Financial Services and Markets Appendices to the Minutes of Evidence


APPENDIX 17

Memorandum by the Association of Lloyd's Members (ALM)

  The Financial Services and Markets Bill ends the long standing right of Lloyd's to regulate itself. I am writing as Chairman of the Association of Lloyd's Members, which represents the majority of the Names who continue to underwrite. Names, in the broad sense of individual capital providers, supply £3,500 million of capacity to the market, and the regulation of Lloyd's is of vital importance to them.

REGULATION OF LLOYD'S

  The last two decades have seen a massive failure of self regulation at Lloyd's, which inflicted losses exceeding £8,000 million on Names, and which brought the market to the brink of insolvency. These losses were not the mere product of misfortune, although they were triggered by a variety of catastrophes and claims arising from asbestosis. However, their magnitude and their concentration on a minority of syndicates at Lloyd's arose from gross negligence and a failure of regulatory supervision. Five separate High Court judgments found that there had been culpable negligence by Lloyd's agencies and awarded the Names involved the most substantial damages in English legal history.

  Against that background, the ALM supports the intention of the Financial Services and Markets Bill to bring the regulation of Lloyd's under the Financial Services Authority. However, we are very concerned that the Bill may not enable the FSA to regulate the market effectively and that there may be a dangerous combination of responsibility without effective powers.

  Everybody accepts that over the last four years there has been a very substantial improvement in the regulation of Lloyd's. The Regulatory Division has a strong and effective director and a staff who have made great progress in remedying the faults of the past. They should remain in place, and continue to work in close liaison with the market, an essential condition for effective regulation for a market place as idiosyncratic as that of Lloyd's. We do not advocate the creation of a Lloyd's Department at the FSA and the absorption within it of the Lloyd's Regulatory Division.

  However, it is clearly time to change the Regulatory Division's reporting lines. At present the Division reports to, and is subordinate to, the Council of Lloyd's. It is, of course, tempting to say that, given the enormous task the FSA faces, it would be much the simplest solution to leave the Council to get on with it, with the FSA merely retaining a degree of oversight, as is currently proposed. The implications of this decision would, however, be very hard to justify. One of the key features of the creation of the FSA is that for the generality of financial services it sets up a regulatory structure clearly separated from the activities and markets regulated, a principle which should obviously be applied to Lloyd's too. If things are left as they are, the Regulatory Division and process will remain subordinate to a Council which can override byelaws or decisions put forward by the Regulatory Division. The Council of Lloyd's always contains a specified number of Working Members who, together with other "insiders", have the power to block byelaws and exercise wide ranging influence more generally. This would mean that at Lloyd's, alone in the FSA's domain, one would perpetuate the inappropriate practice of the regulated employing and controlling the regulators.

  This problem is far from theoretical. Not much more than two years ago, a High Court judge found that Stephen Merrett, who had only just ceased to be Deputy Chairman of the Council of Lloyd's, had intentionally deceived both the auditors of his syndicate and the Names on it as to their liabilities. The Names were awarded damages of over £100 million. Other members of the Council have been defendants in similar litigation, or have actually been the subject of disciplinary proceedings brought by Lloyd's itself. We believe that the FSA must be able to control the Regulatory Division at Lloyd's directly.

  We are also concerned with the Bill's provision that, banks apart, all the financial institutions to be regulated by the FSA, including Lloyd's, will be authorised automatically when the Act is implemented. While this is appropriate and inevitable for the other bodies, the starting position of Lloyd's is different. It has not been subject to the previous 1986 Financial Services Act or any other external scrutiny. Hence there can be no confidence that the Council's constitutional arrangements and practices are appropriate for handling regulatory issues under the new Act. Particularly if it is intended to proceed with the "preferred" solution, there may well be a number of steps and undertakings which it would be appropriate for the FSA or Treasury to require the Council to undertake or commit to before authorisation. Since we understand that the FSA is likely to arrive at its views on how to arrange the regulation of Lloyd's in the relatively near future, this is an urgent issue, which presumably should be recognised in Clause 190 in the legislation.

AMENDMENT TO THE 1982 ACT

  We were very concerned to learn that it had been suggested to the Committee at two separate hearings that the Financial Services Bill should be amended to give the Treasury, at the request of the Council of Lloyd's, the power to amend the 1982 Lloyd's Act.

  We recognise that the 1982 Act restricts Lloyd's in many ways, some of which may be commercially disadvantageous. So we understand why it can be argued that it is desirable to amend the Act.

  However, imperfect though it may be, the 1982 Act also contains vital safeguards for the members of Lloyd's, of whom the Names and other capital providers continue to be a vital part. For example, if the Council passes a byelaw, which is perceived to be against the interests of the members, they have the right to revoke the byelaw at a subsequent General Meeting. It is a vitally important point that the vote at such meetings is conducted on a one member, one vote basis.

  Of course, it will be suggested that the intention of giving Lloyd's and the Treasury the power to amend the Lloyd's Act would only be used for financial regulation, since this is the purpose of the Financial Services Bill. The difficulty with this argument is that financial regulation can have a very direct impact on the capital and income of Names at Lloyd's. Indeed much of the regulatory debate since 1995 has revolved around how far regulatory policy should preserve a level playing field or, rather, be tilted to encourage non-aligned capital providers to leave the market.

  The creation of any such broad power, with its potentially major implications for the market place and its participants, should be very carefully considered. To avoid controversial and potentially fundamental changes in a private Bill designed to protect the rights of a wide range of private persons, both corporate and individual, every care needs to be taken to ensure that there is full provision for those individuals to safeguard their rights.The process of change should be an open and fair one. The best way to achieve this would be to provide that any amendment must have been previously approved by a substantial majority of the members of Lloyd's, say 75 per cent voting on the one member one vote basis enshrined in the 1982 Lloyd's Act. If one did this, it would be reasonable to confine the electorate to members currently underwriting at Lloyd's, since these would be the parties affected by any amendment to the Act. A further essential safeguard would be that any such amendments should be approved in advance by the FSA.

29 March 1999


 
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