Banking (No. 2) Bill [HL]

My Lords, in February this year, as time was finally called on Northern Rock, we were presented with a Hobson's choice. After months of dithering we were rushed into passing the temporary Banking (Special Provisions) Bill, which went through both Houses of Parliament in just over three days. Today, this House has the opportunity to examine how Britain's banks became so poorly regulated and supervised, and to propose measures which we hope will restore respect, trust and confidence in our banking system. My noble friend Lord Smith of Kelvin emphasised the word ““confidence”” in his superb maiden speech, and he spoke with the authority of an experienced banker and a fellow chartered accountant. When I first started my business, I was introduced to a well-known businessman who told me something which I will never forget. He said, ““Young man, empires are built on trust””. What we have today results from the complete breakdown of trust—the breakdown of trust in the global banking system and on the high street. I have said it before, and I shall say it again: business is at the heart of Britain's economy, but business cannot function without a robust, reliable banking system. It is the fuel that powers the economic engine. The British banking system—both commercial and investment—was once the pride of the world. I am not being nostalgic when I say that the Bank of England was the most respected central bank in the world. It was instrumental in helping this country evolve from being one of the world's greatest trading nations to London becoming the world's greatest financial centre. Historically, the City of London, with the Bank of England at its heart, was built on trust, and on the assurance of ““my word is my bond””. Sadly, the reforms that took place in 1998, with the best of intentions, unwittingly weakened the role of the Bank of England and undermined its once proud reputation. Before those reforms the Bank of England had been a bastion of our capital and financial markets. For centuries it served as a shining example to central banks around the world with its tough, fair and effective regulation and supervision of Britain's banks. With a close eye on the markets, the Governor of the Bank of England could draw on a reservoir of executive power and, with a telephone call, summon the chief executives of any bank around the discussion table. I have heard stories of bank chairmen and chief executives, after being summoned by the Governor of the Bank of England, sitting there, if necessary, until the early hours of the morning, to resolve a problem or crisis. The governor was respected. In contrast, we now have a governor who more often than not fights with his hands tied behind his back. Where did it all go wrong? The situation we are in today—people have tried to analyse it—is a direct result of a prolonged period of low interest rates that have encouraged countless households and businesses to take on staggering levels of debt. Where they led, the Government followed, and our national debt is so colossal that it may be paid off only by our children and our children's children. As the noble Lord, Lord Saatchi, who is not in his place, said, in this period the banks overgeared by miles. As the noble Lord, Lord Blackwell, said, for every pound of capital on the balance sheet, the banks were, on average, balancing between £33 and £35 of risk. As the noble Lord, Lord Peston, explained, banks have always had, and will always have, significantly less cash and liquidity than the claims they ultimately face, but that ratio was grossly exorbitant and utterly reckless. Gone were the days of the prudent banking practices of having strong deposits on which to base, and on which to lend, and on having healthy margins. We need to go back to basics. This Bill has to identify who will regulate and supervise our banks after this downturn: the FSA, the Treasury or the Bank of England. I regret the day that we stripped the Bank of England of its power. In 1998, we all applauded the Government's decision to create the independent Monetary Policy Committee. As a committee, immune from government interference but for its composition, this group of nine individuals could act proactively and reactively to try to ensure economic stability. With a healthy target of 2 per cent inflation, the MPC proved a resounding success for almost a decade. It seemed to function so smoothly, but while the Government had strengthened the Bank of England's power to regulate the economy, at the very same time, they had dismantled the Bank's ability to regulate and supervise the nation's banks. The tripartite system has undermined the Bank of England in its crucial role as supervisor of the banking system. It did not make sense, and it still does not make sense, to have the FSA responsible for banking supervision. It lacks the accountability, transparency and, most of all, capability to supervise our banks. The direct line from the banks to the governor was shattered. The lines of responsibility, accountability and authority all became blurred. The Northern Rock fiasco exploited this situation to the fullest. We know that as far back as 2006 the FSA classified Northern Rock as a, "““high impact bank under close and continuous supervision””." Despite that, the FSA did not plan an impact assessment of Northern Rock—wait for this—until January 2009. That is a full three-year delay. It has been said time and again that the FSA was asleep on the job. Worse still, at the end of June last year, when Northern Rock finally admitted that it had serious problems, instead of taking decisive action, the FSA relaxed the technical requirements on the bank, allowing it to free more assets. That was sheer incompetence. Where was the Bank of England as this drama unfolded? The first warning the governor received from the FSA regarding the potential impact of the credit squeeze on Northern Rock was through a telephone conversation as late as August 2007. The Bank of England was then left trapped in no man's land, caught between its dual responsibility to provide liquidity support and to secure financial stability. The tripartite system, a merry-go-round in the NICE decade, descended in a crisis into a despairing blame-go-round. I am pleased that the Bill attempts to institute new powers to deal with failing banks through the special resolution regime and the insolvency and administration procedures. However, the Bank of England, not the FSA, needs the explicit statutory power to bring a firm subject under the new special resolution regime. As the proposed system stands, we are still hostage to the FSA's questionable ability to diagnose failing banks and over-reliant on the opaque lines of communication among the tripartite bodies. Nevertheless, I am delighted by the proposal to place on a statutory footing the Bank of England's central objective to ensure financial stability, and I welcome the proposal for a financial stability committee. However, I am surprised to hear that it will take the form of a sub-committee of the Court of the Bank of England. The reason the Monetary Policy Committee worked so well was because it was independent. The financial stability committee needs the executive authority, independence and power properly to support the Bank in its objective of achieving financial stability. Reasserting the Bank of England's primacy would capitalise on its specialised knowledge and would more effectively integrate the financial stability and institutional stability objectives of the tripartite system more than any amount of tinkering. There are a number of issues that the Bill fails to address. As the noble Lord, Lord Saatchi, said, much of the responsibility for the sub-prime crisis lies with the credit rating agencies that continued to award AAA ratings for parcels of repackaged sub-prime mortgages that in all truth neither they nor the banks understood. Those ratings were misguidedly based on past mortgage failure rates of under 5 per cent rather than on an assessment of the true quality of the underlying assets. The Bill has to address the relationship between credit rating agencies and the banks. Who is commissioning these agencies, and who is paying the fees? There are huge conflicts of interest here. Furthermore, there is the issue of the Treasury. What faith can we have in its supportive role to provide direction for the FSA or the Bank when time and again its economic forecasting has proved so incorrect? For example, in April this year, the Treasury was forecasting economic growth of between 1.75 per cent and 2.25 per cent for 2008 before picking up to between 2.25 per cent and 2.75 per cent for 2009, and that was forecast after the sub-prime crisis had begun to unfold in the previous year and after the collapse of Northern Rock. Now we realise that in the third quarter of this year, within a few months of the Treasury's forecast, the economy is actually contracting. How could it get it so wrong in just a few months? This behaviour brings into question the Treasury’s credibility. I have learnt through building a business that you have constantly to turn threats and obstacles into opportunities. With the Bill, we have the opportunity to rebuild the Bank of England to the strength and standing it had before. We have the opportunity to ensure clear responsibility, accountability, transparency and communication between the Bank of England, the FSA, the Treasury and our nation's banks. We have the opportunity to rebuild respect, trust and confidence not only in the Bank of England, but in our financial markets, which have been crippled by this current crisis. Although I am concerned that it has taken so long for the Bill to come before Parliament—it is almost a year since Northern Rock was nationalised and a year and half since the sub-prime crisis exploded on to the world stage—I hope that it is better late than never and not too late. As I said in February, and I say again, the eyes of the world—and I mean not just the Germans—are on us. At stake is more than the reputation of a Government or the future of any single bank. At stake is our position as one of the leading financial centres of the world; at stake is the reputation of the United Kingdom; and at stake is the very essence and stability of our entire economy.