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House of Lords

Friday, 25 April 2008.

The House met at ten o'clock: the LORD SPEAKER on the Woolsack.

Prayers—Read by the Lord Bishop of Newcastle.

Safety Deposit Current Accounts Bill [HL]

The Earl of Caithness: My Lords, I beg to move that this Bill be now read a second time.

This is a small, simple Bill. On the one hand, it is designed to promote choice for the consumer. On the other, it is a modest attempt to start winding in a banking system that is becoming increasingly unsustainable. It is in response to the recent Northern Rock crisis, which represents the first run on a UK high-street bank in the post-war era, and the systemic failure manifest in the worldwide banking system. Of course, Northern Rock is not the first bank since the war to go wrong because of incompetent management; there were the National Mortgage Bank, Barings and Johnson Matthey, to name but three. But no reassessment was made of the fundamentals after those crises.

I want to take a moment to set out the background. The present banking crisis was inevitable. The only question was when it would happen. Since 1971, there has been a massive change in the way in which the banking and monetary system operates, but there has been no discussion in Parliament, or a vote, as to whether the system is right and whom it is benefiting. The current system was designed by bankers for the use of bankers and for the benefit of bankers. One should not complain that they have done well out of it, but what about the depositor and the taxpayer? From their point of view, all Governments are at fault because they have not looked at this whole matter with the critical eye that it deserves. As the rest of us became more regulated, the banks were given a light touch—so light as to be almost insignificant.

In 1979, the total UK money supply was just under £31 billion. When this Government took power, it was £665 billion. Today, it is well over double that, and on the Bank of England’s calculation it is £1,700 billion. These figures show about a 5,400 per cent increase over 30 years and the graph is getting steeper. It seems to be on an exponential curve which promises a lot more problems ahead.

It is most appropriate that the debate following this Bill in the name of the most reverend Primate the Archbishop of Canterbury is calling attention to indebtedness and credit. A consequence of the banking and monetary policy is that we live in a debt-based society which most people are beginning to see is dangerous and wrong. Yet the answer to the present crisis is to reduce interest rates and try to reduce the cost of mortgages. But what does that do? It merely encourages us to keep our existing borrowing and extend it. We shall not solve that problem unless we tackle its roots.

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Since 1971, the proportion of notes and coins, which is the Government’s responsibility, has fallen from 14 per cent to 2.5 per cent, so the Government are increasingly irrelevant and marginalised. It is the banks, building societies and commercial lenders which have been responsible for this situation and now greed, incompetence in many cases, and lack of accountability have all become apparent. Even the Institute of International Finance has admitted that banks have been guilty of major points of weakness in business practice. No wonder there is a lack of confidence in the credit markets.

Although it was good to hear the Minister say on Monday, when he repeated the Statement on financial stability—although “financial instability” might have been a more appropriate description—that the Financial Stability Forum in Washington had agreed a range of actions, the genie is out of bottle and it is too little too late. Sadly, that body does not seem to have addressed itself to the position of the individual, and all of us, whether we like it or not, have to work with and through banks. In that, we have no choice, which takes me on to the Bill.

Most people do not know that, as the law stands, as soon as they put their money into their current or cheque accounts it is no longer their own. It becomes the property of the bank and they become unsecured creditors, ranking behind secured creditors in the event of failure. Far from putting their money into safe storage, they are actually lending it to the bank, and the bank is free to use it and invest it as it pleases within the rules of the FSA. The Minister, with his well known scepticism of the estate agency market, will surely agree with me that it makes a mockery of the need for solicitors and estate agents to have to account for clients’ funds in the way that they do, only for the bank to muddle up all that money, together with others, and put it at possibly greater risk.

As we have seen with Northern Rock and with the entire world banking system, bank managers are not necessarily prudent or wise in their investment strategies. Nor has the FSA proven capable of proper supervision of banking business plans, investment strategies or risk management. When Northern Rock refused to allow its depositors to withdraw their money, the bank acted correctly and responsibly. The law states that its first duty is to secured creditors and not to depositors.

At present, if we wish to pay our bills easily and conveniently, we need a current or cheque account at a bank or building society. There is no other choice. Yet in order to use a bank or building society current or cheque account, we must put our money at risk by becoming an unsecured creditor of an institution too many of which have proven to lack wisdom, prudence or safe investment practices. That is why there is such a hue and cry for Governments to make the banking industry safer. A new approach is needed, which is why I am putting forward this legislation. It offers depositors the service and protection that they believe they have, but do not, and to which they should be entitled.

The Bill offers depositors the choice between a present at-risk current account and a safety deposit current account in which the funds deposited remain

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the property of the depositor and which guarantees to depositors both secure storage and secure distribution. With safety deposit accounts, banks will be required to maintain for each account the precise amount on deposit in the form of cash in their vaults. That cash must be segregated from the banks’ other cash and be available to depositors on demand. Banks will not be allowed to use funds in safety deposit accounts for any purpose whatever, other than according to the instructions of the depositors. Therefore, a bank will not be able to put depositors’ money at risk in order to earn money for itself. That is the essence of Clause 1.

Without the ability to try to earn money with these deposits, banks will have to make a reasonable charge for both storage and distribution. This is covered by Clause 2. These accounts will be more expensive than existing current accounts, but depositors will in future be given a choice: safety at higher cost or risk at lower cost. These accounts will need proper monitoring. Although the FSA has not covered itself in glory to date, Clause 3 requires it to audit banks continually to ensure that the cash held physically by each bank in its vaults is both equal to the amount on deposit and segregated from the bank’s other funds.

From the taxpayer’s point of view, these safety deposit accounts offer a considerable saving. Northern Rock alone has already cost the taxpayer some £1,800 each. My noble friend Lady Noakes reminded us on Monday that it could be considerably more. That was before an additional £50 billion was made available to banks by the Bank of England on Monday in its dramatic U-turn. The previous position argued by the governor was that banks should pay for their mistakes. Now the commercial banks’ prayer, “Forgive us our sins”, has been answered. The clear perception now is that the Government will ride to the rescue of those who have managed a bank badly or incompetently. Let us not forget that it is the taxpayer who has to guarantee these funds and thus remains even more at risk to the entire banking system.

With a more sensible banking option having been established by this Bill, it is only right that the taxpayer is better protected than at the moment. Thus, under Clause 4, safety deposit accounts will be the only accounts that public funds will be allowed to insure or guarantee. Surely it is right that taxpayers will no longer be required to bail out the irresponsible and greedy behaviour of some bankers, whom the Government treat differently from normal companies. The FSA will be limited to guarantee precisely what it audits regularly and ensures is physically present in the vaults of each bank. For this guarantee, there should be little if any risk at all. The consumer will be offered a choice of current accounts and the right to continue to own their own money when stored for them. I commend the Bill to the House.

Moved, That the Bill be now read a second time.—(The Earl of Caithness.)

10.15 am

Earl Ferrers: My Lords, I had intended to put my name down for the debate, but was told that the speakers list had closed at 6 pm. So I wondered

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whether I might say just half a word in the gap, although I had not expected the gap to be after the first speaker.

I congratulate my noble friend on thinking up this idea. He has explained the purpose of his Bill very well. Fundamentally, it is that if you put money on deposit, it should be in the form of cash; it should remain there; it should not be the property of the bank; and if you ever want to take that cash out, you can get it out, and the bank cannot squander it on other things. That seems fine.

My only concern relates to Clause 1(5), which states:

I remember an elderly lady who had about £40,000 in a deposit account. She went along to the bank and said, “Can I please have my money out?” The bank said, “Yes, we will give you a cheque”. She said, “I don’t want a cheque, I want the money”. “You mean you want all the £40,000?” She said, “Yes”. The bank said, “Well, will you come back after lunch, because we’ll have to count it all out?” So she came back after lunch and there were great piles of notes all over the place. She said, “Oh, that’s fine. I just wanted to make sure it was still there, so will you now put it back again?” I fear that this is the kind of thing that might happen with my noble friend’s Bill, so I merely offer that tale as a caution.

10.17 am

Lord Razzall: My Lords, we should all be grateful to the noble Earl, let alone his noble friend for his intervention, for raising what is clearly a significant issue in the current climate. The debate is particularly opportune, because, as he indicated, it is being taken on the same day as the debate which follows, on the Motion of the most reverend Primate.

I think that it will be common ground in your Lordships' House that the recent events involving Northern Rock, let alone some of the problems that the major clearers have got themselves into, indicate, or perhaps a lift of a veil on, banking problems of which most of us had been only dimly aware until the unhappy events of the past few months. It has been said to me by a senior banker that what the public have never appreciated is that, for most of the past 150 years, almost every bank has been technically insolvent, because the practice of borrowing to a large extent short and lending to a considerable extent long has been supported by the ability of banks to borrow significantly in the inter-bank lending market. If that starts to be difficult, banks by any rational test of solvency become insolvent because they have difficulty knowing how they are going to meet their liabilities. That banking practice, which in the case of many of the well established banks has been based on long-standing accepted ratios of short-term to long-term lending, and endorsed, or to some extent ignored, by the regulators, has existed for a long time. Only in the past few months have we come to realise that the banks were perhaps not as prudent as they might have been. In raising this topic, the noble Earl has touched on something that is fundamental in the operation of our financial system.

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Having said that, on these Benches we have some difficulties with the noble Earl’s solution. In practical terms, I assume that he is suggesting that the banks should provide a safety deposit box for people’s money and assets, give them a key and enable them to turn up at the bank whenever they want to get their money back—or, in the case of the friend of the noble Earl, Lord Ferrers, have their money counted and put back in the safety deposit box. In reality, that is the effect of this Bill. I suppose that in many other countries of the world where there is concern about banking stability, people buy a safety deposit box to keep their money in and put it under their bed. Indeed, I somewhat frivolously wonder whether it would be cheaper for members of the public, rather than taking up the opportunity presented by the Bill, to get themselves a safety deposit box and pay for a good burglar alarm company to protect their property while putting the cash under the bed.

In a slightly frivolous sense, I worry that the Bill would not have the real effect on the customer that the noble Earl clearly believes that it would have. In a wider sense, however—and this is where this short Bill would have a volcanic effect—what the noble Earl is really suggesting is that the whole basis on which our banking system has been built for 500 years should be overturned. He is saying that banks cannot take our money and lend it on in a prudent manner but that they should leave it in our ownership, not pay us interest on it, charge us a small fee and allow us to have our money back whenever we want. That is fine—but I dare to suggest that, were this to be implemented, commercial life as we know it and have known it for 500 years would actually come to an end.

10.22 am

Baroness Noakes: My Lords, it is a pleasure to respond to this Bill today. My noble friend Lord Caithness is to be congratulated on developing a Bill which makes us challenge basic notions of what our banking system is about.

When I first saw my noble friend’s Bill, I was somewhat perplexed by it, but he took pity on me and gave me some recess reading in the form of a book by Mr John Tomlinson entitled Honest Money—A Challenge to Banking. The book was written in the early 1990s, when there were concerns about recession and unemployment. The book laid the blame for this at the door of bankers and their continuous search for new lending opportunities, which created a spiral of inflation. The solution in the book was to stop the lending merry-go-round, replace debt with equity and thereby largely fix the stock of money supply, which would stabilise the system and eliminate inflation.

That is a rather extreme version of the scenario on banking that my noble friend has opened up for debate. I do not think that the banking system is quite the ogre that the book portrays. I think that banks have had a net positive impact on wealth creation by facilitating investment and growth in the global economy. On the other hand, I do not believe that banks are perfect. The reason we have banking regulation throughout the world is to ensure that banks do not create economic mayhem. We have seen

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in the past nine months or so how much economic harm can be caused by a banking system which kept liabilities off its balance sheet and which created ever-more complex borrowing vehicles, disconnected from the underlying transactions. Mortgage securitisation sounded and looked simple until the music stopped and no one knew where the sub-prime losses would end up. The consequential failure of confidence in the international financial markets is still causing many problems in the world, including the UK.

I do not think that we should lay at the doors of the banks all the blame for the asset price bubble that is now bursting, but they clearly have some responsibility. Banks respond to demand within the regulatory constraints placed on them. Those constraints have recently been updated after much consideration by the Basel committee, but it is already clear that the Basel 2 rules do not deal sufficiently with liquidity or off-balance sheet transactions—and already they need to be revisited.

We believe that the capital requirements for banks within the credit cycle should also be revisited, so that a monetary element of the capital adequacy calculations could be used to control credit in times of boom and expand it in times of contraction. In this way we could harness the energy of the credit cycle in a positive way and mitigate boom and bust. The Prime Minister used to boast that he had abolished boom and bust, but we now know that he knew only how to ride the crest of the wave in boom times and knew nothing about preparing the economy for a downturn. We are currently paying the price for that. That requires us to have some new thinking.

That brings me to my noble friend’s Bill, which genuinely does represent new thinking. The Bill recognises that the Brown-Darling guarantee of Northern Rock’s liabilities was an undesirable outcome of the bust phase and offers a way for the Government to escape from their guarantee to the banking system. However much the Government like to deny it, the practical impact of last September’s guarantees of Northern Rock is that they will be expected to stand behind retail deposits as a minimum in future. The Financial Services Compensation Scheme did not deal with the Northern Rock crisis and the Government had to go way beyond guaranteeing retail depositors as they progressed through their messy journey towards privatisation, de facto guaranteeing the whole of the liabilities of Northern Rock.

The Bill’s elegant solution is a new class of bank account, a safety deposit current account, which will always be preserved at the cash value at which it was created. My noble friend’s solution does not involve putting cash in safety deposit boxes, as the noble Lord, Lord Razzall, suggested. I am sure that my noble friend was mindful of the experience of the Central Bank of India, where an invasion of termites attacked safety deposit boxes in which Indians were accustomed to putting large amounts of bank notes. When customers turned up, the termites had had ’em.

The Bill proposes a new account which will be backed by an equivalent amount of cash, audited and inspected by the FSA. Owners of such accounts will get no interest because the bank cannot use the

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money to work within its balance sheet. They may incur fees and they will almost certainly lose value in real terms, but they will at least be able to sleep easy at night knowing that the nominal monetary value will remain safe. On the other hand, those who have an appetite for risk would be able to deposit money with banks on any other terms that banks offer and can earn a return on that money, but Clause 4 of the Bill says that these accounts will not be guaranteed by any authority. I am not sure that the use of the terms “any authority” and “public money” are unambiguous, and my noble friend might consider tightening the wording if this Bill proceeds to Committee.

I am not aware of any clamour among the public for safety deposit current accounts. However, given the Brown-Darling guarantee, there is unlikely to be much call for an unremunerated bank facility, if the Government already underwrite retail deposits. The bigger question is whether we should facilitate this by making it absolutely clear that public money will not bail out any other bank liabilities. I cannot myself see a banking industry which did not encourage return-seeking deposits. One problem facing our economy is the slump in the savings ratio and the fact that too few people have savings as opposed to debt. We need to encourage saving and, if that is to make a meaningful contribution to retirement incomes, the money has to seek a return. Of course, most of that investment will not be in bank deposit accounts but it would seem odd to steer people away from seeking a return when depositing cash as opposed to investing in other assets.

That of course means that I see the need for a robust compensation scheme for retail deposits. We await the outcome of the Government's review of the existing scheme. The Minister might like to talk about that today, and, in particular, whether they can come up with a scheme which deals with the fact that some of today's banks are so large that if they did fail they would overwhelm any industry-funded scheme. But, given the systemic risks of such a failure, it seems very difficult to do away with public support in all circumstances. I have doubts that the Government will be able to produce a scheme that extricates them from de facto underwriting retail deposits.

My noble friend has given us a lot to think about. I look forward to the Minister's response and, indeed, to later stages of the Bill if my noble friend chooses to take it forward.

10.30 am

Lord Davies of Oldham: My Lords, I welcome the opportunity to debate the issues the Bill raises. Lest noble Lords thought that as a Private Member's Bill it represented not much more than the extrication of a small pin from the ground, let me say that the pin contained in the Bill is more akin to the one in a hand grenade, as a rather loud explosion will go off if in fact the Bill ever becomes law.

I must say that I have a great deal of sympathy with the speech of the noble Lord, Lord Razzall, who indicated the implications of the Bill. I am not sure that I can follow the line that this is a fundamental

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onslaught on the concept of banking since the 14th or 15th century, but there are aspects of it that are not far off. That is why the Government look at the Bill not only with interest but with a certain anxiety about its implications, particularly as, as the noble Baroness has taken the appropriate opportunity to say, we are concerned about how we best support confidence in our banking system. In a few moments I will relate the Government's proposals in respect of this.

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