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Clause 4

Banking Bill – in a Public Bill Committee at 12:15 pm on 4th November 2008.

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Special resolution objectives

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

I beg to move amendment No. 77, in clause 4, page 3, line 19, at end insert

‘; and for the avoidance of doubt, this includes ensuring—

(i) continuity of service; and

(ii) unrestricted access to deposits.’.

Photo of Roger Gale Roger Gale Conservative, North Thanet

With this it will be convenient to discuss the following: Amendment No. 74, in clause 4, page 3, line 19, at end insert—

‘(6A) Objective 3A is to protect and safeguard the value of the enterprise.’.

Amendment No. 78, in clause 4, page 3, line 20, at end insert

‘and to ensure that the expenditure of any public or private funds is done in an economically efficient manner.’.

Amendment No. 76, in clause 4, page 3, line 22, at end insert—

‘(8A) Objective 6 is to protect the interest of creditors.

(8B) Objective 7 is to avoid distorting competition amongst banks.’.

Amendment No. 79, in clause 4, page 3, line 24, at end add—

‘(10) In respect of Objective 7, competition law shall apply to a bank, whether it is wholly or partly owned or controlled by the Government, including a bank to which sections 9 and 12 apply.

(11) Where a bank is wholly or partly owned or controlled by the Government and where section 214 applies, the bank is prohibited from using its favourable position or Government support to its commercial advantage and thereby to prevent, restrict or distort competition in the market for financial services as a whole, or on a product by product basis.

(12) For the purposes of subsection (10) competition law includes the provisions of the Competition Act 1998 and the Enterprise Act 2002, and European Community law competition provisions.

(13) For the purposes of subsections (10) and (11) ownership or control shall be determined by reference to sections 26 and 29 of the Enterprise Act 2002 and by reference, where Community law applies, to the Council Regulation 130/2004 (the European Merger Regulations).’.

Clause stand part.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

The clause is an important element of the Bill because it sets out the objectives that will determine how the various stabilisation powers will be exercised. I thought that I would perhaps start with the clause stand part section of the debate and then move on to the various amendments, because that is probably the most helpful way of putting the amendments in context.

The clause lists the five objectives to be met through the special resolution regime. Subsection (9) makes it clear that those are set out in no particular order, but I think that since our debate about the types of institution to be covered by part 1, we have all had a feeling that one of the main thrusts is the protection of depositors, and in a moment I will deal with how I see that playing out. I will just comment on the objectives.

We considered the first objective, financial stability, at some length last Thursday, so I do not want to run through that debate again, and I suspect that you would not allow me to do so, Mr. Gale. I was taken by the definition given in the draft code of practice, because it gives an indication of the direction in which the Government are travelling. It is rather a pity that the Committee was not able to see the code of practice before our debate on Thursday, because I thought that one point in the definition went rather wider than that given by the Governor of the Bank of England and by Nigel Jenkinson, the executive director of financial stability at the Bank, in oral evidence.

In the code of practice, it is suggested that financial stability includes

“the efficient operation of financial services and markets, risk transfer, and the facilitation of domestic and international commerce”.

That is quite a broad and helpful definition and I think that it is actually broader than the definition that was given when we discussed it last Thursday. However, I am not clear—this is one of the recurrent themes that has emerged throughout the debate about the objectives—what weight will be given to the individual objectives when looking at the operation of the special resolution regime.

One of the consequences of the way in which the Government used powers to freeze Landsbanki’s assets was that it affected the efficient operation of wholesale markets. It created uncertainty about how transactions would be closed out, and the Government responded to that uncertainty through their use of clarifications to licences under a separate clarificatory document. But the action created uncertainty in the market, prevented the efficient operation of the wholesale market, and acted as a barrier to international commerce. In seeking to protect depositors and, potentially, safeguard taxpayers’ interests, the Government undermined the efficient working of capital markets. Therefore, it would appear that in the context of the Government’s approach to Landsbanki—given the Minister’s remarks on clause 2, I appreciate that branches are excluded from the powers in this Bill; I am just using this as an example—objective 3, “to protect depositors”, and objective 4, “to protect public funds”, had higher priority than financial stability, or certainly that bit of the financial stability objective that relates to the efficient functioning of capital markets.

Although the clause states in subsection (9) that there is no priority, it would be helpful if the Minister could give us some feeling of the kind of circumstances that might arise and how the objectives fit into them. We do not know that at the moment.

The clause states that objective 2 is

“to protect and enhance public confidence in the stability of the banking systems of the United Kingdom.”

Public confidence has several dimensions, according to the code. It refers to the expectation that deposits will be repaid in accordance with the terms, that normal banking services will be continuously available, that perceived problems in one bank or building society will not extend to other banks, and that systems exist to protect the interests of depositors if a bank does suddenly fail.

The intention of the objective is to drive us towards the view that authorities will have regard for the need to act in a way that enhances rather than detracts from people’s confidence in the banking system, but I wonder to what extent the objective will be looked at in the context of the crisis. We have had a sustained period of financial instability, and there is a perceived systemic risk to the banking system. As a consequence, to use the Minister’s phrase in giving evidence to the Committee a fortnight ago, the Government will do what it takes to fix it. Clearly, what it takes in the context of a systemic crisis may well be very different from what it takes to fix the problems of a single bank that faces problems in isolation from the others.

For example, in the context of this crisis, we have a de facto 100 per cent. guarantee for retail deposits, as evidenced initially in respect of Northern Rock but now in connection with deposits with Icelandic banks that have not been transferred to ING Direct, but we know from our debate on the Financial Services Compensation Scheme and the amendments to the FSA’s rules that the deposit limit is £50,000.

My understanding is that if we were to look at the various powers that are available to the Government, in normal circumstances, less weight may be given to objective 2 than in the current circumstances, and in normal circumstances we would go back to a £50,000 limit rather than a 100 per cent. limit. It would be helpful if the Minister could explain how objective 2 would work in periods of financial instability such as we have now, and how important it would be if we were in more stable times.

Objective 3, which is intended to protect depositors, was largely covered in our debate on the Financial Services Compensation Scheme at the start of Committee about what role the FSCS can play in ensuring that there is a speedy pay-out to depositors. If consumers can access their funds quickly and speedily, that will give them confidence in the strength of the banking system.

Another way of protecting depositors is to transfer accounts to another bank. That could take place under the stabilisation options as part of the powers that are available. That is what happened with Bradford & Bingley. Over the weekend, the accounts were transferred from Bradford & Bingley to Abbey Santander and, as a consequence, the depositors at Bradford & Bingley had access to their money from Monday morning. They would not have noticed a difference in the system, because it was a seamless transfer, their accounts were not frozen and there were no problems about paying their bills, whereas those accounts that were not covered by that type of process—those of Kaupthing Singer & Friedlander that were not part of the Edge brand—are being guaranteed by the Government and will be subject to a pay-out through the Financial Services Compensation Scheme. People with such accounts will not have that same easy access to their money. From the debate last week about Landsbanki, we have seen that people with deposits in Icesave will not get access to their money probably until the end of this month. There is an issue about ensuring that the tools that we have facilitate easy access to depositors’ accounts. That is an important objective.

The Minister may want to correct this impression if he thinks it is erroneous, but it is clear from the debate so far that, if we were to consider ordering the objectives, objective 3, on the protection of depositors, would top the list. I would be interested to find out whether the Minister disagrees with that interpretation and under which circumstances it would not be the most important objective.

Photo of Ian Pearson Ian Pearson Parliamentary Under-Secretary, Department for Business, Enterprise & Regulatory Reform, Economic Secretary, HM Treasury

The hon. Gentleman clearly understands the clause, including subsection (9), which states:

“The order in which the objectives are listed in this section is not significant; they are to be balanced as appropriate in each case.”

Yet he is trying to get the Government to indicate that certain areas are priorities; they are all priorities for us. We will want to make decisions depending on the circumstances of particular cases. We believe that we are discussing the right sorts of areas. I resist his view that one objective is more important than another; they need to be balanced.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

I accept that up to a point. However, this part of the Bill is limited to institutions that accept deposits, as we established clearly when we discussed clause 2. I have to say that the Bill points in a particular direction.

The Government’s priorities in dealing with the current financial crisis and with where particular institutions have been under threat have pushed towards objective 3 taking the lead in respect of how the crisis is to be resolved. Perhaps that is a presentational issue and if that is so I would accept that. However, there is a tension between the objectives and we need to understand how that tension would work out in practice. If the objectives rank equally, it would be helpful to understand where the trade-offs between them are, because at the moment I am not clear that there is necessarily a trade-off between objective 3 and the other objectives.

Photo of Peter Bone Peter Bone Conservative, Wellingborough

My hon. Friend is making an important point. Clearly, some of the objectives cannot be met at the same time. Is not the reality of the matter that when panic set in at No. 11 Downing street, when the crisis was in full flow, the Government’s objective was presentation? Whatever made the Government look best was the objective. That is not really the basis for good government. We need to know the different weighting of the objectives.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

My hon. Friend takes an uncharacteristically uncharitable view of the Government’s objectives on the matter. However, he makes a point. The thrust of the debate has been protecting depositors, and there are going to be tensions between the objectives. Notwithstanding subsection (9), I tempt the Minister to outline a scenario in which objective 3 would be subordinated to another objective, and to say where the trade-off is between it and other objectives. There could be a trade-off between objectives 3 and 4, because the Government could issue a 100 per cent. guarantee of deposits. That would protect depositors, but at a cost to the taxpayer. As we discussed in earlier debates, the taxpayer is likely to pick up the cost of guarantees on amounts of more than £50,000 in connection with some of the Icelandic banks. There is a tension between protecting taxpayers’ interests and protecting depositors. I am not being critical of the Government, but in those sorts of cases objective 3 comes before objective 4, not only in the sequence in the Bill but in producing an outcome.

It might be that that trade-off is not quite as clear in more stable times. The Government may decide that there is not a systemic risk to the financial system and therefore, for example, that they can give a lower priority to the protection of depositors through the Financial Services Compensation Scheme than they give at the moment. However, given the debate on this clause, a degree of transparency regarding the importance of the various objectives and how they will work in practice  needs to emerge. This is one of the key clauses in the Bill, and such transparency will help people to understand how the special resolution regime will work in practice.

While we are on objective 3, I should like to speak to amendment No. 77, which would add, at the end of line 19, the words

“and for the avoidance of doubt, this includes ensuring...continuity of service; and...unrestricted access to deposits”.

As my remarks have indicated, depositors’ preference would be the ability to be transferred seamlessly from bank A to bank B when there is a financial crisis, rather than having to make a claim through the FSCS. The amendment would emphasise that that is the best way to achieve the right outcome for depositors. It is not the only way, because we have the FSCS, but for the protection of depositors, it is important to be clear about our expectations when the tripartite authorities look at the various instruments to be exercised.

The great example of when such an approach worked was Bradford & Bingley. The approach was facilitated in a way that kept the payment system open so that people could process their transactions, ordinarily. There is a concern about the way in which one of the Icelandic banks was dealt with. The payment system in respect of that bank and its customers was frozen, thereby preventing people from making payments from their accounts. For a number of reasons, that is not a good position to be in—neither for the customers nor the bank. If customers cannot make a mortgage payment to a lender because their account is frozen, they will be in arrears. That is not good for the customer and creates a problem for them with their bank. If a bank suffering from that payment freeze is a mortgage bank, it will not be able to receive payments from its borrowers, which will create uncertainty about the value of the book of business. If there is a problem with consumers, the transfer and the way in which they access their bank accounts, the best thing to do is to ensure that there is a transfer from one bank to another, rather than face the consequences of their account being frozen and then be locked out of that account until the FSCS has managed to work its way through. That is why, through amendment No.77, we are trying to be more precise about what we would like to see: an optimal solution for how to protect depositors.

In the context of objective 4, which is “to protect public funds”, there is little explanation in either the code or the explanatory notes of how that objective will work in practice and in conjunction with the other objectives. We know, for example, that taxpayer funds are at risk at Northern Rock, but they are also potentially at risk at Bradford & Bingley. In addition, there is exposure on Landsbanki and the non-edge accounts of Kaupthing, where there is a taxpayer guarantee. We know that taxpayer funds have been used as part of a recapitalisation package for the banking sector, and last Thursday, in the context of clauses 214 and 215, we discussed how we can broaden the categories of the financial institutions that could receive financial support through the consolidated loans fund. Today, we have talked about broadening the definition of financial assistance.

In the context of objective 4, we need to understand from the Minister what value is attached to the use of taxpayers’ funds, and whether the Government will instinctively back a solution that has more limited  recourse to public funds than one that would require greater recourse to public funds. Are there options under the various tools available under part 4 that require a small amount of the taxpayers’ fund to work, and which would therefore be the Government’s preference, even if they might compromise the stability of the financial system’s objective in objective 1? Again, we want to be able to understand the interplay between the two.

We will come back to objective 5 when we talk about later clauses. One of the key words in the code that we ought to dwell on for a moment is “proportionately”. The code says that

“the bank or building society itself, its shareholders or creditors or other third parties...have a right of control over” their property.

One of the Bill’s features is that in certain circumstances, it gives the tripartite authorities the right to interfere with control over that property. The argument in the code is that

“The inclusion of this objective acknowledges the importance of acting proportionately in exercising these powers.”

I am not clear from the code what “proportionately” means and under what circumstances the Government think it appropriate to break those rights of control. The partial transfer mechanism does break that right of control, and some safeguards will be put in place over the exercise of that right. It would be helpful if the Minister threw some light on paragraph 13 of the code. As drafted, it does not go far enough in setting out the way in which this objective could be satisfied.

I want to move to amendments Nos. 74, 76 and 78. We now have an opportunity to discuss whether the list of objectives in clause 4 is complete and whether there are other objectives that we should bear in mind when exercising these powers where there are the stabilisation tools, and what sort of framework should be used to govern the choice of tools by the tripartite authorities. I do not want to steal the thunder of the hon. Member for South-East Cornwall by picking up on amendment No. 74, but, as he said from a sedentary position, it complements amendment No. 76, which inserts a new objective 6 to protect the interests of creditors.

This brings a different dimension to the debate about the objectives. We talked about them in the context of protecting depositors and the taxpayer. We touched a little on the context of objective 5, but other people have an interest in how the stabilisation tools are going to be used. There are creditors who will have an interest, not just trade creditors, but non-retail depositors. These are people who have money on deposit with a particular bank who are not covered by the FSCS and whose accounts will not be transferred across automatically in the way that we had envisaged in the context of objective 3.

It is worth just mentioning that objective 3 just talks about depositors. It is no more specific than that. It does not say retail. The Minister might argue that objective 3 covers wholesale as well as retail depositors. This is where some tension arises in the clause. One can envisage a situation where it is possible to achieve objectives 3 and 4 in the context of a particular crisis by transferring depositors across to a third party and then  setting off a mortgage book to a separate third party through a fire sale. That fire sale may raise enough to cover the taxpayers’ exposure, and obviously the transfer deposits would meet the interests of the depositors, but would it be sufficient to cover the interests of other creditors? There is insufficient recognition in the clause of the interests of other creditors. Inserting objective 6 or objective 3A into the Bill would provide a dimension that is currently lacking.

The objective of the hon. Member for South-East Cornwall goes rather wider than mine in terms of the enterprise value. It will take into account the interests of shareholders. One of the things that we recognised in the debate is that shareholders should bear some of the costs of the failure of an institution. The question is whether having the more precise definition that we should aim to protect the interests of the creditors is a good way to ensure that the range of creditors in the institutions are protected.

One area that we need to think about is bondholders. There is some concern that when we look at the people who provide capital, we often do so in the context of shareholders and the equity element of the capital in a business. Clearly, many institutions do raise money through bond issues. That is where part of the concern comes regarding the adequacy of the safeguards under the Bill as to whether bondholders’ interests are adequately protected. Explicit reference through either proposed objective 3(a) or objective 6 would help ensure there is some recognition of the role that bondholders play in financing businesses and that their interests are not being disregarded in the pursuit of any of the other objectives.

Amendment No. 78 will, at the end of line 20, insert the words:

“and to ensure that the expenditure of any public or private funds is done in an economically efficient manner.”

That is to make sure that we look very carefully at the way taxpayers’ funds are being used to resolve financial problems at a particular institution. In examining the various tools that the Government are looking at, are we making sure that the best way to get value for our money is considered? If they are looking at financial support, perhaps through a guarantee of deposits, is that the most effective way of meeting the objectives of the Bill? Are there better, more effective ways they could achieve that?

Amendment No. 76 has two more objects. It protects the interests of creditors and inserts a new objective 7, which is to avoid distorting competition among banks. Amendment No. 79 amplifies the meaning of objective 7.

Photo of Peter Bone Peter Bone Conservative, Wellingborough 12:45 pm, 4th November 2008

This is a very important issue. When the Government first suggested that Lloyds and HBOS could join together and tear up competition law, it was because no public money would be involved—it was going to be a private sector settlement. We have subsequently seen huge amounts of public money being put into this mega-bank. If the proposed objective—a very important one—were included, it would not allow that sort of thing to happen. It seems a very important addition to the objectives.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Competition is important. It has cropped up twice in the current financial crisis, initially in the context of Northern Rock and also in the context of the  merger of Lloyds and HBOS. Banks and building societies expressed concern at the time of the acquisition into public ownership of Northern Rock—which now feels more like nationalisation—that Northern Rock would be able to use its position of effectively having a sovereign guarantee, by virtue of being owned by the Government, to operate in a way which would undermine the competitive position of other institutions. Having the guarantee, it could market itself as being as safe as houses—perhaps not the best analogy, given the state of the house market. It was seen as a safe bet because the Government were standing behind it. Arrangements were put in place to ensure that Northern Rock did not exploit its competitive position vis-Ã -vis other lenders.

Photo of Colin Breed Colin Breed Shadow Minister, Treasury

Obviously, that is exactly what happened. At some stage Northern Rock had to cease taking certain moneys and products and also had to ensure it was complying with state aid rules which could be invoked. So, it is a real situation, which could easily arise again. It is almost axiomatic that an institution is placed at a competitive advantage if the Government become involves in that institution and stand behind it.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Indeed. My recollection is that the start of the Northern Rock debate was about yield and return, rather than stability. When we had the second wave of financial instability in the aftermath of Lehmans and people were moving their deposits around, Northern Rock became particularly attractive, as did certain Irish banks because the Irish Government gave a 100 per cent. guarantee. There was a flight to safety rather than to yield—a change in approach. My hon. Friend the Member for Wellingborough was about to intervene—perhaps that covered his point. As I said, we will come on to HBOS in a second.

Photo of Peter Bone Peter Bone Conservative, Wellingborough

That was the gist of the argument that the hon. Member for South-East Cornwall made. If we have a series of objectives that have to be balanced in making a decision, is it not important that this objective is one of them? At the moment it would be excluded from consideration.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

That is why we were trying to tease out from the Minister why the Government have not included the objective of competition and distorting competition between banks. My hon. Friend raised the issue of Lloyds TSB and HBOS. When the deal was announced—prior to the Government’s recapitalisation package—both Houses agreed that the competition rules should be waived to facilitate the merger. Referral of the bid would have slowed the process, added to the uncertainty in the financial markets and created more instability.

Photo of Sally Keeble Sally Keeble Labour, Northampton North

Does the hon. Gentleman accept that funds flowing to a certain organisation or people behaving in a certain way do not mean that the bank or institution concerned is taking advantage of its position? The Governor of the Bank of England made that point yesterday in the Treasury Committee. It is about public perception. The hon. Gentleman would have to frame an objective that dealt with the intent of the organisation in trying to exploit its position.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

The hon. Lady makes a good point, which goes back to the example of Northern Rock. Potential depositors saw Northern Rock as a safe place to put their money because it was under public control, not because of any deliberate action on behalf of its management. That is why proposed new subsection (11) in amendment No. 79 says that a

“bank is prohibited from using its favourable position or Government support to its commercial advantage and thereby to prevent, restrict or distort competition in the market for financial services as a whole, or on a product by product basis”.

That tries to limit the opportunities for a bank to use the fact that it is backed by the Government to engage in distorting competition. That issue was dealt with in Northern Rock by saying that there was a limit to how many of its products would appear in a best-buy table. In that respect, Northern Rock’s management were  exploiting the bank’s position by using the Government guarantee. A more organic process would have been for consumers to decide that they wanted their money to go to a lower risk destination despite the yield offered.

Photo of Colin Breed Colin Breed Shadow Minister, Treasury

That just exposes yet another tension between the objectives, because if the bank could use its position in that way it might well minimise the impact on the taxpayer at a future stage, and significantly enhance the depositors’ situation. If we want to promote those objectives, the use of the bank’s position—the Government standing behind them—could be extremely advantageous in promoting other objectives.

It being One o’clock,The Chairmanadjourned the Committee without Question put, pursuant to the Standing Order.

Adjourned till this day at half-past Four o’clock.