Contribution
My Lords, I will be relatively brief because these are highly technical instruments, but there are some comments that I would like to make.
I shall start with the collective investment schemes and central counterparties order and begin with collective investments schemes. I ran this one by my noble friend Lady Bowles of Berkhamsted, who is the ultimate guru in our party on collective investments schemes and, I suspect, one of the experts on them within the House, and her report was “It’s absolutely fine, let it go”, so I will happily take that position on the necessary tidy-up of the changes in the language for collective investment schemes.
However, the second part of that order is far more interesting and raises some questions, about not the language but the broader issue of central counterparties and the hint that this regulation may contain. Everyone in this Room understands that central counterparties became an instrument for countering the fallout of the 2008 financial crash when liquidity seized up across the financial services sector because, within that huge area of derivatives—I think derivatives outstanding typically exceed something like $60 trillion at any one time—the outside world did not know who owed what to whom and therefore who was at risk from which failure and whether there would be domino effect. Indeed, liquidity then seized up and we went from a contained financial crisis into a wholesale financial crisis. Now, vanilla transactions and derivative arrangements that go beyond the vanilla pass through central counterparties so that there is a middleman, if you like, that can hold the risk so that if one party fails, the counterparty takes the risk, not the person who holds the mirror transaction on the opposite side.
I think everyone has always recognised—I could quote Andy Haldane, but I have done it too often before—that, in a sense, the central counterparty is an accumulation of risk. One could almost think of it as an unexploded bomb. Serious levels of risk are contained with the central counterparty and, if anything goes awry, the shock to the financial system would be global. The Committee will know that many of the counterparties share common ownership. They may look like completely separate organisations, but they feed back and the same parties, in a sense, make up their various memberships and ownerships. Cross-contamination is always a huge risk when dealing with central counterparties.
It is obviously sensible now that, sadly, we have left the EU, that regulation which tied into EU directives should drop away, but I am concerned that this does not become an excuse for playing the game of regulatory arbitrage. We hear constantly about the significance of growth. I do not deny that, but I am concerned about the gradual understating of risk that sits alongside loosening and changing regulation to create the animal spirits that will create growth.
The potential to play a regulatory arbitrage game around central counterparties must be raised in this context. When we required recognition by more than one regulator—ESMA as well as its UK equivalent—we had the constraint of two sets of significant eyes looking at a particular situation. Now there is one set of eyes only. While we always acclaim the importance and, as I often hear, the great superiority of the British regulators in this area, I would very much like some assurances that there is at least some degree of oversight and monitoring in recognising the potential of trying to loosen up regulation around the central counterparties.
Both prior to our exit from the EU and today, the dominant European clearing house—one might say the dominant global one—was LCH. It is no longer called the London Clearing House and its party in Paris is now known as LCH Paris. It is still dependent for about a third of its clientele on recognition from ESMA. ESMA has given it temporary equivalence, but that could be adjusted or changed in future and there could be limitations on European institutions from doing more than a certain percentage of their clearing through LCH or other UK clearing houses. Can the Minister update us on that issue? Is there any sense that the steps we are taking could trigger a more adverse decision from ESMA in reference to UK-based CCPs?
I will very briefly deal with the insurance distribution regulations. Some in this Committee will know that I hate the concept of a regulatory perimeter whereby we regulate activities on one side but not on the other. I gather from the Explanatory Memorandum that some companies which were outside the regulatory perimeter will now be drawn inside it. That can be only a good thing, but there has always been a tendency for companies in the UK to game the regulatory perimeter. They grow to a size that puts them just outside sight of the regulation. Will a significant number of companies be affected by this adjustment in denominating the assets from euros to sterling? Will we see a cluster around the regulatory perimeter and have any concerns been triggered in looking at this set of changes?