Financial Regulation.

Tuesday, 23 February 2010

Seanad Eireann Debate
Vol. 201 No. 1

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Senator David Norris: Information on David P.B. Norris  Zoom on David P.B. Norris  I welcome the Minister of State, Deputy Áine Brady. As she may know, although my principal interest is in human rights, I contribute in a positive and constructive manner from time to time to the debate on economics. My positive attitude, however, does not mean that I am loath to be critical of either individuals or systems, as will be seen from a very significant case I raised last year concerning financial irregularities and the subsequent widespread cover-up. The Adjournment matter I raised at that time achieved its aim by generating significant publicity and helping to reopen an inquiry, although the matter is not yet concluded.

On this occasion I was approached by a senior financial executive from one of the European banks with its Irish headquarters in the Irish Financial Services Centre. This man, a senior risk manager at the bank whose repeated warnings that liquidity had fallen disastrously short of the required levels went virtually unheeded, was eventually obliged to resign his position in order not to incriminate himself.

I had several further meetings with this man, whom I designate “Whistleblower”, including one where he was accompanied by a senior financial figure from another Irish institution who fully corroborated his story. I formed a view that Whistleblower was a man of integrity and courage. He showed me a communication from the offending bank which stated that his allegations were false and defamatory and threatened legal action on foot of a particular letter [44]dated 8 April 2008 addressed to senior management. It is open to the Minister to examine this matter, including the role or, indeed, significant failure of the Financial Regulator in this case as well as seeking discovery of all relevant documentation. This is what I now demand that he do in the interests of restoring the reputation of our banking system and meting out justice for Whistleblower, who behaved honourably, and to the banking institution, which has not.

Liquidity and the perception of a positive liquidity position is essential for the lifeblood of banking to flow. The crucial matter is whether the asset and liability side of a firm’s balance sheet can be realised and to what degree its assets would cover debts or obligations in the case of the dissolution or liquidation of the company. There are regulations proposed by central authorities that the ratio between liquid assets and liability would not be allowed to fall below certain guidelines. It is a requirement in the eventuality that this happens that the Financial Regulator should be informed immediately. These regulations were introduced by the Financial Regulator following the accord of the Bank of International Settlements in Basel 2007 under which the liquidity ratio below which banks should not fall was 90% of liabilities. This is monitored daily.

Whistleblower, following a career in banking in German banks in Ireland, joined the named bank in mid-May 2007 just some months before the liquidity regulations came into force on 1 July 2007. He was quickly established as risk manager for the company and, therefore, was among those responsible for reporting any such breaches. Consequently, when or if the bank failed to meet its obligations, he would be among those who risked severe penalties.

From the commencement of the operation of the regulations in July 2007 until Whistleblower’s resignation in mid-September of the same year, several daily liquidity reports showed the bank to be well beneath the 90% threshold. Each time he expressed concern, he was convinced by the bank’s treasury manager, his own assistants and the bank’s chief executive officer that these liquidity breaches were only technical and were related to information technology difficulties of which he was not fully cognisant. In other words, he was assured from the very top of the bank that these were not real breaches, merely technical glitches in the computing system, and he was instructed by the chief executive officer that they should not be reported to the Financial Regulator.

There had already been tension between the treasury team at the bank and the risk manager, that is, Whistleblower. He had a precise and ordered view of the way the regulations should be applied and on several occasions reprimanded staff for leaving work, such as the documentation of a multi-million euro transaction, incomplete.

Whistleblower contacted The Irish Times and spoke to a reporter in the financial area. The reporter indicated that he was aware of the situation in the bank on foot of an anonymous e-mail from some other source. The e-mail apparently stated that the bank in question was in a state of chaos and that the auditors were threatening to withdraw their services.

Despite the fact that what Whistleblower described as high pressure tactics were used at the bank to inhibit him from reporting breaches on the grounds that they were merely technical, on one occasion in late July or early August 2007, a breach actually was reported. On this occasion, a letter was prepared which notified the Financial Regulator that the bank’s liquidity ratio stood at only 70% but promised to remedy the situation immediately. This is a very serious matter as the margin of appreciation allowed under the regulations is a mere 1%. This represented 20 times the allowable margin. The letter was hand delivered to the Financial Regulator by Whistleblower who received a receipt which is now in the possession of the bank. Thus is established a clear and unbroken chain of evidence implicating not only the bank but also the Financial Regulator.

[45]So worried was Whistleblower that he contacted a well known firm of financial software consultants in London to seek their help in rectifying the situation. This company, whose name I shall supply to the Minister of State, agreed and Whistleblower facilitated their on-line connection to the system in Dublin. Within a day or two of this connection being made, an expert from the company telephoned from London to say that their calculations showed that the relevant liquidity ratio was only 50%, another staggering 20% lower than the already dangerous and impermissible 20%. He intensified his attempts to resolve the situation at the bank but met with such resistance that on 13 September 2007, he signified his intention to resign by e-mail as follows:

Under the terms of his severance, he remained technically an employee of the bank for the next month while his notice was worked out, although he did not attend the workplace. The bank attempted to persuade him to withdraw his resignation but he refused. Informants within the bank told him that on receipt of his resignation, all hell broke loose and eventually the Financial Regulator took over the entire bank for approximately two weeks. One of the figures involved at the London end of the consultancy firm told him that shortly after the Financial Regulator’s staff arrived at the bank, the link between the consultancy and the Dublin bank was disconnected on the Dublin side and all communications between the bank and external consultants ceased. This suggests panic on the part of the Financial Regulator and the bank. This was not entirely surprising given that the Financial Regulator was already under negative pressure from its German regulatory counterpart, BaFin, because of the near collapse of Sachsen Landers Bank triggered by irregularities in its Dublin subsidiary.

  6 o’clock

It is astonishing that my informant, who was the initial whistleblower, was not on any occasion interviewed by the Financial Regulator nor was any attempt whatever made to contact him despite the fact that he was still technically an employee of the bank. Nevertheless, it is a legal requirement that all documentation of this kind must be kept and available for review at the bank. On top of this, records in the possession of the Financial Regulator should also document the bank’s failure to satisfy the liquidity regulations. One would not have to be Albert Einstein to detect, by comparing the balance sheet figures reported to the Financial Regulator by the bank with the liquidity ratios that were also reported, that an entire section of the bank’s balance sheet was not accounted for in the liquidity calculations. This may well have something to do with the lamentable situation encountered in other major Irish banks where dubious interbank loans are covertly arranged — something known as repo and reverse transactions. It seems obvious that there is a prima facie case that the bank behaved grossly irresponsibly and in breach of the law and that the Financial Regulator completely failed to engage in prudential supervision and exercise control of the bank’s activities as required in the State. I have presented a cast-iron case to the Minister to investigate this serious matter further.

Minister of State at the Department of Health and Children (Deputy Áine Brady): Information on Aine Brady  Zoom on Aine Brady  I thank the Senator for raising this matter on the Adjournment, to which I am pleased to respond on behalf the Minister for Finance.

[46]Liquidity management is an essential requirement to ensure the proper functioning of credit institutions in order that they can meet their various obligations in a timely fashion as they fall due, while continuing to fund their day-to-day operations. In this way, depositors and other creditors of individual institutions can be assured that a credit institution’s commitments to them can be met. Robust liquidity management within individual institutions is also essential in order to maintain stability in the financial system as a whole.

The supervision of liquidity requirements for credit institutions licensed and operating in Ireland is primarily a matter for the Central Bank and the Financial Regulator within the legislative and policy framework laid down by the Minister for Finance in the context of their overall responsibility, respectively, for financial stability and the prudential supervision of credit institutions. The Minister for Finance has no role in the oversight of the liquidity of individual credit institutions. If the Senator is in possession of any information to suggest a credit institution has breached its liquidity requirements, I invite him to bring the matter to the direct attention of the Financial Regulator, if he has not already done so.

The Financial Regulator imposes quantitative and qualitative standards for liquidity for all credit institutions that it supervises, be they credit institutions operating in the domestic market or those operating in international markets. These standards are outlined in the Financial Regulator’s document, Requirements for the Management of Liquidity Risk, and have been formally imposed as a condition on the licence of all credit institutions. The Financial Regulator also has a role in monitoring the functioning of liquidity within branches of credit institutions operating in Ireland where these are supervised by their home country regulator. The Financial Regulator maintains close communication with the regulators of other member states for this purpose.

Credit institutions are obliged to report weekly to the Financial Regulator on their liquidity requirements. All credit institutions are also obliged to be in compliance with the requirements on an ongoing basis. Breaches of liquidity requirements may be subject to proceedings under the Financial Regulator’s administrative sanctions procedure or to prosecution.

It is important to note that while the Financial Regulator monitors compliance with its liquidity requirements, each credit institution also has a direct obligation to put in place the necessary structures and controls to ensure the Financial Regulator’s requirements are met. In particular, the board of each credit institution is responsible for developing a strategy for the ongoing management of liquidity risk and for establishing a management structure to enable the institution to identify, measure, monitor, control and report on liquidity risk. Any breach of the quantitative liquidity requirements must be notified to the Financial Regulator immediately.

The importance of good liquidity management to the soundness of individual institutions and the financial system as a whole has been made abundantly clear from events throughout the recent financial crisis. The crisis clearly highlighted that, without good liquidity management principles and practices, financial institutions would quickly find themselves under stress and unable to meet their obligations. Internationally, the ample supply of liquidity in the years preceding the onset of the financial crisis in 2007 left many credit institutions unprepared for the shocks that occurred and many credit institutions struggled to maintain adequate liquidity throughout the financial crisis. For this reason, the European Central Bank and other central banks have been providing extraordinary liquidity support for financial institutions throughout the eurozone during the current financial crisis. These measures were introduced at the discretion of the ECB to deal with the liquidity crisis affecting the European-wide banking system. Irish credit institutions and many European credit institutions have obtained liquidity support [47]provided by the bank. However, dependence on ECB lending has been significantly reduced, indicating that conditions in international financial markets have improved substantially and Irish credit institutions have benefited from improved funding conditions which has been reflected in reduced recourse by Irish banks to Eurosystem funding. The ECB has indicated publicly that it is engaging in the progressive, timely and gradual phasing out of the non-conventional measures which were introduced in response to the financial crisis but that, notwithstanding this, liquidity support will remain for months to come. As such, there are no negative implications in the medium term from the announced “phasing out” measures.

Arising from the lessons of the financial crisis, the Basel Committee on Banking Supervision has recently issued proposals for international minimum quantitative liquidity requirements to enhance banks’ approach to the management of their liquidity requirements and build up their resilience to future shocks. These standards will in due course be implemented in Ireland through EU legislation. The proper management of liquidity, in line with the requirements of the Financial Regulator, is, in the first instance, the responsibility of credit institutions and their boards. Credit Institutions are expected to meet these requirements on an ongoing basis and any breach should be immediately brought to the attention of the Financial Regulator.

Senator David Norris: Information on David P.B. Norris  Zoom on David P.B. Norris  I accept the Minister of State is not qualified in this area but her reply is a most astonishing statement. Of course, there is ministerial responsibility in this matter. I would not have been permitted by the Cathaoirleach to raise it if there had been no ministerial responsibility. That comment should be struck from the Minister of State’s speech. I know this is not her area but I would like her to take the message back to the Minister for Finance, Deputy Brian Lenihan, that there is ministerial responsibility in this matter.

This is a grossly serious matter which has been reported to the Financial Regulator. A man has lost his job as a result. He honourably resigned. The degree of breach was 40 times the accepted margin. This is a disaster. If we are not prepared to face the issue and investigate it when it has been laid before the House, there is absolutely no hope for the financial system or its reputation worldwide.

I accept and understand it is not possible to anticipate what I will say in a debate; therefore, I will excuse the reply on that basis. However, I have made very clear requests that this matter should be examined. How can the Financial Regulator investigate himself? He was in breach of his responsibility. That is the first point. The second is that the bank must be pursued and that the honour of the man whose reputation has been traduced must be restored. It not too much to ask in this Parliament that this should happen. I want the process to start tonight. I gather from the Minister of State who is nodding that she will undertake to do so, for which I thank her.


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