UK Parliament / Open data

Bank of England and Financial Services Bill [HL]

My Lords, it has been a very good debate and I thank all noble Lords who have spoken eloquently, and powerfully at times.

I start by taking a step back. As was mentioned by the noble Baroness, Lady Kramer, and many others, the financial crisis obviously exposed deep flaws in the functioning of parts of the financial services industry, with enormous consequences, as we all know, for the economy and people’s living standards. Since then we have also seen cases of malpractice and, at times, criminality—for example, attempts to manipulate benchmarks for personal gain. That is why, as the Chancellor said, the Government are entirely committed to ensuring that the UK financial services sector is the best regulated in the world with markets of unquestioned integrity and the highest standards of conduct. To that end the Government have made far-reaching reforms to financial regulation—reforms that form the backcloth of today’s debate and reforms that your Lordships know all too well.

I shall remind your Lordships of just a few. The Government have introduced a criminal offence of misconduct in the management of a bank. This means that senior managers who recklessly cause their institutions to fail may face a seven-year prison sentence. The UK’s regime for regulating the remuneration of senior staff who can pose risks to financial stability is now the toughest of any major financial centre. PRA-approved senior managers in banks will face deferral of a significant proportion of their remuneration for seven years, and

possible clawback to their pay for up to 10 years where there is a material failure of risk management in their business.

These measures apply to exactly the individuals targeted by the amendment of the noble Lord, Lord Sharkey, and encourage the responsible management that he and of course we all wish senior staff in banks to display. To be clear, I am in complete sympathy with the outcomes that the amendment seeks to deliver. Before I turn to the senior managers regime in more detail, I make another point, which my noble friend Lord Hunt of Wirral made. To restore trust in financial services, strengthened regulation needs to be supported by industry action. That is why I welcome and wholeheartedly support the efforts by the financial sector to strengthen the culture and ethics of all staff. In particular, the Banking Standards Board, formed of the largest banks and building societies, is doing vital work. The fair and effective markets review established by the Chancellor is also prompting change. The review concluded that,

“markets require stronger collective processes for identifying and agreeing effective standards of good market practice”.

As a result, more than 30 firms from a broad cross-section of financial markets have combined to achieve these aims.

The extension of the senior managers and certification regime across the financial sector will support and reinforce all these initiatives to improve individual accountability and raise standards. As Andrew Bailey said,

“it creates the framework to establish effective responsibility within firms, while maintaining the role of the public authorities, the PRA and FCA, for supervising and enforcing the public interest”.

Under the current approved persons regime, the regulators can take action only against those individuals whom they pre-approve if they breach one of the statements of principle set out by the regulators—enforceable standards of conduct that apply on an individual level—or if they are knowingly concerned in activity that causes the firm to breach regulations. The range of approved persons covers significant influence functions, such as the chief executive and directors, and customer-dealing functions, such as sales staff. The new SM&CR focuses pre-approval activity much more closely on those at the top of the firm with enhanced powers for the regulators to impose conditions and time limits on these approvals. This is supported by an ongoing requirement for the firm to assess senior managers’ fitness and propriety annually. The regime requires these individuals to have statements of responsibilities to give absolute clarity about who is responsible for which parts of the firm. It will not be as impenetrable as the noble Baroness, Lady Kramer, said. Beneath the senior managers layer is the certification regime. This puts a statutory responsibility for ensuring the fitness and propriety of key staff below senior managers clearly on the firm both at the point of hiring and annually thereafter.

The new regime also enables the regulators to apply enforceable rules of conduct to all employees if the regulators judge that this will advance their objectives. For senior managers, this includes a rule on effective and responsible delegation, which addresses the “nothing

to do with me” argument that the noble Lord, Lord McFall, eloquently talked about and the noble Lord, Lord Tunnicliffe, mentioned. The rule states:

“You must take reasonable steps to ensure that any delegation of your responsibilities is to an appropriate person and that you oversee the discharge of the delegated responsibility effectively”,

as well as requiring them to ensure that the area of the firm for which they are responsible can be controlled effectively.

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Overall, this creates an enhanced regime where accountability is stronger and clearer, where firms must take responsibility for ensuring the ongoing fitness and propriety of senior managers and other key staff, and where the regulators are able to hold relevant individuals at all levels to account if they do not uphold proper standards of conduct. Therefore, I reject the allegation that that is going back to an old regime. It is in this context that I ask the House to consider the role of the Government’s proposed duty of responsibility. I have mentioned that currently the regulators can take action against an approved person if they break one of the statements of principle or are knowingly concerned in a breach of regulations. The combination of the statutory duty and the statements of responsibilities I have described adds a significant third limb to the regulators’ existing enforcement powers with regard to senior managers.

Under the duty of responsibility proposed by the Government, senior managers will be required to take reasonable steps to prevent regulatory breaches in their areas of responsibility. This means that the regulators will be able to hold senior managers in any authorised financial services firm to account for failings occurring on their watch. Senior managers will not be able to avoid this either by claiming ignorance of the circumstances leading up to the failings or by denying that they were accountable for the relevant area of the firm’s business in the first place. This is a serious obligation, with serious consequences if it is not met. A senior manager breaching the statutory duty can be subject to an unlimited fine and/or prohibition. Therefore, the extension of the senior managers and certification regime will significantly strengthen individual accountability across the financial services sector.

I turn to the noble Lord’s amendment and the question of reverse burden of proof. The Government are committed to introducing regulation that is robust but it must also be proportionate and, as far as possible, create a level playing field to support competition. These characteristics are vital for putting downwards pressure on costs to consumers and supporting innovation to help maintain a vibrant, creative, globally competitive industry. The extension of the regime changes the parameters of the debate around the appropriateness of the reverse burden of proof. I shall explain why. As we have discussed previously, the reverse burden of proof is causing banking sector firms and their senior managers to focus on ways of limiting their personal liability should things go wrong.

As Andrew Bailey has testified to the Treasury Select Committee, a tick-box form of compliance is emerging which fundamentally undermines the judgment-led, responsible management that the senior managers

regime is designed to support. As well as being an undesirable outcome of itself, these efforts could blunt the effectiveness of the reverse burden of proof as an enforcement tool in relation to the largest, best-resourced firms. By contrast, the vast majority of firms that will now fall within the SM&CR will be small ones. These firms are less likely to have legal resources to devote to protecting their senior executives. There is, therefore, a significant risk that smaller firms could struggle to fill their senior management posts—an issue that has been raised by representatives of some of these small firms. For example, Robin Fieth, chief executive of the Building Societies Association, said last December:

“A continued supply of high quality people is what financial services needs, but I can foresee recruitment issues resulting from the Senior Managers and Certification regimes. It’s a real risk that the pool of high quality individuals willing to take on a Senior Management Function role (SMF) in particular will drop. This will be particularly acute for smaller firms where the penalties are the same but the rewards substantially less”.

This could in turn undermine the Government’s aim to deliver a level playing field wherever possible and adversely affect competition in the industry. The ability of small firms to enter the market is key to driving innovation and putting downward pressure on costs.

Some noble Lords, including the right reverend Prelate the Bishop of Southwark, have expressed concerns about the fairness of reversing the principle that a person is innocent until proven guilty. While there are cases, as the assiduous noble Lord, Lord Sharkey, pointed out, it is unusual in English law. However, even setting these arguments to one side, there remain questions of fairness around the effect on small firms. Perversely, individuals in those firms, where regulatory breaches can cause the least damage, could end up being most exposed to personal liability. The noble Lord accepts this and his amendment would not apply the reverse burden of proof beyond the current population of firms covered by the SM&CR, but it would seek to keep it in place for deposit takers and PRA-regulated investment firms. This also raises issues of fairness. The reverse burden of proof the noble Lord wishes to preserve applies to all deposit-taking institutions, including credit unions and small building societies. If it remained in place for small deposit-taking firms, it would be hard to justify applying the reverse burden on these small firms but not on small firms in other sectors.

Furthermore, the arguments put forward by noble Lords who support a two-tier system are focused on financial stability and the risk that deposit takers and the large investment firms pose to it. However, the reverse burden of proof cannot discriminate between regulatory breaches that threaten financial stability and others. Therefore, its application to deposit takers and not to other firms is arbitrary and would pose serious risks to fair competition within the industry. The risks again would fall mainly on small firms. How easy would it be for a small deposit taker to attract high-quality senior staff in competition with a large insurer or FCA-regulated investment firm where, as well as being able to offer a higher salary, the reverse burden of proof would not apply?

The question the noble Lord’s amendment begs is: where should the line be drawn between those firms to which the reverse burden of proof would apply and those to which it would not apply? This is an extremely

difficult question to answer in any way that would deliver a consistent and proportionate regime. As the right reverend Prelate said, it may well be arbitrary. Furthermore, how would enforcement action tackle activity that straddled a period when the firm moved above or below the threshold?

The intent behind this amendment is one we all share—to create a financial services sector in which people are held accountable for their actions. Much has already been done to achieve that. This Bill, as it stands, will improve transparency and accountability still further. This amendment, however, would add confusion and bureaucracy for no benefit. I therefore ask the noble Lord to withdraw his amendment.

Type
Proceeding contribution
Reference
765 cc2031-5 
Session
2015-16
Chamber / Committee
House of Lords chamber
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