17 July 2017
I wrote this as the foreword for Dr Atul Shah’s The Politics of Financial Risk, Audit and Regulation: A Case Study of HBOS, which is published by Routledge in August
When I first interviewed James Crosby, chief executive of the newly-merged Halifax Bank of Scotland, back in December 2001, he insisted that HBOS represented something new, exciting and worthwhile in the world of British banking.
Speaking in his corner office on The Mound, perched high above the Christmas shoppers on Edinburgh’s Princes Street, the actuary talked of “re-purposing” his 60,000 “colleagues” to sell more aggressively, by giving them simpler products that customers would find easier to understand, while declaring that his goal was to “open a Pandora’s box” with a view to “generating as much pain as possible for our competitors”.
What he perhaps didn’t realise was that the ills he was about to unleash would, a mere seven years later, destroy the bank he led, with dire consequences for many of its customers, staff, other stakeholders and the wider British economy (indeed, it’s possible he didn’t know what opening a Pandora’s box means).
Halifax Bank of Scotland set out on a disastrous course pretty much from day one. Its leaders’ inexperience, incompetence, greed and absence of ethics, combined with the unrealistic and hubristic goals they set themselves, made the bank’s September 2008 collapse inevitable.
From its inauspicious birth on the eve of 9/11, the bank went hell-for-leather into the UK retail and corporate financial services markets, intent on boosting its market share in every sector in which it operated to around 15 per cent or 20 per cent.
Not long after I interviewed him, Crosby raised the stakes further by increasing HBOS’s return-on- equity target from an already stretching 17 per cent to 20 per cent. When asked how he was going to ensure this didn’t mean the “the wheels would come off” at HBOS by the former Legal & General Investment Management fund manager David Rough in a set-piece interview in January 2003, Crosby failed to come up with any plausible answers. Instead he just came back with a series of Panglossian assumptions about UK unemployment, interest rates, house prices, the economic backdrop and other things like customers’ propensity to repay their loans in a low interest-rate environment.
Most of the criticisms levelled by Rough in what was a surprisingly tough interview – that the bank’s “cheap and cheerful approach” to investment products was costing it dear, that its retail staff were being incentivised to “mis-sell” financial products, that it had acquired insurance firm St James Place Capital “at the top of the market” and that it was encouraging less creditworthy business borrowers to flock to HBOS’s doors out of desperation to grow its SME loan book – were like water off a duck’s back to Crosby.
There were some gems in the long interview, published in HBOS’s 2002 annual report. For example Crosby insisted the fact HBOS’s chairman Lord Stevenson also chaired a second FTSE-100 company, the publishing group Pearson, “has served the shareholders extraordinarily well. So why on earth would we change that?” Crosby also insisted HBOS, “only exists to create shareholder value [and] is forging a great future for itself.”
As the Edinburgh-headquartered bank ballooned its balance sheet from £275 billion in 2001 to £631 billion in 2008, a cavalier disregard for risk set in inside what was a clearly moral vacuum. The bank had no qualms about encouraging self-certified mortgage borrowers to commit mortgage fraud; about lending scores of billions of pounds to a bunch of seemingly clueless property tycoons, many of whom were to default on their loans and/or go bust in 2008-09, without anything resembling proper credit checks; or about imposing a bunch of sleazy embezzlers posing as “turnaround consultants” and giving them fre rein to wreck and loot between fifty and two hundred of its small and medium-sized corporate borrowers.**
Nor did HBOS under Crosby have any qualms about pouring petrol onto the flames of the Irish house price bubble, indirectly driving the banking collapses of October 2008 with its aggressive “suitcase bankers in kilts” approach to mortgage lending in the Republic.
As if this was not bad enough, HBOS also adopted a dangerously short-termist business model, funding its topsy-like growth almost entirely with wholesale funding – a policy that left the bank with a gaping £213 billion chasm between its loans and its deposits when the wholesale funding markets froze up after August 2007. When full-blown crisis set in with the collapse of Lehman Brothers in September 2008, the bank had nowhere to go other than into a state-sponsored intensive care ward or into an anti-competitive merger with a slightly less reckless rival such as Lloyds TSB, or both.
The Parliamentary Commission on Banking Standards, chaired by the recently retired Conservative MP Andrew Tyrie, interviewed many of the bank’s former executives and directors including both its former chairman Lord Stevenson and Crosby, who despite their commitment to shareholder value ended up serving shareholders extremely badly. The commission concluded that the chimera of success in the bank’s early years had given rise to an internal arrogance and dangerous self-delusion.
“The culture was brash, underpinned by a belief that the growing market share was due to a special set of skills which HBOS possessed and which its competitors lacked. The effects of the culture were all the more corrosive when coupled with a lack of corporate self-knowledge at the top of the organisation, enabling the bank’s leaders to persist in the belief, in some cases to this day, that HBOS was a conservative institution when in fact it was the very opposite.”
In this book, Atul Shah brings home these and many other failures that contributed to HBOS’s collapse – as well as the astonishing post-crisis failure of the British authorities to hold the individuals responsible to account.
The book differs from the others I have read on HBOS in that it expressly calls out the bank’s auditors, KPMG. Atul Shah assiduously covers the accountancy giant’s shocking failures, brazen conflicts of interest, failure to communicate their concerns to the financial regulator, and collusion with the HBOS board – and therefore their key role in legitimising the bank’s malpractice and propelling it towards disaster.
As he says, it’s jaw-dropping that, nine years after HBOS’s collapse, the Financial Reporting Council, which is supposed to police audit standards and corporate governance in the UK, has not yet properly investigated KPMG’s role, or that the audit partners responsible have not been hauled over the coals by their professional institutes.
But the uniqueness of the book lies in its unstinting critique of financial theory and ideology. Many academics shy away from tackling such topics, fearing that to do so might hamper their careers and harm their institution’s ability to raise money from the private sector. Indeed, as Charles Ferguson’s Inside Job showed, the revolving doors and collusion between Wall Street and leading universities such as Harvard leads to a seemingly brain-dead academic establishment, who are more interested in propping up a morally and financially bankrupt system than challenging it and seeking to develop alternative, more sustainable models.
Even the various political and regulatory probes into HBOS skipped around ethical concerns and steered clear of examining the now discredited ideological framework that underpinned its collapse. Sometimes known as the “Greenspan doctrine”, this included a strong belief in deregulation and self-regulation, in the integrity of bankers, in the efficient markets hypothesis, and in the ability of unrestrained derivatives and unfettered free markets and financialisation to bring financial stability and boost global prosperity.
Atul’s strong focus on ethics, culture and politics is therefore particularly welcome.
Astonishingly, given the clear lessons of 2008, these subjects are not yet part of the financial curriculum. If they are taught, it tends to be in the most perfunctory and peripheral way. Yet as the book makes clear, they were the real reasons for HBOS’s downfall. Inside the bank, it’s clear that an obsession with the generation of short-term shareholder value over-rode of notions of culture, decency or ethics, which is why so many corners were cut and whistleblowers who pointed out the emperor had no clothes were fired.
The book therefore makes clear the urgent need for a new finance syllabus, in which ethics and culture are central, not peripheral and ignored. Indeed, in putting the bank’s calamitous seven-year journey into its ideological context, his book will, hopefully, be a lodestar for future generations of students and scholars as they chart a course towards constructing a more sustainable, diverse, ethical and fair financial system.
We continue to exclude politics, culture, ethics and history from the core finance and MBA courses at our peril. We must never forget, for example, that, as he has himself admitted, Andy Hornby derived his own financial world-view from his own MBA at Harvard Business School – and that this was the intellectual framework he applied as he led HBOS to disaster.
Atul’s book provides us with a timely reminder of that the finance curriculum must evolve and change – moving away from a monocultural, technical discipline that promotes little other than greed, avarice and indeed financial disaster, towards becoming less cynical, more inter-connected and more capable of delivering a better financial system.
This excellent book illustrates how the Pandora ’s Box so determinedly prised opened by James Crosby back in Seotember 2001 might be slammed shut, how disasters like HBOS can be averted, and how finance can be changed for good.
** On 2 February 2017, two former HBOS senior managers and four consultants to the bank were jailed for a combined 47-and-half-years for the circa £1 billion HBOS Reading fraud, having been convicted of a range of criminal offences including bribery, corruption, fraud and money-laundering.
The Politics of Financial Risk, Audit and Regulation: A Case Study of HBOS by Atul Shah, with a foreword by Ian Fraser is published by Routledge on 15 August 2017