Fresh details have emerged of secret talks between bank auditors and the government during the financial crisis, as regulators prepare changes to the auditor’s role to lessen the risk of similar chaos.
Letters disclosed to the House of Lords economic affairs committee by KPMG shed light on why auditors did not in general express doubts about the viability of UK banks and building societies during the crisis.
They show how the Big Four audit firms – Deloitte, Ernst & Young, KPMG and PwC – wrote to Alistair Darling, then chancellor, in November 2008 for advice as to whether they could describe UK banks as going concerns.
Their letter was written two months after the collapse of Lehman Brothers and tried to gauge the extent to which the government would continue to prop up financial institutions.
The audit firms wrote that the post-Lehman turmoil had left them “having to second guess government actions” when assessing whether a bank could access sufficient funding for at least a year – the minimum for it to be viewed as a going concern.
They argued that a bank could fail if the auditor’s report on its annual financial statements contained an “emphasis of matter” paragraph drawing attention to uncertainty about its going concern status.
Controversially, the auditors added that the government could help ward off such disclosures by reassuring them that it would continue to recapitalize failing banks.
The letter led to a meeting between the Big Four’s UK bosses and Lord Myners, then City minister, in mid-December 2008.
Following these talks, Lord Myners wrote to the four firms to reassure them that “the government remains committed to taking whatever action is necessary to maintain financial stability, protect depositors and protect the taxpayer”.
The Lords committee is probing the structure of the audit industry and whether it should have done more to alert investors to bank risk before the financial crisis.
KPMG sent it a detailed account of the behind-the-scenes talks after confusing snippets about the meeting with Lord Myners emerged in an oral evidence session last month.
Then, some committee members had been shocked by the implication that banks had been treated as going concerns not on their own merits but because of an informal nod that bailout funds would be available.
Lord Lawson, the former chancellor, said it was “absolutely astonishing”.
Lord Lipsey said the underlying logic was reminiscent of Alice in Wonderland.
Subsequently, however, Big Four firms have argued that the Lord Myners meeting was just one element underpinning their 2008 audit opinions.
Lord Myners told the Financial Times that factoring government support into a going concern judgment had not been unreasonable although it was “in some ways contradictory”.
Auditors are likely to be encouraged to have more private chats with regulators to help prevent another crisis.
The European Commission is also reviewing the profession.