Documents: 24/04/2003 - Sir Gordon Downey's submission to the Penrose Inquiry 24 April '03 - A note
to The Penrose Inquiry into the Equitable by Sir Gordon Downey
Because of my experience
in financial regulation, the Chairman of EMAG has drawn my attention to that
Group's second Submission to the Inquiry dated 27 March 2003. He has suggested
to me that the Inquiry may also be interested to have my views.
My relevant experience is
as follows:-
1972-75: Under Secretary
in charge of the Home Finance Division of the Treasury dealing, together with
the Bank of England, with monetary policy and financial institutions. This
was the forerunner of the Group which was subsequently involved in direct
regulation. My tenure covered the period of the "secondary banking crisis"
of 1974.
1981-87: Comptroller and
Auditor General and head of the National Audit Office, concerned with scrutinising
the propriety and effectiveness of Government activities.
1989-90: Complaints Commissioner
for the Securities Association and the Stock Exchange.
1990-93: Chairman of the
Financial Intermediaries, Managers and Brokers Regulatory Authority (FIMBRA).
1993: Chairman of the
Personal Investment Authority (PIA).
I am also an annuitant of
the Equitable.
Comment
I agree entirely with EMAG's
Second Submission and only wish to add three further points:
- I strongly support EMAG's
view that the analysis needs to be taken back at least to the late 1980s.
In some exchanges with the "authorities" and with the Ombudsman
I have detected a wish to concentrate attention on the period from 1 January
1999 when the FSA took over responsibility for regulation. This would be quite
wrong. It was the DTI and the Treasury regulators who allowed the Society:-
- to conduct its business
with inadequate reserves
- to claim that it
was selling a low-risk product, coupled with prudent management and the
benefits of mutuality
- to sell unguaranteed
policies without ring-fencing GARs and without disclosing large contingent
liabilities
The role of the auditors
throughout the period is also a matter of concern.
- The FSA inherited a
mess in 1999 and needed more support from the Government than it got. Nevertheless
it is true that, after the House of Lords judgement, the FSA appears to have
been paralysed by the scale of the problem. Based on my experience, both in
the Treasury and as a regulator, I would say that the generally understood
role of a non-departmental regulator was:-
"to enforce
rules designed to protect investors from unreasonable risks; and where
those rules prove defective, to harness such resources (as far as possible
from the industry) as are necessary to achieve that aim and to maintain
confidence".
In the secondary banking
crisis of the early 1970s, when a systemic banking collapse was feared,
the Bank of England, encouraged by the Government, persuaded the "big
4" banks and other major financial institutions, in their own and the
national interest, to underwrite the ailing banks so that they could be
nursed back to health. This was a wholly successful operation, achieved
at virtually no long-term cost.
The contrast with the
action of the FSA and the Government over the Equitable crisis is stark.
It is likely that comparatively modest underwriting could have stemmed the
outflow of funds and, over a period, enabled the Society either to be sold
or to manage its resources effectively and build up reserves. This would
have avoided the inestimable damage done to the savings industry and investor
confidence, and the injustice done to Equitable policyholders. If the FSA
did not have the necessary clout with the industry, it should have enlisted
the support of the Government and (possibly) the Bank of England.
- Section 8 of the EMAG
submission makes the point that, over the years, no-one but an expert could
have appreciated the Equitable's financial circumstances. This is true and
it was therefore doubly incumbent on the regulators to use their own actuarial
expertise to fill the gap, which they clearly failed to do.
Even worse than this,
it is clear from my own experience that those taking out policies and annuities
in the 1990s were not only unaware of the financial circumstances of the
Society but were even unaware that GAR policies existed. The fact that these
practices were permitted by the regulators is extraordinary.
Conclusion
It has always been my understanding
that the purpose of financial regulation was to exercise prudential supervision
to protect investors from unreasonable risks. Policyholders and annuitants were
entitled to place reliance on that protection but that reliance has proved wholly
misplaced.
I believe the Government
has at least a moral obligation (no less than it did over foot and mouth disease)
to provide compensation to those disadvantaged by regulatory failure. Previous
Governments accepted such an obligation in cases such as Barlow Clowes and the
Crown Agents. The arguments for doing so are certainly no less strong for the
Equitable.
SIR GORDON DOWNEY
|