Yesterday Sir Bill Cash organised a debate, in Westminster Hall, on London Stock Exchange. He made the following speech and interventions:
Sir William Cash (Stone) (Con): I beg to move,
That this House has considered the future of the London Stock Exchange.
It is a pleasure to serve under you, Mr Hollobone. I have brought this matter for debate because the proposed merger between Deutsche Börse and the London Stock Exchange raises issues of national interest and, in my opinion, it is a slam dunk that the merger is not in the national interest.
The London Stock Exchange Group owns several key market components in the United Kingdom, including the London Stock Exchange itself, a recognised investment exchange regulated by the Financial Conduct Authority and the London Clearing House, which is supervised by the Bank of England. A number of subsidiaries of the group are also regulated by the Financial Conduct Authority. The proposed merger requires regulatory approval by the Bank of England and the Financial Conduct Authority. The most significant approvals are those required, first, from the Bank of England in connection with the London Clearing House, which I understand to be 57% owned by the London Stock Exchange and which conducts euro clearing, and, secondly, from the Financial Conduct Authority with respect to the London Stock Exchange, which is fundamental to the City of London’s capital markets.
The London Clearing House is one of the two main clearing houses in the UK and clears all major currencies including the euro. As I understand it, both the German and French Governments have indicated a wish to strip euro clearing out of the City. All of that has significant political involvement because it would facilitate in due course a substantial movement of UK market infrastructure to the continent and would permit Germany and France, in the context of Brexit negotiations, to achieve German and French objectives that will undermine the UK’s political leverage during those negotiations.
Her Majesty’s Treasury has certain powers to direct or make recommendations to the Bank of England or the Financial Conduct Authority to take action or not. The Prime Minister is First Lord of the Treasury, and the Chancellor of the Exchequer of course has fundamental responsibilities. The Treasury has powers of direction over the Bank of England under section 4 of the Bank of England Act 1946. It may give directions to the Bank following consultation with the Governor
“as…they think necessary in the public interest.”
The Treasury may direct the Bank to exercise its powers not to approve the acquisition of what is described as a “qualifying holding” in the London Clearing House.
It is not known whether the Bank of England has already given its approval, although the Treasury could direct such a decision to be reversed on the grounds of public interest. The powers include determining that the proposed deal is not a normal commercial deal in the light of the Brexit negotiations and to take account of the involvement of the state of Hesse, which has shown a desire to boost Frankfurt as a hub at the expense of London, which is indicated in the report of Professor Dirk Schiereck, commissioned by Deutsche Börse in January 2017. In the past few days a Minister in Hesse indicated that the headquarters of the merged group should be in Germany:
“The reasons for the headquarters being in Frankfurt are crystal clear.”
The objective could not be clearer. It is inconceivable, in the UK national interest, that the London Stock Exchange should be regulated in and operated out of Germany as we leave, and having left, the European Union. There are also questions, as yet unresolved, surrounding the new chief executive officer, who is under investigation for potential insider dealing in connection with the London Stock Exchange deal, and the regulatory relationship between the United Kingdom and the EU which forms part of the Brexit negotiations. It would not be in the public interest for the combination of the two groups to be achieved immediately in advance of those negotiations, since that would give commercial parties operating at the behest of German political masters the ability to remove the rug from underneath the UK’s feet without regard to the negotiated outcome, or to threaten to do so during the negotiations unless the UK made certain concessions.
If the deal goes through, the combined group will be able to bulk up euro clearing and exchange and business clearing generally in Frankfurt at the expense of London. Given the declared political objective to promote Frankfurt, Paris and the eurozone, that is not an outcome in the UK’s national interest.
George Kerevan (East Lothian) (SNP): The hon. Gentleman is as ever making a logical and compelling case, but is he suggesting to the House that the owners and management of the London Stock Exchange are willingly entering into a merger that will lead to the transfer of all of their business to another country?
Sir William Cash: There is severe detriment to our national interest in allowing a merger of that kind when the London Stock Exchange and its group are the jewel in the crown of the City of London. Any merger raises matters of national interest such as, first, financial stability and UK taxpayer liability. The merger would create a new financial market infrastructure group controlling, inter alia, about 90% of European-listed and over-the-counter derivatives transactions, but operated for the benefit of shareholders, not users, with an unprecedented complexity of risk profile and significant uncertainty as to whether the UK taxpayer would pick up the bill were part of the combined infrastructure to fail. The uncertainty created by the lack right now of a clear Brexit deal adds considerably to the stability and taxpayer risks.
Secondly, there is loss of control of a key UK asset post-Brexit. The London Stock Exchange is a major centre of global financial markets: more than 500 foreign companies are listed in London, which is 20% of global foreign listings; and it has the highest equity market capitalisation, 170%, in relation to the GDP of all the largest economies. Majority control of that vital business will pass to Deutsche Börse shareholders, who will own 54% of the new group post-merger. Passing control of the London Stock Exchange to Deutsche Börse in the context of Brexit is not in the national interest and might undermine our negotiations with the 27 member states as we leave the EU.
The issue is not where the headquarters of the new company is located technically. I am told that formally moving the HQ to Germany, as the state of Hesse has insisted, is not likely given the need for a significant shareholder vote, but that is beside the point. The real issue is who calls the shots and in whose interests critical decisions are made. It is no answer to say that the HQ will remain in the UK if the reality is that the people really in charge are flying in for the day from Germany. Decisions must be taken in the UK and in the interests of the UK.
My third point is about competition concerns. The only substantial remedy offered by the parties to the EU Commission to allay concerns about significantly impeding effective competition is the sale of the central counterparty, Clearnet SA, based in Paris, and part of the LSEG. No disposals have been offered by Deutsche Börse, which owns trading platforms, central counterparties and settlement systems that have been integrated into a single vertical silo in Frankfurt. That is not sufficient, and I am concerned that the outcome of the European Commission’s review of the proposed merger will be determined by the EU’s political priority to ensure that Germany has control over London’s capital market infrastructure, instead of by genuine market concentration and anti-trust concerns.
Fourthly, there has been a lack of public scrutiny and industry comment; there has been little proactive support for, or indeed criticism of, the merger from the main UK financial institutions. That is not surprising, since the parties have given 12 major investment banks a role in the deal and they are destined to share about £353 million in fees if the deal succeeds. There has also been little comment by the UK Government so far on a deal concerning a major UK asset, although they still have a public interest role to play under the Enterprise Act 2002. We need to know why it was, and who decided not to refer the merger when it first came before the Secretary of State. Vast profits and sums of money are involved, and some stand to gain financially on a grand scale. All of that can be ascertained, but the national interest must prevail.
Precious little has been put into the public domain to suggest that the deal is remotely in the public interest. On what possible basis can it be argued, in particular post-23 June and the passage through the House of Commons of the European Union (Notification of Withdrawal) Bill, that the merger is in the national interest? Furthermore, under section 1JA of the Financial Services and Markets Act 2000, the Treasury
“may at any time by notice in writing to the FCA make recommendations to the FCA about aspects of the economic policy of…Government”,
including how to ensure compatibility with the FCA’s “strategic objective”, to ensure that the London Stock Exchange functions well, and how to advance the FCA’s objective to ensure the soundness, stability and resilience of the UK’s financial system, which is defined as including the London Stock Exchange and the London Clearing House.
James Duddridge (Rochford and Southend East) (Con): Has my hon. Friend thought about what would happen, were the merger to go ahead, if the eurozone collapsed, given some of its fundamental difficulties? Having extricated ourselves from involvement in the euro and, on Brexit, from the European Union, would the merger not lock in some of the potential downsides to the UK equity and capital markets without gaining us any of the upsides?
Sir William Cash: As I have said, the withdrawal Bill is quite clear. We will leave. That means that we will be insulated from the catastrophe that could occur if the eurozone collapsed. I could enlarge that point, but I will not for the time being.
There is another statutory requirement to ensure the principle of the desirability of sustainable growth in the UK’s economy in the medium or long term. Those are all statutory functions, and I strongly suggest that Her Majesty’s Treasury should decide—in fact, I urge it to—that it is not in the UK’s interests to allow a deal where there is a clear intention to take action that would cause systemic risks in the UK and be detrimental to UK tax revenues.
I move to the powers of the Bank of England, which is under a judicially reviewable statutory duty in respect of the test of approval for any acquisition of the London Clearing House. Under the European market infrastructure regulation, the test for approval in general terms for the purpose of ensuring the sound and prudent management of the London Clearing House raises questions of the suitability of the proposed acquirer and the soundness of the proposed acquisition, including the person who will direct the business of the London Clearing House. It also includes questions relating to whether the Bank of England would be able effectively to supervise, and several other factors. All those are in question in this instance.
I turn to the powers of the Financial Conduct Authority, which is required to approve the acquisition of the London Stock Exchange because it involves the acquisition of the “control” over the LSE by the new holding company. In those circumstances, the FCA has to consider the suitability of the new group holding company and the financial soundness of the acquisition to ensure sound and prudent management, and have regard to the key influence that the new group holding company will have on the London Stock Exchange. There are grave concerns about all those matters that pose a threat to the sound and prudent management of the London Stock Exchange, including questions relating to moving euro clearing out of London. The removal of euro clearing to Germany would undermine UK economic growth, because it may lead to the movement of other currency clearing out of the UK and undermine the City’s success. Moving the new holding company to Frankfurt would also be against the UK national interest.
George Kerevan: I grant that there is an issue about the removal of all or a substantial amount of euro clearing to the European Union jurisdiction, but that may come anyway as a result of Brexit; it is not dependent on whether this merger takes place. Indeed, one could argue that the merger might act as a barrier to such a move.
Sir William Cash: I was against the merger before Brexit, and I have become even more so since. I emphatically repeat my view that it is against the national interest, and I will not in any way resile from that point.
This deal would operate against the UK’s national interest in several ways. For example, the driver behind the merger is to consolidate as much market activity across the whole value chain into as few liquidity pools as possible. The reason given for that is to allow customers—primarily the world’s largest banks—to manage their capital and collateralisation requirements as efficiently as possible, particularly in the illiquid and untransparent world of OTC interest rate swaps. The most efficient way of achieving that is to have one dominant silo. This merger would bring together the two pre-eminent trading and post-trade silos in Europe, the London Stock Exchange and Clearing House and Eurex, which is owned by Deutsche Börse. One of those silos would inevitably prosper disproportionately, at the strategic and economic expense of the other. Given that a German chief executive officer would immediately be in place—whether that is the presently proposed CEO or not—and more than 54% of the shares would be owned by Deutsche Börse shareholders, and given the strength of Eurex’s existing listed derivatives clearing house, there is a very meaningful risk that the London Stock Exchange and the London Clearing House, and therefore the City as a whole, would be at the thin end of the wedge.
In the real world of markets, this works as follows. There will be no big announcements, no formal closures and no notice of intention to leave. Rather, liquidity will be shifted from one place to another through the creation of incentives and tipping points. Mirror contracts will be created that mimic what is on offer in London. Special arrangements for collateral and cross-margining in the favoured venue will be put in place. Without anyone particularly noticing, liquidity will shift away from London to the continent. Once that siphoning of liquidity begins, it will be unstoppable, and without liquidity there is no market.
Prior to Brexit, when this deal was first negotiated, that was a very attractive outcome for the LSE’s German partner. Post Brexit, control of the combined group and the shift of London’s business to Europe is an absolute necessity for Deutsche Börse and its national stakeholders. The importance of that is shown by the ever louder calls from German politicians and regulators for the combined group to be headquartered in Frankfurt. Controlling the LSE’s direction is key to Frankfurt successfully becoming the new financial centre of Europe—clearly at London’s expense. Even if the headquarters are maintained in the UK, there will be a German CEO, a majority of shares will be held by Deutsche Börse shareholders and there will be a massive political push from Frankfurt, which will lead to decisions being taken behind closed doors, against the UK’s interests.
The exchanges themselves have suggested that that loss of liquidity from London will not happen, and the solution is a so-called liquidity bridge. No market participant—apparently even the companies themselves—seems to understand what is meant by that or how it would be delivered. No reliance should be placed on it.
Finally, the acquisition of LCH.Clearnet SA by Euronext, which is largely French and Dutch-controlled and headquartered in Paris, is another political wildcard. That would enable France to exert much greater political force behind its push for euro clearing to relocate to Paris, again potentially creating systemic risk and dangerous uncertainty in the UK’s markets.
This transaction has the clear potential to strip a key activity out of the City of London. It should certainly not be nodded through in the midst of Brexit negotiations. Why weaken the City before we have even started the process of exiting the EU? I have mentioned the Enterprise Act 2002, which I understand can still be used in the public interest, including by reference to the criterion of UK financial stability.
In an important article published in the Financial Times on 13 February, Jonathan Ford makes it clear that the €29 billion merger was, as we know, conceived before the Brexit vote. The deal was supposed to take advantage of a converging EU rule book in the single market by drawing together Europe’s two most vibrant securities markets and their clearing activities, which are the financial plumbing of the system. The aim was to create
“a single…‘pool of liquidity’”
that captured scale economies, in competition with the Chicago Mercantile Exchange.
Jonathan Ford argues that to make their own common pool a reality, Deutsche Börse and the London Stock Exchange would have to be very ambitious. He doubts whether that is feasible. He indicates that there is a serious problem, namely, that
“clearing operations have a wider impact on the functioning of capital markets; not just the management of systemic risk but on the very competitiveness of financial centres.”
“Given the importance of finance to the post-Brexit economy,”
the United Kingdom has a “strong interest” in ensuring that the deal is not damaging to London as a financial centre. He argues that the Bank of England and the FCA still have vetoes, and the Government can
“determine the outcome in the wider public interest.”
He suggests that the Government would be wise to intervene to prevent the loss of future business, and indicates that it would be better to take account of the Brexit negotiations as they proceed.
The UK has long been in favour of foreign direct investment, which increases productive capacity through capital investment, transfers of technology, skills and better management. Deutsche Börse’s acquisition of LSE is not FDI. It is not cross-border investment in the UK by residents and businesses from another country with the aim of establishing a lasting investment in the UK. FDI does not cover the asset stripping and systemic risks associated with the proposed merger. Foreign investment in UK infrastructure, including in the LSE, is welcome—the LSE of course already has many foreign shareholders—but this merger must not be allowed to clamp down on competition, gut the UK’s financial infrastructure and cause significant and lasting damage to the UK. It is understood that the European Commission has already commenced proceedings and the London Stock Exchange and Deutsche Börse have received a limited statement of objections to the proposed deal.
In conclusion, I urge the Government, the Bank of England and the Financial Conduct Authority, and other regulatory authorities, including those in Germany and Brussels, to recognise that whatever the reasons may have been for the merger before 23 June 2016, the reasons since then for determining and resisting it are extremely strong and should be employed.
The Economic Secretary to the Treasury (Simon Kirby): Thank you, Mr Hollobone. It is a pleasure to serve under your chairmanship. I congratulate my hon. Friend the Member for Stone (Sir William Cash) on securing this important and topical debate. He has made many thoughtful and detailed points, and I will do my very best to answer them in the brief time I have. The hon. Member for Stalybridge and Hyde (Jonathan Reynolds) also raised some interesting points, which I will attempt to answer as I work my way through my speech; he should bear with me.
What is clear today is that we share the same interest: the continued success of an important, and some would say iconic, British company. The London Stock Exchange Group has a proud history that goes back more than 200 years. While the group is most famous today for its equities exchange, it is in fact a much wider business that includes, notably, one of the world’s major clearing houses.
I well recognise that the proposed merger with Deutsche Börse is a significant development. Let me start by recalling some of its key terms. The merged company will be controlled by a newly created parent company, headquartered here in London. At the outset, it will be owned 54.4% by shareholders of Deutsche Börse and 45.6% by LSE Group shareholders. The board of directors of the merged group—
Sir William Cash: I am glad that the Government will consider the matter carefully, and that it is clear from this debate that everyone accepts the need to examine the issue rigorously, as so many have urged on me since I introduced the proposals. We look forward to that further examination, which may well be on the Floor of the House.
I do not have time to go into all the details of the essential questions now; I set them out in my speech. On the question of who calls the shots and the location of the headquarters, as I said, formally moving the headquarters to Germany would not be likely given the need for a significant shareholder vote, but that is beside the point. The real issue is who calls the shots and in whose interests critical decisions are made. It is no answer to say that the HQ will remain in the UK if the people who are really in charge just fly in from Germany for the day. Decisions must be taken in the UK, in the interests of the UK. I hope that the Government will take a proactive position on all of this.
I do not agree with the Minister’s assessment of the impact of the articles of association. I have been a lawyer for a long time, and I know that such things have an extraordinary capacity to disappear into the wind. I am not impressed by the 75% argument, whether it involves directors or the combined group. The key question is who calls the shots. The idea of 50% of the directors coming from each side is interesting, but basically, it all comes down to the national interest.
With regard to the powers of the Treasury under section 4 of the 1946 Act, the European market infrastructure regulation is a European regulation. I inform the Minister, just in case he had not noticed, that we are leaving the European Union, which means that the European Court of Justice will no longer have a role in relation to the regulation. I do not say this cynically, but I strongly suggest that he goes back to his lawyers and assesses that point. The European Court of Justice will not have any jurisdiction over EMIR once the matter has been dealt with by our exiting the European Union, the repeal Bill and other measures. I thank you, Mr Hollobone, for your chairmanship of this debate.