The year was 1984 and Lord Lawson received a telephone call at 6am on October 1 informing him that the Governor of the Bank of England wanted to see him "before the markets opened".
At the duly arranged meeting some 90 minutes later, Lord Lawson was informed that Johnson Matthey Bankers (JMB) was on the brink of collapse. The Bank would need to take JMB over or face a possible run on the bank's parent company, Johnson Matthey, a key player in the London bullion market.It is exactly this fact set that the FDR framework would eliminate.
Under the FDR Framework, the bank would be required to provide ultra transparency and disclose on an on-going basis its current asset, liability and off-balance sheet exposure details. With this data, market participants would have been able to see that the bank was in trouble earlier and used market discipline to have the trouble addressed.
Sir Robin Leigh-Pemberton, the Governor, explained that there was no alternative as all other options – a private sector rescue – had been exhausted. JMB, he explained, had a very bad loan book. Losses could total £100m and the Treasury (and hence the taxpayer) was in line to make up any shortfall in funding that could not be provided by the Bank.
Lord Lawson had a few minutes to make a decision. "If the news itself was unpalatable, the very late stage at which I was informed made it even worse," Lord Lawson wrote. "As a result I was being given only a few minutes to decide whether or not to give an open-ended guarantee of taxpayers' money in support of a rescue about whose wisdom I was far from convinced."
If you feel this all has a rather familiar ring to it – apart from the quaintly small amounts of money involved in a banking crisis 1980s style – you would be right. As I write this column, the Bank itself is once again grappling with what might usefully be described as the "Johnson Matthey" dilemma.
At what stage is it proper that the vital independence of the Bank of England becomes secondary to the democratic mandate of the Government to decide where it risks public funds?
As we learnt to everyone's cost in 2007 and 2008, these are far from academic issues....The FDR Framework eliminates the Johnson Matthey dilemma in a way that effectively ends the regulators turning to the Government to risk public funds.
Since all market participants can assess the condition of each bank, they are not surprised when the regulators step in to close a bank.
More importantly, market participants are watching the regulators and expecting them to step in while the bank still has enough capital to cover its losses.
Since all investors can assess the condition of the banks they invest in, they have an incentive to exert market discipline on the banks to avoid the possibility of their being closed by the regulators.
Sir Mervyn is also likely to be asked about his response to proposals for a beefed-up inquiry process in the aftermath of a financial crisis.
The mess in which the Financial Services Authority found itself following its inquiry into the collapse of Royal Bank of Scotland (it produced a 12-line press release) shows that regulators still fail to understand the duty they have to explain and account for regulatory failure....
It was only after a campaign by The Telegraph that the FSA agreed to publish a comprehensive report on RBS which, it should never be forgotten, was one of the worst corporate failures in the UK's financial history.
With investigations into the collapse of HBOS and Bradford & Bingley apparently months if not years from conclusion, a better response to demands for greater public information is sorely needed.One of the most unsettling aspects of the drive to regulate the global financial system has been the simple fact that there has not been the equivalent of the Pecora Commission to examine what caused the financial crisis that began on August 9, 2007.
Without a thorough examination, there is no reason to believe that the new regulations will actually prevent the next financial crisis.
If you are wondering what Lord Lawson decided to do on that day in October 1984 about JMB, he did agree to the rescue plan.
The next time a Chancellor has a similar decision to make, almost certainly with far higher amounts of public money at stake, it is to be hoped that he or she has rather more time to consider the options.Actually, I hope that the FDR Framework is in place and therefore no future Chancellor will ever be called on to put public money at risk.