Regulators in U.K. Seek Automatic Sanctions on Bank Executives After RBS

U.K. regulators pushed for new powers to automatically sanction senior bank executives and increase oversight of mergers, arguing the near collapse of Royal Bank of Scotland Group Plc (RBS) showed financial firms must be treated differently than other companies.

Automatic sanctions for poor decisions that lead to a bank failure “have the advantage of not requiring expensive and contentious legal processes,” the Financial Services Authority, which the U.K. government plans to split up next year, said on its website as part of its report on RBS. Takeovers should be more closely regulated, according to the study, which detailed how RBS’s purchase of Dutch bank ABN Amro Holding NV in 2007 brought the lender to the brink of collapse.

“All of this gets down to the fact that banks are different,” FSA Chairman Adair Turner told journalists in London today. “The consequences of bank failure are quite different to that of a retailer or manufacturing company.”

After the acquisition, RBS reported a 24.1 billion-pound ($37 billion) loss for 2008, the largest in U.K. corporate history, and required a 45.5 billion-pound rescue by taxpayers -- the world’s biggest bank bailout. The FSA came under pressure from lawmakers to publish the probe into RBS after the agency cleared bank executives, including former chief executive officer Fred Goodwin, of wrongdoing.

‘Ironies’

“Regulation is in the throes of being handed back to the Bank of England,” said Simon Willis, an analyst at Daniel Stewart Securities Plc. “One of the biggest ironies of all is that it’s the FSA that’s done the report. Perhaps it should have been an independent report.”

Bank mergers should be supervised to “reflect the fact that major acquisitions by banks pose potential social risks which are not present in the case of contested takeovers by non- banks,” according to the report.

The report, which has been more than a year in the making, meted out equal criticism of bank managers and FSA regulators.

RBS relied too much on short-term wholesale funding, a weakness that was missed by the U.K. banking regulator, the FSA said in the report. The watchdog listed seven reasons for the bank’s failure, including uncertainties over the quality of the lender’s assets and lack of capital.

Even after global money markets froze in 2007, Goodwin pushed through the world’s biggest bank takeover, the 72 billion-euro purchase of Amsterdam-based ABN Amro with Banco Santander SA (SAN) of Spain and Belgium’s Fortis. The acquisition saddled RBS with bad debt and depleted its cash reserves.

27,000 Jobs

Since its near failure, RBS has cut more than 27,000 jobs, replaced Goodwin with Stephen Hester in 2008 and shrunk its balance sheet by almost a trillion pounds.

The FSA “identified a risk created by the perceived dominance of” Goodwin as CEO as early as 2003, the report said, adding that the bank’s chief had developed a “challenging management culture.”

“Taxpayers should never have had to rescue RBS,” Philip Hampton, the Edinburgh-based bank’s chairman, said in an e- mailed statement. “The FSA’s views are an important contribution to the debate on how banks should be managed and regulated in the future.”

The FSA said its initial probe into the bank’s bailout found that there were no codes or standards that would allow prosecutors to show at a tribunal that bank managers breached their duties of due diligence on the ABN Amro takeover.

New Standards

“The crucial issue that this raises, however, is whether the rules are appropriate: whether the decisions and actions which led to failure should ideally have been sanctionable, and whether we should put in place different rules and standards,” Turner said in the report.

Efforts in the U.S. to bring criminal cases against directors shows it’s “very, very difficult,” said Matthew Czepliewicz, a banking analyst at Collins Stewart in London.

“If we’re talking about Fred Goodwin paying a certain amount for this acquisition, that’s a judgment call and the market and regulators knew what he was doing,” he said.

The report blamed RBS’s collapse on a lack of liquidity, when lenders to the bank became increasingly unwilling to roll over its funding. That, in turn, had its roots in uncertainty about whether the bank had sufficient capital to absorb losses.

“There was insufficient focus on the core prudential issues of capital and liquidity, and inadequate attention given to key business risks,” according to the report.

Run on Deposits

The lack of confidence saw the bank lose a total of 19 billion pounds in deposits between August and October in 2008.

RBS’s capital ratio in 2007 would have equated to 1.97 percent, under more rigorous capital rules now in force, the study estimates -- less than a quarter the amount now required.

The FSA also criticized RBS’s decision to finance the ABN Amro purchase primarily though debt rather than equity.

RBS had one of the “greatest dependencies” on short-term funding, in particular overnight funds, the FSA said. That left it more vulnerable than peers to market stress. That was exacerbated by the ABN Amro deal, the report said.

The FSA moved too late in April 2008 to force RBS to raise 12 billion pounds in capital, the report said, noting the regulator’s supervision of reserves was mainly reactive. The bank needed as much as 166 billion pounds in additional “high- quality unencumbered liquid assets,” the FSA said.

While the FSA was applying more rigorous capital standards from late 2007 onwards, the changes “came too late to prevent the developing crisis,” the report said.

The FSA operated a flawed supervisory approach which failed adequately to challenge the judgment and risk assessments of the management of RBS, the FSA’s Turner said, noting it was done against a backdrop of political pressure for “light touch” regulation.

The government said in 2010 it would abolish the regulator, handing its bank supervision powers to the Bank of England.

To contact the reporters on this story: Gavin Finch in London at gfinch@bloomberg.net; Ben Moshinsky in London at bmoshinsky@bloomberg.net.

To contact the editor responsible for this story: Anthony Aarons at aaarons@bloomberg.net Edward Evans at eevans3@bloomberg.net

Bloomberg reserves the right to edit or remove comments but is under no obligation to do so, or to explain individual moderation decisions.

Please enable JavaScript to view the comments powered by Disqus.