Examination of Witnesses (Questions 1540
TUESDAY 11 DECEMBER 2007
Q1540 Jim Cousins: But in your discussions
at the tripartite committee if you did have concerns, you would
be expressing them in front of other parties who might themselves
be the owners of the institution whose management you have some
Sir Callum McCarthy: I should
make clear that all of these are hypothetical circumstances, but
you should assume that we would discharge our responsibilities
with the same independence that we adopt towards any institution
for which we have responsibilities.
Q1541 Jim Cousins: One of the issues,
looking back over the Northern Rock affair, is the failure to
anticipate things. Now I am not myself going over that ground,
the Committee has gone over that ground. The issue of nationalisation
is not now a theoretical one, it is something that is being actively
advocated by a large number of influential people. Are you really
telling me that, yet again, we have a failure to anticipate consequences
and that there has been no discussion either at the FSA or at
the tripartite committee as to how the regulatory system we have
for banks would be affected in the event of a bank nationalisation?
I find that extraordinary.
Sir Callum McCarthy: I would say
that I do not find it extraordinary. I do not find it extraordinary
because at the moment we have got two proposals on the table for
private sector solutions and we are concentrating very hard on
discharging our responsibilities in relation to that. I am yet
to be convinced that were there a nationalised bank what are the
real problems that this would present for the tripartite arrangements.
If there were significant ones we would deal with them, but I
do not think that I am convinced there would be difficult problems.
Mr Sants: To your point, we are
clearthe Chairman has answered the questionwhat
our regulatory responsibilities as the FSA would be for that entity
and it would be our role to discharge those in our capacity as
an independent agency, so I think we are clear about our regulatory
responsibilities, there should not be a misunderstanding about
Q1542 Jim Cousins: The Governor and
you, Sir Callum, would look the Chancellor in the eye, if he were
to find himself the owner of a bank, and raise criticisms about
Sir Callum McCarthy: If there
were a question, for example, of inadequate systems and controls
within a nationalised bank over which we had supervisory responsibilities,
I would have absolutely no difficulty in doing what you suggest.
Q1543 Chairman: Sir Callum, a couple
of final questions. In 2006 Northern Rock appointed Rosemary Radcliffe,
a former partner of PwC, to their audit committee and their auditors
last week mentioned that they raised concerns about this but withdrew
them following the receipt of what they called an "explicit
clearance" from a regulator. Were you the regulator involved
and, if not, did you express any views on the matter?
Sir Callum McCarthy: I think no
views were expressed on the matter.
Mr Sants: I think we were the
regulator involved, but I know of no views being expressed on
Sir Callum McCarthy: Could we
Q1544 Chairman: Definitely. Karin
Forseke, a non-executive member of the FSA board, was a CEO of
the Swedish investment bank Carnegie until March 2006. The Swedish
regulators found that Carnegie's 2005 and 2006 annual reports
presented incomplete information and punished the company with
the maximum financial penalty, also insisting on multiple board
changes. In these circumstances, have you considered whether it
is appropriate for her to remain a non-executive member of the
Sir Callum McCarthy: Yes, Chairman,
I have considered it very carefully. I discussed the matter extensively
with the Swedish financial regulator and took advice on the report
and at rather considerable expense had the report, which is only
in Swedish, translated into English so we could look at the evidence
in detail and formed a view, which I formed after consulting the
past and future Deputy Chairman of the FSA, that it was appropriate
for Karin Forseke to remain a member.
Q1545 Chairman: As a Committee, we
visited Sweden in the last couple of weeks and we read the regulatory
report in English, so it was no problem for us, but it was quite
a censure that the regulator gave. In the light of your answers,
I think for the public record I would like you to write to us
on this the issue in detail as to why you have confidence in her
as a non-executive director and the reasons for that.
Sir Callum McCarthy: I would be
delighted to, yes.
Q1546 Chairman: Last question. Do
you think that either you as the regulator or the market have
a proper understanding of the size of the tail risk in money or
credit markets? I say this in light of the evidence that we have
looked at from Paul Ormorod and Bridget Rosewell.
Sir Callum McCarthy: I think the
analysis of tail risks is an extraordinarily difficult issue.
By definition you are saying that you expect events which happen
very infrequently, that is what you are examining, and anybody
who claimed they had a full understanding of the risks associated
with tail risks would be open to appearing misleading.
Mr Sants: I do not think it is
possible to have a full understanding of tail risks.
Q1547 Chairman: We understand that,
but what they are saying is a gap between the Bank of England's
base rate and the three-month Libor is an indication of unusual
conditions in the market and really their conclusion was it should
not be assumed that the historical data on this gap follows a
normal statistical distribution as many have done. Are you alert
to that and, for instance, is there some justification in suggesting
that the tails of the distribution of spread between the three-month
Libor and the base rate may be fatter than conventional analysis
Sir Callum McCarthy: It is certainly
the case that there has been a very substantial divergence between
the three-month Libor and the bank rate, that is manifest in the
UK, the Eurozone and the United States. It is exacerbated at the
moment by the year end pressures, so that is undoubtedly the case.
Mr Sants: It is also undoubtedly
the case with regard to financial markets, as others have said
to you, that relying solely on historical statistical analysis
as a method of predicting the future via modelling is not a sufficient
way to discharge your responsibilities as a board of directors.
You do need to take into account the likelihood that the future
will not reflect the past and circumstances will not repeat themselves
in the way they have in the past. That is why we continue to reiterate
the statements we made in the earlier part of the year which are
even more appropriate now than they were, that firms need to seek
to run full scenario tests, understand the circumstances under
which their business models have come under pressure regardless
of whether or not that type of modelling looks particularly probable
from a tail risk analysis. They should run their businesses to
take into account those risks and, as we said earlier, we do not
feel that it was the case that all institutions were taking that
approach to risk management in the early part of the year. We
believe that recent events and supervisory engagement mean that
they are much more focused on this point, but it is still a key
factor that they need to properly focus on.
Chairman: On that technical point, could
I thank you, Sir Callum and colleagues, and wish you a merry Christmas
and a peaceful new year, starting with your reappearance at this
Committee shortly thereafter.
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