Enterprise and Regulatory Reform Bill

Memo randum submitted by TransformUk and ClientEarth (ERR 04)

Priority Amendments to the Enterprise and Regulatory Reform Bill 2012 establishing the Green Investment Bank –

Borrowing from the Capital Markets

Green Purposes

Independent Expert Review

Executive Summary

The amendments presented in this briefing represent the priority recommended amendments to Part 1 of the Enterprise and Regulatory Reform Bill establishing the Green Investment Bank (GIB/the Bank). While we have recommendations for additional amendments, the 3 presented here are the minimum changes to the legislation that are essential in order to safeguard the efficacy and credibility of the Bank.

The legal text suggested has been crafted by leading environmental law organisation ClientEarth, in collaboration with Transform UK, the independent NGO that founded and co-ordinates the national alliance campaign to set up the Green Investment Bank. In 2010-11 ClientEarth and Transform UK collaborated on demonstrating why it was essential to establish the GIB by legislation. Since that time, we have undertaken extensive legal policy work on the optimum statutory design for the GIB, culminating in a parliamentary launch of model legislation in late 2011.

For reasons of Parliamentary time it is important that the GIB amendments are debated together. For this reason we recommend that our amendments be introduced as amendments to existing clauses rather than by introducing any new clauses. The structure of the recommended legal text in this document follows this approach.

The first essential amendment is to introduce provisions that cement the commitment to allowing the Bank to borrow from the capital markets no later than June 2015, whilst taking the necessary steps under EU law to enable the possibility of earlier borrowing if the political decision was taken to utilise the GIB’s massive potential to stimulate green growth. Without such an amendment, there is no reason to have any confidence that the Bank will ever be able to borrow in practice. A bank that cannot borrow from the capital markets cannot be described as a bank.

The second essential amendment is to amend the purposes clause to ensure that the Bank’s activities will be truly green. The purposes the Government has put forward have been drafted in such a way as to make them almost meaningless, providing no legal certainty that the Bank will be focussed on unlocking investments in transformational green technologies. If the purposes clause is not amended, the Bank would even have the ability to support high carbon technologies. This risks significantly undermining the environmental credibility of the Bank.

The third amendment is necessary to safeguard the accountability and transparency of the institution. Despite being a novel institution fulfilling a vital public purpose, the Government has not proposed any independent expert review into the performance of the Bank. It is also concerning that the GIB company constitution provides that the monitoring of the GIB’s performance that the Department for Business will undertake as shareholder will occur behind closed doors, with no opportunities for public consultation, and no public facing assessments of how the Bank is fulfilling its purpose. Unless amended, these omissions represent barriers to broader stakeholder engagement in the future of the Bank, their ability to hold it to account, and the prospects of the GIB maximising its catalytic potential. As the Government shareholder will have the ability to amend the Bank’s priority sectors at whim, independent expert review is also a critical component of independence.

1. BORROWING FROM THE CAPITAL MARKETS

The ability of the GIB to borrow is critical to its success. To be effective it must be allowed to borrow from the capital markets − otherwise it will be nothing more than a government‐run fund.

As a Companies Act company, the power for the GIB to borrow is theoretically ‘enabled,’ but this is not the same thing as being ‘allowed’ to borrow in practice. The Government’s update on the GIB from May 2011 stated that the GIB will not be allowed to borrow until 2015 and only once the UK’s national debt is declining as a percentage of GDP. This is now not expected to happen until 2016, and if the European economic crisis deepens then it could be even longer before the GIB is allowed to borrow. There is a high level of concern however that this constraint has been imposed on the GIB by senior civil servants in the Treasury who do not ever want the GIB to borrow independently due to ideological opposition to public banks, and are implementing a classic delaying tactic. Additionally, the Government has not yet taken the necessary steps under European law (State aid notification) for the Bank to be allowed to borrow any time soon.

As it stands, the effect of the legislation and GIB company constitution is that the GIB will not be allowed to borrow from the capital markets on enactment, with no certainty that this will ever change in practice. There is a provision in the Bill to enable the GIB to borrow from the National Loans Fund but this is not the same as the GIB being allowed to borrow from the capital markets, which would mean borrowing independently and the ability to leverage far higher levels of private sector investment into the low carbon economy.

Amending the legislation establishing the GIB is the only way to overcome these barriers and provide certainty and visibility to investors and other stakeholders that borrowing from the capital markets will ever materialise in practice.

Allowing the GIB to borrow is critical to ensuring the Bank can fulfil its enormous potential. The UK is now in a double‐dip recession which is mainly due to a lack of investment in the economy. Of the many billions that need to be invested in renewing the UK’s infrastructure, analysis by E3G for Transform UK demonstrates that 70% of this is in green or green‐enabling technologies. The GIB is critical to unlocking this investment and delivering growth. Investor confidence in the private banks is at an all‐time low. The GIB could help ‘plug’ this gap. Through issuing bonds the GIB can create a ‘linking institution’ to draw down the vast pools of institutional investor capital held in the capital markets into UK infrastructure projects.

But the coalition Government has ruled out allowing the GIB to borrow in the foreseeable future. It has maintained this position even as government borrowing costs have reached a record low. The main argument cited publicly for not allowing borrowing is its impact on Public Sector Net Debt. However, this constraint significantly limits the ability of the GIB to unlock significant investment in the UK economy and so help the UK to grow its way out of recession. [1]

By way of illustration, the GIB has currently been allocated £3 billion in start up funding. The Government has estimated this could unlock a further £15 billion in private sector co-investment. [2] However this is a fraction of the £200 billion that needs to be invested in energy infrastructure alone out to 2020. Were the GIB to be allowed to borrow at a modest ratio of 1:6 in the first instance, this would boost its capital base to £18 billion. This could (according to the Government’s own calculations) then unlock £90 billion in private sector co‐investment − or nearly half of the capital needed to decarbonise the energy system by 2020.

Of the public banks established in other European countries, all are allowed to borrow independently from the capital markets. For example:

· KfW Bankengruppe in Germany leverages its equity by x28.

· Bank Nederlandse Gemeenten in the Netherlands leverages its equity by x59.

If the GIB is not allowed to borrow independently, the Government will leave the UK at a competitive disadvantage. Unlike public banks in other European countries, the GIB will have no opportunity to bolster its balance sheet through issuing GIB bonds and so scale up its investment in the UK economy. This situation can only be reversed by a legislative amendment similar to the one set out in this document.

The effect of that amendment is to require the Government to allow the GIB to borrow from the capital markets no later than June 2015, while leaving open the possibility of earlier borrowing if such a political decision to stimulate growth was made. As is proper for a Bank that may be classified as on the public balance sheet, the amendment preserves the ability for the Treasury to prescribe some limitations on the amounts the Bank may borrow. The amendment also requires the filing of State aid notification with the European Commission by a fixed date to enable borrowing to happen soon.

AMENDMENT – Borrowing from the Capital Markets

In Clause 4 ("The UK Green Investment Bank: financial assistance") insert the following sub-clauses after sub-clause (6) –

"

(7) Subject to approval by the European Commission of the State aid notification concerning the establishment of the Green Investment Bank, it is the duty of the Secretary of State to provide the European Commission with State aid notification concerning the intention to allow the Bank to borrow from the capital markets.

(8) The duty in subsection (7) must be fulfilled no later than 31st December 2013.

(9) In the event the European Commission approves the State aid notification concerning borrowing, it is the duty of the Treasury to permit the Green Investment Bank to begin borrowing from the capital markets no later than 30th June 2015, or, if State aid approval has not been received by that date, no later than 1 month from the date of approval.

(10) Nothing in this section shall be taken as depriving the Treasury from the ability to prescribe or amend limits or terms on which the Bank may borrow. "

EXPLANATORY NOTE:

The amendment is required in order to provide certainty and predictability to investors and other stakeholders that the GIB will be permitted to borrow from the capital markets within the next few years. It is also required to commit the Government to taking the necessary steps to enabling the GIB to borrow by June 2015 at the latest, and become the significant engine for economic growth that is urgently needed.

The amendment is also required to commit the Government to taking steps to seek State aid clearance for borrowing on timescales that preserve the possibility of borrowing from 2015 or earlier. The timeframes established in this amendment provide adequate time for the Government to carefully develop detailed proposals for the borrowing mechanism, and to satisfy the requirements for State Aid notification flowing from the Treaty of the Functioning of the European Union. Until State aid clearance is received, the Bank cannot lawfully engage in any borrowing. The amendment does not presume any particular outcome of this notification, but commits the Government to moving forward and allowing the Bank to engage in at least some borrowing if State aid approval is received.

Subsection (10) is included to clarify that the amendment does not alter the ability for the Treasury from determining or amending the details of the borrowing mechanism, including setting maximum levels, provided that some borrowing is allowed by June 2015, or as soon as State aid approval is received.

2. THE GREEN PURPOSES

A key test for the GIB is whether the legislation contains an appropriately defined mandate to ensure the Bank's activities will be truly green. The mandate is located in the purposes clause of the legislation, and supplemented by elements of the GIB company constitution. To be effective, we consider that the purposes clause should achieve two essential functions: 1) provide clear broad parameters for what types of investment the Bank may and may not fund, and 2) point the Bank towards high environmental benefit within these parameters.

As currently constructed, the purpose clause does not achieve either of these functions in any meaningful way. The construction is overly broad, to the extent that it means almost nothing and does not legally rule out the support of high carbon infrastructure projects provided that advances in resource efficiency are made.

Language such as 'reduction of greenhouse gas emissions' and 'promotion of environmental sustainability' are also highly ambiguous and achieve little or no legal certainty to ensure the Bank will fulfil the first bottom line (environmental benefit) with adequate ambition. Overall, the weakness of the purposes clause significantly undermines the environmental credibility of the Bank and would allow for dilution or perversion of the Bank's mandate in the future. It therefore requires amendment.

The amendment has the effect of strengthening the green mandate in 3 main ways. Firstly, a link with emissions reduction targets and carbon budgets under the Climate Change Act 2008 has been included to enshrine ambition and to help ensure that all the Bank’s investments are in line with the achievement of these targets. Secondly, the purpose of ‘advancement in the efficiency in the use of natural resources’ has been deleted and replaced with the purpose of accelerating improvements in energy savings and energy efficiency. If left to stand, ‘the efficient use of natural resources’ purpose would invite a whole range of investment projects in sectors not normally regarded as green. Examples include high carbon infrastructure projects. Waste projects could be covered by the clause

‘protecting or enhancing the natural environment.’ Thirdly, an exclusionary clause has been introduced to explicitly prevent the Bank from ever funding high carbon infrastructure, such as high efficiency fossil fuel generation.

The Government may suggest that an alternative to amending the purposes clause in the legislation is to amend the objects clause in the GIB Company Constitution (Article 3 Articles of Association.) While it is true that the Bill provides for some entrenchment of the objects clause by requiring the passing of a statutory instrument (order) before it may be changed, this is not an adequate solution. Changes to the GIB’s mandate effected by statutory instrument will not be subject to the same level of public or parliamentary scrutiny as primary legislation. Furthermore, relying on this constitutional change as a solution would result in a less readily enforceable mandate. This is the case because the Department will be the sole Shareholder of the Bank, and therefore the only party capable of enforcing the Company constitution. Finally, it is the legislation that provides the greatest visibility of the Bank’s environmental credibility to investors across the world.

The purposes clause must strike a delicate balance between focus and flexibility. Legally, the objects clause in the GIB company constitution will always have to fit within the purpose clause in the legislation. Any activities the Bank funds that fell outside of these purposes would be ultra vires or ‘beyond power.’ For this reason it is important that any statutory tests or exclusions on the scope of the purposes clause are sufficiently realistic so as not to paralyse the activities or decisions of the Board. The amendment that follows satisfies this test.

AMENDMENT – The Green Purposes

Clause 1 ( "The Green Purposes" ) is amended as follows

"

The Green Purposes

(1) The green purposes are -

(a) The reduction of greenhouse gas emissions ;

(b) The advancement of efficiency in the use of natural resources;

(b) Accelerat ing significant improvements in energy savings and energy efficiency;

(c) Protecting or enhancing the natural environment;

(d) Protecting or enhancing biodiversity;

(e) Promoting environmental sustainability.

(2) The purposes in subsection (1) shall be pursued in line with the achievement of greenhouse gas reduction targets and carbon budgets under the Climate Change Act 2008.

(3) The purposes in subsection (1) shall not allow for the support of high carbon infrastructure projects, including any infrastructure projects likely to result in a significant increase of greenhouse gas emissions.

(2) (4) In subsection ( 1), 'greenhouse gas' has the meaning given by section 92(1) of the Climate Change Act 2008. "

EXPLANATORY NOTE :

The amendment is necessary to safeguard the environmental credibility of the G IB . The first effect of the amendment is to introduce a link to the Climate Change Act to enshrine necessary ambition and help ensure that all the Bank’s investments are undertaken in line with the achievement of carbon budgets and carbon targets.

The second effect of this amendment is to delete the purpose of advancement in the efficiency of the use of natural resources.’ Retaining this purpose would have allowed the Bank to lawfully fund high carbon infrastructure projects simply where gains in the efficiency of inputs against outputs are made. This purpose has been replaced with the purpose of ‘accelerating significant improvements in energy savings and energy efficiency,’ reflecting the importance of this objective, and the fact that some of the measures captured by this category are motivated by a range of environmental concerns, not only merely greenhouse gas reduction.

The third effect is to introduce an exclusionary clause explicitly preventing the Bank from ever funding high carbon infrastructure projects, such as high efficiency fossil fuel generation or other non- green infrastructure projects that could otherwise be lawfully supported on the grounds of marginal improvements in emissions intensity. The exclusion clause is an absolutely essential amendment to provide the GIB with green credibility.

3. INDEPENDENT EXPERT REVIEW

In the wake of the banking crisis, another key test for the legislation establishing the GIB is whether it establishes the highest standards of transparency and accountability. As the UK’s first ever public bank it should be a model of transparency and accountability.

While the legislation contains some positive elements in this regard, these are outweighed by some significant weaknesses that clearly require amendment. Contrary to the recommendations of several stakeholders including Transform UK, ClientEarth and the GIB Commission, the legislation contains no requirements for independent review of any sort. Additionally, the GIB company constitution provides that the monitoring of the Bank's performance that the Department for Business will undertake as sole shareholder will take place behind closed doors, without resulting in any public facing reports or reviews whatsoever. The GIB is not an ordinary company and it is entirely appropriate to subject it to independent expert review for the purposes of accountability and maximising the long term efficacy of the institution.

Another deficiency is the absence of any requirements for public and stakeholder consultation in either the legislation or the GIB company constitution. We consider that this represents a significant barrier to broader stakeholder and societal engagement with the trajectory of the Bank, and diminishes their ability to hold it to account. These omissions also risk diminishing cross Departmental advice and input on the performance and future directions of the Bank, and may serve to push out key departments such as the Department for Energy and Climate Change in the future.

Furthermore, it is not appropriate for the Department for Business to retain sole responsibility for the future of the Bank. In this regard, independent expert review should be seen as an important component of real and perceived independence for the GIB. This is particularly true in the scenario where the Department for Business is the sole shareholder of the Bank, and with the ability to amend the priority sectors or several other elements of the Company constitution at whim. The amendment that follows enhances, and does not detract from, the independence undertaking required by the Government in clause 2 (3) of the Bill.

The amendment requires the Secretary of State to arrange independent review on a periodic cycle, and sets out minimum content and publication requirements for the content of a review to help ensure balanced meaningful review. The Government may respond that there is no need for the legislation to secure review or public consultation because parliamentary committees are likely to conduct enquiries into the Bank anyway. This is an entirely inadequate response. Firstly, the ad-hoc work of parliamentary committees provides no certainty regarding if and when a review will occur. Secondly, while they fill a vital purpose, parliamentary committee members are not professional green investment experts.

We note that the amendment that follows is not the only desirable amendment to improve the transparency and accountability of the GIB, but it is the priority amendment for this theme. ClientEarth’s model legislation contained in the report Towards the Green Investment Bank Act also recommended the application of the Freedom of Information Act, presumptions of general disclosure, and enhanced narrative reporting requirements for the Board.

AMENDMENT – Independent expert review, and consultation requirements

In Clause 6 ("The UK Green Investment Bank: documents to be laid before Parliament"), insert the following sub-clauses after sub-clause (4) –

"

(5) It is the duty of the Secretary of State to require independent expert review of the performance of the Bank including–

(a) A full review no less frequently than every five years, and

(b) An interim review no less frequently than every two and a half years.

(6) A review made pursuant to subsection (5) shall include at minimum:

(a) An assessment of the Bank’s environmental performance in fulfilling the green purposes in section 1,

(b) Analysis of the main trends and factors likely to affect the future development, performance and position of the Bank,

(c) Economic analysis,

(d) Recommendations to improve or maintain the Bank’s impact in fulfilling the purposes in section 1.

(7) Prior to the commencement of a review pursuant to subsection (5), the Secretary of State must request the views of–

(a) The Secretary of State for Energy and Climate Change,

(b) The Secretary of State for Environment, Food and Rural Affairs,

(c) The Committee on Climate Change,

(d) The Scottish and Welsh Ministers, and the Ministers of Northern Ireland,

(e) Investors, market participants and other interested persons, and

(f) Members of the public,

and provide a copy of the results of this consultation to the person or body undertaking the independent review.

(8) The Secretary of State, in the capacity of shareholder, must provide such information as he considers reasonable to enable the person or body undertaking the review to fulfil the requirements of subsection (6).

(9) A review made pursuant to subsection (6) must be published and laid before Parliament. "

EXPLANATORY NOTE

The amendment is necessary to improve the transparency and accountability of the GIB. The amendment strikes a balance between meaningful review and the need to preserve the operational independence of the GIB. The effect of the amendment is to require the Secretary of State to solicit independent expert review on a periodic cycle of 5 years for a full review, and every two and a half years for an interim review. The choice of person or body to fulfil this review is not specified in the amendment. However, the amendment sets out minimum requirements for the contents of a review to help ensure a balanced and meaningful assessment.

The amendment also introduces a legal requirement for the Secretary of State to undertake stakeholder and public consultation prior to the commencement of a review, and to provide the results of this consultation to the person or body undertaking the review. These consultation requirements will improve the accountability and level of engagement with the institution, whilst formalising the importance of cross departmental and stakeholder input.

Finally, to improve transparency of the Bank, the amendment requires the review to be published and laid before Parliament.

The amendment does not diminish or alter the contents of the Government’s independence undertaking required pursuant to section 2(3) of the Bill. The practical effect of the review is twofold: firstly) it may influence the direction of the Bank to the extent the board choose to accept some of its recommendations or expert advice, or otherwise benefit from analysis or information contained in a review, and secondly) it may influence the Government shareholder to amend the Framework Document (parts of which comprise the company constitution), or Articles of Association so as to steer the Bank’s high level objectives in a new direction.

June 2012


[1] To give some context as to how erroneous this argument is, a 2009 ONS Report lists the current

[1] government off balance sheet liabilities could be reclassified as on balance sheet (and so impact

[1] Public Sector Net Debt) amount to upwards of £3.7 trillion. This includes £1 trillion − £1.5trillion to

[1] underwrite Lloyds TSB and Royal Bank of Scotland liabilities. Lloyds TSB and Royal Bank of Scotland are currently classified as off balance sheet on the basis that they are temporary liabilities. It could equally be argued that the GIB is a temporary liability until such time as it builds a track record,

[1] acquires sufficient reserves and obtains a rating.

[2] Speech by Nick Clegg in April 2011.

[2] http://www.reuters.com/article/2012/04/12/idUSL6E8FC2E420120412

Prepared 20th June 2012