I was delighted today that my ten-minute rule Bill was introduced without opposition. This late in the Parliament, the Bill itself is extremely unlikely to make further progress but I was glad to put the following on the record (these are my notes – Hansard is here:
Mr Speaker, I beg to move that leave be given to bring in a Bill to enforce strict liability on directors of financial institutions; to require directors of financial institutions to post personal bonds as additional bank capital; to require personal bonds and bonuses to be treated as additional bank capital; to make provision for the insolvency of financial institutions; to establish a financial crimes investigation unit; and for connected purposes.
I draw the attention of the House to my registered interest in Cobden Partners.
A developed society like ours needs a vibrant, dynamic, reliable and robust means of executing payments and intermediating savings to entrepreneurs: we need a good banking system.
Unfortunately, as the Governor of the Bank of England said in his 2010 Bagehot lecture:
“Of all the many ways of organising banking, the worst is the one we have today.”
He said elsewhere in that speech, “At the heart of this crisis was the expansion and subsequent contraction of the balance sheet of the banking system.”
We might well discuss why balance sheets expanded so far and which factors and choices drove that expansion, but for the purposes of today, it suffices to quote Martin Wolf, writing in the Financial Times on 9 November 2010,
“The essence of the contemporary monetary system is creation of money, out of nothing, by private banks often foolish lending.”
And on 23 Feb this year, the Bank of England’s Executive Director for Financial Stability, Andy Haldane, published an article in the London Review of Books, in which he wrote:
“The continuing backlash against banking, as evidenced in popular protests on Wall Street and in the City of London, is a response not just to the fact that the world is poorer, as pre-crisis riches have turned to rags, but to the way these riches were privatised, while the rags are being socialised. This disparity is nothing new. Neither, in the main, is it anyone’s fault. For the most part the financial crisis was not the result of individual wickedness or folly. It is not a story of pantomime villains and village idiots. Instead the crisis reflected a failure of the entire system of financial sector governance.”
Mr Speaker, we must rise above that inadequate story of pantomime villains. Entrepreneurial error and gaming rules in the pursuit of self interest are nothing new. The system should have coped.
It is that foolish lending of new money, that failure of the entire system of financial sector governance, which must be addressed.
What is to be done? Mr Haldane supplied an answer. He wrote:
“The best proposals for reform are those which aim to reshape risk-taking incentives on a durable basis”
That is what my Bill aims to do. It aims to reconnect risk and reward in the financial system, to deal with the moral hazard which allowed the privatisation of vast gains and the projection of vast risks and losses onto the public.
I believe profit is right and proper when earned through voluntary exchange without force or fraud. Bonuses based on just profits are a good thing.
However, if some people gain but the costs of their actions are forced onto others through state power, that is an injustice. It is one from which our constituents are still smarting and it is one which is causing people to question the basis of our social system.
If we are to prosper, we must preserve and extend commercial freedom, promote personal, professional and mutual responsibility and facilitate enterprise under the rule of law. In banking, a business which is categorically different from others, we must ensure that those who stand to gain also bear the risks of their own actions.
I therefore propose the following measures:
First, the liability of bankers.
Board members of financial institutions should be strictly liable for losses. That is, liable without the need to prove fault on their part.
In the event of bank insolvency, board members would to be subject to unlimited personal liability. Their own personal wealth – all assets, houses, pensions, and so on – would be at risk.
In addition, bank directors would be required to post personal bonds that would be potentially forfeit in the event that their banks report losses.
The value of the bonds posted for each person concerned should be the higher of £2m adjusted for inflation or 50% of the person’s net wealth.
Any board members who resign would still be subject to unlimited personal liability and the requirement to post bonds for a period of 2 years following their resignation so that they could not run away from impending disaster.
Second, bonus payments would be deferred for a period of 5 years.
The bonus pool would be invested in escrow accounts, with appropriate provision for stocks, dividends, stock options and cash.
Thirdly, personal bonds and the bonus pool would be used to make good bank losses.
Should a bank report losses over any period, these would be borne by beneficiaries of the bonus pool in the first instance; further losses would be borne by board members and made good from their posted bonds. Any further losses would then be borne by shareholders in the usual way. Finally, in the event of insolvency, bank directors would be exposed without limit.
Additional measures would cover the definition of core capital and accounting standards, provide a robust definition of bank insolvency, require a new fast-track receivership regime for banks and a programme to end state support and to return financial institutions to normal operations. There would also be provisions relating to EU passporting rules and provisions for criminal investigations and criminal liability.
These measures are targeted at banks, which are categorically different from other businesses, but whether that can be achieved without extending the scope of the Bill to any company regulated under the Financial Services and Markets Act 2000 is a matter for debate. In order to promote diversity and competition, wholly owned mutuals and new, small banks could be exempted from certain provisions, such as the requirement to post bonds.
The obvious question is, who would become a director of a bank under a regime of unlimited liability?
Actually, unlimited liability banking has an illustrious history.The two greatest bankers of the nineteenth century, Nathan Rothschild and J P Morgan, both operated highly successfully under unlimited liability. Unlimited liability made them conservative in their risk-taking and it reassured counterparties who appreciated what they stood to lose if a deal went wrong. I am grateful to my hon friend for Wyre Forest, who reminded me that unlimited liability partnerships were relatively common in banking until the 1980s.
The principle of unlimited liability for directors was placed onto a statutory basis in 1929. It remains in Section 232 of the 2006 Companies Act. My Bill would make bank directors’ duties openly enforceableAnd let us not forget that banks are often quick to require small business directors to provide personal, secured guarantees. What is sauce for the goose is sauce for the gander.
Members may have seen reports of action by HSBC and Lloyds to claw back bonuses from staff. The principle is established that remuneration can be forfeit if it transpires staff actions were damaging. That principle should be extended in an industry capable of generating losses so large as to threaten our entire economic system.
Hard working families and individuals, paying tax out of typically modest pay, must never again suffer the injustice of carrying the risks and consequences of risks taken in the pursuit of often enormous private returns. Risks must fall to those who take them in the pursuit of reward.
Instead of the vicarious liability of taxpayers, there must be responsibility within the banking system.
This Bill represents an opportunity to free the banking sector and the public from regulatory capture and lobbying. It could raise standards from the bottom up through the preservation and extension of commercial freedom and the development of professional, personal and mutual responsibility.
The Prime Minister has called for a responsibility revolution. That is what this Bill would provide. It would end the culture of rewards for failure in the banking system and establish a basis on which to build a growing future for London as the world’s leading trustworthy financial centre.
It is time for us to say to bankers, “Put your money where your mouth is. By all means make a fortune but if you want the reward – bear the risks.”