To be published as HC 1534-vii




Treasury Committee

IndependEnt Commission on Banking: Final Report

WEDNEsday 11 January 2012

George Osborne MP and Tom Scholar

Evidence heard in Public Questions 601 – 680



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Oral Evidence

Taken before the Treasury Committee

on Wednesday 11 January 2012

Members present:

Mr Andrew Tyrie (Chair)

Michael Fallon

Mark Garnier

Stewart Hosie

Andrea Leadsom

Mr Andy Love

John Mann

Pat McFadden

Mr George Mudie

Jesse Norman

Teresa Pearce

Mr David Ruffley

John Thurso


Examination of Witnesses

Witnesses: George Osborne MP, Chancellor of the Exchequer, and Tom Scholar, Second Permanent Secretary, HM Treasury, gave evidence.

Q601 Chair: Chancellor, thank you very much for coming to see us this afternoon. We had originally intended to have a hearing concentrating entirely on the Vickers report, but given the events that have taken place in Europe since you were last here the Committee think there is merit in taking a look at that issue as well. We intend to begin with that and then move on to the ICB, as there is some overlap as I am sure you are aware.

Can I begin by asking you about the explanatory note that has surfaced on the web, which purports to be part of the UK’s negotiating position? First of all, could you tell us whether this is a genuine document?

George Osborne: First of all, Happy New Year, and second, I should introduce Tom Scholar who is the Second Permanent Secretary in the Treasury and has a particular responsibility for financial services issues.

I think there is a standard practice-or so I have been told, because I have not been asked this question before in my job for the last 18 months-that Ministers do not confirm the authenticity of documents or, indeed, publish documents that are used in international negotiations. So I think I should adhere to that long established precedent. However, I think you can take it from this explanatory note that I am pretty familiar with the kinds of things in it.

Q602 Chair: I think it would be helpful to know. Since this has done the rounds everywhere and is being discussed among European Parliamentarians, for example, as if it is a genuine note, and they appear to have been told that it is by other countries’ negotiating teams, it would be helpful if we could have confirmation that this is an accurate document-this is a genuine document.

George Osborne: I think what I can say is that the issues discussed here, the issues around the voting procedure for handing powers to European advisory agencies; the issues around the voting powers on financial levies; the freedom that member states have to erect their own financial stability regimes, all of these things are issues that we have been concerned about, including in public, that we have sought assurances on and, as I say, I don’t propose to publish all the documents that were used in international negotiations in the run up to the European Council, but I think you can take it from this document that these were the sorts of issues we were interested in.

Q603 Chair: I am going to have one last go. It may not be one last go, there may be more to come, but I just want to be clear. I realise that you don’t want to breach a precedent that might cause problems subsequently for your colleagues, Chancellor. On the other hand-

George Osborne: For my successors.

Chair: It is very good of you to think so kindly of your successors as well, but I do think it is reasonable for us to know-that is the British Parliament to know-whether there is anything in this document that is not an exact representation of the Government’s position.

George Osborne: Hopefully, we don’t get too hung up on precedent and the like.

Chair: I think knowing what it is, we can start asking questions-

George Osborne: The point I would like to make is that there were several weeks of discussions with various member states and the European Commission about that Council. Various pieces of paper were circulated, both from us and from other member states.

Chair: So this might have been one?

George Osborne: This might have been one.

Chair: I think that is very helpful. Okay, but on the subject-

George Osborne: What I am saying is I don’t think you should take this as the only document or necessarily the final position. This might well have been one.

Q604 Chair: On the supposition that it might have been one, did it come from No. 10, the Treasury or the Foreign Office?

George Osborne: It was across Government an agreed negotiating strategy. Obviously, when it comes to European Councils, the Treasury and the Foreign Office are deeply engaged with No. 10 and, indeed, it is a coalition with the Deputy Prime Minister’s office in the kind of work that we commission. As I say, looking at this document I genuinely can’t tell you the exact authorship of it, but-

Q605 Chair: Okay. How long did other countries’ negotiating teams have to examine these issues, the exact issues spelt out here, the detail?

George Osborne: I will tell you a number of things. First of all, all of the things that are mentioned here are concerns that the UK has that are familiar to fellow member states. For example, one of them we are currently engaged in a very public legal action with the European Central Bank about, so there is no secret about that. As I say, I think it is not appropriate for me-

Q606 Chair: Can I just be clear, Chancellor? I am not trying to elicit secrets. I am trying to establish whether-I might do in a subsequent question, but at the moment what I am trying to do is establish whether these are in fact, in substance, the views of the Government and, if so, then I would like some further explanation about what they mean, but if they are not the views of the Government then I will ask different questions.

George Osborne: These reflect issues that we have concerns about when it comes to European regulation of financial services, not just on our own behalf but on behalf of all member states. We have discussed these issues on a number of occasions, often in public, in the ECOFIN Council in front of all the other Finance Ministers. In the build-up to the European Council there was a lot of UK diplomatic activity. The Prime Minister travelled to Berlin. He travelled to Paris. I spoke to a number of Finance Ministers, the Deputy Prime Minister spoke to a very large number of Prime Ministers, and we expressed our concern that if there was going to be a treaty of 27 involving greater economic fiscal integration among the eurozone that there needed to be certain safeguards. Not least because in discussions about making a single currency work there is often talk about more Community regulation of financial services.

Q607 Chair: I just want to clarify this point on process and ask the same question again. This document is in the hands of other countries’ negotiating teams, therefore, it can only recently have emanated from the Government. The question that I asked you was when did they get it? When did the Government issue it to our negotiating team?

George Osborne: I honestly don’t know the answer to the specific question that if this document is a Government document-and let’s assume for the sake of this argument that it is-when this particular piece of paper was circulated because there were quite a large number of pieces of papers.

Q608 Chair: Could you let the Committee know that?

George Osborne: I will let the Committee know whether I am able to let the Committee know that.

Q609 Chair: This is very hard work, Chancellor, this afternoon.

George Osborne: All international negotiations are, Chairman.

Chair: Yes. This, though, is a domestic negotiation we are engaged in here.

George Osborne: Well, I don’t want to-

Q610 Chair: You will understand that, bearing in mind this is in the hands of Parliamentarians all over Europe with them being told by their opposite numbers that this is the British negotiating position, I am asking the Chancellor of the Exchequer whether it is the British negotiating position, whether you guys wrote it and, to be frank, you are hedging your bets.

George Osborne: I am saying, I wouldn’t say that this-I don’t think you can just take one piece of paper in isolation. I think-

Q611 Chair: That is fine. I think that is very reasonable, that this is only a small part of it. Would you be prepared to give us, on an exceptional basis, the rest of this document so that we can consider it in a more balanced fashion?

George Osborne: I will reflect on the long established precedent.

Q612 Chair: And come back to us with a view on that.

George Osborne: And come back to you, of course.

Q613 Chair: Can I ask a question about the substance? If you look at what this document actually says, it is talking about the safeguards, a list of safeguards that the UK is seeking. Can you explain exactly what the risk was to the UK that you were seeking to mitigate by obtaining those safeguards?

George Osborne: Our concern and interest has been this. We are in favour of a single market in financial services. I personally think that would be a very good thing for the United Kingdom because the United Kingdom is a major exporter to the rest of the EU of financial services, and we want to be able to do that more efficiently and reach more markets. But we obviously have a concern that the approach is not overly regulatory in creating that single market, and we also have a concern that, as the location, the overwhelming or the predominant location of wholesale financial services in Europe, that European financial regulation takes into account some of the specific competitive pressures facing wholesale financial services industries anywhere in the world. So we want to make sure the legislation is right. We want to make sure that countries with large, wholesale financial services are able to make sure that the legislation is appropriate.

We also, as it happens-and this was something that was lost a bit in translation in other member states’ accounts of what happened-as a home of very large financial services relative to our GDP, want to enact certain things domestically that other countries, because they are much smaller financial centres, don’t necessarily want to do.

Chair: We are going to come on to that.

George Osborne: That, of course, this is what Vickers is all about. So it is not, as has been presented, just about-we were not seeking a UK opt-out from financial services legislation. We were not seeking unanimity for the UK in voting on all financial services legislation. We want a single market. In some cases we actually want to impose greater regulation on financial services than the European Union is proposing, and we are going to come on and talk about Vickers. So I think the way it has been presented that we were somehow looking for an opt–out from the City is not accurate.

Q614 Mr McFadden: Chancellor, you talked about cross-governmental strategy in the run-up to the summit. Part of that is the UK’s permanent representation office in Brussels, which in my experience is very good, well plugged in, extremely well informed and good at building alliances. Can you tell us how involved were UKRep in the formulation of and lobbying for the UK Government’s position?

George Osborne: The development of the UK’s position involved UKRep. It involved the Foreign Office. UKRep of course is part of the Foreign Office, but certainly-

Q615 Mr McFadden: From how far out?

George Osborne: There were discussions about the European Council for many weeks in the build-up to it. It is important to remember the actual proposal, which the French and the Germans tabled, was only tabled on the Wednesday before the Council, of the same week as the Council, so it was quite a fast moving situation and the nature of that proposal changed over the weeks, building up to the point where they finally put forward their suggestion. But in the weeks building up to it there were many meetings, many meetings within Government. There was a lot of paper, there was a paper flow, certainly from where I could see it in when the Treasury, UKRep was involved in that, as you would expect, because they were there on the ground.

Q616 Mr McFadden: So you would say they were fully informed and involved throughout the process?

George Osborne: I felt the machinery of Government was working well, so I thought that all parts of the Government were coming together to try and formulate a negotiating position for the Council, and you will have had experience at high levels of Government of this, Mr McFadden. You will know that when it comes to European negotiations this involves the centre of Government, the Foreign Office, the Treasury, the Prime Minister, the Cabinet Office, and the European Secretariat of the Cabinet Office, the Deputy Prime Minister’s office, UKRep, and so on. Lots of people are involved in this but I felt it was a process that did quite well.

Q617 Mr McFadden: On the substance the Deputy Prime Minister has said, and I quote, "‘Veto’ suggests something was stopped. Nothing was stopped". Do you agree with the Deputy Prime Minister?

George Osborne: I don’t want to get into a very adversarial discussion about all of this. What I would say is that-certainly, as I understood it-the position going into the Council was understood by everyone and agreed by everyone within Government, and when it comes to what happened in the Council-I don’t know whether you would describe it as a veto or not-there is not a treaty at 27 because Britain did not want a treaty at 27. There is clearly a treaty at something less than 27; 26, 25, 24. Ultimately we don’t know at this stage. But there is not, self–evidently, a treaty being negotiated for incorporation in the European Union treaties.

Q618 Mr McFadden: Again, on substance, you were saying you were in favour of a single market in financial services, and yet the Government’s position has sought to move away from QMV to unanimity on some single market financial services matters. Given that we haven’t lost a significant vote on financial services and that QMV helps to advance single market measures, why did we want to move away from that and introduce more national vetoes in this area?

George Osborne: If you take the first item on this note, the transfer of powers from national level to EU agencies, the negotiation about the creation of the supervisory agencies was begun by my predecessor, Alistair Darling, and a great deal of that work had been done by the time I became Chancellor and the UK Government’s position had been set out. Now, of course, I reserve the right to change that position and I wouldn’t claim that the deal we did would be identical to the deal that my predecessor would have done, but I had inherited a commitment that the previous Government had secured in 2009 that there would not be a transfer of a large number of powers to these new supervisory agencies. There would be one or two things that they would look at the regulation of, like credit rating agencies, and that was a solid commitment secured in the ECOFIN Council before I became Chancellor.

There has been a suggestion from a number of people in the Commission and elsewhere, that the supervisory agencies should take on responsibility for regulating more areas of financial services. That we feel is contrary to the political agreement reached by the previous British Government. So, in order to make sure that an important decision that is handing over a new area of supervision to a European supervisory body-taking that decision should be one that the whole Council is happy with. As it happens-and this comes to the end of your question-I think in the directives that I have negotiated, whether on hedge funds or short selling, and there is currently a negotiation on a directive on derivatives, I think we are securing UK interests, directive by directive, with some hard negotiation, and what we have been seeking, if there was going to be an EU treaty change in the area of economic and fiscal policy, is some things that we think would be good additional things to have, particularly if there is going to be an EU treaty in this area. But that does not mean we are not confident that we can negotiate well in Britain’s interests going forward.

Q619 Mr McFadden: Just to understand this, leaving aside what might come in the future, on what is there at the moment, is it the UK Government’s position that some things, which are there at the moment, which are decided by QMV should in future be decided by unanimity in the financial services area? It is quite important for us to understand this. Is it part of the UK Government’s negotiating position that that happens?

George Osborne: One of the things we were requesting, if there was going to be a European Union treaty on economic and fiscal integration-and of course there is not going to be-that there were additional safeguards for-

Mr McFadden: What about now?

George Osborne: Well, of course there is not going to be an EU treaty. Changing the voting mechanism for the transfer of powers would require an EU treaty and there is not going to be one.

Q620 Chair: Perhaps the question is whether part of the negotiating position of the UK Government was to claw back some aspects of policy currently decided under QMV and bring them back in the ambit of unanimity.

George Osborne: We were seeking, if there was going to be a treaty at the level of 27-a European Union treaty-as part of that European Union treaty safeguards to protect, as we saw it, the proper regulation of the financial services and if we had achieved those safeguards we could have signed the treaty. Now there is not going to be a treaty of 27.

Q621 Chair: That hasn’t answered Pat’s question. Pat’s question is: there is an existing corpus of single market regulation covered by QMV. Was it part of the Government’s negotiating position-as is implied, incidentally, by item 1 on this list-that some aspects that are apparently covered by QMV of single market legislation pertaining to financial services should henceforth be dealt with by unanimity?

George Osborne: We were seeking safeguards to ensure that areas of financial regulation could not be transferred to European supervisory agencies without the consent of all member states, but to achieve that requires a treaty change. Of course, the alternative is to argue directive by directive. That is where we are now, of course, and have been. But if there is going to be a treaty-you can only do these things with a treaty. Now, at the moment no one to my knowledge is proposing a new EU treaty, and I am certainly not going to set out here-

Chair: No, I am not asking you to set it out.

George Osborne: -what the Government’s negotiating strategy would be if someone did propose a new treaty.

Chair: We are asking you whether some aspects of current policy-it was the Government’s intention to claw back from QMV to unanimity.

George Osborne: We were seeking safeguards if there was going to be a treaty. If there wasn’t going to be a treaty obviously we can’t get safeguards because they require treaty change.

Q622 Chair: Were you safeguarding putative future legislation from possible QMV treatment only or were you, in addition, seeking safeguards for existing legislation currently treated under QMV?

George Osborne: As I say, directive by directive, we have been making an argument that the British Government’s consent to the creation of these European supervisory agencies was based on the premise that only a very limited number of areas would be supervised. Directive by directive there has been a proposal to bring areas into the area of supervision. If there was going to be a treaty change this struck us as a good moment to seek a broader safeguard that said these things couldn’t be transferred without every member state’s consent. Obviously, there is not going to be a treaty so we are now going to carry on with the strategy we have been pursuing of a directive by directive negotiation.

Q623 Chair: In the view of the UK Government, would that safeguard have constituted a restriction of existing QMV competencies?

George Osborne: We think it would have been an affirmation in the treaty of the political agreement negotiated by the last Government.

Q624 Chair: In your view, was the agreement negotiated by the last Government one that clawed back any aspect under QMV?

George Osborne: I don’t think it’s a question of clawing back. Obviously I didn’t-

Chair: You have defended it-

George Osborne: If you want to know exactly what happened at the time of the ECOFIN Council you would have to get my predecessor, but my understanding of it is that there was an agreement that we could create these supervisory agencies but the areas that they would be regulating would be limited to the agreement at the time-2009. I don’t think there is any secret that some people in Europe would like to see more areas handed over. This often comes up when we discuss individual directives. What a treaty change would have achieved would have been that we wouldn’t have to negotiate it directive by directive. But we are not having a treaty change so we will carrying on negotiating directive by directive, but certainly I am confident we can achieve what is in Britain’s interests in these negotiations on the individual directives, and I would say that I think the evidence of the last 18 months is that we have been able to achieve that.

Q625 Mr Love: The consequence of the Government strategy in this area, according to the business community and, indeed, the City of London, is dismay that we may have lost influence at a European level and since financial regulatory activism is on the rise in Europe that signals difficult negotiations in the future. How do you respond to that?

George Osborne: Well, I don’t accept that. I don’t accept that characterisation of City or business opinion. I think there has been plenty of publicly expressed City and business opinion that has welcomed what the Prime Minister did. I think the Prime Minister has made it very clear, as have other members of the Government, that it was not the first outcome we wanted from the December Council. We would have preferred a treaty at 27 with the safeguards that Britain were seeking. We didn’t get those safeguards. There is no treaty at 27. But we are confident that we can negotiate Britain’s interests, and, indeed, we would argue the broader interests of the European economy, directive by directive on financial services.

If you take the negotiations on the hedge fund directive, there is an industry that is very largely located in the UK when it comes to-if you are talking about the European Union. I think the directive we have been able to get into good shape, through tough negotiation. There was no vote on it, so unanimous consent to that directive. As people know, we are currently involved in important negotiations on the directive on derivatives. A huge proportion of this industry takes place in the UK, when you talk about the European Union, and I am confident we can get a good outcome not just for the UK but for the whole European economy.

Q626 Mr Love: You mentioned one of the consequences of Government strategy is we are back to directive by directive. Later on in this session you will be made aware-I am sure you are already aware-for example, that Mr Barnier has set up of an expert commission to look at the separation of investment from retail banking. There is this proposal that euro denominated derivatives, the clearing house, should be based in a euro area country. You will know about maximum harmonisation. These are all possible negative consequences that will be made more difficult because of the way we have handled the issue up to now. Aren’t you concerned that our voice at a European level will be muted because of what has happened?

George Osborne: No, I don’t accept that at all. First of all-and we may well come on to talk about this-I think it is a good thing that the European Commission and the European Parliament are interested in the Vickers report and what we have done. I think that shows intellectual thought leadership in Europe, and if other countries want to follow our example all well and good.

When it comes to the location policy, I think this is something that is very significant, very concerning to the UK. This is the requirement that certain businesses have to be located in a eurozone country rather than a non–eurozone EU country, and that location policy we think is fundamentally contradictory to the single market. That is why we are taking the European Central Bank to court and that is obviously a step we didn’t take lightly. So we are very prepared to fight hard for the interests-I would argue in this case-of the single market. We are prepared to fight hard for the interests of properly regulated financial services. I don’t think this is defending UK interests, defending the City, this is defending Europe as a home of internationally competitive wholesale financial services. I would be happy to see Europe do more of this business but I am also absolutely clear that London should be the pre–eminent centre of it.

Q627 Mr Love: The Deputy Prime Minister said, not long after the events that we are talking about, that Britain had to engage with Europe and be on the front foot rather than the back foot. One of the ways in which we could do that at this present time is to engage with a request from the IMF for additional funding. That has been rejected by the Government, although I notice that the Prime Minister said only the other day that they were still considering that. What is your current position in relation to IMF funding to help in this matter?

George Osborne: Can I, first of all, just reject this notion that we are not engaging in Europe. This week alone I have met the European Commissioner, one of Europe’s Foreign Ministers and one of Europe’s Finance Ministers. That is in the space of two or three days. So that is just this week. On-

Q628 Mr Love: But you would accept that the interpretation of many European countries of the Government’s strategy has been negative? Whether that is a misperception or not we have some ground to make up.

George Osborne: I think out there among many member states-certainly people I have spoken to since 9 December-there is actually quite a lot of sympathy that Britain was seeking some reasonable safeguards if there was going to be a treaty at 27. For all sorts of reasons that didn’t happen on the night and many people would have preferred the outcome of that summit, including the British Government, to have been a treaty at 27 with the safeguards that we were seeking.

If you want me to come on to the IMF, look, I am absolutely clear and I have said this publicly, I have said it in Parliament throughout the backend of last year, that Britain is prepared to consider additional resources for the IMF. I started saying that last summer. We are founding members of the IMF; we are part of the permanent-we have a single seat on the board, and indeed it was British economist who first came up with the idea of an IMF. So we are absolutely enthusiastic supporters of a well funded IMF, and we are prepared to make-as we have done in the recent past-additional contributions to the IMF alongside other shareholders across the world. If there is a case to be made for additional IMF resources we should hear it from the IMF; if it is a good case then ourselves and other countries, like Japan, like Australia and the like, will look at that, I am sure favourably, and be able to make a contribution. What we objected to was in a sense a unilateral decision by the eurozone to make a contribution to the IMF, and the assumption-even though it was a eurozone statement on the night, not one that Britain had signed up to- that Britain was going to be part of that. So we want to have discussions with our G20 colleagues outside of Europe. Mexico now has the chair. There is a meeting of the so–called deputies, the senior officials, in Mexico later this month. There is a meeting of Finance Ministers in Mexico next month, and if there is a good case from the IMF for additional contributions then of course Britain will listen very carefully to their case and with our partners consider the case very seriously.

Q629 Mr Love: We heard announced today that they have revised down third quarter growth in the euro level to 0.1%. I think there is a widespread expectation that they will be inrecession probably now. Things are becoming more difficult. Negotiations around about the politics of all of this and overcoming that are likely to be extended. In those circumstances, don’t you think it would be a signal, as much as anything else-and I accept that the rest of the world should make a contribution-if you were to go into those G20 negotiations in a positive frame of mind supporting Europe? That would go a long way to re–establish our euro credentials.

George Osborne: To my knowledge, I was the first Finance Minister in the world to suggest additional IMF resources last September at the IMF annual meeting. So I am always willing to listen to a well argued case from the IMF for additional resources. However, and this was clear in the Cannes summit as well where this was the main issue for discussion and ultimately agreement was not reached in the Cannes G20 summit, we want to do that with our other partners in the IMF of course. Britain acting alone is not going to achieve the kind of increase in resources the IMF will be talking about in these circumstances. You have to act alongside other shareholders, like China, like Japan, like Australia, and so forth. We want to make sure that that money was going into the general resources of the IMF and we want to make sure-as was clear at Cannes-that it is not a substitute for the eurozone also taking the action it needs to take to deal with stability in its own currency.

Q630 Mr Love: That does not suggest for a moment that you were acting in the way that would be interpreted at a European level as being a good European. We have influence with all of these countries. I accept that politically it may be impossible in America for very similar reasons to why it is difficult here, but it would be a signal, as much as anything else, if we were to go out and speak to the Australians, the Canadians, the Chinese, the Japanese and say, "This would be a good thing and we want to make a contribution but we also want you to make a contribution".

George Osborne: This is absolutely something that has been discussed for the last six months in international meetings, both bilateral and multilateral. It has been discussed and people had hoped it would be a centre point to the Cannes summit but it didn’t turn out that way. So I don’t think there is any secret it is being discussed. As I say, Britain is willing to make a contribution if there is a well argued case put forward by the IMF and other G20 countries agree with us that it is a well argued case and want to make a contribution.

Q631 Chair: Would our share of any contribution be based on our quota share, that is 4.5% or whatever it is, or will the Government consider proposals that could mean that we, with other European countries, give a disproportionate share?

George Osborne: I think we would want to see what other non–European G20 countries were doing, and I would want to act in concert with them if the situation-

Q632 Chair: You are not closing the door to something that requires more of European than non–European contribution-

George Osborne: The most recent-

Chair:-compared to their quota share?

George Osborne: I want to see, one, what the IMF request is; second, what the other G20 countries are considering. But I absolutely want Britain to make sure that it is a supporter of the IMF and make sure that, if needed, the IMF has the resources required to do the job.

Q633 Mr Love: Are you prepared to go back to Parliament to achieve that?

George Osborne: My attitude is, first of all, I am very happy to at any point explain this to Parliament and talk to Parliament about it, as I have done I think openly over the backend of last year. If I felt it was right to offer something more than the current parliamentary limit provides for then, of course, by definition that would not be my decision it would be Parliament’s decision. We are all Members of Parliament.

Let’s hear what the IMF proposal is first; second, let us hear what the G20 response is going to be and we will be active participants in that discussion; and third, if we actually need specific parliamentary approval for it then we will seek it.

Q634 Michael Fallon: Could we turn to the issue of maximum harmonisation, super–equivalence, and perhaps work our way back towards Vickers and the ICB? The Governor told the Joint Committee on the Bill that he can, "think of no logical or economic reason why you would want to have maximum harmonisation, other than a theology of convergence for the sake of it". Do you agree with the Governor there?

George Osborne: I agree with him that I don’t think there should be maximum harmonisation. I think it is important that individual countries are able to erect on top of minimum standards-and of course the Basel requirements are the internationally agreed minimum standards-we are able to construct a regime on top of that that is appropriate to our national circumstances. Our banking system is 500% of our GDP, and that is different from some other member states in the European Union, and I think it is appropriate for us to therefore have a specific national regime to protect British taxpayers while at the same time being a home of globally competitive banks.

We are not alone in this argument. The Swedish Finance Minister has been leading the charge on this; the Spanish Government-at least the previous Spanish Government, there has been a change of Government-the previous Spanish Government has also been very concerned about this. So both people inside the euro and outside the euro have been concerned about this. The IMF have raised concerns. The Financial Stability Board have raised concerns. In other words, quite a lot of people raised concerns. The Commissioner to be fair to him, Commissioner Barnier, has said that he thinks that the proposals he is developing will allow something like a Vickers regime to operate and that is not going to be a problem. We have to see what the legislation looks like. We haven’t got a final text. We have to see what the legislation looks like to make sure that those assurances are correct.

Q635 Michael Fallon: In your response to the ICB report you said you are working with the Commission to make sure we have sufficient flexibility to implement Vickers. Can you give us any update on that? What would happen if you can’t rid us of the maximum harmonisation provision, for example?

George Osborne: I am confident we can achieve what we want to achieve, and there was a rather encouraging quote from the European Commission, which I will pass on, saying specifically on Vickers that they thought that the European legislation would enable us to do what Vickers had recommended.

Q636 Michael Fallon: The Commissioner has also said, at the end of November, he is setting up his own commission to look at whether separation could be mandatory right across Europe. If the Commissioner ends up mandating full separation where does that leave the Vickers proposals?

George Osborne: First of all, the Commission can’t mandate anything, it would require the agreement of the Council and if they were to propose something we didn’t think was in our interests or, indeed, the interests of others then we would oppose it, and we would see what came out at the end of that process. But I am actually rather encouraged. When we set up Vickers, and I don’t know whether you want to come on and talk about Vickers, one of the arguments used against us at the time was, "Oh we are doing all these things in Britain and no one else in the world is going to do it", and I think it is rather encouraging that, actually, other people in Europe, including the European Commission, are very interested in this, what I think is an excellent piece of work.

Q637 Michael Fallon: Are you concerned about the long–term trend to super-equivalence and its effect on competitiveness of UK financial services?

George Osborne: What, within the UK?

Michael Fallon: Yes.

George Osborne: It is very important that we get the balance right. I have called this the British dilemma. Britain is a home of globally competitive financial services. In many league tables we come out as the pre–eminent centre of wholesale financial services in the entire world and, indeed, in a recent survey we again came number one in the world as the place to do financial services. Of course, we have to stay competitive, and what I sought to do is, where necessary, introduce domestic regulation-I am proposing that with Vickers-that protects the UK taxpayer from the consequences of being a home of globally successful banks and the like, while at the same time I hope doing it in a way that doesn’t make us a less competitive place to do business. Vickers affects 15% of the financial services activity that takes place in the City of London. It affects primarily UK retail banking. Indeed, I think one of the good things about Vickers is that he is not trying to be overly super-equivalent on investment banking regulation, because he recognises that is best done internationally. So I think you can get that balance right and you should only be super-equivalent where you think it is absolutely essential to our national and economic interest.

Q638 John Mann: Happy New Year to you, Chancellor.

George Osborne: I hope you received my Christmas card.

John Mann: I did get your Christmas card. Thank you very much. It still takes pride of place.

George Osborne: Good. I received yours as well. Thank you.

John Mann: On the question of QMV and unanimity, your body language looked rather uncomfortable when you were asked questions on that. Exactly how many Commission proposals are you dealing with at the moment, both those that are with the European Parliament and those that have been announced and are at the pre–European Parliament stage but are available to you? How many different ones that impact on the financial services sector in Britain?

George Osborne: I think about half a dozen. There is the derivatives directive; there is the capital requirements directive on banking; there is an empirical insurance directive we are discussing at the moment; there is a proposal going forward on credit rating agencies, not so directly relevant to the City-we don’t have very large UK credit rating. I can think of about six or so.

Q639 John Mann: See this is what concerns me, Chancellor, that you are not on the ball when it comes to European legislation because, in fact, there are 18 currently. That is not the five that you have already adopted from Europe, Chancellor. There are another 18 currently on your desk, nine that are with the European Parliament and nine that are coming, most of them in draft form already. So 18 different ones. Now, aside from the fact of whether your attention is sufficiently engaged on what is coming from Brussels, of those in how many of them have you managed to claw back at the summit powers that would give you a veto where there wasn’t one previously?

George Osborne: As I say, there are about six that I can think of that are before the European Council, either in draft or in what is called the trilogues, the discussion between the Council, the Parliament and the Commission. In all of those, of course there is a tough negotiation, as you would expect, but I am confident we can secure Britain’s interests. When it comes to-as you put it-clawing back powers, what we are primarily talking about here-to come back to our earlier conversation-is the ceding of new responsibilities to the European supervisory agencies. It is about getting the regulation right and making sure that there is appropriate national discretion and, indeed, that there is a single market. When it comes to derivatives, for example, one of the things we have been absolutely keen on making sure is that the G20 agreement on derivatives is implemented and that there is a single market in derivatives.

Q640 John Mann: I will write to you reminding you of the 12 that you weren’t aware of. I put some questions down to assist in ensuring that we are at the heart of those negotiations. I would like to move if I may on to Vickers, and whether you think that the Vickers report, when implemented, would have had any impact on the precise situation with Lehman Brothers or Northern Rock?

George Osborne: Yes, I think it would have done. Obviously, Lehman Brothers was an American bank. I think with Northern Rock it is clear that with Vickers it would almost certainly have been a ring-fenced bank, given its scale, and it would have, therefore, been required to hold much higher, much more capital and much more bail-inable debt. It would have had higher equity requirements, higher bail-inable debt. In other words, it would have been a much greater buffer to have been eaten through before the taxpayer would have had to step in. So I think Northern Rock is actually a classic example of where the Vickers proposals would have helped. When people talk about the Vickers proposals, the first thing they reach for is the ring-fencing of retail from investment banking and people say, "Northern Rock didn’t have an investment banking arm". But a very important and substantial part of the Vickers report is about additional capital requirements, additional requirements for equity, additional requirements for bail-inable debt, and those things would have helped make sure that the taxpayer was not as exposed as it was when Northern Rock went bust.

Q641 John Mann: We agree, Chancellor, that it is essential that in a situation, such as Northern Rock, there needs to be additional protection from creditors. You criticised Fred Goodwin’s knighthood. What is the moral and ethical difference between Fred Goodwin and Paul Ruddock?

George Osborne: I am not going to get into a discussion of individuals, except to point out that Fred Goodwin was knighted by the previous Government for his services to the banking industry and, as I understand it-it was something that never came across my desk-Paul Ruddock was knighted for his services as Chairman of the V&A and other things he has done for charity.

Q642 John Mann: My final question. Vickers in essence-I think it is reasonable to summarise it-is regulating banks rather than bankers and their behaviour. Can you confirm that you will not be intervening when RBS bosses get huge bonuses in the near future?

George Osborne: I certainly expect to have many conversations with the RBS management about the bonuses that they may or may not wish to pay. Of course my hands are tied on bonus arrangements agreed by the previous Government, and we have been reading about those recently, but when it comes to the new bonus arrangements you can be assured that this Chancellor will be taking a keen interest.

Chair: There will be other opportunities to come back to that subject. It is something that the Committee may well want to take a closer look at shortly.

Pat McFadden has a further question on the ICB.

Q643 Mr McFadden: Just coming back to the ICB, Chancellor. A couple of minutes ago you referred to the British dilemma, the very size of a financial services industry and the dangers that creates with the taxpayer when it goes wrong. Do you feel standing back looking at Vickers that implementation of those proposals will mean finally that we have resolved the British dilemma?

George Osborne: I think we will have gone a long way to solving the dilemma of how we can be the home of globally successful universal banks, and at the same time protecting the British taxpayer should something happen to those banks. I would say there are broader issues of Britain as a home of financial services, not just banking, which other bits of legislation and things we are doing I think help address, but specifically Vickers addresses this British dilemma. We want Britain to be a location of big, global, universal banks that are successfully competing around the world. They are a very important source of jobs and wealth for our country, but also as we saw obviously with RBS-arguably the largest universal bank in the world-when it goes wrong we have to have more tools to protect the British taxpayer.

Q644 Mr McFadden: You talk about re–balancing. In your budgets you have talked about helping manufacturing and so on. Is it a policy aim of Government that financial services be a smaller proportion of GDP in the future than it has been in the past?

George Osborne: I would like to see that happen, but I would like to see it happen by growing the GDP, by growing the cake not by reallocating the slice within the cake, if that makes sense. In other words, yes, I want financial services to grow but I also want manufacturing and other industries to grow and succeed, so it is not by doing down financial services, it is by making sure that other industries get the attention. I am sure in your previous job, Mr McFadden, you had direct experience of this, and it is a truth that the banking industry has had a more direct access to Government to address its concerns than perhaps other industries have had, and I just want to address that. I am always happy to address concerns that financial services have, but I also want to address the concerns that other industries have as well.

Q645 Mark Garnier: Chancellor, can I talk about the costs of the ICB. There are a number of estimates that go round. John Vickers talks about £4–7 billion as the cost of implementing this. The Government talks of it as £3.5–8 billion, but actually in the Goldman Sachs report they talk about £9.6 billion. Add on all the other various bits of regulations coming through, in terms of what is coming from Europe, and you are actually looking at a cost of compliance of something in the region of £20 billion a year. Do you think this is good value for money?

George Osborne: Yes, I do think it is good value for money because, of course, you haven’t given me a net figure there. You have given me the costs not the benefits. The benefits are that Britain and the British taxpayer is better protected from the costs of financial failure. The Goldman Sachs’ analysis, I know it is larger than the British Government’s analysis but it is roughly in the same ballpark. Why we came up with a different number from Goldman Sachs is because I think they did a top down analysis, whereas we went and sought confidential information from each bank and did a bottom up analysis of the costs. Indeed, some other market observers have actually come up with estimates much closer to the one we had. Indeed, one market analyst had costs of £4.1 million for reforms. But these are the costs of the banking industry, I stress, and quite a significant element of that cost-and I think John Vickers made this point when he was here-is the removal of the implicit taxpayer subsidy for banking. That is a good thing. We should all be welcoming that we are dealing with an implicit subsidy, and where there are direct costs-and there are direct costs in IT systems, legal fees, and the like, as well as the potential issues for the cost of funding. When there are those costs I think you need to put them alongside the benefits that Britain gets from having a better regulated banking system where British taxpayers are better protected.

Q646 Mark Garnier: Broadly speaking I agree with all that, but you raise the implicit guarantee and I think it is quite an interesting point because the implicit guarantee has been estimated variously between about £10 billion and £40 billion, depending on which report you look at, but it is an implied guarantee. Vickers potentially has an actual cost of a number of billions of pounds and, in fact, also in the Government report you look at an estimate of a drop in tax receipts to do with this between £300–650 million. I think my question here is slightly philosophical, but given the fact that there is an actual cost brought about by ICB that will have to ultimately either be paid for by the drop in tax receipts or through increased costs to consumers, that actual cost is that a better thing than the implied guarantee that comes from the Government, given the fact that when we saw the bailout ultimately there is a potential that we could actually make money out of bailing out given the fact that there is a possibility-who knows what the possibility is-that we might see those share prices going up to a position where we are now in profit?

George Osborne: I would say a number of things. First of all, that I don’t accept that the only way for the banks to absorb these costs is to increase the cost of lending at all. There is an estimate of the potential impact on lending of 20 basis points, or 10 to 20 basis points in Vickers. That is quite small with all the other pressures on cost of funding. But of course they can actually reduce-shock, horror-their remuneration packages, that might be another way of absorbing these costs. As I say, I think they will benefit, their shareholders will benefit and the value of the company will increase when people see it is actually a better regulated, more secure investment. So that is the first thing I would say.

The second observation I would make is-I call it an implicit guarantee, it was pretty explicit in recent times, and the reason it was explicit is that my predecessor had no other option. He had no tools available to him when RBS couldn’t secure funding in the wholesale markets. He faced a situation where he did not have resolution tools, he had no way of protecting RBS’ essential banking services across the United Kingdom without bailing out the whole company. That was a very unenviable choice but it was a choice he faced that night. I want to make sure, whether it is me or my successors, they have more choices available to them. There are ways of resolving large but complex banks in a way that protects the taxpayer and protects vital banking services. If you don’t have any other options to deal with a banking crisis or a banking failure, then it is an explicit guarantee because no Chancellor of the Exchequer is going to shut down the cash machines across the country the next day.

Q647 Mark Garnier: That is a very fair comment. My last question. Douglas Flint, when he has come before us, has talked about the fact that for HSBC who have a deposit to advance ratio below 100% they feel very aggrieved by the fact that they will have to raise potentially $55 billion worth of these bail-inable bonds, which they would argue is unnecessary given the fact that they run a very conservative loan book. Their estimate is it is going to cost some $3.5 billion a year in interest rate spread alone between what they deem as unnecessary bail-inable bonds and where they would have to deposit that money, which would be in UK gilts. The philosophical point for them is of course ultimately they will have to make a decision as to whether or not they want to stay in the UK. There are some elements of Vickers that are pretty draconian and some people will be having a careful think about whether they want to stay in the UK. What would you say to Douglas Flint if he was to come along and ask this question of you?

George Osborne: I have had this question directly from Douglas Flint. The point I would make is that, first of all, I think it is in the interests of all British banks, including HSBC, that there is a well regulated financial system, and I think London, the UK-not just London, I should say Edinburgh, Birmingham, Manchester, Bournemouth, all the banking sector, these are all very good places to do business. When you think of the other financial centres in which you might locate a large universal bank, whether you are looking at the United States with Dodd-Frank, whether you are looking at the eurozone and the prospect of a financial transaction tax, if you are looking at Asia and some of the political issues in Asia, I think the UK is a fantastic place to locate a universal bank and those banks have an interest in a well regulated banking system.

HSBC has a particular model of banking. It is of course one of the great success stories of the last three or four years. It is a bank that didn’t get into trouble, partly because of its very large depositor base. Now we have recognised that large universal banks that can provide us, i.e. the regulators, with assurance that should they get into trouble the UK taxpayers aren’t standing behind their Hong Kong operations or their Shanghai operations, providing they can provide that assurance then we won’t apply the bail-inable requirements to their entire global assets. So that is where we have deviated from Vickers, but we did it having spoken to him, and he gave an interview yesterday in a French magazine where he, I noticed, was very happy to go along with what we have proposed, precisely because there is a key test here, which is the regulator has to be satisfied that the British taxpayer is secure. If you come to the original objective of all this, Britain is the home of successful global banks, while at the same time protecting the British taxpayer. If the regulator is assured that the global operations of a global bank can be-the British taxpayer won’t have to stand by them in order to maintain essential banking services to Britain, then all well and good, and that is why we have made the adjustment in the Government’s proposals published before Christmas.

Q648 Chair: Just to be clear on that point, it is a big ask of a regulator to know whether a bank’s global operations are secure, is it not?

George Osborne: The question the regulator, I think, would be asking itself would be if this bank was in trouble, do they have a resolution planned for their overseas operations that ensures that the British taxpayer is secure? Of course, a bank like HSBC would have ring-fenced its UK retail banking activities and so there will be an option of maintaining essential banking services and it is easy to resolve that. So the regulator will want to satisfy themselves that is the case, that we would not be liable for overseas liabilities.

Q649 Chair: But you would agree you are adding a lot of discretion into the system by doing it?

George Osborne: What I have tried to do throughout these changes, not just with Vickers but also when it comes to the financial services legislation that we are about to introduce in Parliament, is give more discretion to regulators to make these sorts of judgement calls here.

Q650 John Thurso: You mentioned the ring-fence and discretion for regulators. As I understand it, the Government’s current intention is not to prescribe what will be and what will not be in detailed terms in the ring-fence, but have a set of objectives and principles and leave it to the regulators and the bankers to kind of work it out. Is that really the right way to go about constructing a robust ring-fence?

George Osborne: First of all, John Vickers and his committee thinks it is and we are following their advice in this respect. If you come back to the original purpose of Vickers, when I came to office, there was an argument raging among the people who had done our job previously, the chair of the regulators, the Governor of our central Bank, and indeed many parliamentarians, about how best to learn the lesson of the crisis. We established an expert committee. We have John Vickers, who I think everyone accepts has done a very, very good job, with a committee that includes people with retail banking experience, investment banking experience, and indeed, consumer champions. They came up with a unanimous report. It has been, as far as I can see, unanimously welcomed across the political spectrum, so they have done a really good job. Now, they reckon they specifically looked at the point that you make about whether they should prescribe exactly what should be in the ring-fence. They have said it is better to say that certain things should be or must be in a ring-fence, so those are SME and personal deposits and personal overdrafts. There are certain things that definitely should not be in the ring-fence, which are investment banking activities and market trading and the like, but then it is up to individual banks to decide whether things like large corporate lending should be inside the ring-fence or not. I think that is a reflection of the fact that, bluntly, Britain’s banks all have different structures and so there may be better appropriate solutions for appropriate banks.

Q651 John Thurso: Because, as you rightly say, Vickers’ recommendations were quite strict in that they did define what should not be in it and they did define what must be in it and there was a gap between the two that could be discretionary. From the Government’s consultation paper it seemed to be wider than that. What you are saying is you accept the Vickers proposals, which are a certain number of things that were legislated to be in, some which were definitely out, and it is the gap that will be at the discretion of the regulator and the banks, not the totality?

George Osborne: Yes, so there are, as I say, certain things that definitely have to be in the ring-fence, certain things definitely can’t be in the ring-fence. There is a middle ground that may or may not be. Of course, it is correct to say that it is not just the decision of the bank, the individual bank, it also has to be approved by the regulators who approve the structure of banks. I am speaking for John Vickers here, but I think he has sensibly taken the decision not to come up with a rigid definition of the ring-fence, but to make sure that wherever you draw your ring-fence that it is a high fence, so flexible in its location, high in its fence-like qualities.

Q652 John Thurso: Can I go on from that? We, the taxpayer and the Government on our behalf, have 83% of one universal bank in RBS, which is of course the universal bank that kicked it all off and got it most spectacularly wrong. Is there any merit in proceeding now to simply turn that into its component parts and have a couple of retail banks called RBS and NatWest and an investment bank that can be flogged off to somebody rather than continuing to pretend it is a universal bank of some merit?

George Osborne: I have had many discussions on the future of RBS and I am conscious that we must not act as a shadow director and the like, but I certainly have been clear in my view that I thought RBS should scale down its global investment banking activities, that it should become a much more UK and Europe-focused retail bank, where the investment banking it does primarily supports its retail clients and offers them products and the like. Now, that is the strategy that RBS is pursuing and that RBS has announced before Christmas, and so it is not claiming to be or aspiring to be that vast universal bank it was four or so years ago, and that I think is a sensible decision for it to take, one that I think will increase the value of the bank rather than diminish over time.

Let’s be clear, I know Mr Garnier asked me this, the idea that was quite current at the time-I can remember I was the Shadow Chancellor following these things quite closely-there was a lot said at that time about how we were going to make a killing out of RBS, fantastic deal for the British taxpayer, we were buying in at the bottom of the market, "Gosh, who wouldn’t want to do a deal like this?" We are many tens of billions of pounds underwater on our investment, if you can put it like that, in RBS. I think that is frankly a reflection of some of the problems that RBS has had. But I am happy with the strategy.

Q653 John Thurso: What you raise is, of course, the question of what is value for the taxpayer, and there is the simple value you referred to of you bought it for X and sold it for Y and the difference is a profit. But there is also perhaps the greater social value of decoupling the investment bank operation and having two retail banks operating on our high streets that simply cannot shift its capital into investment banking because it is not there, which will do far more to liberate lending to SMEs than virtually any other action. Is that not something that the Government should consider as delivering a form of value to the taxpayer that could have a great deal of merit?

George Osborne: I very much agree with the premise of your question, which is that we are not just any old investor in the banking system. We have a broader responsibility, as I have a broader responsibility, the House of Commons has a broader responsibility for the health of the British economy and the welfare of the British people. So my predecessor wasn’t investing in RBS, he was buying RBS shares in order to save the British economy, and that was his judgement at the time. So when it comes to the disposal of RBS, and indeed other shareholdings, we of course have to have a regard for value for money. That is very important, and indeed, is an accounting officer judgement made by my Permanent Secretary that makes sure that is absolutely taken into account and we have to be compliant with EU state aid rules, which is also a very important consideration. But I have been keen also to make sure there is more competition out there on the high street. Now, Northern Rock is a good example. There the very clear independent advice that we received from the Treasury was that this thing was continuing to lose value as a Government shareholding, so the sooner we sold it the better. But I also frankly wanted to get it out there on the high street, a new bank with a clean balance sheet that could go and lend. I don’t want to get involved in the detail of the negotiations Lloyds is having with the Co-op, but they have chosen the Co-op as their primary partner for discussing the sale of 600 branches to the Co-op. I think it would be good to have a new competitor out there on the high street, an expanding competitor.

When it comes to the Royal Bank of Scotland, I think the Royal Bank of Scotland focusing on its UK and its European business is a good thing for British customers, and indeed, by shrinking the size of the investment bank dramatically so that they are primarily servicing their retail customers, they are getting out of some of the capital-hungry things, top end, by which I mean of the investment banking scale, i.e. the very market-trading operations required.

Q654 Chair: Do you think a good deal of the capital of RBS has been absorbed on the investment side at the expense of retail?

George Osborne: Well, I just think it is quite a capital-hungry bank because of its structure.

Chair: You were just using that phrase, so I was just-

George Osborne: No, I think-

Chair: -asking you whether you think there is a factor of cross-subsidisation between investment and retail banking in RBS.

George Osborne: I just think it has been quite a capital-hungry bank because of its structure and some of the activities its investment banking arm is engaged in. Lots of investment banks are, this is true of any of them.

Chair: I am just trying to clarify whether you think this state-owned bank is cross-subsidising its investment activities with its retail deposits.

George Osborne: It is not of course wholly state-owned, but it is shrinking its investment bank from where it was four years ago. This is not something that can be done overnight, but it is shrinking its investment bank, it is reducing some of its capital-hungry activities. I think one of the consequences of this will be a good deal for the British consumer.

Chair: You are falling back on the same phrases, but that is fine, I know where you are coming from.

Q655 Mr Mudie: Just to keep going, Chancellor, do you envisage the retail ring-fenced bank being able to pass retail bank deposits over to the investment arm?

George Osborne: The deposits of individuals and small businesses have to stay in the ring-fence, and one of the things we are consulting on is the financial relationship between the ring-fenced bank and the rest of the bank, but we are clear the ring-fenced part has to be financially independent as well as legally independent.

Mr Mudie: So there is a greater chance? That should be good news for small businesses and small, medium-sized businesses, because they are in the retail side and they are able to get first go at the funds that come in the retail side instead of it being shipped over to the investment arm, and that is what we want to see happen, surely?

George Osborne: I think the proposal is good for small businesses, and very explicitly small business deposits were included as something that had to be in the ring-fence.

Q656 Mr Mudie: I am sorry, I was watching the clock because we are short of time. John Mann asked you a question and the Chairman indicated we were going to do an inquiry on it, so I don’t want to go into salaries or other things, but I am very interested in hearing the Prime Minister’s speech on shareholding powers, and I have been disappointed with the last Government and up until now with the present Government how they have acted as shareholders, for example, with RBS. Now, I read in the papers you have just passed it off as a proposal that emerged. I know I am asking this at a hard time, but what was the arrangement between you and UKFI in respect of that decision to lower the investment capital or the investment activity? It clearly seems to have upset people in the bank, and therefore although it should be applauded, do you not take ownership of it?

George Osborne: I know this will sound like-I will enter a caveat, which is I have to be careful that I don’t act as a shadow director. There are private owners of shares in RBS. However, I was very clear about what I thought was in the Government’s interests as a very large shareholder, and I was happy that the management agreed that RBS needed to move to a much smaller investment bank.

Q657 Mr Mudie: Did UKFI, to your knowledge, have any part in that initiative?

George Osborne: The UKFI were involved-

Mr Mudie: They are the assured shareholder, the official legal shareholder.

George Osborne: Absolutely. Although I see the management of-

Mr Mudie: No, but did they, to your knowledge-I am not asking about your involvement now. I am saying, to your knowledge, did they have any part in the initiative to get the RBS to come out of the extent of their operation in investment by the bank?

George Osborne: Yes, they were extensively involved in discussions with the RBS, but they had also discussions with me as well.

Q658 Mr Mudie: No, that is good. Have they, to your knowledge, been as active as that in the past two years in terms of remuneration?

George Osborne: I think they are pretty active in remuneration. They have secured in the last couple of bonus rounds that there are no cash bonuses of more than £2,000 in RBS and Lloyds. Ultimately it is a decision for the bank and its board but I think UKFI, and indeed the Government Ministers, have been pretty clear about what they think is appropriate.

Q659 Mr Mudie: The last two, is that 2010/11 and 2011/12?

George Osborne: It is the beginning of-yes.

Mr Mudie: For example, the one we are coming to, the same as the last year in terms of-

George Osborne: No, sorry, it is not. It is the beginning of last year-it was the last time we had the bonus round. I proposed it as Shadow Chancellor two years ago, although I was only Shadow Chancellor. I helped secure it last year. We are now having our discussions about this.

Q660 Mr Mudie: I am sure your fingerprints are over what is going to happen in the next few months. I do not mean that in a bad way. You take ownership-

George Osborne: You might not.

Mr Mudie: Well, okay. But can we expect the present settlements to have been part of the discussion between the management of the bank and the shareholders working in conjunction with yourself, quite sensibly, and that will be reflected in the outcome?

George Osborne: I am clear that given the fact this has not been a particularly successful year for banking we would expect to see bonuses lower this year than last year and I am also clear of the advice that the Bank of England, through the Financial Policy Committee that we have created, issued saying that banks should not be paying out bonuses if they have capital, that they should be using that money to build up. That advice should be heeded and the Financial Services Authority is currently going bank by bank to see whether they are compliant with that warning.

Q661 Mr Mudie: With RBS in mind, if have you successfully achieved them pulling back on the investment arm we might expect the chief executive of that bank, that his remuneration to be more in the Captain Mainwaring area rather than the chief executive of Goldman Sachs, wouldn’t we?

George Osborne: The scaling down of the investment banking activities is just starting to take place. Mr Hester’s contract is something that was negotiated by my predecessor or under the previous Government-

Q662 Mr Mudie: Chancellor, can I just ask you something? I said to the Chair I was finished, but I was a trade union official for 20 years, maybe even 30, and the number of times employers changed the contracts of my members, I can’t tell you how often, and it was simply done by issuing another contract and the alternative was, "If you don’t like that contract, you go. Now we will see you in court". Why, when you get into a senior position, do the contracts become something that cannot be changed?

George Osborne: But some of the stories we have been reading recently have been about, in effect, money that was awarded three years ago, two or three years ago, in the form of shares and those shares are now vested, so I don’t think we would have the power to sort of seize that money. That was money in shares.

Mr Mudie: You don’t think, have you checked it legally?

George Osborne: I am pretty certain.

Q663 Teresa Pearce: As I see it the commission is looking to remove risk from the taxpayer and to get a better service for the customer, and you have touched on competition and mentioned budget money, the Co-op and the high street looking different. How do you see the safeguards on capital requirements for newer entrants to the banking industry, smaller banks maybe? How do you sort of balance that safeguard with not being a barrier to new entrants? What would you like to see in the banking industry? Would you like to see new, smaller banks?

George Osborne: I would like to see new, smaller banks. I think you raise a very good question and, frankly, it is a policy dilemma. Obviously we have to make sure that people who have a banking licence, who are offering products to customers, are fit people to be doing that, and are able to protect their bank from failure, and the bank doesn’t fail, it has sufficient capital and the like. Since the financial crisis we are asking banks for more capital, not just here but elsewhere in the world, so that makes it more onerous to establish a bank than would have been the case in, say, 2005/2006. Now, I think that is sort of inevitable, given what happened, but that said, for appropriate people, fit and proper people who come forward, who do have the resources, I want that process of getting a banking licence to be as quick and as straightforward as possible. I have had many conversations with the FSA, it is their responsibility, that that should be a straightforward process if people fulfil the criteria.

Q664 Teresa Pearce: So you don’t want to go from too big to fail to too small to start?

George Osborne: Yes, but one of the things where we have explicitly departed from the Vickers report-and we are consulting on this so this is something we are genuinely seeking an opinion on-is in Vickers’ interim report he suggested a de minimis that small banks would be exempted from his regulations. In his final report, he said all banks should be included. What we have said is we should consider Vickers’ interim recommendation of a de minimis exemption for small banks and I think, without wanting to pre-empt your work, it would be extremely interesting to get a Treasury Select Committee’s view on whether to have a de minimis exemption for small banks that Vickers said in his interim report, but not his final report.

Q665 Teresa Pearce: Thank you. Just one more question. It is about this issue of if you regulate the banks too much they will all move abroad, which you touched on, and I don’t know if I understood correctly, but you seemed to be saying you didn’t think that was a realistic thing because it is not just regulation that makes people move abroad. What keeps people in this country is the fact that they do know they have the stability, they understand what is going to happen, there has been consultation, there is a good workforce and all those other factors. However, I just wonder to what extent you have had to modify the proposals in the face of the Government’s concerns that banks may relocate. Have there been modifications because of that?

George Osborne: No. We have listened to specific representations about the structures of certain banking groups and whether we can take account of that, and we discussed that earlier, for example, in regard to HSBC. But I made sure that the proposal we put forward achieves the same objective, which is protecting the British taxpayer. As I say, I know John Vickers, I think certainly publicly-I am not aware of him saying anything privately to the contrary-has welcomed the proposals we have put forward. I think these proposals make Britain the best regulated, not the most over-regulated, the best regulated centre for a universal bank and I think when you look at the realistic alternatives for those banks, I think we have a very good story to tell.

Teresa Pearce: So do you agree that what business wants is certainty and a level playing field?

George Osborne: Yes, I think they would certainly like certainty, and what I have tried to do is move as quickly as possible, while getting the detail right, to a place where we all, as different political parties, agree that this is a sensible way forward, given what happened in Britain in 2007, 2008. I won’t speak for my opposite number, Mr Balls, but I think we have broadly reached a political consensus, and I think the Vickers process has been really good at delivering that. When it comes to a level playing field, I think a level playing field is important when it comes to international regulation of financial services, but I think you have to allow individual jurisdictions like the UK, where they have very large banking industries, to do specific things nationally to protect their taxpayers, and that is what Vickers proposes.

Q666 Andrea Leadsom: Happy New Year, Chancellor.

George Osborne: Happy New Year.

Andrea Leadsom: Thank you. I am still concerned, I have raised this with you before, that the second bit, the kind of the afterthought of the Vickers proposals, those around competition, are still not really enough. There is a huge amount being done to make sure that banks are not too big to fail, and if they do fail, they can be resolved, but not really enough being done to ensure that the barriers to entry have been removed. Teresa Pearce has raised that point with you already, but it does seem to me, having taken some private meetings with the likes of Virgin Money, who as you know launched their new bank yesterday, which is great news for the consumer, and also with Metro Bank, who all agree there is a big issue of IT in banking, and that these huge legacy systems of the banks, the need to go to an agency clearer and so on as a new start-up is a massive barrier to entry. I just wonder if you could talk again about why you feel it is adequate to support the proposal that the Payments Council simply give you a gold plated switching service, rather than moving to a new shared infrastructure for banking where any new entrant could come in and plug in and play any day of the week.

George Osborne: Well, first of all, I accept there is a genuine dilemma, as I was just explaining, between making sure you have people who can come in and be proper people to do banking and have enough capital to do banking, and at the same time, not having an overly-high hurdle to getting on to the high street and being a competitive bank. I think the success story of Metro Bank, Handles Bank, hopefully Virgin Money, are all good examples of out there there is some diversity happening, choice happening and new entrants growing.

When it comes to the very specific question you have about account portability, first of all, Vickers looked at this and he came to the conclusion that the cost would outweigh the benefits. That ultimately the cost of changing the banking IT systems of the entire British banking system or all British banks so that you could take your account number and your sort code into any bank outweighed the benefit. He thought it was much more expensive than, for example, taking your mobile phone number with you. For example, sort codes currently are very branch specific, so if you keep your sort code that changes the nature of the sort code. So he came to the view that the switching option he proposed, that within seven days you would have in effect a guarantee provided by the industry that you can switch your current account, the numbers would change but all the direct debits and the like would follow without you having to contact all the individual companies that you have a direct debit with, he thought that was a better value for money option. Now, what we have done is-and as I said in the House of Commons, this is partly due to the work that you have done in drawing my attention to this-we have said that if this does not deliver what we hope, then we will look very seriously at account portability, so that was not in the Vickers report, it is something we put into the consultation document.

Q667 Andrea Leadsom: Can I just press back a bit on this, because I did speak to John Vickers just before his interim report came out, and it didn’t appear to me that there had been a great analysis of a new shared infrastructure system. In fact, it more appeared to me-I don’t want to put words into his mouth, and obviously the conversation was off the record-more that it was in the sort of "too hard" bucket, that it wasn’t worth going there, and we have certainly taken evidence from chief executives in banks who said, "Too hard, too expensive" and so on. But I have also met with some IT companies who have said, "Banking is about IT and if you had a single customer view, you would reduce fraud, you would reduce errors for customers, you would be able to give a far better customer service, you would be able to have a far clearer tariff". What other industry is there where they call it free credit banking? Well, of course it is not free, and we took evidence from banks on the amount of money they make from our credit balances, so it is a completely opaque industry, and that is down to the legacy systems. So if you ask them from an IT perspective, they will say even without the huge benefit of account portability that vastly improves the competition, you have enormous benefits to the banks themselves and to customer service by ensuring that you sort out IT legacy systems once and for all.

George Osborne: You make a powerful argument. I set up the John Vickers committee and I made sure that there was a consumer champion on it. You say you don’t feel they did enough work on this. I think there is a substantial section in his report on competition, on switching current accounts, but we are in consultation on this, so we have published a document, we have not produced the final version of this at all. So I think if you want to make your arguments, and there are others who put their arguments, let us absolutely hear them. But at the moment the evidence that I have seen and the advice I have received and so on has been that this would be prohibitively expensive because of the change it would require to the IT that stands behind every bank account in the country.

Q668 Andrea Leadsom: Yes. One last question on a slightly different matter, just referring back to what Pat McFadden was saying about scrutiny, and the amount of scrutiny directive by directive that you need to do in EU financial services matters. Is there, do you think, a role for a committee like the Treasury Select Committee in looking more early at directives as they come through? Obviously the EU Scrutiny Committee itself does a great job, but they are inundated. Do you think there is a potential role to have some of the expert Select Committees start to look at directives on the way through before we kind of get presented with a fait accompli at the end?

George Osborne: I think I will leave this for Mr Tyrie to discuss with Mr Cash. I won’t intrude into this fraught area. I think in terms of the scrutiny specific directive, I certainly would hope, and indeed you have interviewed Commissioner Barnier--

Andrea Leadsom: Reluctantly on his part.

George Osborne: He tells me how much he enjoyed appearing before you, but I would say that this European legislation is very important to the UK and we certainly should have people taking a good look at it.

Andrea Leadsom: Thank you.

Chair: We asked him some fairly straightforward questions and to some of them, I regret to say, we are still really awaiting full answers, but maybe we will have another go.

Q669 Mr Ruffley: Chancellor, how many new entrants to the retail banking market have there been in the last 20 years?

George Osborne: I don’t know.

Q670 Mr Ruffley: You do not think there is seriously inadequate levels of competition in retail banking?

George Osborne: I do think there are, absolutely.

Q671 Mr Ruffley: You have talked about Northern Rock and you have talked about a deal that the Co-op might be doing, but why do you think it is that the big four banks’ market share in the PCA market has been pretty constant over the last decade or so? What is your personal assessment of that?

George Osborne: I think it is because it is a business where-we were just having a discussion about IT-scale gives you an advantage, where there is a huge consumer resistance to switching accounts. I think it is less than 5% of people switch their accounts. We are trying to make that easier for people. It is quite difficult for a new entrant to get knowledge of, for example, a small business’ banking relationship with another firm, that small business is extremely nervous about moving and breaking that relationship to try and create a new one. So there are a lot of barriers to entry.

I think the other truth is that if you look at what has happened in recent years, the big new challengers were some of the biggest casualties of the banking crisis, HBOS and Northern Rock. HBOS in commercial lending particularly, but also personal lending, and Northern Rock in mortgages were the big challenger, they were the big entrants. Of course they were running, as we now know, big risks to be the big new entrants and they were trying to break into the monopoly of the big four, as you put it. Although I would just draw your attention to, I think, Santander UK has been a powerful new entrant on the high street, and Nationwide has made a very welcome recent announcement that it is going to be getting into the small business lending business.

Q672 Mr Ruffley: Do you think there is enough competition in the SME banking market?

George Osborne: Again, I don’t think there is and we are trying to increase it.

Q673 Mr Ruffley: What were the ICB proposals you have endorsed and want to enact? What do those proposals look like to enhance SME banking competition?

George Osborne: I think, for example, insisting that when it came to the divestment of Lloyds branches that we should consider that creating a powerful new challenger, I think that is a helpful recommendation in that respect, and as I say, I think the way they have constructed their proposals on the ring-fence makes it quite easy for people to engage in small business lending. It is good news, as I say, that Nationwide are getting engaged in this activity. There have been big casualties in the last four or five years, and some of them were the most aggressive lenders to small businesses. The Royal Bank of Scotland remains a very, very big player in the small business lending business in the UK and that is because it took a vast market share in the-

Q674 Mr Ruffley: The question is, Chancellor, can you point to anything in the ICB proposals that you have endorsed that are going to improve and enhance competition in the small business banking market?

George Osborne: As I say, I think the very specific recommendations we have had on competition that the Government should ensure-as a minority shareholder, and using what levers it can-that the divestment of the Lloyds branches that was required by the European Commission went to create a new challenger bank or expand a small bank rather than go to one of the existing banks, I think is a specific recommendation.

Q675 Mr Ruffley: So you are just hoping that those new entities will lend more to small businesses?

George Osborne: Well, those branches and that business is not going to Barclays or HSBC.

Q676 Mr Ruffley: Did you ever consider breaking up RBS to create a new challenger bank?

George Osborne: Well, obviously on coming to office and in discussions I looked at the Government strategy-inherited, from my point of view-towards RBS and in the last 18 months that strategy has changed. The management themselves have made proposals that I welcome, so I think you can see in what RBS is doing partly what the Government thinks is the right thing to do.

Mr Ruffley: So you didn’t consider breaking up RBS?

George Osborne: I don’t think it is helpful to speculate about individual firms, even ones where the Government has a very large shareholding, about all the options we have ever considered in private, but I think people can see in public that RBS is changing its strategy, dramatically reducing the scope of its investment banking and I think that partly speaks for itself.

Q677 Mr Ruffley: A final question. On Andrea Leadsom’s point about shared infrastructure, and you talked about what John Vickers said about the cost, that at this stage the costs would outweigh the benefit. We have had evidence in this Committee from Don Cruickshank, who first argued for this around 2000, and he suggested that the Treasury had objections, that they basically put the kibosh on the idea, and he regrets, ten years on, that this has not been done. Is there a piece of work you could make available to this Committee that your officials have put together explaining why the costs would outweigh the benefits? As my colleague, Andrea Leadsom, has said, some people would doubt that the IT costs would be prohibitive. Could you make that available to this Committee?

George Osborne: Yes. I think what I will undertake to this Committee is that in the conclusion of the consultation and the White Paper we produce that we give very serious treatment to the account portability proposal. We set out the costs and the benefits, and indeed, if the benefits outweigh the costs, we will look very favourably at it, but let us hear the evidence and see the evidence. What I promise the Committee is that we will give our full consideration.

Q678 Chair: That is very helpful. Out there, there is a considerable concern about the squeeze on lending to small businesses that is taking place, and we received extensive evidence that the ICB proposals could add to that squeeze. The CBI, for example, said that this will add to the cost of banking operations, all of which will have some impact on the cost and availability of lending, and others have referred to small business lending. Is this an issue that you have addressed carefully, and given thought to-

George Osborne: Obviously I would be concerned if I felt that was going to be the case. It is also something, to be fair, I think the Vickers committee took seriously. One of the reasons why John Vickers suggested-we have not discussed today the timetable on implementation, but one of the reasons he suggested 2019 as the backstop, particularly on the capital requirements, which is where you might see the impact on the cost of credit, one of the reasons he has suggested that long implementation date on that proposal was, I think, to deal with a reflection of the fact that the current credit conditions across Europe and the UK and elsewhere in the west are not what we would like them to be.

Q679 Chair: One of the points that the banks have also made to us is that the regulation being put through now in order to make banks look safer, particularly on the liquidity side, is itself making it more difficult for them to lend. How carefully are you keeping an eye on that issue, or are you leaving that very much at arm’s length to the regulators?

George Osborne: These are judgements for the regulator, but it is something we take a close interest in.

Q680 Chair: You have someone monitoring this in the Treasury, have you, and briefing you on it?

George Osborne: Yes, absolutely, it is something we monitor, and of course the concerns the banks have expressed to you are the concerns the banks have expressed to us. While I say banks generally, there have been one or two specific institutions. I would just say that events in the last three or four months have demonstrated that it was quite a good idea to ask some of these banks to be more liquid and one of the reasons why I think UK banking is seen by the world to be well-capitalised and liquid is because the regulator has made sure that it was, and it has passed every kind of stress test that has been done at a European level over the last couple of years.

Chair: Chancellor, we are very grateful for you giving evidence this afternoon, it has been extremely interesting. On the competition side, you can tell the strength of feeling around the table and the unanimity of this Committee that we want to see competition as a primary objective in the legislation that you will be formulating shortly. You will also have heard that we would, on an exceptional basis, like high-level of transparency with respect to our negotiating position at the summit. I recognise the difficulties there for you, but I would be very grateful if you would think very carefully about how you can supply that transparency. Thank you very much for coming this afternoon.

Prepared 20th January 2012