Northern Rock fiasco could be repeated, warn MPs

· Investors seen as victims of banks that deal in 'junk'
· Role of auditors, PwC, comes under attack

MPs warned yesterday there could be a repeat of the Northern Rock crash unless banks stopped selling complex financial instruments that disguised huge financial risks to investors. The lack of transparency was undermining confidence and continued to be a barrier to a sustained recovery in global financial markets, they said.

John McFall, chair of the Treasury select committee, said too often investors, including pension funds, were the victims of a "garbage in, garbage out" culture that allowed investment banks to sell "junk" that appeared creditworthy to investors who only discovered later that the financial instruments were worthless.

McFall said he was concerned to prevent another Northern Rock at a hearing where four of the world's largest investment banks admitted they had made mistakes during the credit crunch. Along with several other MPs, he criticised the banks for their inability to accurately assess the risks involved with US sub-prime mortgages and the financial instruments based on those high-risk home loans, which caused the freeze in credit markets.

Labour MP Nick Ainger said: "It should not have ended up with the crisis that we faced here with Northern Rock. It started with the mis-selling of a mortgage in Chicago, but it was your institutions which have caused that contagion. If you had done your job properly, perhaps that wouldn't have occurred."

UBS, Citigroup, Deutsche Bank and Goldman Sachs denied failing to understand the risks involved with complex investments such as collateralised debt obligations (CDOs).

"Mistakes were made, but it is also true that the conditions that materialised, especially in the sub-prime mortgage market, are, by any standards, quite extraordinary," said Gerald Corrigan, managing director and co-chair of risk at Goldman Sachs. He said that a herd mentality saw many banks become involved with the market for sub-prime backed debt without fully considering the potential risks.

UBS and Citigroup admitted they had lost more money in the crash than they made in the "good years". Goldman Sachs and Deutsche Bank said they were net gainers.

The MPs questions came as some shareholders criticised Northern Rock for its decision to pay 6,000 staff an inflation-busting pay rise and Christmas bonus. Unions said it was a thank-you to employees who had kept the bank going. Critics said it was wrong to pay staff more than inflation when the bank's situation was so precarious.

Staff will receive a £200 bonus plus a one-off payment of 2% of their salary, on top of a 4% pay rise. The deal was hammered out last week with the Unite union. MPs also criticised PricewaterhouseCoopers for helping Northern Rock to sell its mortgage assets while also acting as its auditor.

The committee heard that PwC was paid £700,000 last year for writing 10 "comfort letters" for Granite, the complex network of trusts that Northern Rock uses to raise funding through the wholesale money markets by selling on its mortgages.

Conservative MP Michael Fallon questioned whether PwC should have earned fees from the Granite operation while also earning £1.1m for auditing Northern Rock and its subsidiaries. "You have audited and provided comfort letters for the biggest banking disaster in 150 years," Fallon told PwC's head of audit services Richard Sexton. "The taxpayer has had to lend Northern Rock £29bn. Don't you think you need to repay your fees?"

The comfort letters were used by Granite to reassure potential purchasers that the financial information contained in its sale prospectuses was accurate. Northern Rock's reliance on Granite proved to be its downfall when money markets dried up and it was forced to seek emergency funding.

The accountancy firm was also criticised for not recognising the potential problems at the bank, but Sexton insisted that it had carried out the work of an auditor competently, and had not advised Northern Rock on the securitisation of its mortgages.


The high street banks yesterday called on Alistair Darling to launch a full inquiry into the events that led to the problems at Northern Rock, on the scale of the investigation into the collapse of Barings a decade ago.

Angela Knight, chief executive of the British Bankers' Association, made her demands in a letter to the chancellor in which she said the matter was of importance to the UK and its reputation.

The inquiry should be into the "events leading up to the run on the Northern Rock including the actions that the authorities took and could have taken so that lessons are learned".

After the collapse of Barings in 1995, the board of banking supervision conducted an in-depth analysis. While the Treasury select committee held a hearing on its investigation into the Northern Rock debacle yesterday, the BBA believes a fuller investigation needs to be conducted.

The banks made their plea in response to the chancellor's inquiry to the level of protection given to depositors, where £35,000 of savings are currently protected. The BBA said this limit covers 96% of savings.

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