SIR HOWARD DAVIES AND MR JOHN TINER

TUESDAY 13 NOVEMBER 2001

  260. Would you not summarise paragraph 6.21.8 as a failure of conduct of business regulation?
  (Sir Howard Davies) No, I would not, Mr Baird—sorry: Mr Cousins.

  261. You may have gone through this with Mr Baird before. Is it not the case that the picture you have given this Committee this morning of your relationship with Equitable Life is rather misleading? In fact your relationship is quite collusive. The policy holders, new ones, old ones, potential ones, were the bait that was going to solve your prudential regulatory problem, were they not?
  (Sir Howard Davies) No, Mr Cousins, I would absolutely reject that. I would reject the notion that we had a collusive relationship and I would certainly reject the notion that the policy holders were bait. Our actions at all times were directed at doing the best we could for all of the policy holders at Equitable Life. We had some extremely difficult judgements to make in the course of this period about what the appropriate course of action was in the interests of all the policy holders. The key judgements were whether we should have closed the company to new business at an earlier stage, and whether we should have prevented it as a consequence from advertising etc. We took the view that that was not appropriate in the interests of all policyholders. We took the view that we could not force the company to pre-judge the outcome of the House of Lords case in the light of the legal advice that it had and that, had we done so, we would have been rightly accused of seriously damaging the interests of Equitable policyholders. We took the view after the House of Lords judgment that it was appropriate for Equitable Life to be able to sell itself as a going concern. That was the key decision that we needed to make. The report does not disagree with that decision and accepts in paragraph 6.21.5 that it would have been inconsistent with that decision to require them to suspend advertising or to give any special health warnings to new investors about the operational risk faced by it. I accept that with the benefit of hindsight, and this report is written explicitly with the benefit of hindsight, that there will be those who wish to argue that a different decision should have been made. I can only say to you, Mr Cousins, that that decision was made by the Authority with a single-minded view that we needed to do the best we could for policy holders. That is the basis on which we took that decision, not as a matter of collusion with the company and not to attract policyholders in to solve a prudential problem. I very strongly reject that accusation. We did our best as we saw it for policy holders in the light of the information that we had and the probabilities that we had. These are very difficult decisions to make and we made them as best we could. Others will need to judge, notably the Penrose Inquiry when it looks at the full story, whether there should have been different decisions made either during this period or subsequently, but at this point I continue to stand by the decisions that we made.

  262. Sir Howard, you cannot hide behind the Penrose Inquiry. The words I read out to you at the beginning are your contractual duty as the successor of the PIA to ensure that the material going out to policyholders and potential policy holders was fair, clear and not misleading in either design or content. That was a contractual duty you had as the successor to the Personal Investment Authority.
  (Sir Howard Davies) Mr Cousins, I very much hope that one thing I cannot be accused of at the present time is hiding. We launched our own report. We have published it. We have let an independent team review our regulation as they have seen fit. We have not sought to interfere with it. As a result we are having to answer many questions about this one period, albeit it is a period in a very much longer story, so I really do find it extraordinary for you to suggest that I am hiding.

  263. Paragraph 5.30.7 deals with a draft letter to complainants under the conduct of business heading. It is not clear whether this letter was ever sent out. The letter says that given that there was a realistic chance of a successful sale of the business, newspaper advertisements inviting potential customers—potential customers—to request additional information from the company were not misleading. It is page 201.
  (Sir Howard Davies) I am sorry; I was looking for 5.37 as opposed to 5.30.7.

  264. It is the last sentence.
  (Sir Howard Davies) What is the question?

  265. The question is that the problems you had with prudential regulation, which are very real and which the Committee has explored this morning, were completely dominating your judgement, your action and your behaviour as a conduct of business regulator.
  (Sir Howard Davies) I do not believe that is the case. We were pursuing enforcement action against the Equitable at the time in other areas. I would certainly recognise that in any regulatory regime, whether it is in one regulator or in two, there is always a need to consider the conduct of business on the prudential side together and there can be sometimes a tension between the two, but the tension is more apparent than real because the underlying objectives of both the prudential regulator and the conduct of business regulator are to protect policyholders. It is important not to do things on the conduct of business side which would damage the interests of policy holders even if they might appear to be helpful in relation to one individual or a small group. We have to take a balanced judgement and I would accept that we are in the risk assessment business here and the key balance judgement that we took was whether to allow the company to continue on the basis that it was far more valuable as a going concern, it was far more likely that it would find a buyer who would recapitalise the company and provide a happy outcome for the existing half million or so policy holders. We took that judgement at the time based on the best available information that we had. I have to say that I would still take the same judgement again.

  266. But you did not have the material to make that judgement. The Baird Report makes it clear. When I say "you", your organisation as the successor to the Personal Investment Authority, as the conduct of business regulator, never sought that information. You do not have the material to plead your defence in the way that you just have.
  (Sir Howard Davies) I believe that we did have the material on which to make the key decision that we had to make. I recognise that the Baird Report suggests that we should have looked for other material, that we should have got more detailed information from the company. I have to say that I note that but I am not sure that it would have led us to make a different key decision which was the one that I have described. It may have been better to have done so and, as in the case of the prudential side, the report has emphasised and identified in detail things that we could have done better as a management team. What I think you have to keep coming back to is, what would you have done as a consequence? Would you have fundamentally taken a different decision? There I feel that we would not have done, and further more I do not find support in the Baird Report for thinking that we should have done.

  267. You cannot take the credit for the fact that Equitable Life stopped advertising, though, can you?
  (Sir Howard Davies) No.

  268. How did that come about?
  (Sir Howard Davies) Equitable decided themselves that it would be better for them not to advertise in the way that they had been doing because they were concerned about the impact it was having on the confidence of the company in its sale negotiations.

  269. What is your own view now about the quality of that advertising?
  (Sir Howard Davies) I share the company's second decision which was a decision to withdraw it. It was probably unwise for them in the circumstances they faced at the time, but those are judgements which are for the company to make. We do not write the advertising copy for firms. That is a commercial judgement for them.

  270. Would you accept that there was at that time (and for all we know may be now) a culture within the FSA as the successor to the Personal Investment Authority as a conduct of business regulator in which there was little appetite or capacity to examine the wider implications of an issue?
  (Sir Howard Davies) No, I would not, frankly, accept that characterisation. That would not have been my description of the PIA that I have inherited. I recognise that that is a view that the Baird Report has come to and they have reasons for doing it, and clearly if people can come to that view by investigating and interviewing my staff, clearly there is a problem that I need to address. It would not be my characterisation of their approach.

  271. So you dispute the outcome of the Baird Report in that respect?
  (Sir Howard Davies) I think I would say exactly the same words as I have just used. It would not have been my conclusion. I recognise that they have reached it in a review which I consider to be of high integrity, and therefore I have to accept that someone coming from the outside and interviewing staff has reached that conclusion. It is valid in the sense that that is the conclusion they have reached. It was not my conclusion, but I accept that if people can reach that conclusion then we should address whether or not we are conveying our attitude properly, whether or not we are being convincing and maybe we are not looking as broadly as we ought to do. You asked me specifically whether that was my characterisation of the PIA and it is not.

  272. Exactly, so you are disputing the terms of the Baird Report and its conclusions in this really rather fundamentally important respect.
  (Sir Howard Davies) I have answered that twice, Mr Cousins. I cannot answer it any differently.

  273. Would you accept that if the Baird Report and its characterisation of the culture of your organisation as the successor to the Personal Investment Authority as a conduct of business regulator was indeed accurate, then that would be strong, powerful evidence of the failure of your organisation as a conduct of business regulator?
  (Sir Howard Davies) That is a hypothetical question.

  274. A hypothetical question?
  (Sir Howard Davies) Yes. You said if this were this and if this were that then would I accept that it was a failure. That is a hypothetical question. What I have said is that it is not my characterisation of the PIA or of the inheritance of the organisation which has inherited the PIA's responsibilities and therefore I cannot proceed any further down your question.

  275. Where are these issues going to be resolved about the evidence we have here for a potential failure of the FSA as a conduct of business regulator? How do you see them as being resolved? How are you dealing with people who complain to you about your activities as a conduct of business regulator?
  (Sir Howard Davies) There are management issues to be dealt with here and we are certainly pursuing the management issues that are identified in the Baird Report. There are specific issues about the individual policy holders which are either being pursued by our staff or being pursued by the Ombudsman, and of course there is in the long run the overall character and culture of the regime which is something for which my board is responsible, so we are certainly picking up all the criticisms of the Baird Report and seeking to act on them.

  276. I happen to have a letter in front of me which was written by Mr Walton in your organisation in May of this year to one such complainant who was complaining about the FSA's activities as a conduct of business regulator. The indication is given in his letter that there could be action against Equitable Life and this complainant is told that information about the regulator's activity will be made public as soon as it is appropriate to do so.
  (Sir Howard Davies) That is the position, yes.

  277. When will it be appropriate to do so?
  (Sir Howard Davies) I could not say precisely on that and I find it difficult to answer questions about individual enquiries that we make.

  278. Could I go back somewhat further on the question that Mr Cousins has been dealing with, into the very nature of how the GAR policy was sold? They were offered to people so that people could have a guarantee that if interest rates fell their pension had a floor to it, and they bought those in the belief that they had got that reassurance. But as soon as the interest rate fell to that level the guarantee was abrogated, but it was worse than that in that the compensation they were given in terms of the terminal bonus put them on the same basis as anyone who had never even chosen a GAR. Is this not a strange conduct of business? Why did the conduct of business regulator not take this up? This was the company that was the flagship (or seen to be) of the life assurance sector and, moreover, when we were questioning this before we were told that this sort of practice was quite common in the whole life assurance sector. First of all, should not the conduct of business regulator have picked that up because that is the nub of this whole business, and secondly, what will the FSA be doing about this not just for Equitable but right through the life assurance sector?
  (Sir Howard Davies) As I pointed out on the last occasion, the conduct of business rules which we inherited were focused on the rules at the point of sale, and of course these policies were all sold even before the 1986 Financial Services Act came into force, so the issue about what was described to policyholders and whether that was misleading has never arisen in relation to these policies because they were all sold before 1988 and before that regime came into effect. What therefore happened during the course of the 1990s was that a few policy holders came to the PIA Ombudsman in order to argue that the way in which the Equitable Life was dealing with the bonus allocation was inappropriate. It was because the Ombudsman picked up those cases and began to review them that Equitable Life decided that, rather than allow the regulator to decide whether or not this was appropriate behaviour, it would seek a test case in the courts. As I said earlier in answer to the Chairman, there is this dual track if you like of the regulatory side plus the courts ruling on the contracts. The court case as it were took this away from the regulator and resolved it ultimately in the House of Lords.

  279. Sir Howard, at best this was deception and at worst it was fraud. Why did it just escape the attention of everybody in the business and what is to be done about it recurring in the future?
  (Sir Howard Davies) You say at best it was deception. That was not the view taken by the insurance regulators in the DTI. It was not the view taken by the Government Actuary's Department, and those were the two views which I inherited, nor was it the view taken by the Vice Chancellor in the first High Court. They took the view that the right of insurance companies to determine the nature of their terminal bonuses and the discretion inherent in those policies overrode if you like the specific guarantees and that it was reasonable to adopt a differential bonus rate in the light of the guarantee because otherwise there was a risk that people would take away a significantly larger proportion than their asset share in the company, and that (as it was argued) the fundamental principle on which the life sector had been built was roughly that you were entitled to your asset share of the fund. Therefore the courts were faced with this difficult tension between an asset share view of the distribution of assets in a life fund and the specific guarantee promises that were given in the guaranteed annuity rate policies, and that was what was ultimately resolved in the House of Lords.