Financial Services Bill

– in a Public Bill Committee at on 8 December 2009.

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Ian Pearson, Economic Secretary to the Treasury

[Mr. Roger Gale in the Chair]

Photo of Roger Gale Roger Gale Conservative, North Thanet 10:31, 8 December 2009

Good morning. I have a few housekeeping announcements before we begin. First, members of the Committee may remove their jackets if they wish to do so while I am in the Chair. I am sure that my co-Chairman will agree likewise. Can we ensure that mobile telephones, pagers and any other electronic devices are switched off during the proceedings? They interfere with all sorts of things.

There is a money and a ways and means resolution attached to the Bill. Copies are available in the room. May I remind members of the Committee that adequate notice of amendments should be given. As a general rule, I and my co-Chairman will not be calling starred amendments, including any starred amendments that might be reached during an afternoon sitting of the Committee.

The Committee will be asked first to consider the programme motion on the amendment paper, for which debate is limited to half an hour. We will then proceed to the motion to report written evidence and then the motion to permit the Committee to deliberate in private in advance of the oral sessions. I hope we will be able to take the latter two formally. Assuming that the second motion is agreed to, the Committee will then move into private session to enable us to discuss the order of batting. Once that has been deliberated upon, witnesses and members of the public will be invited back into the room and our oral evidence session will begin. If the Committee agrees the programme motion, it will hear oral evidence this morning and this afternoon, and on Thursday morning and afternoon. Next week we will move to the Committee Corridor and revert to the traditional clause by clause scrutiny of the Bill.

I give early warning now, and will reiterate this during the last sitting prior to the House rising for Christmas, that amendments to be considered on the first day back after the Christmas recess—5 January—must be tabled by 4.30 pm on 30 December, because the day after is new year’s eve and the Table Office will not be available to take amendments. During the recess, amendments may be submitted signed by the hon. Member—not by anyone representing them—by post, or they may be submitted during normal working days and hours to the Clerks in the Table Office on the third floor.

I hope everyone has got that. If you are in any doubt, ask me or the Clerk on the Bill. We will in any event reiterate it. I call the Minister to move the programme motion.

Photo of Ian Pearson Ian Pearson Economic Secretary, HM Treasury

I beg to move,


(1) the Committee shall (in addition to its first meeting at 10.30 am on Tuesday 8 December) meet—

(a) at 4.00 pm on Tuesday 8 December;

(b) at 9.00 am and 1.00 pm on Thursday 10 December;

(c) at 10.30 am and 4.00 pm on Tuesday 15 December;

(d) at 10.30 am and 4.00 pm on Tuesday 5 January;

(e) at 9.00 am and 1.00 pm on Thursday 7 January;

(f) at 10.30 am and 4.00 pm on Tuesday 12 January;

(g) at 9.00 am and 1.00 pm on Thursday 14 January;

(2) the Committee shall hear oral evidence in accordance with the following Table:





Tuesday 8 December

Until no later than 12.30 pm

The Treasury

Tuesday 8 December

Until no later than 5.30 pm

The Bank of England, the Financial Services Authority, Financial Services Compensation Scheme Limited, and Financial Ombudsman Service Limited

Tuesday 8 December

Until no later than 7.00 pm

Which?, Age Concern, Citizen’s Advice, and the Financial Services Consumer Panel

Thursday 10 December

Until no later than 10.25 am

The British Bankers Association, the Building Societies Association, and the Confederation of British Industry

Thursday 10 December

Until no later than 2.30 pm

The City of London Law Society, Simon Gleeson (Clifford Chance), and the Investment Management Association

(3) proceedings on consideration of the Bill in Committee shall be taken in the following order: Clauses 14 to 17; Clauses 27 to 34; Clauses 1 to 6; Schedule 1; Clauses 7 to 13; Clauses 18 to 26; Clauses 35 and 36; Schedule 2; Clauses 37 to 39; new Clauses; new Schedules; remaining proceedings on the Bill;

(4) the proceedings shall (so far as not previously concluded) be brought to a conclusion at 5.00 pm on Thursday 14 January.

It is a pleasure to serve under your chairmanship, Mr. Gale, and to move the programme motion, about which we have had discussions through the usual channels. It is fair to say that there has not been complete agreement. However, the Government believe that 10 full sittings for the scrutiny of the Bill is ample time for a Bill of this size, which has 34 substantive clauses, so we are talking about fewer than four clauses per sitting. We are committed to full scrutiny and are happy for the Committee to be allowed time to consider the issues in full, including sitting late if it is felt necessary.

We recognise that the timing of the scrutiny sessions before and after the Christmas recess is not ideal, but we need to make progress with the Bill. We have tried as far as possible to reflect concerns by moving the order of consideration to ensure that the clauses that are likely to attract the most attention will not be debated until after Christmas, which provides more time for  amendments to be thought about and submitted. We think that overall we have a programme that provides for ample scrutiny of all the important issues involved in the legislation.

Photo of Roger Gale Roger Gale Conservative, North Thanet

I should have welcomed Mr. Bain formally to what I understand is his first Committee sitting. That was remiss of me. It is good to have him with us. I appreciate the Minister’s courtesy in standing when he spoke during our proceedings. We are in a peculiar position at the moment because technically we are in Committee where traditionally hon. Members stand to speak. Once we move into the evidence session, it will not be necessary for them to do so. I say that for the benefit of everyone, including myself, because the matter has just been drawn to my attention. It is a courtesy and I appreciate it. Once we move into evidence session, only the Chairman will stand to speak, because I wish to demonstrate that, if necessary, I am seeking to exercise order. I hope that that is clear.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

I join the Minister in welcoming you to the chairmanship of the Committee, Mr. Gale, as I will welcome your co-Chair, Mr. Benton. It is probably the first time that an hon. Member for Glasgow, North-East has taken part in the scrutiny of a Bill for a while. The hon. Gentleman might not be able to seek much guidance from his predecessor about quite what to do, but I am sure that the hon. Member for Leeds, East will give him plenty of guidance, which, I suspect, will be to remain seated and keep quiet. There may be time in the future for the hon. Member for Glasgow, North-East to take part more fully in proceedings.

I do not want to spend too much time on the programme motion as we are all keen to scrutinise and question the Minister, but I shall make a couple of points. We voted against the programme motion at the conclusion of our debate on Second Reading and, while the Minister says that the Bill is short, the reality is that it covers a large number of issues ranging from giving the Financial Services Authority new statutory objectives through to credit card checks, consumer finance education and groundbreaking work in class actions and consumer redress. It is for those reasons we do not believe that sufficient time has been allocated by the Government to get the Bill through to the other place, which they clearly want to do as soon as possible.

We also note that the scrutiny sessions are starting at 4 pm rather than 4.30 pm. While that gives us more time, it means that members of the Committee who wish to participate in statements on the Floor of the House will feel excluded from that process. We are compromising parliamentary scrutiny by having such a start time. Not enough time has been allocated to the deliberation of the Bill. There are big issues to be dealt with, and we shall try to make as much progress as possible within the relatively tight allocation of time.

Photo of Colin Breed Colin Breed Shadow Treasury Minister

It is a pleasure to be under your chairmanship, Mr. Gale, in our proceedings this morning. The Bill is short. Indeed, it could be shorter because certain aspects of it have quite a lot of duplication. However, it has some main principles and they will take us some time to debate. Having looked at the programme motion, I think that it has been reasonably portioned out. The time between now and our coming back in January gives us the  opportunity to look at matters particularly after the evidence sessions, and I am personally happy with the programme motion.

Question put and agreed to.


That, subject to the discretion of the Chairman, any written evidence received by the Committee shall be reported to the House for publication.—(Ian Pearson.)

Photo of Roger Gale Roger Gale Conservative, North Thanet

Copies of any memorandums that the Committee receives will be made available in the Committee Room.


That, at this and any subsequent meeting at which oral evidence is to be heard, the Committee shall sit in private until the witnesses are admitted.—(Ian Pearson.)

The Committee deliberated in private.

On resuming—

Photo of Roger Gale Roger Gale Conservative, North Thanet

First, I welcome the witness from Her Majesty’s Treasury, the Economic Secretary to the Treasury, Mr. Ian Pearson. Thank you for joining us this morning. Before calling the first hon. Member to put a question, I remind the Committee that all questions must be within the scope of the Bill. It will be for the Chair to determine whether that is so.

Q 1

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

The Bill covers a large number of different areas but there are clearly some, where legislation is being passed, in which there is much more work to be done. For example, the Bank of England has not completed its work on a macro-prudential regime and further consultation is still going on about living wills. Are some of the measures in the Bill premature? Should we not wait until some of that work is concluded, so that we know exactly what powers the Bank and the Financial Services Authority need in connection with some of the those macro-prudential issues?

Ian Pearson: I do not believe that it is premature to introduce a Bill of this nature. As you will appreciate, Mark, what we are really doing through this legislation on the financial regulation side is providing a framework and, in some cases, new and additional powers. We are not providing detail. The Bill is not the first word on financial regulation and it will not be last word either, but I am confident it provides a structure that provides the necessary powers, duties and responsibilities, which can take account of those areas in which things are still going on, as you rightly say. That can be accounted for and dealt with in the overall architecture of the Bill as it stands.

Q 2

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Is it not the case that we have had to revisit elements of the Banking Act 2009? Another statutory instrument to be in front of us shortly is to correct an error in the Banking Act. The danger is that we are making legislation in haste and that we will have to come back to amend the Bill, to get it right.

Ian Pearson: There are two points. First, I would be very wary of anybody saying that any legislation is always perfect and will last forever. I do not think that  that is the nature of modern Government. Secondly, we have had extensive consultation on the Bill already, through the publication of the White Paper “Reforming Financial Markets”. A lot of work has gone on. We think it right and appropriate to introduce the Bill to make improvements to the overall financial architecture in the UK. We think that there is broad support for that to happen as well.

Q 3

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Is it not also clear that the Bill is being introduced at a time when, on the international framework for financial regulation—whether through the G20, or the EU through the recent de Larosière proposals—there is a lot of work going on at international level? How confident are you that the Bill creates a framework that slots into that developing international work, given that those international limits are yet to be fixed?

Ian Pearson: I am confident that the Bill is appropriate and can accommodate developments in the international sphere. It has been explicitly designed to be able to take international developments into account. It is right that in a lot of those areas we work closely with our international partners. It comes back to my central point that the Bill provides a framework within which some of the detail that still needs to be agreed internationally can be accommodated. As we all know, there is a distinction to be drawn between what is done through primary legislation, what is done through secondary legislation and what is done through codes of practice. The overall architecture, as it stands, can accommodate further work that is going on, whether it is through the Bank of England or the Financial Services Authority, or work that is going on internationally as well.

Q 4

Photo of George Mudie George Mudie Assistant Whip (HM Treasury)

On Second Reading, some pertinent questions were asked about the difference between the Council for Financial Stability and the present tripartite committee. Can you tell us what the Council for Financial Stability brings to the table that the tripartite committee could not?

Ian Pearson: What we are doing through the Council for Financial Stability is formalising arrangements that have already been in existence. As is well known, the tripartite authorities have been meeting on a regular basis ever since that system of regulation was drawn up over a decade ago. Clearly, during the financial crisis there were far more intensive meetings between the tripartite authorities, but what we think that we are creating through the Council for Financial Stability is a more formalised structure that provides greater clarity and understanding, and will formally discuss financial stability issues. However, I would not want anybody to think that those areas have not been discussed previously and that this is a completely new invention. Of course the FSA, the Bank and the Chancellor have been meeting on a regular basis, as everybody would expect them to.

Q 5

Photo of George Mudie George Mudie Assistant Whip (HM Treasury)

Apart from formal meetings, where are the additional qualities to help financial stability if it is simply the same people meeting more often and more formally? That does not sound as if, apart from meeting more often, they will bring any additional qualities to deal with, or spot the risks to financial stability.

Ian Pearson: There are clear formal responsibilities under the structure of the new Council for Financial Stability. There are requirements in terms of meetings. It has to meet at least quarterly. Certainly I would expect it to meet more frequently than that during current circumstances. There is transparency in terms of publishing minutes and in both these areas it is right to have a body that sits together and formally looks at these things. Having a Council for Financial Stability under this new structure enables us to do that. It enables people outside who look at these things to have confidence that this is an issue that is being grasped and looked at with great thoroughness as everybody would expect of us.

Q 6

Photo of James Duddridge James Duddridge Opposition Whip (Commons)

The Bill will probably not get Royal Assent until next March or April. We will then have a general election and it is possible that there could be a different Government. So when will the Council for Financial Stability be set up and will that work happen during the election period or will it be suspended?

Ian Pearson: Again, the key point to make is that what we have through the Council for Financial Stability is something that is formal, based in statute and with terms of reference. It is transparent in the way that its discussions are minuted and it is also accountable to enable proper parliamentary scrutiny. To answer the specific question, the council will be set up in advance of Royal Assent. It is planned that its first meeting will be in January. Again, if I could get back to the point about why have this, what is it going to do and why is it different, the key thing to recognise is that this will be a body that is formally responsible for considering emerging risks to financial stability in the UK in the global financial system and for making sure that we have a co-ordinated and appropriate response by the authorities. It will meet in advance of Royal Assent.

Q 7

Photo of James Duddridge James Duddridge Opposition Whip (Commons)

I am a little worried that it is going to be set up in January. Given the parliamentary majority, it is probable that the Bill will get Royal Assent. However, during the evidence sessions and Committee sittings some interesting points about the council’s composition and responsibilities might be teased out which will not be able to be implemented if the Minister presses ahead in January.

Ian Pearson: I appreciate your worries, James. I think what we are talking about here is changing from the existing standing committee structure to having a Council for Financial Stability. There will be, as you know, terms of reference, which have already been published. It will obviously perform the same tasks as the existing standing committee. I do not think we are talking about a revolution here. Again, people who have looked at this recognise that the Council for Financial Stability is not an unreasonable thing for the Government to set up. People want to make sure that the emerging risks are fully and appropriately considered.

Q 8

Photo of Colin Breed Colin Breed Shadow Treasury Minister

Perhaps some of us actually want to see a revolution. We are creating a duty on the FSA to undertake a financial stability strategy. We will have a deputy governor responsible for financial stability and we are going to continue with the three that we have got. The Chancellor is going to chair it. Do you foresee the possibility that the chair could be outvoted?

Ian Pearson: As with the way things have operated to date in the tripartite structure, the FSA, the Bank and the Treasury—the Chancellor—have always met to discuss how the issues are best handled. You are right to say that the FSA’s being given a new power with regards to financial stability is an important part of the Bill. The Bank of England has that power as well. People can try to make too much of the fact that different organisations have the same sort of power. It is absolutely right that the FSA, the Bank of England and the Treasury are all concerned about financial stability. It is not the case that one authority has to be in charge in this. Each has its own responsibilities, and we need effective co-ordination. Again, I think that the Council for Financial Stability builds on the existing standing committee and structure, and is a significant improvement. We will undoubtedly debate this in more detail when we get to the relevant clauses.

Q 9

Photo of Colin Breed Colin Breed Shadow Treasury Minister

You would have to accept, Minister, that the previous tripartite arrangements were hardly the greatest success, so if we are building on something that was not much of a success, some significant changes are needed. We need to identify precisely where the real ultimate end responsibility is. If you have three different bodies or three different interests—three different views perhaps—someone, somewhere, has to be the final arbiter and has to decide what action will be taken to prevent any systemic risk and suchlike. Is that the Council for Financial Stability, and if it is, will that be done through a majority vote?

Ian Pearson: I do not think it likely that the council will have votes. The practicalities are that things do not operate like that—they have not operated like that before.

Q 10

Photo of Colin Breed Colin Breed Shadow Treasury Minister

That is part of the problem.

Ian Pearson: You say it is part of the problem, but I do not think it is. If you think of a voting system in which decisions are made on the basis of a 2:1 vote between the Chancellor, the Governor and the chairman of the FSA, I do not think that that is very helpful. What is important is that we have effective co-ordination, and a consensus between the tripartite authorities on the best course of action. We are talking about discussion and co-ordination—

Q 11

Ian Pearson: The council is not formally a decision-making body.

Q 12

Photo of Andrew Love Andrew Love Labour, Edmonton

May I press the Minister on that? The criticism that the Treasury Committee made was that under the old standing arrangement, no one had responsibility for stability, but under the new arrangements all three bodies have responsibility and it is still unclear who has ultimate responsibility. Does the Minister accept that criticism, and how do we overcome it in the case that Mr. Breed mentioned, where there might there be differences of opinion between those three bodies?

Ian Pearson: No, I do not accept that criticism. I think it of fundamental importance that all three organisations have responsibility for financial stability. Just saying “The Bank should have it and nobody else  should worry about it” would not be the right thing to do, either. Having just one single body in charge of financial responsibility would not fit with the system of regulation that we have in the United Kingdom. We can debate this; there is clearly a difference between the political parties on the nature of regulation.

One view is that we should have a system of regulation that has a Financial Services Authority and the Bank of England, and there is another view—without wanting to over-simplify the Conservative party position—that everything should be done by the Bank of England. We have consistently maintained that having just a single regulator does not produce any improvements. Looking at the experience of failed banks and the international experience of regulation, the Bank of England regulating everything—from the biggest to the smallest banks, from credit unions to small building societies, from insurance companies to independent financial advisers—is not a sensible regulatory model, and that would be asking too much of the Bank of England.

I know that the shadow Chancellor has said that he wants to back the FSA into the Bank of England. I think that would cause massive disruption and produce no greater added value. It is best to take our approach, which is to improve the regulatory architecture in place at the moment without engaging on major structural reform that I do not believe produces benefits. Maybe even the shadow Chancellor is beginning to think again about that.

Q 13

Photo of Andrew Love Andrew Love Labour, Edmonton

Let me continue to press you on experience. The Treasury Committee’s numerous reports on the banking crisis have shown that the standing committee and the memorandum of understanding did not operate effectively in the circumstances that we faced, and that is the reason why changes are being made. Minister, you say we need effective co-ordination. What gives you the confidence that the new Council for Financial Stability will deliver effective co-ordination between the three bodies? That was clearly missing under the standing committee arrangement, and the memorandum of understanding just did not operate. Although I agree that we ought not to move to a single regulator, or to some of the other proposals that have been put forward, we do need to be confident that the Council for Financial Stability will not meet the same difficulties that arose under the old arrangements and the memorandum of understanding.

Ian Pearson: I have read and noted the Select Committee’s comments regarding the standing committee and the way it operated. In large part, our response, in the Financial Services Bill, recognises the need for improvements in the way the tripartite authorities work together, and we are trying to address the issues through the Council for Financial Stability. There are clear terms of reference for the new body and I am confident that we have learned lessons, which are in the legislation that we hope to take through both Houses shortly.

Q 14

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

I am not entirely sure that it is clear who is responsible. We have gone from a situation where nobody seemed to have explicit responsibility for financial stability to having the Banking Act 2009, which gave that responsibility to the Bank of England. The then Exchequer Secretary seemed to think that the FSA already had responsibility for financial stability wrapped  up in the market confidence objective. Now, in the Bill, the FSA is being given explicit responsibility for financial stability, but there is no sense of delineation between the Bank’s responsibility and that of the FSA. Before, people were able to say, “It is not our responsibility, because none of us has responsibility”; now they can say, “It is their responsibility to deal with this.” We have moved from one confused situation to another over the course of legislative changes—both those already made and those that are in the Bill. I am still not clear who, in a crisis, is accountable for financial stability.

Ian Pearson: I can well understand that there is a superficial attraction in being able to say that one body is responsible. I am trying to think of some good analogies to help the Committee. Maybe that of a football team is appropriate—it is quite popular to use football analogies these days. Who is responsible for scoring: a centre-forward, a midfielder or the left-back? It is actually the team’s responsibility, and it is the responsibility of the Bank, the FSA and the Government, through the Treasury, to ensure financial stability. We have to work together as a team, and the Council for Financial Stability helps us do that in a more open and transparent way.

Q 15

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Using your analogy—it is not the most robust of analogies—ultimately, if a football team fails, the manager gets sacked. We have a team being managed by several different people, and it is not clear who will carry the can if the team fails to score and lets too many goals in. Your analogy demonstrated the weakness of the argument, because no one is clearly in charge.

Ian Pearson: It is important to recognise that there are shared responsibilities involved. The Treasury, as the UK’s finance and economics Ministry, has its set of responsibilities; the Bank of England has responsibility for monetary policy as an independent central bank; and the FSA has responsibility as an independent financial regulator. We have on previous occasions debated that architecture. The Bank, the Government and the FSA play different positions on the football pitch and they all have their particular responsibilities. When it comes to something as important and as broad as financial stability, all the team players have responsibility; it would be wrong to pretend otherwise and a mistake to say that it is just one person or organisation’s responsibility. That does not reflect the modern reality.

Q 16

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

Do you think that the tripartite committee system worked well in the run-up to Northern Rock?

Ian Pearson: We certainly learned lessons from Northern Rock.

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

One can always learn lessons, but I am asking whether you think the tripartite committee system worked well, had a mixed record, or worked badly.

Ian Pearson: That is one particular rating scale that could be deployed. Northern Rock got into difficulties.

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

I am asking you about the tripartite committee, not Northern Rock. How did the tripartite committee do?

Ian Pearson: I think that anyone would have to say that, collectively, we could have done better. I do not have any problem in saying that. When it was clear that Northern Rock was having difficulties, action was taken. Discussions took place within the tripartite committee and we took the decision that we did on Northern Rock. That decision was the right thing to do, and you will be aware that your party did not support it at the time. Your party’s stance would have created huge problems for the economy and would have cost thousands of jobs.

Q 17

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

What was the specific way in which the tripartite committee could have done better? Where specifically did it go wrong?

Ian Pearson: In my view, the way in which Northern Rock was regulated could have been improved.

Ian Pearson: Its business model and some of the decisions taken by the management at the time certainly should have raised more eyebrows and led to more action on the part of the regulator.

Q 18

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

Do you think that there was a liquidity crisis, Minister, or a solvency crisis?

Ian Pearson: Are you talking about Northern Rock?

Ian Pearson: I do not think it is an either/or. The situation with regard to Northern Rock, and the difficulties it got into, were to do with some of the risks inherent in its business model and with some of its decisions. First and foremost, responsibility for any bank that gets into difficulty has to lie with the management of that bank. Clearly there were inadequacies in how the bank was run; risks were taken that should not have been taken. If your questions are, “Should those risks have been spotted earlier?” and “Should action have been taken by regulatory authorities?”, well, yes, I think more should have been done sooner, before the problems at Northern Rock came to light.

Q 19

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

As I am sure you know, no liquidity data at all were being collected by the tripartite committee, so it could not possibly have been aware of a liquidity crisis—a point made by the Treasury Committee. The informal arrangements in that respect, therefore, have to be said to have failed. Why do you think the formalisation of those arrangements will guarantee the collection of the necessary data?

Ian Pearson: Since Northern Rock and other developments in the financial system, there has been a lot of discussion between the relevant bodies, and a lot of lessons have been learned. What we have in the Council for Financial Stability is a body through which we can discuss and co-ordinate action to make sure that we have the necessary information, so that decisions can be made in the interests of financial stability.

Q 20

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

Who is responsible in that new body for making sure that the data are collected? Who specifically? Which individual is carrying the can?

Ian Pearson: As I was trying to explain, each body—whether Bank, FSA or Treasury—has its own particular responsibilities.

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

So it is pass the parcel again, is it not?

Ian Pearson: No, it is not pass the parcel, but to pretend that there is one person to blame, or one organisation with sole responsibility, misses the point. Surely the point is that financial stability cuts right across the boundaries of all organisations. It is something that we are all involved with and, in such circumstances, it is right that the tripartite bodies work effectively together to ensure financial stability for the future, and that they have the capacity to co-ordinate action when action is needed.

Q 21

Photo of Andrew Tyrie Andrew Tyrie Conservative, Chichester

Do you not think that it will strike people outside this place as quite extraordinary that when every experienced commentator has said that what went wrong above all was that no one was in charge, you are now putting in place an arrangement in which no one is in charge? There has been a chorus from every corner of the specialist community—the City, the Bank of England, which has made this point, and the FSA, which has briefed privately on it and, to some degree, publicly.

Ian Pearson: No, that is not true. What we are doing through the Bill is taking action to ensure that we have the best standards of financial regulation in this country. The FSA, as the independent regulator, is responsible for making sure that it has the right information to be able to carry out its supervisory functions. Again, I think that you are missing the point when you say that there is one body that will be in charge. If the best suggestion that you can come up with is that the Bank of England should be in absolute charge of everything, from the smallest financial adviser operating in Darlington to the biggest international bank, I think it is a recipe for disaster and a very dangerous thing to do.

Q 22

Photo of George Mudie George Mudie Assistant Whip (HM Treasury)

I still think, following on from where Andrew left off, that someone has to make a decision and be the decision maker. You have ruled out voting. One of the faults with Northern Rock was that although the FSA saw the danger and got Lloyds to make a bid, it could not persuade the Bank of England and the Governor to enter into negotiations with Lloyds to have it take over Northern Rock—it could not persuade the other partner in the tripartite committee. How will the new committee get around that? The FSA sees something that needs to be done by one of the other two partners and says, “We are responsible for it; you do it”. I do not believe that the Chancellor will take instructions from the FSA, and from history, I cannot see how it will be different with the Bank of England. How will differences like that be resolved by that committee?

Ian Pearson: I do not want to get into the detail of Northern Rock’s history. In direct answer to your question, those sorts of issues need to be discussed between the tripartite authorities, even though it is often the case that initially there might be differences of views. The only way to come to a settled view as a whole is to discuss and agree collectively on the best course of action, recognising that each partner has its own set of responsibilities: the Bank for monetary policy, the FSA as the independent financial regulator and we as the Government have our own. We need to sit down and discuss matters when banks get into difficulties, or more generally, to discuss financial stability, then collectively decide on the best way to proceed and to handle the  particular issues. What we are talking about, particularly with regard to the Council for Financial Stability in the Financial Services Bill, is how we can have an effective, transparent and accountable system to ensure that we are horizon-scanning and dealing with any particular risks to financial stability. Those risks come from different directions, and it is right at the end that the Bank, the FSA and ourselves are all around the table to discuss them.

Q 23

Photo of George Mudie George Mudie Assistant Whip (HM Treasury)

I do not want to dwell on with that; I am sure that we will deal with it later in Committee. The situation we are discussing is one in which the FSA, having responsibility for financial stability, says to the Bank of England that it must do something that is within its remit of what is important, in the eyes of the FSA, to ensure financial stability. As we saw with Northern Rock, 24 hours is a long time in that situation, and people do not have time to get round to having a broad and sensible discussion. Someone says, “This must be done”, but the Bank of England says, “No”. How will this committee—clearly, it will work with the tripartite committee—bring decision making to that sort of situation, which is what we are talking about when we are looking at the dangers to financial stability?

Ian Pearson: As I said, the Council for Financial Stability is not a decision-making body. It is a body that will discuss risks to financial stability and will co-ordinate action where necessary. It perhaps is not helpful to speculate on whether there might be difficulties in future with banks or building societies. You are perfectly right to say that when you have situations such as those with Northern Rock, Bradford & Bingley, and the Dunfermline building society—organisations that we knew were in massive difficulties—there can at times be some differences of view on the best way to handle the situation. That is probably quite normal, but the key thing is that the bodies meet and collectively agree the right action to be taken.

We can use Northern Rock as an example, but it is an example of action actually being taken. As a result of action being taken we ensured that nobody lost any money—depositors were safe—we protected the bank, and Northern Rock has since paid back substantial sums of money to the Government. Now, with hindsight, I think that pretty much everybody thinks that it was the right thing to do. At the time, the judgment of the Conservative party was not to support action being taken—it wanted Northern Rock to fail. We took the judgment that there would be risks to financial stability if Northern Rock was allowed to go to the wall, and that there would be additional consequences such as people being thrown out of work and all that is involved with that. We took action, and it was the right sort of action. That shows, ultimately, that decisions are taken in the interests of protecting depositors and securing financial stability, but we need to ensure that we have the most effective structures.

What we are trying to do through the Financial Services Bill as a whole is to ensure that we have an improved system of financial regulation in this country. We are also—we will probably get on to this—talking about improving consumer protection. There are measures on that in the Bill, but we are talking here about how we improve our system.

Q 24

Photo of John Howell John Howell Conservative, Henley

The Minister must recognise that what we are struggling to see where the additionality is. The only piece of additionality that I have spotted so far this morning is for outputs—we are going to have minutes from this, whereas we did not have them before. I am sure that minutes are very valuable and I welcome that transparency, but I do not see how that leads to better outcomes—indeed I am not quite sure what the expected outcomes are, except that there will be a broader definition of financial stability. We have two activities: keeping matters under review, which we see as largely a paper-based exercise, and co-ordination. So what you have actually given us today, Minister, is a general outcome of financial stability and a few bits of output that have gone into that, principally in producing better minutes. However, in the middle of this we still have this black box of not knowing what co-ordination will look like, how it will be made effective, and how the relationship is between the terms of reference and the financial stability.

Ian Pearson: The Bill is about a lot more than the Council for Financial Stability, as I am sure you recognise.

Q 25

Photo of John Howell John Howell Conservative, Henley

Are you saying that the council is not an important part of this Bill?

Ian Pearson: No, I am saying that it is an important part of the Bill, but not the only part. In talking about improving financial regulation, you have to look at the parts of the Bill dealing with the objectives of the FSA, at what is in the Bill about recovery and resolution plans, and at what is there about remuneration and the action we are taking to ensure that excessive risk taking is not incentivised. All these are important improvements to the system of financial regulation. It is not just about the Council for Financial Stability, important though that part is; it is about the rest of it too.

Q 26

Photo of John Howell John Howell Conservative, Henley

You have accepted that this is an important part of the Bill, but do you not accept that it undermines the Bill if we are left with a huge amount of uncertainty about one of its major planks? There is this black box in the middle and we do not know what it is in it. I am not even sure that the Treasury knows what is in it. It would be interesting to see whether there has been any modelling of how it will work in a real-life case and whether that could be presented to us. That would allow us to trace through what the new council is doing and how it will contribute to financial stability.

Ian Pearson: I do not agree that there is a black box. We are building on the best bits of the standing committee structure, ensuring that we have a Council for Financial Stability with clear terms of reference and pursuing through discussion and co-ordination an agenda that ensures that the council can work effectively as a body. That is the key thing. It is not a black box. It is the key players who have an interest in financial stability sitting round a table, meeting, formally assessing risks to financial stability and collectively discussing how they co-ordinate action that needs to be taken, given their respective roles and responsibilities. That seems to me to be what you would want of a system of regulation, monetary policy and financial and economic decision making. You would want that network to be together and working well. That is what the Council for Financial Stability is designed to achieve.

Q 27

Photo of Lindsay Roy Lindsay Roy Labour, Glenrothes

With permission, Mr. Gale, I should like to go back to the team analogy. If responsibility is not clear, there are issues about the effectiveness of intervention and action. My fear is that, by default, we have an own goal. How will this ensure more effective teamwork and more rigour in terms of impact? I think that an exemplar or a case study might help us to understand how this will operate.

Ian Pearson: Let me try to add a little to what I have said about the Council for Financial Stability. The key differences between the Council for Financial Stability and what we had previously are really to do with the fact that the council’s responsibilities are laid down with a high degree of formality compared with the standing committee structure. The transparency with which it will operate in most circumstances—I say “most circumstances” because there will be some examples where it would not be in the interests of financial stability to disclose actions that are, or may have been, taken—its accountability to Parliament and the fact that it will be subject to proper parliamentary scrutiny are all important. They are the major differences between it and the current standing committee structure. Again, I know people want one person to blame for all of this, but it is not as simple as that. When it comes to financial stability, the Bank, the FSA and the Government all have a responsibility. We simply need to make sure that we have the most effective way of co-ordinating that. In our view, the Council for Financial Stability will be an improvement on the existing structure, so we believe that that is the right thing to do.

Q 28

Photo of William Bain William Bain Labour, Glasgow North East

Clauses 1 to 4 require the council to produce an annual report for Parliament. Are there any other means by which greater parliamentary accountability can be secured? What specific criteria will Parliament be able to use to assess the performance of the council to determine whether it is achieving its goal of greater financial stability?

Ian Pearson: Certainly, as you rightly say, there is a requirement for an annual report in clause 3. I have no doubt that the Treasury Committee will want to scrutinise the work of the Council for Financial Stability. It is clearly not for me to suggest to that Committee what its work programme should be, but I would be very surprised indeed if that was not a major part of what it wanted to do. I would be very open to exploring whether there are other ways for Parliament to make sure that it has the capacity fully to scrutinise the work of the Council for Financial Stability. The council has to produce a financial stability plan and I would expect the Treasury Committee to scrutinise that. We could look at other ways for the council to be scrutinised as well. What is already in the Bill is an improvement on the existing structures, which are certainly not as transparent as those that we are proposing.

Q 29

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Is the problem for the Minister delineating the respective responsibilities of the three bodies involved, because there are a number of factors that contribute to financial stability? We can argue that the Treasury has responsibility for macro-economic policy. Clearly, the FSA has little impact on macro-economic policy, but it is the prudential supervisor of the Government’s arrangements for individual institutions—the  Treasury is not. Is that not part of the problem with which the Minister has yet to grapple? Is it about trying to say that those are the powers that you, as an institution, have to tackle financial stability and that that is the area in which you can be held to account? The Bank of England was given the financial stability objective in the Banking Act 2009. I do not think that it was given any additional powers in the Act to enable it to fulfil that objective. It was certainly given responsibility for payment systems. The actions it can take to tackle financial stability relate to a limited range of options and to its own remit. The challenge for the new council is to say that this is what you, as the FSA, are responsible for on delivering financial stability; this is what the Treasury is responsible for on delivering financial stability and this is what the Bank is there to do. I do not think that the Government have got to the point where they are able to articulate the different areas of responsibility of the different tripartite authorities to deliver that objective.

Ian Pearson: You are right to say that what we have got is a structure in which Government have responsibility for macro-economic policy, an independent financial regulator has responsibility for prudential supervision, and an independent central bank has responsibility for monetary policy. What I am trying to explain to the Committee is that financial stability cuts across all those areas of responsibility. That is why we all have an interest in ensuring the stability of the financial system. It is absolutely right that the FSA and the Bank have got their own clear aims, responsibilities and duties. I do not think it is right to say that the Bank of England was not given new powers. It was given new powers for resolving failing banks as part of the Banking Act 2009, which we debated.

The debates that we had at that time were about the different roles and responsibilities, which can sometimes be a bit difficult to comprehend. We need to understand that the UK system has an independent financial regulator, an independent central bank and a Government finance Ministry—the Treasury—that all have different responsibilities. We also need to understand that all three of those bodies need to play their part in ensuring financial responsibility. I do not think that that is conceptually a difficult thing for people to comprehend. We need to make sure that we all discuss potential risks to financial stability. That is what the CFS will do as a body, and it will do it in a more open and transparent way than the existing tripartite standing committee arrangements.

Q 30

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

But if the threat to financial stability was a consequence of the Government’s macro-economic policy, there is not a great deal that the Bank of England or the FSA could do about it. If that was the cause of the instability, they would both object to sharing responsibility for it.

Ian Pearson: I do not want to speculate, but if the Bank took that view, I am sure that it would want to make it known to the Government. One of the features of the new system is that that would be minuted and made publicly available.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

But it would not feel that it had responsibility for financial stability where the cause of that instability was Treasury policy.

Ian Pearson: We are getting hypothetical. I need to drag you back to the point that all three bodies have an interest in financial stability. All three have to be round the table discussing financial stability and risks to the stability of the financial system. They also need to discuss, where necessary, how to co-ordinate the actions that need to be taken. I think that anyone would reasonably expect that to happen. I simply do not agree with the argument that there is not clarity about roles and responsibilities. There is clarity. It is very clear what the Government do, what the Bank does and what the FSA does. The fact that they need to work together on a regular basis is something that we are very clear about, and the fact that that needs to be transparent and structured is one of the reasons why we want to set up the Council for Financial Stability.

Q 31

Photo of Colin Breed Colin Breed Shadow Treasury Minister

I want to move on to the FSA. We have covered the CFS quite a lot, and I suspect that that will form a great deal of debate when we look at the Bill.

Ian Pearson: So we have done clauses 1 to 4!

Photo of Colin Breed Colin Breed Shadow Treasury Minister

Under the FSA, we are talking about an intensive and intrusive approach to supervision. Would that include on-site inspections both in the UK and abroad? If so, are the resources currently available to the FSA capable of undertaking such work?

Ian Pearson: Certainly, the phrase that you use is something that Adair Turner has said about how he wants the FSA to act. It is clearly up to the FSA as an independent regulator to decide for itself what information it requires and how that information is best obtained. I would not want to say to the FSA that it has to collect information in a certain way. It is up to the FSA to manage its own resources. I am certainly not aware that it has told us, as the Government, that it does not have the necessary resources to do the job.

Q 32

Photo of Colin Breed Colin Breed Shadow Treasury Minister

I am aware that those away with the Select Committee last week looked very much at the regulation of banks in Europe. There they were very keen on on-site regulation in both home and host branches, which is very intrusive. It is very demanding in resource terms both in the numbers of people, the costs and everything else. As for the United Kingdom FSA, bearing in mind the sheer number of bank branches both in the City and other parts of the country, it would be a quantum leap in the amount of work that it would have to do. Is that what the Minister expects as part of the new supervisory regime at the FSA?

Ian Pearson: It is the responsibility of the FSA to decide how best to undertake its supervisory functions, in what form it requires information and whether that requires the on-site collection of it, or whether it will be through the normal system of requests and reporting of information. That is a decision for the FSA, but it must have confidence in the quality of information that is being supplied. It will obviously want to make its own assessments of that, and find out whether there is a risk of its being provided with information that it is not entirely accurate. It, of course, has powers to do all the things that you are talking about, and it has to make its own judgment of how best to exercise them.

Q 33

Photo of Colin Breed Colin Breed Shadow Treasury Minister

If the FSA has to exercise its own judgment, what body will decide whether that judgment is correct? Will it be the Treasury or the Council for Financial Stability?

Ian Pearson: At the risk of getting back into a debate that we have had for some time and as I have tried to explain, the FSA has its own clear responsibilities just as the Bank and the Treasury do. When it comes back to the broader point about financial stability, everybody shares an interest in ensuring financial stability, but each organisation has its individual responsibilities. As an independent financial regulator, it is the responsibility of the Financial Services Authority to ensure that the companies it regulates are not taking excessive risks and are operating under the terms of their authorisation by the FSA.

Q 34

Photo of Celia Barlow Celia Barlow Labour, Hove

In terms of the introduction of recovery and resolution, do you agree that it is too important an issue to fail? What is being done to ensure that it will not fail? Do you think that it will trigger significant structural change?

Ian Pearson: Recovery and resolution plans are an important feature of the Financial Services Bill. They are sometimes called living wills. We believe that it is right—indeed, it is a decision that has been welcomed—that we ask banks to ensure that they have such plans in place. A lot has been made about the fact that banks are complex organisations. We can have a debate about Glass-Steagall if the Committee wants to go in that direction, but we are trying through recovery and resolution plans to have, in effect, an operating diagram that will enable the tripartite authorities to take action if a bank gets into difficulty. It is very much a new area, which is why work is being piloted at the moment in relation to recovery and resolution plans. That is one way in which we are addressing the too-big-to-fail argument.

Q 35

Photo of Celia Barlow Celia Barlow Labour, Hove

You say that it will be a tripartite responsibility, but will the FSA be able to instigate structural change in the banks and do you have a time scale for that? I refer to the banking sector rather than individual banks.

Ian Pearson: Certainly the authorities see recovery and resolution plans and tougher prudential requirements on systemic firms as part of a key policy that is comprehensive and will deal with systemic risks. If you like, there are four parts to this. There are strength and market discipline, through better corporate governance, policies on remuneration in the Bill with enhanced prudential supervision by the FSA, including requiring systemically significant firms to hold high levels of capital. There are stronger resolution arrangements through the recovery and resolution plans and improvements to the overall framework. It is a package overall.

On time scale, as you know, the Bill allows the FSA to introduce the plans gradually and in a proportionate and risk-based manner. We are legislating to ensure that the key firms are targeted first, which is why the Bill specifies that the FSA must make rules for firms covered by part 1 of the Banking Act 2009—that is, banks and building societies in the first instance. On the detail, rules on plans for those firms will be prepared by the FSA in 2010, expanding to other firms at a timetable set out by the Government by order.

I mentioned the pilot project that the FSA is undertaking. It is currently working to an ambitious timetable with a small number of large UK banks, with the intention of producing draft components of recovery and resolution plans by mid-2010.

Q 36

Photo of Andrew Love Andrew Love Labour, Edmonton

With your approval, Chairman, I would like to look again at the FSA and robust action as well as picking up on the issues that we have just talked about. The Bill will allow the FSA to adopt an intensive and intrusive approach to supervision, but there are some concerns about its track record. Some people highlight the fact that it is funded through a levy on City institutions and most of the staff are people who go back and forth in the City. There is, therefore, some concern that they are perhaps not as entirely independent as necessary to get the type of robust action that we see in the United States, for example. Has any of that been a concern for Ministers?

Ian Pearson: I simply do not agree with the argument that the FSA is not taking robust action at the moment. It is. It is right, of course, to make the point about how the FSA is funded and the fact that some people will be seconded to the FSA and some will be recruited. That is true, but it does not prevent the FSA operating as an independent financial regulator and doing so in a robust way. From the chairman, chief executive and board right down through the organisation, the FSA is taking a more intensive and intrusive approach to regulation. The impression I get from the conversations that I have with people in the City is that they feel that they are being watched closely.

Q 37

Photo of Andrew Love Andrew Love Labour, Edmonton

Let me press you on that. I strongly welcome the statement made by the chief executive of the FSA about it taking a much more robust view. I will raise two issues. First, the FSA was very late in agreeing that there might be an adverse impact to short selling, although it did eventually. Secondly, on insider trading, we are seeing robust action in the United States, while the FSA has a lamentable record on insider trading, which according to all the figures that we see continues to be a daily occurrence. I do not underestimate the challenge of bringing people to justice, but it seems that the United States is rising much more to the challenge than the FSA has done. I am interested to see if the FSA will make effective use of its new powers to ensure that we get the sort of robust regulation that there is in the United States.

Ian Pearson: The practice of short selling is not necessarily market abuse. It is a normal technique that is used in the industry and should not be put in the same sentence as insider trading.

Q 38

Photo of Andrew Love Andrew Love Labour, Edmonton

Let me explain. Generally, most people in the industry consider short selling a positive feature of market activity. However, I think it is also accepted that when it is being done comprehensively by many institutions it can have a negative effect. That negative effect seemed to be very late in impressing itself on the FSA, which continued to argue for a long time that short selling was a positive feature of the market place. That is all I would say. The FSA seemed to reflect the City point of view rather than make a rather more independent judgment about the impact of short selling. As the FSA will be given new powers in the Bill to deal  with short selling, I assume the Government accept that in certain circumstances negative effects can occur from short selling and would want the FSA to intervene. I want to be reassured that the FSA understands that argument and will robustly intervene when it feels it necessary.

Ian Pearson: You are right, Andy, to say that in the Bill we are providing new powers for the FSA to prohibit or require disclosure of short selling. We are doing that because we believe that in certain circumstances short selling could exacerbate market instability and pose a risk to financial stability. I want to make a distinction between the power we are giving to the FSA and the general practice of short selling, which is not illegal and is an established market practice. There has been some concern that we are placing short selling in the market abuse section of the Financial Services and Markets Act 2000. I want to be clear that what we say in the Bill on short selling—through new part 8A to the FSMA—is entirely separate from the section on market abuse. Short selling is not market abuse but it could, in the wrong circumstances, pose risks to financial stability.

On the point about insider trading, that is an illegal activity and we would expect the FSA to root out illegal activity.

Q 39

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

May I ask about the recovery and resolution regime? We have a regime in which the Government will not be in a position to put in money to keep a bank afloat if it gets into trouble. Once the measures come into effect, will things such as the deposit protection scheme, the special resolution regime and living wills be sufficient to deal with bank failure in future or will indemnities, guarantees or indeed direct investment still be required?

Ian Pearson: What we are trying to achieve through recovery and resolution plans is a way of dealing with the moral hazard problem and the too-big-to-fail argument, and provide a way if action is needed to take it in a clear direction because we understand the links among different parts of an organisation’s business. That gives us a more effective way of ensuring successful resolution that does not damage financial stability. Clearly, the preferable course is to ensure that there is a timely warning when a bank gets into difficulty, so that action can be taken without the need to look at recovery and resolution plans. There are still the tools of the special resolution regime as part of the Banking Act 2009. Recovery and resolution plans—and resolution plans clearly—will benefit the tripartite bodies when they are making decisions about the operation of the special resolution regime, if a bank gets into difficulties in the future. Clear recovery and resolution plans will help the future operation of the SRR.

Q 40

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

So, you believe that this sends a clear signal to markets that, with this in place, there will be a proper process to wind down or restructure banks in the event of financial problems, so they should not necessarily expect banks to be bailed out by the Government in future.

Ian Pearson: The recovery and resolution plans are almost, in my mind, a manual for surgery. They will enable a surgeon to take action to carve out the bad bits of a business and take appropriate action, while maintaining the good parts to ensure the overall health of the body.  That capacity is there through the recovery and resolution plans. I do not want to speculate on how they might get used but the intention is that they are like an operating manual. They enable effective action to be taken.

We understood the huge problems that can be caused by the collapse of an organisation such as Lehman Brothers; with all the different relationships, it has taken an incredibly long time to understand the transactions, let alone the linkages between them. Having recovery and resolution plans will enable decisions to be taken on action in the event of companies getting into significant difficulties and that action being needed. But clearly the best thing will be for them not to be in that situation in the first place.

Q 41

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Indeed, but given the complexity of some of these institutions, the operating manual is not something that could be written on the back of a fag packet. Presumably, it will be quite a complex document. What sort of cost has been estimated? What is the cost to institutions of drawing up these living wills?

Ian Pearson: I am not sure whether there are any costings available. Obviously it will depend to some extent on the size of the institution involved. If I can get any information, I will certainly make it available when we come to deliberate on the Bill in Committee.

What we are trying to achieve through the recovery and resolution plans is to have a way of identifying key relationships, so that we can reduce the impact of firm failure, and to ensure, as far as we can, that firms do not require extraordinary support from Government in the future. That is clearly part of it. If we can take action that limits the impact of firm failure, perhaps we will not need to take some of the big decisions that we have had to take in the past.

Q 42

Photo of Charles Walker Charles Walker Conservative, Broxbourne

What will be the mechanism for reporting the risk? All this seems to revolve around risk—identifying and pricing it. It seems that the British Government and other Governments bailed out a lot of banks because banks could not handle or understand where their risk resided in their financial instruments. What would be a mechanism for people in regulatory authority to identify the level of exposure to risk that banks have?

Ian Pearson: You are right, Charles, to say that we have spent a lot of money supporting the banking system in the United Kingdom. I do not need to cite the figures—I think everybody recognises it. And you are right to point out that some banks took excessive risks. That is why we have this Bill, with the clauses on remuneration and the strengthening of financial regulation—the whole package that is in the Bill. Clearly, when you are talking about individual risk, it is the responsibility of the Financial Services Authority, as the independent financial regulator, to look at the risks of the individual businesses that it authorises under the Financial Services and Markets Act 2000. When it comes to risks to financial stability as a whole, the Bank, the FSA and the Government all have a responsibility to look at those risks, as I tried to explain earlier.

Q 43

Photo of Charles Walker Charles Walker Conservative, Broxbourne

I suppose my concerns rest on the fact—I think that my colleague, Mr. Love, highlighted this—that you have these increasingly complex financial  instruments being invented by whizz kids, only they are not whizz kids because they do not really understand their own creations and inventions. That was part of the problem. Will it be the case that the FSA, or the regulatory regime, will say, “If we do not understand how these financial instruments work, you will simply not be allowed to trade them”? If we do not understand how they work, we cannot identify the level of future risk that the UK taxpayer will be exposed to if they all go incredibly wrong and this sort of leverage pyramid begins to crumble away again.

Ian Pearson: There are a number of things that I want to say in response to that. The first thing, which I think we should always remember and never lose sight of, is the fact that responsibility for assessing risks in a business should lie, first and foremost, with the managers of that business. Quite frankly, some of the management in the banks that got into difficulty was poor in doing that, or reckless in not properly taking account of the risks to its business. I also think that on top of that, shareholders have a responsibility to ensure that their investments are being properly run by competent managers. There have been some issues there and things that we can discuss. There is also an issue about whether there has been adequate financial regulation and assessment of the risks of the business as well by the independent regulator.

You tempt me to talk about product regulation as well when you talk about whizz kids designing products. As you are aware, we tended to focus not on product regulation but on regulation of the business as a whole and look at risk in the context of the risk to the business as a whole. There are certain instances where it would be right to look at the regulation of individual products. Also one of the lessons from the past couple of years is the need to look at the risks inherent in some business models as well. I am not sure whether in both those areas these were adequately and properly assessed either by managers, shareholders or, indeed, the regulator.

Q 44

Photo of Andrew Love Andrew Love Labour, Edmonton

The research paper provided by the Library explains how these RRPs would ensure that banks have the protection of other financial institutions and that as part of their business planning they

“should produce plans that would show how, legally, administratively and financially they would plan for a severe financial crisis and ultimately, how they would arrange for the company to be wound up”.

That seems quite onerous. While I understand that these plans will be vetted and agreed with the FSA and so the associated costs are difficult to highlight at the present time, you must have some idea from the discussions that have taken place of the likely drawbacks of placing such onerous conditions on these institutions. Are you confident that those drawbacks will not be so severe that they have a negative effect?

Ian Pearson: I do not have detailed costings on how much work will be involved in preparing recovery and resolution plans. We have sufficient information to make a judgment that this is the right sort of policy, which is why we have recovery and resolution plans in the Bill. Our experiences in the past couple of years show that we need to find a way of addressing the moral hazard problem. We need to find ways in which we can reduce the impact of firm failure. We think that recovery and  resolution plans could do that. My understanding is that the FSA will consult on the cost-benefit analysis of recovery and resolution plans when it makes it rules as it normally does as part of its rule-making process. So those costs will be looked at in more detail and identified. I am very confident that this is the right policy to adopt. The detail of how it is implemented will be a matter for the FSA, but it will consult on the costs.

Q 45

Photo of Andrew Love Andrew Love Labour, Edmonton

Let me ask two questions relating to that. One of the big concerns—not at present, but looking into the future—is that there might come a time when the debate between the industry and the FSA will be on what the level of effective regulation ought to be, and that the industry will say, “This cost-benefit isn’t working for us; you need to reduce the cost to make it beneficial.” That, of course, leads to the road that we went down in the lead-up to 2007. Are there any concerns in relation to the regulator maintaining its line in ensuring that the benefit that comes from this is worth the costs that it is going to incur?

Ian Pearson: We have been very clear as a Government that there must be no return to business as usual. We have, I hope, all learnt the lessons from the crisis in financial services both globally and in the UK. We cannot return to regulating in the same old way as before. That is why recovery and resolution plans, along with the other changes proposed by the Bill, really mark a step change in how we regulate financial services in this country. I do not therefore think that it will be a case of returning to the old days, and I do not think that the FSA is likely to think that these plans are not necessary and that they can be sketchy and not particularly detailed. We need a level of detail that enables action to be taken if firms get into difficulty.

I appreciate the point about whether, when we get to some point in the future and we have not had a banking crisis, we will all forget about it, and whether these plans should continue to be updated. My response is that we need to be continually vigilant. We want to make sure that the FSA, as an independent regulator, maintains that level of vigilance. I do not want to go back over old ground, but I think that the Council for Financial Stability offers us a formal structure to ensure that we continue to be vigilant on the issues.

Q 46

Photo of Andrew Love Andrew Love Labour, Edmonton

May I press you? One of the themes that always arises from any change to financial services is the concern that it will place us in some form of disadvantage internationally, because the City will no longer be able to compete with New York, Shanghai, Tokyo and so on. Are you confident that there is no disadvantage in the Bill to the RRPs and that they will not be faced by other, equivalent financial services centres? Are you also confident that such scrutiny internationally will not again lead to the argument that we need to reduce the cost, because not as much is being done internationally and the restrictions being placed are not as onerous as ours?

Ian Pearson: We want to have world-class financial regulation in the UK. We also want the world to have world-class financial regulation. That is an absolute requirement, such is the interdependence between banks in the financial system. We are very much leading the way with the FSA’s pilot project on recovery and resolution plans, but the G20 has agreed that systemically important  firms should have developed internationally consistent recovery and resolution plans by the end of 2010. What we are doing in the Bill is introducing the powers to make sure that that happens, but we are also working with our international partners on the detail of the recovery and resolution plans.

We are leading the way in many respects; everybody else is going down the same route. I do not therefore think that the problems that you rightly identify as a potential risk actually exist in this instance. We need to get to the stage where we have world-leading financial regulation in the UK up to the best international standards. However, we need to ensure that those standards are consistent and are also applied across other jurisdictions. Our work with the G20 is all aimed towards that. There is a high-level consensus that recovery and resolution plans need to be put in place. We now need to work within that consensus on making sure that we collectively get the detail right and have the standard applied consistently.

Q 47

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

May I change the subject somewhat? The Bill includes some ground-breaking measures on consumer protection. Conscious that we are finishing shortly, I would like to raise a few questions on those measures. On the proposals on collective proceedings, given that the financial services sector is quite heavily regulated, in the sense that you have a regulator, a compensation scheme if firms go bust and an ombudsman to deal with individual complaints, what is missing in the regulation that requires collective proceedings?

Ian Pearson: We see the collective proceedings provisions contained in the Bill as a back-stop for an important opportunity through which individuals can get redress collectively. You are right to point out that the FSA already has some wide and strong powers to benefit consumers without requiring any form of collective proceedings or redress scheme. Certainly, where claims are generic or numerous, there may be no advantage to people being asked to opt in—you will be aware that there are proposals in the legislation for the ability to opt in and opt out. However, having a way of ensuring some sort of collective redress, without going down the litigious route of class action that you see in the United States, benefits citizens on consumer protection.

Q 48

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

There are two separate issues here, are there not? The first is litigious, which is the collective proceedings route, but consumer redress is a different issue. You said that collective proceedings is a back-stop. What has the regulator failed to do? What is missing from its powers that require consumers to go down the litigious route, either individually or, in this case, collectively?

Ian Pearson: As I said, the FSA already has considerable powers, but there is a view out there—representations have been made to the Government—that a form of collective proceedings can help in some potential cases where there are numerous complaints on the same theme and where an individual may need to go to the courts to get redress.

Q 49

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Should not the FSA be given greater powers, rather than require consumers to take the product provider to court? Should not the FSA get greater powers and be expected to tackle the issues, rather than rely on consumers to take legal action?

Ian Pearson: As you will be aware, there are powers contained in the redress part. The FSA also already has some wide-ranging powers. However, with all such things, it is a matter of saying, “Yes, it’s right that the FSA should have the powers to take action where something that is clearly to the detriment of consumers is taking place”, and I would expect that to happen. However, I do not think that we should close off the legal route. It already exists under the existing system—individuals have the ability to go to court to seek redress. The legislation provides for a collective way in which that could happen. If you are making the point that the FSA needs to act in some of these areas as well, I do not disagree.

Q 50

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Is the argument that the FSA failed to use its powers fully?

Ian Pearson: No, that is what you are saying. It is certainly not my view. What we are doing, though, is novel. Individuals have always had the right to go to court if they feel that a particular grievance on a financial services issue has not been dealt with in the normal way. You will be aware of a number of instances when that has happened. If there are lots of those examples, the ability to have a representative body that undertakes an action on behalf of individuals is a useful addition to the existing system. However, I would not want to say that this is the key method by which individuals who believe that they have been wronged can achieve a solution. You would expect in the first instance appropriate financial regulation and normal complaints procedures and for such things to be dealt with. That is why I called it a back-stop. You would not expect this power to be used very frequently.

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Very infrequently or very frequently.

Ian Pearson: You would not expect the power to be used very frequently, but it is right that it is there. It should be seen as more of a back-stop—more a measure of last resort, rather than one of first instance.

Q 51

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

You described this as novel. Would applying the measure across the consumer sector not have been more appropriate than restricting it simply to the FSA and financial services?

Ian Pearson: That is certainly something that could be considered.

Q 52

Photo of Mark Hoban Mark Hoban Shadow Minister (Treasury)

Why is such a novel approach being adopted in this sector and not on a broad-brush basis?

Ian Pearson: In the first instance, we believe that it is appropriate for the measure to cover financial services. In other parts of people’s daily lives there are other ways for them to get redress through the court system if they have complaints. But I want to stress that we are not talking about a system that will give US-style awards or be a vehicle for ambulance-chasing firms to round up lots of people and say, “We’ll do a class action on your behalf and take a cut.” That is not what this is about at all. The “loser pays” principle will apply in part, but certainly nothing in the legislation is about US-style punitive awards. In general, the measure should be seen as novel, yes, but also as giving an additional set of rights, so that collective proceedings can be undertaken, which would be a more effective solution for a number of individuals who together think that they have been financially wronged.

Q 53

Photo of Colin Breed Colin Breed Shadow Treasury Minister

Do any of the proposals under consumer protection address the current confusing division of powers between the Office of Fair Trading in respect of consumer credit and the FSA in respect of other consumer affairs in relation to financial services?

Ian Pearson: I do not agree that there is confusion about the remits.

Photo of Colin Breed Colin Breed Shadow Treasury Minister

There is in the minds of consumers.

Ian Pearson: There may be confusion among some consumers, but from talking to the people in the FSA and the OFT, they are pretty clear about what they each do. We are doing two things in the legislation. There is legislation on collective proceedings, and the other consumer protection measure is about the consumer redress scheme.

Q 54

Photo of Colin Breed Colin Breed Shadow Treasury Minister

The FSA is now responsible for educating the public and will undertake new powers. Why is it not now more appropriate to give consumer credit regulation and supervision to the FSA, taking it away from the OFT, to make it an entirely clear body to undertake issues on behalf of consumers?

Ian Pearson: First, to pick up on the start of what you said, the Bill is creating a new consumer financial education body. The FSA has been responsible for education, but that will be conducted through a new body in future.

Photo of Colin Breed Colin Breed Shadow Treasury Minister

That new body will have to tell consumers to go to the OFT in certain respects.

Ian Pearson: There is an architecture at the moment: the OFT has certain responsibilities and the FSA has others. It is quite legitimate to probe boundary issues between the FSA and the OFT, but I will not say that those are not part of the Bill.

Q 55

Photo of Colin Breed Colin Breed Shadow Treasury Minister

So you are content that the current architecture and the involvement of the OFT is appropriate on a regulatory, supervisory and consumer protection basis?

Ian Pearson: I am certainly content that we have legislation in the Financial Services Bill that is aimed at improving financial regulation and taking key measures to better enhance consumer protection. I am not pretending that the Bill, as I said, is the last word on either of those  two broad issues. We should always consider areas where there might be boundary issues, but the Bill reflects the Government’s view on the immediate priorities that need to be addressed.

Photo of Roger Gale Roger Gale Conservative, North Thanet

Order. It will have to be a brief question if you want to speak, Mr. Howell.

Q 56

Photo of John Howell John Howell Conservative, Henley

On collective redress, can you tell us to what extent the proposals take into account the emerging situation in the green paper that has been produced by the European Commission?

Ian Pearson: My understanding is that, under the collective redress scheme, the FSA will ask firms to carry out a review of their past business where it appears there might have been a legal or regulatory breach. The scheme’s rules will set out how the review must be undertaken, including the standards against which a firm’s conduct must be tested and how redress is to be determined. The FSA may require firms to provide it with information to enable it to monitor whether firms are implementing the scheme correctly, and it will have powers to carry out investigations and/or appoint a third part if necessary. Consumers who are not satisfied with that approach can take their case to the financial ombudsman’s service for independent adjudication to ensure that the rules have been followed. We do not believe that there is any conflict between the proposals and European law. You referred to the green paper, which sets out some early thinking by the Commission on collective redress. My understanding is that no proposal has been put forward, but the Commission clearly understands that it is an important area. We want to take action now rather than wait for any EU action later down the line. We think it likely that any EU action would complement rather than conflict with this provision.

Photo of Roger Gale Roger Gale Conservative, North Thanet

Order. I am afraid that brings us to the end of the time allocated for questions for this morning. I thank the Minister on behalf of the Committee for giving his evidence this morning.

Ordered, That further consideration be now adjourned.—(Mr. Mudie.)

Adjourned till this day at Four o’clock.