank account customers can benefit from the same essential features as all other payment account holders.
The Government are committed to ensuring that people can have the confidence and skills to successfully engage with their finances, and firms are already supporting customers to do so through their existing basic bank account offerings. Many basic bank account providers already go above and beyond what is required in the regulations and offer customers a variety of additional features, including budgeting tools, which allow customers to calculate their budget, organise their spending into categories, set savings goals and track transactions.
The amendment also seeks to require banks, or a third party, to offer access to debt advice for basic bank account customers. However, FCA-regulated firms are already required to pay due regard to the interests of customers and to treat them fairly, including by informing clients in arrears of the availability of free debt advice. Firms do this in a number of ways; for example, by providing contact details for free debt advice bodies and the Money and Pensions Service or by directly transferring a customer’s call to a free debt advice body.
Costumers, therefore, already have a wide variety of options in the basic bank account market which allow them to choose a provider that offers them the banking services and products that work best for them, and existing FCA rules already require firms to inform customers in arrears of the availability of free debt advice.
I turn to Amendments 93 and 136C. The Government recognise that access to cash remains extremely important to the daily lives of millions of people across the United Kingdom. Perhaps I should declare a personal interest as someone who has used cash for nearly 70 years—since the days you could buy a liquorice stick for the old farthing—and I hope to go on using cash, although it will not be for another 70 years, I fear. That is why the Government have already committed to protect access to cash and to ensuring that the cash infrastructure is sustainable in the longer term.
Amendment 93 calls for reports detailing the progress made on commitments to protect access to cash. Amendment 136C seeks to require the Government to set out the options for enabling cashback without a purchase and to review the EU’s second payment services directive. I will set out how the Government are already publicly demonstrating progress in these areas and, I hope, give some encouragement to the Committee.
The Government published a call for evidence on access to cash in October 2020. It sought views on key considerations including deposit and withdrawal facilities, cash acceptance and the regulatory oversight of the cash system. The call for evidence closed on 25 November 2020. The Government are considering the responses and will set out the next steps in due course. The Treasury continues to engage with the regulators to monitor the risks and ensure that customers, including vulnerable individuals, can access essential banking services during the pandemic.
The Joint Authorities Cash Strategy Group brings together the Treasury, the Bank of England, the Payment Systems Regulator and the Financial Conduct Authority to ensure comprehensive oversight of the UK cash infrastructure. An update, published last June, presented the individual and collective actions by members of the group to ensure the continued provision of access to cash during Covid-19, although I acknowledge the facts put forward by the noble Baroness, Lady Kramer. Furthermore, industry-led initiatives, including the community access to cash pilots, are progressing, and regulators have convened working groups to support the development of sustainable industry solutions to meet cash needs in the long term.
On the specific issue of cashback—the subject of Amendment 136C in the name of my noble friend Lord Holmes of Richmond—as the call for evidence indicated, the Government’s view is that cashback without a purchase has the potential to be a valuable facility to cash users in future and to play an important role in the UK’s cash infrastructure. At present, the relevant legislation does not provide an exemption for cashback without a purchase being a regulated payment service, which presents a barrier to the wide-scale provision of this service. This is something that the Government will continue to consider as part of the wider access to cash work.
I thank the noble Lord, Lord Stevenson of Balmacara, for tabling Amendment 101, which would revoke the Bills of Sale Acts. Again, I welcome the opportunity to discuss this matter with the noble Lord and others. The Government have previously set out their intention to repeal the Bills of Sale Acts and replace them with a new goods mortgages Act. This new framework would have modernised the regime that allows consumers to use assets that they already own as security for a loan. The Government consulted on a goods mortgages Bill in September 2017 and published the response to that consultation in May 2018. Although the consultation responses showed broad support for the approach set out in the Bill, some stakeholders raised significant concerns about the degree of consumer protection afforded by the proposed regime.
The noble Lord expressed concern about so-called log-book loans. In recent years, the number of log-book loans has fallen substantially: the number of bills of sale registered at the High Court fell from 52,000 in 2014 to 17,500 in 2019. Given the concerns raised in the consultation, and the shrinking size of the market, the Government decided not to take forward the goods mortgages Bill. I hope noble Lords will agree that it makes sense to focus our efforts in areas where there is an increasing risk of consumer detriment—such as buy now, pay later—rather than an area already in decline.
Although I recognise the noble Lord’s concerns around protections for borrowers, the proposed amendment is likely to have unintended consequences, which could lead to a greater risk of detriment, particularly to borrowers. Repeal of the Bills of Sale Acts would not necessarily prevent this type of credit being offered. Instead, it would remove the statutory framework governing this type of credit, which could inadvertently lead to greater use of such lending.
The Bills of Sale Acts require lenders to register a bill of sale in the prescribed form at the High Court. This is costly and burdensome and, if it is not done correctly, the lender loses not only their right to the asset but their right to sue the borrower for repayment. Those requirements would be removed if the Bills of Sale Acts were repealed and lenders would be free to establish their security interest in assets in a way of their choosing, potentially with fewer protections for borrowers.
Amendment 127 seeks to prohibit the sale of mortgage loans from regulated to non-regulated entities. This is something that we will return to. Consumers involved in these transactions are already protected by regulation in place. Any loan that is sold on to an unregulated entity, which could include the beneficiary of the loan, would still need to be administered by a regulated entity, ensuring that these consumers are still able to benefit from regulation by the FCA.
It is also worth noting that the terms and conditions of a mortgage loan are required to stay the same during any transaction, meaning that the consumer would experience little change following the sale of their loan to any entity. This is a normal practice: we must not risk disrupting the residential mortgages-backed securities market, where beneficial ownership of a portfolio of mortgages is transferred to a special purpose vehicle. Securitisation in this way is a common way for active lenders to fund themselves, and disrupting the securitisation market would likely have a negative impact on the availability and cost of mortgage credit in the UK.
Amendment 131 would make the Financial Policy Committee of the Bank of England responsible for monitoring and reporting on financial exclusion in the United Kingdom. The Financial Policy Committee has a statutory duty to monitor and act on systemic risk in order to protect the UK’s financial system, so I do not think that this is an appropriate role for it. As has been set out in earlier debates on similar topics, the Government are deeply committed to ensuring that individuals, regardless of their background or income, have access to useful and affordable financial products and services. I fully appreciate my noble friend’s concerns.
Since 2018, the Government have convened the Financial Inclusion Policy Forum to provide leadership and promote collaboration to make progress on financial inclusion. This forum brings together key leaders from industry, charities, consumer groups, government and regulators. It is co-chaired by the Economic Secretary to the Treasury and the Minister for Pensions and Financial Inclusion, and meets twice a year. The Government also work closely with Fair4All Finance, which was founded to improve the financial well-being of those who are financially vulnerable through fair and affordable financial products. Since 2019, the Government have provided £96 million of funding from dormant assets towards financial inclusion, which is being distributed by Fair4All Finance. Importantly, the Government already report annually on progress in financial inclusion. In November 2020, the Treasury published its latest annual financial inclusion report, covering 2019-20, which can be found online. This amendment would not improve our capacity to tackle financial exclusion, nor our capacity to monitor and report progress in this area. However, I hope I have demonstrated that the issue remains a priority for this Government, and we are committed to continuing our efforts to tackle financial exclusion.
Amendment 135, arising from a cautionary tale told by my noble friend Lord Leigh of Hurley, seeks to expand the jurisdiction of the Financial Ombudsman Service to include potential customers. All noble Lords who spoke deplored the example that the noble Lord gave. However, it is already the case that potential customers of a firm can seek redress through the FOS scheme under the FCA’s existing rules, notably the FCA dispute resolution handbook rule. The relevant rule states that, to be an eligible complainant, a consumer must be, or have previously been, a potential customer, payment service user or electronic money holder of the firm that they are raising a complaint against. However, in addition to these rules that protect direct and potential customers, there are some situations where, even if an individual never intended to be a customer of a firm, they can seek redress via the FOS; for example, since 2012 the FOS has been able to consider complaints from people who are being pursued for debt that is not theirs as a result of identity theft. If someone thinks that they have been a victim of fraud or attempted fraud, as my noble friend appears to have been in this instance, they should report this to Action Fraud. Crime reports received by Action Fraud are considered by the National Fraud Intelligence Bureau.
On Amendment 136F, I outlined the Government’s position at some length during the last Committee debate, when the noble Baroness, Lady Meacher, spoke to it, so I will not repeat those statements that are on record in Hansard.
It is for these overall reasons that, although I have listened very carefully to the arguments put forward in Committee, I ask that the amendment be withdrawn.
My Lords, I did not study this group with the care I should have, otherwise I would have realised what an extraordinarily rich group of amendments it is. They seek to address individual areas of customer concern and equalise the balance between customer and firm. It is interesting that, as I think the noble Baroness, Lady McIntosh, said, each has its merits.
I thank the Minister for his response and note the little chinks of optimism that he has allowed us to go away and, hopefully, talk. I hope he will also extend that invitation to many of the movers of amendments in this group, perhaps working together to see whether there are areas where more progress can be made. While normally we would not be happy with bits of legislation leaving most of it to happen via regulation, in comparison with the possibility of no finance legislation for a year or so, we must have an open mind about mechanisms going forward. Furthermore, I and my fellow noble Lords in this in no way seek that he accepts our wording. We know that the chances of our wording being acceptable to the Government are negligible, and therefore have an entirely open mind about his wording, provided that it leads to the same result.
The noble Baroness, Lady Kramer, mentioned en passant the concept of duty of care. I know that terrifies Governments; they will have to come to terms with it sooner or later, but for the moment I recognise that we cannot get there. Sadly, in many areas of retail finance, products and services, sectors of the industry at least seem to have a duty to exploit. The problem is that this exploitation frequently leads to real harm to real individuals. These amendments are about real individuals and preventing real harm. The problem is that there is an asymmetry of power in the sector, certainly at the level of the individual, between the firms and your typical consumer.
Purists will argue that this asymmetry will be held back by competition. I am not that enamoured with competition. To me, competition is when, on a Friday morning, I drive out to do the shopping for the week and can turn left for Waitrose, straight ahead for Tesco or right for Sainsbury’s. That is real competition. Every week I make that decision—it is not like the bother and fear of moving one’s service providers in the financial world, if you are an unskilled typical consumer. Possibly nowhere in our modern society is the concept of intelligent regulation more necessary than in the financial services sector. The complexity on the one hand and the opportunity and possibility of getting into serious harm on the other are so significant that we must accept that intelligent regulation, of which the amendments in this group are all examples, must be part of the financial services landscape of activity. All we seek to do in this group is introduce intelligent pieces of regulation to make the whole thing fairer for the customer.
I look forward to further discussions with the Minister and his colleagues. With that, I beg leave to withdraw my amendment.
Amendment 79 withdrawn.
80: After Clause 40, insert the following new Clause—
“Sharia-compliant financial services
Within one year of the passing of this Act, the Secretary of State must publish an assessment of the availability of Sharia-compliant financial services in the United Kingdom, including financial services to support students.”
My Lords, Amendments 80 and 88 are probing amendments. Their purpose is to allow the Committee to debate access to Sharia-compliant student finance. I raise this issue because there is no such access.
Noble Lords will know that Islam forbids interest-bearing loans. This prohibition can be and is a barrier to Muslim students going on to attend our universities. I first became aware of this when I visited the Preston Muslim Girls High School as part of the Lord Speaker’s Peers in Schools programme. I talked about the work of the House and tried to answer the girls’ questions. There was one question I could not answer: why was there no Sharia-compliant system of student finance?
Many of the girls came from deeply religious backgrounds and would not be able to accept interest-bearing loans. This meant that they could not go on to university, which they were certainly qualified to do. Ofsted rated their school as outstanding on every measure. The headteacher explained to me that, when tuition fees were low, many Muslim students were able to attend university financed by family and friends, but, since 2012, this had become much more difficult because of the very large increase in fees and the real rate of interest now payable on student loans. The situation became even worse when maintenance grants were replaced by interest-bearing loans.
The Government have known about all this since 2012. In early 2014, the then Department for Business, Innovation and Skills consulted on the issue. The consultation generated an astonishing 20,000 responses. The Government’s report on the consultation noted:
“It is clear from the large number of responses … that the lack of an Alternative Finance product as an alternative to conventional student loans is a matter of major concern to many Muslims.”
This same report also identified the solution: a Takaful, a well-known and frequently used non-interest-bearing Muslim financial product. The Government explicitly supported
“the introduction of a Sharia-compliant Takaful Alternative Finance product available to everyone”.
That was six years ago, and nearly four years ago we passed enabling legislation in the Higher Education and Research Act 2017, but there is still no Sharia-compliant student product available. Over the past five years, I have repeatedly pressed the Government to act. I have spoken in debates in the Chamber; I have asked Questions, oral and written, and I have written directly to the Minister. I last spoke about the issue at length in the Queen’s Speech debate in October 2019. Soon after that, the Minister, the noble Baroness, Lady Berridge, wrote to me saying:
“The position remains the same as when the Government responded to your PQ in July. We will set out plans for implementation as we conclude the Post 18 Review. This will ensure that students in receipt of an Alternative Student Finance package are not disadvantaged compared to other students in receipt of mainstream student support.”
As I had heard nothing further, I emailed the Minister on 4 January this year. I pointed out that, since her letter to me, one more student cohort had entered higher education, and another was now preparing to do so, but there was still no available Sharia-compliant student finance. I asked her for an update on implementation. I asked whether we were still waiting for a formal response to the Augur review and suggested that we should not. I pointed out that the Government had recognised the problem more than six years previously and had had the power to deal with it for four years. I sent this email on 4 January and I have had no reply.
We are having this debate as students are considering their university choices for next September. Once more, there will be devout Muslim students who, though qualified, will not be going to university because of the lack of a sharia-compliant student finance product. It is very hard to understand or excuse the Government’s behaviour over this issue. They know the problem, acknowledge the need to act and have taken the powers to introduce the remedy, yet nothing has happened. It is shameful that the Government have allowed so much time to elapse and that they display such a casual neglect of and disregard for our Muslim community.
At the World Islamic Economic Forum in 2013, David Cameron promised to introduce a sharia-compliant student finance scheme, saying:
“Never again should a Muslim in Britain feel unable to go to university because they cannot get a student loan—simply because of their religion.”
When will the Government finally make good on this eight year-old promise? I beg to move.
My Lords, I am absolutely delighted to support my friend, the noble Lord, Lord Sharkey, who has clearly positioned the problem. I have had the privilege of working in Pakistan—which is almost totally Muslim—and India, which has a very significant Muslim population, as well as Sri Lanka, where a big majority of the minorities are Muslim. Locally, they do not seem to have a problem in dealing with this issue; can we not learn from them, particularly Pakistan? We have high commissioners here, so why do we not at least find out from them what the problem is in relation to the UK—and get their help?
This issue is increasing. The sharia families who are really strong in their faith increasingly want to send their children to university—that is part of the philosophy of that faith—and here we are, years down the track, making it very difficult for them. We must do something about it. In towns and cities such as Luton, Leicester and some of the other major ones in the north of England—let alone London—there are students and families who do not know what to do about it. We have to take some action.
It goes further than that, does it not? We want students from overseas; we are seeking them. There are sharia-compliant students from the Muslim fraternity overseas who want to come. I really do not see why this is so difficult to do, so I say to my noble friend on the Front Bench: Her Majesty’s Government need to solve this problem; sit down with the sharia-compliant banks and, if necessary, with the high commissioners to seek their support and help; and solve this problem.
Frankly, it is an embarrassment for any of us who have good friends in that community—as I do and I guess most of your Lordships may well do—to find that potential students are not able to pay their tuition fees and receive student maintenance grants without being penalised or having to find some method to go around the scheme, where the senior mothers and fathers are doing that at all.
As such, I make a plea to my noble friend on the Front Bench: this is not a party-political issue or anything like that—this is just good and straightforward. The problem is known about and has taken years to be solved; can we please take a significant step forward?
My Lords, I believe the House owes a great debt of gratitude to the noble Lord, Lord Sharkey, for the work he has been doing on this issue over the last nine years. I have been involved in part of the process, which is why I put my name down to speak: like him, I feel rather confused and not a little embarrassed that no action has been taken in recent years.
Like the noble Lord, Lord Sharkey, I first got involved in this when policy changed in the early part of the coalition Government and new arrangements were introduced for interest-bearing loans and, eventually, maintenance loans. I recall that in about 2014 there was the consultation process described by the noble Lord, Lord Sharkey. As I was then the Labour spokesperson on higher education in your Lordships’ House, I got a lot of correspondence, exactly as he described, from potential students and some existing students. Potential students wanted to know whether at the time they applied and went to higher education there would be a real chance of there being loans that they could take out that would not be a problem in terms of sharia compliance. More worryingly, students who were already at university in the middle of their course found that they could not continue without a guarantee in some form that finance would be available to allow them to see out their course.
In a sense, we were all trying to do the same thing. Indeed, I sat in on meetings with the Higher Education Minister at the time, Jo Johnson, and other colleagues in the House. We had meetings with representatives of Muslim students and the community at which a lot of these issues were explored. When the Government took powers in the 2018 Act, as described by the noble Lord, Lord Sharkey, to ensure that they could facilitate the production of loans of this type, we thought the matter was over. Indeed, I wrote to a number of people I had been working with saying that we thought that the process had reached its natural conclusion and that it was just a matter of time before the Government brought forward the necessary proposals.
As we have discovered, that has not happened, and although there have been promises and suggestions that it was coming, it has not. The Government have got themselves into a very bad position here. I cannot believe that it is impossible to go forward—as the noble Lord, Lord Naseby, said, just to do it—and I am looking forward to hearing the Minister’s response. If there is anything we can do to help, he should be sure that there is, as the noble Lord, Lord Sharkey, said, no politics in this. We simply want a good job done to make sure that all people who contribute and wish to contribute to higher education in this country can do so and are not in any sense disadvantaged simply because of their religion.
My Lords, any one of us can go on to our smartphone and find an app for halal financing for someone who wants to buy a car or a house—they are called “halal mortgages”—or who needs money to support a small business. It is incredible and quite incomprehensible that we do not have a sharia-compliant version of student loans. It is not as though we do not know how to do it or the institutions do not exist in the UK. I suspect that many noble Lords have been, like I have, at general meetings of the financial services industry where, as well as talking about being world leading in terms of green finance, we have talked about London as a very important centre for sharia-compliant finance as we attempt to expand and have a much greater global reach. Six years is an incredible time to wait. It has been four years since enabling legislation was put in place.
I was looking at a Metro article on the web about students who were interviewed in 2019. Some had managed to put together a way to pay their student fees. One said:
“I was constantly broke as a student and never, ever did anything remotely fun. I always felt too guilty if I spent any money on myself.”
Students who started out and found that they just could not keep going left and went to work, but then found that, as this lady said,
“to progress further I need that degree so the plan is to go back.”
However, this young woman has no idea how to finance it. Another youngster talked about the stress of
“having to live scrupulously and scrape up enough to pay each instalment in time.”
We really should not be putting any student into this situation. I do not understand the delay. There does not seem to be an obstacle in terms of designing the appropriate facility or the appropriate legislation. I hope that the Ministers who are here, all of whom are people of understanding and sympathy, will go and put pressure on the Government to take this from the bottom of the in-tray and put it at the top. It could be a minor amendment that we make on Report.
My Lords, the last Labour Government were supportive of facilitating access to sharia-compliant financial services, and we understand—and welcome—that Her Majesty’s Government have made similarly helpful noises during their time in office. This is an interesting time for financial services as some firms prioritise divesting from fossil fuel projects, and so on. If such moves are possible, surely we can make progress on services that do not have involvement in industries such as gambling or alcohol?
Amendment 88 raises the issue of sharia-compliant student finance, which was subject to a recent e-petition on the Parliament website. In their response, the Government recalled their consultation on the matter back in 2014 and said that they intend to publish an update on progress later this year. While we appreciate that it takes time to engage with communities to understand their needs, evaluate feedback, devise new schemes and ultimately make them operational, there has been a significant wait for new products, and we need evidence from the Minister that we will soon turn a corner.
My Lords, as has been eloquently expressed, these amendments relate to sharia-compliant finance and specifically to the availability of sharia-compliant student finance products. This is an area where the Treasury and the Department for Education are in close contact. The Government are committed to ensuring that all students in England with the potential to benefit from further and higher education are able to access it. I know from this debate and from others that many noble Lords of all parties are keen to see action on this.
On the specific amendments, which the noble Lord, Lord Sharkey, stated are probing, Amendment 80 seeks to require the Treasury to publish an assessment of the availability of sharia-compliant financial services, I can assure noble Lords that the Government are committed to ensuring that no UK customer is denied access to competitive financial products because of their faith. As referred to in the debate, the United Kingdom is indeed the leading western hub for Islamic finance, a position we have maintained for several years now. Treasury Ministers and officials conduct regular engagement with key stakeholders in the Islamic finance sector to inform our policies.
Amendment 88 seeks to add access to sharia-compliant student finance to the FCA’s objectives within Section 1B of the Financial Services and Markets Act 2000. It would be ineffective to add this objective because student loans are exempt from FCA regulation, meaning that the FCA would not have the powers to fulfil this duty. Additionally, student finance provision is a devolved matter while the FCA is our UK-wide regulator. Finally, as I have explained, work is under way in government to ensure that all eligible students are able to access student finance.
A number of noble Lords commented on the pace of this work. As the noble Lord, Lord Sharkey, said, the Government published a consultation in September 2014 into a potential model that could form the basis of a new student finance product. The Government signalled in the consultation response that they would need to take new primary powers to enable the Secretary of State for Education to make alternative payments in addition to grants and loans. These were secured in the Higher Education and Research Act 2017. The Government have also carried out work with the Islamic Finance Council UK on an alternative student finance product for tuition fee and living cost support compatible with Islamic finance principles.
As has been stated, the implementation of alternative student finance is currently being considered alongside the review of post-18 education and funding. The interim report of that review was published on 21 January and the review is due to conclude alongside the next multi-year spending review. The Government will therefore provide an update on alternative student finance in due course. We should not underestimate the scale of complexity here. The Department for Education is trying to replicate a system of student finance that delivers the same results as now where students do not receive any advantage nor suffer any disadvantage through applying for alternative student finance.
I am sure that our colleagues in the departments concerned have heard the concerns expressed by noble Lords. I hope that, for these reasons, the noble Lord, Lord Sharkey, will feel able to withdraw his amendment.
I thank everybody who has spoken in the debate on this group. I confess that I should have said clearly at the beginning that my amendments and their text were not the issue; the amendments were simply the fossilised remains of my scope negotiations with the Public Bill Office and a means of introducing the subject of sharia-complaint student finance.
I must say that I am, as usual, extremely disappointed by the Minister’s evasive and unconvincing response. It is a great pity. I still do not understand why there has been such a long delay in addressing this serious problem. The Minister has not offered a reason for the delay except to point at various complications. Perhaps I should remind him that the takaful version of the Help to Buy mortgage system was introduced from a standing start in six months. This has taken nearly seven years, and we have not got there yet. I simply do not understand why this is going to be prolonged and why the Minister cannot give us any assurance about a firm date for the introduction of a sharia-compliant student product.
I also do not understand—I never did—why the Augar review is at all relevant; perhaps the Minister can explain why at some other point. However, I understand that the Muslim community continues to suffer a direct disadvantage without any good reason or plausible excuse. The Government are acting in a completely mean-spirited and heartless way. They are failing in their moral duty, failing to fulfil their explicit promises and failing to provide any real comfort that they might eventually do what they should have done long ago. They are behaving neglectfully and really rather disgracefully. We will return to this issue later.
Does the Minister wish to speak further? No? Does the noble Lord, Lord Sharkey, wish to withdraw his amendment?
Amendment 80 withdrawn.
Amendments 81 to 85 not moved.
We now come to the group consisting of Amendment 86.
86: After Clause 40, insert the following new Clause—
“PRA and FCA joint coordination committee
(1) The Financial Services and Markets Act 2000 is amended as follows.(2) After section 3F (with-profits insurance policies) insert—3FA PRA and FCA joint coordination committee(1) In exercising their general duties and their duty to exercise coordinated exercise of functions, the PRA and FCA must establish and maintain a joint regulatory coordination committee to ensure their activities are consistent and proportionate in meeting their respective general duties and objectives.(2) The committee membership shall be—(a) the Governor of the Bank of England as Chair,(b) the Chief Executives of the PRA and FCA, and(c) two independent non-executive directors of each of the PRA and FCA.(3) The committee must review—(a) how their combined exercise of functions accords with each organisation’s individual duties and objectives, and with the memorandum of understanding between the FCA and the Bank of England; (b) their combined supervisory agenda for each of the five largest banks and five largest insurance companies they regulate; and(c) their combined supervisory agenda for any other dual-regulated entities they identify as systemically important;in order to ensure consistent priorities and proportionate impact.(4) Where the committee concludes that the combined exercise of functions by the PRA and FCA is not consistent and proportionate it must report that to the PRA and FCA boards, which must consider what changes might be made to address the concern.(5) The committee shall meet at least once every year.””
My Lords, once again I draw the Committee’s attention to my current and recent interests as set out in the register.
The purpose of this amendment is to place an obligation on the two regulators—the PRA and the FCA —to co-ordinate their agendas and priorities to ensure that their combined activities are consistent and proportionate in meeting their respective duties and objectives in terms of the burden of regulation on the industry in general and, in particular, the regulatory burden that they place on major financial institutions.
Following the financial crisis, the decision was taken to break up the single regulator, the FSA, and replace it with the two separate regulators—the “twin peaks” approach. As noble Lords will remember, the aim of this change was to ensure that both the prudential objectives of the PRA and the customer protection objectives of the FCA had a clear and independent focus and, in particular, that the objective of customer protection was not overshadowed or watered down where it conflicted with the desire to maintain the financial strength of the industry.
While that rationale had, and continues to have, merit, creating a structure that avoids addressing those conflicts has not meant that those conflicts disappear. Instead, they are left unresolved for the financial institutions that are subject to dual regulation to have to deal with. Sometimes the objectives of the two regulators can pull in directly opposite directions; for example, where the FCA wants banks or insurance companies to extend access to products on terms that go against the PRA’s pressure to rein in higher-risk exposures.
The bigger issue is simply the pressure on the regulated institutions from having to respond to two independent regulators’ own priorities, each pressing mandatory programmes that absorb investment funds, IT resources and management’s capacity to manage major change. There is no mechanism to set those priorities within an overall framework of priorities, and that includes imperatives the organisations themselves may have to devote those same management and IT resources to their own programmes to improve customer services and organisational robustness, which may have a more significant benefit. Instead, each organisation’s own priorities have to fall to the back of the queue or be indefinitely deferred.
I recognise that the regulators have introduced a system of “air traffic control” to avoid unnecessary duplication in routine supervisory requests, but that does not address these more fundamental conflicts and the more substantial burden of regulation from the two regulators acting independently. At some stage, there may be merit in returning to the debate about whether the structure of two regulators, rather than there being a unitary regulator, remains the right choice. I recognise that that is not for this Bill. However, without prejudging that debate, it should be possible, and it would be desirable, to require the two regulators to come together to ensure that they address rather than ignore the need to reconcile their priorities.
The specific proposal in this amendment is to establish a joint committee, chaired by the Governor of the Bank of England, that would meet at least once each year to review their individual priorities and ensure that activities were consistent and proportionate. Each regulator would continue to have its own separate objectives, overseen by its own separate and independent boards, so it would not mean one regulator’s agenda overriding the other’s, but they would be required to try to reach accommodation where necessary and to resolve conflicts between them.
In addition, the amendment suggests that the committee be required to look specifically at the combined regulatory agenda for the handful of largest banks and insurance companies that they jointly regulate to be satisfied that the regulatory burden placed on those institutions is appropriate. As those institutions are large and important, each regulator may have a large, dedicated supervisory team with its own agenda. For the largest institutions, it would be desirable and significant enough for those conflicts to be recognised and resolved at chief executive level in the two regulators.
This may or may not be an appropriate amendment for this Bill, but I would welcome the Minister’s thoughts on the issue that I have raised and what might be done to address such conflicts.
My Lords, I have some sympathy with the motivation for this amendment concerning co-ordination of regulators and combined regulatory agendas. Of course, there is already an MoU between the PRA and the FCA about modes of co-operation, who leads on which issues, and how to escalate to the two CEOs to resolve. I took the opportunity to remind myself of it; it is only an agreement to consult on deliberations that are equally relevant to both regulators’ objectives or which might have a material effect on the others’ objectives. Senior executives have discussions every quarter and report to their respective boards. It is perhaps disappointing that it does not contain more. It reminded me that it can be hard to force independent regulators to co-operate, especially at the moment that they are created. They fiercely guard their independence, not just wanting to do things their own way but vehement that they are obliged to do so.
In the EU, my committee insisted that there be a joint committee of the three regulators; we got it into legislation, albeit in a very sketchy form, with the intention that they got together to thrash out different positions. However, in that, they stayed as equals and there was no overarching power, rather as it is in the MoU between the PRA and the FCA. I can tell you that the regulators did not like the idea. When they came to committee hearings, we had to keep asking whether they had met yet. The answer was that they were concentrating on their own set-up and procedures first. Eventually, there came to be a few problems and, as happened back then in the EU, the Parliament was seen as part of the solution. So, they came to me, discovered that I knew all about this since industry had alerted me as well, and, after a chat and—perhaps—a bit of pressure, I remember saying that that was why we had invented the joint committee and kept asking about it. Slowly, they started to use it, then decided it was quite a good thing and, finally, wondered how they could ever have done without it; maybe they were also a little afraid of what Parliament might say if they did not make it work.
I have thought about that experience and whether the UK is better off with the MoU—which actually has more definition in it—or worse off because, in the end, it reinforces territories rather than being a less formal get-together. There is a problem with the proposal by the noble Lord, Lord Blackwell, in that it is formalised with the Governor of the Bank of England as chair. I am not sure that establishing a pecking order as it does is the right thing, even if it does end up going back to the two CEOs, which, of course, is where the MoU takes it all to anyway. I certainly do not like it as a step towards abandoning the “twin peaks” idea.
The present Governor also has FCA experience but, in the circumstances, that might complicate matters. One thing the amendment proposes is for the joint committee to check that the MoU is working. That check is important; it will surprise nobody that, in my view, if the MoU is not working, that is just the sort of matter that Parliament should get involved with to see if it can catalyse some action. The rest of the amendment also seems to be on things Parliament should be asking about and could ask to have reports about. Although I do not think that the noble Lord, Lord Blackwell, has directed attention towards the right body, he highlights some issues on which the regulators should be quizzed.
My Lords, my noble friend Lord Blackwell’s Amendment 86 identifies a very real problem that has existed since the Government decided to abolish the Financial Services Authority and split responsibility for conduct and prudential regulation.
I was never in favour of splitting the FSA. It had certainly failed as a regulator, as the financial crisis laid bare, although it must be said that other regulators around the world, whether combined or separate, fared no better. The FSA had not managed to get the balance right between conduct and prudential regulation; it had an obsession with conduct matters and treating customers fairly, which often dominated its thinking, while banks in particular were allowed to run on wafer-thin capital ratios. It needed reform rather than a wrecking ball.
When they were separated by the Financial Services Act 2012, many concerns were expressed about the possibility of a lack of co-operation. As has been said, a number of mechanisms were put in place, including the statutory duty to co-operate, the memorandum of understanding and cross-membership of the boards of the PRA and the FCA. However, as my noble friend Lord Blackwell explained, it has not always worked well in practice. There are problems of overlap and overload. Some issues, such as cybersecurity, are of interest to both the PRA and the FCA. Such an overlap comes with the split between the two regulatory peaks, but often they focus on the issues in different ways, on different timescales and with different objectives. This is often inefficient from the perspective of regulated firms.
The cumulative impact of the requirements of the PRA and the FCA can lead to significant overload. There is no real prioritisation mechanism. Regulated firms can be bombarded by each regulator and, even if the individual regulator prioritises its own demands, which is not always the case, there is no real mechanism for the competing demands of the FCA and the PRA. For example, I recall in the middle of stress testing, which is led by the PRA and tends to absorb the resources of subject matter experts specialising in credit risk, the FCA produced big data demands in exactly the same area and requiring exactly the same subject matter experts. It would not have occurred to either regulator to see regulatory demands from the other regulator as more important than its own.
I support the aims of this amendment. Whether another committee would have any impact is another matter, especially if it met only once a year. We must remember that the tripartite arrangements that failed during the financial crisis looked good on paper. It was just that they were never taken seriously and were allowed to fall into disuse. The same could happen to a committee.
My noble friend might want to look at how his amendment could be improved by incorporating an element of reporting to Parliament. On the first day of Committee, we debated parliamentary accountability more widely in the context of the new rule-making powers that are being transferred to the FCA and the PRA. The new accountability arrangements, which some of us advocated, could include examining how well the regulators are working together and co-ordinating their activities; that should be strongly considered if my noble friend chooses to bring this issue back on Report.
My Lords, I am looking closely at Amendment 86, introduced so eloquently by my noble friend Lord Blackwell, and asking myself why it would be needed in view of the comments made by my noble friend Lady Noakes and the noble Baroness, Lady Bowles.
These are both deemed to be independent bodies. While my noble friend Lord Blackwell has rightly identified a number of shortcomings, I do not really understand why a joint co-ordinating committee, as my noble friend Lady Noakes pointed out and as it says in proposed new subsection (5), would meet only at least once every year—I presume it could meet more often.
In any event, I imagine that these issues are dealt with to some degree by the Treasury Select Committee in the other place. My noble friend Lord Blackwell probably has identified issues but there are very good reasons—he set out the background to this—why the PRA and the FCA replaced the FSA. Each should be able to enjoy a degree of independence in its operation. My noble friend Lady Noakes rightly identified a number of areas of overlap and overload, but I think that this can be addressed through the functioning of the memorandum of understanding. I struggle to see why this amendment is required.
My Lords, it is always a great pleasure to follow my noble friend Lady McIntosh of Pickering, who is sitting today in front of a superb backdrop of the Houses of Parliament—in my opinion, one of the best views in Europe. I await my noble friend the Deputy Leader’s comments with great interest.
I have great respect for my noble friend Lord Blackwell and for all he has achieved. However, I have some doubts about this proposal, not least the amendment’s apparent focus on bigger operators. For me, the second-class treatment of small operators in the financial services sector as a result of regulation by two regulators is the bigger issue. It is there that the pressure on investment funds and on capital, the prioritisation of IT resources and the lack of management capacity—described so well by my noble friend Lord Blackwell—is at its most apparent. Smaller firms also suffer from the overlap and overload mentioned by my very experienced and expert noble friend Lady Noakes. I should say that I speak as a non-executive director of Secure Trust Bank, which is a smaller bank.
I was pleased to see the Chancellor focus on smaller businesses in last week’s Budget—for the first time, I felt—although I am not sure how much that will help in the financial services context.
In conclusion, is this amendment necessary, or can we tackle the issues rightly raised by my noble friend in another way?
My Lords, my noble friend Lord Blackwell’s amendment is an interesting idea and deserves serious consideration. It requires the establishment of a new joint co-ordination committee, comprising delegates of both regulators under the chairmanship of the Governor of the Bank of England. As long as we retain a “twin peaks” regulatory structure, it is clearly right that both regulators carry out their duties in a co-ordinated manner, ensuring that their activities are consistent and proportionate in meeting their respective general duties and objectives.
At the time of the introduction of the “twin peaks” system, we were told that it was necessary because there was a conflict between the interests of the consumer and those of the Government in maintaining financial stability. However, the FCA is responsible for both consumer protection and the prudential regulation of all regulated companies except very large ones that are considered systemically important. Might not the best way to be sure that the regulators’ actions are consistent and proportionate be to merge them into a single regulator—the FSA—but leave the Bank responsible for macroprudential regulation?
As I failed to add my name to the speakers’ list for the group of amendments beginning with Amendment 2, debated on 22 February, I was able to speak only briefly after the Minister. My noble friend’s amendment deals with much the same ground, which gives me an opportunity, with the Committee’s leave, to make some of the points that I had wanted to make on the first day.
My noble friend’s amendment seeks to ensure consistent priorities between the two regulators. This is hard to do if the objectives confer conflicting priorities on the two regulators. Indeed, it can be argued that being dual regulated at all is time-consuming, expensive and unattractive. However, I strongly believe that we must move quickly to maximise the attractiveness of London’s markets in order to be assured that the City, including our wider financial services industry, will remain one of the two truly leading global financial centres, with all that that means for our prosperity as a nation.
In 1999, I was privileged to serve on the Joint Committee on Financial Services and Markets under the chairmanship of the noble Lord, Lord Burns, during my first incarnation in your Lordships’ House. At that time, we considered arguments that the FSA should be given a competition objective as a fifth objective. This was supported by the BBA and the ABI, but the Government argued, and the committee ultimately decided, to put competition and competitiveness among the principles rather than the statutory objectives. Two arguments that led us so to decide were that ensuring competition was the primary task of the OFT, not the FSA, and that making competitiveness of UK financial services an objective could damage the FSA’s relations with overseas regulators. Our report at that time noted that some members of the committee would have preferred competition and competitiveness to feature among the FSA’s statutory objectives.
Much water has flowed under the bridge since 1999. Following the financial crisis of 2008, the FSA was split into two regulators, and we adopted the “twin peaks” model that had first been introduced by Australia. On 22 February, my noble friend Lord Howe said that discussions about the balance of the regulator’s objectives
“are not arguments for today. The Government’s future regulatory framework review is considering how the UK’s financial services regulatory framework must adapt to reflect our future outside of the EU. That has to be the right place to consider issues such as the regulators’ objectives”.—[Official Report, 22/2/21; col. GC 142.]
The Minister’s response was disappointing. Does he not agree that our departure from the EU and freedom to adopt an entirely different, principles-based, outcomes-oriented regulatory model suggests that the Government should look seriously at this question as soon as possible?
Some encouraging proposals are included in the phase 2 framework consultation, such as the introduction of “activity-specific regulatory principles”, described in section 2.38. However, it seems that the Government do not plan wholesale changes. They conclude in section 2.46 that these regulatory principles could bring about
“enhanced regulator focus on … competitiveness, without needing to change the regulators’ overarching objectives”.
Such an approach is dangerously complacent. Can the Minister confirm that the Government agree with Andrew Bailey that it would be unrealistic and dangerous to stick to EU banking rules in the future? Surely, in financial services, where we enjoy the advantages of scale and can influence the emergence of global consensus around principles-based regulations that support innovation, we should move quickly to establish the right regulatory framework to do that.
Co-ordination between our two regulators has served us fairly well to date, but it is likely that the regulators will continue to face difficulties inherent in a multi-agency regulatory structure where the performance of one regulator is often dependent on that of the other. There is also a challenge in establishing the borders of financial regulation for allocating functions between the FCA and the PRA. In particular, the increased focus on systemic stability and macroprudential regulations has resulted in overlap between the two regulators. The FCA has responsibility for the prudential regulation of more than 24,000 firms in the UK, whereas the PRA is responsible only for the prudential regulation of some 1,500 systemically important banks and investment firms. Further, the “twin peaks” system is inherently anti-competitive for dual-regulated banks and investment companies, which have to report a large amount of monthly data in two different formats to two different regulators.
The PRA’s secondary competition objective is, by definition, subordinate to its other two objectives. In effect, it is simply a principle to which the PRA should have regard. Many countries have financial regulators that incorporate some kind of competition objective among their statutory objectives, and I do not think that there is any evidence that this has damaged their relationships with either the PRA or the FCA.
Furthermore, in his recent report on competition and markets, John Penrose found that
“our independent competition and consumer regulation regime currently has a good reputation, but not a great one. International rankings put our major competition institutions behind USA, France, Germany, EU and Australia. We have stopped making progress on cutting the costs of red tape and, in recent years, have gone backwards”.
This is largely as a result of a constantly increasing number of sectors, including many in financial services, being caught by the tentacles of the very cumbersome, expensive and complicated system of regulation that has been increasingly pushed by the Commission in the interests of harmonisation.
We have prospered and succeeded as a global financial centre not because of our EU regulatory framework but in spite of it. We may have devised much of the financial regulation ourselves and may even have gold-plated some of it, but we did not choose to work within the codified structures on which European law is based. Besides, our regulators are not that different from anyone else’s: they like to make rules, and gold-plating has been the only way that they could do that in recent years.
As Barnabas Reynolds explains well in his recent paper, published by Politeia and entitled Restoring UK Law: Freeing the UK’s Global Financial Market, common law is
“pivotal to the success of a global financial centre … A key element of London's attractiveness to investors is its legal framework, which underpins a flourishing commercial environment with the rule of law”.
I worry that the Government do not yet recognise that we have to replace the entire directives-based, cumbersome, EU-derived financial services rulebook and go back to something more like how we used to regulate: based on common law principles and outcomes. There is huge resistance to change among trade associations and larger financial services groups because the present system helps the strong incumbent against the innovator and the challenger—and is, in fact, a form of protectionism.
I look forward to hearing what my noble friend the Minister intends to do to move in the direction in which we need to go. I believe that my noble friend’s amendment may provide a first step on that journey.
My Lords, I will respond to the noble Viscount, Lord Trenchard. I for one would be very reluctant to go back to the pre-2008 principles-based approach to regulation that led us into a long, slow crash that, frankly, seriously undermined the financial stability of the UK and caused years of austerity. I do not think that is a good example to hold up of the world that we want to return to.
When the FCA and PRA were created—at that point the latter had a degree of independence from the Bank of England, although I think the Governor was always going to be its chair—one of the reasons that it was important to keep some distinct separation was to prevent the groupthink that had been fundamental to the failures that led to 2007-08. Those were failures to identify systemic risk, to ask questions, to create challenge and to recognise that conduct and prudential regulation are equally important in keeping a system as complex and difficult to regulate as the financial services industry on some kind of transparent and rational platform.
When I look at the MoU that was created in 2012, I think, at the same time as we were putting through the relevant legislation, it seems to me that it created some good co-ordinating mechanisms allowing—in fact, requiring—regular meetings between all the participants. It was not written as a one-time-only arrangement. Under the heading “Maintaining the MoU”, it states:
“The CEO FCA and Deputy Governor for Financial Stability at the Bank will review each year how the MoU is working. The Bank and FCA will each publish a summary of the key points from those reviews ... Both FCA and Bank will make a judgement on whether there has been a lack of co-ordination or unnecessary duplication between them in pursuit of their objectives.”
This is a live arrangement that constantly tries to strike that balance between proper information co-ordination and groupthink, and that is the territory on which we need to remain. I am very concerned about any change that drives us towards a more unified regulatory structure where inevitably one group begins to take the lead and dominate the other. We need that balance to make sure that challenge remains in the system and that conduct, which has always been the Cinderella activity, is on a par with prudential regulation.
My Lords, those of us who were involved in the discussions on the Financial Services Act 2012 will no doubt remember the debate in which the noble Lord, Lord Sassoon, then speaking for the Government, revealed that the principals of the tripartite committee—the noble Lord, Lord King, Gordon Brown and Howard Davies—had never met. He then revealed that the committee had slowly moved down in terms of the seniority of the officials who attended, and it was basically steadily downgraded into complete irrelevance. It was a co-ordinating committee between the Bank of England, the Financial Services Authority and the Treasury, and it did not meet. What this suggests to me is that an effective committee to deal with some of the issues of co-ordination, which have been referred to by the noble Lord, Lord Blackwell, in moving his amendment, must have an organic purpose identified and shared by the participants. There must be, if you like, some enthusiasm about the operations of the committee which encourages everyone to participate fully.
In the discussion we have had on this amendment, I have been struck by the nostalgia for the FSA. I shared with the noble Baroness, Lady Noakes, the feeling that breaking up the FSA was unnecessary. Indeed, I think it was mainly done to show that something was being done rather than having to face up to the intellectual, analytical and groupthink failures to which the noble Baroness, Lady Kramer, referred. However, if there is the problem which the noble Lord, Lord Blackwell, has identified, the noble Baroness, Lady Noakes, has once again come up with the right answer, which is that there would be an organic interest of both to work together if they had to report to a suitably well-resourced and tough parliamentary committee which then ensured not only that the conditions of the MoU were being followed but that other identified overlaps were being dealt with in a productive way. So I think we come back once again to the debate we had concerning parliamentary scrutiny and identify, yet again, a positive role for Parliament in this respect.
My Lords, this debate has taken us back to a number of the issues that were brought sharply into focus during the passage of the Financial Services Act 2012. It has been useful. I therefore begin by assuring the Committee that the Government agree that we now have an important opportunity, not least in the wake of our exit from the EU, to review our regulatory framework and ensure that it is high-quality, agile and fit for the future. I assure my noble friend Lord Trenchard in particular that we will progress the future regulatory framework review as a priority and take specific action in high-priority areas, as I have set out in previous debates. I hope noble Lords will forgive me if I do not rehearse the remarks that I made in our earlier debate on competitiveness—a subject to which we will return, I am sure.
Amendment 86 seeks to establish a new joint co-ordination committee for the PRA and FCA to ensure that their activities are consistent and proportionate. Of course, the Government agree that it is important that the PRA and FCA work closely together and take a co-ordinated approach to the regulation and supervision of firms. However, I respectfully submit that this amendment is not necessary to ensure that that is the case. As my noble friend Lord Blackwell noted, the PRA and the FCA have different statutory objectives, which will naturally—and, on occasion, rightly—lead to differing priorities as these objectives are pursued.
I note the reservations expressed by my noble friends Lady Noakes and Lord Trenchard. However, this model was agreed by Parliament in the Financial Services Act 2012 as part of the post-crisis reforms, and the Government and regulators have taken a number of actions to support and improve co-ordination between the institutions while they carry out their different objectives. I believe that this addresses in a very real way the issue that my noble friend Lord Blackwell seeks to highlight through his amendment.
As mentioned in the amendment itself, there is already a memorandum of understanding between the FCA and the PRA, as set out in the Financial Services and Markets Act as amended. The MoU sets the framework for co-operation on a number of issues, particularly dual-regulated entities. In April 2020, the regulators introduced the new Regulatory Initiatives Grid, supported by a senior co-ordinating forum. The grid’s purpose is to increase co-ordination across the regulatory landscape. It provides a user-friendly overview of upcoming changes to allow the sector to plan for the future more effectively.
The senior co-ordinating forum is chaired jointly by the chief executive of the FCA and the chief executive of the PRA. It discusses the combined impact of regulatory initiatives across the financial services sector, and seeks to allow the Government and regulators to identify and address any peaks in regulatory demands on firms. The forum also provides a clearer picture of upcoming initiatives so that firms are better placed to plan for them, supporting the regulatory principles of proportionality and transparency.
I hope that those remarks are helpful in providing the background to the co-ordination that we have seen put in place and that, therefore, my noble friend Lord Blackwell will feel sufficiently reassured to be able to withdraw his amendment.
My Lords, I thank all noble Lords who have contributed to what has been a very helpful discussion. In moving this amendment, I was not advocating recreating the FSA; there may be a debate about that at some point in time. My point was that, having split out these separate objectives, there are points at which there are conflicts and that does not remove the need to resolve those conflicts or to have a mechanism to do that.
I listened with great interest to the noble Baroness, Lady Bowles. Her experience with the EU is clearly very relevant. I have, of course, studied the memorandum of understanding between the two regulators, but my reading is that it is much more about setting out the clarity of their individual roles and their rules of engagement, including such things as exchange of information. It does not require them to resolve issues of conflict or set priorities. It is a much lower-level setting out of the boundaries and how they should operate across them. The simple fact is that I think practitioners would say that it has not led to those issues being dealt with.
My noble friend Lady Noakes and the noble Lord, Lord Eatwell, talked about reporting to Parliament. Clearly, that is a major area, which we have discussed and will discuss further, and it may be helpful here. However, I find it difficult to believe that a parliamentary committee—particularly the Treasury Select Committee but maybe we can move to some other form of committee —would get into the level of detail of the regulatory load on institutions and those priorities. It may be able to check whether meetings are happening and the agenda is being followed, but I do not think that it can resolve the issues.
As the noble Lord, Lord Eatwell, says, if there is such a committee, there has to be a purpose. One of my reasons for specifying looking at the load on the major institutions is that it is only when you get down to the granularity of how the different agendas are loading up on specific institutions that you can have a meaningful discussion about where the conflicts arise. I am not wedded to this particular mechanism or this particular committee. I am not even sure that legislation is needed. As the Minister said, it is an issue I have raised with the chief executives of the PRA and the FCA. There is nothing to stop them doing this of their own volition. I would perhaps encourage the Minister to sound out with those chief executives how they view this and what they might consider doing to help ensure that the priorities are properly addressed. There is a consultation he has under way. He may take a view on whether this kind of legislation or some amendment along these lines would be helpful. In the meantime, I beg leave to withdraw my amendment.
Amendment 86 withdrawn.
Amendments 87 to 89 not moved.
90: After Clause 40, insert the following new Clause—
The Treasury may not make an equivalence decision unless it has determined that a third country has equivalent legal and supervisory standards, and it may not make a determination based only on agreement to make reciprocal determinations.”Member’s explanatory statement
This is a probing amendment in order to discuss equivalence determinations and processes and the role of reciprocity.
My Lords, in moving this amendment, I shall make comments that reflect in part on EU relations and therefore on the other two amendments in this group.
As the explanatory statement says, this is a probing amendment in order to discuss equivalence determinations and processes and the role of reciprocity. The amendment states:
“The Treasury may not make an equivalence decision unless it has determined that a third country has equivalent legal and supervisory standards, and it may not make a determination based only on agreement to make reciprocal determinations.”
Broadly speaking, the first part of the amendment restates the usual equivalence requirement, and in the second part I am hoping that the Minister can explain how equivalence through trade agreements or reciprocal equivalence agreements will work. Will those mechanisms be allowed to dilute the standard set through the usual requirement?
We have heard a lot about trying to get equivalence with the EU. My position has always been that it was a remote possibility without rule taking, or dynamic alignment as it has become called. It also seems to me that the way in which the UK wants to operate, with the regulator making rules that can be flexible, makes it more difficult, or even impossible, for the EU, and maybe some other jurisdictions, to agree equivalence. That is because it ends up not being about rules—because in the UK they will be able to flex and vary—but about supervisory equivalence, or, as the noble Viscount, Lord Trenchard, called it, the outcomes. That is more subjective, a matter of opinion and confidence in supervisors rather than an objective analysis of rules.
This reasoning also lies behind what some noble Lords may see as my obsession with getting more information out of supervisors and for regular independent reviews. How else are we, let alone another jurisdiction, going to know what really goes on? Even less demanding jurisdictions than the EU, such as Australia, once they have set up independent scrutiny of their own regulators, may begin to wonder what they know about ours.
Our regulators will say that they have good and friendly relationships with other regulators and that they are respected and so on—all the presentations that they have repeatedly given to committees about why there would be equivalence with the EU in the end. They have been wrong so far, and I am not holding my breath. The statutory instruments currently underpinning legislation will be progressively taken away. I am sure that the EU will read these debates where the Minister has repeatedly stated how FSMA will enable rules to change quickly and be made bespoke and that is why Parliament cannot be let in too much. One hopes that means that rules will change to close gaps and adapt to new types of business, but there is nothing anywhere that says that. It can easily be interpreted as an intention to ease here and there, just like the tailor if we eat a little too much.
I am not trying to be awkward. I have sat in discussions with the European Commission at a time when my committee was concerned that the EU was being too rigid on equivalence. I have had to explain that equivalence was sometimes—in fact, quite often—of mutual benefit. That instinct to have things fixed and controlled between member states ran through every piece of legislation in one never-ending grind, as elaborated correctly by the noble Viscount, Lord Trenchard, on the previous amendment, although we may come from opposite positions. Such an instinct is stronger in financial services than in any other sector because of the philosophical commitment to the euro, whether or not that is relevant. Yet, somehow, it is still hoped that the EU can work out how to deal with this squidgy balloon that defines UK financial services rules. All I am saying is that we have to recognise that if we want the squidgy balloon way and the outcomes way, there are consequences when it comes to equivalence decisions.
That is looking at it from the outside. The other side of it is the inside. What are our rules and supervisory standards that other countries will have to be equivalent to? How is that judgment to be made? Will it be a rule book by rule book comparison or will it really be mutual recognition of supervisors, and if so, based on what? How will that assessment be done? Will HMT agree reciprocal equivalence with anyone when it sees an opportunity for export of financial services and assumes that not much will be incoming back to the UK, or will UK standards be lowered to match those of incoming equivalent businesses from the third country? Will UK firms be allowed to drop standards when operating overseas? To come back to my amendment, will the Government allow weaker standards, through trade agreements and reciprocal equivalence agreements, and how will consumers and financial stability be protected?
The example of software being allowed for capital is a convenient one, although there are probably bigger things. I kept that out of EU legislation but the UK could not hold the line on that this time round. The US has also allowed it. Where does that put banking equivalence for us in relation to the US and, should it ever be on offer, the EU? What top-up supervision or other requirements will go on?
It will be clear that I am less obsessed by getting reports on the EU situation as required by Amendments 100 and 105—although I will happily read them and wonder what is new. I am more obsessed with what standard is really being required by the UK of other jurisdictions to permit equivalence by any route and, in turn, how that will reflect back into our own supervisory standards. I beg to move.
My Lords, I have Amendment 105 in this group, which is also a probing amendment, and seeks to insert a new clause in the Bill about regulatory co-operation with the EU. In her Amendment 90 the noble Baroness, Lady Bowles, called for actions. Amendment 105, as the explanatory statement makes clear, is a reporting mechanism to report on progress towards or completion of an MoU with the EU on regular co-operation measures, which were envisaged under the trade and co-operation agreement between the UK and EU as regards financial services. The amendment flows from my chairmanship of the Secondary Legislation Scrutiny Committee of your Lordships’ House.
Last autumn, the committee considered a number of statutory instruments, which have granted equivalence to oversight and regulatory arrangements in the EU in the area of financial services. Mostly they were laid by the Treasury but some were laid by another departments. It was not clear to our committee whether the SIs were all part of a potential agreement with the EU or whether they were unilateral individual decisions. We wrote to John Glen, the Economic Secretary to the Treasury, as follows:
“Equivalence in relation to the regulation of financial services is an important aspect of our future relationship with the EU. In several of the instruments that we have considered, the UK appears to have granted equivalence indefinitely, while the EU has not yet completed its assessment of the UK’s equivalence (for example in relation to the regulatory regime for auditors) or has granted only time-limited equivalence (for example limited to 18 months in the case of the supervisory arrangements for central counterparties).”
Against this background, we asked for further and better particulars on three points:
“A list of the equivalence decisions made by the UK Government in the different areas of financial services regulation. Whether the EU has reciprocated and granted equivalence to the UK and its regulatory arrangements in these areas. Whether equivalence by the UK and EU has been granted indefinitely or is time limited.”
The reply on 7 January, which I referred to in my speech at Second Reading, was not a model of clarity and precision. Phrases like
“a package of equivalence decisions”
and “the majority of decisions” do not help critical analysis. The correspondence between the noble Lord, Lord Butler, and my noble friend Lord Agnew at Second Reading, which followed this and circulated among all who participated in that debate, seemed to follow the same generalist approach.
However, John Glen’s letter did make one thing clear, that
“there are no decisions made by the EU that have not been reciprocated by the UK.”
As such, to date, it has been a one-way street. That is not necessarily a bad thing, but Parliament and the country are entitled to, and should, know about the development of our relationship with this most significant and geographically proximate market in a sector of particular importance to the United Kingdom—hence my tabling this amendment.
My Lords, I am delighted to follow my noble friend, and I thank him and the other authors of the amendments in this group.
This is a particularly appropriate moment to state that “taking back control” has possibly worked less successfully in the financial services sector than in any other since we left the European Union, with Amsterdam having overtaken us as the largest share-trading centre. There are generally understood to be four options for trade in financial services with the EU. First, there is passporting, which we enjoyed and was very beneficial not just to the London Stock Exchange but, I venture to add, other centres, such as Edinburgh, Leeds and other financial centres in the United Kingdom; it was the most seamless form of trade in financial services. Secondly, there is trade on World Trade Organization terms and, thirdly, free trade agreements, such as that agreed between the EU and Canada, although I am not convinced that it covers financial services or services as a whole. Finally, there is equivalence. If we are not able to revert to passporting, and I understand that we are not, that would be a good way forward. My understanding is that equivalence is where a decision is made by one state to recognise another state’s legal requirements for regulating a service, even though they may not be the same—so, clearly, it is not as good as passporting.
I very much enjoyed the introductory remarks of the noble Baroness, Lady Bowles, and I support each of the amendments in this group for differing reasons. Obviously we will not have the chance to hear from the noble Lord, Lord Tunnicliffe, until he speaks to his amendment, but all three of the amendments in this group would, I believe, further the case for equivalence with the European Union.
Time marches on, and we obviously realise that the trade and co-operation agreement with the European Union left out this major sector of financial services. So I take this opportunity to ask my noble friend the Minister to say, in summing up this debate, precisely where we are with the negotiations and whether we have any chance of reaching an agreement on equivalence under the circumstances and the further particulars as set out by my noble friend Lord Hodgson of Astley Abbotts. I find it deeply regrettable when our own Minister cannot answer three very simple questions in a letter so that our understanding is better. However, with those few remarks, I am minded to support Amendments 90, 100 and 105 for the reasons given.
My Lords, all three amendments in this group would increase the importance of equivalence determinations, which might ultimately be counterproductive.
Amendment 90 seeks to prevent the Treasury making equivalence decisions for reciprocal reasons alone. I cannot see a shred of evidence that the Treasury might do that. When my right honourable friend the Chief Secretary to the Treasury and Katharine Braddick, director-general for financial services, gave evidence to the EU Services Sub-Committee, they made it very clear that, although they would have preferred a comprehensive set of equivalence determinations, the EU declined to grant any, besides two time-limited determinations for the central counterparties, such as LCH, which clear derivatives transactions. It is good news that the Government decided to make their equivalence determinations unilaterally, based on economics and efficiency of markets, and have no intention of making equivalence determinations for political or reciprocal reasons. I suggest that the noble Baroness’s amendment is unnecessary.
Amendment 100 in the names of the noble Lords, Lord Tunnicliffe and Lord Eatwell, is clearly fighting yesterday’s battle. It presumes that the memorandum of understanding now under negotiation with the EU on future regulatory co-operation is likely to lead to the granting by the EU of a number of positive equivalence determinations. This would indeed provide much-needed clarity in the short term but would also make divergence more difficult. Furthermore, the EU has been unwilling to make equivalence determinations on the basis of equivalence of outcomes. Rather, it has made it clear that it expects the UK to copy its rules exactly, line by line, as the price for equivalence determinations.
The Governor of the Bank of England, Andrew Bailey, has said we will not become a “rule-taker” from the EU. He said that, just as we will not diverge for divergence’s sake, we will not align for alignment’s sake. It is unrealistic to think the EU will grant any significant equivalence assessments to the UK in areas where it thinks we may diverge from its cumbersome and expensive regulations. The majority of the financial services industry, rather than looking for equivalence determinations, which can be withdrawn unilaterally on 30 days’ notice, is now looking to the Government to adopt a new and different pro-innovation, pro-competition, common law-based regulatory regime. That is the way to retain and further enhance the position of our financial services industry and our leadership role in developing proportionate, sound regulation at the global level.
Furthermore, the explanatory notes prepared by the noble Lord are puzzling. The decision of the EU not to grant equivalence determinations to the UK has no effect on UK retail investors, because we have granted equivalence to EU firms in many areas to continue to offer their services and products in the UK. I can see that it may well disadvantage EU retail investors, who will be denied access to products and services produced by UK financial services firms, so I do not think this amendment is helpful under any circumstances.
Amendment 105 in the name of my noble friend Lord Hodgson of Astley Abbotts would require a report on the progress towards agreeing the MoU with the EU on regulatory co-operation. This report will be due within two months of the passage of this Bill. However, the TCA requires this MoU to be entered into by the end of March. It seems unlikely that this Bill will even be enacted by then.
Can the Minister tell the Committee when he expects the MoU to be agreed, when a draft will be available and the Government’s expectations as to its content? I usually find common cause with my noble friend but, in relation to his amendment, I believe the retention of freedom to diverge from EU regulations in order to adopt a better regulatory regime in a particular area, ensuring or enhancing the city’s continuing leading role in that area, is more important than slavish alignment to EU rules to beg or ask for the grant of equivalence determinations which could be unilaterally withdrawn at any time. I therefore doubt whether his amendment is necessary but I am interested to hear what the Minister has to say about it.
My Lords, it is a pleasure to follow my noble friend Lord Trenchard who, as usual, speaks good sense on this matter. While these are clearly probing amendments designed to get the Government to say how they see the future of various aspects of financial services, it seems to me that, as regards equivalence with the EU, they are rooted in the language of the past. It has been clear for a long time that the EU sees equivalence either as a route to dictate how the UK’s financial services sector is regulated or as a weapon to be used against the UK as a competitor. The Governor of the Bank of England has spoken strongly against the EU’s apparent positioning on equivalence. He said that either it was trying to say that our rules should never change, which he described as dangerous, or that our rules should change whenever the EU changed its rules, which was “not acceptable”.
There is no doubt that the EU sees the UK as a threat to its way of doing things. It no longer has a leading financial centre within the EU and will struggle to create one, especially if its only weapon is protectionism. We have long been one of the leading financial markets in the world and I hope that we get our number one slot back now that we are unshackled from the EU. That may well take us into new areas of financial services; it should certainly lead to the dismantling of some elements of the EU’s rules that we never liked. The alternative investment funds directive is one clear example; Solvency II and MiFID are others. They never reflected what we regarded as important, and introduced rules which we regarded as unnecessary and cumbersome.
It would have been very easy for the EU to have granted us equivalence at the end of the transition period; we were completely aligned. However, there is a misguided belief in the EU that they can create a rival to the UK and that the best way of doing that is to make it difficult for UK firms to operate in the EU. My own view is that we should abandon any interest in equivalence. Even if we were to get a favourable decision, the EU has retained the right to remove any such decision at short notice. We know that decisions on granting or removing equivalence will not be made on technical merit. They will be political decisions designed to advance the EU’s financial services industry at the expense of the UK. I do not believe that a UK-based financial services operator could ever build a viable business model on the shifting sands of equivalence as determined by a body—the EU—which does not wish us well.
In addition, I do not think that it matters very much. We may find that some areas of our financial services as currently operated will become less profitable—for example, if the EU cuts off its nose to spite its face and denies Euro-denominated derivatives the advantages of London’s liquidity via UK clearing exchanges. Many UK banks and other financial institutions have already set up EU-based subsidiaries to carry out the business that was previously carried out under passporting. That is now water under the bridge—those subsidiary structures will carry on while the business is profitable and cease if it is not.
For these reasons, I believe that the amendments in this group are looking in the rear-view mirror. Of much greater importance is what plans the Government have to support and promote the future—
My Lords, there is a Division in the Chamber. The Committee stands adjourned for five minutes.
As I was saying, my Lords, of much greater importance are the plans that the Government have to support and promote the future growth of our financial services sector. The amendments on international competitiveness debated on our first day in Committee are far more important than EU equivalence.
My Lords, I am delighted to follow my noble friend Lady Noakes. Like her, I was struck by the comments of the Governor of the Bank of England, and I feel she has given us a welcome dose of reality this evening.
I speak as a member of the EU Committee and its Services Sub-Committee. We have wrestled long and hard on the vexed question of the granting of equivalence by the EU, including the important issue of reciprocity, highlighted by the noble Baroness, Lady Bowles. I want to make three points and ask one question.
First, once one has decided to leave the EU, it makes little sense to be tied to its rules and regulations—in effect, as the Governor of the Bank of England has said recently, thereby becoming a rule taker without being able to make any input to the new rules. So we will have to plough our own furrow on financial services. But that does not stop us agreeing equivalence arrangements in areas where there is strong mutual interest such as central counterparties, known as CCPs, already temporarily approved, and perhaps insurance. We have granted equivalence to European banks and other bodies, as has been said, and the prospect of maintaining that equivalence gives us some leverage.
Secondly, I do not see why we should necessarily refuse equivalence to third countries which do not have similar legal and supervisory standards. Flexibility is important if we are to welcome investors here, and they may have different yet adequate regimes, bringing in innovation and diversity of offer, which could be valuable in the UK. Trade in services is absolutely vital to the future of this country.
Thirdly, I can see the value of some form of reporting to Parliament, as proposed by the noble Lord, Lord Tunnicliffe, in Amendment 100 and my noble friend Lord Hodgson in Amendment 105—although in different ways. Even on the EU Committee, we have had the greatest difficulty extracting information on the progress of negotiations on financial services, partly because this is in the hands of the Treasury and its officials, while the main spokesman has been my noble friend Lord Frost, who has led our negotiations across the board with such tenacity.
My question is this. How does my noble friend the Deputy Leader feel about the balance between UK-owned banks and financial service operators and their EU competitors now that we have granted equivalence and the EU, in the main, has not? Am I right in thinking that a German bank such as Deutsche Bank, a Dutch bank such as Rabobank or a French asset management firm such as Amundi is regulated in its own country and less subject to UK regulator bureaucracy and aggressive enforcement of something like MiFID than its UK counterparts? Is there any sense in which it is privileged, and is this true also of smaller operators? Does this matter to UK plc?
My Lords, I shall begin by addressing Amendments 100 and 105, which would require reports that would be both useful and interesting. However, I want to pick up the point that was made by the noble Baroness, Lady Noakes, who essentially took the position—I understand its logic—“Why bother to seek equivalence from the EU?” I think she said, “They wish us ill and see a competitive advantage in not offering equivalence.” However, I do not think she listened carefully to my noble friend Lady Bowles, who comes with a great deal of experience from the EU. The point my noble friend made is that in the EU, which is a rules-based organisation —that is its absolutely core fundamental structure—it is quite hard to offer equivalence to a financial centre where those who are regulating it make it very clear that they want great flexibility to be able to make change very easily and with very little process. That is what we are doing with this Bill.
Essentially, we are removing the normal parliamentary processes that would have been engaged in the process of changing regulation and leaving it in the hands of the regulator, with, as we have all discussed, virtually no accountability to Parliament. It seems from what we read that a 12-week consultation would be about all that is required for a regulator to change the rules, compared with the process in the EU, which people may regard as cumbersome but which has with it extensive consultation, engagement and oversight, and which flushes out exactly what is associated with, what is involved with and what the consequences are of that rule change. We will now have light-touch rule change—that would be an accurate way to describe it. In an atmosphere where there is very little trust—the language certainly has not been that which would develop and promote trust—I can certainly see why the EU would be uncomfortable with the idea of offering equivalence in those circumstances. Therefore, it is not a determination to do us ill but, to a significant degree, some shock that change will happen so often that it will have very little idea of the rule base that applies in the UK and certainly will not understand its various ramifications.
However, in a sense it really does not matter. I find it quite shattering that we have a Government—the noble Baroness, Lady Noakes, seems to be aligned with them—who say, “We are really not interested in being able to sell our services into the second-largest economy on the globe”—whether measured by population or in terms of GDP. That is a huge and significant market. We have never been successful at selling financial services into the United States, partly because it has its own, very stalwart financial services sector. I suggest that selling financial services into China will be exceedingly difficult over many years. China will wish to develop its own financial centre; it has Hong Kong. We begin then to look at countries across Asia and in South America. However, I think we will find very shortly that they intend to develop their own financial centres. When I have talked to people in India, they would be willing to do some work here with people in the UK but they want to develop Mumbai. We are seeing a regionalisation of economic blocs, which will lead to a rise of significant financial centres in other locations across the globe. There is a real danger in dismissing with a wave of the hand the customers who sit on our doorstep, who have traditionally been our core customers, and saying, in essence, “It really doesn’t matter whether we are able to sell them services. Let’s look elsewhere.” I am not sure that “elsewhere” looks quite so promising.
What I found most interesting in this whole debate was a very different set of questions raised by my noble friend Lady Bowles. To me they were, if you like, the financial services equivalent of the chlorinated chicken question. As we go out and seek to sell our financial services more broadly, presumably, many of those locations will turn to us and say, “You can sell to us provided we can sell to you. We’re developing our financial sector and we would like to have access to your markets.” My noble friend was asking: what standards will we be using to determine that reciprocity? As I say, it is the chlorinated chicken question. We have not heard much—or anything, frankly—from the Government about what standards we will apply under those circumstances.
It seems to me that, when we assert that we can find markets all over the globe that will take the place of the EU—and that this can be done rapidly and very easily—we have to answer that question. Are we going to have to pay the price of providing reciprocity to financial centres whose standards do not meet our own? What are the consequences of that if those entities are then freely able to enter the UK market? We have a long history of concern about money laundering and market abuse. There are very serious questions associated with that; I would like to begin to hear some answers.
My Lords, I have been very struck by this particular debate and the positions taken by Members of the Grand Committee. I approach this question of our future financial services relationship with the European Union with a sort of historical perspective. In a way, the financial services industry in this country is unique in the history of financial centres in that it is a financial centre without any significant savings or economic hinterland. The great financial centres of history—be it Venice, Amsterdam, 19th-century London or 20th/21st-century New York—have thrived on a powerful flow of domestic and imperial savings, and have tended to fade when that flow has dried up.
The fact that the City of London has continued to thrive even as Britain has lost its Empire and the UK economy has lost its dominant position is no doubt due to a remarkable concentration of talent and entrepreneurship; to the remarkable luck of widespread access to financial markets around the world; and to becoming, as the noble Viscount, Lord Trenchard, pointed out, the financial centre of the European Union. The international liberalisation of the 1980s and the creation of the European single market gave the City access to that economic hinterland and the opportunity to provide financial services throughout an open market.
As we know, the openness of the European market for financial services to the UK is now in question. As this Bill makes clear, access that was previously open is now potentially closed and hanging on this delicate thread of equivalence. It is interesting to see that the Bill is nervous about equivalence. On page 65, we read that
“the FCA must consider, and consult the Treasury about, the likely effect of the rules on relevant equivalence decisions.”
On page 82, we read that
“the PRA must consider, and consult the Treasury about, the likely effect of the rules on relevant equivalence decisions.”
That nervousness is well founded. I agree with the noble Lords who have been critical of the European Union that the likelihood of equivalence being the foundation of successful financial activities for the City’s continuing growth in Europe is at least in great doubt. Indeed, just imagine the chief executive of a big international bank or an asset manager with a large number of employees in London telling the board of directors that they are planning their long-term investments on the shaky foundations of a political equivalence ruling by Brussels.
At the moment, the only thread that seems to be at least holding and maintaining the potential of access to a market of 500 million people is the memorandum of understanding, which was due in June but is still apparently debated. However, a draft that was leaked to the Politico website
“states categorically that equivalence findings remain unilateral decisions, meaning the U.K. would have no recourse if the EU opted to withdraw it.”
The draft does propose the creation of an EU-UK financial regulatory forum but this resembles the arrangement with the United States that is defined as “strictly informal”. I think that access will be diminished, perhaps significantly. That is the only certain conclusion we can make. Perhaps the Minister will tell us more about the progress of the memorandum of understanding when he sums up.
Of course, another part of the Bill deals with equivalence, namely equivalence going the other way. It deals with retail transactions, which refers to funds based in the EU selling financial products to UK households. The Explanatory Notes say that there are 9,000 UCITS funds currently operating in the UK, and they anticipate that the majority of them will continue to do so under the new category of a recognised scheme introduced in this Bill. Becoming a recognised scheme will allow such funds to bypass the restrictions on the promotion of their schemes, as set out in Section 238 of FiSMA.
The new regime would allow the Treasury to declare that another country had investor protections equivalent to those of the UK, so this is going the other way. Two equivalence regimes will be in place: one for retail funds and one for money market funds. The Treasury will just have to declare a jurisdiction as having equivalent investor protection outcomes for retail funds; funds in that jurisdiction will then be able to register with the FCA and market to retail investors in the UK. Importantly, the Treasury will be able to withdraw equivalent determinations that have already been granted and the FCA will be granted powers to suspend temporarily or revoke this equivalence, which provides services to retail customers in the UK.
As far as I can tell—I have not been able to work it out—Treasury decisions will be subject only to the negative procedure and FCA decisions to no parliamentary procedure at all. Can the Minister confirm that my understanding is correct? Does he not agree that all retail instruments subject to an equivalence procedure should at the very least carry a mandatory health warning of the regulatory risks to which the investor is now exposed?
Amendment 100 in my name and that of the noble Lord, Lord Tunnicliffe, provides a mechanism for Parliament to monitor the various equivalence regimes. In particular, it focuses on the protection of UK retail investors in such circumstances—the community that, surely, the FCA and Parliament both have a commitment to protect.
My Lords, the noble Baroness, Lady Bowles, has taken us into an interesting topic area: regulatory equivalence.
The UK has long been a global leader in financial services. As we adapt to our new position outside the EU, it is essential that we continue to support a stable, innovative and world-leading sector. We have already considered the UK’s international standing in another debate. With these amendments, we are considering equivalence and the UK’s relationship with the EU in relation to financial services. I know that there is a lot of interest in this issue, so I will take this opportunity to provide an update on where we are, to the extent that I am able to do so at this point in time. Perhaps, though, I could begin by saying something about our approach to making these decisions.
Amendment 90 seeks to impose an obligation on the Government to make an equivalence determination only where they have determined that the relevant overseas jurisdiction has legal and supervisory standards equivalent to those of the UK. It also seeks to prohibit the Government granting an equivalence determination based only on an agreement to make determinations on a reciprocal basis.
I am happy to confirm that the Government are already committed to conducting their equivalence assessments of overseas jurisdictions on the basis that the relevant legal and supervisory framework of that jurisdiction provides equivalent outcomes to the UK’s. This is outlined in the guidance document on the UK’s equivalence framework which was published in November 2020.
In addition, an example of the legislative requirement for granting equivalence can be seen on page 35 of the Bill. It amends the money market funds regulation to allow the Treasury to make equivalence determinations and states:
“The Treasury may not make regulations under paragraph 1 unless satisfied that the law and practice of the country or territory imposes requirements on MMFs which have equivalent effect to the requirements imposed by this Regulation.”
There is a key point for me to make here. This is not a so-called “line-by-line approach”, where we require a country to have identical rules. We believe that compliance with internationally agreed standards and equivalent regulatory outcomes in different countries can be achieved in different ways and through different legal frameworks.
In that context, there is a further important point that I invite noble Lords to note: granting equivalence is a decision we make independently with no reciprocity requirement. The UK would not grant equivalence just on the basis of reciprocity but would always carry out an assessment to ensure that the other jurisdiction is equivalent. The Government must lay a statutory instrument in Parliament to make an equivalence decision. This will give all noble Lords the opportunity to consider and scrutinise Her Majesty’s Treasury’s decisions as part of the normal legislative process.
I turn to consider our relationship with the EU. I say to the noble Baroness, Lady Kramer, that there is no question of us dismissing this relationship with a wave of the hand or otherwise. Amendments 100 and 105 seek to impose obligations on the Government to report on the status of the EU’s considerations about UK equivalence and on the status of negotiations on the regulatory co-operation memorandum of understanding between the UK and EU. I have already said that the granting of equivalence is an autonomous matter for the UK, and this is equally true for the EU, so the Government are not in a position to report on what the EU may or may not be thinking at a given point in time, even if we wanted to.
The noble Baroness, Lady Bowles, characterised the UK regulatory system as a squidgy balloon and hence difficult for the EU to grapple with but, as I have previously set out, the EU is well used to assessing regulator rules and practice as part of its equivalence assessments, and we see no reason why it would not be able to assess the UK in the same way if the will is there.
However, I can provide an update on our own actions. In November, the Chancellor announced a package of equivalence decisions for the EU and EEA member states. We did this to provide clarity and stability for industry. My noble friend Lord Hodgson asked me a number of factual questions about the existing equivalence decisions between the UK and the EU. If he will allow, to ensure a full and accurate response, I am happy to write to him on those questions.
We are not ruling out further equivalence decisions for the EU in the future, and we continue to believe that comprehensive mutual findings of equivalence between the UK and EU are in the best interests of both parties. The Government remain ready and willing to work with the EU to achieve this. For their part, the EU has granted only minimal decisions for the UK. As per our joint declaration with the EU on financial services, which was agreed alongside the trade and co-operation agreement, we have agreed to establish structured regulatory co-operation on financial services by the end of this month. My noble friend Lord Trenchard will be glad to note that we believe we are on track to do that.
This co-operation will support engagement on issues of mutual interest, including facilitating transparency and dialogue around the process of adopting, suspending and withdrawing equivalence decisions, but I should be clear that it is not envisaged, in the joint statement or elsewhere, that the agreement of the MoU on regulatory co-operation will directly entail any new equivalence decisions. This MoU will be publicly available to Parliament after the conclusion of negotiations. I reiterate that the Government are committed to operating an open and transparent approach to equivalence with the EU, but I am afraid that the Government cannot provide updates on this discussion in real time.
My noble friend Lady Neville-Rolfe expressed concerns that we may have given EU firms some kind of advantage over UK firms. In the absence of clarity from the EU, the UK has acted to provide clarity and stability to industry, supporting the openness of the sector, and to deliver our goal of open, well-regulated markets, but these decisions should not be seen simply as altruistic. They will allow firms to pool and manage their risks effectively and to support clients on both sides of the channel in accessing our world-leading financial services and highly liquid markets, so there are benefits for the UK as well as for the EU.
Finally, Amendment 100 also seeks to impose a legal obligation on the Government to publish a strategy to provide security to UK retail investors in the event of equivalence being withdrawn. I reassure noble Lords that, as set out in the guidance document on the UK’s equivalence framework, the Treasury will seek to ensure that withdrawal of equivalence is undertaken in line with the principle of transparency. That means that the Treasury will endeavour to engage with interested parties as part of the process and will seek to provide Parliament with appropriate scrutiny. I say to the noble Lord, Lord Eatwell, that I recognise the importance of clarity and stability regarding the potential withdrawal of equivalence. When withdrawing an equivalence determination, it will be undertaken in an orderly and controlled manner to ensure that investors are protected.
The noble Lord, Lord Eatwell, made clear a similar concern in relation to the overseas funds regime, given that the provisions of the Bill also create a new equivalence regime there. I assure him that we do not envisage that in the event of equivalence being withdrawn investors would be forced to divest their investments in the fund, but instead that the fund should continue to service them. The Bill also includes a power so that the Treasury may take steps to smooth the transition for funds if equivalence has been withdrawn.
I realise that noble Lords might have wished for a slightly fuller account of our discussions with the EU on the MoU and equivalence issues, but I trust that the reasons for me being constrained on those matters are clear. I hope nevertheless that I have provided the Committee with a sufficient update on this topic and ask that the amendment be withdrawn.
I have received a request to speak after the Minister from the noble Lord, Lord Northbrook.
My Lords, since we are already diverging from the EU—for instance, with regard to lightening new share-listing rules—does the Minister believe that equivalence does not really matter because Her Majesty’s Government believe that the UK will make up the lost revenue from the passporting system in this and other financial areas?
My Lords, I hope that my response to this debate has indicated that, of course, we regard mutual determinations of equivalence as desirable. However, I have also made it clear that there is advantage to both the UK and the EU in our adopting an autonomous position to take decisions for ourselves in this area. Of course, I am hopeful that our discussions with the EU will progress in a helpful way, and I assure my noble friend that, as soon as I have news that I can vouchsafe to him and other noble Lords, I shall certainly do so.
My Lords, I thank all noble Lords for what has turned out to be a very interesting debate. For once, the crafting of my probing amendment produced exactly the responses that I was hoping to obtain. Here is the thing: in many respects, I can agree with everybody, even though noble Lords were obviously coming from different positions.
The noble Viscount, Lord Trenchard, and the noble Baronesses, Lady Noakes and Lady Neville-Rolfe, think that we just have to get on and plough our own furrow. The Minister has said that that is essentially what we are doing, but we are maintaining the hope or ambition that the EU will, one day, come round and finally realise that there is mutual advantage in equivalence decisions or whatever one wants to call them. In my opening speech, I said that I had sometimes failed to persuade it of that, and, ultimately, we already see the pattern: once it realises it needs it, we will get it, but not before. It will not concede a general mutual benefit, which is one of the big differences between the UK and the EU. I fully support the line that the UK is taking, which is to be open and to show that openness works. There lies the power of London—and common law has a hand in it as well.
The Minister has been clear. On the adoption of the squidgy balloon, as I termed it, I did not mean that in a disrespectful way; I was just trying to say that the EU looks for something concrete, and we have a squidgy balloon, although the outcome might end up being around the same. It has difficulty with that, but we are proceeding with the squidgy balloon, and, therefore, we will have to take in our stride whether we get equivalence or not. I think that that is what the Minister has said, quite fairly and clearly.
However, he has confirmed that standards will be maintained. I knew that I was broadly quoting from guidelines in the first part of my amendment; that was not a happy accident. However, there was confirmation that there will always be this looking at the outcomes and what is supporting that, which applies no matter the route we take to equivalence or whatever else it is called—as the noble Baroness, Lady McIntosh, explained, there are various routes to achieving the mutual recognition, however it comes about.
From my perspective, this has ended up being quite a satisfactory debate—probably nobody is happy, but we are where we are. On that basis, I beg leave to withdraw my amendment.
Amendment 90 withdrawn.
Amendments 91 to 98 not moved.
That concludes the work of the Committee this afternoon. As always, I remind Members to sanitise desks and chairs.
Committee adjourned at 7.34 pm.