Examination of Witnesses (Questions 880
TUESDAY 13 NOVEMBER 2007
Q880 Mr Dunne: There were many other
issues which you identified at the beginning which caused the
Professor Buiter: Yes, but banks
generally were not lending to each other, and that is never a
good idea because that also means they are not lending to households
and to non-financial corporations.
Q881 Mr Dunne: We were told by the
management of Northern Rock that they had an Irish subsidiary
and had they been able to have a facility in place with the ECB
through their Irish subsidiary in time, they might have been able
to secure some liquidity through that.
Professor Buiter: Correct.
Q882 Mr Dunne: Do you think that
would have been an appropriate thing to have done?
Professor Buiter: Sure.
Professor Wood: For Northern Rock,
Q883 Mr Dunne: I think you said earlier
that the currency for lender of last resort is critical but in
this case had the liquidity operations been managed by the Bank
of England in the same way as the ECB the pure currency risk was
something presumably that could have been priced into the facilities?
Professor Wood: You mean if they
borrowed from their Irish subsidiary? Sure, they would have had
to switch into sterling and if they were a well-run bank they
would have hedged that risk.
Q884 Mr Dunne: Indeed. So would it
be prudent then for British banks today to ensure that they have
facilities with other central banks in order to maximise their
prospects for liquidity if they need it?
Professor Wood: I suppose if you
are saying that other central banks give out liquidity too generously
(which I think they did) it would be prudent from the point of
view of individual British banks, yes. I do not think it would
be prudent from the point of view of the British banking system.
But in any event, if all banks borrow abroad and switch into sterling,
they can only get that sterling from the Bank of England. So any
one bank could protect itself by borrowing abroad, but the system
Professor Buiter: I think they
should all do so, if they can, and of course not just in the Euro
zone but in the United States as well because at the US discount
window you can discount anything, including cats and dogs, in
Q885 Mr Dunne: Indeed, and two of
the major British banks have taken out very substantial facilities
with the Fed, have they not.
Professor Buiter: Yes.
Q886 Mr Dunne: Does this not raise
questions of credibility about the regulation of the British financial
services and banking industry?
Professor Buiter: We have a financially
integrated global system and that means that liquidity can be
purchased abroad as long as sterling is convertible. I hope it
will remain that way.
Q887 Mr Dunne: Do you see damage
being done to the British banking industry in particular or do
you think this is not a peculiarly British problem?
Professor Buiter: To me it was
the way in which inappropriately restrictive British liquidity
policy could be mitigated by some banks, the ones who were lucky
enough to have subsidiaries abroad in the euro zone or the United
States that they could use.
Q888 Mr Dunne: In addition to the
points that you made at the very beginning, what other lessons
do you think the regulatory authorities here need to learn to
ensure that these liquidity problems do not recur in the UK?
Professor Wood: The regulatory
authorities in a sense did ensure that it did not occur in the
UK once they dealt with the Northern Rock issue. What they should
certainly do is to make clear againit has been made clear
in the pastthat in times of difficulty they will accept
a wider range of collateral than usual, but they should also give
the warning that they charge much higher rates of discount for
Q889 Mr Dunne: The issue of providing
a lender of last resort facility on a covert basis, which appears
to have happened in the US and on the Continent, does not appear
to be capable of happening in this country; can you explain why?
Professor Buiter: I think that
particular statement of the Governor is not correct. There is
nothing in the appropriately titled "MAD"Market
Abuse Directiveto prevent covert support to banks in trouble.
On the day he said it, the statement was contradicted by a spokesman
for the Commission, and every lawyer I have talked to since then
says that they have no idea where that interpretation came from.
If it is true then the Directive really is appropriately named.
We think we know, for instance, that the ECB, which is a EU central
bank, has engaged in covert discounted borrowing which really
falls into that category and has gone beyond that, quite likely.
Because it is covert we have the issue of absence of evidence
and evidence of absence. But a) I think it is not true and b)
if it were there should be an enormous outcry against it, but
it was not an issue, they could have done that.
Q890 Mr Dunne: So you think the powers
exist at the moment and they have just misinterpreted it and got
Professor Buiter: Yes.
Q891 Chairman: The Governor made
that point in this Committee, Professor Buiter, and he said it
was four pieces of legislation acting together.
Professor Buiter: The other pieces
were by and large correct. The deposit insurance scheme is a shambles.
You cannot do under-the-table mergers or takeoversand that
is absolutely correct, but that is why you should be able to take
banks into public ownership. That would be a solution for that
particular thing on a short-term basis. And whatever the third
Q892 Chairman: Insolvency.
Professor Buiter: Deposits get
frozen, yes, that is also correct. Of the four things he said
I only disagree factually with one which is the MAD.
Q893 Mr Simon: All the people that
we have had so farthe Bank, the FSA, the Chancellor and
Northern Rockhave all explained to us that the Tripartite
arrangements work, whereas to most of us that seems a bit counter-intuitive
because they do not seem to have worked very well. You are the
adjudicator in this: do the Tripartite arrangements work?
Professor Buiter: I think we have
already said that in provision of liquidity they worked but did
not work well.
Q894 Mr Simon: How do you think they
could work better?
Professor Wood: Again Willem has
made two suggestions. One is that the Bank of England take over
the supervision for liquidity purposes of individual banks. That
would be a perfectly sensible idea. The other is to turn the FSA
into a bank. I think that would be maybe sensible but certainly
Q895 Mr Simon: Do you think there
should be a different set of arrangements when a certain point
of crisis is reached or passed?
Professor Wood: No, I think that
would be misguided. It would be like having two pilots on the
plane and saying this other one is going to take over when things
get difficult. When do they get difficult enough? We should have
sensible arrangements from the start.
Professor Buiter: The Tripartite
agreement needs to be changed along the lines that Geoffrey just
restated here. It did not work well and the reason it did not
work well was not an accident, it was simply a design fault.
Q896 Mr Simon: And you reckon with
your two modifications or some version
Professor Buiter: Either of themnot
both please, just one.
Q897 Mr Simon: Obviously not both.
One of which is greatly more unlikely it seems to me than the
other. You reckon that would have solved this problem and this
would not happen?
Professor Wood: All I can say
is in previous episodes in the past in this country and elsewhere
Q898 Mr Simon: What do you think
are the chances of them doing something like that?
Professor Wood: You should ask
the Government that, not me.
Q899 Mr Simon: Obviously we did ask
the Chancellor last week and he did not give us a very full and
Professor Wood: Well, you can
tell him from me that I think it is a good idea.
Professor Buiter: We hope that
after mature reflection he will decide that change is the better
part of valour.