The proposed merger of Lloyds TSB and HBOS has put the UK's merger control enforcement regime firmly in the spotlight, with the Government's willingness to put competition law on hold grabbing many of the headlines. But when the Government says it will not allow competition rules to stand in the way of the transaction, it does not mean it will be immune to regulatory scrutiny. The new secretary of state for business enterprise and regulatory reform, Peter Mandelson, may yet face a delicate balancing act when it comes to justifying his final decision.

UK merger control is governed by the Enterprise Act 2002, which introduced several major changes to the previous legislative regime. Chief among them was the conferring of decision-making power previously exercised by the Secretary of State onto independent competition authorities, the Office of Fair Trading (OFT) and the Competition Commission.

During the passage of the Enterprise Act, the Government recognised that despite its stated wish to 'de-politicise' the merger control process, there would be exceptional circumstances where ministerial intervention could be justified. The result was a special exception regime, allowing the Government to intervene and take decision-making authority when in the "public interest".

Relevant public interest considerations are prescribed under section 58 of the Act, although threats to national security and certain media ownership issues are the only areas covered explicitly. However, the regime acknowledges there may be other unspecified instances sufficient to justify ministerial intervention. On this basis, the Government laid an order before Parliament on 7 October introducing a new consideration to enable Lloyds TSB/HBOS to be considered as a public interest merger. Such action was needed, it said, to preserve the stability of the UK financial system.

The Office of Fair Trading (OFT) has already started its investigation into the merger and will report to the Secretary of State on the competition elements of the deal. It is also entitled to recommend how far the need to preserve financial stability should dictate the eventual decision on whether or not the merger is referred for closer scrutiny by the Competition Commission.

At a time when the market is shrinking and consumers are finding it harder to get credit and switch between offerings mid-term, the merged entity will be the number one mortgage player. It will also lead the way in deposits, current accounts, household insurance and personal loans. Under normal circumstances this would make it virtually impossible for the merging parties to convince the OFT not to refer this transaction for further investigation. They would also be hard pressed to persuade the Competition Commission not to block the tie-up without agreeing to significant remedies to any competition concerns.

The secretary of state will, to an extent, be bound by the OFT's analysis of the merger. If the OFT concludes that the merger would result in an anti-competitive outcome, Mandelson would need to brandish the public interest card and invoke his executive powers to 'trump' the competition analysis in order to force it through. A preferable scenario for the Government would be for the OFT to negotiate undertakings with the merging parties, relieving some or all of their competition concerns. In those circumstances, it would be possible to pass the merger through on a combination of reduced competition concerns and the need to preserve financial stability. However, it is by no means certain that the OFT would want to take on this assignment. Further, it would be up to the merging parties to first offer undertakings to the OFT. Having already received government blessing, they are unlikely to feel compelled to act. Back over to you, minister.

Irrespective of the outcome of the merger control analysis, a merged bank would be subject to the powers of oversight under the Competition Act. This means the OFT would watch the new bank closely and act if it believes it is anti-competitively exploiting its position. The prospect of such an intervention may prove sufficient to deal with competition concerns for now, allowing political expediency to win out. It will be worth looking closely at the OFT's final decision for clues as to which areas of the merged bank it will concentrate on monitoring in the future.

Sam Szlezinger is a partner and Alex Haffner a senior associate in the competition department at Denton Wilde Sapte.

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