The role of British banks in the GFC and the consequential impacts upon public finances and the economy in the UK provided the setting and motivation for the release of the paper. In particular, it drew on the considerations and recommendations set out in the final and major report of the Parliamentary Commission on Banking Standards (PCB) entitled Changing banking for good.
That report criticised the lack of regulatory body action against those who had presided over substantial failures within banks and found the existing regime provided an imbalance of incentives (i.e. permission to undertake aggressive risks but without sufficient accountability mechanisms to act as a counterbalance). Further, it identified a combination of collective decision-making, complex decision-making structures and extensive delegation which made it difficult to hold particular senior banking officials responsible for even the most widespread and flagrant failures. Two measures in particular recommended that:
- all key responsibilities within a bank be assigned to a specific, senior individual who, regardless of any delegation or sharing of tasks, would remain legally responsible (Senior Persons Regime), and
- the Commission proposed the creation of a new criminal offence of reckless misconduct in the management of a bank which was subsequently supported by the Industry Secretary . This offence would apply to those covered by the proposed Senior Persons Regime. Regardless of the degree of difficulty in obtaining a conviction, such a specific regime would galvanise the attention of those who lead a bank which is over-leveraging its assets; creating high risk, complex products; or departing from reasonable standards of asset allocation. The criminal offence proposal is accompanied by a recommendation that civil recovery action can be taken against those convicted of reckless management of a bank. To increase the prospect of directors being personally liable for the consequences of fraudulent or wrongful trading (a term of potentially wide import) liquidators will have the right to sell or assign fraudulent or wrongful trading actions.
- a regime to identify beneficial ownership of company shares to effectively identify the ultimate controllers of shares and companies
- limits on the use of bearer shares, and
- new directors’ duties and wider powers for the Court to assess directors’ duties.
Secretary Cable supported the PCB's recommendations that directors of a bank be subject to a duty to prioritise the safety and stability of the bank over the interests of shareholders. Further, it is proposed to widen the powers of the Court to disqualify directors by allowing a much more extensive range of matters to be considered including the scale of the loss and the impact on wider society. This would require directors to balance a wider range of stakeholder interests when making decisions and keeping matters under review. When combined with the Senior Persons' Regime, these proposals, if adopted, have significant implications for corporate governance, including the recruitment process and criteria for appointing senior executives of banks and members of boards.
As history shows, radical regulatory reform proposals often follow dramatic crashes. This is entirely understandable, as is the desire of a government to respond to failures of market forces which result in, as has recently been the case, the public assumption of private debts and losses. The Senior Persons Regime appears to be capable of eliminating some of the enforcement complexities and failures of the existing regime, but the wider director duty proposals may, upon closer scrutiny, be more problematic than practical.
For example, if the board in effect has to have regard to the national interest, how in practical terms, can it distill a decision from a wide range of possibly competing factors. Equally, if there is a duty to advance safety and stability over other considerations, would it imply that all directors have to have extremely high, possibly actuarial, levels of financial literacy? Without these, how would one be able to assess the potential impacts of complex instruments and algorithmically generated portfolios.
The proposals, which are open for public consideration, will be watched carefully for any signals they may send to Australian law reformers.
Peter is a Professor of Business Law, Executive Dean of the QUT Business School and a Consultant to McCullough Robertson on Corporate Advisory issues.