My Lords, this instrument, laid under the EU withdrawal Act, will fix deficiencies in UK law relating to the regulation of financial benchmarks to ensure that it continues to operate effectively post exit if the UK leaves the EU with neither a deal nor an implementation period. This legislation is important for the regulation and integrity of financial markets in the UK.
The SI makes amendments to retained EU law on financial benchmarks, known as the EU Benchmarks Regulation—BMR—to ensure that the UK continues to have an effective framework to regulate financial benchmarks. Benchmarks are publicly available indices used in a wide range of markets to help set prices, measure the performance of investment funds or work out amounts payable under financial contracts. They play a key role in the financial system’s core functions of allocating capital and risk, and impact on huge volumes of credit products and derivatives. The EU BMR sets requirements on benchmark methodology, transparency and governance.
Benchmarks must be approved to be used in the EU after the conclusion of the EU BMR’s transitional period at the end of 2019. To provide benchmarks for use in the EU after this, benchmark administrators located in the EU may apply for authorisation or registration. Third-country administrators or benchmarks may be approved through equivalence, recognition or endorsement. Approved administrators and benchmarks are placed on to the public register maintained by the European Securities and Markets Authority.
In a no-deal scenario, the UK would be outside the EEA and outside the EU’s legal, supervisory and financial regulatory framework. The UK legislation implementing the BMR and related legislation therefore needs to be updated to reflect this and to ensure that the UK’s benchmarks regulation operates properly in a no-deal scenario. These draft regulations therefore make the necessary amendments to the retained EU legislation to ensure that these regimes are operable in a wholly domestic context.
First, this instrument amends the scope of the BMR to apply in the UK only. From exit day, benchmarks and administrators outside the UK will be subject to the onshored third-country regime and must be approved via recognition, endorsement or equivalence for use in the UK. Secondly, this instrument establishes a requirement for the Financial Conduct Authority to create a UK benchmarks register, which it will maintain from exit day. Following the transitional window in the BMR, supervised entities may use benchmarks in the UK only if either the relevant administrator or benchmark is on the FCA register. This instrument ensures that benchmark administrators that the FCA has already authorised or registered ahead of exit day are automatically migrated from the ESMA register to the FCA register on exit day. It does the same for third-country benchmarks or administrators that the FCA has already recognised or which UK firms have endorsed.
Thirdly, this instrument includes a new transitional provision to take EU and third-country administrators and benchmarks that appear on the ESMA register at exit day—as the result of an approval under the BMR outside of the UK—and temporarily migrate them on to the FCA register for 24 months, beginning with exit day. This will enable continued use of these benchmarks in the UK for a 24-month period, unless and until an application for approval in the UK is refused or unless they are removed from the ESMA register during this time. This will provide continuity for administrators and users, and minimise market disruption. Administrators or benchmarks subject to the transitional provision must be approved by the FCA under the third-country regime to enable their continued use in new contracts in the UK after this period.
Fourthly, under the BMR certain regulatory functions are carried out by EU authorities, primarily the European Commission and the European supervisory authorities, including ESMA. Once the UK leaves the EU, EU bodies will no longer have a mandate to carry out these functions, and therefore this SI transfers the functions of the Commission to the Treasury, including the power to adopt delegated Acts based on the underlying legislation. The SI also transfers the functions of ESMA to the FCA. This includes the power to make binding technical standards. This SI also removes obligations within retained EU law for the FCA to co-operate and share information with EU regulators as this obligation, with no guarantee of reciprocity, would not be appropriate as of exit day. However, the FCA will still be able to co-operate with EU regulators through the existing framework in the Financial Services and Markets Act as they are currently able to do with other third countries. The SI makes further minor amendments to retained EU legislation to ensure that the UK’s benchmark regimes operate effectively once we leave the EU.
These measures, when taken together, will ensure that the UK retains an effective framework to regulate financial benchmarks. The Treasury has been working closely with the Financial Conduct Authority in the drafting of this instrument. It has also engaged with the financial services industry on this SI and will continue to do so. The Treasury published the instrument in draft form on
My Lords, the same issues basically apply on this regulation as on the last and I am not going to repeat the arguments. However, I would like to ask the noble Lord a question about the impact assessment which is published alongside the instrument. The costs in respect of this benchmark regulation, although considerable for each individual firm at £520, are less considerable overall because it is a much smaller number of firms. However, the footnotes to the impact assessment say:
“This refers to the current number of approved benchmark administrators. Given the regime is not yet fully in force, we expect this number may increase”.
Can the Minister give some indication of what level the number is expected to increase to? Again, I am not familiar with this sector and I do not know whether we are talking about it increasing by dozens or hundreds. However, I would like to get some sense of whether the total burden which this regulation alone is going to impose on the sector is in the thousands of pounds or the millions of pounds. It would be useful to have the figures. I would be grateful if the noble Lord could tell us what the estimate is, as the new benchmarks regime comes into place, of how these numbers will increase, so that we can put on the record a more accurate sense of what the actual burden is going to be.
My Lords, I have a really serious question that I want to put to the Minister. I am concerned that one of the effects of this SI—I am not going to oppose it because I think that we have no choice but to allow it through—is to separate ESMA from the UK regulators of benchmarks administered in the UK. In this House and elsewhere, and I am sure that I have said it myself, we frequently talk about the excellence of UK regulators, but I am afraid that the history of the UK regulation of benchmarks is one where we frankly have to hang our heads in shame. The Libor scandal, which was finally exposed six or seven years ago, had clearly been a scandal in play for at least a decade. It represented a prolonged period in which Libor particularly, but other benchmarks as well, was being manipulated by the banks to achieve particular outcomes.
The regulator did not identify the problem and, when the regulators decided that they must act after much of this was exposed—primarily by US regulators and in the US media—found that at the time it was not even illegal to manipulate a benchmark in the UK. Consequently, the regulators were pretty powerless. I think that a couple of people have been brought to account, but very few of those who were engaged in or knew about this process—and certainly not the raft of senior management that benefited from the exceptional profits that led to higher pay for chief executives and others, year after year. It was a huge scandal.
Immediately after the scandal was exposed, the United States took the view that the UK regulators were so weak and so essentially complicit in this area that the US itself, particular for any dollar-denominated transactions, should become the locus of benchmarks. Obviously the UK fought back, because it is an iconic role seen as significant to underpinning the UK’s status as a global player in financial services. While I do not know many of the details, I believe that the link to ESMA—the reassurance that there is more than one set of regulator eyes covering the way in which benchmarks have been administrated—has been important in keeping the primary benchmarks in play in London.
I understand that the role of this SI is to say that benchmarks administered in the EU can still be used in the UK—that is almost the sole purpose. But, as I say, I am concerned that the future standing of the UK as the locus of most of the benchmarks used across the globe in nearly every transaction, no matter where that transaction takes place, is potentially undermined by the kind of separation that the Minister has just described. Is he aware of any aggressive moves by the United States to say that the situation is changing? We now have the UK regulator standing alone once again. We certainly hear from the UK a great deal of language about how regulation needs to become lighter touch and should not be so heavy-handed, and how we should be much more inclined to allow greater risk taking and greater profit taking. Will this become the occasion where the United States acts to use its weight, its authority and its legislative force to try to undermine London as a locus? Should there be something in the whole language that surrounds this of an ongoing co-operation and element of supervision that continues to involve ESMA to provide a defence for London in this arena?
My Lords, I have a great respect for the noble Lord, Lord Adonis, as I heard him many times answering questions as a Minister. The answers were always clear and a full answer to what he was asked. I also remember his difficult time as a Minister of State in the Department for Education, struggling with the impediments being placed to the implementation of his policy by judicial reviews, which he described in one of his books. But I have listened to a good number of these debates we have been having recently, and I regret to say that I cannot agree with the way in which he approaches this matter. I think that this is all part of the decision to leave the EU that the electorate took, advising Parliament that they wished that to happen.
Industry generally, and the financial industry in particular, is well aware of the situations that may arise as a result of that. Therefore, I would expect representatives to get in touch with the Treasury, for example, if they had any concerns in relation to these instruments. I wonder whether the noble Lord, Lord Adonis, has had any communication from any financial services people as to whether or not they would like him to succeed in his amendment to decline to approve these regulations.
I am old enough, sadly, to remember a time before there was any question of consultation in relation to Bills before Parliament. It was thought that the publicity attending their being laid in Parliament was enough to bring out the views of people about them. The person who introduced consultation in the first instance was Lord Scarman, as the chairman of the Law Commission, when I was a part-time Law Commissioner in Scotland. It gradually became something that government wanted to do—but, like any other tool, it must be used with discretion.
The type of regulation we are dealing with now is highly technical; as far as I am concerned, it is extremely technical. I know a little about Libor, but whether criminal acts were committed in the course of things, I am not sure, and it was a difficult situation for the regulators. The truth is that, if regulators work well, they are amenable to knowing what other regulators have done, and the mere fact that we leave the EU does not mean that regulators here will not know what ESMA is doing.
It is also important that this SI is a consequence of the withdrawal Act. It is part of the arrangement and decision that the Government made to make EU law—as operating in this country under the authority of the EU up to exit day—the law of this country after exit day as fully as possible. Therefore, this sort of SI comes into effect not only in a no-deal situation but in a deal situation, where the question arises about the implementation period. At the moment, needless to say, there is no Act of Parliament implementing that. Therefore, we are dealing with a situation where the only Act of Parliament is the withdrawal Act and the powers it gives—the principle of which is as I have said. It could be that, if the Prime Minister’s deal or something like it were approved by the House of Commons, an implementation period of two years or thereabouts would be involved. But that would require the implementation period to be made effective by an Act of Parliament, which would modify the effect of the withdrawal period. For example, if ESMA was to have jurisdiction here after exit day, it would be as a consequence of an agreement in the withdrawal agreement and made effective in this country by an Act of Parliament implementing it.
In my submission, the appropriate consultation for this sort of enterprise is one that looks at the detail in the way that has been described, and a full public consultation would be an absolute waste of time. I feel pretty certain that the number in this House who are very familiar with the details of this particular situation is not very large—certainly, the proportion in the country as a whole is not large. Surely the right thing to do is to speak to those who know about it and have an interest in it, and find out how they think that it should be developed. That is what has happened. At the moment, it is not only in a no-deal situation that this would work. Of course, it may be that, if there is a deal, there will be consequential legislation, which would affect the present statutory position.
It is a pleasure to follow that stream of logic, with which I agree entirely.
I wish to say two things. The Explanatory Memorandum was published initially on
In answer partly to what the noble Baroness, Lady Kramer, said, I notice that paragraph 2.6 of the Explanatory Memorandum states:
“Without these provisions, the FCA would not have an effective framework designed to prevent benchmark manipulation in the UK, affecting the integrity and attractiveness of the UK’s financial markets”.
The Explanatory Memorandum is right behind the noble Baroness in her point about the necessity of having the benchmarks properly looked after.
I have looked at a list of all the benchmarks and it is worth saying that many of them have been invented here in London—they are British—and so it is unsurprising that the naughty behaviour took place here and that the skills lie with our own regulators to prevent misbehaviour.
Part of the problem is that it was not our regulators that identified years of benchmark manipulation but the US regulator and the US media. We need to be clear about that. Our regulators came in late in the day and only after a huge amount of pressure and exposure.
Secondly, while banks were manipulating LIBOR and some of the foreign currency exchange rates in order to increase their profits to suit certain circumstances, they were doing it, they thought, quite openly. People were shouting at each other across various trading floors that X would like the benchmark set here and Y bank would prefer it to be set there and whether they could do them a favour. The Bank of England was then implicated in instructing various banks to manipulate the rate at the time of the financial crisis in order to disguise from the wider market how difficult banks were finding it to raise financing. So, rather than reporting the actual rate they were being offered in the market, they were reporting a lower rate to suggest that they were being looked at more favourably; and because the Bank of England saw this as necessary for financial stability, it is itself implicated in some of the manipulation.
One of the concerns that I have that underlies this is that the FCA will be in a position with this SI to be the administrator, but it now becomes the sole administrator rather than one working in partnership with other EU administrators. That could lead to a vulnerability, with the challenge coming not from the EU but from the United States.
Thank you for that. I do not want to be the defence attorney for the regulators but the FCA would argue that it did not have the relevant powers beforehand. However, I shall not go there.
Again, this will be the effective framework to enable the FCA to do that work. Without this SI there is no framework.
At the end of the paragraph in the Explanatory Memorandum headed “Why is it being changed?” it states:
“If this instrument were not made, there would be significant market uncertainty among UK and third country providers over whether they would still need to be compliant by 2020, and among users over which benchmark they could lawfully use”.
In other words, it is a complete mess. The size of the markets that are affected by these benchmarks is vast. I am not sure that I quite understand the reasoning behind the amendment moved by the noble Lord, Lord Adonis, to decline these regulations. It seems he is trying to take aim at a government process and is actually clobbering the City. I feel that is wrong and I very much hope he will not press his amendment.
My Lords, I am afraid that despite my efforts I can find nothing wrong with this statutory instrument. It seems to be perfectly straightforward and necessary to manage the situation. I thank the noble Baroness, Lady Kramer, for reminding us of the LIBOR scandal. It was a dreadful period in British financial services history, and we forget it too easily, I fear.
If my noble friend intends to divide the House on his amendment I make it absolutely clear that he will not be supported by the Opposition Front Bench. We would support a fatal amendment on a statutory instrument only in exceptional circumstances and only after very careful consideration of the reasons and widespread consultation. We will therefore be sitting on our hands if my noble friend divides the House.
I again thank the noble Lord, Lord Tunnicliffe, for his responsible approach to these regulations. It is quite right that there should be scrutiny, but the amendment which we are now debating would effectively be fatal. It would prevent these regulations appearing on the statute book when their purpose is, as the noble Earl, Lord Kinnoull, and my noble and learned friend said, to avoid the type of abuse of market power and benchmarks that was sadly the case in the past. To avoid all the progress we have made in that in the event of no deal would be regretted.
However a number of points were made, including by the noble Lord, which should be responded to as part of the scrutiny, so I shall launch into them, if I may. The noble Earl, Lord Kinnoull, asked why it is important to have this SI in place. If it were not it would cause significant legal uncertainty and disruption for firms about how they were able to provide benchmarks for use in the UK and for other users about which benchmarks they could legally use. Many of them have already submitted applications or created business models on the basis of market compliance with the regime. That is why the noble Earl was right to cite paragraph 2.6 of the Explanatory Memorandum and my noble and learned friend was right to raise the importance of these regulations.
The noble Baroness, Lady Kramer, questioned the ability of the FCA to enforce these regulations given the previous situation with the LIBOR scandal. We do not accept that EU regulators are better regulators than ESMA. The EU regulation was created after the LIBOR scandal and introduced a comprehensive framework to ensure that the business integrity of benchmarks is maintained. We are confident that the FCA will enforce these regulations. She also asked about how EU and UK regulators will co-operate going forward. The FCA will use the information to ensure that on exit day any administrators or benchmarks which are on the ESMA register at 5 pm on the day exit occurs are copied over to the FCA register. FCA-approved benchmarks or administrators will be copied over permanently and those approved by other EU national competent authorities will be copied over for a temporary period of 24 months. This SI removes obligations in retained EU law for the FCA to co-operate and share information with regulators. The FCA will still be able to co-operate with EU regulators through the existing framework in the Financial Services and Markets Act.
The noble Lord, Lord Adonis, asked how we arrived at the number of firms affected by this SI. The number is the current number of approved benchmark administrators. The regulators that we are working with are seeking to understand the full range of administrators that will seek approval, but it is difficult to provide a final figure for the number located in the UK and the EU.
I think that that covers most of the points raised. Again, I thank noble Lords for their contributions on this SI. On behalf of the Government and the Opposition—and I am sure that on this occasion I speak for the Liberal Democrat Benches and perhaps the Cross Benches too—I express the hope that, despite the scrutiny that, rightly, is called for in the amendment, the noble Lord will not press it and will accept the regulations. It is necessary to put them in place in order to protect investors in this country.
My Lords, I shall not press the amendment. I am extremely grateful to, and flattered by, the compliment paid by the noble and learned Lord, Lord Mackay. He said that he does not understand my opposition to these regulations, but he will appreciate that there is no way in which I could conceive of being a Minister proposing to put arrangements in place for a no-deal Brexit. I would regard that as a fundamental betrayal of the national interest. Therefore, if he accepts as a premise that the whole activity that the state is engaged in at the moment is, in my view, fundamentally illegitimate, he might accept that the course that I am pursuing is at least logical.
And I am very anxious that they should have an opportunity to cast their vote on the deal which they can now see but which they did not know about three years ago because it did not exist. I am fairly confident that if the electorate of this country had any idea that three years ago they might have been putting in place arrangements for a no-deal Brexit, they would not have gone anywhere remotely close to the situation that we have today. However, on that note, I beg leave to withdraw.
Amendment to the Motion withdrawn.