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W B Gurney & Sons LLP, Hope House, 45 Great Peter Street, London, SW1P 3LT
Telephone Number: 020 7233 1935
Mr Tim Yeo, in the Chair
Mr Martin Caton
Dr Desmond Turner
Memorandum submitted by UK Financial Investment Ltd
Examination of Witnesses
Witnesses: Mr Robin Budenberg, Chief Executive and Mr Sam Woods, Chief Operating Officer, UK Financial Investments, gave evidence.
Q1 Chair: Good morning, thank you for coming in. Welcome to this Committee, which is probably new for both of you. This is a one-off session, as you know. We have a close and continuing interest in environmental and sustainability issues and climate change in particular and therefore our interest in how low-carbon technology is being financed at the moment. May I start with a general question? The framework documents and plans for UKFI, which define how you deal with the banks in which the government or public has a very large stake, refer to "creating value for the taxpayer as shareholder". Obviously the value of the shares in the banks is central to that. Do you interpret "value for the taxpayer" in any kind of wider sense? For example, other objectives of government policy are to encourage progress towards a low-carbon economy, would that objective be something which you take into consideration at all in your relationship with the banks where we have a stake?
Mr Budenberg: Except in relation to possible ways such other policy initiatives could lead to increase in shareholder value, no, our focus is very much on value to the taxpayer as a shareholder and therefore we focus on long-term value but value in terms of the share price and how that evolves over time and our ability to exit the shares at a point where value can be maximised.
Q2 Chair: Following logically from that, given that is the aim and the priority, whether the banks are lending or indeed investing in an environmentally efficient way is not really a consideration for UKFI at all.
Mr Budenberg: We are clearly focused on the governance of the banks and there is no doubt in our minds that every well-run company has a very firmly established set of guidelines in relation to corporate and environmental procedures and one of the things we do is to make sure that those are properly monitored and that we are comfortable that those guidelines are not out of line with those of comparable companies. We will focus our action where we feel that the guidelines are acting in such a way as to have a negative impact on value.
Q3 Colin Challen: Exploring this theme a little deeper, is there anything that a bank might do in terms of environmental sustainability that might actually prompt you to take some action?
Mr Budenberg: Again it comes down to the impact on value and that is quite a broad issue because where a company’s reputation is brought into question, that often does have a very direct impact on value. It sounds like a relatively narrow definition of what might make us act, but in reality it is much broader than that. It is clear that companies acting against the spirit of what is considered to be acceptable in these areas can have a direct impact on the perception of those companies and that can often have a direct impact on value.
Mr Woods: Perhaps I might just flesh out a little more what we are doing on a day-to-day basis on this subject. Our policy really lays out two modes of operation. One is what you might call our baseline mode in which we are by default, and that involves us seeking to assure ourselves that companies are taking environmental issues seriously. What we do to get that assurance is to have a number of meetings at working level with the banks. We have also met with the board members responsible for these issues in the banks. We also study the kind of reporting that the banks put out and the principles they sign up to. Our aim in all that is to find out whether the issues are being taken seriously at board level, whether they have credible people working on the issues and whether the policies are being implemented. The other mode, to which Robin refers, is what we would do and how we would know whether the activities of one of our banks in this area is damaging our investment. To that end, we monitor very closely the value of our shares in the banks and their financial results. Broader than that, we also have a very wide series of engagements with other investors or potential investors. We will have our 100th meeting tomorrow with other investors in order to try to find out what is going on in terms of perceptions of the stocks we hold. We also study all the brokers’ reports and market commentary in this area. If those things indicated to us, which I think they would quite clearly if it was the case that what one of our banks was doing in the environmental area was damaging our investment, we would certainly act.
Q4 Colin Challen: I know it is not an environmental example, but the tobacco industry has delivered long-term shareholder value and I think it is doing rather well through this recession, largely through investing in markets in Asia and developing countries. If the state-owned banks invested in those sorts of companies, you would not have any problem with that kind of investment if we also saw similar cases, perhaps in the fossil fuel industry, where they were seen to be operating poorly in developing markets, or would you wait for Greenpeace to come along and tell you to up your game in this field?
Mr Budenberg: We would generally rely on what the policies are that they have in place, making sure that those are commensurate with what one would expect relative to other companies and I think that these are very important parts of companies’ internal governance processes so they are not taken lightly. Our role is not to get involved in individual decisions about whether one of our banks should lend to one company or another company, but it is to make sure that we feel comfortable that the governance in place means that before they make such decisions they take account of all the sensible, necessary issues that they need to take into account.
Q5 Martin Horwood: May I first of all declare an interest? I am an officer of the All Party Group on Corporate Responsibility which works with companies which regard themselves as leaders in corporate, social and environmental responsibility. I have to say that not many of those companies would recognise the description you have just given of an environmentally sustainable approach to investment. It is a very outdated approach just to talk about it in terms of reputational damage, important though that is. Most progressive companies who are leaders in this field would now talk about the importance of being consistent with things like the Stern Report and the UK’s goal of having a decarbonised economy. Do you even recognise that that is an important factor to be consistent with wider societal goals on decarbonisation and climate change?
Mr Woods: We do recognise that but there is a disjuncture which you have to observe which is: what is our job and what is the job of the banks? If you look at the submissions which have come in to you from the banks, which they have disclosed, they talk a lot about those sorts of things. Our job is to manage the investments and in this area it is not just about us looking for reputational damage; it is about assuring ourselves that at the top of the banks, which is where we interact, these issues are on the table and they are being managed properly. That is the approach we take to it.
Q6 Martin Horwood: I have to say that the companies we work with in the All Party Group do not do it for fun; they do it because they think it is in the long-term interests of their customers and shareholders and investors because they think an environmentally sustainable future is inevitable or ought to be worked towards.
Mr Woods: We would agree with that, which is why the overall mandate was very clearly focused on value and it is very clearly to manage the investments commercially. We do take an interest in this topic because we agree with that assessment, that if the companies are falling below the standards people can widely expect there will be some damage to that objective.
Q7 Martin Horwood: And not just to reputation?
Mr Woods: I suppose it could come in a number of ways. Yes, reputation is one but perhaps there could be others.
Q8 Dr Turner: Can we get nearer to the nuts and bolts because we appear to be dancing around this question just a bit with words which do not necessarily mean a great deal? Your website says that you expect publicly-owned banks "… to act ethically and sensibly on sustainability issues". That can be read as meaning that you expect the banks to do precisely what Mr Horwood has just said and that if they do not then you will take action. Can you tell us whether you have identified any areas where publicly-owned banks have not been acting ethically or sustainably? If so, what have you actually done about it and how?
Mr Woods: The answer is that we have not identified any individual instances where we felt we had to act on the environmental front. We have been an extremely active and engaged investor on the ESG issues more broadly and particularly on governance where we thought the business models at some of our banks were unsustainable. We have been very heavily involved in changing the way people are paid.
Q9 Dr Turner: Do you mean bonuses?
Mr Woods: Bonuses; indeed.
Q10 Dr Turner: It does not seem to have stopped them.
Mr Woods: You are right; we have not stopped bonuses. We are ranging slightly wider now but we have to walk a fine line between making sure that the investment we have in these banks is protected and that does mean paying people competitively, while also ensuring that our banks are showing some degree of restraint, given the amount of support they have had from the taxpayer. On environmental issues particularly, we followed the approach that I laid out earlier in response to Mr Challen’s question. I would not want the Committee to think that just because we have not got in there and said to the banks, "You must not do project X because it is outside our remit", we are somehow not doing anything on this agenda, because we are.
Q11 Dr Turner: How do you assess whether the banks are behaving sustainably? Let us take the environmental performance. What is the criterion? Is it whether any out-of-line environmental policies affect share value or is it sustainability issues in their own right?
Mr Budenberg: In our sustainability policy we have a dual test before we say we will take action, which is, firstly, that the bank’s policies are out of line with what the best in class are and, secondly, if, as a result of that, there is a negative impact on the value of the shareholding. As Mr Woods says, we monitor the shareholding very carefully, we talk to a lot of people to assess what is actually impacting on the value of that shareholding.
Q12 Dr Turner: Have you come across any areas of conflict between the banks’ behaviour and government policy?
Mr Woods: There are areas of tension. Our role is the role of shareholder but it is tightly prescribed and, as often arises in government policy, there are sometimes tensions and clearly there has been a lot of discussion in the media about tar sands. Clearly there is some tension between owning a bank which is involved in lending to the industry and government objectives on climate change. I could easily believe that those two things could not be reconciled in a very neat way. Our job is to manage the shareholding in the way that we have described. The sensible way for governments to deal with the issues of climate change is on a cross-sector basis rather than to try to do something very special with one bank in which we happen to have an investment.
Q13 Dr Turner: So, from what you are saying, you lead me to understand that the Government owns banks which are investing in tar sands. Is that the case?
Mr Woods: RBS, which I think is what we are talking about here, has done no direct lending to tar sands projects since 2006. However, RBS is one of the biggest lenders to the energy sector globally and that brings with it some environmental good and for 2008 24 per cent of their lending was to renewable projects. It also brings with it, inevitably given the pattern of energies in the world today, a significant exposure to the oil and gas industry. Any company which is lending to companies who are in that sector will have some indirect exposure to tar sands. The one comment I would make is that a figure of 7.5 billion has been widely reported in the media as RBS’s tar sands figure. I really do not think that is a very accurate representation of what is going on. As I understand it, 7.5 billion is the totality of their lending to companies which have exposure, direct or indirect, to tar sands and in fact a very small fraction of that will probably be going into tar sands.
Q14 Mark Lazarowicz: As part of the financial rescue package for the banks, what conditions have the Government placed on the operations of the banks? Were they restricted just to remuneration remits and business targets or were they wider than that?
Mr Woods: The two main conditions were around remuneration and around lending and those have been quite widely canvassed. There were some other conditions: they were around directors moving on from the board, about us being able to appoint new directors and there were some other small conditions, very much related to the activities of the banks, for instance the publishing of banknotes in Scotland and things of that kind. There was nothing broader than that.
Q15 Mark Lazarowicz: So nothing in relation to environmental or sustainability issues was put in place by the Government or yourselves?
Mr Woods: That is correct; there was nothing.
Q16 Mark Lazarowicz: Has any consideration been given to putting that type of requirement on the banks, given some of the discussions which have been taking place recently?
Mr Woods: You would do best to address that question to the Treasury because they, if you like, do the recapitalisation and we then take the shares once they have been taken into government ownership. That issue did not become a condition. I am aware that in setting up UKFI the Government did conduct a Green Book assessment and looked at whether these factors should be part of our remit or not and decided not.
Q17 Mark Lazarowicz: Presumably, if the Treasury or a government department decided to give a higher profile, a higher standing, to environmental sustainable conditions, you would cooperate on that basis.
Mr Woods: There are two layers to this thing. One is: what is our remit that we are given by the Treasury? That is set out in the framework document and the investment mandate; those are administrative documents. They could be changed if the Government wanted to change them, so clearly they could be changed to incorporate more factors of the kind you describe. There is then another layer for RBS and Lloyds but not for Northern Rock and Bradford & Bingley which is the Companies Act. Under the Companies Act directors have to act in the interests of all members and in doing so they have to pay due regard to CSR issues. I think that is the wording. It is certainly the case, given that we do not own the entirety of these companies, that if we attempted unilaterally to impose a government policy objective through the bank the directors would resist that to the point of resignation.
Q18 Mark Lazarowicz: I understand that and the implications of the Companies Act. Presumably the Government could say that it would expect UKFI to take whatever steps it could to secure the most environmentally sustainable actions on the part of the banks. Something of that nature could be sought by the shareholders and obviously, if the others did not agree, that would be a problem but presumably that could be put in as an objective in some way that you could then operate under.
Mr Woods: Yes; indeed it could and to some extent this has happened in that there is a requirement, which did come from the Treasury, for us to have a sustainability policy, or rather for our board to consider sustainability matters, and we had then chosen to make a sustainability policy on which we consulted the Treasury. That is happening to some extent. You are right to make a distinction between conditions imposed on entry into government ownership and what happens thereafter because the options are wider in the former situation.
Q19 Mark Lazarowicz: So you are saying that more could be done at entry rather than now the Government have shares.
Mr Woods: It is really about the Companies Act in that the directors of the company have to take a decision whether or not to recommend this government recapitalisation to their shareholders. When they do that they can take a rounded view of everything which is being asked for by the Government. In legal terms there is more scope at that point. On the other hand, of course, these recapitalisations have been done in the midst of a very severe financial crisis with the idea of furthering financial stability so I do not think practically that the options may have been very great.
Mr Budenberg: There can become conflicts between what is our primary goal, which is to maintain and create value for taxpayers as shareholders and also fundamentally to sell these investments. If we begin to load too many constraints on the companies such that they perhaps begin to become non-competitive with other people who are not acting under those constraints and also if other investors see that, they will become concerned about investing in those companies themselves, which will have a negative impact on value and will make it more difficult for us to sell our shares. Clearly this is a matter for the Government but there are balances with the fundamental aim that we have been set up to achieve.
Q20 Mark Lazarowicz: Going back to an earlier answer – and I do not want to repeat what others have said – but on that point, is it not the case that you are considering performance indicators for the shareholdings you have which would include environmental sustainability criteria as part of those conditions? Are you not accepting that these are things where you should put in a high priority in terms of what you do in relation to your shareholding?
Mr Woods: We are a new organisation and when we publish our annual report this year we will include some account of how we think we have performed over the year which we hope will be credible. Part of that, and certainly part of my brief from Robin and my board, is to make sure that we have a robust sustainability policy in place and that we have implemented it. That will certainly form part of our wider assessment of how we have done.
Q21 Mark Lazarowicz: Is it not the case that many of the other shareholders in the banks - and obviously they have rights as shareholders as well - particularly other institutional ones, will themselves have quite high environmental requirements now of their shareholdings and to some extent is there not a danger you might act as a drag on what other shareholders might want to see those banks doing?
Mr Woods: You are right, many of them do but, in formulating our own policy, one of the things we looked to was what other investors do, and I think what we have done matches what they have done. I certainly do not think we could in any sense be a drag but what Robin is saying is that in view of our remit it is not appropriate for us to be miles out in front and if the Government chose to put us miles out in front there is probably a trade-off with value.
Q22 Mark Lazarowicz: Is there not a possibility, perhaps not even consciously, that if there is a perspective in the Government and UKFI that the Government want to get their money back in relatively short order your approach to sustainability issues might be different from one where you had a 10-, 15-, 20-year perspective of ownership? Could that not affect your approach to investment? If you wanted to get value and money back more quickly than if you had a 20-year approach, then you might have a different approach to sustainability.
Mr Budenberg: Our sustainability policy is very much in line with other investors who take these matters seriously. It is designed to create long-term shareholder value. It is absolutely not designed to create short-term shareholder value and I certainly have not seen any suggestion that there will be such a conflict.
Q23 Mark Lazarowicz: Do you have a view on whether RBS’s current strategy, which I understand is to reduce its project investment business, will in any event make the bank greener in what it does?
Mr Woods: To be honest, I do not.
Q24 Chair: For some of us who see business as part of the solution to climate change and very much in the lead in creating a more low-carbon economy and infrastructure, and accepting the urgency of the need to decarbonise the economy, an urgency which certainly parts of Government accept as well, there is something intellectually incoherent in a situation where a bank in which the public has a majority shareholding starts to finance, let us say, coal-fired electricity power stations where there is a current controversy about the conditions under which they could actually be built. That might look like a profitable investment in the short term, but in five years’ time regulations might mean it was no longer viable without very substantial investment. I appreciate that you have to work within the brief you have but, looking at it from our point of view, there looks like a sort of incoherence. Here is the Department of Energy and Climate Change saying we have to decarbonise power generation. The Committee on Climate Change under Adair Turner is saying 90 per cent reduction in carbon emissions from electricity powered generation within 20 years. If banks are going round lending to support the construction of new coal-fired power stations, that is directly contrary to that objective. I understand you have to operate within your remit but there appears to be an incoherence about the way all that works.
Mr Budenberg: All I would say is that, based on our discussions and our review of the sustainability policies, particularly of RBS and of Lloyds, we believe they are taking these issues very seriously. They have devoted board level resource to it on a regular basis and certainly what we have heard, read and spoken to them about suggests that they are taking their responsibilities in this area very seriously. If you read Sir Philip Hampton’s speeches, he recognises that what he has received from the Government as a shareholder is very valuable and they have to play a role in society that is commensurate with that. I think that it is the right thing from a corporate governance point of view for these responsibilities to be primarily on board and our sense is that they are carrying out that appropriately and that they are taking account of a wide range of issues in relation to that.
Q25 Martin Horwood: I want to pick you up on two things you said which seemed to contradict each other. At one point you said you wanted to have a best-in-class approach to corporate governance and corporate responsibility and wider investment issues. Then you also seemed to say that you would not want to stick your neck out too far ahead of the pack. Surely, if you are in one case controlling 70 per cent of an institution, if you cannot lead from the front in that situation when can you? I am just trying to draw the distinction between you handling a private portfolio where your private investor had said he wanted to shift away from coal-fired power stations and certainly rule out catastrophically damaging things like tar sands altogether and he wanted to shift firmly into the new green economy, into renewable energy. What is the difference between that and you taking account of government policy, which is in effect trying to say similar things?
Mr Woods: That is a very fair question. When we say best-in-class we mean that we certainly want to be at the front of the pack. It is also definitely the case, because we only have investments in fact now in five companies with Northern Rock, that we do have a greater ability to engage on some issues with the banks and some of the other investors. I have not attempted to calibrate the extent of our engagement on environmental issues against those of, say, Hermes, but I would like to think we do at least as well. It is the case that on some things we have gone a lot further but that has been very much around the governance side of things and that was really because a lot of urgent changes were needed to protect the value of our investment and if we found ourselves in that same spot on environmental issues we would also act more forcefully.
Q26 Martin Horwood: Given that your owner has a particular priority, in other words the UK Government and political society has a particular priority, to avoid climate change and shift the economy in one direction, should you not be reflecting that?
Mr Woods: It comes down to this. What is our job and what is the job of Government broadly? We are not a policy-making body; we are not a regulatory body.
Q27 Martin Horwood: I am not asking you to make it; I am asking you to be conscious of it.
Mr Budenberg: It is clear that we are meant to have an arm’s-length approach to managing these shareholdings, and indeed the Treasury Select Committee has said that it is important that we are not seen to be an arm of government policy in relation to these banks. I think it would be inappropriate to try to make two banks that we happen to have shareholdings in act differently from other banks with whom they are competing because that may go towards a negative impact on value. We absolutely take this role seriously but I do not think that we see that we should be, and certainly we have not been required to be as part of our mandate, an arm of Government in terms of a policy either in this area or in a range of other possible areas which we could also be pressurised to put into.
Q28 Colin Challen: Is it not blindingly obvious that the Government did not want to buy these banks in the first place or recapitalise them, however you describe it, and would like to offload them as soon as possible, hopefully with a return for the taxpayer? That is all they are really interested in. All this talk about sustainability is window dressing. Are we going to look back in a few years’ time and say this is one of the biggest missed opportunities in terms of developing a more coherent approach to sustainability? Do you fear that in 20 years’ time, when perhaps climate change is really beginning to bite, we will look back and think we missed that one?
Mr Budenberg: I actually think that there has been a real change in the attitude of those banks, partly as a result of the very significant changes to corporate governance that we have been part of. There are new members of the board. I would point people to both the chairman of Lloyds and the chairman of RBS who have made it clear that they recognise that they have obligations and I believe, certainly from our discussions within RBS, that there is a very different approach to sustainability now than there might have been within the culture that existed there before.
Q29 Colin Challen: So you are saying that there has been an improvement in this area since the taxpayer became involved?
Mr Budenberg: I think that is more as a result of the change of culture of these banks. They have always taken this side of things seriously but there is now a different group of people in charge who have different approaches.
Q30 Colin Challen: Does this not represent an opportunity? If they were pressed to go a bit further than they obviously seem to want to go, it would end up with the publicly owned banks going a lot further and leaving people like Barclays as the dirty bank that nobody wants to bank with. Why not turn your argument on its head and say that that is the approach to competitiveness and to avoiding this unfair competition from the non-publicly-funded banks?
Mr Budenberg: Again, that is a matter for the boards of the banks who are taking the day-to-day decisions in relation to the running of the banks.
Q31 Colin Challen: Maybe they would want a bit of a push, a bit of a signal. Market signals are what people these days look to the Government to produce, albeit the Government’s policy is not to pick winners, allegedly. That perhaps is something you could raise as an important new development and that would encourage the public to see that the Government were using their money wisely in propping up these banks.
Mr Woods: It is all a question of degree. We do take an interest in this topic and we have done the sorts of things we have talked about today. With regard to RBS particularly, Philip Hampton has set up a new full board sub-committee, chaired by Sandy Crombie, to look at sustainability issues. I am under the impression, from talking to Sandy Crombie, that he is taking that role very seriously. If we had come in front of the Committee and said that our remit was shareholder value, we were not interested in the environment, then what one might perceive as a tension between different government objectives would indeed be incoherent, but that is not where we are.
Q32 Colin Challen: How are the opportunities for a more sector-wide approach? Do you have discussions with people like Barclays and others so that you can maybe coordinate efforts in any way on this agenda?
Mr Woods: That is more a question for the Treasury than for us.
Q33 Colin Challen: So you do not have any discussions with other banks?
Mr Woods: No, we do not; that would be beyond our remit, quite clearly.
Q34 Colin Challen: Is that definitely beyond your remit or do you just interpret it that way?
Mr Budenberg: It is beyond our remit.
Q35 Colin Challen: It is beyond your remit, so that is all part of this hands-off, arm’s-length approach. In terms of that approach, your involvement is with the Treasury but, as this session makes clear, other people, other departments have an interest. Should DECC or Defra have any role to play in providing advice to you or any other bodies? Do you have advice from people like the Sustainable Development Commission, for example, the SDC?
Mr Woods: Our portal into the Whitehall world is usually the Treasury. We do sometimes have dealings with other departments. For instance, in forming our sustainability policy we look to the Treasury to give us some advice because they obviously have many more people and many more people working on environmental issues than we do, so we do draw on that. We have not spent lots of money on buying in consultancy on this topic because we think that we are on top of it. If we needed to, we would certainly do so.
Q36 Colin Challen: Do you provide the Treasury with any feedback on this kind of agenda or do you simply take it as a given exactly what that remit is? Is a proactive discussion taking place on these issues with the Treasury?
Mr Woods: On our remit there is not currently an active discussion. We are taking our framework document and investment mandate as having been fixed for the time being. On these issues more generally, yes, we do talk to the Treasury and we have over the last year or so just in the course of our normal catch-ups which we do every couple of weeks.
Q37 Colin Challen: Have there been any occasions when you felt you had to rein in any actions by these banks which you felt was an inappropriate action, particularly of course in the sustainability field?
Mr Woods: There has been no specific instance on the environmental front where we have had to say we really think that must stop. Have there been areas where we have engaged very strongly to get things changed? Yes, and the things I would point you towards mainly are the fact that the entire board at RBS has changed, that the way people are paid in those banks is very different from what it used to be and, most importantly in a way for us, the way risk is managed is much better than it used to be. I would not claim it was all our doing, but we have been extremely active in that area.
Q38 Colin Challen: Are you just talking about financial risk?
Mr Woods: It is risks of all kinds. In fact, both RBS and Lloyds, as part of their general credit screening process, do take account of environment and social factors as well and if that were not the case we would be somewhat surprised.
Q39 Chair: Would you recognise any similarity at all in the way in which the sub-prime crisis, which was one of the triggers of the difficulties in the banking industry, was actually not that difficult to anticipate? If you lend money to people who have no income, no job and no assets, their difficulties in paying it back will eventually have an impact on the lender. Would you see any similarity between that and the present situation which the world faces where, if we continue to emit increasing amounts of greenhouse gases, the concentration in the atmosphere will go on rising with a very high probability scientifically that will affect the climate? The banks did not react very quickly to the extremely high probability that eventually all these loans would be repaid. Do you think we are in a similar situation in relation to the climate?
Mr Budenberg: I am not sure that is for me to answer. To be slightly flippant, I suppose we are involved in clearing up what happened after the sub-prime thing. I will not say any more than that.
Mr Woods: That is a very broad question. You should see what the Treasury says to it.
Chair: We are going to see the Treasury in a few minutes’ time. Thank you for your help in suggesting these lines of inquiry.
Q40 Dr Turner: It is clear that you do not adopt a particularly interventionist approach in your dealings with publicly-owned banks and certainly not with the wider banking sector. Is this to an extent a function of your resources? For instance, do any of your staff have environmental expertise?
Mr Woods: I am not sure I completely accept the premise and if you called up the banks and said, "Does UKFI get involved with you at all?", you might well get quite a different view on the extent to which we intervene, but we do have to do that within the framework we have been given which is that the boards of the banks are running the banks and we are managing the investments. Our budget has not been a great constraint. There was a deliberate decision, if you like, but it was taken by the UKFI board that UKFI should be a small but relatively senior organisation because we are there to manage the investments. We do not have anyone on our staff with specific environmental training but we do have a member of our team who is responsible for being across issues in the policy space more broadly.
Q41 Dr Turner: Presumably your budget, which we gather is £4.5 million, is essentially just staffing for your body. Things like large share disposals, which will actually incur serious costs, will be borne by the Treasury, will they not? Are there risks in that arrangement? Could you find yourself undertaking disposals which a normal commercial investor would not?
Mr Budenberg: If we felt that we were getting ourselves into a position where we were in risk or under risk of doing something that was sub-optimal because of budgetary constraints around fees, then I am sure we would talk to Treasury and make sure that we did not do the wrong thing just because of an issue around fees.
Q42 Dr Turner: So the Treasury are watching you and you are watching the banks.
Mr Budenberg: Clearly they are responsible for our funding. To the extent that we change the funding requirements set out in our business plan, that will require Treasury approval, yes.
Q43 Dr Turner: If you actually had a desire to intervene more with the banks on environmental performance, does the existing framework document that you work within give you sufficient leeway to do so?
Mr Budenberg: If we wanted to play a role in the active way in which I suspect this Committee would prefer us to play – and I am not saying we are inactive – in a very proactive way, then the framework agreement would need to be changed to make it clear that that should be a significant priority for us, along with other things such as financial stability and competition, which are mentioned in our documents.
Q44 Dr Turner: Your remit is constrained then?
Mr Woods: What we are saying is that it is our remit to engage on these issues in the way that we have described. If we were to go much beyond that, that would probably be inconsistent with the remit we have currently been given.
Q45 Dr Turner: The Treasury is currently consulting on proposals for sustainability reporting in the public sector. As a public sector body yourselves, will UKFI have to produce sustainability reports if the Treasury proposals go through?
Mr Woods: We will do whatever we are asked to do. My understanding is that the preliminary thinking is that because we are very small, only 15 people, we will come under a de minimis cut-off but I do not think that debate has completely landed yet.
Q46 Dr Turner: Would your sustainability reporting include the emissions of the publicly owned banks?
Mr Woods: No, I do not think it would. The Government’s policy on disclosure by companies in which it has an investment – and this is quite a long-standing convention – is that they should disclose what other companies in their sectors have to disclose, which is usual Stock Exchange requirements. We did ask the Government whether that policy was the policy they wished us to follow for the banks in which we are invested and the answer to that was yes.
Q47 Dr Turner: So the publicly-owned banks will not be making sustainability reports in practice. Is that what you are saying?
Mr Woods: They already publish sustainability reports. How those sit exactly alongside what is contained within the current proposals in the Treasury for the public sector I am not totally clear. Broadly the policy is likely to be the same one as it has been for other issues, for instance in relation to disclosure on pay, that the banks should do what all other banks have to do.
Q48 Mark Lazarowicz: I understand the Treasury proposals envisage not just reporting on the direct and the closely associated emissions from their activities but on the whole supply chain and business activity which is associated with a particular operation of Government. I take it from what you are saying that you have no plans to do that for your ownership and require the banks to look at the implications of the whole range of the activities in which we are investing.
Mr Woods: That is right. We do not have such plans. Both are signed up to the carbon disclosure project and we expect them to follow some credible set of principles that other banks are following but there is no intention, at least on our part, to push them into some different space.
Q49 Mark Lazarowicz: My understanding is that the carbon disclosure project does not require them to report indirect emissions.
Mr Woods: I think that is correct.
Chair: Thank you very much. It has been useful from our point of view and hopefully not uncomfortable from your point of view. Thank you for coming in.
Memorandum submitted by HM Treasury
Examination of Witnesses
Witnesses: Mrs Lowri Khan, Director, Financial Stability, Mr Chris Martin, Director, Public Services and Environment and Mr David Lunn, Head of Financial Stability (Coordination and Resolution), HM Treasury, gave evidence.
Q50 Chair: Good morning and thank you for coming in to talk about this. You will have heard the previous exchanges when quite a lot of questions seem to have been referred to you to answer and we look forward to that very much. UKFI has been operating for a year and a half. How well do you think it is doing in supporting all areas of government policy?
Mrs Khan: It is worth stepping back a bit and thinking about why we have UKFI. The decision to provide support to the banking sector and to create UKFI was in response to a crisis situation; the imperative then was to maintain financial stability and economic stability more widely. The shares held by UKFI are basically held for those primary purposes and UKFI has been essentially established in pursuit of those objectives. Its policy rationale is grounded in a specific set of circumstances and our assessment of its performance is essentially against the framework we have set up to govern the organisation which colleagues from UKFI set out earlier. We believe it has performed well but within the terms of the task that it was set up to achieve which has been governed by the particular circumstances and indeed a decision in principle that shares in banks in a crisis situation are best managed at arm’s length and not on a commercial basis.
Q51 Chair: Accepting that that is the context in which UKFI has been established, nevertheless we are in a situation now where the Government, on behalf of the public, control two very large banks and the Government also have certain policy aims which extend beyond just making money out of shareholdings which they happen to have acquired because of a crisis. We are constantly assured that there is a degree of coordination between different aspects of government policy and different departments. Given that is the case, do you think that UKFI is doing everything it can to influence those banks’ environmental performance?
Mrs Khan: UKFI, as they set out, have acted properly within the framework that they have been given by the Treasury. There is a question of balance in interpretation there and ultimately that is a question of judgment. However, they very clearly have obligations as a public body to do as we would expect any public body to do. Do they have any specific remit in relation to environmental matters? The answer to that is no.
Q52 Chair: I do not think any of us probably disputes that they are acting properly and acting within their remit. The question really is: does that remit allow them to do any more than any other bank would do environmentally? If it does not allow that, should that remit be amended?
Mrs Khan: The policy position is in effect that UKFI is there to make sure that the banks are operated in a sustainable way and that they have a sustainability policy to that end. As UKFI set out, there is ultimately a policy tension around whether a body such as that seeks to pursue its core objectives or whether it also seeks to bring into play a broad array of government objectives. There are ways in which that can undermine its primary objective. Ultimately, were UKFI perceived to be placing influence over the banks in which we have a majority shareholding in a way that other investors perceived to be detrimental to their value that would clearly undermine the objective of obtaining value for the taxpayer, so there is a balance to be struck there.
Q53 Chair: From the evidence we have heard so far, the balance looks to me to be tilted pretty sharply in one direction, that the overriding consideration in relation to every possible decision is to maximise the financial return on these shareholdings. Even if those banks were pursuing lending policies which were actively counter to other government objectives, including environmental objectives, you would not see it as appropriate for UKFI to intervene in that because that might in some way inhibit the maximisation of the value of those investments.
Mrs Khan: It is probably unfair to characterise the objective as being maximisation at all cost. There is a sustainability objective within that; it is about creating sustainable value. I would also highlight the fact that in many ways there are other constraints acting on banks, acting on banks generally. Our general stance would be that environmental policy is pursued through a variety of means, not just through the narrow lens of our public ownership of certain shares.
Q54 Chair: What you appear to be saying, and of course it is pursued in a number of ways, is that it will not be pursued at all in relation to the ownership of these banks.
Mrs Khan: It is pursued to a degree and it is pursued to a degree that is consistent with the core objectives of UKFI.
Q55 Chair: Has any consideration been given in the past or now to setting conditions on the type of lending or investment that these banks might undertake in order to make that a greener form of lending or investment?
Mrs Khan: Certain commitments have been made by the banks on lending and the volume of lending but there is no detail within that as to the specific nature of the loans they should make.
Q56 Colin Challen: Do you, or indeed does anybody in the Treasury, know whether or not British taxpayer money is supporting developments of Chinese unmitigated coal plant or, shall we say, Albertan tar sands?
Mrs Khan: We do not take a detailed oversight role in relation to the detailed operations of RBS or Lloyds. Our relationships with those banks are governed by an arm’s-length relationship. We do have UKFI to oversee the investments and those matters and the detail of the banks’ operations are properly a matter for the boards of the banks in question.
Q57 Colin Challen: At every recent United Nations climate change conference since the financial crisis began ministers from all around the world, but not least British ministers, have come to the podium to say that the financial crisis is an opportunity to kick start a green industrial revolution. Would you say that in any way UKFI is contributing to that policy statement?
Mrs Khan: I think it is in the way that colleagues from UKFI set out earlier, which is that it is instilling proper governance in the banks; it is ensuring that they have the risk management and the policy frameworks in place to run those banks in an effective, sustainable manner.
Mr Martin: The test for that is whether we have the policy framework right overall, so we see banks in general, including the banks in which we happen at the moment to have a public stake in, responding to that. If we have the policy framework wrong, in terms of not seeing the investment flows into cleaner energy, low-carbon energy efficiency, then we need to change the policy framework rather than trying to correct it by steering or trying to make these two institutions which we happen to have a stake in behave differently. That is the view ministers have very much taken on how we should approach tackling the issue. If we are discussing the narrow issue of UKFI, ministers have taken a particular view about how we should operate that. We are certainly not complacent at all about how we tackle the low-carbon challenge. You have had many hearings on this and I could discuss it at length. I will not try your patience now unless you want me to. There is a wide policy framework which is evolving, in which the Treasury are very deeply involved, whether it is through the establishment of Infrastructure UK or a consideration that is currently making at the moment about whether there is a case for some kind of green investment institution, our involvement with the European Investment Bank or the energy market assessment which we are jointly conducting at the moment between DECC and the Treasury to look at the overall framework for energy markets going forward. All those are very explicitly about ensuring that we have a framework in the UK that will incentivise investment as undoubtedly necessary to see the transformation we are talking about. A very important part of that is the availability of capital, both at the venture capital end and all the way through to project finance and long-term debt. Absolutely it is a really important agenda. It is just that we see from our perspective that the role is to get the policy framework right rather than interfere in the individual decisions.
Q58 Colin Challen: What I am hearing is that it is absolutely an important agenda except it does not apply here.
Mr Martin: No, it absolutely does.
Q59 Joan Walley: How does it apply here?
Mr Martin: Do these institutions, operating commercially but consistent with good sustainability practice within the sector, see investment opportunities in low carbon in energy efficiency in the UK?
Q60 Colin Challen: I think it is E.ON which owns Kingsnorth power station and they have dropped, temporarily at least, maybe permanently, plans to develop a new coal-fired power plant because they are not sure about the policy framework on CCS. Yet RBS presumably could go to some other country where they do not have any policy framework and invest in unmitigated coal plant. So you have government policy in one respect causing a bit of confusion and in another respect a government-owned bank investing where there is no policy. It seems to me that the whole thing is a complete mess.
Mr Martin: There is a wider debate to be had around global coal emissions. There is also a wider debate to be had around coal policy in this country. If you wish to do something about that then the right thing to do is to change the global regulations or change the national legislation here is the view we have taken rather than try to affect the individual decisions of these commercial institutions which we are trying to run on the basis of maximising the return for the shareholder consistent with wider normal corporate duties.
Q61 Mark Lazarowicz: It is fair to say that although you have this commitment to these wider policy objectives there is no way these are translated into specific instructions or requirements of UKFI for them to pass on to the banks with their shareholdings.
Mrs Khan: That is right. The position was set out very clearly by UKFI that essentially they have a mandate. Part of that mandate is indeed based around having a sustainability policy that is not in a capacity as a direct instrument of delivering the Government’s broader environmental policies. It is, however, expected to conduct its duties in a way which is consistent and promotes those.
Q62 Mark Lazarowicz: As a matter of interest, is this approach one that you take with regard to other objectives which might be defined as not too narrow business objectives in relation to the shareholding, for example, policies on equality, on company boards, policies on industrial relocation? Do you have that same hands-off approach in all these areas?
Mrs Khan: You have spoken to UKFI about how they interpret their remit. We would expect them to behave as an agent that respects and adheres to good practice in these areas.
Q63 Mark Lazarowicz: It does seem to me that the kind of hands-off approach you are taking would suggest a degree of disconnect from what is happening in the outside world which I find hard to believe is the case in the Treasury. People read newspapers; they know there is a debate about tar sands, for example. Surely there must be some point at which somebody in the Treasury is at least raising the question as to whether you should not be doing something about this or do you simply take the view that this is something which you do not ask questions about but leave it to UKFI and the banks to do for you?
Mrs Khan: RBS and Lloyds are very large commercial entities. They have very large loan books; they have a lot of very large investment portfolios. The Government do not take the stance that they can be in there on every transaction those banks undertake and direct those transactions. We do, however, engage through UKFI at the strategic level, as colleagues from UKFI set out earlier. We do set expectations in terms of the way that those entities conduct themselves in accordance with best practice at the strategic level.
Q64 Mark Lazarowicz: This is important because we heard UKFI, probably correctly, do not have a large staff and do not have environmental specialists, so I got the impression that they look to the Treasury to provide that kind of expertise. Do you provide that kind of input in this high level engagement which you have with UKFI? Do you try to keep them on their toes on environmental sustainability issues, particularly as they do not appear to have the resources in house?
Mr Lunn: Generally speaking we did review the sustainability policy which UKFI have now introduced and we commented on it before it went to their board and was accepted by their board. At that level we had an input. We have discussed sustainability on a number of occasions over the last year at a working level with UKFI. It is fair to say that it is not the bread and butter of the discussion.
Q65 Martin Horwood: The Treasury commissioned the Stern Report, so presumably you accept its conclusion that even in just bald economic terms climate change is the biggest single threat to the long-term stability not only of the UK economy but the world economy. You accept that conclusion, do you not?
Mrs Khan: Yes.
Mr Martin: Absolutely.
Q66 Martin Horwood: Do you think Mr Budenberg and Mr Woods understand that?
Mrs Khan: I think you can reach your own conclusions as to that. I am very clear that they understand the remit they have been given.
Q67 Martin Horwood: That was not my question. Do they understand the Treasury’s economic analysis of climate change, that climate change itself is the most significant threat to the stability and the long-term prosperity of the UK economy? Do you think they understand that?
Mrs Khan: I cannot speak for them in the sense of whether they understand.
Q68 Martin Horwood: You have just heard them give evidence and you heard Mr Budenberg. He actually laughed in reply to the Chair’s question about the avoidable crisis of climate change and whether or not that was comparable to the avoidable crisis of the financial markets we have been through. Was your impression from that evidence session that he understands what you know to be Treasury policy on climate change?
Mrs Khan: I really cannot speak for what Mr Budenberg understands or does not understand. Clearly he has a clear understanding of what the Treasury expects from UKFI.
Q69 Martin Horwood: In that case may I ask you what you expect of UKFI in terms of the Stern Report’s economic analysis? Set aside government policy and government objectives and things like that, but do you think their economic analysis about the threat to UK PLC and to the broader economy of climate change is part of their remit from you to take account of what the Treasury have concluded is the biggest single threat to the UK economy?
Mrs Khan: Very clearly we have had a dialogue with UKFI over their sustainability policy and we take a broader based view on how we achieve the broader objective that we have set ourselves, building on the conclusions of the Stern Report.
Q70 Martin Horwood: Have you discussed the conclusions of the Stern Report with them?
Mrs Khan: With UKFI?
Q71 Martin Horwood: Yes.
Mrs Khan: Not to my knowledge; no.
Mr Lunn: It is important to recognise that their overarching objective is to dispose of the shares in a way that maximises value for the shareholders, the taxpayer. You would expect UKFI to operate within that overarching objective.
Q72 Martin Horwood: The conclusion of the Stern Report, which was commissioned by your department, was that the best way to look after the long-term economic interests of this country and long-term investments was to move towards a decarbonised economy, was it not?
Mr Lunn: I understand that but the remit for UKFI has been set in certain terms and you would expect UKFI to act in line with that remit. That is what I am saying.
Q73 Martin Horwood: But the Stern Report seems to imply that that should mean that they should be investing in a decarbonising economy, should they not?
Mr Martin: These can be consistent. The point is that the Stern Report absolutely underlies our overall policy framework. We have introduced carbon budgets which are legally binding. We have signed up to the European directives of which the Committee are well aware. We have established the renewables obligation which spans the whole of the industrial sector, all the energy suppliers and potential providers of capital, and that is the framework we are trying to put in place across the entire economy to ensure that we decarbonise and meet these targets. What we are talking about here is actually just a couple of companies in which at the moment we happen to have a substantial shareholding but we do not own in totality. We are trying to make sure we manage those and operate those consistent with the financial stability objectives that were absolutely pre-eminent at the point at which we took on the shareholding and we would expect those companies to respond to the policy framework we have put in place across the piece.
Q74 Martin Horwood: But Stern was not just a set of policy recommendations, was it? It was an economic analysis.
Mr Martin: Absolutely; yes.
Q75 Martin Horwood: A lot of other companies concluded from the Stern Report that they needed to shift and change their strategy.
Mr Martin: Indeed.
Q76 Martin Horwood: It is not a fine detail point. It is absolutely a strategic issue, is it not? We need to shift into low-carbon investments and low-carbon economic development.
Mr Martin: Yes, and we would hope and expect to see all providers of capital in the economy over the next few years shifting into investing in, for example, offshore wind where there is a very large capacity in the UK.
Q77 Martin Horwood: Good. Including UKFI?
Mr Martin: You would expect to see all companies doing that, responding to the commercial incentives which we have put in place.
Q78 Martin Horwood: Including UKFI? You would expect them to make that shift, would you?
Mr Martin: Yes.
Mr Lunn: If you look at UKFI’s sustainability policy, it is to make sure that the banks themselves have sustainability policies which are in line with best policy guidance out there, which you would expect following Stern.
Q79 Martin Horwood: Mr Martin just said you would expect them to shift towards low-carbon investments.
Mr Martin: You would expect to see the sector overall responding.
Q80 Martin Horwood: Would you expect UKFI to do that?
Mr Martin: I am not talking about UKFI. I am talking about the banking sector overall. Our policy is to provide commercial incentive so that it is actually in people’s direct financial interest to invest in this rather than exhorting them to do it because providing the financial incentive will actually make this change happen and that is the most important thing. That applies across the whole sector. Rather than just trying to direct the activities of a couple of institutions, we are applying incentives across the whole sector and we should expect to see lots of companies responding to those commercial incentives. That is a decision for those companies to make. If they do not, that means we have the framework wrong and we need to change it but that is how we would tackle the policy decision.
Q81 Martin Horwood: But many companies concluded from the Stern Report that, regardless of the policy framework, they should shift towards a more low-carbon approach. Do you think they are away with the fairies? Do you think that is a silly thing to conclude?
Mr Martin: No; not at all.
Q82 Dr Turner: Can we be clear about the lines of accountability here? We are talking as though UKFI is solely in control here and that they are setting the sustainability policy, but they are not. Your framework policy, the Treasury’s framework, is setting the UKFI remit, so the responsibility is fairly and squarely yours, is it not?
Mrs Khan: Absolutely.
Q83 Dr Turner: That does not have an emphasis on sustainability; it has an emphasis on commercial return. Is this because the involvement as a shareholder in the two banks in question, which are not just two banks; they are two very major banks, is regarded as temporary? If so, how long is temporary? It could well be several years, in which case should you not be taking a longer term view of the investment strategies?
Mrs Khan: Those are important questions. Clearly we do set the framework. The Treasury are responsible for that and I would not have sought to explain this in any other terms. The important thing with UKFI is to recall that these are partially owned institutions. They still have private shareholders.
Q84 Dr Turner: But in a minority.
Mrs Khan: In a minority.
Mr Lunn: In RBS we are the majority shareholder.
Mrs Khan: Indeed, and our very clear aim is to return them to the private sector. The Government’s role in relation to these banks is in effect – we are all familiar with the term lender of last resort – as capital provider of last resort. Ultimately we want other providers of capital to provide capital to those banks. We do not want them to be dependent for ever on the public sector. With that in mind, we need to ensure that those entities retain their attractiveness to private investors, current and future, such that they can be commercial entities in future. Do we have any specific time horizon for that? No. The banks were given assistance because they were frankly in trouble. We have been through some very turbulent times and the capacity to return them to the private sector will depend in part on the performance of those banks and in part on the performance of the economy, and indeed on the conditions in the market. However, our objective is very clear, which is to return them to the private sector when we can.
Q85 Dr Turner: You are still avoiding the basic question, which is that the Treasury are holding the reins here. It is all very well to refer to trying to do this by creating the right market frameworks, the right fiscal stimuli, but that again comes back to the Treasury. You are creating the market circumstances and you are also responsible for the framework governing investment policy. It is all within the remit of the Treasury, is it not? You are almost trying to tell us that it is somebody else out there, but it is not; it is the Treasury, and the Treasury does not seem to be being totally consistent here.
Mr Martin: It is absolutely and that is why we have asked Infrastructure UK to look at the case for whether we should have some form of green investment institution and they will be reporting back at the Budget.
Q86 Dr Turner: So you are not happy with the present arrangements?
Mr Martin: We have asked Infrastructure UK to look … Do you mean the present arrangements for UKFI?
Q87 Dr Turner: The whole pattern. It all needs to be a coherent pattern.
Mr Martin: Absolutely it does.
Q88 Dr Turner: The fiscal structures that dictate market flows of investment, the strategy for investment, the sustainability strategy for investment, which you cannot point to UKFI for because it is the Treasury which is actually setting the remit. What I am asking is whether the Treasury is doing this coherently. It used to be called joined-up thinking. Is it really happening within the Treasury? Does the Treasury see the opportunity here to use this as an instrument to get some commercial return but at the same time also to advance government policy in terms of climate change and other issues? This temporary shareholding could last several years, several crucial years when some of the most crucial decisions in advancing the climate change case are going to have to be made.
Mr Lunn: It is worth saying that these things were thought about when UKFI was set up. Consideration was given to whether UKFI should have a remit wider than what is quite a narrow one and is admittedly narrow and is designed to be a narrow remit. A view taken at that time was no, give UKFI that clear remit to maximise value for the shareholders as taxpayers and to concentrate on financial stability and the things it is there to address and then to look at wider government policy measures through wider mechanisms. That is the position as it stands today. In principle that could change as we move forward but that was not the policy view at the time. That is where we are.
Q89 Dr Turner: Am I correct in hearing Mr Martin say that the Treasury is in fact reviewing the situation?
Mr Martin: The Chancellor announced in the Pre-Budget Report that he had set up Infrastructure UK, which is a body specifically designed to look at the really very substantial investment requirements which may be needed over the next 10 or 20 years, principally in energy and the environment but also in transport, particularly on the railways. He announced in the summer the possibility of setting up this institution and in the Pre-Budget Report he announced it would be set up. One of the first pieces of work we have asked Infrastructure UK to do, given the wider public debate around this, is to look at the fact that this is a very fast-moving area in terms of the policy framework - it is something we have already made a lot of adjustments to over the past few years as we try to make sure we get it right – and whether there is a case for some form of green investment institution. Infrastructure UK are looking at that at the moment and they will report back to the Chancellor at the Budget. I expect he will want to say something further about it then. It is an important area to look at. The case that most external commentators are making around some form of green investment institution is that there may be some particular market failures, either in the provision of debt or probably more likely in the provision of equity finance during the project construction phase of some of these big, quite risky projects like offshore wind. Some other countries do have experience in using some form of state-backed infrastructure investment institution to tackle those. We need to do a very hard assessment of whether we do have those problems here and whether there is a case and that is something that the Chancellor may want to say more about come the Budget. Our policy and ministers’ policy has very much been that looking at the framework across the piece is the right way to tackle issues if there are issues rather than seeking to direct these particular institutions which happen to be in partial public ownership. Leaving aside all of the points around making sure we get a good return for the taxpayer and making sure that the public and markets at large have assurance that our interventions are primarily focused on maintaining financial stability, if we do not have the frameworks right then it is a bit of a cheek to get round it by interfering in the operation of a couple of banks that we happen to have ownership of. We need to get the policy framework right if it is going to deliver over the long term.
Q90 Dr Turner: It still comes back to the Treasury’s responsibility. The Treasury is responsible at every point of the process. The questions we are left with are whether the Treasury is delivering on this and how quickly.
Mr Martin: We have seen very, very substantial investment in offshore wind, principally over the past two or three years, and a lot of very big announcements last year. As you may recall, indeed the Committee recommended this, in the Budget last year we announced we were increasing the banding of ROCs for offshore wind, which has helped -----
Q91 Dr Turner: It has taken about five years to get that message across to the Treasury. The Treasury is not the most responsive beast in the firmament.
Mr Martin: ----- which has helped provide support for a number of new projects. We had a very successful set of tenders for round three of offshore wind projects. An enormous amount has been achieved. An enormous amount is in the pipeline. Of course we continue to review the policy framework, both at the energy market level – and we are doing this energy market assessment jointly with DECC – and in the provision of capital, which is why we have asked Infrastructure UK to look at the case for some form of green investment institution. If there need to be further changes to make sure the delivery occurs, then I am sure we will make them.
Q92 Joan Walley: May I just follow up the points which have been made? Mr Horwood mentioned the Stern Report, which was commissioned by the Treasury. Another issue which is of great relevance to our Environmental Audit Select Committee is the Green Book of the Treasury which is the basis on which public investment decisions are made, and in our view that does not include the green specification to the extent that we would like it to. You were talking about this policy framework. What we are trying to look at is the way in which fiscal policy links with environmental policy so that we can effectively get Government and the way in which the banks are operating to go down the route of the green new deal. That is perhaps really where this Committee are trying to go. Would you have a recommendation that you could make to this Committee about what the Treasury should be doing to get the specification right? I have just come in and have just been listening to the responses you have been giving us and I cannot really comprehend that you are at the heart of the decision making and yet there is a complete disconnect to the environmental agenda which everybody is saying has to be at the forefront of how we get out of the recession. What would your recommendation be?
Mr Martin: You may recall last year’s Budget and a number of very large announcements around fiscal stimulus, and the environment was absolutely at the heart of those in terms of the green fiscal stimulus package, including substantial additional money, spending through DECC and BIS.
Q93 Joan Walley: In relation to the banks, in relation to the question Mr Challen asked earlier, if they do not have to comply with any of this, if there is no specification for the new agency which has been set up, how are they going to follow this path as well? Everybody else is going to be going one way and they are going to be going in a different way.
Mr Martin: I do not think they should be going in a different way at all.
Mrs Khan: That is right in the sense that the approach we are taking is precisely that they should be pointing in the same direction as other commercial entities and our overall approach is to deal with the commercial sector as a whole rather than to use this specific route to exert specific leverage in one direction.
Q94 Colin Challen: May I return to this issue, particularly in relation to overseas investment? It is true that you could make a defence that under the UK and EU climate change policy framework how the investments are actually delivered will operate under the commercial terms set by those frameworks but a large part of the world does not operate under those frameworks. We heard this morning that RBS has great investments in oil and gas. Is it not analogous to the situation of the Export Credit Guarantee Department, in which this Committee has had an interest in the past, which has been forced to improve its conditions or the conditionalities for the environment because of the way that not only this Committee but other people have interacted with it? Should not UKFI operate to similar kinds of standards on the environment and, if not, why not, particularly for overseas investments? It would be absolutely incongruous if UK taxpayers’ money were prevented by our policy frameworks in this country from being spent on dirty investments where RBS, with taxpayers’ money, could invest in something in China, Indonesia, in Africa, places where there is no climate change framework?
Mrs Khan: There is a distinction to be drawn here potentially between things like the ECGD where there is a deliberate decision to be taken about what ventures we support and what we do not. There are ethical funds, there are certain overseas funds which are sovereign wealth funds which choose to pursue environmental social policy through their investment strategies. They do so through selecting investments. In the case of UKFI they are not selecting which investments they hold; they have been given a very specific portfolio which has been chosen for reasons of financial stability and you would not expect them, given their circumstances, to have the latitude to pick and to direct in that sense.
Q95 Colin Challen: That is almost like operating like a fence with no questions asked. That is the problem with this whole setup.
Mrs Khan: I would say again that these are not investments that we have gone out and elected to take as investments. They have been basically taken in extreme circumstance in pursuit of financial stability.
Q96 Mark Lazarowicz: There must be a point at which you would say that is going too far, that investment is totally beyond what the Government would find acceptable. Surely there must be some point.
Mrs Khan: In a way that is taking the view that the Government sees right through each and every individual investment decision that is taken by a large bank such as RBS. As UKFI explained in the earlier session, they do look at the overall policy, the overall strategy and at whether the bank has a proper sustainability policy of its own. Our engagement is at the strategic level. For a commercial entity, for the Government to direct its lending policy would be quite a challenge and would compromise the basic commercial standing of that company.
Q97 Chair: Nobody is suggesting that is what you should do; no-one has made that suggestion. What we are saying is that if there is a flagrant example of an individual lender decision or investment which runs completely counter to every stated objective of British Government policy, why would the bank in which the Government have a controlling interest allow that to happen? You are saying that you will not even notice it.
Mrs Khan: I was not saying that we would not notice it.
Q98 Chair: So you would notice it but you would not do anything about it.
Mrs Khan: We do not have the authority in effect to tell a private company, even though it has substantial public ownership of its shares --- it is a shareholding; we are not directors of the company.
Q99 Chair: On this point, as a 70 per cent shareholder you would have the power to remove the whole board. You could call an EGM and two weeks later you could remove the whole board, so you do have the authority. You have the authority but you choose not to use it. No matter how outrageous the investment or loan that was being made in a hideously polluting industry, running counter to every objective of British Government policy, you would do nothing about it.
Mrs Khan: That is a fairly extreme example.
Q100 Chair: That is why it is easy to answer, surely.
Mrs Khan: Yes.
Q101 Chair: So you would do something about it?
Mr Lunn: Does it not come back to the remit? If the type of example you were talking about was ultimately going to have some sort of impact on the value of the bank then that is very clearly within UKFI’s remit to get involved with.
Mr Martin: Absolutely; we would talk to them about it.
Q102 Chair: We know that; we know that if the thing has an impact on the value of the bank of course you will do something. Our question is whether that is such an overriding objective of Treasury policy that you do not mind how much you counter every other objective the Government have.
Mr Lunn: My answer is that the type of example you are talking about there very likely would have an impact on the value of the bank and therefore you would expect UKFI to get involved.
Q103 Chair: But if it did not?
Mr Lunn: You are talking hypotheticals, are you not? UKFI has a clear remit. The Treasury has taken the decision to set that remit at that level because it feels that is the way you are going to maximise delivery against the Government’s objectives overall and that is a policy decision.
Q104 Martin Horwood: The average member of the public, taking £2,000 and investing it in a unit trust, would, or should at least, take some level of interest in where the fund is being invested. If they saw something in it that they thought for them personally was against all their moral and ethical principles, you would advise them presumably to change that investment or at least contact the people who are running the unit trust in order to tell them not to. We are having less control over UK financial investments than that.
Mr Lunn: I would not agree with that at all. There are two answers to that. The first answer is that it comes back to the circumstances in which the investments were made and those were very narrowly defined circumstances because the banks were in trouble and they were made to preserve financial stability. The objective of UKFI reflects that overarching aim. The second answer is that UKFI does have a policy around sustainability and the whole corporate social objectives. That policy is to make sure the banks have their own policies which are consistent with best practice and to challenge banks in circumstances where they do not. We, as Treasury - you are right: it does come back to Treasury at the end of the day - were consulted on that policy and commented on that policy before UKFI reported to their board. It is that policy framework on which we rely.
Q105 Martin Horwood: Actually, to be totally accurate, on questioning Mr Budenberg and Mr Woods effectively described something which was not trying to achieve best practice; it was trying not to be worse than anyone else. That was actually what they said.
Mr Lunn: Consistent with good practice.
Q106 Martin Horwood: Even then, even if you were a member of the public investing in a unit trust and you knew there was a sustainability policy, you would perhaps check where that fund was being invested, and if you happened to spot something which was completely counter to your own personal beliefs and policy, if you like to call it that, you would contact the unit trust or you would disinvest from that unit trust, would you not? You are saying you would not do more than just rely on policy; you would not even check.
Mrs Khan: You have highlighted an important issue there, which is that as an investor, if you did not like the unit trust, you would have no obligation to invest in it and you could vote with your feet. The Government in this instance is not in a position of voting with its feet. We are not selecting these investments as investments. We have them because we have them for reasons which are well known.
Q107 Martin Horwood: So you are saying that because of the circumstances in which UKFI finds itself it is indeed exercising less control than the average member of the public can over a unit trust?
Mrs Khan: The member of the public does not control the unit trust. They can decide not to invest in it but ultimately they do not have the capacity to tell the company how to behave.
Q108 Martin Horwood: But you have.
Mrs Khan: We have, within constraints. It is worth remembering that they are bound by the Companies Act; the directors of both RBS and Lloyds have a fiduciary obligation to all their shareholders. They cannot allow the Government ultimately to enforce a strategy that would cause them to breach those fiduciary duties in their views, so we are constrained in that sense.
Chair: Nobody in this Committee is suggesting that any member of the board of either of these banks should breach their fiduciary duty. That is not being questioned at all.
Q109 Mr Caton: You described how Infrastructure UK have been asked to look at creating a green investment institution. Is what you are describing there the establishment of a publicly owned green investment bank?
Mr Martin: That would be a decision a little bit further down the line.
Q110 Mr Caton: So part of the answer to getting the investment we need into low-carbon infrastructure could well be a green investment bank, publicly owned?
Mr Martin: We already announced last year, for example, that we will be working much more closely with the European Investment Bank which has some of those characteristics to help support some of these offshore projects. In a sense there already is that. The UK Government are a big shareholder and big subscriber into the European Investment Bank. What IUK have been asked to look at is whether there is a case for going further than that, where you might want to do that in terms of which particular sectors, what an institution might look like. A lot of that depends on some quite detailed technical understanding and an analysis which we want them to do about where the particular problems are in terms of availability of capital.
Q111 Mr Caton: Taking your point about the wider policy framework and the policy development, could the answer in the end be that we already own or are majority shareholders in two banks? Could we not shift them, or one of them at least, into taking on the role of this green investment bank, publicly owned? Is that an option?
Mr Martin: I would have thought, in the event you did decide you wanted to do something in this area, that most countries which have this have infrastructure-specific institutions with the right set of specialist skills. I do not know very much about the nature of these large commercial banks, but I doubt they are the sort of institution that you could quickly and easily transform into the sort of thing you are talking about.
Q112 Mr Caton: Most other countries do not already have banks in public ownership or largely in public ownership, so we are in a different ball game from other countries.
Mr Lunn: Banks do very different things. I would be surprised if that were a sensible answer.
Q113 Mr Caton: But you are not ruling it out?
Mr Martin: The other difficulty here would be that generally what infrastructure kind of lending institutions do is to provide a degree more assurance to attract other leverage in quite substantial volumes of other private sector investment. If you had an institution which was, whatever the form of its ownership, also a large player in that market on a commercial basis in a competitive sense, that would not necessarily give other institutions confidence that they wanted to invest in it in the same way that a structure like the EIB might do.
Q114 Mr Caton: Some of the people who have given evidence to us say that a green investment bank would have exactly that role; it would create more certainty in green investment or carbon investment and therefore we would get the other institutions in.
Mr Martin: Absolutely; that is the argument and that may well be right. What I am saying is that if you took an existing institution that was not of that nature and was also of the sort of scale that it might well be investing as one of the co-private sector partners in some sort of fund and also made it have that more quasi-public role, that might not necessarily give the same clarity to other pure private sector investors that a stand-alone institution like the EIB would.
Q115 Martin Horwood: Again I have to declare a bit of an interest as an officer of the All Party Corporate Responsibility Group, which, with Business in the Community, has championed transparent reporting of social and environmental issues. Do you think that kind of transparent sustainability reporting is a good thing, good corporate practice?
Mr Martin: Yes; absolutely. As you are probably aware, we are currently – I am not sure whether it is a formal consultation – in discussion about whether there should be further mandatory requirements. There has been an enormous amount of progress in this area in the past five or ten years and to a certain extent what we are doing in Government is attempting to mirror some of the best practice that you see elsewhere in the private sector. There is always a balance between what you mandate and what the private sector will actually come together collectively to say they want to do. Generally it is a very good trend.
Q116 Martin Horwood: I will resist the temptation to get into a discussion about the history of the OFR, where I do not think the Treasury were covered in glory. Would you accept though that if we are not talking about mandating things but about more transparency, revealing more about the social and environmental profile of institutions, that is likely to influence behaviour of the banks amongst others?
Mr Martin: It provides more information for investors, it provides more information for customers/consumers and provides more information – if I may use the terrible "stakeholder" word – for stakeholders more generally and transparency generally is a good thing in society and a good thing in terms of helping markets function. The question, as ever, is the balance as between a system and a set of expectations which actually incentivise real behaviour change rather than just becoming boiler plate, which is the risk sometimes.
Q117 Martin Horwood: UKFI is aware of these general quite strong trends toward more transparency and more reporting, is it?
Mr Martin: Yes, I am sure they are.
Q118 Martin Horwood: Do you think they are at all exposed by the potentially greater transparency and environmental reporting from some of their investments?
Mrs Khan: I do not see that that is the case.
Q119 Martin Horwood: You do not think that if they are compared with somebody like the Co-operative Bank, which has made a marketing advantage out of being more ethical, there is a risk to the banks in which we hold a stake at the moment of having their environmental record exposed more transparently and comparably?
Mrs Khan: To have their environmental records exposed is only to be welcomed.
Martin Horwood: Good. We agree on that.
Q120 Chair: Thank you very much. Which is the Treasury Minister who is responsible for UKFI?
Mrs Khan: Lord Myners, the Financial Services Secretary.
Chair: Thank you very much indeed for coming in. It has been very helpful for us.
|©Parliamentary copyright||Prepared 12:53 on 15th March 2010|