Examination of Witnesses (Questions 278-299)
MR STEVE
BUNDRED AND
MR MARTIN
EVANS
9 FEBRUARY 2009
Q278 Chair: Can I start off by asking
you about the Audit Commission's own investments and get that
out of the way before we move on to local authorities in general.
How did the Audit Commission come to have money at risk in Icelandic
banks?
Mr Bundred: It is clearly embarrassing
for the Commission to be exposed to the risk of loss in the way
in which we are and because of that we felt it important not to
compound that damage by being less than frank about the circumstances
that gave rise to it. We immediately commissioned an internal
audit review and an external review led by the UK chairman of
KPMG. We have accepted in full the recommendations of those two
reports and have placed both reports on our website.
Q279 Chair: Given that one of the
major pieces of evidence we have been getting from local authorities
is that they relied too much on short-term credit ratings it is
mildly ironic that appears to have been one of the things that
the Audit Commission itself did, although unlike many councils
you did not have a treasury management adviser, is that right,
from outside?
Mr Bundred: That is correct.
Q280 Chair: At least you were not
paying an external body to not give you information.
Mr Bundred: We make use of brokers
but we did not have external treasury management advice.
Q281 Chair: Do you think that because
you yourself fell into the trap that makes you better placed to
give advice to local authorities on how they should be doing things
differently or not or does it undercut your credibility?
Mr Bundred: I think it would undercut
our credibility if we were pretending that there were not lessons
for the Audit Commission as well to be learnt from this experience
but we are certainly not.
Q282 Dr Pugh: Looking back on the
experience of the local authorities you clearly draw on some conclusions
about how they differ with regard to their treasury management
function. Clearly there are a number of ways they can differ;
they can differ in the variety of their portfolio, how far they
spread their investments, and so on. The first thing I would like
to know is have you been able to divide local authorities into
what you might call the risk averse very conservative authorities
and those who are more speculative and interested in accruing
wealth with the money they have?
Mr Bundred: Our observation is
that on the whole local authorities have taken a balanced approach
to the counterparties that they deal with and they have spread
their portfolio quite widely, which is why although there is a
substantial sum of local authority money at risk in the Icelandic
banking collapse it represents a small proportion of total local
authority investments. What we have found is the authorities that
had a greater degree of exposure, in other words a larger proportion
of their reserves with Icelandic banks, were, on the whole, small
authorities. We compared the Icelandic deposits against the gross
revenue expenditure of the authorities concerned and there were
31 authorities with more than 5% of their gross revenue expenditure
on deposit with Icelandic banks and of those 31, 26 were district
councils, three were police authorities and two were transport
authorities.
Q283 Dr Pugh: To be fair, there are
some authorities who did not touch Icelandic investments at all
for whatever reason. They looked at them and like you they were
tempted by them but they did not jump. What made them slow to
do that? Did they have, as I put it to you before, a very conservative
investment strategy as opposed to a more speculative one?
Mr Bundred: It is important to
say that obviously the memorandum we have submitted to this Committee
is based on work which is still in progress. We are still completing
the research and the field work with some of the individual authorities
so it is probably a bit too early for us to be in a position to
answer that question. We have not seen any examples of authorities
who have been clearly reckless in their investment strategy. We
have seen one or two examples of authorities where the investment
decisions did not comply with their own policy.
Q284 Dr Pugh: You basically seem
to be saying that there is no kind of error involved. The ones
who did not invest in Icelandic banks cannot pat themselves on
the back and say they are right and the ones who did invest in
Icelandic banks cannot castigate themselves in saying they did
something wrong. Is that the conclusion you are drawing?
Mr Bundred: Clearly some authorities
did take a particular view about exposure to Iceland.
Q285 Dr Pugh: What was the view they
took?
Mr Bundred: Clearly some authorities
took the view that there was more risk inherent in investment
in Icelandic institutions than others. Clearly those authorities
who took that view will no doubt be congratulating themselves
now but it was perfectly reasonable, given the circumstances,
for other authorities to have taken a different view.
Q286 Dr Pugh: What about the district
councils that seem to have been worst hit by this? If you are
a council tax payer for a district council and you have to come
to terms with finding this extra money that has been wasted in
a punt on Icelandic banks, would you not quite rationally take
the view that something had gone seriously awry and it plain ought
not to be done, particularly if you are a district council and
the amount of exposure is far higher than it is in some of the
bigger councils who could probably afford a few losses?
Mr Bundred: We think there is
an issue in relation to the smaller councils who had a very substantial
proportion of their assets invested in Icelandic banks.
Q287 Chair: Given that the smaller
the council the more risky it is to put your money in an inherently
risky institution, have you probed the district councils in particular
who took that decision as to why they thought the risk was OK?
Mr Bundred: It is a question as
to whether the institutions were inherently risky. That is partly
about the timing of when the deposits were made because clearly
some of those deposits will have been made at a time when there
were no general warnings.
Chair: One of the councils at least that
we were given evidence about invested only a week before the Icelandic
banks went down the tube.
Q288 Dr Pugh: If we have agreed that
it is slightly more risky than putting your money into the Public
Works Loan Board or whatever, if we agree it is towards the top
end of risk, and if we are also agreed that some district councils
ought not to have exposed themselves on an investment which is
comparatively risky, ought you not to have told them not to do
so or advised them not to do so?
Mr Bundred: It is not the role
of the Audit Commission to give advice to local authorities about
their investment decisions.
Q289 Sir Paul Beresford: You have
just said you are looking at and concerned about the small authorities.
Having looked at them, what are you going to say to them? Are
you going to help them? Are you going to advise them so they do
not do it again?
Mr Bundred: We will be issuing
a report, hopefully in March, which will set out the conclusions
of the research we are currently undertaking but we would not
advise individual authorities about their investment decisions
as that is for the local authorities.
Q290 Sir Paul Beresford: You advise
them how they take them, procedures they should go through and
whether they should seek advice?
Mr Bundred: Clearly the CIPFA
Code of Practice and the guidance that accompanies it is where
authorities should principally look for advice. If we think that
guidance needs to be strengthened in any particular areas, we
will say so.
Q291 Mr Hands: Can I ask you about
one way that a lot of problems could have been avoided? You mentioned
31 authorities having more than 5% of their investments on deposit
with Icelandic banks. If you had been encouraging local authorities
to have proper country limits on their investments, in actual
fact the amount lost would be significantly less because instead
of treating the three major Icelandic banks as separate entities
you would have a country limit which would kick in which would
limit the authorities' overall exposure to Iceland. If you looked
at credit limits, and this is common practice in the banking world,
across particular sectors you probably could have insulated a
lot of local authorities from that loss. What advice are you giving
out in terms of how local authorities should approach institutions
not just beyond the individual credit limits for that institution
but looking at a bigger picture?
Mr Bundred: I agree with the point
you make about country limits. As the Committee has already heard,
CIPFA, in the light of the experience of the Icelandic banking
collapse, is in the process of reviewing its Treasury Management
Policy, its Code of Practice and the guidance that accompanies
it. Country limits will certainly be one of the things we would
hope they would address in that review.
Q292 Anne Main: I would like to draw
you back to your own investment in the Icelandic banks and the
fact that you said the findings had been made fully available
on your website. One of the things that was particular on those
findings was the fact that decisions were not necessarily made
at a senior level. My own local authority has got caught up in
the Icelandic bank problems and that is a criticism that could
have been levelled at them in terms of following their own procedures
and levels of investment. How can the public take the advice that
you are giving to my authority seriously when your own authority
has been caught up in that way? Are you aware of the political
fall-out from the comments you have made when the public are unaware
of your own mistakes? What are you doing to put them right apart
from publishing it on your website?
Mr Bundred: We have accepted in
full all the recommendations of those reports and we have made
a number of changes internally. We have reviewed and changed our
Treasury Management Policy and we have also increased the level
of seniority at which those decisions are taken. As I said earlier,
we fully accept that there are lessons for the Audit Commission
from this experience as well as lessons for others. The research
that we are currently conducting attempts to pull those lessons
together so we can share them widely.
Q293 Anne Main: Have you shared them
with the local authorities you have raised concerns about?
Mr Bundred: We have not completed
the research but when we publish our report a copy will be sent
to all local authorities and, in particular, we would also no
doubt expect auditors to talk individually to those authorities
where there have been particular issues.
Q294 Anne Main: The poor old taxpayer
is feeling a little bit aggrieved at some of this going on and
seeing black holes perhaps opening up and possibly then having
to foot the bill yet again. Would it be reasonable, given that
we are reading your comments about local authorities in local
press, for them also to be aware that you yourselves have had
lessons to learn? I think this could be turned into a political
football at local level and I am concerned about that. We all
need to learn lessons in a very level and measured way and I am
somewhat concerned to see your comments about "should do
better" that will appear in many local presses without saying
"me as well"?
Mr Evans: I think the Commission's
exposure to the Icelandic banking problem is very well known in
the local government community. We have done what a number of
local authorities have done. They have commissioned an internal
inquiry as to what happened and why and taken steps in the light
of the recommendations. Kent and Westminster have done that themselves
and have published their reports.
Q295 Anne Main: Were you surprised
about your own internal audit?
Mr Evans: It confirms some of
the less good practice that we are identifying in our research
for the study. What we are getting is a mixed picture. In some
authorities governance and accountability was strong, there was
effective scrutiny and effective challenge of treasury management
operations, and in others there was not. We recognise that we
would not be at the better end of that scale.
Q296 Chair: Can I pick up in answer
to the earlier question of Dr Pugh? You said that the Audit Commission
did not give individual investment advice to local authorities
and we absolutely understand that. However, you would give advice
on their investment strategies if you thought they were not adequate.
Presumably the district auditor, when doing their audit of an
individual council, surely one of the things they might look at
is the investment strategy of a council, would they not?
Mr Evans: Clearly our core statutory
role is to appoint independent auditors to local authorities and
they have a key role in the chain of accountability for public
money, in reporting independently on how well local authorities
are safeguarding and using public money. They do that through
their opinion on the financial statements and in what we call
their use of resources assessments, when they assess the underlying
financial management arrangements that underpin the accounts,
which we use in the comprehensive performance assessment. As part
of those assessments we do ask them to look at authorities' treasury
management arrangements but it is at a high level. We focus on
compliance. We ask them to focus on whether the authorities comply
with the CIPFA Treasury Management Code and whether they have
effective arrangements for reviewing their Treasury Management
Strategy and their performance against it. We do not get into
the detailed operation of the Treasury Management Policy and we
certainly would not advise them on their strategy.
Q297 Chair: You would look presumably
at the outcome. If a council had lost a load of money, would that
not be something you might look at in that process?
Mr Evans: Yes, but by its very
nature audit tends to be retrospective. Certainly our auditors
are well placed to report locally on what happened and why. When
the Icelandic banks collapsed in early October most of the audits
for the 2007-08 financial year had been completed but auditors
were able to review their use of resources assessments and we
did issue advice to auditors on how they should approach those.
We will be reporting those in the next month.
Q298 Dr Pugh: If we could draw up
a list of the district councils who are exposed with a large amount
of money on the Icelandic square, as it were, we should see, should
we not, particularly as finance was allocated a year or so ago,
in the district auditor's report a warning saying "You are
exposed." If something goes wrong in Iceland, and it is not
beyond the wit that it could do, they obviously did not know how
badly things were going to go wrong. We would expect some substantive
advice to the district council saying "Spread your investments
about a little bit. You have too much money on the wrong slightly
risky investment." If we went back through the record and
we looked at local authorities at exactly this position of district
council, would we find some comments from the auditors?
Mr Evans: No, because I do not
think it would be appropriate for the auditors to comment on the
investment strategy and the allocation of their investments.
Q299 Dr Pugh: What you said prior
to that was you give general advice, general principles. You can
get them off a simple code of practice. If that is all you are
doing, you are taking money under false pretences, are you not,
because you are not giving them the kind of financial advice that
is genuinely useful to them? You are just giving them a rote response.
Mr Evans: No, we are auditing
them; we are not providing financial advice.
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