Banking (No. 2) Bill [HL]

My Lords, Second Readings are an opportunity to debate what is in a Bill. However, they are also an opportunity to debate what should be in a Bill but is not. This Bill provides for pre-funding of the Financial Services Compensation Scheme—which has not been much talked about this afternoon—and that is something that may or may not turn out to be needed. However, it does not provide for the other changes that should be made to the Financial Services Compensation Scheme, and it is to those that I wish briefly to devote myself this evening. I want to start with a positive note about the scheme. Two of the big problems are being solved. Paying back depositors if an institution went under used to be jolly slow, but Loretta Minghella and her team did a fantastic job with the Icelandic banks in speeding up that complicated process. It bodes very well for the future speed of compensation. There is another major problem on which I am optimistic. The compensation scheme has a £50,000 limit and therefore does not cover someone who makes a short-term, very large deposit—for example, someone who sells his house and puts the money in the bank—and the next day the bank goes under. At the moment, that person is not protected beyond the £50,000 limit, and that will have been very scary for some people in the atmosphere that prevailed in the autumn. However, without going into detail, I think that that problem will be resolved by the FSA in the near future. However, I am not so confident that the FSA will fix a much bigger defect in the scheme which has been referred to in the debate—that is, the problem of the £50,000 compensation limit applying not per brand but per authorised institution. A few weeks ago, Hector Sants spoke at an all-party meeting downstairs and suggested that it would be solved, but I think that the omens since have suggested a backing-away. Perhaps I may describe the problem, taking HBOS as an example. Let us suppose that you have £50,000 in an account with H and another £50,000 in an account with BOS. You think that you are covered by the compensation limit but if HBOS goes down, other than if the Government take special action, under the scheme you will get back only one lot of £50,000 and will be £50,000 down. At present, the approach seems to be that information will be brought to bear on consumers so that they understand that HBOS is only one authorised institution and that two separate accounts will not be protected. However, I think that that expects an awful lot of consumers. When you open an account, there is enough small print without trying to find out what other banks are linked with the bank into which you are putting your money. So I believe that, if there is to be a limit—I shall come back to that in a minute—it should be per brand and not per authorised institution. I know that there are problems of legal definition in dealing with that, but I cannot believe that, with all the resources of the FSA’s legal department, those problems cannot be resolved if there is a genuine will to do so, and the FSA would alleviate much concern among investors if it did so. I come to the kernel of what I want to say tonight. I referred to a limit on compensation for depositors, but why should there be a limit on retail depositors? I do not necessarily go as far as the noble Lord, Lord Blackwell, in wanting all depositors to have 100 per cent protection but I think that all retail depositors should be 100 per cent protected. I have puzzled over this question but I am afraid that it involves a journey into a very strange world—that of bank regulators. I have known bank regulators for a while, including as an economic journalist. Those who do not know them can be assured that they are not like other people. There are many stories to illustrate this but I can do it most quickly by quoting one magnificent sentence from the regulators’ regulator, Alan Greenspan: "““If I have made myself clear, you must have misunderstood me””." Banking regulators embrace paradox, ambiguity and contradiction. They persuade themselves that in this they have a higher wisdom and that, if it escapes the rest of humanity, that is not surprising. The argument against unlimited compensation that banking regulators come out with is that it would create moral hazard. Those two words in themselves do not mean very much, but never mind—noble Lords will know what they mean. In normal language, they mean that ordinary people must be at risk with their deposits if they put a lot of money into one bank, otherwise they would not have any incentive to check whether the bank was sound or unsound. I find that a very bizarre argument, even coming from bank regulators. The truth is that there is a lot of moral hazard in banking, and there are two lots of people to whom it should apply. One is those who manage the banks because, if a bank collapses, they lose their jobs. I should not say that I am delighted but I cannot help but observe with a certain wry humour that a lot of them are losing their jobs now. They are paying the price of the moral hazard. The second lot of people who suffer, for whom I have more sympathy, are shareholders, who will lose many, most or all of their investments. They are supposed to know what goes on in their banks; if they do not and things go wrong, it is right that they suffer. You have to feel sorry for small shareholders but, if you go into the stock exchange business, you have to be prepared to run the moral hazard of investing in bad companies and, if you get it wrong, losing money. However, the information that shareholders have is vastly better than that available to consumers, and their moral hazard is quite enough to protect against insanity, if indeed it does so. It was not a lack of moral hazard that caused the banks to collapse; as the noble Lord just said, it was a sort of collective insanity that came over the industry. Furthermore, the other main protection against these kind of events is supposed to be the action of regulators. It seems tough to allow regulators to make the appalling mess that has allowed the collapse that is going on at the moment, and then say that depositors should know that bank A is safe and bank B is not safe and, in theory, lose money if they fail to distinguish between the two. It is most unfair on your average punter. However, there is a further twist as we go through this fantasy world of banking regulation. The theory is that you only get £50,000 back, but, in practice, nothing of the kind applies. In practice, the Government have paid out in full for all depositors who lose their money. They have even paid out in full on people who put their money into Icelandic banks, which is pretty extraordinary. To call it generous understates it. When London Scottish went down only a few weeks ago, there was no question of any depositors losing their money. They all got the whole amount back from the Government. So we are here in Alice in Wonderland territory. On one hand, Ministers insist—the Prime Minister himself has done it—that depositors will be compensated in full and simultaneously insist that they are only entitled to £50,000 per authorised institution. Jimmy Thomas, a working-class Minister in the MacDonald Government, once said that if you cannot ride two horses at once, you should not be in the circus. The Chancellor’s position on this is a bit like riding two horses galloping in different directions and this is a trifle demanding, even for a politician. This strange world has practical consequences. Suppose you hear that a bank is rumoured to be in trouble. Maybe you have a deposit there. You start to wonder if you should go down and get your money out before everybody else does. If you believe the Alistair Darling who is riding one horse, there is no reason at all. You will be compensated in full if it does go under, so leave your money there. If you believe the Alistair Darling who is riding the other horse, you had better get down there fast if you have more than £50,000. I will just deal with one counterargument which is used. It is perfectly true that only 2 per cent of depositors have more than £50,000 in a bank, but it is also true that they account for one-third of the total deposits; that is to say that they have quite enough capacity to bring down any bank that may exist. Different European countries have different compensation arrangements, from 100 per cent in Ireland on down. It would be much the best if there were one rule for the whole of Europe, so that deposits and depositors did not become the itinerants of our day, chasing hither and thither in pursuit of maximum safety. However, it would be better still if the one rule across Europe was 100 per cent compensation for all retail depositors. At a stroke, one possible source of potential instability, in these all too unstable days, would be eliminated.