FTSE 100
Dow Jones

Friday, 21 August 2009

We do things differently in the public sector

I have long pointed out the differences between public and private sector behaviour in relation to the marking of on balance sheet and off balance sheet items.

For example we have the PFI schemes, which the government insists are contracts for the provision of services related to assets such as hospitals, schools and military equipment and not finance leases of the assets themselves with some services attached, although individual departments take a different view and capitalise the assets oin their balance sheets, although they are removed on consolifation because the government prefers it that way.

The fact that if the risks are transferred they must either be passed to the project equity or debt providers. The fact that these include both government owned equity holders and the 70% government owned RBS does not seem to make the assets any more on balance sheet.

But that was not what I came to talk about as Arlo Guthrie would say half way through his song, I came to talk about independence, specifically the "independence" of the Bank of England and its monetary policy committee. We might say that it is impossible to achieve independence when the employees are all civil servants and on the government payroll, but perhaps there are new issues.

The private sector, particularly the financial sector, has rules about independence. They show up most in the dealings of auditors. The rules are extensive, but not particularly complicated. For example, if a firm audits a listed company, no partner or employee may own any shares issued by that company. It doesn't matter if the staff member lives at the other end of the country from the firm in question, or if the firm is so large that the staff member has never met and will never meet any of the audit team. The rules apply even if the audit client is a large international company that would make up a part of any reasonably sized share portfolio. The rule is simple: no exposure.

In the US the rules can be even stricter and partners may be kicked out of partnerships when a close relation is promoted toa senior position in an audit client. It really happens. The rationale is that the authorities require that the auditor is seen to be totally independent of the audit client.

Now apply the same rationale to the Bank of England. The Bank has always participated in the money markets through repos of gilts, but those short tterm loans were overcollateralised and the primary risk was always that the bank would redeem the collateral, with a second way out being the ability to sell the gilts pledged as collateral if necessary (although in practice this was rarely required).

Now we have something very different. The Bank of England is purchasing and holding gilts in massive amounts. One might say that their actions have been vital both to the banks and to the government in allowing the banks to preserve capital and the government to issue debt. Not to the extent of an auditor's paltry shareholding but to the tune of hundreds of billions of pounds.

No doubt government apologists will say that this does nothing to impair the Governor's independent view from the government of the state of the economy. Maybe, mabe not, but by the private sector's usual measure of independence the government and the Bank of England and the government are in each other's pockets.

But then the public sector always sees these things differently.

No comments: