Banking Bill

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Mr. Gauke: I am grateful to the hon. Gentleman. I had seen an earlier version of the amendment paper. Two separate amendments had been tabled and both appear to be in the final printed version. The hon. Gentleman is absolutely right, which is a great pity. At least let me discuss what I was intending to do.
Mr. Todd: Which one are you going to speak to?
Mr. Gauke: It is difficult to argue for amendment No. 46 over No. 47—they both have their merits.
Ian Pearson: And the same flaws.
Mr. Gauke: As the Minister says—they both have their flaws. I shall move on to the purpose of the amendments tabled, albeit not put on the amendment paper correctly. Amendment No. 46 essentially says that one may only make an order if the system is eligible under the settlement finality regulations.
Actually, there is a subtle difference between the amendments. The amendment paper is correct and I apologise for suggesting that it was not. If the hon. Member for Southport looks carefully, he will see that the distinction is that amendment No. 47 states that a system may only be recognised if it “has been designated” as opposed to “is eligible for designation”. I apologise for being slow and for suggesting that an error had been made.
To be fair, technically, amendment No. 46 has its weaknesses. The schedule to the settlement finality regulations sets out requirements that must be satisfied for a system to be designated. It might be better if amendment No. 46 referred to that schedule rather than simply saying “is eligible”. We are seeking to explore whether the designated regime in the settlement finality regulations is likely to cover the types of entity that could be at systemic risk and whether those entities will benefit from the insolvency protection law. We could give systems greater control over whether they fell under the recognition regime. There is no particular voluntary system, but those entities that are going to be systemically important are likely to fall within the settlement finality regulations already.
I can move on, if you would like, Mr. Hood, to raise other points on clause 171, but I am happy to leave it there, having raised the issues of whether the two systems could be run together and of whether it would cause unnecessary uncertainty, contradiction or complication to have both recognised and designated systems. Whether through these subtly different amendments or other methods, the Government should find a way of simplifying what may be an unnecessarily complex system.
11.45 am
Mr. Bone: The amendment draws out an important issue and touches on what I said at the beginning about a general principle—how do we define a system that will have systemic failures? How do we know which systems are brought in? We are talking about a system that already has some designations. Looking at the clause, I wonder whether it would have been better if the Government had stopped at clause 171(1), which gives them the insight to be able to make the decision on their own. To have subsection (2)(a), (b), (c), (d) and (e) is window-dressing, in a way, because it is the first part that counts. I understand that the Government are trying to be helpful, but in reality, if they thought that there was a problem, they would not worry about the rest of it; they would just go ahead and do it. I am therefore not sure that we need subsection (2).
Mr. Newmark: I want to follow on from the point that my hon. Friend has raised. My point also concerns subsection (1), but I take a different view on it. Clause 171 states that the Treasury may make a recognition order only if disruption to operation of the system, or deficiencies in its design, would
“threaten the stability of, or confidence in, the UK financial system”.
I am sure that the Minister will not wait until there is a disruption and that he will be looking for certain red flags in the system which will trigger disruption out there. I am therefore curious as to how he and his advisers will go about trying to recognise a systemic breakdown before it happens. What red flags, which may cause systemic breakdown further down the road, has he been advised may be out there?
Ian Pearson: It would be our intention first to identify systemically important inter-bank systems and for those to be designated. That is not because we think that there is imminent risk of catastrophic failure of those systems, because we do not. However, we think that it is right to identify systems that have critical importance, and the recognition criteria in clause 171(1) and (2) are both important in this respect.
I refer specifically to the amendments. I appreciate that the hon. Member for South-West Hertfordshire says that they are probing amendments. He also says that they may have been inspired by some of the responses to the consultation, where two of the responses suggested that there could be a potential in the recognition criteria to duplicate criteria by which a system can be designated under the Financial Markets and Insolvency (Settlement Finality) Regulations 1999—the SFRs.
The amendments seek to ensure that only inter-bank payment systems eligible for designation, or those that have been designated under those SFR regulations, may be recognised by the Treasury. That limits the scope of the Treasury’s power under clause 171, which sets out recognition criteria. I shall explain why I think that is a bad idea.
First, amendment No. 47, as proposed, would mean that a payment system not designated under the SFRs could not be recognised by the Treasury by order made under this clause, notwithstanding its systemic or system-wide importance. That is particularly significant as there is no obligation for payment systems to apply for designation under the SFRs. The amendment would simply undermine the robustness of the framework that the Government are putting in place, by providing a loophole by which an inter-bank payment system may escape recognition.
Officials advise me that Amendment No. 46 is a moderate improvement on amendment No. 47. Amendment No. 46 offers the alternative words: “eligible for designation”. It is still, however, fundamentally flawed for several reasons, of which I shall give the Committee one or two. Paragraph 1 of the schedule to the SFRs requires the law of England and Wales, or Scotland to be the governing law of the system, whereas clause 168(5) of the Bill provides that an inter-bank payment system, to which this part applies, may include systems that operate wholly or partly in relation to persons or places outside the UK, and may, therefore, be governed by foreign law. Therefore, payment systems not eligible for designation under the SFRs—because they are governed by foreign law, for example—would be precluded from recognition regardless of their systemic or system-wide importance in the UK.
There is also scope for a system to avoid even being eligible for designation. For example, SFRs require systems to define a point after which a transfer cannot be revoked or cancelled by the sender. If a system makes that part of the rules unclear, that system would no longer be eligible for designation. Both amendments would unnecessarily restrict the scope of the clause and limit the inter-bank payment systems that could be recognised by the Treasury. We do not think that they are a good idea.
Amendments Nos. 46 and 47 constrain flexibility and we do not think that they are required. I emphasise that when we consulted on the criteria in July with the document, “Financial stability and depositor protection: further consultation”, we specifically asked whether the criteria set out were right, and whether they would provide sufficient flexibility as payment systems evolved over time. The majority of responses agreed that the criteria were appropriate and that they offered the right degree of flexibility to allow for the evolution of payment systems. Respondents considered the latter point particularly important in terms of future-proofing the legislation. That is why, should the hon. Member for South-West Hertfordshire choose to press amendments Nos. 46 and 47 to a vote, I invite hon. Members to oppose it.
Mr. Gauke: I am grateful to the Minister for addressing the points raised by amendments Nos. 46 and 47. I appreciate his arguments. He did not specifically address the issue of whether a more elegant solution could ultimately be reached in relation to both the designated system and the recognised system, but I see that trying to impose one system on the other would create difficulties. I have one point that is more broadly related to the clause. We have started to touch on the issue of systemic risk, and I should be grateful if we could address that issue in the stand part debate. I beg to ask leave to withdraw the amendment.
Amendment, by leave, withdrawn.
Question proposed, That the clause stand part of the Bill.
Mr. Gauke: My point, which has been touched upon by my hon. Friend the Member for Wellingborough, is on the issue of systemic risk and risk of serious consequences for business or other interests throughout the UK. Earlier, the Minister set out the payment systems that will be recognised under the provisions. He also agreed that we should first look at what systems will involve a systemic risk. It is worth quoting again from the Bank of England document, “Oversight of Payment Systems” from November 2000:
“Systemic risk is likely to be significant only in relation to payment systems transferring amounts which are large in relation to the balance sheets and capital resources of at least some of the members; in practice, this usually means systems used to settle wholesale financial market transactions in money, foreign exchange and securities.”
Does the Minister agree that in clause 171(1)(a), those payment systems where disruption of the operation may
“threaten the stability of, or confidence in, the UK financial system,”
relates to payments that are involved in the wholesale markets? Will the other payment systems to which he referred, such as credit and debit card payment systems, fall under paragraph (b), which is
“to have serious consequences for business or other interests throughout the United Kingdom”?
The point I am trying to draw out is that it is not necessary for a payment system to have systemic risk for it to be recognised under the provisions. I should be grateful if the Minister would confirm that.
I said earlier that the Bank of England has traditionally taken a differential approach to the principles that apply, depending on the nature of what they do and largely on the factors set out under clause 171(2), to which my hon. Friend the Member for Wellingborough referred. We shall probably debate that when we come to clause 171, but the Minister might want to deal with it now.
Ian Pearson: We are discussing clause 171.
Mr. Gauke: I am sorry; I meant when we come to clause 174 on principles and clause 175 on codes of practice.
Even though recognition may apply under paragraphs (a) or (b), the application of the rules and principles is likely to be tougher for those entities where there is a systemic risk under paragraph (a) than those under paragraph (b).
Mr. Bone: Subsection (1) contains the phrase,
“only if satisfied that any deficiencies in the design of the system, or any disruption of its operation”.
Let us consider the airline industry. It might have a design code of practice. The design might be right. There would be no disruption to the operation, but the administration of the airline might be failing to meet the design, with the consequence that something disastrous happens at the end. That is like the banking system: the design might be right, but its administration might be wrong. Why is that specifically excluded from clause 171(1)(a)?
The test falls on two issues, but not a third. The interpayment system might be designed right. It may be operated correctly at the time, but as time goes on there might be a failure in the operation, of which the Treasury would be aware. The Minister may be able to clarify why it is not the case, but there seems to be an omission.
Ian Pearson: Clause 171 states that the Treasury may make a recognition order only if satisfied
“that any deficiencies in the design of the system, or any disruption of its operation, would be likely”
to have consequences of a systemic nature under subsection (1)(a), as the hon. Member for South-West Hertfordshire said, or to have
“serious consequences for business or other interests throughout the United Kingdom”
under subsection (1)(b).
It is not as simple as to say that paragraph (a) means wholesale, while paragraph (b) means retail. “Systemic” could be retail or wholesale. For example, the BACS system has links to retail and is potentially systemic. When it comes to defining which systems are covered by paragraphs (a) and (b), there is no real disagreement within the financial services community.
Mr. Gauke: I am grateful for the Minister’s clarification. He will be aware that I was quoting what the Bank of England said in the year 2000. If the position has evolved since then, so be it. When making a recognition order, does the Treasury intend to make it clear whether paragraphs (a) or (b) apply or whether they will both apply?
Ian Pearson: We would certainly want to operate in an open and transparent manner and, as I have explained, we shall seek advice from the Bank of England and the Financial Services Authority before making such recognitions. I do not think that there will be a lot of contention in that area.
12 noon
I believe that subsection (2) is important, despite the suggestion of the hon. Member for Wellingborough that we focus just on subsection (1). When deciding whether something is systemic or will have serious consequences, it is right to consider the number and value of the transactions processed by the system, the nature of the transactions, whether they could be handled by other systems and the relationship between the system and other systems.
I will explain why those criteria are appropriate. Whether transactions could be handled by other systems is relevant to the consideration of systemic or system-wide importance because the extent and effect of the disruption caused by system failure are likely to be greater if there are no alternatives. For example, CHAPS carries high-value same-day payments for the settlement of sterling obligations in financial markets. No other system provides that facility.
It is important to consider relationships with other systems because such interdependencies could generate system-wide or systemic risks that are not apparent when the system is viewed by itself. Interdependencies might exist operationally or because of the use of a shared liquidity pool, such as the ability to transfer liquidity between CREST and CHAPS. There could also be an overlap in memberships of the two systems. The criteria in the clause will inform the assessment by the Treasury of the systemic or system-wide importance of the inter-banking system and thereby identify whether formal oversight by the Bank of England is appropriate to minimise the risk to the financial stability of the UK.
The hon. Member for Wellingborough also remarked that the issue is not just with the system, but with the administration of the system. I refer him to later clauses, which I believe deal adequately with the points he has made.
Question put and agreed to.
Clause 171 ordered to stand part of the Bill.
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