Peter Hamilton: FCA needs to be brave to avoid another HBOS


The main conclusions of the long-awaited report on the failure of HBOS were depressingly predictable: the HBOS board was ultimately responsible for the bank’s failure but the FSA (as it was then) did not appreciate the full extent of the risks it was running and did not take sufficient steps to intervene before it was too late.

The combination of factors that caused HBOS to fail included:

  • The board’s failure to instil a culture with a proper balance of risk and reward
  • The board’s lack of sufficient experience and knowledge of banking
  • A resulting flawed and unbalanced strategy and business model with inherent vulnerabilities
  • The overall financial crisis, which exposed vulnerable banks

For its part, the FSA:

  • Did not appreciate the full extent of the risks HBOS was running
  • Did not devote sufficient resources to its supervision of HBOS
  • Failed to focus adequately on the core prudential risks of asset quality and liquidity
  • Employed a risk-assessment process that was too reactive
  • Did not take sufficient steps to intervene before it was too late
  • Did not challenge the HBOS management with any, or sufficient, vigour

Not a pretty picture. But not surprising either, given previous failures in which similar conclusions were drawn. Consider the following.

Shortly after the failure of Equitable Life, the FSA’s internal audit department carried out an inquiry into the regulator’s performance. It concluded the FSA could have done better in crucial respects. The report recommended, among other things, the FSA should “be prepared to act more proactively… to ensure the interests of customers are properly protected”.

Next up, Northern Rock. One of the reasons for its failure was its flawed business plan. That was a management failure. Again, however, the FSA’s internal audit department carried out an inquiry and issued a report that concluded the FSA should have done better. When the principal conclusions of that report were published, then-chief executive at the regulator Hector Sants issued a statement in which he said:

“… the FSA acknowledges its supervision of Northern Rock … was not of sufficient intensity or appropriate rigour to challenge the company’s board and executive on their risk management practices and their understanding of the risks posed by their business model”.

Then came RBS. The headline reasons in the FSA’s report on the failure of RBS were “poor management decisions, deficient regulation and a flawed supervisory approach”.

These failures have at least two things in common. First, the firms had flawed business plans and the boards were responsible for their failures. Secondly, the FSA’s regulatory approach was also flawed and failed to challenge the firms’ management adequately.

The HBOS report makes recommendations for the improvement of the regulator’s performance in the future but a key paragraph states:

“A more probing, sceptical and interventionist stance in the pre-crisis period could have delivered different outcomes but this would have required a significant increase in the resources and experience of the team, together with a different approach to supervision and the active support of FSA executive management and the Board.”

The report continues, however, that if the FSA had insisted on changes to the way in which the business was run:

“…it is likely their proposals would have been met by extensive complaints that the FSA was pursuing a heavy-handed, gold-plating approach which would harmed the United Kingdom’s competitiveness.”

Notwithstanding that comment, the authors recommended the regulators must be more willing to act:

“The PRA and FCA have both adopted forward-looking and judgement-led approaches to supervision in seeking to meet their statutory objectives. Whilst it is not the role of the regulators to ensure that no bank fails, where the risks to their objectives are high they have statutory powers to intervene, for example to require a bank to change its business model. Where intervention is warranted, the regulators must be willing and able to do so free from undue influence…”

The difficulty is that there is a tension, if not an inconsistency, in saying on the one hand it is not the role of the regulators to ensure no bank fails and on the other that the regulators must be willing to act to require a bank to take what it would regard as unnecessary action. That tension lies at the heart of our system of regulation.

What would we rather have: regulators with the courage of their convictions and the firmness of purpose to take action even to the extent of ensuring the bank did not fail? Or regulators who suffer from the defects recorded above?

We need regulators with the resources, experience and courage to make a firm change direction, even when told it is not their job to ensure the firm does not fail. If the challenge from the regulators is too intense or misplaced, the regulatory system and the courts provide remedies.

Peter Hamilton is a barrister specialising in financial services at 4 Pump Court and co-founder of