Examination of Witnesses (Questions 2380-2399)|
26 FEBRUARY 2009
Q2380 Mr Tyrie: You are proposing
a second tool.
Mr King: The second tool is really
about credit as a whole and not about asset price bubbles, where
I think it is very hard to be confident that there is an asset
price bubble, and anyway you only have one instrument. Using interest
rates, using the bank rate, is not, in my view, the appropriate
tool to deal with concerns about asset price bubbles or concerns
about the growth of credit. I think you can design an instrument
to deal with the growth of credit. I think it is harder to do
that with asset price bubbles, though I do accept that it may
be worth debating. I do not want to form a judgement on that today
but I know some people have said, given what happened, maybe we
should just put some real obstacles in the way of mortgages in
excess of 100% loan-to-value ratios being granted. That goes back
on the idea of free and open capital markets and individuals making
their own decisions about how much to borrow and lend, and it
may not be the right thing to do.
Q2381 Mr Tyrie: But you are going
to give us an early paper on this second instrument?
Mr King: We will give you a paper.
I do not want to commit to a date now but we are thinking about
these issues and we will come back to you on it. I do think this
is part of the really important debate that we have as a country
about what kind of financial system we should have. I do think
that one of the benefits is that we must use this to learn some
lessons. Rapid expansion of what appears to be a highly profitable
industry, paying massive salaries, was damaging. It sucked in
large numbers of young people from other professions which could
not offer the same kind of compensation, under the illusionand
it has now been seen to be an illusionthat these bonuses
could be paid for ever. That will adjust itself of its own accord
now. People will go to other careers. The financial sector will
not be as big and it will not grow as rapidly. So we have time,
I think, to try and think through how to prevent our successors
facing this problem. I do not think you on this Committee will
face this problem again. I do not think I will face this problem
again. It will be the next generation, and we need to leave behind
some clear institutional memory of what happened and what lessons
we drew, just to give them some ammunition to resist the calls
that will inevitably come 15, 20, 25 years down the road: "Those
fuddy-duddies in 2009, they all got over-excited about financial
crises, they put blockages in the way of the expansion of the
financial services industry and we must remove that." It
is handing on to the next generation some of the lessons that
we have learned from this crisis.
Q2382 Chairman: Governor, I was going
to ask you about the over-dependence on the financial sector and
the rebalancing of the economy. You have made statements about
that before and I think your answer ties into that issue.
Mr King: Yes.
Q2383 Chairman: As a Committee, we
want to look at the issue of rebalancing as well.
Mr King: Well, we are coming back
to you in a month's time.
Chairman: Exactly, so that will be very
Q2384 Jim Cousins: Mr Haldane, I
wonder if I could take you back to a very interesting point you
made right at the beginning, that you saw a distinction between
assessing risks and imposing a requirement to control those risks.
You drew a very good clear distinction between those two things.
Could I ask you if you think that they are two different roles
for regulatory and supervisory authorities to have?
Mr Haldane: The current institutional
apparatus clearly assigns those two distinct roles to two distinct
institutions. That is certainly true. That is to say, it is not
the Bank that currently exercises control over the regulatory
apparatus. I think, as the discussion has gone on to second instruments,
were regulatory policy to have an explicitly systemic or macro
prudential as distinct from micro prudential dimension, then that
begs the question about whether the macro analysis could not be
brought together in one place with a macro regulatory instrument.
I think that would be easier to achieve if there were this second
Q2385 Jim Cousins: Mr Haldane, let
me be clear about this. That points to the fact that you see the
assessment of the risks and the deployment of the controls to
deal with those risks being dealt with by a single institution.
Mr Haldane: I think that is one
potential configuration. I do not think it is in any way, shape
or form the only one that could be made to work. If you are to
have a tool that is serving a macro prudential systemic role,
it is likely that the Bank, by dint of its role in assessing macro
risks, would have some influence, some judgement to bring to bear
on the implementation of that tool. Whether that tool is actually
in the Bank's hands I think, as the Governor has said, is an issue
for another day. I think first base is establishing, first of
all, that there is a case for such a tool, and I think the emerging
consensus is that there is; secondly, what operational form that
tool might take, on which I think there is a lot of work to be
done to get underneath what would be a suitable instrument, and
how that instrument should best be calibrated to achieve its end
objectives; the third question is who does it, and in some ways,
for me, it is the least important of the three. I think establishing
first, that there is a case and second, what form that rule should
take are sensible next steps.
Q2386 Jim Cousins: That is very interesting.
Mr Tucker, I wonder if I could ask you, would you visualise, in
the deployment of a future control, yet to be designed, that control
having to apply to a category of enterprises or banks, or could
it be deployed in the case of a single bank? That would affect
the design of the sort of control you would have.
Mr Tucker: I think it is quite
hard to envisage the application of controls that have not been
designed. I do not mean that as a cheap shot.
Q2387 Jim Cousins: The decision about
whether the control applies to a category or a single institution
will affect the design.
Mr Tucker: The debate is about
categories of institutions, and that goes precisely to the point
that the Governor, Andy, and Andrew Tyrie as well, have made about
the international dimension. Because, as the Governor said, sometimes
the credit cycles across the world will not be synchronised but
sometimes they will. The short answer: the question is about categories
of institutions. The other thing I would say, if I may, is that,
first of all, I think this is a first order issue and it is absolutely
vital that our generation of policymakers nails this. It has been
around as an issue since the mid-1980s and it comes and goes as
an issue. This time I hope it will not slip away: that we will
resolve this time whether or not it can be operationalised or
not. The second point I would make about it is that it is absolutely
vital that we, the regulators, and you, do not become fixated
that this is some kind of silver bullet. Financial stability policy
is not like monetary policy. Your successors in 20 years' time
will not be talking about one instrument that has been found to
solve the problem of financial stability. It is of its essence
a whole series of levers. Some of them micro prudential, some
of them may be macro prudential, to do with the credit cycle.
Some of them are to do with the design of the capital markets
infrastructure. Some of them are to do with accounting rules.
Some of them are to do with insolvency law. All of these things
need to be in place in order to ensure the system is stable. The
third thing I would say, if I may, is that one of the glaring
lessons of this episode is that when the authorities, domestically
or internationally, identify fault lines in the financial system,
things that will matter if very low probability but very big impact
events occur, then it is vital that those fault lines are addressed.
Examples would be mono-line insurers in the United States, money
market mutual funds, the role of Fannie and Freddie. This episode
would have been slightly, somewhat better if those fault lines
had not existed. But none of them is to do with the macro prudential
instrument that we are discussing. The reason I go through that
is that while we absolutely must pursue what you and Andrew Tyrie
and others have been talking about, and I am extremely keen on
that and have talked about it publicly, we absolutely must not
become fixated with the idea that it is some kind of cure-all.
We will have to operate on lots of fronts, "we" being
the plurality of institutions domestically and internationally.
Q2388 Jim Cousins: Governor, do you
see future controls that we are now discussing as being symmetrical
in the same way that monetary policy is, that is to say, that
they could involve increasing lending at certain points as well
as requiring perhaps a reduction of exposure?
Mr King: Yes, and I think that,
in a sort of de facto way, that is where we are, in that at the
same time as regulators around the world are talking about the
long-run need to raise capital requirements, they are also stressing
very clearly that capital requirements now, if anything, should
be lower to enable the banks to use a buffer between the capital
that they have and the minimum that they have to keep as available
to underpin lending. Anything that is thought of as a countercyclical
approach is bound, I think, to have an elementnot of perfect
symmetry because cycles do not form perfect sign waves but certainly
cases where you would be tightening capital requirements at one
part of the cycle and easing them at other parts of the cycle
in order to prevent an unnecessarily large reduction in lending
by the banking system.
Q2389 Mr Cousins: I just want to
ask a question of fact essentially. You will be aware that the
Committee has had handed round the outline of the Asset Protection
Scheme, and I have not had a chance to look at the absolute detail
but you made it clear that you thought there should be a rigorous
audit of the underlying assets before the Asset Protection Scheme
Mr King: Not quite. What I said
was that before the details of the actual value of the assets
and the price to be paid for them are determined, this needs to
be done, and that is exactly what is happening, as I understand
it, that the Treasury has started on the process of this rigorous
audit, they are part of the way through it, they have not yet
completed all of it but it is still importantand I did
stress thisthat the actual underpinning of the balance
sheet you put in place now, so that the Chancellor has underpinned
the balance sheet of the Royal Bank of Scotland, but precisely
what this will mean in the future depends on the assessment of
the evaluation that will continue to take place over the next
few months. Mr Bailey has been very close to this because he has
been involved. We have not seen the final details. This was decided
Q2390 Mr Cousins: On the understanding
that that is happening, there is this very important issue raised
by my colleague, Sir Peter. In the case of RBS, a lot of the assets
that are going to be protectedin fact, probably the great
majority of themare outside UK jurisdiction so how does
the Treasury carry out an audit of assets that are beyond its
Mr Bailey: You have to take what
I would describe as a whole bank approach to this, and that is
what the bank's own auditors have to do. They have to audit the
whole bank. The Treasury will not be using the bank's own auditors
to do this precisely for the point that the Governor made that
this has to be independent but you have to do exactly the same
thing. To get RBS to the point where it is stable, its future
is clear and it can start to undertake the lending commitments
that it has entered into, you have to look across the whole balance
sheet. You cannot say, "We are not going to look at that
because it is somewhere else in the world." This is a bank
that, of course, went on a global strategy. I think you will find,
from the announcements that the Chief Executive has made today
that that strategy will of course change but we inherit the assets
that we inherit and therefore we have to deal with all the assets.
There is just no choice on that matter.
Q2391 Mr Todd: There are lots of
uncomfortable moral messages in this crisis. We highlighted earlier
the fate of one pensioner. Some other pensioners who did what
would seem the prudential thing of making savings for their retirement,
early retirement in some cases, have found themselves losing out
substantially as interest rates have fallen. They have ended up
as rather innocent victims in this. What sort of message do we
give to people who are taking personal prudential action?
Mr King: I have immense sympathy
for people who were engaged in saving and acted prudently, which
was everything that we would have wanted them to do and they,
and millions of othersit is not just savers who have lost;
many people who worked for Royal Bank of Scotland were not receiving
the multi-million pound bonuses that the senior management were,
they did not decide the strategy, but it is their jobs that are
going now. There are millions of people who are being affected
by this downturn. Some of it you can link to individual decisions
in banks, some of it is the consequences of a very sharp, sudden
and serious worldwide downturn. For all of those people I have
Q2392 Mr Todd: I understand that,
but you will appreciate the longer-term implications of some of
the moral messages that we are handing out at the moment.
Mr King: Can I go back to the
point I made in the January speech? I referred there to what I
called the paradox of policy at present. Everything that we are
doing now in order to stop the downturn and to get back to normal
is absolutely opposite to everything that we know we should do
in the long term. That does not mean to say it is wrong. It means
to say we have to explain to people why it is that collectively,
if we all started to save now, we would be worse off in the short
run. It is important that we get the economy back on track again
and then, at that point, we can turn to implementing the moral
messages about the need to save.
Q2393 Mr Todd: That is a really complicated
Mr King: It may be complicated
but it is crucial.
Q2394 Mr Todd: I am not saying it
is wrong but I am just saying it is one that we need to express
consistently and clearly, and I do not think the media helps us
to do that.
Mr King: I will redouble my efforts
to try to explain it, and it is very important that people understand.
In the long run we will all, as a nation, need to save more. We
need to reduce our borrowing, but if we now move to that position
too quickly, we will merely exacerbate the speed of the downturn.
Q2395 Mr Todd: Agreed. Can I ask
about the future of banks in private ownership? They are inherently
unstable. I think we all accept that and there is an argument
for saying that RBS, with its minority private stake, has a rather
confused and complex future ahead of it. Do you take the view
that there is a long-term future for private-sector ownership
Mr King: Banks engage in significant
amounts of maturity transformation by borrowing short and lending
long. It is that that creates the instability, not whether they
are owned privately or publicly. They would be just as unstable
if they were owned publicly. Of course, knowing that there would
be some underpinning is important, and that is why, even with
privately owned banks, you would have a framework in which the
government offers deposit insurance to prevent bank runs and provides
regulation and supervision in such a way as to ensure that the
banks do not take too many risks and ultimately will have to underpin
the banks of those that are central to the functioning of the
economy. I do not think that is an issue about private versus
public ownership; it is a question about how we can ensure banks
are able to engage in sufficient maturity transformation to yield
economic benefits without taking excessive risks.
Q2396 Mr Todd: One of the difficulties
of getting a consistent picture of asset values is the dispersed
ownership that is there. The model in Scandinavia was easy, of
setting up a bad bank, because virtually the entire banking system
ended up in the state's hands.
Mr King: I think they had the
same problems in many ways as we face now but on a smaller scale.
Their banks lost enough that they were no longer viable as institutions
without public-sector support. They needed a period of restructuring
and then they were floated back into the private sector. If you
take the case of Germany, where the banks were in the public sector,
even there both the owners and the supervisors did not know about
the offshore activities of some of the activities of their banks.
Q2397 Mr Todd: Would you perhaps
concede if there is a private sector future for banks that the
corporate governance models of banks will need to be redesigned
in the circumstances of our current knowledge? Some of the discussion
we had, and I do not know whether you heard it, of the different
governance models that applied to HSBC, Santander in its governance
of Abbey, and the banks that are now causing us the greatest problem
produced interesting differences in the way in which they chose
to govern themselves. Are there experiences that we can seek to
apply as a legislative framework for banks if they are to remain
in private governance?
Mr King: I find it very hard to
believe that a particular process of corporate governance is going
to guarantee people behaving prudently.
Q2398 Mr Todd: But it may happen.
Mr King: It certainly helps, and
there is no doubt that there are elements of corporate governance
which it is worth reinforcing to make it more difficult for one
or a small number of individuals to engage in massive risk taking
but in the end what we have to have is a culture in which people
on boards are willing to stand up and saytake Dennis Weatherstone,
who ran JP Morgan. He basically said to anybody who worked in
JP Morgan, "You've got 15 minutes to explain this new instrument
to me. If I don't understand it after 15 minutes, we are not doing
it." It is the willingness to be tough and not to get sucked
into the culture of saying, "The other banks are doing it.
We must take part as well." That requires great strength
Q2399 Mr Todd: To take a classic
example, which I am sure you will have followed, was the debate
about risk management within HBOS and the models that were applied
there and the individual appointments that followed from those
models. Perhaps we need to look harder at how banks govern risk
themselves and set clear criteria for how to separate executive
and risk functions.
Mr King: That is certainly part
of it but I think it goes beyond that. I remember even after August
2007 receiving pretty strident comments from people in the industry,
and indeed elsewhere, about the importance of not disturbing the
distinctively British model of banking of wholesale funding. That
model of wholesale funding was in large part responsible for the
degree of risk that was incurred, yet, because it was seen as
the key to success of the expansion of the City of London, large
numbers of people thought this was a good idea and woe betide
anybody who stood up and argued against that because they were
seen as being disloyal to the need to see the success of the City
of London. It is difficult in those circumstances to expect people
to stand up and argue against something which has become conventional