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Economy: Regulators (Regulators Committee Report)

rose to move, That this House takes note of the report of the Select Committee on Regulators on UK Economic Regulators. The noble Lord said: My Lords, it is with great pleasure that I open my remarks by thanking those who have taken part in the work of the Select Committee on Regulators in the past Session. I thank the members of the committee, in particular those few who have found it possible to stay until this last moment before we depart for our Recess. I thank the clerk and the specialist adviser, Sarah Price and Boaz Nathanson, and the two specialist advisers, Graham Corbett and Eileen Marshall, who helped us so much. I have been in this House for 25 years and have never had any contact with the committee system before. I am puzzled by it; it is a very strange way to gain wisdom. First, for a committee such as ours, which lasts only for one Session, the timing is very tight. You put out for evidence in December, get it back by February, talk and listen to people between February and June, produce a draft report by the end of July, and debate it in October. I am a researcher by trade and I would wish to spend a considerable time ascertaining basic facts before I started asking questions. Evidence-based, which these reports are, means evidence in the legal sense—in other words, what people said to us, rather than what is the truth. It is our ability to discover and ask the right questions, and question answers if they are not clear, which leads to the quality of the final report. Any defects in that quality are my personal responsibility and not those of the others who took part. It is a strange business. In the time available to me, I am going to do two more things, other than question the committee procedure of this House. First, I am going to race through the recommendations of the committee. Secondly, I want to say some things about what has happened in the regulatory world since we drafted our report at the end of July and since we reported in October. What has been happening is quite dramatic. I have 11 points to make about the report and I will race through them. On regulators’ statutory remits, we decided that they were pretty good, despite being arrived at almost at random in a series of privatisation Acts which were never thought out as a whole. There were never any consistent policy decisions about the establishment of the regulatory estate, but it seems, on the whole, to work. We recommended against new legislation, but said that there should be standardisation of remits as opportunities arise. We looked at the working methods of regulators and the value for money they provide. It is certainly true that the cost of regulation has gone up, but we concluded that, generally, the cost has gone up because of the increased workload that has been put onto regulators, rather than through inefficiency. I take the particular example of the FSA being given mortgages and general insurance markets, which enormously increased the number of firms that it had to regulate. We looked at the issue of risk-based regulation and principle-based regulation. In evidence to us, Ed Balls made it clear what had not been entirely clear to me: that you can have risk-based and principle-based regulation. You have to have it when you are dealing with large numbers of smaller firms—what you might call retail regulation—but it is much more difficult and not necessarily desirable for very large firms. I shall be saying more than a word about Northern Rock in due course. Some of the conclusions to which we came have been invalidated by subsequent events. Thanks to the National Audit Office and Ed Humpherson in particular, we looked at regulatory impact assessments. The NAO concluded in a study that it did for us that regulators are pretty good at pre-impact assessments—better than the Government in fact—but not so good at post-evaluation. It is a bit like post-legislative scrutiny: it is a good thing but it has not actually happened. We concluded that regulators on the whole should be responsible for their own impact assessments although there were certainly exceptions, particularly for post hoc examination. We looked at the issue of the citizen and the consumer—the public interest. We concluded that the definition of ““public interest”” or the obligations to citizens should be defined by the Government and Parliament and promoted by the regulators. Ofcom is a good example of that. But we certainly did not think that the interests of citizens should be ignored even though the phrase ““public interest”” is not much more than a Humpty Dumpty phrase. It means whatever you wish it to mean, but it should mean something. On consumer representation, we concluded that, generally, consumer representation should stand alone as separate from the regulators themselves. We looked at the relationship between sector regulators and functional regulators—the OFT and the Competition Commission. We thought that concurrency arrangements were working quite well, but we still needed more referrals to the functional regulators and there should be more use of competition law. We looked at relationships between regulators and the Government. Again, we thought that it was working pretty well, but we were taken aback that Ministers giving evidence to us did not seem to know much about what each other were doing although they were reasonably well informed about their own responsibilities. Because we were concentrating on economic regulators and the economic effects of the regulation system as a whole, we looked at issues of competition and competitiveness. Not all regulators are competition regulators and, on the whole, although competitiveness should follow from greater competition, that does not always happen. We were unkind to Ofwat and the water industry for not achieving any effective competition. We looked at whether sectoral regulators were going to fade away—whether there should be a sunset clause—as many people thought would happen when they were first established. We came to the conclusion that St Augustine of Hippo was right: "““Make me chaste Lord … but not yet””." Yes, it is a desirable thing, but we are nowhere near that yet. There is a continuing role for the Government. Matthew Parris in the Times last Saturday made that very clear. He said: "““The market must be the engine of our economics and therefore our politics. That argument is over. But now another starts. What about the accelerator, the brakes, the gearing, the emissions control?””" If the committee had known that it would have agreed with it. Finally, we looked at accountability and parliamentary oversight. Some of that happens, of course. We think that it is important for the OFT to report to the Joint Regulators Group and that it is important for Ministers to talk to each other perhaps more than they do. We are very appreciative of the work of the House of Commons departmental Select Committees. For example, the Treasury Select Committee report on Northern Rock in January was an outstanding piece of work. We felt very much frustrated by our limited timescale, the fact that we had to limit ourselves, therefore, to particular issues of regulators, not of regulation, to economic regulators and to cut out all sorts of important issues that this House should consider; for example, the social and environmental effects of regulation. Therefore, we recommended, in line with the recommendation of the Constitution Committee, chaired by the noble Lord, Lord Norton, in 2003-04, that ideally there should be a Joint Committee of both Houses or, if not, a continuing Select Committee of this House, which would have responsibility for the regulatory estate, because, as I have said, it is always with us. What has happened since we drafted and considered our report? A huge amount has happened. I could give many examples, but I shall concentrate on the FSA and Northern Rock. Ofgem, for example, after giving very self-congratulatory evidence to us, allowed price increases in January this year of 12.7 per cent for electricity and 17.2 per cent for gas. As for competition, Ofgem has allowed the number of suppliers to decrease from 20 in 1998 to six today, with vertical integration that makes it very hard for anyone else to enter the market. There have been problems with the Civil Aviation Authority and the Office of Rail Regulation, with which I do not have time to deal, and with OFWAT, with which we did have time to deal. I want to talk most of all about financial regulation, because there has been a huge change in the success and stability of financial markets. A lot of it was predictable. It was predictable while we were reporting, so we are at fault, or I am at fault. Alan Greenspan said in 2005: "““Increasingly complex financial arrangements have contributed to the development of a far more flexible, efficient, and hence resilient financial system than existed just a quarter-century ago””." I do not think that anyone would say that now, although he wrote a typically equivocal article in the Financial Times a couple of weeks ago. The Minister, my noble friend Lady Vadera, will recall that he spoke at a meeting in the Treasury a few years ago when he made a particularly opaque speech which I came out of saying, ““I don’t think I understood much of that, but I think that he was approving of derivatives and hedge funds. And I think he is wrong””. I still think that he is wrong. We had plenty of warning, if we had known about it. The Government and society had plenty of warning. The Bank of England Financial Stability Report in April last year said: "““Macroeconomic stability is encouraging greater risk-taking … use of risk transfer markets is affecting the depth and quality of risk assessment””." That means that those who are supposed to be assessing risk are, "““less inclined to assess credit quality … if they bear little of the ultimate risk””." The report said that there is less information on borrowers and on monitoring. Has not all of that proved to be true in the past six months? The FSA’s oral evidence to us in March last year—and the questioning, which again is my fault—was all about over-regulation. It was all about the accusation by the Royal Bank of Scotland that the UK regulatory regime was one of the more onerous. I do not think that we would say that today. The Treasury Select Committee, in its report in January, found no excuses for the way in which Northern Rock was regulated by the FSA. There were plenty of warning signals. The report said that the business model of Northern Rock was clearly stated, that there should have been a warning in the rapid expansion of Northern Rock, that the fall in the share price was a warning, and that the Basel II waiver, where they pay dividends and weaken the balance sheet, should also have been a warning. The report said that Northern Rock looked at solvency and not liquidity and pointed out that liquid assets for all of these businesses had gone down from 20 to 30 per cent 40 or 50 years ago to 1 per cent now. Mervyn King told the Treasury Committee last week that, "““financial institutions will have to hold more capital in the longer run””" and, "““their activities will have to be monitored much more closely””." In other words, more regulation, not necessarily lighter regulation. The FSA internal audit, published in February this year, was candid about what went wrong in the supervision of Northern Rock. There have been three reorganisations—three heads of department—in the past four years. In that time, there have been eight meetings, of which five were on the same day and none kept adequate formal records. The Treasury Committee questioned whether there was any meaning in ““close and continuous supervision””. It questioned the lack of a risk mitigation programme. Since it made comparisons with only five other banks, there is still a lot of work to be done. The FSA audit said that Northern Rock was at, "““the extreme end of the spectrum of regulatory practices””." What does that mean? Does it mean that other banks were being regulated more closely? I think not—but that is what it ought to mean. It ought also to mean that Northern Rock was inspected more closely. Mr Hector Sants, in his response last week to the internal audit report, said that the, "““overall regulatory philosophy as a risk-based outcome-focused regulation is supported and reinforced by this analysis””." Is it indeed? It seems to me that Mr Sants is recommending much more regulation, increased links with the Bank of England and with international organisations, increased resources, an increase in the number of staff, and an increased priority for their work. At the conclusion of this exercise, I am deeply dissatisfied, not with the work that we did, which was of considerable value in the limited time available to us and with the terms on which we were appointed. However, I do think that we and everyone else failed to anticipate the conclusion that society must now reach—that the regulatory state is with us for good. The Economist this week said that the experiences of Northern Rock, "““make calls for tougher regulation hard to resist””." It added that, "““writing rules may do more harm than good if the regulator is unable to enforce them””." The regulatory state is with us to stay and we shall need continued and better parliamentary oversight of it. We shall have to find a way of achieving that. I beg to move. Moved, That this House takes note of the report of the Select Committee on Regulators on UK Economic Regulators (First Report, Session 2006-07, HL Paper 189).—(Lord McIntosh of Haringey.)