My Lords, I start, as is now traditional, by welcoming the return of the Minister, and by thanking the Library for the outstanding note it has produced for this debate.
The Motion before us seems simple: financial stability sounds like a common-sense kind of thing and obviously desirable. However, the reality is significantly more complex. There are at least two readings of the phrase “financial stability”. The first reading, in this context, is defined by the Bank of England, which has a statutory objective to protect and enhance the stability of the financial system in the United Kingdom. The definition is that
“financial stability is the consistent supply of the vital services that the real economy demands from the financial system (which comprises financial institutions, markets and market infrastructure).”
The FPC has qualified that definition by saying:
“Financial stability is not the same as market stability or the avoidance of any disruption to … financial services.”
This qualification was quite properly abandoned in dealing with the events of September and October.
The second reading of the words is the usual and common-sense one: things should not change violently, radically or without warning—and that definitely includes inflation. The mini-Budget of 23 September was probably the most incompetent, damaging and destabilising ever produced. It is still hard to believe that a Chancellor would put forward such a list of spending measures without any indication of how they were to be funded. It is astonishing that the Chancellor explicitly refused the offer of an input from the OBR. It defies belief that the Chancellor and Prime Minister took no account of the likely bond market reaction.
It is not as though the bond market reaction was unknown or of no importance: Bill Clinton famously encountered it when preparing the programme for his second term. His advisers told him that some of his policies would not be possible. Clinton said:
“You mean to tell me that the success of the program … hinges on the Federal Reserve and a bunch of”—
expletive deleted—“bond traders?” One of his advisers, James Carville, said at the time:
“I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”
The bond markets certainly terrified our Government and probably most of the rest of us as well. Long-term gilt yields rose by 30 basis points on the day of the mini-Budget, and by another 50 in the next three days. On 26 September, the pound fell to $1.03, its lowest ever level. On 27 September, there was an initial fall in gilt yields and then a rise of 67 basis points. On 28 September, the Bank intervened with a short-term commitment to QE of up to £65 billion. In all, the Bank bought £19 billion of bonds to stabilise a market that the Government had directly caused to crash. That was added to the Bank’s existing QE stock of £875 billion. Given the asset-inflating effect of QE and the deflationary pressure imposed by the inevitable higher interest rates, some commentators noted that the Bank appeared to be driving with one foot on the accelerator and the other foot on the brake.
My Lords, I very much welcome this timely debate, introduced by the noble Lord, Lord Sharkey. While the economy has been centre stage for the last two months, we have not debated it since the summer—apart from the 40-minute Statement on 19 October. I join others in welcoming my noble friend Lady Penn back to the Front Bench, this time as a fully-fledged member of the Treasury team.
I want to focus on the final element identified in the noble Lord’s Motion—the rental market and, in particular, the private rented sector. I suspect the noble Lord, Lord Best, will also do this. There is a vicious circle operating here. Rising interest rates with earnings lagging inflation are making home ownership less affordable. This adds to demand for private renting, pushing rents up. This is reinforced by cost pressures on landlords, as buy-to-let mortgage rates increase, with less advantageous tax arrangements and higher environmental standards. This in turn leads to landlords leaving the market, leading to a further imbalance between supply and demand and yet higher rents. Too many renters already pay more than 50% of their income in rent, making home ownership less attainable. The ONS notes:
“Given the excess of demand over supply, rental prices are expected to rise further.”
In September this year, Rightmove reported annual growth in rents of 12.3%.
One in five households now lives in private rented accommodation—a doubling in two decades—and nearly all are on six-month assured tenancies. The theme of the noble Lord’s debate is stability. I believe we need a fundamental review of the private rental market to put it on a more stable and sustainable basis. In a nutshell, we need to move from a market dominated by the small private landlord, buffeted by tax changes and interest rate movements, where tenants have limited security of tenure and where it is not their tenure of choice, to a market more like that of France, Germany or Switzerland. There, a higher proportion of the population see private renting as the “normal” tenure choice and financial institutions invest in the sector for the long term, ensuring that properties are professionally managed and in good condition and, crucially, have long leases to provide stability for the tenant.
My Lords, I thank the noble Lord, Lord Sharkey, for securing this vital debate, the urgency of which is of course prompted by an experiment in fiscal policy as calamitous as it was unprecedented.
Recent weeks offer a cautionary tale of how such mayhem—stemming in part from political incompetence—spirals, demanding costly intervention and creating misery for so many. As we survey the wreckage, we are left with two salutary observations. First, the nervous breakdown in the system, such as we saw in recent months, matters to every single household in the UK. Let us remember, these rising markets of recent years have been fuelled in some measure by a striking injection of personal finance from the retail investor. Market analysis suggests that small individual shareholders’ share of equity trading volumes in the largest stocks has climbed to 24%. Gone are the days when stock markets were the sole preserve of large institutional investors. So every time we hear phrases such as the markets are “correcting” or “repricing”, they are just euphemisms for the utter misery felt by large numbers of households in the country.
Market instability, as in the title of this debate, is not an economic technicality affecting the privileged few. It profoundly touches many millions of citizens. It is not uncommon for as much as 35% of a stock to be owned by everyday, small investors, often representing a meaningful percentage of their liquid assets. The Government would do well to be less zealous—certainly less frivolous—in toying with a system in which so many will be harmed if things go wrong.
These spillover effects are felt even more acutely in the housing market. Noble Lords will know the disastrous effect on mortgage rates—as the noble Lord, Lord Sharkey, suggested—following the mini-Budget and subsequent market meltdown. The numbers of those affected speak for themselves: 25 million homeowners in the UK have gained a home with the help of the mortgage sector, and let us remember that the UK has the highest total outstanding value of all residential mortgages in Europe. This is a country where homeowners are critically reliant on the stability of mortgage rates.
My Lords, the mini-Budget caused sharp falls in the value of sterling, gilts and confidence in the UK’s rating. Despite policy reversals, there is substantial residual damage in people’s pockets and pension funds.
But this was not just an economic event. It triggered a systemic financial stability event, leaving question marks over regulators. The devil was liability-driven investment funds—LDI—and, as if we learned nothing from the great financial crisis, financial engineering that hides behind three-letter acronyms eventually leads to four-letter expletives when it blows up. So what was lurking, and why? The Pensions Regulator—TPR—has overly favoured investment in gilts, which steered funds away from higher-yielding productive investments. The accounting practice also developed of requiring net present value of liabilities, based on gilt interest rates, to be used in both pension scheme valuations and sponsor company accounts. That transferred artificial volatility to both scheme and company balance sheets.
Ways to smooth that volatility were therefore sought. LDI emerged and, with it, borrowing and leverage using repo and derivatives. Gilts were subject to repo—that is, sold but with retention of interest, a buy-back agreement and margining—and the cash used to buy further investments. Along with interest rate swaps, this quashes the accounting volatility and the pension fund gets to hold equities that regulatory edicts had inhibited. This sounds a bit like regulation-dodging, but the practice was actively encouraged by TPR. Alas, it also exposed pension schemes to cash margin calls. They were borrowing short against long liabilities—maturity transformation, just like Northern Rock, with shades of the great financial crisis again.
Then excess set in and, instead of buying equities with the borrowed money, more gilts were bought and underwent repo and so on. They were often leveraged four times, or seven times, as admitted in a TPR survey, or, anecdotally, 13 times. In 2018, the Bank of England Financial Stability Report noted that leverage and exposure to derivatives in pension funds was far greater than in hedge funds. It advised liquidity buffers and stress-tested market moves to 100 basis points based on historical review. My thoughts were that it did not think widely enough, not even to taper tantrums. The Bank pointed to international concern about systemic risk in non-banks but, despite the known UK-specific circumstances of DB schemes and a systemic feedback loop on gilts should there be a falling market, direct action was not—maybe could not—be taken. So the systemic trigger event happened. There was a spiral of margin calls and, although the Bank intervened to purchase gilts, the fire sale of assets within pension schemes cost many of them around 25% of asset value.
My Lords, I welcome the noble Baroness, Lady Penn, back to her rightful place on the Front Bench. The speeches so far, led by the noble Lord, Lord Sharkey, have been of the highest quality. I must confess that I have already learned a lot from listening to experts such as my noble friend Lord Kestenbaum. I will make some brief observations on how we handle the situation we are now in.
First, we have to recognise that our national sovereignty, where we live in the world, is limited. Kwasi Kwarteng and Liz Truss thought that Brexit had somehow liberated them from constraints on national sovereignty. It has not, and that fact must be recognised.
Secondly, financial stability is essential. I believe we will face a very tough Budget but, when we make these tough decisions, it would be a great mistake to cut the programmes which are most likely in the long term to improve our rate of growth and therefore our ability to finance public services and a generous welfare state. If a Government present well-worked-out plans for investment, which should be audited by independent bodies, and if we invest wisely, we can borrow wisely to improve our position in future. I hope that will still be the case, because we need to invest in not only capital programmes but training. If we are to solve the problems of the health service, we need to invest in the workforce, particularly the social care workforce, because that is a crucial condition of getting the escalating costs of running the NHS under some kind of control. We need to invest in order to save; that is essential.
Thirdly, in tough times we should not neglect problems of poverty and inequality, or the essential role played by public services. We are getting to the familiar point that we want a Nordic welfare state with US levels of tax. That cannot be sustained with our demographic pressures, particularly on the health system. How do we get out of this? I do not believe we can solve the problem simply by imposing fantastically high taxes on the top 2% or 3%. We can do a bit more of that, but we cannot solve the fundamental problem of the welfare state by doing it. We need tax reform.
My Lords, I thank the noble Lord, Lord Sharkey, for initiating this debate and for his excellent opening speech. My contribution will seek to identify actions which the Government could take to avert an ever-worsening housing situation and even extract something positive from the instability in financial markets which has led to higher borrowing costs.
First, to prevent a spate of repossessions—with the misery and huge cost of families being made homeless—there needs to be a robust safety net to meet the inevitable rise in home buyers running into serious mortgage arrears. In response to the 2008 global financial crisis, the Government introduced an improved income support for mortgage interest scheme. However, help was much diminished in 2018. On 9 June this year, the Prime Minister’s office announced a new plan to support homeowners which would strengthen protection at this time of other cost of living increases, but no further detail about these proposals has been given since. Can the Minister say when it is expected that the Government will take this forward to avert a serious outbreak of mortgage repossessions and homelessness?
Secondly, turning to new housebuilding, Secretary of State Michael Gove this week re-established the Government’s target for the construction of 300,000 homes per annum. This has sent out a signal that the Government believe it is essential to ease shortages and improve affordability by stepping up housebuilding. But, sadly, it will be harder to achieve this target with the rise in borrowing costs. Housebuilders are likely to sit on their hands rather than build more homes when costs are higher but prices may be falling; when there will be far fewer first-time buyers able to afford the new mortgage costs; when Help to Buy subsidies are finishing; and when deep uncertainty about the future will hold back potential purchasers.
The benefit which society can salvage from this predicament could come from a boost in the supply of new social housing, with support for the acquisition by social housing providers of sites or not-yet-finished developments. Not for the first time, this would keep the construction industry going through hard times and prevent a construction-led recession while achieving a real increase in desperately needed affordable social housing.
My Lords, we are living in challenging times, with inflation rates at a 40-year high. Turbulence in the financial markets, with higher interest rates and larger mortgage payments, is adversely affecting people in all walks of society. With the wholesale price of energy and gas increasing due to Putin’s appalling and illegal invasion of Ukraine, it is vital that His Majesty’s Government do all they can to protect renters, those with mortgages and, of course, pensioners.
To put a human face to this debate, I thought it might be worth while just quoting one of a number of emails I have received from communities in my diocese this very week. One person emailed me on Friday: “In my role as chair of a food bank, we are having to make decisions around both frightening increases in demand and a growing decline in donations. This summer, we increased our warehouse capacity to handle food for somewhere around 500 food parcels a day. The problem is in-work poverty which is growing substantially. In the past few weeks, we have been approached by a hospital, a large business, schools and a local council about whether they can refer low-paid staff to us.” He went on: “Apparently, employers are not prepared to talk about the problem of in-work poverty, feeling ashamed. They would like to raise wages and want the best staff welfare but can’t because that would move them into a deficit budget.” The human reality of what we are facing is stark. Unfortunately, the mini-Budget of 23 September made a challenging financial climate much worse.
I want to say a few words about the challenges facing pensioners. Statistics show that more than 2 million pensioners are living in poverty, with this figure increasing by around 200,000 in the last year. Age UK has suggested that one-quarter of elderly people are being forced to choose between heating and eating. These pressures are being felt particularly by those who are reliant on the state pension alone. I know many of us are hoping that in the forthcoming Budget we will be given some assurances about the commitment to maintain the level of state pensions.
My Lords, I thank the noble Lord, Lord Sharkey, for facilitating this very timely debate. I want to talk about the elephant in the room, which is the finance industry and how it has destabilised the whole society. We have about 41 regulators for the finance industry, but they have very little idea of what the finance industry actually does. Indeed, it came as a shock to them after the banking crash that they were using derivatives to such a large extent. After the fiasco of the mini-Budget, some £1.3 trillion has been wiped off the UK bond market, and that includes £882 billion from gilts and the index-linked gilts market. The Pensions Regulator tells us now that some 7,500 pension schemes may well be technically insolvent. Did the Bank of England, the Treasury, the regulators or the FCA know how the pension funds are funded? We frequently get impact assessments accompanying financial Bills, but none of them looks at the destabilising effects of what the Government actually do. I hope we will get something different.
Financial markets are inherently unstable and, in the absence of effective regulation, continue to destabilise society. Short-termism is prevalent, compounded by fraud and anti-social practices, which are rife in the City of London. Numerous financial products have been mis-sold for more than half a century. Has any big company ever been liquidated as a result? No. Governments bail out the industry—that means there is no threat of bankruptcy at all for the key players and they then have a public licence to continue to misbehave. Financial sanctions are puny and they continue to engage in tax avoidance, rigging interest rates and exchange rates, forging customers’ signatures, money laundering and anything else we can think of.
The finance industry is the only industry that has the capacity to decimate economies. Research by my colleagues at the University of Sheffield has shown that between 1995 and 2015, the bloated, scandal-ridden finance industry made a negative contribution to UK GDP of £4,500 billion, yet the Government do not take that on board in anything they do in relation to this industry. There is no public inquiry of any kind as to how the industry operates. Can the Minister tell us when we will get a public inquiry into this scandal-ridden industry?
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Katie Martin noted in the Financial Times on 7 October:
“The intricacies of bond yields rarely trouble the general population, but homeowners quickly figured out what this meant for mortgage repayments, making it a searing political issue. Plus, it all jacks up the price tag for the government’s plans”.
The Financial Times returned to the issue over two weeks later, with Patrick Jenkins writing:
“To describe the ‘mini’ Budget of outgoing prime minister Liz Truss and outgone chancellor Kwasi Kwarteng as ill thought-out is almost a compliment. If they underestimated how spooked the markets would be by £45bn of unfunded tax cuts, they clearly had no notion at all about the collateral damage it would cause—to mortgages, to government and corporate borrowing costs and most alarmingly to the £1.4tn defined benefit pension system, via the now infamous ‘LDI’ hedging structures buried within many schemes.”
So here we have rising mortgage costs, rising energy costs, rampant inflation, no increase in real wages over two decades and now a threat to the pension system. I think that it is entirely probable that neither Liz Truss nor Kwasi Kwarteng had heard of, or understood anything about, LDIs. I do wonder whether the Treasury had understood and had given sufficient warnings to the Prime Minister and the Chancellor. The Bank, the Pensions Regulator and the FCA certainly did know about LDIs: each of them has a partial regulatory role over some parts of the LDI sector, and each of these institutions has now written not very convincing letters of exculpation to parliamentary committees. We seem to have uncovered a remnant of the pre-crash regulatory regimes, where a plurality of regulators failed to deliver necessary oversight or control. It is surely time that the regulation of these LDI funds was made simpler, clearer and more rigorous, so that we can avoid further unpleasant surprises and outbreaks of finger-pointing. When the Minister replies, I would be grateful for her thoughts on the matter.
This all, emphatically, does matter. All this rather obscure and technical stuff has clear effects on the real economy: mortgage rates have been rising as the bank rate has risen—probably to 3% in a moment or two. In December, the average rate offered for a two-year fixed deal was 2.34%; by 3 October, it was 6.07%; by 18 October, it was 6.53%. Of course, this means a steep rise in mortgage repayments. The Resolution Foundation predicts that over 5 million families are set to see their annual mortgage payments rise by an average of £5,100 between now and the end of 2024. The chief economist of the Royal Institution of Chartered Surveyors took the view that mortgage arrears and repossessions would inevitably move upwards over the next year; of course, this influences the rental market.
In late October, Moody’s, having downgraded its assessment of the UK’s economic outlook from “stable” to “negative” because of instability and high inflation, also estimated that more than half of landlords looking for a new fixed-rate deal in 2023 or 2024 would be unable to remortgage without raising rents if mortgages were 4 percentage points higher. Given the fall in real wages, this might push rents up beyond what tenants could afford.
Rents were already rising anyway, driven by what Knight Frank described as
“an ever-deepening mismatch between supply and demand”.
Shelter has said:
“Private renters are disproportionately exposed to the cost of living crisis”
and
“the most likely tenure to already be in fuel poverty.”
When the Minister replies, I would be grateful if she could tell the House whether the Government are actively considering increasing the local housing benefit allowance rates—frozen since March 2020—to ensure that housing benefit keeps pace with inflation, as Shelter recommends.
The current economic situation and the ongoing cost of living crisis bear very heavily on households, exacerbated by uncertainty about the future. Is the triple lock on or off today? Will inflation really rise to 12%, as the Bank seems to think? Will benefits be uprated in real terms? What will happen to my energy costs? Is my pension safe? Will there be reasonable pay rises? What will happen to the NHS and our schools? The need for some assurance and stability in these uncertain times is absolutely clear.
The most comprehensive survey of household and individual finances is the FCA’s excellent Financial Lives Survey. The next survey is due to be published early next year, but the FCA has just released some of the findings from its 19,000 respondents—they make for very distressing reading. One in four adults in the UK was either in financial difficulty or would fall into trouble if they had a financial shock. Nearly 8 million people were finding it a heavy burden to keep up with their bills—an increase of 2.5 million people in the last two years—as wage growth fails to keep pace with inflation, which is now at a 40-year high.
Over 4 million people missed a bill or loan repayment in the six months to February and, unsurprisingly, these problems were worse in the most deprived areas of the United Kingdom. About 12% of people in the north-east and 10% in the north-west are struggling financially, compared with 6% in the south-east and the south-west. Already, by the end of June, over 2 million households were behind with their electricity bills and just under 2 million behind with their gas bills. Citizens Advice reports a sharp rise in people being forced on to prepayment meters, which are more expensive. Can the Minister confirm that to address at least some of this, benefits will be uprated by inflation? Can she stop our energy companies moving customers to prepayment meters?
Of course, the real question is what should be done about the mess we are in. How can a measure of stability be restored to our financial lives, our real incomes and the institutions on which we depend? We may know more on 17 November; I do not expect the Minister will be able to say anything of any substance about what the Autumn Statement might contain, but some things are already clear. Last week, the Institute for Government, of which I was a governor for five years or so, and the Chartered Institute of Public Finance and Accountancy published their annual government performance tracker, and it is worth quoting at some length from the introduction. It states:
“Public services are in a fragile state. Some are in crisis. Patients are waiting half a day in A&E, weeks for GP appointments and a year or more for elective treatments. Few crimes result in charges, criminal courts are gummed up, and many prisoners are still stuck in their cells under more restrictive regimes without adequate access to training or education. Pupils have lost months of learning, with little prospect of catching up, social care providers are going out of business or handing back contracts, and neighbourhood amenities have been hollowed out.”
The report goes on to say:
“These problems have been exacerbated by the Covid crisis but are not new. After a decade of spending restraint, public services entered the pandemic with longer waiting times, reduced access, rising public dissatisfaction, missed targets and other signs of diminishing standards … Governments since 2010 may have been seeking efficiency over resilience but achieved neither.”
All this is simply a preamble to the report’s conclusions that most services do not have sufficient funding to return to pre-pandemic levels of service and performance:
“There is no meaningful ‘fat’ to trim from public service budgets. If the government wishes to make cuts in the medium-term fiscal plan, it must accept that these are almost certain to have a further negative impact on public services performance.”
Perhaps the Minister when she replies can tell the House whether she agrees with the IfG and CIPFA in their conclusions and, if not, why not.
The economy needs stability of purpose, policy and direction. People and business need a stable and reasonably predictable environment in order to plan, save and invest. People need stability because many families have very low resilience to financial shocks or steep movements. The Government could make a start on all this. They could honour the triple lock. They could raise benefits in line with inflation. They could devote scarce resource to where it is most needed and most productive. They could be open and honest about the state of the economy and what that really means for us and for our children. I look forward to hearing the contributions from other noble Lords and to the Minister’s reply and I beg to move.
This is not to say there is no role for the private landlord, but the sector as a whole needs to be put on a more stable long-term basis. There are signs that this transition is taking place here. Institutions such as Legal & General have started building thousands of flats for rent, targeted at students, professionals living in cities, and those who need mobility for their career. But we need to accelerate the transition and broaden its base. Build to rent is only 5% of the rented market. This would be a good investment for pension funds. Historically, they have invested in equities, gilts, commercial property and fixed interest loans, but they have had little direct exposure to the residential property market. This is perverse, as it has consistently outperformed equities.
To make the transition happen smoothly, we need to understand the motives of private landlords. They invested in buy to let for two main reasons: capital appreciation and a buoyant income. In many cases, they preferred this over a pension. But the disadvantage is that their capital is illiquid and owning property brings with it management problems and the prospect of a tougher regulatory regime.
To facilitate this transition, what is needed is a quoted housing investment trust to whom landlords could sell their property not for cash but for shares in the trust. So the investor would retain his investment in residential bricks and mortar—the trust’s only asset—with an income stream linked to rental values and capital values rising over the long term, but without the hassle of management and with easy access to capital. The property could be sold to the trust without giving notice to the tenant as it would be held as an investment.
The process could start with blocks and properties in a specified area, with management undertaken by registered social landlords such as housing associations, giving further reassurance to tenants. There would be a role for the Treasury to play in helping the transition to get off the ground. Normally, when a private landlord sells, capital gains tax is payable, and this could be a deterrent. However, under the scenario I have outlined, if capital gains tax was deferred until the shares were sold, that would act as an incentive.
I put this proposition forward to provide stability to a sector that is the least stable form of tenure in the housing market. I do not ask for immediate adoption today, but it would be good if the Minister could give it a nudge by encouraging the Department for Levelling Up, with its new Secretary of State, to explore further the potential of the idea I have just floated.
In those chaotic 12 days, we heard how the numbers spiralled. The catalyst for what played out in front of distraught mortgage holders is all too well known and worth repeating: the announcement of vast unfunded tax cuts, leading to ratings agencies taking fright, risk premia reacting accordingly and a spiralling yield on gilts that placed mortgages out of reach or, worse, unable to be serviced.
If my first observation is that the trauma in financial markets had a political catalyst, my second is that what lies beneath may be equally damaging. The entrenched view has been that, for the last 15 years, we have lived with a monetary experiment as a reaction to the disasters of 2008. Such an experiment comprised the dual anaesthetic of the unlimited printing of money together with near-enough zero interest rates—all designed, reasonably perhaps, to prop up markets.
However, the spillover effect on us all was, we must admit, that more risk was taken than was advisable: too much risk in our mortgages and too much illiquidity exposure in domestic expenditure, let alone what felt like unlimited government borrowing. A judicious appetite for risk was exceeded because the implicit message was twofold: we can always print more money and we can always keep interest rates low—so keep borrowing. In doing so, all involved forgot the golden rule that one day the music will stop and, when that day comes—and with it unaffordable mortgages and debt that cannot be serviced—the entire system is at risk.
Against this backdrop, we have had the calamity of recent weeks, which saw dramatic intervention by the Bank of England and the undignified spectacle of pension trade bodies rushing out statements to say that they believed UK pensions should be safe. It seems to me that the mere fact that such statements were required should be a cause for alarm. But this cannot be seen as a “Thank goodness that’s over” moment, which leads me to my conclusion.
The case I make today is that the trauma of recent market instability is both episodic and systemic. My concluding comment, however, is about something equally significant, namely a reckoning. The last time we experienced market shock of such magnitude was in the crisis of 2008. Perhaps the most important question posed in that tumultuous time was asked by our late Queen, who, not the first time, spoke for the entire nation when asking a group of economists, “If this crisis is so large and so far-reaching, how come you didn’t see it coming?”. We may well ask that again—and we do.
Some calm has been restored but the debris is everywhere, with unaffordable mortgages, new entrants to the housing market priced out and pensioners with hard-earned savings in funds that have lost meaningful, material value. Amid much talk of good judgment being restored, one cannot help feeling that the lasting consequence of this instability is that, ultimately, the British electorate will exercise their judgment and, when it comes, a reckoning will be made.
Now we come to the funny money accounting illusion where the TPR, FCA and BoE all say that, due to the recent rise in gilt yields, the net present value of liabilities has dropped, deficits have narrowed and pension schemes are in a better position for buyout. Rejoice they may, but assets—out of which pensions will actually be paid, both now and in the future—have dropped by 25%. That hole will be felt.
Was LDI, at least in its simplest embodiment, a smart move? Possibly, but there is the issue that pension scheme borrowing is not legal. TPR hides behind the sophistry that repo is a sale and repurchase, though the BoE and FCA more honestly call it borrowing. Thus, in pursuit of buyout or accounting niceties, employers, trustees and regulators have embraced the contrivance of dubious legality to evade primary principles in legislation, with the Pensions Regulator, the FCA and the BoE seemingly oblivious to those primary principles. It is an accident waiting to happen again.
The noble Lord, Lord Young, illustrated in his excellent speech how prudent tax reforms could improve the housing situation and bring in more money to the Exchequer. The same is true of pensions. Why should better-off people get 40% tax relief when they invest in a pension, as I did, when people on average earnings get only 20%? We should have a standard incentive for investment in pensions. That would bring in a lot of revenue to the Exchequer, and it would be fair.
There are ways forward. Rachel Reeves has begun to address tax reform in business rates, but we must go further in other areas. I hope we can find a way out of this crisis that allows us to invest in growth and also maintain a sense of social justice.
Thirdly, turning to the private rented sector—I welcome the helpful contribution of the noble Lord, Lord Young of Cookham—the hike in borrowing costs will now affect thousands of landlords. The number exiting the market has already been growing following less favourable tax treatment and necessary new and forthcoming regulatory changes. Two-thirds of the country’s 2 million landlords who have buy-to-let mortgages will face the higher costs of borrowing alongside higher costs of management, maintenance and new energy performance requirements. Very few will be able or willing to pass on all these extra costs to their tenants, not least since some tenants are already paying half their income in rent. So a greater exodus from the private rented sector can be predicted, with dire consequences for those already struggling to find rented accommodation.
This is not necessarily a disastrous phenomenon if struggling landlords are enabled to sell to social landlords—local housing associations and community-led housing organisations—which can modernise and re-let the properties as secure, affordable homes with low energy costs. The 2021 Affordable Housing Commission, which I had the honour of chairing, proposed a national housing conversion fund of £3.5 billion which could, with the usual private financing, achieve this switch for many thousands of properties. Will the new levelling-up funds open up this powerful route to addressing poor conditions and fuel poverty in the private rented sector, regenerating neglected areas, reducing the escalating housing benefit bill, saving NHS and social care costs and helping with net-zero targets?
I encourage the Minister to pass on to her colleagues Churchill’s wise advice: “Never let a good crisis go to waste”.
I turn to private pensions for a moment and particularly raise concerns about the use of LDIs, which other noble Lords have mentioned. According to the Pensions Regulator, 60% of defined benefit pension funds incorporate LDIs. Without the Bank of England’s promise this September to purchase £65 billion in government debt, it is near certain that some of these funds would have been imperilled—that is perhaps a very mild description. The Bank of England has described this scenario as capable of
“driving a potentially self-reinforcing spiral and threatening severe disruption of core funding markets and consequent widespread financial instability”.
I understand why LDIs are being used. Nevertheless, as in many things, the issue is how and to what extent they are being used. I have heard reports that some of the funds were using too much leverage with too little protection and in so doing potentially causing a great deal of danger not only for themselves but to more responsibly managed pension funds and markets. We have to ask, and I hope the Minister will give some reassurance on this: are these LDIs being properly regulated? Are the risks really understood so that we are protecting pension funds? Are they subject to adequate stress tests? Indeed, I am tempted to throw in the question: if we are worried about LDIs, are there other financial investment mechanisms that might threaten the long-term stability of pension funds?
The Government must ensure that pensioners, some of the most vulnerable in our society, are protected from the riskiest of investment policies adopted by some pension funds. Will His Majesty’s Government investigate the use of LDIs by pension funds and ensure that pensions are properly protected?
Effective regulation is the key. That was recognised after the 1929 Wall Street crash, when the US created the Securities Exchange Act. Of course, it has not fully succeeded. The UK has a rather laissez-faire approach. Until the mid-1970s banking crash, there was no regulator for the banking industry at all. The Banking Act 1987 handed the keys to the Bank of England and it failed miserably, as was shown by the frauds at BCCI and Barings and the collapse of Johnson Matthey. Then we had, through the revolving doors, the Financial Services Authority, after which the 2007-08 crash showed that the chaps regulating the chaps does not work at all; it has never worked. Then we brought in the FCA and the PRA and the scandals have not gone away, whether it is London Capital & Finance, Blackmore Bond, Woodford Equity or any other. The HBOS and RBS frauds are still unresolved. My colleagues have sent regulatory bodies 10,000 pages of evidence to show that banks are forging customers’ signatures to repossess their homes and businesses, yet we have seen no action of any kind.
The shadow banking industry is not regulated at all, yet it is bigger than the regulated banking industry. That is another elephant in the room and we saw part of the effects of that through its effects on pension schemes. Can the Minister tell us why the shadow banking industry is not regulated on the same terms as the banking industry?
I shall wind up by reminding noble Lords that we need effective independent regulation in which the stakeholders, not the City elites, are in control of what happens in our society. Until that happens, there is little prospect of stability in the finance industry and that will affect the rest of the economy, because everything is now financialised. Indeed, private equity owns supermarkets: if they collapse, supermarkets will collapse too.