The Bingham Report criticises the Bank for lack of alertness in picking up signs of fraud in BCCI; for failing to follow-up warnings given by others; for inadequacies in communicating with other agencies, here and abroad, which had knowledge of, or interest in, BCCI’s activities which were relevant to our or their statutory responsibilities; and for a general lack of suspiciousness in our dealings with BCCI.
On the other hand, he noted gratefully, the report ‘acknowledges the exceptionally complex nature of the BCCI affair and sees it as in many respects unique’. During the days immediately before publication, internal discussion turned to the press: the Telegraph, it was agreed, ‘would need special handling’, while ‘there was little point in seeking to influence the Guardian’. The fourth estate did not disappoint, exemplified by another excoriating piece in the Sunday Times, referring scornfully to Leigh-Pemberton’s ‘patrician amateurism’ and claiming that Bingham had compelled the Bank to move in a single week ‘from the 1950s into the 1990s, wiped clean of its traditional arrogance’. The shadow chancellor, Gordon Brown, called for the governor to go, but Lamont insisted that he still had ‘every confidence’ in him, emphasising that the report showed no evidence of duplicity or bad faith on the Bank’s part. Even so, it was still a very dark moment.
Perhaps unsurprisingly, all things considered, BCCI as an episode did not go quietly into the good night. In January 2004, over twelve years after the plug had been pulled on the bank, which left undeclared debts of £7 billion and some 80,000 depositors out of pocket, BCCI’s liquidators, Deloitte & Touche, brought a case in the High Court endeavouring to prove that the Bank had committed ‘misfeasance in public office’ in its supervision of BCCI. The Bank fought the charge vigorously; retired officials gave lengthy evidence; and eventually, in November 2005, the liquidators dropped the hugely expensive case and paid the Bank’s costs. All that, though, was only a minor footnote, compared to the significant reputational damage suffered by the Bank in 1991–2. In retrospect, amid the overwhelming mass of documentation, arguably one particular exchange stands out. Early in 1987, in a note on BCCI’s management, a Bank supervisor reflected that ‘the style of supervision customarily applied to British banks, based as it is largely on trust, would be totally inappropriate’; to which Leigh-Pemberton minuted, ‘Haven’t we got to make up our minds one way or another about this bank?’ Four years later, the Bank still had not made up its mind. Of course there were many understandable reasons for continuing indecision, not least towards the end the genuine international supervisory progress being made towards breaking up BCCI into separately capitalised and ring-fenced UK, Hong Kong and Abu Dhabi banks; but that indecision, ultimately the governor’s responsibility, was the fatal error.10 It is tempting to speculate that in an earlier, more Normanesque era, when banking supervision did not involve statute, the governor of the day would simply have followed his nose and sought, once and for all, to expunge the bad smell.
There was one other crucial element in the challenging early 1990s kaleidoscope. ‘Thank God – now down to some strong discipline,’ applauded the Sunday Telegraph, as Britain in October 1990 at last joined the Exchange Rate Mechanism (ERM). The decision was taken by Major as chancellor and reluctantly acquiesced in by Thatcher, with the Bank playing ‘very little role’, reckoned Charles Goodhart. ‘Its views were anyhow mixed. It recognised the risks of a pegged, but adjustable, exchange rate; on the other hand there was a need for a nominal anchor for policy.’ Among those instinctively at the more sceptical end of the spectrum was George, though grudgingly coming to accept there was perhaps no alternative; whereas the governor was entirely sincere when in his Mansion House speech, ten days after entry, he declared that membership of a fixed-rate regime was ‘necessary to get us back on track – to restore the conditions for sustainable non-inflationary growth’ through providing ‘a discipline on policy-makers, on lenders and borrowers, and on wage bargainers’.11
It did not quite work out. George would look back on the fateful episode in a 1996 lecture:
At the time of our entry into the ERM our policy needs appeared to coincide with those of our partners. The economy was responding to the high though falling level of interest rates and inflation was coming down. In principle, it seemed possible that with the enhanced policy credibility that ERM membership was expected to bring, we could hope to complete the domestic economic stabilisation with lower interest rates than otherwise, and so at less cost in terms of loss of output …
In the event, reunification meant that Germany needed to maintain a tight monetary policy at a time when the domestic situation in a number of other ERM countries, including the United Kingdom, required an easing of monetary policy …
It can certainly be argued that the problems within the ERM – including our own problem – could have been avoided by timely adjustment of the relevant parities. And so in principle they could. But in practice it is never as easy as that makes it sound. By the time the developing tension became apparent, the Deutsche Mark anchor was already entrenched as the absolutely key element of the monetary policy framework in other member countries – on which their anti-inflationary credibility crucially depended. To give that up, without a real fight, would have imposed real economic costs. These costs might have been less if it had been possible to agree upon a unilateral Deutsche Mark revaluation – making it clear that the root of the problem lay in the exceptional circumstances of German reunification. But that approach could not be agreed.
We were then confronted with a situation in which raising interest rates made no economic sense in terms of our domestic conditions and so we sought to maintain the parity [back in October 1990, an unfortunately high DM2.95 to the pound] through intervention in the hope that the pressures in Germany would ease …
That was essentially the situation by the late summer of 1992, a situation not helped by the Danish referendum in June rejecting the European Community’s Maastricht Treaty and thereby increasing tensions within the ERM. During July and August, sterling was under serious pressure, as concerns grew about the likelihood of a French rejection of Maastricht, with the referendum due to be held on 20 September. The August issue of the Bank’s Quarterly Bulletin soberly noted the ERM’s ‘strains’, but sought to calm markets by emphasising the importance of the credibility derived from the authorities’ macro-economic policies.
The crunch was inexorably coming. In an update for George on 7 August, Leigh-Pemberton noted that the Bank’s Anthony Coleby had recently attended a meeting at the Treasury which had ‘included a discussion to the effect that the only alternative to the present policy was to leave the ERM, unilateral devaluations and a realignment being out’. A palpably disconcerted governor went on: ‘He [Coleby] spoke as though Treasury officials thought it prudent to prepare for such a drastic reversal of policy as a precaution. Presumably they have more experience than we do of Ministerial jitters but I simply cannot believe that such a reversal of policy would be indulged in by the PM.’ Just over a fortnight later, on the 24th, three days after the coordinated intervention of eighteen central banks proved unable to bolster the US dollar and thereby weaken the deutschmark, George himself was discussing market developments with the Treasury’s permanent secretary, Sir Terry Burns. ‘The Deputy Governor noted that he was reluctant to initiate overt intervention in support of sterling at this stage. This was partly because pushing sterling through $1.9725 would be equivalent to pushing sterling uphill.’ That afternoon, the deputy was on the phone with the chancellor. When Lamont asked George what he proposed to do ‘in the event that concerted intervention did not materialise’, the reply was that he proposed to continue with ‘covert intra marginal intervention to keep in touch with DM2.81, but being ready to go overt should the exchange rate fall close to DM2.805’; and Lamont said he was willing to spend up to $1.5 billion ‘in the covert intervention phase’. Three days later, George and Burns were on the phone: they ‘discussed the forthcoming reserves figure and agreed to p
ublish a figure of £1280mn’.
The pace of events then quickened during the first half of September. At the start of the month, sterling went to its lowest level against the deutschmark since May 1990; barely a week later, Major publicly insisted that ‘the soft option, the devaluer’s option, the inflationary option, would be a betrayal of our future’ and was therefore ‘not the government’s policy’; over the weekend of 12–13 September, the Italian government decided to devalue the lira by 7 per cent against all other ERM currencies; and on the afternoon of Tuesday the 15th, in a development that genuinely shocked the British authorities, it emerged that Dr Helmut Schlesinger, president of the Bundesbank, had given an interview to a German newspaper stating that ‘the tensions in the ERM are not over’ and that ‘further devaluations are not excluded’. Major did not exaggerate when he recollected in only semi-tranquillity that ‘such views from one of the most influential central bankers in the world sent out only one message to the markets: “Sell sterling”’. That same day, George gave a journalist a defiant update on the previous week or so – ‘it’s been a bit of a battering but we’re still in there with our troops intact!’ – but this changed everything.12
Next day was of course Black Wednesday, the day that the pound took such a heavy, intensive battering (costing some £3.3 billion) that the UK government had no alternative but to suspend its membership of the ERM. For the Bank, inevitably somewhere near the eye of the storm, it was a day with three main components: the markets; the fellow central banks; and the politicians.
Heavy selling of the pound (both by speculators such as George Soros and by institutions such as banks and pension funds) duly began first thing that Wednesday morning, immediately prompting massively expensive intervention by the Bank, as agreed the previous evening with Lamont in the wake of the Schlesinger bombshell. ‘We went into the market very early,’ recalled Ian Plenderleith (the associate director responsible for market operations), ‘did a substantial amount of buying of sterling, and it was the most extraordinary feeling, I remember describing it to Leigh-Pemberton, that the rate lifted off the bottom for a few seconds and then just slipped down again, and I said it’s exactly like driving a car and you suddenly realise that the steering wheel has come away from the column …’ At 11 o’clock there was a belated rise in interest rates, from 10 to 12 per cent. Lamont was watching the Reuters screen at the Treasury as the announcement was made: ‘The pound did not move at all. From that moment I knew the game was up … I felt like a TV surgeon in Casualty watching a heart monitor and realising that the patient was dead.’ Over the next few hours, pending a conclusive decision from the West End of town, the Bank had no alternative but to continue to spend Britain’s currency reserves at an alarming rate, before Major further delayed that decision by going for a final throw of the dice, with a 2.15 pm announcement stating that interest rates would rise next day from 12 to 15 per cent. Again, the move was viewed by the foreign exchange markets as a sign of weakness, not strength (George had been opposed to it for that reason); and after sterling had staged a tiny, flickering rally the Bank was soon buying yet more pounds. ‘That afternoon,’ Soros recollected, ‘it became a veritable avalanche of selling.’ ‘It was the most bizarre experience,’ remembered the Bank’s Michael Foot of that afternoon in the dealing room, ‘because there was a bank of phones basically with every light blinking, every light of course being a sell order for sterling at the minimum rate, and the dealers had no choice but to accept this, they could be a little bit slow picking up the phone, but that was it, that was all they could do.’ Eventually, at 4 o’clock, with the UK’s obligations under the ERM at last ended for the day, it was agreed to let sterling go. ‘Suddenly the Bank of England wasn’t supporting pounds,’ recalled Mark Clarke of the Bank of America from a dealer’s perspective. ‘Instead of a load of noise coming out of the voice boxes and everything, and around the dealing room, everyone sat in stunned silence for almost two seconds or three seconds. All of a sudden it erupted and sterling just free-fell. That sense of awe, that the markets could take on a central bank and actually win. I couldn’t believe it …’ Three and a half hours later, Lamont stood outside the Treasury and announced to the television cameras that, following ‘an extremely difficult and turbulent day’, UK membership had been suspended – a de facto devaluation.13
What about the other European central banks as the ERM drama unfolded? In the course of that afternoon, Leigh-Pemberton, George and seven senior colleagues assembled three times for a telephonic ‘concertation’ with the various top central bankers on the Continent. To judge by the rather muted official record, the Bank’s men did not get all that much joy. During the first one, at 2.15, Leigh-Pemberton began by explaining that ‘the drain from our reserves was barely sustainable’; and added that if the second interest rate rise failed to stem the outflow, ‘we would need to look to the other central banks in the system for help in the form of intervention on their own account in substantial amounts’, given that otherwise ‘the UK government was going to need to contemplate suspending its ERM obligations, and an announcement to that effect might have to be made during the afternoon’. The overall response was that ‘the UK should be contemplating realignment within the ERM rather than a suspension of its obligations outside the rules’. The second concertation followed soon afterwards, at 3.15, during which a range of views was given to Leigh-Pemberton about the possibility of a UK realignment, with the governor observing that ‘suspension was very likely to have to be accompanied by realignment if sterling could manage to rejoin after the weekend’. Finally, at 6 o’clock, the governor informed his fellow central bankers that ‘the UK government had reached the conclusion that the turbulence in exchanges was such that there should be a general suspension of ERM obligations’, but added that ‘if that did not prove acceptable, the UK had decided that it must in any case suspend its own ERM obligations for the time being’; to which the Bank of France’s Jacques de Larosière responded by stating that ‘it would be impossible for the French to accept a general suspension of ERM obligations’, which ‘would have dramatic and negative consequences for the market and for the general climate in France before their Referendum at the weekend’; thereupon ‘Duisenberg [Wim Duisenberg of the Dutch central bank], Tietmeyer [Hans Tietmeyer of the Bundesbank] and Doyle [Maurice Doyle of the Central Bank of Ireland] agreed with Larosière, whereas Ciampi [Carlo Ciampi of the Bank of Italy] and the Portuguese argued for a generalised response to the market turbulence, and impliedly a general suspension.’ Overall, the weight of opinion was towards UK suspension alone; and within weeks, Lamont was making a Eurosceptic speech to his party conference, observing sardonically of that Continent’s ambition to become a state that ‘no one would die for Europe’.
Could the Bundesbank in particular have done more to help? Jim Trott, the Bank’s chief dealer, would add an intriguing tailpiece to this central banking aspect of the day. ‘The cavalry were the Bundesbank,’ he recalled about those hours during which the Bank was furiously buying sterling, but the Bundesbank was notably reluctant to sell deutschmarks. ‘We kept on looking over the hill, but there was no dust and there were no hats and no sabres. And then later at the conference call they suddenly didn’t speak English, which was extraordinary. So we were kind of stretched on that day.’14
Ultimately, it was with the chancellor and his Cabinet colleagues that the buck stopped that very long Wednesday. At an early stage, George was trying to push Lamont towards a 4 per cent rate rise, but Lamont argued that ‘the markets would regard 4 as excessive and so would lack credibility’, and in the end they settled on 2 per cent, with the announcement then significantly delayed by Lamont having to persuade Major. Further delay in resolving the whole issue of British membership came with a lengthy lunchtime ministerial meeting, attended by Leigh-Pemberton and George. By this stage both the Bank and Lamont wanted immediate withdrawal from the ERM, but to their frustration – certainly to Lamont’s, probably to the Bank’
s also – the broad consensus, supported by Major, was to keep going until at least 4 o’clock, while announcing at 2.15 the second interest rate rise. That frustration would provoke a telling passage in Lamont’s memoirs:
Later on Kenneth Clarke [like Michael Heseltine and Douglas Hurd, refusing to accept immediate withdrawal] claimed, ‘The whole thing was taken out of the hands of the politicians by the technicians. We were just there to sign on the dotted line.’ The opposite was the truth. It was the politicians who had interfered with the technicians and only succeeded in making things even worse with their amateur and bungling intervention. Later on Kenneth Clarke also claimed the meeting had no information from the outside world and that we were cut off from the markets. In fact Eddie George had with him a pocket Reuters monitor that told him the value of sterling every minute. In no way were we cut off from the markets. But you didn’t need a TV to know what was happening: the pound, having been in free fall, was now stuck at DM 2.7780, at which we were obliged to pay out to all those speculators who had sold sterling short. We were bleeding to death, and all we were doing was talking. We had clearly lost the battle but the generals refused to recognise it.
George, like Leigh-Pemberton, was back at the Bank at around 2.45 when he had a long telephone conversation with Lamont. George pointed out that the already substantial loss of reserves could become ‘much heavier’ in the quarter of an hour or so before 4 o’clock; and in answer to a series of specific questions, he reckoned it ‘very unlikely’ that a realignment could be achieved that evening, reassured Lamont that up to 4 o’clock ‘the authorities would be able to raise sufficient liquidity to withstand the outflow, though it would be extremely painful’, and promised that he would ‘advise the Chancellor if he felt that the UK was being irresponsible in continuing to meet its obligations until the end of the official ERM day’. Finally, at around 3.45, Leigh-Pemberton and George were back in the West End, joining the ministerial meeting at which the decision was conclusively taken to suspend that evening, as well as to announce that the second interest rate increase would be rescinded. At that point at least two ministers, Clarke and Heseltine, wanted the first rise also to be scrapped; but partly under pressure from the Bank, aware of the possibility of sterling once again going into free fall, that decision was apparently parked for the morrow.15
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