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Baroness Dean of Thornton-le-Fylde: My Lords, I support the amendment moved by the noble Earl, Lord Buckinghamshire. When we discussed this subject in Committee stage a few weeks ago the Minister said that custodianship is not a simple matter. I accept that it is not simple, but it is essential. There is no doubt about that. That is why we are pursuing the matter yet again at this stage of the Bill.

As has been made clear as we have discussed the Bill, pension law is not a simple matter. However, that has not held us back from trying to legislate in this Bill, which will eventually become the Pensions Act (although it is weaker than we originally wanted) in areas where that has proved necessary. I believe that it is necessary to legislate on this particular issue.

At Committee stage the Minister rightly asked who the authorised person will be. Amendment No. 80 deals with that problem and sets out supplementary provisions.

Large numbers of pension funds already have independent custodianship. That is not an argument for saying that most people are doing this and therefore it is not necessary to force everyone to have it. Those funds which do not have independent custodianship are more likely to be subject to potential fraud than those which are currently covered, legitimately and voluntarily, by independent custodianship.

When we discussed the issue a few weeks ago in Committee, whoever would have thought that the Barings scandal would be before us now? Who would have thought that Barings investment managers, using Barings Bank as the custodian of those investments, would have the problems that they now have? But they do. Although the situation has been retrieved, and there is general support that the Governor of the Bank of England was right in not stepping in to save Barings, what would have happened if ING had not bought the bank? The millions lost on pension fund investments would have made the Maxwell missing millions look small fry. I suggest that because Barings was bought by ING, it obviated what would have been an enormous scandal, and I suggest an enormous well of pressure. The Government could not then have failed to agree to introduce the amendment.

I gather that the SIB is currently carrying out a review of custodian arrangements under the Financial Services Act. However, there is no indication when it will report. With the emergence of the Barings scandal, and other situations, it is a fact that while trustee boards at present consider carefully the investment policies of their portfolio managers, they rarely consider who will be the independent custodians of their investment certificates.

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In future the boards will have to consider that. Without such provisions in the Bill, against what criteria will they consider the issue?

It is essential that such a provision is in the Bill. I hope that the Minister will agree to it.

Lord Ezra: My Lords, the amendments raise a central issue in the Bill. The whole purpose of the Bill is to safeguard schemes. The custodial aspect is crucial to it.

The amendments modify what was proposed at Committee stage, taking full account of what the Minister then said. He expressed concern about how one defines the custodian. As the noble Baroness, Lady Dean, points out, it is important that if schemes wish to employ custodians, it should be laid down somewhere what criteria should be used. The Bill provides another unique opportunity to help pension funds to regulate their affairs better. I hope that in the light of the modified presentation the noble Lord will find it possible at this late hour, and in his more helpful mood, to agree to the proposal.

Lord Mackay of Ardbrecknish: My Lords, clearly it has been decided to deploy flattery as the weapon against the Government this evening. I begin by acknowledging that the case for independent custody has some top quality support on both sides of the House. The provision was originally moved by the noble Baroness, Lady Dean. It has now been taken forward in an amended form by my noble friend. It continues to draw support from other noble Lords.

I remind noble Lords, as I did in Committee, that the Government, too, believe that independent custody is a good thing. We believe it is right that schemes should regularly review their custody arrangements. Indeed, I accept the case which has been put to me that even those schemes which have independent custodians should pay a little more attention to this important area and consider whether their custody arrangements really are secure and appropriate. No doubt, as the noble Baroness, Lady Dean, has pointed out, custody will be rather more of an issue in the minds of institutional investors in the immediate aftermath of the Barings affair; but it is of course something which pension funds in particular should review on a regular basis.

When we discussed this issue in Committee, I left a challenge with the noble Baroness, Lady Dean, which my noble friend Lord Buckinghamshire has gallantly picked up in his amendments. I invited her to consider how custodianship should be regulated and how agreement should be reached on who should be authorised to offer custody services. It is now proposed that custody should be regulated by IMRO under the general umbrella of the Financial Services Act.

Before I turn to that, I wish to pose a few questions. How real, for example, is the mischief which these amendments seek to remedy? What grounds are there for believing that the wide range of other measures in this Bill will not adequately address whatever concerns there may be about asset custody in some schemes? How convincingly have proponents of independent custody dealt with the reservations expressed, for

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example, by the PLRC? Is the proposal to establish a whole new regulatory regime for custodianship really a proportionate response to the threat?

I believe that it is widely accepted that the vast majority of pension schemes already have independent custody arrangements. The assets of insured schemes are of course secured through the arrangements made by the insurance companies and the overwhelming majority of self-administered schemes already use independent custodians, partly for security but also, I imagine, for the facility it offers for trading their portfolios. So at best this measure is aimed at a small number of relatively small self-administered schemes.

In so far as there may be a risk associated with the fact that such schemes may not have independent custody arrangements, there are some grounds for believing that the measures being put in place by this Bill will reduce it. As I pointed out in Committee, the Bill emphasises and reinforces the rights and duties of members, trustees and scheme professionals in relation to many different aspects of pension scheme security and that should focus attention on asset security among other issues.

I believe that there are still unanswered questions about the extent to which a requirement to appoint an independent custodian would reinforce this new level of scheme security. The key factor is that custodians, by their very nature, exercise administrative rather than managerial functions and have no duty to investigate the propriety of apparently valid instructions they may receive. Accordingly, as the PLRC pointed out,

    "if fraud is committed by the ultimate source of authority, the trustee board, or by one of their number or by a third party acting within the scope of his or her apparent authority from the board, the fact that the assets are held by a custodian will not by itself be a sufficient safeguard. In other words,"

the PLRC continued,

    "custodianship should be seen as an additional barrier to wrongdoing which may or may not prevent it".

It concluded, as the Government are inclined to do, that,

    "the most effective controls are the monitoring of pension fund administration and the authorisation and supervision of investment managers".

However, despite what I have said, noble Lords might say that there would be no harm—it is always a dangerous argument—in accepting custodians as another requirement. My concern on that score would be that the price, in terms of new regulatory burdens, might be too high. First, there would be the requirement on pension schemes to use independent custodians. That would fetter their freedom to determine their own policy—perhaps only at the margin, but it all adds up. There might be some additional costs to some schemes—again small, as I acknowledged in Committee —but again it all adds up. That provision might itself trigger a little flurry of detailed secondary legislation. There are half a dozen references to "prescribed circumstances" in the amendment before us. All that would need to be supervised and, if necessary, enforced by OPRA.

Then there would be the regulatory burden of setting up and policing the overall regulatory regime for custodianship. That would presumably apply to the custody of assets generally, not just to those owned by

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pension schemes. There would need to be an additional rule book for IMRO. Any company wishing to offer custodian services would need to seek authorisation for that purpose, perhaps incurring compliance costs. IMRO's compliance checks and enforcement procedures would need to be extended. One needs to ask whether it would constitute a proportionate response to the perceived threat. Government are committed to deregulation. That does not mean we are not prepared to regulate where that is necessary, and this Bill demonstrates that; but we are wary of regulation where the case is not fully made out.

As has been mentioned, the Securities and Investments Board has been preparing a report on the regulation of custodianship. If that were to recommend that custody should be a regulated investment service under the FSA then, clearly, a part of the argument that I have just advanced would be undermined. and there would be a case for going back to see whether pension schemes should be required to use such services, but I do not believe it would be right for the pension tail to wag the dog.

I have gone into some detail because I want to show that we have thought seriously about this issue since the interesting debate that we had in Committee, and because I do not lightly resist the well-meant and sensible sounding advice from the wide range of supporters of this amendment, and indeed this cause.

However, I am bound to conclude that I do not believe that the case for mandatory independent custody arrangements for pension scheme assets has been made out. Nevertheless, I accept that this is an important issue and I am keen that the "best practice" recommended by the PLRC should be encouraged. It recommended that trustees should periodically review their custody arrangements and satisfy themselves that these are satisfactory. If your Lordships accept my advice and these amendments are withdrawn, I am certainly prepared to consider using the regulation making powers under the various disclosure provisions of the Bill and the Pension Schemes Act 1993 to require trustees to make regular statements in scheme annual reports about their policy on asset custody. That will reinforce the "good practice" requirement recommended by the PLRC and publicise the results. I believe that would be a positive and appropriate response to the concerns expressed by noble Lords.

I hope, having heard my remarks, and perhaps on reading them in Hansard tomorrow, noble Lords will see that I have listened to the argument and have tried to go along with it a little, though not quite as far as setting up a new regulatory body and bringing in new regulations for schemes to use custodians under the law so to speak, and ensuring that they consider this aspect of their duties and place that in front of their scheme members in the reports.

9 p.m.

The Earl of Buckinghamshire: My Lords, I should like to thank the noble Baroness, Lady Dean, for her support and the noble Lord, Lord Ezra. I also thank my

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noble friend the Minister for his very full reply. I shall certainly look at Hansard tomorrow to see the full impact of that.

The whole thrust of the Bill is about preventing mischief. Certain sections of it deal with other matters, but it mainly deals with mischief-making and preventing fraud. It has been said that this Bill will not prevent fraudulent acts within pension schemes. Every amendment that we make that puts another ratchet in place to prevent fraudulent acts is to be encouraged rather than to be rejected.

I am interested in what my noble friend the Minister had to say on the disclosure to members; it was most useful. On that basis, I beg leave to withdraw my amendment.

Amendment, by leave, withdrawn.

[Amendment No. 80 not moved.]

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