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It is well known that these arrangements are not the policy of my party and we do not wish to see them. We will debate this later when we reach the end of Clause 1 in the way that we always do-we debate the content of the clause and then whether or not it should stand part of the Bill; so we will return to these issues later. For now, I shall not pursue this issue further.

Lord Stoddart of Swindon: Can the noble Baroness answer a question for me? We heard a lot about this phrase "wash-up". I thought it was called "cleaning the dirty dishes"; "wash-up" is a phrase that I had not heard previously. Can she give me an assurance that her party will not embark on any dirty little deals with the Government and combine with them to thrust those deals through this House without proper debate?

Baroness Noakes: My Lords, I hope that my party would never do a deal, dirty or otherwise, with this Government. There is a process for agreeing outstanding legislation. That process ends with parliamentary approval-it cannot proceed without it. It is not the line-by-line approval that we are accustomed to carrying out in a Bill's scrutiny such as that which we are attempting today, but it is a parliamentary process. Beyond that, I have to say that wash-up is above my pay grade and I can answer no further questions on how wash-up will work for this Bill or, indeed, for any other.

I was about to say that we will return to some of these issues in later amendments. I thank the Minister for agreeing to Amendment 5, which was not the most important in this group, but it is nevertheless nice to have a little agreement emerging from this Committee. I beg leave to withdraw the amendment.

Amendment 1 withdrawn.

Amendment 2

Moved by Lord Hamilton of Epsom

2: Clause 1, page 1, line 12, at end insert-

"( ) Within 6 months of this section coming into force, the Council must prepare the report referred to in section (Report on structure of UK financial system) and the Treasury must lay it before Parliament."

Lord Hamilton of Epsom: I shall speak also to Amendment 2 in my name in this group. First, I declare an interest as a director of an investment trust which is regulated by the FSA.



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The main point of these amendments is to discuss the whole question of being too big to fail. That means that I will address the question of Glass-Steagall, but I should like to take the debate rather wider than talking only about divorcing the clearing banks from their investment banks. I am sorry that I missed the Second Reading debate on 23 February when that topic was covered extensively, but I was abroad in the Far East.

The amendments call for a report to be drawn up by the Council for Financial Stability. It is important to emphasise that. We are only asking for a report and are not saying that these things should be implemented. As this is an extremely controversial subject and opinions are very divided on what we should do about financial organisations that are too big to fail, a report is very necessary and I hope that, prior to the report, there will be opportunities for people with strong views on this to give evidence to the Council for Financial Stability and make their points.

I am sorry that the noble Lord, Lord Desai, is no longer in his place because during the Second Reading he described himself as "a Hayekian libertarian", which just about describes where I come from. I am a pretty ardent capitalist. I do not really mind how much money people make and do not worry too much if they pay themselves bonuses. I start to break with that when the taxpayer has to pick up the tab when it all goes wrong. There is much bitterness at the moment about the way that the City is behaving. Bankers are unpopular people. The view of people in this country is that they gambled, made a wrong call and now the taxpayer is left to pick up the tab.

This financial crisis has brought down many viable businesses. It has led to repossession of people's homes and unemployment, and created great personal distress. Many of those who have survived have done so by taking pay cuts and working shorter hours. These people see the bankers who have failed being bailed out. For them, life goes on. They still earn enormous sums and pay themselves vast bonuses as well. A good example of this is the recent result from Northern Rock. It has clocked up serious losses but they have not stopped the employees paying themselves bonuses. If you get bonuses when your company is losing money, how much bigger must the bonuses be when your company is making it? That does not add up for most people.

What lessons have been learned from this? I think precious few, to judge from where the Government stand on all this. There is an extraordinary reluctance to look at bringing in the spirit of Glass-Steagall and separate those aspects of banking that involve taking significant risk from the more conventional form of banking that involves taking deposits and making loans. I know that things can never be that simple. Banks that lend mortgages and so forth often use financial instruments to offset their liabilities.

What if we do not address this? To come back to a remark made in Second Reading by the noble Lord, Lord Desai, on 23 February, we have these cycles and there will be future financial crises. We must not think that this is the be-all and end-all of financial crises; there will be others. The normal evidence of financial

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crises is that each is worse than the last. When you come to assess the financial damage you can normally add another two noughts to the end. Surely we must entertain the idea that the separation and breaking up of large organisations may be a way forward. This needs study and we need to carefully weigh up the consequences of going down that road. I totally accept that we must ensure that the western world moves together on this. We cannot see London being asked to unilaterally take measures if this is not copied by other financial centres in the world, otherwise businesses will merely move from our city to places with more favourable regimes of taxation and regulation.

Critics of Glass-Steagall always argue that it would have done nothing for Northern Rock or Lehman Brothers. That argument has to be right but I do not regard it as much more than a debating point. It has to be true: Northern Rock did not have an investment banking arm and Lehman Brothers did not have a retail bank. Even if Glass-Steagall had been operating at that point it would not have affected either of those spectacular bankruptcies. Yet let us be honest: Northern Rock had a completely indefensible and unsustainable business plan. It borrowed overnight money and lent it in 20-year mortgages, often lending more than the value of the property on which it was secured. As has been pointed out by my noble friend Lady Noakes, the tripartite system completely failed.

Many months ago on a Question in this House, I asked the noble Lord, Lord Myners, what was happening to the bank supervisors. He assured me that all the people who used to carry out bank supervision in the Bank of England had been transferred to the FSA. Therefore, in a way, nothing had really changed: the people were still there and life carried on. However, we have to ask what they got up to, what they spent their time doing and what form of inspection they made of Northern Rock. Did they ask any serious questions about how sustainable this way of doing business was or did they all fall asleep? One wonders what on earth happened. There is no doubt that, if there had been early intervention in Northern Rock, its bankruptcy might well have been prevented. Therefore, some very serious questions need to be answered regarding why Northern Rock was allowed to carry on in the way that it did for quite as long as it did.

5.30 pm

Let us look at Lehman Brothers. Although the company was forced into liquidation, it is generally accepted that it was too big to fail. The collateral damage suffered as a result of Lehman Brothers going down was much too great. I think that if the United States Administration relived that time, they would bail out Lehman Brothers as well. However, if Lehman Brothers was too big to fail two or three years ago, how about Goldman Sachs today? Of course, as there is no Glass-Steagall in the United States as we speak, Goldman Sachs would currently be bailed out anyway because it has a retail banking side to the business and depositors would obviously have to be protected. However, I argue that, even if you separate the retail banking side from Goldman Sachs, you are still left with a financial organisation that is too big to fail. Everyone might say that the idea of Goldman Sachs going down

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is unthinkable, but then we suddenly hear that it was Goldman Sachs that bought all the Greek Eurobonds. So far as I can see, that seems to be pretty speculative business.

Therefore, the rationale is that we have to break up organisations that are too big to fail and form them into smaller bits which are small enough to fail. If we do not do that, we will find ourselves back in this whole situation all over again. Contrary to the view of people who defend enormous organisations, very often smaller units produce greater returns to shareholders than large ones. I have no doubt that Goldman Sachs, which is a partnership, would make even more money if it operated as a number of smaller businesses rather than the very large one that it is today. It must be right to try to get our financial organisations into a position where they are small enough to fail so that we do not constantly have to look to the taxpayer to bail them out when things go wrong.

If we do not want to destroy the capitalist system, we must change the structures to minimise the risk of taxpayers being called on to bail out businesses. The noble Lord, Lord Myners, has made himself a fortune as a freewheeling capitalist in the City of London. That capitalism, which has enriched the noble Lord, must be preserved because, if it goes through periodic bouts of nationalisation, it certainly will not survive. I beg to move.

Lord Newby: My Lords, I congratulate the noble Lord, Lord Hamilton of Epsom, on finding such an ingenious way of bringing to our debates today and into the purview of this Bill a subject which, slightly surprisingly in my view, dominated the Second Reading debate. Most of the features of the Bill were not debated at all at Second Reading. The question of banks being too big to fail and what you do about it was what most noble Lords spent most time discussing.

The Committee will be aware that from the start we on these Benches have been grappling with that issue and have been very sympathetic to the concept of breaking up the banks or separating the utility functions and the more risky functions. Therefore, I was extremely pleased when a succession of noble Lords with a tremendous amount of experience in the City discussed both the in-principle arguments for breaking up the banks and the feasibility of doing so. When this issue is being debated, one of the main arguments of the noble Lord, Lord Myners, and the Government is that it cannot be done and that it is all too complicated because the banks are all integrated and you cannot split them without the whole system collapsing. When we discussed this at Second Reading, the argument was not about that but it was between the noble Lord, Lord Lawson, who argued that you had to split them formally, and the noble Lord, Lord Blackwell, who said that you could achieve the same principle by having two or more subsidiaries within the same holding company.

It seems to us that all those issues are vital in determining the future of the banking system in this country. With the current Government, there is no appetite to discuss these issues. Therefore, it seems to us that to have in the Bill a requirement that these

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issues be revisited, given that they are actively being discussed virtually everywhere in the world, is an extremely good way of putting the matter back on the Government's agenda. Therefore, we support the amendment.

Lord Higgins: Even if some parts of the Bill are eventually washed in, rather than washed out, the possibility that this clause will appear on the statute book before the election is absolutely nil. Perhaps the Minister will let us know whether he disagrees with that view. If so, we can take an appropriate bet on the proceeds, in the spirit of general financial participation. Be that as it may.

Although it may seem pointless debating this matter, given that it is not likely to reach the statute book, there is a case for debating the points raised by my noble friend in moving his amendment. I am among those who did not speak at Second Reading. I think we should put a limit on how many times a week one speaks in your Lordships' House. None the less, I am glad to have an opportunity to take up the points which my noble friend made with regard to Glass-Steagall and to the phrase "too big to fail". Of course, the two are related.

In the Second Reading debate, my noble friend Lord Lawson set out all the arguments in favour of Glass-Steagall and he came down strongly in favour of some such replication in our system in the UK for the future. In reply, the Minister said that he was not persuaded by my noble friend Lord Lawson but that if he were to be persuaded by anyone, it would be my noble friend. The case put by my noble friend is very strong indeed on the question of dividing the less risky part of our banking system from the very risky part. These matters were put forward in a remarkable article by Mr Paul Volcker in the New York Times on 31 January and it is very important that people read it. He deals with the matter of being too big to fail. He says:

"The phrase 'too big to fail' has entered into our everyday vocabulary. It carries the implication that really large, complex and highly interconnected financial institutions can count on public support at critical times. The sense of public outrage over seemingly unfair treatment is palpable. Beyond the emotion, the result is to provide those institutions with a competitive advantage in their financing, in their size and in their ability to take and absorb risks".

He then comes up with some specific proposals about how the problem might be dealt with in regard to those banks which are thought to be too big to fail. Quite apart from the usual provisions and suggestions with regard to liquidity ratios and so on, he makes the point that perhaps one should have some form of a new resolution authority-he suggests it should be international, so it is relevant to today's debate-which would wind up in an orderly manner banks that were too big to fail. That is certainly worth considering in the international negotiations that are taking place.

There are some important issues with which the next Government, of whatever party, will need to deal. But they are not dealt with at all in this Bill unless perhaps it is possible for the co-ordinating committee in some way to implement Glass-Stegall without relying on legislation. That does not seem very likely. These are far more important issues in many ways than the structure that we are considering with regard to regulation. It is helpful that my noble friend has raised these matters this afternoon.



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Lord Hodgson of Astley Abbotts: I, too, am attracted by my noble friend's amendments, especially Amendment 11, as it would permit a degree of analysis to take place. It is said that distance lends enchantment; whether distance from the crisis that we have just had will lend enchantment is probably not likely, but it will probably lend perspective and maybe some clarity. Therefore, while Amendment 11 is attractive, Amendment 2, which requires it to happen in the next six months, is a little precipitant. Nevertheless the principle behind Amendment 11 holds good.

I did not react to the Minister's comments about the crisis being over, but his officials might slip into his red box the leading article from today's Financial Times, as a number of things said in it are relevant to the debates that we had on both the first group and on this group of amendments. There are two relevant sentences in particular. First:

"What the recovery really shows is the scale of the moral hazard problem the world still faces".

That is the too big to fail issue that my noble friend raised. Secondly:

"The second is a resolution regime that would allow losses to fall where they should without bringing down the system. This would prevent creditors from sheltering behind vital functions, such as the payments system, in a crisis and thus pushing losses onto the taxpayer".

These are the thoughts that are emerging, and my noble friend's suggestion that we need an investigation and a report to reflect that seems entirely appropriate.

It is not all at the macro level either. If the Minister leaves the grandeur of his Great George Street office, returns to the City and-I declared an interest on Second Reading-comes to me to try to find financing for small and medium-sized enterprises, he would say that the banks will say that there is money available for good propositions. I am sure that he says that in absolute good faith, but trying to find bank finance for such companies remains exceptionally difficult on two levels. First, the credit process has become immeasurably lengthy and complicated and the minefield though which small companies must travel is very complex. Sometimes when emerging from one minefield unhurt, another lies ahead, as further bells and whistles are put on to the requirements for permission. Along the way in this process, if it becomes clear that the company needs the money it causes huge alarms and excursions. The process is long, and in many cases small and medium-sized companies require a reasonably speedy resolution of their credit needs.

So there are macro issues and micro issues which need to be considered. These could usefully be looked into and considered by a report of the sort that my noble friend has in mind. Certainly, if the Government, with or without wash-up or wash-out, are determined to proceed with this type of Bill, we need the facility to draw lessons from what has been going on. We are too close to the crisis now to be able to draw all those lessons. The sort of investigation and considered response that my noble friend has in mind under Amendment 11 seem to be entirely appropriate.



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5.45 pm

Lord Northbrook: My Lords, like my noble friend Lord Hodgson of Astley Abbots, I am more inclined to favour Amendment 11 rather than Amendment 2. I should like to draw the attention of the Committee to an interesting report prepared by the Congressional Research Service in 1987, which explored the cases for and against preserving the Glass-Steagall Act.

The arguments for preserving Glass-Steagall, as written in 1987, are, first, that conflicts of interest characterise the granting of credit-lending-and the use of credit-investing-by the same entity, which led to the abuses that originally produced the Act. Secondly, depository institutions possess normal financial powers by virtue of their control of other people's money. Its extent must be limited to ensure soundness and competition in the market for funds-whether loans or investment. Thirdly, securities activities can be risky, leading to enormous losses, which could threaten the integrity of deposits. In turn, the US Government insure deposits and could be required to pay large sums if depository institutions were to collapse as a result of securities losses. Fourthly, depository institutions are supposed to be managed to limit risk. Their managers thus may not be conditioned to operate prudently in more speculative securities business. An example of that is the crash of real estate investment trusts sponsored by bank holding companies in the 1970s and 1980s.

The Congressional Research Service report continued with the arguments against preserving the Act. It said that, first, depository institutions will now operate in deregulated financial markets in which distinctions between loans, securities and deposits are not well drawn. They are losing market shares to securities firms that are not so strictly regulated and to foreign financial institutions operating without much restriction from the Act. Secondly, conflicts of interest can be prevented by enforcing legislation against them and by separating the lending and credit functions through forming distinctly separate subsidiaries of financial firms.

Thirdly, the securities activities that depository institutions are seeking are both low risk by their very nature and would reduce the total risk of organisations offering them, by diversification. Lastly, in much of the rest of the world, depository institutions operate simultaneously and successfully in both banking and securities markets. Lessons learnt from their experience can be applied to our national financial structure and regulation.

We have moved on 20 years since then. Sadly, I was abroad at Second Reading. I read the speech made by the noble Lord, Lord Lawson, very carefully. I also noted the Minister's comments. He said that he was not,

He preferred,

Twenty years later some circumstances have changed, so I look forward to reading a report which is applicable to the UK.



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Lord Haskins: Whatever happens to this Bill, this subject will not go away after the election. We are slightly barking up the wrong tree when we talk about "too big to fail". It seems to me that we are talking about "too big to manage" and that the shareholders are the ones who have got to be in the first instance more active in looking at their now virtually worthless investments. They should be asking whether these large organisations are too big and too complicated to manage, and could dissolve themselves out of existence.

There is a precedent for that. The conglomerates in the 1970s, 1980s and 1990s all grew in such a way that they became so complicated that eventually the late Lord Hanson had to keep buying businesses in order to stop the bicycle from falling over. When the bicycle eventually did fall over and he failed to buy ICI, everything had to be dissolved, and it was dissolved in quite an orderly way.

In the Royal Bank of Scotland, Sir Fred Goodwin was showing signs of acting like Lord Hanson in that he had to keep buying to get bigger and bigger, and eventually the shareholders had to say enough is enough. That is happening now with the Royal Bank of Scotland, which is trying to get out of insurance and simplify itself. The route forward in the first instance must be for these large organisations to account to their shareholders for their activities, make them smaller and less complicated, and probably create shareholder value in the process.

Lord Stewartby: I wish to make the same point as the noble Lord about being too big to manage. It has become apparent in recent years that not only large conglomerates but many financial companies and banks that have gone global have not necessarily always faced up to the different cultures and regulatory requirements in other countries. They have become physically too big to manage, and this is a dangerous area.


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