Shake-up at UK watchdog after Northern Rock blunders

The City watchdog pledged today to shake up its supervision of the UK’s largest banks after admitting a series of blunders in its handling of the Northern Rock crisis.

The City watchdog pledged today to shake up its supervision of the UK’s largest banks after admitting a series of blunders in its handling of the Northern Rock crisis.

The Financial Services Authority (FSA) said its supervision of the now-nationalised group was unacceptable in a long-awaited internal report into the Northern Rock debacle.

The FSA owned up to having too few regulators assigned to monitor Northern Rock and a “lack of oversight and review” by FSA line management.

FSA bosses said they would recruit around 100 extra staff to boost its supervisory teams in an attempt to guard against another Northern Rock crisis.

The bank was forced to go to the Bank of England for emergency funding last autumn when its funding lines dried up amid the credit crunch.

Its funding troubles panicked depositors, with thousands queuing up to withdraw money in the first run on a UK bank in more than 140 years.

Hector Sants, chief executive of the FSA, said: “It is clear from the thorough review carried out by the internal audit team that our supervision of Northern Rock in the period leading up to the market instability of late last summer was not carried out to a standard that is acceptable.”

The FSA’s report outlined a number of failings in processes and staffing.

It said there were continuity problems with the managers responsible for supervising the bank, with three different heads of department in the role during two-and-a-half years.

The FSA also admitted that none of the heads of department had met Northern Rock since January 2005, despite managers on average meeting one of the firms under their charge every week.

Northern Rock was meanwhile initially supervised by a department whose primary responsibility was for insurance and not banking groups, the report found.

And it was the only firm classed as high impact – those firms with the biggest potential for systemic damage should they fail – not to be issued with a so-called “risk mitigation programme”.

The FSA said that alongside the recruitment of more staff, it would seek to give greater priority to the task of supervising individual firms, with more involvement of senior management in the process.

A new group of supervisory advisory specialists is set to be created, while the FSA said it would also co-ordinate better with the Bank of England at “working level” and international regulators.

The report said there would also be an increased focus on the competence of firms’ senior management, but it stopped short of calling for an inquiry into the conduct of the former directors of Northern Rock.

Prime Minister Gordon Brown’s spokesman said: “We welcome the fact that the FSA has conducted a very thorough review and is taking action as appropriate.”

The British Bankers’ Association also welcomed the FSA’s openness in what it described as “an honest report”.

The FSA has already borne the brunt of criticism from MPs on the Treasury Select Committee, which in January accused the regulator of a “systematic failure of duty” by failing to spot the bank’s “reckless” business plan.

Last week saw the announced departure of Clive Briault, the managing director of the FSA’s retail banking division and the man directly in charge of supervising Northern Rock at the time of its collapse.

But the FSA said today that it stuck by its risk-based approach to regulation, where it focused resources on the biggest risks to the financial system.

While it had failed to spot the warning signs, it said the liquidity crunch that led to Northern Rock’s downfall was a “low probability, high impact risk” that was unforeseen by most.

The FSA added that it had presumed the Bank of England would pump money into the markets in extreme cases, such as last summer’s crunch.

Northern Rock fuelled its rapid growth by borrowing most of its cash for lending in wholesale money markets rather than relying on deposits, but the business model imploded when the credit crunch effectively cut off its funding supply last August.

The Newcastle-based group was nationalised in February and owes around £25bn (€32bn) to the Bank of England.

MPs have suggested a beefed-up role of Bank of England deputy governor and head of financial stability – backed by staff from the Treasury and the FSA – to act as the main adviser to the Chancellor on potential crises.

They also want authorities to be able to step in with swift action to help at-risk banks, and a “special resolution” regime to keep failing banks running without recourse to insolvency laws which could tie up depositors’ cash for months or even years.

Meanwhile, Northern Rock’s staff are set to pay the price for the crisis at the company.

Ron Sandler, the new executive chairman of the nationalised lender, set out plans last week to axe around a third of the company’s 6,000 jobs to slim down the business and pay off its vast borrowing before a return to the private sector.

Disgruntled investors in the lender have also seen Northern Rock’s value slump to less than a tenth of its £5.3 billion stock market peak a year ago before its shares were suspended.

They have threatened to sue the UK government unless it pays fair compensation for their shares and have accused it of a breach of human rights.

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