Sunday, March 01, 2009
I should have shouted louder
Posted by David Smith at 03:00 PM
Category: David Smith's other articles


An interview with Sir John Gieve, outgoing deputy governor of the Bank of England.

It is Friday and Sir John Gieve is clearing his desk in the Bank of England’s parlours. After three years as Bank deputy governor responsible for financial stability, this weekend marks his shift to pastures new.

While his colleagues on the Bank’s monetary policy committee were being briefed by in-house economists ahead of key decisions this week — a cut in rates is expected as well as a decision to embark on so-called quantitative easing — Gieve was readying himself for a three-month spell at Harvard.

There, as a visiting fellow, he will reflect on a banking crisis that has consumed his life for 18 months, before returning to Britain to take up a new role, as yet undecided.

The former civil servant, whose forebears were half of the Gieves & Hawkes tailoring business — he still wears the firm’s suits and once lent John Major one of its ties to present the budget — spent most of his career with the Treasury. Immediately before the Bank, he was permanent secretary at the Home Office.

At a leaving party in the Bank’s Court Room on Thursday evening, he revealed how he had welcomed the stability of the Bank after the turbulence of the Home Office, where it was branded “not fit for purpose” by its own home secretary.

For 18 months the Bank was a haven of stability and Gieve appeared to have made a shrewd choice. But in August 2007 all hell broke out in the financial markets and he was thrust into the centre of it with the rescue of Northern Rock.

He has upset Bank governor Mervyn King by saying the authorities’ footwork during that rescue “owed more to John Sergeant than Fred Astaire” but is unapologetic. “We did it clumsily,” he says. “We did not need two days of queues in the streets.”

The Northern Rock saga was all the more galling because a year earlier economists under Gieve’s wing had looked at UK banks’ vulnerability to a shift of funding conditions in wholesale money markets.

They threw up concerns about Northern Rock, Alliance & Leicester and small players in the UK mortgage market such as GMAC, which were beginning to develop a sub-prime sector in Britain. A paper was circulated and sent to the Financial Services Authority. Nothing was done. Northern Rock continued to expand aggressively.

“We should have made more of that, and they should have made more of it,” he says. “They should have been asked searching questions.”

Northern Rock probably hastened the end of his career at the Bank. When Bank officials testified to the Commons Treasury committee, MPs — some with scores to settle from Gieve’s Home Office days — reserved their toughest questioning for him.

He was accused by John McFall, its chairman, of being “asleep in the back shop while there was a mugging out front” and attacked for taking a holiday during the crisis, though it later emerged he took time off because his mother had died.

When, last summer, there were hopes in Westminster that the banking crisis would end with Northern Rock, reports suggested ministers were looking for a scapegoat and he would be it. Whether true or not, news of his departure leaked during last June’s Mansion House dinner in the City. So he has been working his notice during the biggest banking crisis in a century.

Looking back, his big regret, as with Northern Rock, was not sounding more warnings. His responsibility for financial stability included publishing a six-monthly Financial Stability Report. “If I regret anything, it’s not making more noise,” he says. “If you look back at what we said, we did point out many of the vulnerabilities — the global imbalances, the growing dependence on wholesale markets, the danger that all the credit markets would prove much less liquid than in the good times — but we didn’t bang the drum.”

Though he maintains King and other Bank colleagues were interested in financial stability, he accepts it was not seen as a priority. “Definitely, when supervision was moved out and conditions were extremely stable, it did take second place to monetary policy, there’s no question about that,” he says. “It had slipped down the agenda.”

It was a “one-and-a-half purpose Bank”, rather than a two-purpose Bank. “The new Banking Act clarifies and embodies the view that a central bank needs to have two core purposes,” he notes. “There’s been a rebalancing over the past 18 months.”

What of Gordon Brown’s decision to take away banking regulation from the Bank and put it into the Financial Services Authority? The so-called tripartite system, Gieve points out, was three years ago regarded as the best in the world.

“The vulnerability was that pressures on the FSA would come from the consumer side and they would take their eye off prudential supervision of banking in the good times, and that the Bank would retreat too far from concern about the financial sector,” Gieve says. “Both of those things happened. But both have been put right over the past 18 months.”

Lessons have been learnt, at the Bank and the FSA. “I think the FSA spent too much time looking at systems and controls and not enough time looking at the business model and the numbers, and that’s going to change,” he says.

One of the things he will be thinking about in Harvard will be the kind of system that will prevent a recurrence of the current agonies. He already has a good idea about the broad shape of it.

Leverage for the banks — the ratio of debt to capital — will have to be limited and “countercyclical” regulation introduced; possibly a variation of Spain’s dynamic provisioning model. As a back-up, he says, authorities should be able to set limits on borrowing; the size of mortgages relative to incomes and property values; loan-to-income and loan-to-value limits. Hong Kong has used these successfully.

“I think we are going to end up with a leverage limit as well as some countercyclical capital requirements and possibly some countercyclical liquidity requirements,” he says. Spain’s banks, having had what he describes as “a rip-roaring property boom and bust” are coping reasonably well.

“In our case, if you go back to 2003-4, the height of our house-price boom, both then and in 2006 we saw very rapid growth in credit and asset prices and you’d have said there were real signs that financial markets and asset prices were taking off in a worrying way,” he says. “Those are precisely the circumstances in which we’d have ramped up capital requirements on the banks and it could have had an impact.”

Gieve cites the current sharp downturns in Japan and Germany to underline that the crisis is global. But he accepts that things could have been done better in Britain. “With hindsight we should have been more worried about the growth in credit and the rise in asset prices than we were,” he says. “You’ve got to take asset prices and asset markets more seriously than we did.”

The government has suspended its fiscal targets. Is there a risk it could abandon the 2% inflation target? Gieve, a Treasury veteran, says no. “I don’t expect that to happen and it would be a mistake,” he says.

“We’ve got to hold on to the fact that inflation will be kept low,” he says. “That will require some very difficult decisions because it will require the Bank to start raising rates before it is obvious on the street that the economy is getting better.

“When the recession does come to an end, will we overshoot the inflation target? I don’t think it would be the worst thing in the world if we overshot it a bit, but I don’t want to turn this into a 1970s experience of really high inflation followed by savage measures to bring it under control.”

As he heads off to America, where talk of protectionism is rife, Gieve’s big worry is that the crisis will see globalisation go into reverse. “The risk is that we’ll see a real step back from open international financial markets,” he says. “The Asian crisis was big but didn’t lead those countries to say the free-market model is flawed. The big issue is whether we treat this global recession the same way. Is it a case of mending the system but driving forward on an open trading, free-market model, or will it go into reverse? There’s a real risk of a reversal.”

However, on an upbeat note, he thinks the worst of the banking crisis may be over. “I hope we’ve reached the bottom. This Asset Protection Scheme they have announced for RBS and will announce for Lloyds in the next few days is a convincing scheme. I hope it will provide a platform from which those two banks will be able to identify the living bits of the business and that, with what we’re doing here and what they’re doing with Citigroup and Bank of America in the US, we will see a gradual recovery,” he says.

“What would be really helpful is to see some banks get out there and raise money on the markets. That would help change the atmosphere.”

What next? Brian Quinn, a former Bank deputy governor, went on to be chairman of Celtic football club. Gieve would relish the chance to help out at his beloved Arsenal. “I’d love to do something with Arsenal but they haven’t given me the call yet,” he says. Maybe after the past 18 months, football would be just a bit too dull.

From The Sunday Times, March 1 2009