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Banking Bill

Banking Bill

The Committee consisted of the following Members:

Chairmen: Mr. Roger Gale, † Mr. Jim Hood, Mr. Eric Illsley
Barlow, Ms Celia (Hove) (Lab)
Blizzard, Mr. Bob (Lord Commissioner of Her Majesty's Treasury)
Bone, Mr. Peter (Wellingborough) (Con)
Breed, Mr. Colin (South-East Cornwall) (LD)
Eagle, Angela (Exchequer Secretary to the Treasury)
Flello, Mr. Robert (Stoke-on-Trent, South) (Lab)
Gauke, Mr. David (South-West Hertfordshire) (Con)
Hoban, Mr. Mark (Fareham) (Con)
Hosie, Stewart (Dundee, East) (SNP)
Keeble, Ms Sally (Northampton, North) (Lab)
Newmark, Mr. Brooks (Braintree) (Con)
Pearson, Ian (Economic Secretary to the Treasury)
Pugh, Dr. John (Southport) (LD)
Robertson, John (Glasgow, North-West) (Lab)
Smith, Geraldine (Morecambe and Lunesdale) (Lab)
Todd, Mr. Mark (South Derbyshire) (Lab)
Viggers, Sir Peter (Gosport) (Con)
Wilson, Phil (Sedgefield) (Lab)
Alan Sandall, Mick Hillyard, Committee Clerks
† attended the Committee

Public Bill Committee

Tuesday 28 October 2008


[Mr. Jim Hood in the Chair]

Banking Bill

Clause 167

Question proposed, That the clause stand part of the Bill.
10.30 am
The Economic Secretary to the Treasury (Ian Pearson): It is a pleasure to serve under your chairmanship for this part of the Bill, Mr. Hood. Clause 167 provides an overview of part 5, which enables the Bank of England to oversee certain systems for payments between financial institutions. It might be convenient for the Committee if I outlined what the clause does.
Payment systems are networks for the electronic transfer of money or credit between participating members, linking key financial firms to each other. A typical payment system comprises a scheme company or an incorporated association, members that are mainly, but not exclusively, financial institutions, rules established by the scheme operator covering such matters as settling claims—payment instructions, for example—between members, a system in which members input instructions to transfer payments and, in some cases, a separate, related or unrelated, company providing infrastructure, such as supporting IT systems.
The vast majority of economic transactions involve some form of electronic payment; for example, payment systems include those for the payment of financial contracts, such as derivatives; automated payments, such as direct debits; the system for clearing cheques; and systems used by the Government for benefit payments. In some cases, payment systems are embedded in clearing and settlement systems for transferring securities and other financial products. Payment systems are, therefore, vital to the functioning of financial services, markets and the wider economy.
The interlinkages between payment systems, banks and other financial intermediaries mean that any problems with payment systems have the potential to spread quickly through the financial system, ultimately affecting business and consumers. For example, problems in large wholesale systems have the potential to lead to liquidity difficulties for banks and to contagion in the markets. Problems in retail systems may result in much inconvenience and hardship for considerable numbers of people—for example, if benefit or salary payments cannot be credited to people’s accounts. As such, robust and effective systems for payments are essential to the proper functioning of the financial markets and the economy.
Currently, the Bank of England undertakes oversight of payment systems on a non-statutory basis, focusing on promoting the robustness and resilience of key UK payment systems. The Financial Services Authority has a statutory responsibility under the Financial Services and Markets Act 2000 for the regulation of recognised clearing houses that contain embedded payment systems. The Bank of England’s responsibilities and its operational role as a central bank naturally mean that it is involved in the design, management and operation of high-value inter-bank payment systems, which helps to ensure that those systems are operated in a prudent and effective manner. However, the lack of formal powers, including mechanisms for enforcement, limits the Bank of England’s ability to ensure that payment systems are robust and resilient. For example, the Bank of England’s ability to regulate the operation of systems is largely dependent on what can be achieved through dialogue with the management of payment systems and its assessment of systems’ compliance with international standards, published in the Bank of England’s annual payment systems oversight report.
The Government are therefore legislating to formalise the Bank of England’s role in the oversight of payment systems, to ensure that the Bank has the tools necessary to ensure that payment systems are operated in a manner that minimises risks to financial stability and disruptions to business and consumer interests. The provisions will provide, in addition to an important tool for the maintenance of financial stability, an important new statutory lever for the Bank of England to use in fulfilling its new statutory objective for financial stability, as provided for in part 7 of the Bill.
Mr. Peter Bone (Wellingborough) (Con): The Minister did not explain whether there has at any time been a problem with the systems. Has current regulation ever failed? Has there ever been a problem with the system?
Ian Pearson: We consulted on whether there should be a statutory power for the Bank of England in those areas. The overall response from the consultation exercise was that it was a good idea, which is why we are proceeding with it in the Bill.
The clauses we are to debate follow a logical structure. I hope that hon. Members appreciate the recognition systems and the principles of regulation, and how they will be enforced, if necessary. Clause 167 provides an overview of what we are trying to achieve with bank payment systems by giving the Bank of England a statutory role. I commend the clause to the Committee.
Mr. David Gauke (South-West Hertfordshire) (Con): It is a great pleasure to serve under your chairmanship, Mr. Hood. As this is my first contribution in the main part of the Committee stage, I declare an interest as a non-executive director of a deposit-taking institution—although for clarity’s sake I point out that it is not a payment system or a member of a payment system.
We recognise the potential for systemic risk. The Bank of England and the Government, too, have long recognised the potential for systemic risk from failure within the payment systems. If there is a problem with one there is likely to be a direct and rapid effect on other members. Even if there is no systemic risk, a failure in a payment system may cause considerable disruption to individuals. No politician would want to be responsible for the failure to pay wages and salaries on time.
We are broadly supportive of the provisions but it might be helpful for the Committee if I outlined some of the themes that we want to address during this part of the Bill. As the Minister says, the Bill is presented clearly and logically, which will be helpful to the Committee. We will raise specific questions as we go through each clause, but at this stage it might be helpful to highlight some of the key issues.
The first issue touches on the intervention made by my hon. Friend the Member for Wellingborough. What assessment have the Government made of the existing arrangements? As the Minister explained, the Bank of England has performed an oversight role on a non-statutory basis for some time. As the helpful Library note made clear:
“It should be stressed that, to date, there has been no evidence that existing systems have failed or are threats to future stability.”
Of course, that is not to say that we should not look to make improvements. I note the points about enforcement and so on. This may be one of those cases where the roof is being fixed while the sun is shining, to coin a phrase.
Mr. Mark Todd (South Derbyshire) (Lab): A tired one.
Mr. Gauke: Well, the sun is shining over this particular roof, even if not over most of the roofs nearby.
It would be helpful if we had a sense of how effective non-statutory regulation has been—for example, in the dialogue between some payment systems and the Bank of England. The Bank has given examples of situations in which, through dialogue, it persuaded some payment systems to make particular changes. The settlement finality regulations are part of the existing regulatory regime, even though it is on a non-statutory basis, and we will discuss them with regard to our proposed amendments to clause 171. The regulations provide payment systems with some protection from insolvency law, which could disrupt them, but we will discuss those issues later this morning.
The second broad theme is the objective of the oversight. The Bank of England’s payment systems oversight report for 2004 states:
“The main objective of the Bank’s payment systems oversight is to assess and, if necessary, seek to ensure mitigation of risks to the wider economy—‘systemic risk’.”
I suspect that the Minister will say that one difference is that the Bank states that it will “seek to ensure mitigation”—although of course it could take a stronger line as a consequence of the provisions. However, is the focus on addressing systemic risk? What is the purpose of the regulations?
The Bank of England’s 2004 report further states that
“efficiency considerations also need to be weighed”,
which leads me to a further theme—there can be conflict between safety and efficiency. The Bank put it very well:
“The Bank also recognises that designing and operating a payment system to minimise systemic risk would be counterproductive if the system thereby became so expensive or impractical to use that payment traffic migrated to less safe alternatives.”
The Minister will be aware of that danger. We will be seeking reassurance in the debate that the operation of the measures will not result in a less safe system because banks go elsewhere.
It is notable that the Bank of England has previously expressed, perhaps rather modestly, the limits of its oversight, noting that
“the Bank as overseer, cannot guarantee that there will never be operational failures of payment systems”.
Does the Minister accept that the point applies equally to the new arrangements—it is not about a guarantee, but about doing everything that we can to eliminate risk—or would he go further and say that payment systems will now be 100 per cent. safe?
On the balance between safety and efficiency, concerns have been raised that some of the enforcement provisions, which we will come to later this morning, may be so draconian as to dissuade businesses or individuals from being involved in payment systems. Are the costs for payment systems likely to increase substantially? I want to stress that by raising these questions we are not arguing against the provisions, but we think that these are legitimate questions to put to the Government.
The next theme is the scope of the recognition regime. It focuses on payment systems, but I hope that this morning it will become clearer whether the clause will apply to all payment systems or only to the largest. Will there be a differential application of the principles and codes of practice, depending on the nature of the system? Until now the Bank of England has adopted different approaches depending on the type, number and value of payments made, the design of the system, and the potential substitute means of making payments. It is notable that it has particularly focused on CHAPS and CREST, then at the next level BACS, CLS and LCH.Clearnet Ltd, followed by the Cheque and Credit Clearing Company and LINK and finally debit and credit card systems. Will there still be that differential approach and that flexibility? We will probably debate those matters when we look at the principles and code of practice.
10.45 am
What the provision does not do is focus on payment system members, so it is worth highlighting the role played by some major banks, which settle payments for a large number of other banks. Not all banks are members of payment systems and relatively few of them are settlement banks. As the Bank of England has said, in some respects the largest of the settlement member banks have the characteristics of payment systems.
In some other jurisdictions there is close supervision of payment members; for example, system participants are obliged to provide information to central banks. In the UK, the payment system is required to do that, but in jurisdictions such as the US, Australia, Austria, Hong Kong and Singapore the obligation to provide information applies to participants. Central banks can also set membership conditions in Australia, France, Hong Kong, Norway and Singapore. Will the Minister say a little about that?
Another area of potential risk relates to the infrastructure providers. It is interesting that the Bank of England has highlighted the dependence of all the network participants on a single supplier as the second potential source of risk—the first being the systemic risk of a problem in one payment system migrating to another. In particular, SWIFT, which provides messaging services in support of CHAPS, is used heavily in those circumstances. How will the provisions help us to address that potential risk? I think the Minister will be able to answer that question.
The next theme—familiar to our debates on the Bill—is how the tripartite arrangements will work in this area. Banks, principally regulated by the FSA, are payment system members and play an important role in those systems. The likes of CREST and LCH.Clearnet—recognised clearing houses and investment exchanges—are principally regulated by the FSA rather than the Bank of England. How will the Bank work and co-operate with the FSA? The Treasury will make the recognition orders—we will come to that issue—but how will the relationship between those three entities work? The question that we keep coming back to is, “Who is in charge?” The greater the clarity about that, the better.
The next related theme is the general role of the Bank of England. The Bank has a role as an operator of real-time gross settlement systems—at the heart of the CHAPS system—yet it is also the regulatory body that will presumably supervise CHAPS. How do we avoid a conflict of interest? We support the Bank of England’s performing that role. There are good historical reasons why it should, and the role is central to financial stability. Perhaps in dealing with those points, the Minister will explain why the Government continued to allow the Bank of England to play such a major role in the oversight of payment systems, at a time when, generally, everything was handed over to the FSA.
The final theme touches on the international perspective. It is all very well looking at payments within the UK, but we all know that there will be a huge number of cross-border payments. In those circumstances, how would the provisions that we are debating this morning play a role, and how are the Government working with other central banks and financial institutions to ensure that there is no systemic risk from a breakdown in cross-border payment systems? We must not forget that aspect.
I hope I have been helpful to the Committee in outlining some broad concerns before we turn to each of the provisions in detail. I do not necessarily expect the Minister to respond to each and every one of those concerns now, but I hope they provide a useful summary of some of the points that we hope to raise over the course of the morning. I reiterate that we are supportive of the provisions but, as always, it is appropriate that they have proper scrutiny, and that those who are studying the debate have a better understanding of the intention and practicality of some of the measures that we are debating.
Mr. Brooks Newmark (Braintree) (Con): Like my hon. Friend the Member for South-West Hertfordshire, I shall put down a few markers on some issues that have come to light—not simply from listening to the Minister, but from reading the explanatory notes and listening to my hon. Friend.
Clause 167 imposes a statutory regime on inter-bank bank systems when currently the Bank of England, as I understand it, oversees payment systems on a non-statutory basis. The Government’s position seems to be formalising the Bank of England’s role in creating stability, which has to be a good thing. We have seen the huge systemic risk out there, following the current crisis. The build-up we have before us addresses many of the issues which have been raised, and highlighted, by the current crisis, but it has also sought to address issues that have been raised over a long time. It is therefore a good thing, as is the ability of the Bank of England and the Government to make a quick response to problems in the banking systems.
The Bill will enable the Bank of England to retain power of informal oversight when it considers it appropriate. It is that sort of language that I am trying better to understand: what is “informal oversight” and what does “appropriate” mean? I appreciate that is not the language used in the explanatory notes or the Bill, but it is the language I have heard people use when addressing the clause.
Our party’s position is clearly that formal regulation is a positive thing, particularly when payment systems have a systemic risk. Recent years have seen an explosion in the values and volume passing through them, particularly in derivatives, which many people do not understand. I draw the attention of Members to my register of interest; I have had 20 years’ significant experience in the banking system. One of the problems is lack of understanding, particularly of derivatives, which have caused some of the major problems relating to systemic risk and, as we have seen, the fall-out from that.
The Minister made a couple of points, using the words “robust” and “resilience”, about the system that we are creating. Has he thought about how to stress-test the system to see how robust and resilient it is? He referred to oversight and tools, but I am curious to know which tools he is talking about and what he meant by that term. How will the tools cause “minimum disruptions”—another phrase he used? Which groups did the Minister consult when coming up with the proposal and what feedback did he receive? It is important that we understand which issues were raised and how the clause will deal with them.
My hon. Friend the Member for South-West Hertfordshire talked about the tripartite relationship between the FSA, the Treasury and the Bank of England. That tripartite system broke down over Northern Rock. It seemed as though everyone was pointing the finger at everyone else, with no one taking responsibility. How will the provision fix that situation?
Finally, my hon. Friend referred to the important issue of cross-border relationships. Given that the financial system is global, how do we hope to enforce our legislation on foreign entities over which we do not have as much control as we would like? We can try to fix things in the UK, but how will that deal with systemic breakdowns in other countries?
Stewart Hosie (Dundee, East) (SNP): It is a pleasure to serve under your chairmanship, Mr. Hood.
I want to pick up on the relationship with the tripartite system to which the hon. Member for South-West Hertfordshire referred. The clause describes how part 5 of the Bill enables the Bank of England to oversee certain systems. Later clauses cover interpretation and regulation, but I shall touch on them now because it is important to understand where confusion might arise.
Clause 170 allows the Treasury to impose recognition orders. Clause 172 requires it to consult the Bank of England and the FSA and the orders can, of course, be revoked. Clause 174 covers the regulation principles. The Bank of England publishes them, but it is required to consult the Treasury. Clause 175 allows the Bank of England to deal with the code of practice, which many people might consider more important than the principles because it is the mechanics of the process—the nuts and bolts—but nothing in the Bill says that the Bank needs to consult the Treasury at that point. Under clause 176, the Bank of England—not the Treasury—may require an operator to establish rules and, under clause 177, the Bank of England can give direction. Clause 178 says that the Bank of England must have regard to the action taken by the FSA.
The interpretation and the regulations of the Bill set out a mix or a balance between the action that the Treasury takes and that taken by the Bank of England, sometimes in consultation with the Treasury and/or the FSA, and sometimes not. I am trying to get to the bottom of the Government’s thinking behind why various bits of responsibility have been allocated to the Treasury or the Bank and why consultation is required on certain elements, but not others. I accept that those points touch on subsequent clauses, but I should be grateful if the Minister would explain why the breakdown in responsibility and the particular roles have been allocated in such a way.
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Prepared 29 October 2008