Michael Noonan (Limerick East, Fine Gael)

This is not the first time financial regulation has been debated in the House or its committees. Any Government worth its salt would be introducing a Bill to change the regulatory system, since the manner in which we regulate our financial institutions has proven a failure. There is universal agreement in this regard.

The Bill is complex and I compliment those who put it together. They were working against tight deadlines and I am sure there will be much room for amendments on Committee Stage. In terms of a piece of legislative work, this is more of a Committee Stage Bill than a Second Stage Bill. I look forward to Committee Stage. I hope the Government will be open to amendments. Everyone should note that financial rescues have worked best in the past 12 months where governments have shared full information with opposition parties and where there has been a united approach in the national interest to remediate the situation. This was particularly true in the United States of America and we should adopt the same model.

When the Central Bank was first founded, it was not even the Government bank. That role was carried out by the Bank of Ireland. Until the 1990s, regulation was fragmented. For example, the Department of Industry and Commerce regulated the insurance industry, the Central Bank looked after the prudential side of regulation of banking institutions, no one really looked after the consumer's interests at that stage and the credit unions had a life of their own until Deputy Rabbitte amended the primary legislation controlling them.

The debate started as matters began to change internationally during the 1990s. I served on a committee chaired by Deputy Michael Ahern, the recommendation of which was that we should move to a single regulatory authority. That was in 1998. Our recommendation to go in that direction was quite strong. Subsequently, the Government set up an expert committee under the chairmanship of Michael McDowell when he was not a Member of the House. He brought forward a report that gave rise to much conflict in the public service. This was the first big problem with financial regulation. In effect, a turf war was fought among certain officials and institutions and there was no clear run until a compromise was brokered between the then Deputy McCreevy and Deputy Harney. The compromise was to shelve the majority report of the McDowell committee and to use the minority report as the basis for the financial regulatory Act of 2003. It was never an adequate provision. At the time, the battle was more about personalities, careers and who would get which job than it was about the effectiveness of the regulatory system. Many of our problems go back to that date.

The architecture of regulation is not as important as the type of regulation. The debate over regulation based on principles and regulation based on rules has been well rehearsed. In the principles approach, the Central Bank sets down the principles. Since we knew that all bankers were honourable people and, like the other high professions, were led by the highest ethical standards, they would implement regulations in detail as soon as one told them the principles. Of course, we found this was not right. The principled approach failed.

The former regulator, a man who is much maligned and who I will not attack today, Mr. Neary, discussed the principled approach in 2007. He stated, "It means leaving it up to firms to attune their business strategies with regulatory expectations and places the responsibility for the proper management and control of a financial service provider, on the board of directors and its senior management." This is as good a definition of light touch regulation as one will get. Since people are ethical and of high standards, one can set out the principles and trust them to implement the regulation in accordance with those principles. This never occurred; it was a fiction, but that was the principle.

The alternative is the rules-based approach, in which the details are set down. A rules-based regime prescribes in minute detail how service providers should behave in conceivable scenarios. In 2007, the Comptroller and Auditor General stated, "This kind of regime may provide financial services providers with a high degree of certainty about what their regulators expect, but it may also result in high compliance costs".

The debate is not about the architecture of the regulatory regime, but the type of regulation. The choices are between the principled approach, which has come to be known as light touch regulation, and the rules-based approach, which is being implemented via the Bill. These rules are of the most precise and rigid kind with provision for the Minister to add to them by statutory regulation.

The debate goes on. It should be also noted that it is not as primary coloured a debate as has been presented. There always have been rules and regulations under law that were supposed to be implemented by bankers. According to the Comptroller and Auditor General, since the Financial Regulator's establishment, it has "inherited a varied and sizeable body of rules, regulations and guidelines from its predecessors." The chairman of the Financial Regulator, Mr. Jim Farrell, stated before an Oireachtas committee in January 2009:

I stress that the principles-led supervision system that was applied to the 48 banks we regulate is not a rules-free environment where regulated firms can do as they wish. In addition to the principles set out by the Financial Regulator, there is a vast number of rules that apply to the banking industry. These range from rules and requirements put in place by the Financial Regulator, including capital requirements and weekly liquidity reporting, and the consumer protection code, to rules applied under EU directives and the rules that apply under the law of the land. For example, under Basel II, the EU capital requirements directive, there are hundreds of detailed rules with which banks must comply.

It is incorrect to pose the matter as a free choice between setting out principles and relying on people to comply with them and having a series of rules with which people must comply. Under principles-based light touch regulation, there were hundreds of rules, most of them statutory, with which bankers were supposed to comply in accordance with law, but they did not do so. It was the job of the regulator and the Central Bank to ensure they did. At one remove, it was the job of the Department of Finance to ensure they did. However, no one made sure and our regulatory system failed.

We are moving to a new architecture and a new set of rules-based regulation again, but there is a strong chance that they will fail. In the final analysis, whether the banks are properly regulated depends on the people running them. I am of the opinion that there should have been a clean sweep of the people who run the banks. Everyone who served on the boards of the banks, everyone who was part of the banking culture and who has now been promoted into a senior position and everyone who served on the audit or risk assessment committees of the banks should have been removed. The introduction in Dáil Éireann of new architecture for regulation, which will be implemented by the people who shared in the culture that existed and who made many of the key decisions when things went wrong, does not represent a sufficient response. I am, therefore, seeking a clean sweep in respect of everyone who was involved.

I have no particular animosity against those who are now in charge of the banks. However, there comes a point when - regardless of whether one is culpable - if one held a particular position and if something happened on one's watch, one is responsible and one must go. That is the rule that applies throughout Europe and across the United States. However, it does not apply in Ireland.

There is a second problem with those who are in situ. Let us reflect on what has happened during the past 18 months. Senior banks have lied to Government Ministers, to Members of the House, to their shareholders, to the public, the regulator and the personnel of the Central Bank. However, those who were one step below these individuals in their organisations and who briefed them are now in charge of those organisations. We cannot have a system that will be effective and that will work in accordance with a new set of regulations unless new people who will implement the rules and a new culture are put in place.

It is worth noting that this country has experienced a series of problems relating to banking. While the institutions have, at corporate level, been penalised and fined, the personnel have remained untouched. Many of us believe that the DIRT inquiry was effective and a great success for parliamentary democracy. We are of the view that it was good that, when the inquiry reported, sanctions were imposed at corporate level and that the banks were obliged to pay back some of the tax they previously evaded. However, none of those who organised and ordered that evasion of tax through the network of bank branches throughout the country was touched. While sanctions were imposed at corporate level, no one was held personally responsible. In addition, the culture that had previously held sway remained in place.

How many instances of overcharging occurred in institutions from NIB to AIB in the late 1990s and early 2000s? What happened in the case of such overcharging? The answer is that the regulator and the Central Bank intervened and instructed the banks to repay those who were overcharged. On some occasions, minor amounts were paid in compensation. However, those who organised the overcharging and managed it on a day-to-day basis remained unscathed. Many of these individuals retained their jobs, obtained promotions and worked they way up to the top of the banking system.

Regardless of what might be the architecture of regulation or the content of the new rules regime, there is a great chance that the legislation before us will fail if the culture to which I refer and those who shared in it continue to hold sway within the banking system. The system must change in a dramatic way and this can only be achieved by means of a clean sweep.

I am delighted that Mr. Matthew Elderfield, who was brought in from abroad, has been appointed as head of financial supervision at the Central Bank. I am also delighted that Professor Patrick Honohan has been appointed Governor of the Central Bank, particularly as he worked abroad for the past 15 years. I knew Professor Honohan, but not very well, when he advised the former Taoiseach, Garrett FitzGerald, and the Cabinet of which I was a member. Since then, Professor Honohan has worked with the World Bank and has been involved in bank rescues across the globe. He is the kind of man we need, particularly as he speaks in an extremely forthright manner.

Prior to his appointment as Governor of the Central Bank, Professor Honohan made a number of very interesting statements. In 2009, he said that bank regulation in Ireland, although compliant with international standards was nonetheless "complacent and permissive" and that too much reliance was placed on the internal risk models deployed by the regulated entities. He also stated that it is possible to implement rules in banking by number. In other words, if lending exceeded a certain percentage, a mechanism would be triggered automatically and action would be taken. The current rule of thumb with regard to mortgages would be that they would be offered at a figure of 80%. Under the rules to which Professor Honohan refers, if a mortgage exceeded this or went over 100%, for example, a red flag would be raised and action would be taken as a matter of course. However, such rules were not imposed within the banking system here.

Professor Honohan also stated that in a rules-based approach, numerical controls act as trigger points for action by the regulator and highlighted the fact that balance sheet growth of 20% is often taken as such a numerical trigger. In such circumstances, if an institution's balance sheet showed growth of 20% in a given year, it would have to be monitored. If it increased by a further 20% the following year, that would be a strong signal. In the case of Anglo Irish Bank, Professor Honohan indicated that this level of growth occurred in eight out of nine years and that the average annual growth on that institution's balance sheet was 36%. However, no red lights flashed, no flags were raised and no triggers were activated.

On Committee Stage, we must ensure that the new portfolio of rules proposed by the Minister includes mechanisms that will trigger action. They must not be ignored in the same way the existing rules were ignored in the past by the people who were reared and educated in a particular culture and who still believe that bankers are autonomous in what they do, all this regulation is mere guff spouted in the Dáil and that they can carry on and deal with their customers in the same way they did in the past. It is astonishing that there was 36% growth on the balance sheet of Anglo Irish Bank in eight years out of nine and no one in the Central Bank, the Financial Regulator's office or the Department of Finance noticed.

Before his appointment as Governor of the Central Bank, Professor Honohan also pointed out that the loan books of the Irish banks assumed a modest 20% fall in house prices. Two years ago, no one would have believed anybody who said that the fall in house prices would have been pegged at 20%. However, that is what happened.

The Minister faces a major difficulty bringing this legislation in operation rather than into effect. He is fortunate to have a new regulator and a new Governor of the Central Bank. I do not know whether the third key position, namely, that of the person responsible for regulating the Central Bank on the Governor's behalf, has been filled. These individuals must operate within the banking system.

There is a theory which has become fashionable and which states that regulation failed because it was all based on principles. Under this argument, the premise is put forward that poor Mr. Neary said "They are the principles, lads, and I know you will follow them". That is only part of the story. The banks were obliged, under law and the old regulatory system, to comply with hundreds of rules but they did not do so.

Much of the material to which I am referring and from which I am quoting was supplied by the Oireachtas Library research unit. I wish to compliment the staff of the unit who do great work to assist legislators in the context of directing them towards sources, etc. The information the unit provided in respect of the Bill contains a table drawn up in 2006 by David T. Llewellyn, who knows a certain amount about matters of this nature. The table contains a list of the universal functions of financial regulation agencies. These are functions which one would expect to be carried out by regulators in all jurisdictions.

The first of these functions relates to the prudential regulation for the safety and soundness of financial regulation. I am obliged to ask whether our regulatory system passed or failed the test in respect of this function. The second one is the stability and integrity of the payments system. It failed that test because we had to bring in a universal guarantee in September 2008. The third one is the prudential supervision of financial institutions. Does anyone believe that happened when Anglo Irish Bank had to be nationalised and everything is breaking all around us? The fourth one is the conduct of business regulation, that is, the rules about how firms conduct business with their customers. Does anyone believe that happened with the loans being given to developers? The fifth is one is the conduct of business supervision, to which the same question applies. The sixth one is the safety net arrangement such as deposit insurance and the lender of last resort role performed by the Central Bank which I believe actually happened. The seventh one is liquidity assistance for systemic stability, which is happening now after the Government intervened in very difficult circumstances. The eighth one is the handling of insolvent institutions, on which there is no need to comment. The ninth one is crisis resolution which, again, speaks for itself. The tenth one is issues relating to market integrity.

That is the list of the essential functions of regulator and I suggest the regulatory regime in Ireland failed. It is not about architecture; it is not even about new rules. It is about the combination of the architecture and the rules and the people who are there to impose them. While the Government has done its job in appointing a new Governor and a new regulator, the banks have not done their job. The Government has not done its job in respect of the banks because to get a fresh start, we need a clean sweep of everybody who was tainted by the culture. There are many people still in situ who were tainted by the culture and they will revert to type within a year or two years when things settle down. The next generation of Deputies in 15 or 20 years' time will be back again. It is time for a clean out.

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