Motion to Take Note

Financial Supervisory Framework: EUC Report – in the House of Lords at 4:38 pm on 12th January 2012.

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Moved by Lord Harrison

That this House takes note of the report of the European Union Committee on The EU Financial Supervisory Framework: An Update (20th Report, HL Paper 181).

Photo of Lord Harrison Lord Harrison Chair, EU Sub-Committee A - Economic and Financial Affairs, and International Trade 4:41 pm, 12th January 2012

My Lords, I present the report entitled the EU Financial Supervisory Framework: An Updateproduced by the European Union Sub-committee on Economic and Financial Affairs and International Trade which I have the honour to chair. The global financial crisis has demonstrated that the existing structures for supervising financial institutions and monitoring systemic risks are inadequate. This in turn has triggered a debate on how best to redesign the financial supervisory architecture of the European Union. Consequently, in September 2010, the EU passed legislation which laid the foundation for a new EU supervisory architecture. The new framework has two strands. The first is the overarching European Systemic Risk Board, which has responsibility for macroprudential oversight of the EU financial system and for assessing and proposing ways to reduce systemic risks in the financial sector. Below the ESRB are the three European Supervisory Authorities: the European Banking Authority, the European Securities and Markets Authority and the European Insurance and Occupational Pensions Authority. These ESAs strive to harmonise and co-ordinate the work of member states' national regulatory bodies. They draft and implement technical regulatory standards, and mediate between national supervisors where conflicts arise. When an emergency situation is declared by the Council, the ESAs have enhanced powers to co-ordinate member states' responses and, if necessary, to make binding decisions on national supervisory authorities or indeed on individual financial institutions. In general, however, financial institutions continue to be supervised by national authorities.

The committee examined the proposed legislation setting up the new EU financial supervisory system in its 2009 inquiry on the future of financial regulation and supervision. After the new ESAs were established on 1 January last year, we decided to return to the topic by taking evidence from the UK national regulator, the Financial Services Authority as well as from the European Banking Authority. We wanted to discuss how matters had progressed and to explore key issues that we had previously raised with the Government in our area report. This report was published in July and the Government's response, for which we are grateful, was received in September.

The committee's key conclusions were as follows. First, we affirmed support for the single rule book, operable across the member states. Given the cross-border nature of many financial services, it is important that national supervisors apply the same regulatory standards enforced with the same powers across all the member states. However, the financial sector is a global industry and we asserted that global co-operation is also essential to ensure that risks are minimised rather than simply relocated. The committee was anxious to enshrine the principle that day-to-day supervision of financial institutions should remain at the national level and we stressed that this should be reflected in any new legislation proposed at the EU level. However, we noted that there were some situations in which the ESAs could and should override national supervisors, especially in response to an EU-wide crisis or emergency. Our witnesses sought to assure us that there were safeguards in place to prevent such powers being used routinely or inappropriately, and we expressed the hope that this will indeed be the case. Furthermore, we expressed the wish to be consulted if the Government were ever to envisage asking the Council to declare an emergency and, similarly, to be informed forthwith if they detected that another member state or ESA was likely to request that an emergency be declared.

We also endorsed the principle that national supervisory authorities should occasionally intervene in exceptional circumstances to impose temporary restrictions on certain financial activities in order to ensure general financial stability. We welcomed the co-ordinating role of the ESAs to ensure that such actions take place in a uniform and co-ordinated way across the European Union. However, in our view ESAs should only have the power to temporarily ban certain activities or products in a crisis when an emergency has been declared by the Council. Where the legislation setting up the ESAs allows for the ESAs to be granted enhanced powers in certain areas without the need for the Council to declare an emergency, we argued that future sectoral legislation should only confer such powers as the exception, not as the rule.

One such exception to the principle, in our view, related to short selling and credit default swaps. Given the highly cross-border nature of this trade, we argued that giving ESMA such intervention powers might be necessary to preserve financial stability in the European Union. I wonder whether the Minister has pondered the far-reaching consequences of this ban on CDSs and on short selling. In relation to contributing to macroeconomic stability, the committee stressed the importance of information-sharing among the supervisors. We also welcomed assurances by the EBA that bank stress tests would be strengthened in the light of the failure of these tests in 2010. Indeed, we concluded that the rigour of the stress tests would be an important measure of the independence of the EBA.

Finally, we reflected on the United Kingdom's influence. The UK is the centre of financial services in the European Union and we emphasised the importance of the United Kingdom Government and the FSA taking leadership roles. We commended the FSA for its constructive approach in seeking to engage with the ESAs. Yet we were concerned that the Government's proposal to abolish the FSA and replace it with the Financial Conduct Authority, the Prudential Regulatory Authority and the Financial Policy Committee could compromise the UK's leadership role. We called on the Government to explain what structures and mechanisms they planned to put in place to ensure that the new bodies work together effectively to present a cohesive and unified face as well as ensuring that the residual task of the seceding FSA should be covered by the United Kingdom's new national supervisory structure.

Although the Government's response broadly reflected the committee's point of view, there were some differences of emphasis. The Government continued to express concern about the use of the triggers for ESMA's intervention powers in relation to short selling and credit default swaps. On the question of keeping the committee informed about any such emergency, the Government stated that they would inform it as far as is possible about a Council declaration of an emergency, or of subsequent use of emergency powers by the ESAs, in a form consistent with any restrictions resulting from the possible confidential nature of such decisions-perhaps that could be elaborated. On the domestic supervisory role of the United Kingdom, the Government stated that they would legislate to require establishment of a statutory memorandum of understanding between the Treasury, the Bank of England, the PRA and the FSA, and would support the further use of memoranda of understanding to frame the new regulators' relationships with other UK authorities. I look forward to the Minister's reply, which I am sure will explain the Government's position in more detail.

So where do we stand today? Events have moved on since the report was published, in particular as the euro area crisis has deepened, and the new bodies have played a high-profile role. For instance, the European Banking Authority's December assessment that European banks needed €115 billion of funding to withstand financial shocks underlined not only how serious the crisis had become but also the EBA's active and interventionist role. Moreover, the UK Government's reported demand, in negotiations at the Brussels summit in December, that the EBA remain in London demonstrated not only how important this body has become to the Government but also the potential isolation that they face as a result of not joining in with the other 26 member states. However, the collapse of Dexia in October, in spite of the fact that it had comprehensively passed the EBA's stress tests as recently as July, once again called into question the effectiveness of its system of bank stress tests. ESMA's role in the regulation of high-frequency trading, over-the-counter derivatives and credit rating agencies, as well as its power to ban certain activities or products, continues to be subject to intense debate, as does EIOPA's controversial assessment of the solvency of pension funds.

Are the Government sure that British experts are available for use with the new structures? Do we have sufficient resources accorded to the new supervisory authorities to ensure that they do their work?

ESMA has had responsibility for credit rating agencies since 1 June of last year. This forms a new and important departure, and I would welcome the Government's response to this development within the single market in financial services.

Photo of Lord Marlesford Lord Marlesford Conservative 4:53 pm, 12th January 2012

My Lords, I pay tribute to the noble Lord, Lord Harrison. It is not just that he made a very good speech on our report; he has also been a very good chairman of Sub-Committee A, a committee which is quite tough to guide because there is such a diversity of view on the EU among its membership. That diversity is thrown into ever sharper focus as one EU crisis develops into the next.

I suppose that in your Lordships' House and in the country as a whole the views can be seen as stretching from the totally disillusioned, who now feel that the whole enterprise should be abandoned-at least by the UK, to those whose tribal loyalty to the EU leads them to feel that we have to stick with it come what may.

I am not saying that either of those persuasions is directly represented on the committee. But inevitably, as events unfold, we are aware of those positions even if neither of them is actually an option. Incidentally, I should say that I do not regard myself as either a euroenthusiast or a eurosceptic. I suppose if I am anything at all, I am a eurochallenger.

The second reason it is a tough committee is that there is a very high technical content to many of the issues we seek to address. What makes it particularly hard is that factual information is often either deliberately concealed by the parties or simply not available.

This has, of course, been the case since the world financial crisis first started to unfold back in May 2007, when the depth and breadth of the toxicity of financial instruments, initially mainly inside the United States, started to emerge.

What a far cry it is since the American state-sponsored mortgage-granting agencies, Freddie Mac and Fannie Mae, appeared to be a brilliant concept for increasing home ownership, an objective that the now shrunken giant of American banking, Alan Greenspan, so enthusiastically and unwisely espoused. But the lesson in all this is that, to quote the NKVD man in Kravchenko's I Chose Freedom:

"Comrade Stalin has taught us to trust one another but at the same time to check and recheck".

I make no apology for saying once again that it is now recognised, as it was by many at the time that, conceptually, the euro was flawed from the start, based as it was on a single monetary policy but independent fiscal policies. From that emerged the myth, peddled over the past 10 years, that the sovereign debt of all euro countries was equally safe. This suggestion on its own has created a moral hazard of the ECB having a potential liability which it could only meet by switching its printing machines onto constant. And we all know where that leads.

To state that the necessary change for the system to work is the establishment of a euro-area ministry of finance is futile, as the people of Europe show no signs of wanting it. We therefore have this plethora of new supervisory bodies: ESRB, three ESAs, EBA, ESMA, EIOPA-which the noble Lord, Lord Harrison, and our report have described very clearly. The whole question of these bodies being able to override national supervisors is a central issue. It has been suggested that this should only be done in emergencies but who defines an emergency? If the existence of an emergency is seen as too sensitive to be revealed, what then?

There is the crucial question of whether the European Banking Authority has the capacity to carry out the stress tests which are intended to give early warning that banks are in danger of going bust. As banks spend a great deal of their time concealing the reality of their financial positions, I would put my money on the bankers hiding what they wish to hide.

I have for some years been concerned about credit card debt in this country, the £60 billion debt on which interest is being paid, currently at a rate of 17 per cent. It amounts to nearly £1,000 for every man, woman and child in Britain. At my instigation, the noble Lord, Lord Myners, when he was the Minister responsible in the last Government, wrote to the banks, asking them at what level they were valuing these assets. Only one of them even replied. One thing on which I warmly congratulate the Government is their decision to separate high-street banking from the much more risky investment banking. This is being done in the teeth of opposition from the banks.

I am worried about the way in which some of the senior eurocrats are suggesting that they might be able to suppress inconvenient facts. I am thinking of course of Commissioner Barnier, who is keen to ensure that the credit-rating agencies do not publish inconvenient truths about the value of sovereign debt in euro-area countries. Having realised that his edict would not be enough to get what he wants, the Commission is now putting together a complicated set of procedures which credit rating agencies would have to comply with before the European Securities and Markets Authority allowed them to publish their credit rating. There was an interesting piece in yesterday's FT by Martin Fridson, in which he expresses considerable doubt as to the merits of such proposals. I certainly share those doubts. I have absolutely no brief for the credit rating agencies-which Sub-committee A has also recently studied-which failed investors and savers deplorably with their absurd endorsement of doubtful financial instruments of debt.

Finally, to illustrate my readiness to see the merit of regulatory action in financial matters on a European level when it is appropriate, I would like to make a specific proposal, which I hope the Minister will communicate to his Treasury colleagues. There has been much fully justified criticism of the way in which overseas entities and individuals have been able to avoid paying stamp duty on transfers of expensive houses in the UK. This could be dealt with at an EU level by simply requiring full compliance with national law, including tax, before any transfer of real estate is accepted as having taken place. In the UK, the courts would simply refuse to recognise title unless the proper stamp duty had been paid on a change of ownership. That, I think, would fix it.

In conclusion, I am rather doubtful that Humpty Dumpty can be put together again. I hope that he can, because I am a strong supporter of the EU single market and even the EU as a global political player. Sadly, the debacle over the eurozone has diverted a vast amount of the time-some say as much as 80 per cent-that Europe's top leaders have been able to apply to world problems of peace and stability. I fear that that means that EU influence has greatly diminished over that period. As Britain is probably the most financially sophisticated and experienced country in the world, it is crucial that we play a full part in offering our expertise to help the euro-area put together the best financial supervisory framework possible. I hope that the House of Lords Sub-committee A can play some small part in that.

Photo of Lord Newby Lord Newby Liberal Democrat 5:03 pm, 12th January 2012

My Lords, this is a very timely debate given the state of play in the development of both the EU financial supervisory framework and our own financial services architecture. Nobody could accuse the EU or the British Government of not acting to put in place new structures which aim to stand a better chance than their predecessors of preventing another bubble-based banking crisis. As the noble Lord, Lord Harrison, pointed out, at the EU level we have the ESRB and three sectoral regulatory bodies. Here in the UK we will soon have a new Financial Policy Committee, a Financial Conduct Authority and a Prudential Regulation Authority, along with the Treasury and the court of the Bank of England involved in setting and implementing financial regulatory strategies.

All these bodies are new or in gestation so there is a considerable degree of uncertainty about how well they will work, both individually and-possibly more importantly-in relation to each other, particularly at times of financial crisis. The noble Lords, Lord Harrison and Lord Marlesford, talked about how the European bodies would operate, what constitutes an emergency and what powers they would exercise in those circumstances. The truth is that, at the moment, we do not quite know because they are so new that they have not yet had to invoke those powers. From the evidence that the sub-committee took, it is clear that they are still feeling their way in some respects on how those powers would actually be used.

I have had the privilege of serving on the Joint Committee on the Financial Services Bill and as part of our work we looked at how the new UK bodies would relate to their European counterparts and how the UK interest would be best represented. It is on this area of the sub-committee's report that I would like to concentrate my remarks this afternoon.

There are several obvious problems. First, the structures of the European and British bodies are quite dissimilar in that at the European level, we have three sectoral bodies covering banking, insurance and markets and at the UK level, we have two: one covering prudential regulation and one covering conduct of business regulation. These clearly are not equivalent bodies. When those involved in the FSA or the EBA have been asked whether this matters not, it has been pointed out that across the EU, there are many forms of regulatory structure and the twin-peaks approach that we are going to be adopting is by no means unique. As a matter of principle, however, I do not think one could argue that three bodies playing two bodies with completely different remits is an ideal starting point. It is an issue that we have to address.

Secondly, as has been mentioned, the European bodies are very lightly resourced for potentially a very big job, particularly at a time of emergency. The European Banking Authority will have 120 staff; if there is an emergency tomorrow, it could be asked or expected to wield powers across the whole of the EU and it will clearly struggle to do it. There is no prospect in the foreseeable future of these bodies getting any additional resources, which is a bit of a worry. There is also a more general worry that its 120 staff are playing 3,500 staff of the FSA; no doubt, staffing will increase in the equivalent bodies across the EU. Therefore, it is going to be hemmed in as regards what it an do simply through the paucity of its own resources.

The third problem is obviously Britain's relationship more generally with the EU. At the ill fated recent summit, it was regulation of the financial services sector that was cited as the reason for the UK Government refusing to go along with the rest of the EU. Some of the arguments that were advanced seemed to me quite bizarre. It was suggested that we should have, as a matter of principle, a declaration that there would be no moving of the European Banking Authority out of London. No one was suggesting that it would be moved out of London, so why was that a big issue? It was suggested that there was a huge problem in that the EU was going to stop us increasing the capital requirements in our banks beyond a certain level, when it was absolutely clear from both the EBA and Commissioner Barnier that, whatever they originally thought in this area, they were not going to push this as an issue. Therefore, we have been pursuing lines of argument related to the management of financial services regulations which seem to me to be bizarre. Whether they are or not, however, they have undoubtedly caused major difficulties in our short-term relations with at least some of the principal member states. However, it seems to me-I am sure everybody would agree, whatever their views on the euro, the eurozone and the Prime Minister's strategy-that it is absolutely key for the UK to be in a position to maximise its influence in EU financial services regulation. Therefore, we now need to think about how we can best achieve this.

First, there is our role within the EU and, in particular, the supervisory bodies. I gather that, despite the screaming headlines, the attitude of many of those involved in managing the process in member states and EU institutions has not undergone a revolution; and that there is still a residual willingness to work closely with the UK on these matters, which is almost surprising in some cases. This is particularly true given, first, the small size of the resource at the European level; and, secondly, the even smaller resource and aptitude for involvement in detailed negotiations on many of the technical issues in many smaller member states with small financial services sectors. There still seems to be a very big opportunity for the UK to play a major part in those bodies. We have not been frozen out and we must make sure that we remain as active as possible.

Secondly, there is a problem with the new architecture throughout financial services regulation and how it relates to the European bodies. According to the draft Bill, the PRA will exercise the UK vote on the European Banking Authority and the insurance authority, while the FCA will exercise the UK vote on the European Securities and Markets Authority. However, substantial areas of the ESA's work that are not the primary responsibility of the institution that holds the voting seat apply, so there will be a real problem there with the relationship between the UK and the European bodies. That can be dealt with only through good co-ordination at the UK end.

As the noble Lord, Lord Harrison, pointed out, the Government plan to have an MoU involving all our bodies here that are related to this. However, as we saw with the tripartite agreement, MoUs on their own are not worth the paper they are written on if the participants in the MoU never meet or if they have fundamentally different views about what to do. It seems that although an MoU is no doubt necessary, it is not sufficient in this area. In their evidence to our Joint Committee, a number of bodies-including the CBI and Nationwide, for example-suggested that a way of dealing with this would be to establish an international regulatory committee of the various bodies of the Bank and the Treasury here in the UK. It would be responsible for co-ordinating British involvement in the European regulatory activities. This seems to me to be an extremely sensible suggestion.

The Joint Committee suggested that this committee should, because of its importance, report to the Chancellor and be chaired by the Treasury. I agree, although I might add, in parenthesis, that it should be chaired by someone from the Treasury with a sophisticated understanding of how the EU institutions and authorities work and what is realistically achievable in both the short and medium term. This may be a big ask but it is the best chance that we have. These are sensible suggestions, which I hope the Government will adopt. I also hope that the Treasury and the Bank will encourage their brightest people to work with the EU bodies, either as UK reps on their various committees, or as permanent or seconded members of staff. British voices around the table need to be as numerous and as resonant as possible.

I realise that the Government are still considering our committee's recommendations and it may be slightly premature for the Minister to give a definitive response on this issue. However, I hope he will urge those of our recommendations that relate to EU co-ordination on his colleagues.

Photo of Lord Kerr of Kinlochard Lord Kerr of Kinlochard Crossbench 5:14 pm, 12th January 2012

The noble Lord, Lord Marlesford, was quite right to start with a tribute to the noble Lord, Lord Harrison, the chairman of Sub-Committee A. As a fellow member of Sub-Committee A, I strongly endorse these plaudits.

I want to commend our little report and to put three questions arising from it to the Minister. The questions follow, quite neatly, the logic of the remarks of the noble Lord, Lord Newby.

The City of London, as one of the three great global financial markets, is recognised in most, though perhaps not all, EU capitals as a major EU asset. In most other EU capitals, with perhaps one significant exception, the health of the City is seen as important to the Union. The City's voice is being given due weight, so witnesses told the committee, as the EU's financial supervisory framework develops. This seems to be developing in ways in which the committee, certainly, and, we understood, the Government, supported. That was the message of the admirably clear and positive reply to the committee which the Financial Secretary sent on 21 September. I am grateful for that reply.

The UK is playing a leading role in setting up the new structure, as one would expect, given the pre-eminence of the London market. Of course, qualified majority voting applies, so we cannot be sure of getting our own way on every issue, but so far, so good. The City is pretty relaxed, the committee's report is pretty reassuring and the Government's response is equally reassuring and supportive. So far so good, or so I thought. Here I come to my first question to the Government. Is it the case, as reported in the press, that one of the safeguards sought by the Prime Minister in the middle of the night of 9 December was a carve-out from qualified majority voting and a return to unanimity specifically for decisions on the scope of the new ESAs; and, if so, why?

The City of London has benefited enormously from Mrs Thatcher's success in securing qualified majority voting for the internal market in the Single European Act by persuading her colleagues in other European capitals, and, in particular, her colleague in a particular European capital, to drop the unanimity requirement for single market legislation-it had protected only protectionism. The City as a result grew much stronger, absolutely and relative to other EU markets, as a result of pan-European liberalisation made possible by the Single European Act. As a result, the whole EU economy became more competitive. The task is by no means yet complete, but there has been considerable net gain, and, in particular, a net gain for the UK as well as the EU. For that, we all owe a great debt to Mrs Thatcher.

Why would we want a carve-out now? Why would we want a return to unanimity, turning the clock back 25 years? Did we consider what use others, who are less keen than us on liberalisation, might make of the precedent that we were setting if we succeeded? Did we think we could maximise our chances of success by raising this arcane matter-if indeed we did, as I am asking a factual question-in the middle of the night with no prior warning or preparation of the ground? What were we on about, specifically with regard to the ESAs?

That is question one. Question two follows, and is pretty obvious. What is plan B? If, on the issue of the ESAs, there is a lurking threat, which the committee of the noble Lord, Lord Harrison, the witnesses who gave evidence to it and the Government, in their reply to the Select Committee, all failed to identify, and if the Government despair of finding sufficient allies to create a blocking minority to oppose this threat, how, following the failure of their proposal in the night of 9 December, do the Government intend to counter it? What, please, is plan B?

My third question is much more general. We know that new treaty articles, the provisions of which would apply only to the eurozone member states, are now being drafted. We know that their aim is to reinforce budgetary discipline, enhance economic convergence and thereby improve financial stability. My understanding is that they will spell out that this closer co-operation among the 17, which would be meeting much more frequently, must not encroach on the competencies of the union of 27 or undermine the single market, and specifically spell out that EU law will take precedence over these new provisions. Furthermore, provided no one tries to stop it, the Commission will be present in the room to ensure that there is no encroachment on the rights and no conflict with the laws of the EU of 27, because that is of course the Commission's job as guardian of the treaties. Provided that no one tries to stop it, the Court of Justice will be watching to make sure that that is observed.

On the face of it, that is okay. Yet I am very uneasy. Eurozone meetings will be about financial stability. It seems implausible that they will not, in some informal way, touch on financial regulation and supervision, because they are, after all, the means by which financial stability is assured. The meetings will not of course reach decisions because the Commission, provided no one stops it from attending, will be there to ensure that no decisions are reached and to remind the 17 of the rules of the game. However, suppose that members reach an informal consensus on a regulatory or supervisory issue. For example, suppose the issue raised by the noble Lord, Lord Marlesford, the case for declaring an emergency and imposing bans on matters such as short selling, was discussed-and it is for the Council to define an emergency. Suppose that there is informal consensus that the Council should define an emergency and state that there is an emergency situation. It seems to be highly likely that the 17, having reached such an informal consensus, could find a qualified majority for it in the subsequent ECOFIN council-perhaps on the following day. Even if we strongly disagreed, even if the proposed decision was unwelcome to the City and even if the Government opposed it with all their customary eloquence in the Council the following day, the die would have been cast the night before. That is my worry.

To that extent, I understand why the Prime Minister wanted safeguards. I do not know what specifically he wanted-none of us does-and a number of us, including the noble Lord, Lord Lawson of Blaby, judging by his question before the Recess, are a little surprised about that. It surely would have been a normal courtesy to inform Parliament, and I rather think-although I will not say so in definitive terms in the presence of the noble Lord, Lord Roper, who is, as always, in his place-it may be a requirement for the scrutiny committees to be informed of a legislative proposal. However, so far, we have not been informed of what safeguards were sought. I am relying purely on press reports that one of them concerned the ESAs and the subject of our debate.

Nor do I begin to understand the tactics followed by the Government. Indeed, I find it hard to resist the unworthy suspicion that they may, for domestic reasons, have wanted to make impossible demands. That is quite unworthy, so I will not pursue it. I am anxious to be constructive. My final question is whether the Government will now adopt the course that seems to be the one most likely to provide the safeguard that the Prime Minister may have wanted, if I am right in defining the unease that may have led him to want safeguards. It is a course that would guarantee that the City's voice was always heard from the start of any relevant eurozone debate and before any unwelcome informal consensus of 17 could emerge.

I again urge the Government to reflect on Article 136, the first of the articles in that section of the TFEU that comes under the title:

"Provisions specific to member states whose currency is the euro".

Article 136 empowers the eurozone countries to consider and adopt measures applying only to them provided such measures are compatible with those adopted by the Union as a whole. It makes clear that all member states may participate in all such discussions, though of course only the eurozone member states may vote since the resultant measures will apply only to them.

My question to the Government is obvious. Does Article 136 not provide us with the precedent we need and the model we want? Is not the strongest safeguard we could have the right to be there, to be in the room, when-as I think they will-eurozone discussions stray informally on to matters which are, or should be, for the 27 members of the Union as a whole? Would not the best safeguard be to enshrine that right to be there by embedding the new articles in the existing treaties even though their provisions would apply only to the 17? There would of course be no question of triggering a referendum requirement under the European Union Act 2011 because no powers would have been transferred. Should we not be suggesting that the right course for all 27 countries is to expand the provisions of the title specific to member states whose currency is the euro, provided only that the crucial Article 136 survives?

Do the Government agree that this course would be likely, in practice, to be saleable? In my judgment it would be saleable, instantly, to most of our partners. It would be strongly supported by many of them, I know, precisely because so many of them see healthy competition and a strong City as important for the EU as a whole. I hope the noble Lord will ask Whitehall to reflect very carefully on this point and on Article 136. I do not press for an immediate answer now. I do not expect that. Indeed I would prefer a considered one and would be very happy if the noble Lord would agree to reflect and arrange a letter to come to me and to the rest of us taking part on this debate.

On a personal level, when I was lucky enough to be sent by Prime Minister Thatcher to Brussels as her negotiator, her parting instructions to me were quite simple and rather in line with the worried mother's instruction, "Go and find out what they are doing and tell them to stop it". I recall her explaining with some force why an empty chair policy is always wrong, and why we must always be there. I agree with her. It did not work for the French under de Gaulle. So I am very glad, as we were reassured at Questions this week, that we are participating in the discussions in Brussels, and not just as an observer but as a full participant. My concern is about the longer term and about the need to ensure that the outcome of these negotiations when it comes into force is not a two-tier Europe with the interests of the City and the country damaged by what happens in an inner tier from which we have excluded ourselves. I really think we should seek to avoid that outcome. I believe that outcome is still avoidable and I really hope that we are actively seeking in Brussels to ensure that it is avoided.

Photo of Lord Woolmer of Leeds Lord Woolmer of Leeds Labour 5:28 pm, 12th January 2012

My Lords, first may I add my voice to the congratulations to the noble Lord, Lord Harrison, on his chairmanship of EU Sub-Committee A and the way in which he has managed to take the committee to a unanimously agreed report. It is a pleasure to follow the noble Lord, Lord Kerr, and I will be truncating some of my remarks at the end as a result, because that was the second theme on which I was going to remark.

I would like to start by making some observations on the operations of the three supervisory authorities, although I recognise that the Systemic Risk Board itself is of course of enormous importance. In your Lordships' House I chaired the relevant Select Committee that examined the Lamfalussy proposals at the time, so I have always had a very close interest in them. Although there are successors to the level 3 Lamfalussy committees, they are very different animals. I should like to remark on a few of those differences.

First, the authorities have the power to create a single European Union rulebook in financial services. That gives them the power to issue binding technical standards, effectively secondary legislation. Secondly, they are in some cases being given market-moving responsibilities-that is, responsibilities which, when they exercise them, have the power to move markets immediately: for example the stress testing of banks; the endorsement and regulation of credit rating agencies; third-party recognition of CCPs, and other examples that noble Lords will think of. The nature of the legislation and the exercise of powers of the supervisory authorities needs to reflect that, because it would clearly be very market sensitive.

Thirdly, they have an enhanced ability to ensure harmonised implementation of supervisory practice in all member states. I will look with great interest at the extent to which they have managed to achieve that over 27 member states, but they are certainly pursuing it with some vigour. Fourthly-this has been remarked upon already, and I will return to it-all key decisions will be by majority vote, on policy matters by qualified majority voting, and on other matters by a simple majority. Finally, the link between regulation and financial stability has been strengthened by the establishment of the stability board but also by the contribution of the supervisory authorities to the work of the European stability board.

Now that these authorities have been established, increasing pressure on their workload has emerged. The financial crisis followed by the eurozone problem put a spotlight on financial services. There is a strong political sense, not only in this country but even more so in Europe and the European Parliament, that more regulation is urgently needed. There is mistrust of light-touch regulation and, to a degree, mistrust in some parts of the European Parliament of the position of the United Kingdom. In the face of this, the resources of these supervisory agencies are indeed very limited, as the noble Lord remarked earlier. They depend heavily on financial regulators and other member states. I regard this as a good thing. It certainly should be a very good thing for the United Kingdom because, in order to function at all, they need an enormous input of resources and expertise from member states. That should place the United Kingdom in a very strong position.

It is important that the supervisory agencies have proper time to develop proposals for legally binding standards, time to consult fully, time to undertake impact assessments, time to draft legislation rigorously and time to consult further on such draft legislation. On 11 October, the executive director of ESMA-the European Securities and Markets Authority-remarked that the authority is,

"extremely committed to stakeholder consultation but we are concerned that tight legislative deadlines for ESMA's work on technical standards and advice will restrict our ability to consult as extensively as we would ideally like".

A few weeks later, the chair of the authority commented as follows:

"writing ... technical standards ... is important for achieving a single rule book ... The quality of technical standards is crucial for the proper implementation of Directives and Standards. ESMA has made it clear that on average it takes about 12 months to accomplish all steps required for good technical standards. A shorter period negatively affects, for example, the possibility to consult with stakeholders like you"- he was talking to investment managers. He continued:

"In that perspective it is very unfortunate that the recently agreed Short Selling Regulation requires us to deliver technical standards by the end of March 2012"- that is, in six months rather than 12. I make this point because there is enormous pressure from level 1 legislation on the supervisory agencies. The legislators, whether the Commission, the Council or the European Parliament, need to be realistic about the timetables for implementation that this means if we are to have effective regulation implementation by the supervisory agencies.

My question to the Minister is whether the Government believe that the supervisory agencies have the capacity to deliver what is expected of them. When I looked at the workloads in the 2012 work programmes for the three agencies, they looked to be extremely busy. Who in the Government-or is the FSA?-assesses the viability of the workloads of the supervisory agencies? What is the process within the UK for considering and endorsing the proposed workloads and priorities of the supervisory agencies? What is the political input into these?

I welcome the report in today's Financial Times confirming the point made by the noble Lord, Lord Kerr, that the latest draft eurozone treaty omits a commitment to closer co-operation towards a single market, recognising that that is a province of the European treaties of the 27 member states. I share the noble Lord's concern that in practice it is unlikely that the 17 eurozone member states will not indeed look carefully at and discuss the operations, priorities and actions of the supervisory agencies, including the stability of this board, when they meet. I add my support for the question that the noble Lord asked: how do the Government intend to respond to this situation? The constructive suggestion that the noble Lord proposed might be pursued seems an excellent idea.

The United Kingdom ought to continue to be welcomed as a major player in the development and implementation of financial services regulation in the European Union. We are indeed an asset to the Union, and it is simply in the interests not only of the UK but of the EU that the UK continues to be a major financial centre in global terms. I hope that the Government, in all their thinking and in how they address the political and diplomatic relationships and dynamics of the EU, will seek to ensure that that remains the case. I hope that the proposal of the noble Lord, Lord Kerr, meets with the Minister's approval.

Photo of Lord Dykes Lord Dykes Liberal Democrat 5:38 pm, 12th January 2012

My Lords, the noble Lord's remarks indicated quite rightly that a lot of water has flowed under the bridge since those original days when it was in the Lamfalussy territory. Those were early days indeed, pre-crisis, before the world financial crisis started in 2007. I think that we are very grateful in this House not only for the debate today, initiated by the noble Lord, Lord Harrison, but for his chairmanship of this particular sub-committee. It has been going for some time and it has taken a long time, but all these complicated matters are bound to do so, as they do in the discussions between the member states. There is no need to criticise that severely, as the press often do. First of all they want it always to be done in a hurry, and then when it is done in a hurry they say that it was done wrongly and superficially and a lot of mistakes were made. These are very complex, technical matters of procedural co-operation, which take a long time to work out.

The noble Lord, Lord Roper, in this place has given excellent leadership in this matter, which is one of the most important subjects that we have discussed in the last 12 months, both on the European Union Select Committee and indeed in the particular sub-committee. The credit rating agencies report, too, has a place in this whole subject, and I will refer to that briefly in a moment. I, too, thank very much the noble Lord, Lord Kerr, for the very shrewd analysis that he gave and for the help that he gave us in framing those three excellent questions. I would like to be tagging along behind him, if he would allow me to do so, and also ask exactly those three questions, but couched probably in less elegant and precise Parnassian language than he is able to muster. There are indeed two procedural positions for the noble Lord, Lord Kerr; I call one Lord Kerr above the table, and the other Lord Kerr below the table. Both are equally valid, depending on the different circumstances of incredibly complex negotiations. His work as the secretary-I do not think the word "scribe" is adequate-of the convention on the constitution meant that he knew an awful lot about those various clauses that are now in the Lisbon treaty.

Once again it has been a period of education for people in this country about the need for us to really keep in step with the rest of the European Union on these matters and not to fall behind. That is not to say that in this case the particular sector that we are discussing is behind in any way. Indeed, the City of London is a leader in this field and all of us are very proud of the leading role that it plays in financial matters, investment business and banking. It is a leader not just for the United Kingdom, one has to stress, but for the whole of the European Union and, indeed, the whole of the world. The single market has mostly been developing with material things and retail rather than financial transactions so far, but now we are coming more and more into the field of financial transactions.

I suppose that one of the leading sectors in Germany would be the motor industry, a gigantic motor industry of which Mercedes and BMW are probably-I hope the Japanese will forgive me for saying-the two leading motor car manufacturers in the world. However, in no sense does that just belong to Germany. That belongs not only to the whole of Europe but the whole of the world. The effect of the German motor car production industry has huge ramifications in the whole world and indeed particularly in the European Union, not least in the new eastern European member states. When there are major sectors in each country, they belong to the whole Union, and the City of London does as well.

I declare my historical interest as a former member of the Stock Exchange from 1965 to 2000, a partner in a major institutional stock-broking firm in London for 10 years, from 1968 to 1978, and then, when politics was taking its sinister grip more and more, an associate of a very famous firm chaired by the then chairman of the Stock Exchange. One saw the attitudes there of the special feeling of apartheid and separation psychologically: the City was unique, nowhere else was like it, and how dare these continental chappies tell us what to do? That feeling persisted until quite recently.

Subsequently, the City began to realise that you do need Europe-wide regulation of all these matters, because if the City is a dominant market, the only way to make it really effective is to have the single rule book, as advocated in this excellent report-I agree with virtually all its contents-and have that imposed on all the others, which may be smaller market entities physically, although growing relatively much bigger all the time. Indeed, with the stock exchanges also merging together in other European capitals, they themselves become more significant. These things are international. I would say that the City of London is now populated mostly by originally non-British banks, and other investment institutions are often originally foreign-owned in the City and elsewhere. This is international. That feeling has now faded away. The general feeling in the City is much better and much more up to date. When one meets colleagues from yesteryear and colleagues nowadays at the rather nostalgic gatherings that we still have-City reunion dinners and lunches occasionally -usually nowadays they are dry, which I think is a very good idea because there is far too much to be discussed to have it over a glass of port, as was the norm in the old days. That feeling is now more modern and harmonised. There is a single market. Thank goodness we are the leaders; it provides a surplus for our non-trade, financial services balance that gives us an overall surplus on our current account. We have seen yet another increase in the trade deficit of this country because we always import far too much, particularly from other advanced countries.

The recent change in the Conservative Party took the clock back. The noble Lord, Lord Kerr, did not mention it; he referred only to the late-night summit discussions of 9 December. There was a similar manifestation from our Prime Minister-accidentally, as far as I can tell. I am not sure what happened; no one really is, because there was no proper record. The UK representative at the time, and the Foreign Office, were discomfited by the lack of any preparation for what happened. There has been a manifestation in the Conservative Party of a combination of Bullingdon Club, old-fashioned nationalism and anti-European stuff. It has come out again and again in recent years since the coalition was formed, and has been getting stronger and stronger. The Prime Minister is rightly resisting it but not being successful in so doing.

The sudden, last-minute request caused a crisis and once again there was a ratcheting up of that feeling among the other member states-rightly and understandably, but tragically and sadly for this country-that, "Britain isn't one of us; it's not a normative member of the Union; it always wants to stay on one side with exclusions, derogations and exceptions; it doesn't want to join the euro; its Prime Minister now says it will never join the euro"-although it has always been the official intention of this country to join the euro, which remains a strong currency despite the problems of one or two overindebted countries. That feeling caused major consternation and needs to be answered by the Government to reassure opinion not only in the other member states but here.

That feeds into the question of our national regulatory authorities rightly being the main agents of the new European structure of overall supervision under the ESA. They will have the power to guide the Europeans, some of whom will be relatively inexperienced in these matters. The situation is complicated by the fact that stock exchanges have only recently got together. That, too, is a very complicated matrix, against the bizarre background of the international debt crisis, which is not only in Europe but elsewhere. Japan is the most overindebted country in the world, with the highest debt ratio. International bond purchasers are now buying Japanese debt, so bizarre has the situation become. The second most overindebted country is the United States. The federal Government could be described as technically bankrupt, and most states are in the same position, although in most cases they can default.

Bringing the two aspects together will mean that we need new, strict and strong Europe-wide financial regulation for the markets, and the outlawing of certain practices that have certainly damaged industry. Speculative business, too, must be regulated properly. It is no good just saying that there must be a free market and a single rulebook that allows businesses to do what they like. They must be properly authorised and regulated. I have anxieties about folding back the FSA structure into the Treasury and the Bank of England. Their record over the years of controlling and supervising correctly and efficiently both the British economy and financial and banking matters has not been wonderful; I say that with sadness. We must get this right. The Government must recover from the mistake made on 9 December, fold in all the new provisions to the Lisbon treaty and come back to sanity so that we can have a proper single European market in financial matters.

Photo of Lord Hannay of Chiswick Lord Hannay of Chiswick Chair, EU Sub-Committee F - Home Affairs 5:48 pm, 12th January 2012

My Lords, now that the clouds have belatedly lifted from that Mount Olympus where the gods known to us as "the usual channels" meet, and a debate on the outcome of the European Council of 9 December has been scheduled for 31 January, we can treat the report before your Lordships' House-which, as other speakers said, covers matters that were at the heart of the discussions at that Council meeting-as an opportunity for a kind of hors d'oeuvre to that wider debate. For that reason, and also because this report is a thoroughly useful and professional look at an arcane and complex subject, I add my thanks to the noble Lord, Lord Harrison, and his committee for making such a valuable contribution. I cannot leave the issue of the timing of that wider debate on 31 January without commenting-not for the first time, I fear-that the way debates are scheduled in this House sometimes seems to be carefully designed to minimise the extent to which any views expressed are still valid and topical. Holding the debate on the day after the next European Council seems a miraculous piece of sleight of hand of that kind-surely a perfect example of what I am describing.

Today's debate is also a serious case of "Hamlet" without the Prince of Denmark, for reasons that my noble friend Lord Kerr has explained. Why is this so? At no stage have the Government brought to the attention of either House of Parliament, or of either House's scrutiny committee, the text of the protocol on financial regulation that they are widely reported to have tabled at the December European Council, and which appears to have been rejected on that occasion by 26 out of the 27 member states. I can understand why the Government should not be particularly keen to draw attention to that lamentable fiasco. What I cannot understand is by what procedural sleight of hand they can possibly justify failing to convey to Parliament the text of an instrument that was clearly intended to be a piece of EU legislation, and which, had it been adopted, would have altered in a number of respects the further development of the financial regulatory framework which is the object of today's debate.

I very much hope that the Minister will be able to fill this lacuna in our evidential base and perhaps he might place in the Library of the House tomorrow the text of this famous protocol, which clanks in and out of our debate rather like the ghost of Hamlet's father. I very much hope that he will also be able to explain to the House why this lacuna has been allowed to occur in the first place. I really cannot see how the House can be expected to perform its required function of overseeing and scrutinising EU legislation if our own Government do not convey to it the text of a piece of EU legislation which it tabled itself. There are plenty of words to describe that action, some of which are not of a very parliamentary kind. "Respect for Parliament" is not an epithet that could be applied to it.

The report before us has some wise things to say about the financial industry being highly mobile, and about global co-operation being essential to ensure that parts of that industry do not relocate outside the EU. This consideration is highly germane to the proposed financial transactions tax, which I appreciate is not covered by this report. Am I correct in assuming that the proposed Tobin tax will be discussed at the next meeting of the G20 finance ministers in February and, if so, that that should provide a clear indication of whether there is any prospect of such a tax being adopted globally? If there is no such prospect-and the chances of the present US Congress enacting a new tax in an election year must be remarkably slender-the risks for the EU, the eurozone or any of its members that decide to go ahead on their own will become very clear, and would bring the rather unworldly debate on this issue down to earth.

Chapter 4 of the report before us is devoted to the UK's influence on EU legislation in the field of financial services. As other noble Lords have said, Britain is the EU's centre of this major industry and it is therefore clearly of the utmost importance that Britain's influence should be deployed both wisely and effectively. Shortly before the December European Council, one of the Government's supporters in the other place, Mr Jo Johnson, argued in an article in the Financial Times that the last thing London's financial services industry should want was to be wrapped in the union jack-how wise he was.

If only the Government had paid attention to him-but they did not. The least that can be said about the manoeuvring at the December European Council is that it does not make the task of deploying that influence any easier. But it could be a good deal worse than that. The risks of marginalisation are very real, and the Government have yet to explain convincingly how they propose to avoid them. Perhaps the Minister will either do that when he replies to this debate or will take the matter away and reflect-I have no doubt that we will return to this on 31 January.

Altogether it is not easy to be optimistic about the developments in this field of financial regulation and supervision. The earlier unity of purpose in the G20 seems to be ebbing away-taking with it the prospects for strengthening the world's defences against the next crisis when it comes along. There is a widely perceived leadership vacuum which is sapping the chances of restoring confidence in the financial markets. The people who cheered the loudest at the lamentably inadequate outcomes of the G20 summit in Cannes, and of the December European Council, actively want the eurozone to collapse and want Britain out of the European Union-either of which courses would have extraordinarily damaging consequences both for this country and for London's financial services industry. It is surely time that the Government recognise that their mantra "we are all in this together" applies beyond the boundaries of this nation.

Photo of Baroness Valentine Baroness Valentine Crossbench 5:55 pm, 12th January 2012

I declare that I am chief executive of London First, a not-for-profit business membership organisation which includes financial institutions among its membership. I am also a board member of a Triplepoint venture capital trust.

It is very easy when discussing complex regulatory matters to focus disproportionately on the detail of the regulations themselves. The risk is that we lose sight of the purpose of the regulatory regime and whether it is fit for that purpose. For that reason, I greatly welcome today's debate.

The regulation of the financial system-globally, in Europe and here in the UK-is going through tremendous change. This is an understandable reaction to the banking crisis of 2008, and it is necessary to restore public confidence in the system. However, the impact is doubled in the UK thanks to the fact that we are simultaneously implementing a wholesale restructuring of our own regulatory regime little more than a decade after the last such major change.

In my contribution today, I would like to touch briefly on three issues that arise from the UK's changing regulatory structure and its relationship with its European counterparts: first, the importance of protecting the international competitiveness of our financial services sector and, therefore, our potential for growth; secondly, the need to ensure optimal co-ordination and collaboration between the new domestic supervisors and their European counterparts; and, thirdly, the need to resource all these regulators appropriately.

First, on ensuring that the UK is globally competitive, while the financial sector has been the unloved one since the credit crisis, emotion should be superseded by good economic sense when determining how it is policed in the future. This is important because the financial sector in the UK employs around 1 million people directly-and many more indirectly. It is also a major contributor of income and corporate tax revenue. Finally, as we attempt to increase exports to compensate for stagnant domestic demand, financial services are a vital source of future growth as one of our primary export industries.

Across the piece, the financial sector exists to provide essential services to Governments, businesses and individuals. The more effectively it can provide those services, the better for us all. In this context, I am surprised that the Government have failed to include the international competitiveness of UK financial services within the objectives of the successor bodies to the FSA. It seems wholly inconsistent for the Prime Minister to wield a veto in Brussels, at great political expense-ostensibly to defend the City from uncompetitive EU regulation-only then to exclude competitiveness from the remit of our domestic regulators. Margaret Cole, the interim managing director at the FSA, which will form the core of the new FCA, has publicly supported the inclusion of such an objective, and I would urge the Government to take note.

Secondly, on ensuring UK influence in Europe, if the UK's interests are to be given due consideration as the new European regime develops, we need to ensure that we have the right people in the right meetings saying the right things. Staff at the new UK regulators will have a key role to play in contributing to Europe-wide decision making through, for instance, regulatory colleges. I share the concern of the noble Lord, Lord Newby, that there is a potential risk here in that the UK's new "twin peaks" model does not mirror the structure at the EU level. Consideration of retail banking regulation, for example, may well require insights from both the prudential and conduct of business perspective. As a result, when seeking UK representatives for ESA meetings, the UK may find itself trying to fit square pegs into round holes.

It is vital that our new agencies are joined up in their approach and that there is effective dialogue and information-sharing between them. I welcome the Government's promise to legislate to require memoranda of understanding between the major players-the Treasury, the FCA, the PRA and the Bank of England. However, I join the noble Lord, Lord Newby, in supporting the suggestion in the draft report of the Joint Committee on the draft Financial Services Bill. It recommends the establishment of a committee to ensure that the UK authorities agree consistent objectives and exercise their functions accordingly. This further safeguard would give significant reassurance to the industry. Presenting a single, coherent voice with maximum influence in the international context is vital and should not be left to chance.

Thirdly, on resourcing our regulators properly, let me turn to the quality of regulatory staff. All of the new European supervisory agencies, the successor bodies to the FSA, the Treasury and the Bank of England need high-quality staff to deal with the extraordinary challenges that this sector faces. It is therefore vital that the new supervisors at both the UK and European level are not only adequately resourced in terms of numbers, but also offer sufficient remuneration to attract and retain the brightest and the best. In many cases, the best way of achieving this is to bring in employees who have worked or are working within the industry, and a more flexible approach to secondments from industry would be welcome.

I am heartened by the report's recognition of the contribution that UK regulators, as supervisors of the largest and most sophisticated markets, have historically made within the European supervisory context. I hope that the expertise and experience of our regulators will continue to play an important role within the ESAs, and I encourage the FSA and its successors to provide more experienced staff to assist the new supervisors as widely as possible. We and our European partners have a common interest in ensuring their success, and such engagement can help to ensure that we achieve a co-ordinated and committed European approach rather than one in which individual member states operate unilaterally.

To conclude, over centuries and through many crises the UK has built a competitive advantage, a global reputation for being a safe and honest place in which to do business, and offering a deep pool of knowledge and expertise that has made it at least one of the world's leading financial centres, if not the number one. It is right to review our regulatory arrangements in view of the recent economic turmoil, but one is left to wonder whether there is a limit to the number of times we need to reinvent this particular wheel. What is paramount is a stable and successful financial system that supports the country's continuing economic growth.

Photo of Baroness Wheatcroft Baroness Wheatcroft Conservative 6:03 pm, 12th January 2012

My Lords, in taking advantage of the gap I know that I must be brief, but I hope that noble Lords will forgive me if, as a member of the sub-committee on financial services, I underline the point that has now been several times that it is very important that we have a single organisation to represent the UK's thoughts on financial regulation in Europe, and a committee to do that seems to be imperative. My second point concerns the use of the emergency powers that could see European organisations overriding national regulators. This should occur only in extremis. The noble Lord, Lord Harrison, has acknowledged that there are restrictions on when these powers could be used, but quite rightly his report also noted the comment by the FSA that,

"only time will tell whether in practice those restrictions prove to be sufficient".

Given the EU's constant efforts to extend its reach, a degree of wariness on this point seems justified. The Government, in their response to the committee's report, said their expectation was that the calling of an emergency would not be a common event. Well, emergencies seem to have been quite common of late so we should not rest our guard on the principle that national regulators must remain in the driving seat.

That takes me to my next point concerning the current arguments over the capital requirements directive. This is the EU legislation intended to bring in the higher capital requirements detailed in Basel III. At the height of the financial crisis, when the G20 was trying to map out a route to greater financial stability, those requirements appeared to be setting a limit below which banks should not be allowed to go. Now, however, there are some in Europe who take another line. They are of the view that the capital requirements directive should be seen as declaring a maximum level of capital requirement. This would scupper Britain's plans for implementing the Vickers report and so Britain is holding out against maximum harmonisation. The noble Lord, Lord Newby, tells us that we have nothing to fear on this front; that the argument is won already. Personally, I feel that we should remain vigilant until we know that the argument is won. Would it be entirely surprising if that thought had influenced the Prime Minister when he wielded the veto? I believe that separation of the banks is something worth fighting for. We are now all too well aware of the havoc that can be caused by a cavalier financial sector. If the UK judges that it needs more caution from our banks than some countries wish to impose on theirs, it should be our right to do so.

Finally, I would like to make a point about bank accounts. Bank accounts, as far as I am concerned, have become so complicated that they serve to mask the true situation rather than to unveil it. That is why, although we have already had comment on the ratings agencies, it is worth remembering that the banks were all given a clean bill of health in this country by their accountants and auditors. It seems to me that one of the useful things the new EU regulatory organisations could do is take another look at bank accounts and accounting standards and the auditors who police them because they probably are no longer fit for purpose.

Photo of Lord Liddle Lord Liddle Opposition Whip (Lords) 6:07 pm, 12th January 2012

My Lords, I declare an interest in that I chair the think tank, Policy Network, which has written a report for the City of London Corporation on the challenges of managing European financial regulation.

This has been an interesting debate, as most debates on the report of your Lordships' European Select Committee are. The noble Lord, Lord Harrison, has produced an excellent report. It shows an admirable balance and expresses sensible and proportionate views on financial regulation. If I might use an F word in this Chamber, I think the system being developed is one of pragmatic federalism. I agree with the noble Baroness, Lady Wheatcroft, that the national bodies which are closest to the financial institutions should remain in day-to-day control. However, if we are going to have a single financial market at EU level, we need a single rulebook and a power for the European agencies to override national agencies in circumstances of crisis.

I rather agree with the noble Lord, Lord Harrison, and from this side of the House share his concern that the institutional upheaval which our domestic financial regulatory system is going through may lead to some loss of influence in Brussels. I know that the noble Lord, Lord Newby, has put in much effort on the Joint Committee on domestic financial regulation. On the basis of the little work that I have done in this area, I believe that how we manage the Brussels relationship will be as important as, if not far more important than, the structure of British domestic regulation. There is a risk that we will become obsessed with the question of how we shift the furniture around at home when the real issues affecting financial regulation will be to do with what happens in Brussels.

There are grounds for concern about the way in which this relationship with Brussels is being addressed. I agree with the many noble Lords in this debate who have taken issue with the stance taken by the Prime Minister at the Brussels summit in December. It seems to us that, in place of the sensible, proportionate and balanced approach that the Select Committee here has adopted, the Prime Minister has portrayed what is happening in Europe as a torrent of EU regulation which threatens the City of London. This position is both exaggerated in substance and profoundly unhelpful to the City's ability to secure its interests in Brussels. It is a profound mistake for the British Government to define the City of London as primarily a British interest that we need to protect against the European hordes. Rather, the way to win the argument in Brussels is to point out, accurately, that the City of London is a great global financial centre, the financial centre of the biggest single market in the world, and is an asset to the whole European Union. That should be the starting point of our attitude to Brussels.

The need for these European regulatory agencies has not just come out of the blue; it is not just some Brussels plot. It is due to our having had the most enormous banking crisis since the 1930s. I think that all sides of the House recognise that financial services need reregulation. There was colossal market failure. This involved a massive cost to the taxpayer. Frankly, our public finances are now in such a fragile state that we cannot afford to see it happen again, so we have to have much tighter regulation of the financial sector. It was obvious that that reregulation had to be done at European level because so much had been done to advance the integration of the European financial market. Indeed the much derided Lisbon strategy had a financial services action plan which greatly took forward the liberalisation of wholesale markets, so that when we got to the crisis and in its aftermath, the chairman of the FSA, the noble Lord, Lord Turner, was quite right to pose the choice that either we renationalised financial markets and abandoned integration across Europe or we accepted the need for reregulation at EU level. We must stick firm to that principle.

It is also what the majority of the City of London thinks. Of course there are people who will be quite happy in the City to see London as some kind of offshore centre from the rest of Europe. There would be people who would like to see that, but I think the majority view is that one wants to see sensible European reregulation of financial services. That would be particularly true of the American banks which have come to London because it is the route into the European single market. The fact that we are part of an integrated financial market in Europe is crucial to the presence of a number of European banks that have located here. We need to be part of a European market that is properly regulated and we need to secure a level playing field across the EU.

The attitude of mind towards the new agencies and structures has to be positive. We have to stop trying to fight old battles about retaining the national independence of our agencies. We have to make the new system work in all our interests. The City of London recognises that we have to make this new system work. However, there are bound to be concerns. The track record of the European Commission in the way it has put forward financial services regulations in the past has not always been the best. In a way, the existence of these new agencies is a source of strength, because they should be a source of expertise which understands the markets better than the European Commission might. This should be seen as an opportunity for London to influence regulation in a sensible way.

Many noble Lords, such as my noble friend Lord Woolmer and the noble Baroness, Lady Valentine, made the point that we need to bolster the capacities of the new agencies. That is evident from the story of the bank stress tests. The problem with the tests has been that national regulators have been too defensive about their own banks and too unwilling to share information about them with the EBA. We need to break out of that mentality. There needs to be more information sharing. That is an important UK interest.

There is a real problem for the UK in deciding on regulation. Sixty per cent to 70 per cent of the business in Europe is done in London but we have fewer than 10 per cent of the votes in the Council on issues that are decided by majority voting. There is a real asymmetry. We have to recognise that, in the aftermath of the banking crisis, there is a rise in hostility to the financial sector across Europe. I was recently at a seminar in Sweden where a former Minister said to me, "I always used to support you lot in Britain when you argued for light-touch regulation, but don't think we are ever going to be taken in by all that load of baloney again", or in some similar words in Swedish. We have to understand that the mood of the times is difficult. But the way to overcome this is to stress that just as the German car and capital goods industries are there because they specialise in the single market and are a great asset to Europe, and Italian shoes and French luxury goods are part of the specialisation of the European single market, so is the City of London. It is an asset for the whole of Europe.

In conclusion, I will just say two things about how we can be successful in ensuring that the regulation of the City is sensible. First, I agree so much with what the noble Lord, Lord Hannay, said about not putting a union jack all over the City. That is not the way to defend it. Jo Johnson MP was absolutely right about that. Secondly, as the noble Lord, Lord Kerr said, let us make sure that we are in the room. We look forward to the Government's reply in due course about the points he made on Article 136.

This has been an excellent debate. It is of vital national interest that the new arrangements work well from a UK point of view. The risk is that we mishandle this and, in doing so, destroy one of our great national assets.

Photo of Lord de Mauley Lord de Mauley Lord in Waiting (HM Household) (Whip) 6:19 pm, 12th January 2012

My Lords, I am grateful to all noble Lords who have participated today in-as the noble Lord, Lord Liddle, said-a thorough and insightful debate on the new EU supervisory framework. I particularly pay tribute to the noble Lord, Lord Harrison, and the members of the EU Sub-committee on Economic and Financial Affairs and International Trade for their report. It is of considerable interest as we seek to strengthen supervision following the recent financial crisis, both domestically and internationally.

In the United Kingdom, through the Financial Policy Committee, the Prudential Regulation Authority and the Financial Conduct Authority, we are bringing greater judgment and foresight to micro and macrosupervision, ensuring that we put greater focus on the key links between the two. Likewise, as your Lordships have made clear, it is vital that we reform at the European level to ensure effective and consistent supervision of financial services, to realise the full potential of a single and stable market in European financial services. Noble Lords have also today referred to the very real threats that face us. That is why the Government-along with, I am pleased to say, the noble Lord, Lord Liddle, and all other noble Lords today-welcome and fully support the establishment of the three new European supervisory authorities as well as the European Systemic Risk Board. Indeed, we are very pleased to have the European Banking Committee here in London.

Together, this new framework has the potential fundamentally to improve the quality and consistency of supervision, to ensure more effective rule-making and enforcement, and to improve identification of risks in the system. I welcome the fact that the committee's report shares those objectives and, along with its recommendations, supports the Government's position on the European supervisory authorities. Of course, there is still much work to do to improve and refine supervision through this new framework to allow the new institutions to build a reputation for their independence and quality of rule-making. It is a substantial task and the drive by some to grant even more power and responsibility would in our view merely add to the challenges they already face and risk undermining the success that we expect them to deliver between now and the 2014 review. Several noble Lords have referred to resourcing issues. I will come to those in a moment.

The Government believe that there are three key priorities for the new EU authorities. First, as the committee has argued, it is vital to build a single rulebook and ensure the implementation of robust, internationally consistent regulatory standards in order to minimise the risks of regulatory arbitrage. That work needs to be based on open consultation and a rigorous assessment of the effects on growth and the competitiveness of EU business, balanced with the need to protect financial stability and users of financial services. Secondly, the actions of the ESAs should not undermine national supervision. Here again, the committee was very clear. The ESAs, when mandated by legislation, have rule-making powers and are required to ensure that those rules are implemented, mediating if disputes between supervisors arise. Day-to-day supervision and the exercise of judgment within the law are not within the ESAs' remit.

Finally, we support greater co-ordination and the valuable role that the ESAs can bring in providing consistency of supervision across the EU. We see this as spreading best practice rather than forcing all supervisors to take the same approach. The business models, size and structures of firms-some very local, some global-require different approaches. It is vital that regulators have the capacity to deal with issues unique to their markets.

I would like to take the opportunity to comment on two further themes in the report. The Government strongly agree with the committee that UK influence in the ESAs is important. We have many talented people in the UK authorities and our history of consultation and impact assessments means that we have both the evidence and the experience to play a leadership role. I will return to this, if I may, in a moment.

The regulated community will also have an important role to play-not just in providing evidence of the cost, but also in assessing the potential benefits of effective regulation. We also agree with the committee's assessment of the ESA's powers and its wish to be consulted prior to an emergency being called. I will also come back to that point. Where emergencies are called, we will always endeavour to provide information in a timely manner.

The noble Lord, Lord Harrison, raised a number of specific issues. He was not entirely satisfied with the Government's response to the committee's request to be consulted if the Government envisage asking the Council to declare an emergency or detect that another member state is likely to do so. Given the rapidly moving nature of such situations-often outside normal business hours-there may be practical considerations. Perhaps more importantly, there is often a great deal of uncertainty in these periods: sometimes markets and commentators overreact, so absolute confidentiality is of paramount importance. There will, therefore, be the key issue of market sensitivity and so on. Within those constraints, I can confirm the Government's intent to inform the committee as far as is possible about a Council declaration of an emergency.

Regarding short selling and credit default swaps, as an exception to a general rule about ESAs not having enhanced powers without the need to declare an emergency, the noble Lord referred to the committee's argument that giving ESMA intervention powers might be necessary. Indeed, there was quite a lot of debate about short selling. The Government believe that there is a case for giving national regulators a reserve power to impose a temporary ban on certain asset classes where there is a threat to the stability of the market. This would probably be in the context of an emergency situation, but could be confined to one or more local markets where a ban may be appropriate and there is a need to respect that national decision. In these cases, ESMA should have a significant role in co-ordinating the response and ensuring that any decisions are implemented and enforced.

The noble Lord, Lord Harrison, mentioned that the committee had expressed a concern that the Government's decision to abolish the FSA and replace it with the new regulatory authorities could compromise the UK's leadership role in engaging with the ESAs. I understand the concern. The Government are fully committed to ensuring that the UK authorities continue to take a leadership role in European reforms, working both with one another and with the wider stakeholder community to deliver sound reform. This complements changes proposed to the UK framework. Given the relatively small size of the staff in each ESA, the ESAs will rely heavily on their members. We will expect the FSA-and, in due course, the PRA and the FCA-to put significant time and effort into ensuring that the UK's voice is heard and that the ESA's decisions are appropriate. The UK regulatory authorities will be well placed to influence and take part in the technical work of the ESAs-for example, the development of binding technical standards and the production of guidance and advice.

Alongside this, the FSA-and, again, in due course, the PRA and the FCA-will have a significant formal role in representing the UK's competent authorities in the ESA board of supervisors and voting in the board on ESA decisions. Similarly, the Governor of the Bank of England will be represented in the ESRB and vote on any warnings and recommendations. Finally, it will also be very important that the UK regulatory authorities encourage their staff to take up temporary secondments in the new ESAs. I think the noble Baroness, Lady Valentine, referred to that. The FSA is currently reviewing its staffing and deployment policies to ensure that they promote such participation in the new ESA. We will expect the Bank of England to take a similar approach to the ESRB. Therefore, I generally agree with the comments of my noble friend Lord Newby in this regard.

On macroeconomic stability, the noble Lord, Lord Harrison, spoke about the sharing of information. A memorandum of understanding that fully respects the confidentiality of individual firms has now been drawn up by the agencies and is in the public domain. I hope noble Lords will accept that we are moving in the right direction on that.

The noble Lord, Lord Harrison, referred to the Government's proposal to legislate to require the establishment of a statutory MoU between Her Majesty's Treasury, the Bank of England, the PRA and the FCA, and the further use of MoUs to frame relationships between regulators. I accept my noble friend Lord Newby's point that an MoU on its own is not enough, but I agree with the noble Lord, Lord Harrison, that the draft legislation provides for the UK regulators to include in the MoU provisions relating to co-operation between any of them and a body exercising functions relating to the stability of the UK financial system or the regulation of financial services.

Perhaps I should also say that legislation can go only so far in setting down how a wide range of functions are to be conducted. Therefore, it is entirely reasonable and, indeed, vital that it is planned and conducted carefully, set down in detail and agreed and understood by all. There will of course be ample opportunity to debate the legislation over the forthcoming months.

The noble Lords, Lord Harrison and Lord Woolmer, the noble Baroness, Lady Valentine, and my noble friend Lord Newby asked about the resourcing of the ESAs, especially the EBA. They are right: the ESAs, including the EBA, have limited resources in the sense of the number of officials directly employed. However, they can and do call on the resources of the national regulators. This enables them to secure the necessary expertise and experience. If an emergency were to be called, that co-operation from national regulators-including, importantly, those in the United Kingdom-would ensure that the necessary work could be undertaken. As I say, we are committed to providing that assistance.

I am grateful to my noble friend Lord Marlesford for his suggestion about stamp duty, which I will certainly pass to my colleagues at the Treasury.

The noble Baroness, Lady Valentine, and my noble friend Lord Newby referred to the recommendation of the Joint Committee on an international co-ordination committee. The Government welcome all the work that the Joint Committee has done. We are considering its recommendations and will respond in due course.

My noble friend Lord Newby specifically asked whether the capital requirements directive could limit our ability to implement the Independent Commission on Banking. My noble friend Lady Wheatcroft also referred to this. The CRD is designed as maximum harmonisation legislation. This could indeed restrict our ability to impose higher standards but others agree with us, including the ESRB. Therefore, in discussions in the Council and the European Parliament we will work hard with like-minded member states to ensure that the CRD, when adopted, will include flexibility to implement the ICB recommendations and, more generally, to impose higher standards.

The noble Lord, Lord Kerr, asked three questions, which my noble friend Lord Dykes echoed. Both noble Lords have given me much food for thought. I assure them that the United Kingdom will continue to use all avenues available to it to press its case, suitably evidenced by facts and examples of the costs and benefits of the UK's thinking on the key issues. We do not expect to be outvoted by our European partners, but we have recently experienced Commission proposals that are not evidence-based, and could have a negative effect on growth and harm the EU's global financial centre in London. Securing safeguards would have been helpful in ensuring that these concerns could not be ignored. The consequence of raising these concerns has been beneficial in focusing minds across Europe on the need to ensure that legislation is evidence-based and that the ESAs are not overburdened with new powers before they have built a reputation prior to the 2014 review. The noble Lord, Lord Kerr, gracefully offered me the opportunity to respond further in writing, and I shall take advantage of that offer.

The noble Lord, Lord Woolmer, asked several questions. He asked whether the Government believe that the ESAs have a capacity to deliver what they are mandated to deliver. Yes, we do. The ESAs were established with a view to undertaking certain tasks and were resourced accordingly. Their operation and success was to be reviewed, as I have said, in 2014. However, if additional tasks are given, they will not have sufficient resources, nor are they likely to be able to procure the expertise or experienced supervisors. That is a matter that we need to keep a very careful eye on. He also asked whether we agree that engagement with the EU is important. Of course we do. Ministers and senior officials are engaging with our European partners on a daily basis, either in meetings, bilaterals, or through other means.

I agree with the noble Lord, Lord Hannay, that a financial transaction tax, the so-called Tobin tax, would need to be agreed globally. I note the continuing interest in the intervention of the Prime Minister in the European Council on 9 December. I am afraid that I am going to disappoint him on the matter of Hamlet's father. I do not think that he will be surprised to hear that we do not publish informal draft text proposals. This has been government practice for a long time and continues to be so, particularly when those taking part are in the middle of negotiations.

Photo of Lord Hannay of Chiswick Lord Hannay of Chiswick Chair, EU Sub-Committee F - Home Affairs

Am I to understand that the reason the Government give for not conveying the text of a proposal for European legislation to both Houses is because they were entering into negotiations on it? Can I deduce from that that they would have been willing to compromise on the text they put forward, and if so, why did they walk away from the table?

Photo of Lord de Mauley Lord de Mauley Lord in Waiting (HM Household) (Whip)

My Lords, to answer that in detail would be way above my pay grade. I will see what I can find for the noble Lord by way of an answer, but I cannot promise anything.

The noble Baroness, Lady Valentine, spoke about the importance of UK competitiveness of financial services to the UK economy. I agree with her. Financial stability supported by an effective regulatory framework provides a strong platform for the growth of the financial services sector. She asked how we will ensure the UK's influence in the ESAs. I have covered a lot of this in earlier answers, but I shall just say once again that the Government are fully committed to ensuring that the United Kingdom authorities continue to take a leadership role in European reforms, working both with one another and the wider community to deliver sound reform which complements the changes proposed to the UK framework. She asked a specific question about staff remuneration to attract and retain the best people. I agree that the ESAs need the best and most qualified staff.

The noble Lord, Lord Liddle, questioned our commitment to Europe. We remain a full member of the European Union, and this membership is-I am agreeing with him-vital to our national interests. It makes us the gateway to the largest single market in the world, which secures half of our exports and underpins millions of British jobs. I assure him that Ministers from all departments continue to engage actively in defence of UK interests in meetings in Brussels and bilaterally with their member-state counterparts. We will continue actively to engage on all financial services legislation and secure our national interests.

I am conscious of the time. If I have not answered any questions from noble Lords, I will, if I may, write to them. Today's debate takes place a year after the new EU supervisory framework came into force. The European Stability Risk Board and the ESAs are now established. They have agreed their working procedures and recruited staff to support their tasks. The ESAs in particular face a challenging time in delivering a large number of technical standards in banking, securities and insurance. In doing so, we believe they will build their reputation if they concentrate on quality rather than quantity. The Government are committed to supporting the ESRB and the ESAs as they move forward. We will seek to resist overburdening them with new tasks and prioritise work and limited resources towards their core tasks-namely, improving the quality and consistency of supervision, delivering high-quality rule-making, ensuring effective enforcement and identifying risks to the financial system. The Government will continue our close engagement with our European partners to achieve these objectives.

Photo of Lord Harrison Lord Harrison Chair, EU Sub-Committee A - Economic and Financial Affairs, and International Trade 6:39 pm, 12th January 2012

My Lords, social commentators often identify a dank dark day in January after the Christmas celebrations, before the summer, as the time when the nation becomes its most despondent. I rather feel, along with the pathetic fallacy articulated by the romantic poets, that in bringing this debate before Parliament I might identify and echo a mood that is consonant with such depression.

What I am very pleased to say is that this has been an important debate and I welcome the contributions offered by each and every Member-particularly the late contribution of the noble Baroness, Lady Wheatcroft, who listened patiently to what was said. In contrast, I feel stimulated about the debate and I am quite sure that we will have to return to it in our examinations of these new and important authorities that will have such importance to the United Kingdom, the European Union and more widely.

Noble Lords should forgive me if I do not comment on every contribution, each of which was valuable. However, perhaps on a lighter note, I congratulate the noble Lord, Lord Hannay, on the subtle welcome he gave to the six-month Danish presidency of the EU by his reference to "Hamlet". Perhaps he might provide such ingenuity on 1 July later this year, when the Cypriots take over the presidency, with a simple reference to "Othello".

Motion agreed.

House adjourned at 6.41 pm.