Examination of witnesses (Questions 160
TUESDAY 23 MARCH 1999
and MR ROBIN
The Committee suspended from 16.33 pm to 16.40
pm for a division in the House of Lords.
Eatwell's question about systemic risk.
(Ms Johnstone) I have to say it is not an issue
that we have thought about a great deal but having looked at the
definition of market confidence I think I would rather agree with
the Committee. It does seem rather strange that it is not there
because the market confidence definition seems quite narrow. We
would have sympathy with that point of view.
(Mr Heath) We get rather blase in the United Kingdom
about the stability of our various product providers. We have
done very well with the DTI's covering of insurance companies
and the Bank of England in the way of regulated banks. With the
exception of the BCCI I could not think of too many occasions
where there has been systemic collapse in the way we have seen
in America. We have been extremely fortunate. I would think whatever
this Bill says must continue that tradition. It not only comes
in terms of straight preventative regulation being careful in
that way, but there are things which could be done within the
wholesale sector and the way the retail sector is regulated, which
could destabilise providers. This is another area but we would
agree. We also need to have a pretty clear definition of the regulation
of the Bank of England and FSA. We would not want to see a situation
where somebody fell down the middle somewhere. One of our great
legacies, I have to say, in the United Kingdom, is that our tradition
of regulation has been so good. It was quite interesting, the
comment made that if you are a investor of a building society
your money is safe. Not in America it ain't. It is because we
have had that wonderful position that has gone on so long.
Chairman: I would
like to use the remaining time of this session to deal with the
two issuesmaybe we will roll them togetherof competitiveness
and competition and the whole question of the regulatory burden.
161. International competitiveness and competitiveness
between firms in this country. The Treasury Select Committee looking
at this subject did recommend that there should be a fifth objective
to improve competition. What are your thoughts on the way the
whole FSA structure and the rule book is going to impinge on the
competitiveness of the City of London financial services institutions
in this country? Are we driving out people? We have 550 foreign
banks operating here already. Are they likely to diminish or expand
as a result of what we are discussing?
(Ms Johnstone) I do not think we have views or
are in a position to have a view on the impact on the industry
although we have got views on competition.
(Mr Heath) I am looking at Robin actually but
the point I would make is that people do not send money to London
because Howard Davies is a good regulator. They send it because
the City of London has a very good reputation, and because of
the place and time zones and other reasons that is why markets
and business is done here. So the cost of regulation can only
drive out business. That is something we have to be careful of.
In the retail side we have a similar problem, but we now have
effectually two systems running, which was picked up by one of
your earlier speakers. We have the full blown regulation, advice
based research, and now we have CAT standards and attempting to
move to benchmarks; where in one area we are trying to protect
the consumer from everything and in the other area we are allowing
the consumer to misbuy with confidence. These, if you like, are
two separate strands. However you benchmark products it does not
mean that your client is buying the right product for themselves
in the first place. They may end up with a most suitably and cheap
wonderful pension but actually need protection insurance more
than they need a pension. There will be no-one under the benchmarking
system to advise them of that.
162. You have just said something I really
quite strongly disagree with, so I would just like to hear you
justify it. I think almost the whole of my life has been spent
as one form or another of international operator in the City.
I would say that one of the fundamental reasons, for many years,
why business came to London, is that London was clean and well
regulated. Now in some cases, of course, it came because it was
not regulated at all, as in the case of the Euro markets. I do
not think the quality of advice, as you suggest, is anything like
as appalling to external holders of funds, so we are rather at
(Mr Heath) I do not think we are at odds. The
point I was making was that the City of London was built on reputation.
As you say, a clean market. It was not based on regulation. Since
we have had to have regulation, we have it. So my point really
is, I do not think we are at odds in any way. If you look round
at the magnificence of it, that was not built by regulation, it
was built by a market which happened to be self-regulated. Now
we cannot trust the market to be self-regulating, so we are told,
so we have to bring in regulation. I do not think there are any
odds in what we are saying. Purely we are all looking for a clean
(Mr Hutton) Could I add, I do not really see any
problem with the wording of the clause 2.3. It summarises quite
well what this regulatory legislation should try and achieve.
As far as ensuring proper competition and conditions of competition
are concerned, there are other pieces of legislation to deal with
that and other machinery. I personallyand it is a purely
personal opinionfind the drafting of those four sub-clauses
to be very helpful indeed, in that they say it should not get
in the way of competition. It should generally help the competitive
environment which, it seems to me, is the best way of doing it.
163. In the principles rather than a separate
(Mr Hutton) Yes.
164. Would anyone like to make a case, it
says here "proportionate to the benefit". If we are
all agreed that there is a cost involved in providing an appropriate
product or financial service to a client, would anybody realistically
suggest that there should be minimum commission, minimum cost
to a product, as we used to have in the old days of the Stock
Exchange, below which it would just not be physically possible
to provide a product with best advice and best compliance regulation
costs that went with it? Maybe we should be allowed to charge
below that. Nobody is actually suggesting that.
(Mr Hutton) I see no justification for that.
165. Right, so how can we guarantee "with
minimal cost" and at the same time comply with all these
regulations that a financial company is providing the consumer
with the most appropriate products?
(Mr Hutton) Could I just say that I think the
word "guarantee" is the key to the whole thing. You
cannot guarantee it. Competition in the market place will eventually
weed out the ones who do not do the job. It seems to me that in
a capitalistic system that is pretty fundamental.
166. The public awareness objective is fairly
open-ended. It talks about the promotion of public awareness of
the benefits associated with investment and the provision of appropriate
information and advice. It seems to me fairly open-ended and could
become more and more extensive. Do you think that, compared with
the four regulatory objectives, there is enough about the maintenance
of competition and international competitiveness in the Bill,
whether or not the maintenance of competition were to be made
an objective in its own right? It does seem to me that the Bill
may not yet recognise fully how much consumers have benefited
from competition in the United Kingdom market. The range of products
that have been available to them and the opportunities that have
been available have been much greater than would have been the
case had we had a much tougher regulatory regime. I know it is
a balance. I would like to know whether you think the Bill says
enough about the maintenance of competition.
(Ms Johnstone) We would find it helpful if it
did have improving competition as an objective. Whilst we have
a competitive market, it has not always worked in the consumer's
interest. If the regulator is looking to improving the market,
as well as not distorting the market, that would be very helpful.
The provision of comparative information is one of the things
we have been talking about.
(Mr Heath) I think Viscount Trenchard makes a
very good point and it picks up the point made earlier about Germany,
which has had product regulation since the Second World War and
has hadalthough it is beginning to improve nowa
totally stagnating product development. There was very poor product
development there. There was very poor value for money for the
clients and consumers and a lot of money flows out of Germany,
not only for fiscal reasons but because there is better value
elsewhere, not least on the London market, I have to say. For
things like death in service benefits for German companies, the
Germans discovered some years ago that it was much cheaper in
London than in their own area. So we do have to keep an eye on
this. Whilst we have to have a regulator looking at particularly
poor value products, because the previous regime allowed a poor
value product, as long as it was sold correctly it was fine. There
was some pretty ropey stuff being thrown about in some cases,
I have to say, which really the consumer was very lucky to get
a decent return on. But if it was sold correctly that was okay.
Equally, we do not want the regulators marching through every
product, attempting to second guess the product design, which
is what happened in Germany and did their industry unaccountable
167. At the heart of this subject seems
to be a balance to be struck between the desirability of reducing
risk, particularly for the ordinary public, as against the cost
of doing so. I am interested in where these costs fall. Would
I be right that the costs are ultimately borne by that same public
or are they absorbed by the industry and reduced profit margins
and shareholders? To the extent that they are borne by the public,
is this a matter which concerns or should concern the Consumers'
Council? Do you see yourself as the guardian of a savings culture,
which will obviously be undermined if everybody had to pay excessive
costs for savings products?
(Ms Johnstone) We assume the costs of regulation
are borne by the consumers in the end. That would be our starting
point. Obviously I am no expert in the industry cost structure,
so I would not be able to say if it was otherwise. Clearly it
is a concern to the consumer organisations and to the NCC, if
the burden of regulation is disproportionate to the benefit to
consumers. But it is very hard to make that kind of judgment because
obviously the costs of inadequate regulation are borne by consumers.
Those costs can be very heavy indeed when you get to retirement
age and your pension is not able to keep you. What do you do?
168. The taxpayer has to provide a social
security system to pick up the pieces.
(Ms Johnstone) Yes, that is another issue. You
pay for it as a taxpayer instead. But as the intention of Government
policy is to move people more and more into making provision for
themselves, to relieve the burden on taxpayers, if the regulatory
system does not work that policy will not work. It will come back
to the taxpayer. It is very hard to make a judgment about what
is excess costs; apart from the accidents, the casualties, which
is not a particularly good way of measuring the system.
(Mr Heath) From our point of view, we have a problem
because we have no access to shareholders' money, so our costs
find their way back. It does give an imbalance in the market,
particularly if regulators are allowed to have free will as to
what they can do. There is a tension here that the Government,
in the form of Treasury, is not paying for this system, yet could
find itself under very significant pressure to do things. One
can think of a Dangerous Dogs Act situation without needing to
go to legislation. Effectively, from now on, the Treasury will
own this regulation in some form or way. But it does not have
to pay for it. The regulator does not have to pay for what is
going on. As we have seen previously, product providers can and
do accept these costs, whilst sometimes maybe putting up a fight
on behalf of the shareholders and policy holders. There is this
tension in the whole system. This is why when we go back to our
perspectiveand the NCC is coming from the same place in
a different waywe are coming back to defined regulation;
to knowing where we are and to making sure that what we are doing
now is actually acceptable. If I can just pick up the kettle analogy
for a second because it is a good one, although I do not think
it takes us very far. The kettle works on water, which remains
the same, and on electricity, where the voltage remains pretty
much the same. To give you an example we work in different products.
Mortgages in 1992 were 16 per cent and are now down to 6.5 per
cent. Returns on pensions fell from 23 to 11 per cent between
1990 and 1999 and between 1991 and 1999 annuity rates of 12.6
per cent were down to 6 per cent. What I am saying is in inventing
this kettle we have to invent it in such a way as to ensure that
the voltage goes from 100 volts up to 240. In reality we are not
buying a thing. When a consumer buys a pension he is not buying
a kettle. He is buying a promise from the pension company that
they are going to do the best they possibly can for his retirement
in the light of 101 different things that can change, not least
fiscal policy, Government policy, changes in welfare benefits
and a million and one other things. Although the kettle analogy
is an interesting one I am not sure it takes us very far because
it is very difficult to say at the time you purchase a product
that it will be fit for purpose right the way through changes
not only in business rates but a thousand and one other things
the Government chooses to do.
169. In these circumstances is there any
role for a league table of costs and charges?
(Mr Jones) There is a culture at the moment that
hangs on to this idea of charges being the mythical answer to
all investment problems. In the part of the world I originate
from there is a saying that you do not get owt for nowt. You basically
get what you pay for. I would much prefer rather than have league
tables of charges, interesting though they are, to look at performance
because at the end of the day it is performance that matters and
I could cite you cases from my operational days where pension
plans maturing now are coming out at something like three times
the original projection. Whilst ever you have got this artificial
projection where you are projecting at a given rate which is laid
down by the regulator, charges obviously are the major concern,
but in the real world out there you will get some funds that massively
out-perform others and that is really the role of the adviser
to actually sort out the sheep from the goats. Again, you have
to do this based on the information you have gleaned about the
clients and the amount of risk that the clients can cope with,
but I think to link everything to charges is a very dangerous
approach to investment. The other danger is that if you have league
tables of charges there will be a tendency, and I am sure that
there are those out there thinking about it already, to set up
their insurance divisions out in Dublin or somewhere like that
where they can avoid all this regulation but still operate on
the mainland under EC regulations. So it is a difficult one. I
can understand why people want to look at the costs and charges
of things but, as I say, that is very much only one side of the
equation. The other side is just as important. On the question
of competition we would like to see polarisation written into
this Bill because the retention of polarisation is an effective
means of ensuring competition in the market place. If there is
a healthy IFA community out there that is the surest way of ensuring
that the providers remain competitive than any other way. If we
abolish polarisation we will run into the problem of multi-ties
and you will see a consolidation of the market where the biggest
providers, effectively, ultimately operate a cartel. The only
healthy way as far as the investor is concerned and to ensure
competition for the future is that polarisation should actually
be written into this new Bill.
170. What does polarisation mean in this
(Mr Jones) The adviser has to declare when speaking
to a client for the first time whether he is totally independent
and therefore can offer contracts right across the market place
or whether he is tied and can only sell the products of one particular
171. That is not in the Bill at the moment?
(Mr Jones) No.
172. Does the NCC have a view about this?
(Ms Hall) We have always supported polarisation.
If we have any concern about it, it is that it does not necessarily
help those who were not able to go to independent financial advisers.
Nevertheless it is not a principle that we would want to lose
precisely for the competition argument.
173. Mr Roe, where are we on polarisation?
(Mr Roe) Polarisation is, of course, a very important
part of the existing regulatory structure although it is not set
out in primary legislation. I think it is quite right that these
sorts of things should be examined from time to time and, indeed,
I understand it will be examined, but it demonstrates quite an
interesting point which is I do not think it would be consistent
with our general approach to write these kinds of specific rules
into the legislation because there are views on the investor protection
aspects of polarisation and also on the competition aspects which
need to be looked at in a way which means that they are not necessarily
rules set in stone for all time. So I do not think we would want
to write polarisation into the Bill, which is not to say we do
not recognise the importance of the issue.
Chairman: I will bring
this session to a close because, as you know, we are under tremendous
time pressure in terms of reporting for this Committee. We are
having to try and fit in an awful lot of witnesses in a very short
time. We are very grateful to you for coming and helping us through
this. Could I say if there are any points that you would have
wanted to make but you have not had a chance to make this afternoon,
we are very happy to receive them in writing. We are very grateful
for your contributions.