Free Motion for Reconsideration - District Court of Federal Claims - federal

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IN THE UNITED STATES COURT OF FEDERAL CLAIMS ____________ No. 95-758 T (Judge Nancy B. Firestone) ____________ NATIONAL WESTMINSTER BANK PLC, Plaintiff v. THE UNITED STATES, Defendant ____________ DEFENDANT'S MOTION FOR RECONSIDERATION OF COURT'S JULY 16, 2004, ORDER, LIMITING SCOPE OF CAPITAL ISSUE ____________

Pursuant to RCFC 7(b) and 59(a), defendant respectfully moves the Court to reconsider the portion of its July 16, 2004, Scheduling Order that limited the scope of the "capital issue." As explained below, (1) a senior official during the years at issue at the U.K.'s bank regulatory authority (the Bank of England) reports that a U.K. bank was required to have capital to support the size and risk of its U.S. operations (generally, around 8% of a U.S. branch's risk-adjusted assets), but there was no accounting requirement specifying where, within the banking organization, such capital should be recorded (i.e., the branch's books versus the books of the organization as a whole) and (2) a Dutch appellate court recently held that capital attributable to a branch under a separate and independent enterprise treaty

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provision similar to Article 7(2) of the U.S.-U.K. Treaty may be computed in a manner comparable to the Bank of England's regulatory approach. This Court, likewise, should determine the U.S. branches' capital by considering the amount of capital actually held within plaintiff's banking enterprise on account of the U.S. branches' operations, independent of plaintiff's accounting decisions regarding the location where such capital was booked. Failing to inquire about capital recorded elsewhere within the banking organization that reflects the branches' operations, and giving conclusive effect to plaintiff's exercise of discretion regarding where capital is recorded, would elevate accounting form over capital substance. As the Court has stated, "if, in fact, capital allotted to the branch was not properly noted on its books as `capital'", additional capital may be allotted. National Westminster Bank PLC v. United States, 58 Fed. Cl. 491, 492 (2003); accord id. at 498 (adjustments to books are necessary to reflect the "real facts".) In further support of this Motion to Reconsider the Court's July 16, 2004, Order, defendant submits the following: 1. Richard Henry Farrant was educated at Oxford and has spent most of his professional

life in the field of banking regulation. He was a member of the Basle Committee of Group of Ten countries' bank supervisors. The Basle Committee, as the Court is aware, was responsible for developing worldwide standards in 1988 for adequate bank capital. Mr. Farrant served with the Bank of England from 1967 to 1994, and during most of the years at issue, he was directly responsible for the Bank of England's regulatory policy, including capital adequacy. Mr. Farrant has prepared a report (attached as Exhibit 1 to this motion), which reaches the following conclusions:

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·

A U.K. banking organization such as plaintiff was required to hold capital to reflect its worldwide risk adjusted assets, including the risk adjusted assets of its U.S. branches,

·

Generally, the required capital ratio for large banks such as plaintiff was in the vicinity of 8% of risk adjusted assets, and

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The Bank of England did not specify where within the banking organization's books the capital that reflects a U.S. branch's risk adjusted assets must be recorded.

2.

Thus, during the years at issue, there was actual capital, computed by reference to the

assets of plaintiff's U.S. branches, that supported the branches' activities. There was no requirement that such capital be recorded on the branches' books, and such capital evidently was recorded on plaintiff's consolidated books. The specific amount of actual capital held with respect to plaintiff's U.S. branches cannot be determined without further inquiry. 3. Attached as Exhibit 2 to this motion is a recent Dutch appellate decision, addressing the

allocation of capital to a Dutch branch of a Belgium bank under Article 7(2) of the BelgiumNetherlands Treaty. Article 7(2) of that treaty, like Article 7(2) of the U.S.-U.K. Treaty, provides a separate enterprise principle and is based on the O.E.C.D. Model Treaty provision. The decision was reported in the International Tax Law Reports (7 ITLR 1) as Re X Bank (Europe) SA (Judgment date 25 February 2004), together with an unofficial English translation. 4. The Belgian Bank filed its Dutch corporate income tax return, claiming interest expense

and a resulting net loss in reliance on the books prepared for the branch. (Ex. B at 20-22.) As in this -3-

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case, the branch's balance sheet showed assets equal to liabilities and no capital. (Id. at 21.) The booked net loss resulted in negative branch capital, but the Bank had substantial capital. (Id. at 22, 26.) 5. The Dutch court attributed capital to the branch and limited deductible interest expense.

The court concluded it was clear that the branch made use of some of the Bank's substantial capital. (Ex. B at 22.)1 In the court's view, it was "not plausible" that the capital prescribed by Belgian authorities served only as surety for the conduct of business in Belgium and not at all the Dutch branch. (Id. at 30.) Analyzing the independence principle in the treaty, the court concluded that the Dutch branch therefore had "own" capital that was recorded elsewhere on the Bank's books and that must be allocated to it. (Id.at 26-32.) 6. The court determined the amount of the branch's "own" capital. It was satisfied that

the Dutch Revenue Department had "established a link" between the Bank's recorded capital and that of its Dutch branch.2 (Ex. B at 30) Likewise, it noted that it was up to the Bank to explain why the branch did not have any recorded own capital and the bank's recorded capital should not serve the branch at all. (Ibid.) The bank failed to produce such evidence (other than to say, as plaintiff offers here, that interest is a normal business cost to banks). The court as a result concluded it was reasonable to calculate the branch's own capital by multiplying its risk adjusted assets by the Bank's

Similarly, this Court ruled that "a branch of a foreign bank relies on the worldwide capital of the enterprise of which it is a part." National Westminster Bank PLC v. United States, 58 Fed. Cl. 491, 494 (2003). Mr. Farrant's report (Ex. A) establishes such a link here between plaintiff's and its U.S. branches' capital.
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ratio of capital to risk adjusted assets (i.e., its BIS ratio). (Id. at 30-31; see also id. at 22-23.) The Bank's calculated BIS-ratio was 10.2%. (Id. at 24, 26.) 7. The Dutch court accordingly sustained the Revenue Department's disallowance of

interest expense, calculated by multiplying the Amsterdam Inter-Bank interest rate by the branch's own capital, determined in the manner described above. (Ex. B at 23-25, 30-31.) Respectfully submitted,

s/Steven I. Frahm Attorney of Record U.S. Department of Justice Tax Division Court of Federal Claims Section Post Office Box 26 Ben Franklin Post Office Washington, D.C. 20044 (202) 307-6504 EILEEN J. O'CONNOR Acting Assistant Attorney General MILDRED L. SEIDMAN Chief, Court of Federal Claims Section November 24, 2004

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Case No. 95-758T

IN THE UNITED STATES COURT OF FEDERAL CLAIMS (Judge Nancy B. Firestone) NATIONAL WESTMINSTER BANK PLC, Plaintiff v. THE UNITED STATES Defendant

____________________ U.K. REGULATORY CAPITAL REQUIREMENTS APPLICABLE TO THE OPERATIONS OF U.S. BRANCHES BY U.K. BANKS ____________________

Report for the United States Department of Justice Tax Division Washington, DC U.S.A.

by Richard Henry Farrant Berkshire, England November 19, 2004

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I.

INTRODUCTION

I am asked by the U.S. Department of Justice, based on my experience and in relation to the period from 1981 to 1987 [referred to below as "the relevant period"], to: · identify the regulatory authority(ies) responsible for the regulation of banks in the U.K. and describe the U.K. regulatory process applied to the capital adequacy of U.K. banks operating in the U.S.A. through branch establishments; discuss the relevant rules, guidelines, expectations, both formal and practical, regarding the level of capital to be held by U.K. banks with U.S. branches, and the determination of incremental capital attributable to a U.S. or other foreign branch of a U.K. bank, both when a branch begins operations, and thereafter; describe the consequences of failure by a U.K. bank to adhere to regulatory requirements or expectations. MY BANKING SUPERVISORY EXPERIENCE

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II.

As discussed in detail below, banking regulation in the United Kingdom during the relevant period was conducted primarily by the Bank of England. I was employed by the Bank of England from 1967 until 1994, and involved in its banking supervision activities from 1976 until 1994, although this included two periods in 1983 and 1984 to 1986 when I was lent to the Isle of Man and Hong Kong respectively to help their governments deal with banking crises. From 1978 until 1983, and from 1986 to 1994 I was directly responsible for the Bank of England's regulatory policy (including in relation to capital adequacy), initially as manager, and subsequently as an Assistant and then Deputy Head of Banking Supervision. I was a member of the Basle Committee of bank supervisors from Group of Ten countries. In 1994, I became chief executive of the Securities and Futures Authority, the then regulator of U.K. securities business, and in 1997 became managing director of the Financial Services Authority, established to unify U.K. financial regulation, including banking regulation. I resigned from that position in 1999, and from 1999-2000, on behalf of the Hong Kong Government, I led an investigation to identify the causes of the failure of Hong Kong's largest investment bank. At the present time, I am Chairman of the Banking Code Standards Board, an organization composed of more than 150 subscribing banks and building societies, whose purpose is to ensure standards of good practice and to discipline subscribers that breach those standards. I was educated at Oxford University. I have attached my complete Curriculum Vitae as Exhibit A to this Report.

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III.

EXECUTIVE SUMMARY 1. The Bank of England was the bank regulatory authority responsible for supervising the activities of U.K. banks such as National Westminster Bank PLC during the years at issue, including the adequacy of their capital. 2. The Bank of England used a Risk Assets ratio to determine whether clearing banks, such as National Westminster Bank PLC, had adequate capital. The Risk Assets Ratio compared a bank's capital to its risk adjusted worldwide assets. A bank's worldwide assets for purposes of the ratio included the assets of its branches in the United States. 3. The Bank of England determined the Risk Assets Ratio required of each bank based on its individual circumstances. Generally, the necessary Risk Assets ratio imposed ranged between 8% and 15%, with large, risk diversified clearing banks like National Westminster Bank PLC being at or near the 8% level. 4. The Bank of England's determination of adequate capital included capital computed by reference to the risk adjusted assets of a bank's U.S. branches. 5. The Bank of England's capital determination for a specific bank would normally be met by capital held at its U.K. headquarters and recorded on the books of the banking enterprise as a whole. However, it would not object to capital required against a bank's U.S. branch assets being held and recorded on the books of the U.S. branches. 6. Thus, based on Bank of England standards and practice at the time, it is clear that National Westminster Bank PLC held additional capital to support its branch operations in the United States. By "additional capital" I mean an amount of capital over and above the capital it would have had absent its six U.S. branches. In particular, I expect National Westminster Bank PLC had additional capital in the vicinity of 8% of the risk adjusted assets of the six U.S. branches. 7. I cannot be more precise about the capital actually maintained during the years at issue to support the U.S. branches, because the Court's ruling on July 16, 2004 precludes inquiry into this issue. 8. The Bank of England mainly relied on informal pressure to ensure large banks maintained their capital requirements, although it had reserve legal powers, which were strengthened in 1986.

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IV.

ANALYSIS A. The regulatory process in 1981-1987

Following a crisis of confidence in small U.K. banks in the mid 1970's, requiring emergency liquidity support arranged by the Bank of England (referred to as "the Bank"), the Bank started formal supervision of all U.K. banks, initially without statutory backing. This was replaced by a statute based structure in 1979, when the Banking Act 1979 was implemented. This introduced a 2 tier regulatory structure, administered by the Bank of England. All businesses of taking deposits from the public must be licensed by the Bank as deposit-taking businesses, unless it "recognised" them as banks. National Westminster Bank became a recognised bank. The Bank had formal powers to require information and to direct licensed deposit takers, but no formal powers over recognised banks other than to withdraw recognition and thereby force them to seek licensed deposit taking status, or to apply to the courts to wind up an insolvent recognised bank. The theory underlying this was that the Bank did not wish to disturb its good informal relationship with recognised banks by acquiring formal powers over them, and could rely on its informal persuasive powers to ensure compliance with its wishes. However, the failure of a recognised bank in 1984 (Johnson Matthey) discredited this arrangement, and a new Banking Act was passed in 1986, which in broad terms abolished the category of recognised bank and extended the Bank's statutory powers to cover all deposit taking businesses. National Westminster Bank sought and was granted licensed bank status under the new Act. In reality, the process of supervision in relation to the capital adequacy of the major banks, including National Westminster Bank, remained largely unchanged. In 1986, the London Stock Exchange agreed with the U.K. competition authorities to open up its membership to banks and banking groups, and this set in train a progressive loosening of previous barriers to entry in different specialised financial activities. The Financial Services Act, passed in 1986 and implemented over the next 2 years, required financial institutions, including banks, to seek separate authorisation for most forms of securities trading, investment management and investment advice from a number of self-regulatory bodies or the Securities and Investments Board (which supervised these self-regulatory bodies). From the end of 1987 these bodies began to impose their own capital requirements on banks' relevant activities within the U.K., which were "carved out" of the Bank of England's requirements, but this would not have had a material effect until 1988 at the earliest. They are in any case not relevant to U.S. branches of U.K. banks in the 1980's, since they did not apply to activities outside the U.K., and such activities were not then permitted in the U.S.A. by U.S. regulation. I conclude that the only relevant regulatory process during the relevant period was that administered by the Bank of England. B. Relevant rules, regulations and policies

The Banking Act 1979 and its 1986 successor required licensed deposit taking institutions and recognised banks to be fit and proper. One of the criteria for fit and properness was to have adequate capital for the range and scale of its business activities, including activities conducted outside the U.K., with the Bank empowered to decide how this should be measured and assessed. Following consultations with the banking industry, the Bank issued a series of policy statements describing how it would do this. The policy statements are attached to this Report as Exhibit B and consist of the following:

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· · · · · · · ·

The Measurement of Capital, September 1980 (the general framework) BSD/1983/1 (relevant section is treatment of large risk concentrations) BSD/1985/2 (treatment of revolving underwriting facilities and note issuance facilities) BSD/1986/1 (treatment of very large risk concentrations) BSD/1986/2 (further definition of subordinated debt eligible for capital base) BSD/1986/3 (general framework for consolidated supervision) BSD/1986/4 (eligibility of redeemable preference shares for capital base, and detailed adjustments to some risk asset categories) BSD/1987/1 (new general framework for large risk concentrations)

The key document is the Measurement of Capital, September 1980, which sets the basic blueprint that applied throughout the relevant period. (Bracketed references below refer to paragraphs of this document.) The important considerations for the purposes of U.K. capital requirements in relation to the operation of U.S. branches by large U.K. banks are the following: · In assessing the capital adequacy and risk exposure of banking groups, it is necessary to take account of the business of all the branches at home and abroad (as well as the majority owned subsidiaries engaged in the banking business). (see paragraph 5). Two standard capital adequacy measurement techniques were utilized: The Risk Asset Ratio and the Gearing Ratio. Regulatory priority was applied to the Risk Asset Ratio. (see paragraph 8). The Risk Asset Ratio compared the quantity of capital and certain other liabilities which are capable of being set against losses without detriment to the interest of depositors in the bank (described as "the capital base"), with the total of the bank's assets after pro forma adjustment for their relative riskiness. Assets which were considered on average riskier than a typical loan to a business or individual customer were adjusted to a higher value than their balance sheet value, while assets considered to be less risky were adjusted to a fraction of their balance sheet value. The total of these assets so adjusted was described as the bank's "risk assets". The theory was that there should be a minimum safety margin of funds which could absorb losses against the risk of possible losses inherent in the bank's business measured by its risk assets. The Gearing Ratio compared the capital base with the current liabilities of the bank. The theory was that there should be a minimum safety margin of capital which could absorb losses against the total of liabilities which would have to be repaid even if losses were incurred. The Bank's approach to the assessment of capital adequacy was intended to be flexible, taking into account the individual circumstances of each bank, and not to

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prescribe a precise numerical guideline for the capital needs of all institutions or groups of institutions. (see paragraphs 3, 4, 10, and 32). · Capital adequacy of each bank was left to private determination by the Bank of England, after confidential discussions with the bank, according to each bank's circumstances. While the Bank vigorously opposed a bank's disclosure of the capital requirements the Bank determined, I recall that it was generally thought that the range of minimum risk asset ratios applied across the banking system was broadly from 8% for the largest and most risk diversified clearing banks, to 15% or more for small or new banks without a diversified business; The Bank placed high priority on tightly defining capital (described as the capital base in the document) in these ratios, since any change of capital has a hugely magnified effect on the ratio compared with a change of similar arithmetic size in risk assets or non-capital liabilities. Although the Risk Asset Ratio featured 8 different categories of risk assets, these were broad brush categories (see Appendix A of the document); Capital could include subordinated loans with an initial and remaining term of at least 5 years (and meeting certain other conditions), on which interest would be payable, However, subordinated loans could not provide more than one third of the total capital base (after adjusting for goodwill and other intangible assets). A reducing proportion of such capital would be included as its remaining term fell below 5 years; Assets were measured net of any provisions held specifically against their known diminution in value (see paragraph 20 of the document). But reserves and "provisions" which were freely available to absorb future losses not presently identified could be included in the capital base (see paragraph 21). Provisions against known or anticipated tax liabilities were excluded from the capital base (see paragraphs 22 and 23). As stated above, the intention was to apply the capital adequacy measures to worldwide assets of U.K. banks, and also on a consolidated basis to the subsidiaries of U.K. banks on a worldwide basis. Since, at that time the routine statistical returns only covered U.K. business, discussions would be held with banks to agree on an appropriate statistical framework for the classification of assets held abroad. (see paragraph 34).

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·

The other documents listed above, and attached to this report, are included for completeness. They introduced more detail to the policy set out in the Measurement of Capital paper of September 1980, but this detail is unlikely to have impacted significantly on the application of capital adequacy to business conducted by the U.S. branches of National Westminster Bank in the relevant period.

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C.

Capital adequacy policy applicable to clearing banks such as National Westminster Bank

The Bank of England's regulation of clearing banks in the relevant period, including National Westminster Bank, reflected their special position in the U.K. banking system. The four English clearing banks dominated U.K. retail banking, and were the key U.K. incorporated banks with large banking operations abroad, including in the U.S.A. Within the Banking Supervision Department in the Bank of England, one division of 6 to 8 people covered them and the four much smaller Scottish and Northern Irish retail banks, supported by a manager and a Deputy Head of Banking Supervision. These banks accounted for almost 10% of the total Banking Supervision staff, although there were then 600 banks recognised or licensed by the Bank at the time. These very large banks were supervised on an annual cycle, based on information specially commissioned from each bank. Once per year, the Bank, following discussions with each bank, would decide a programme of supervisory review tailored for it. This would then be pursued throughout that year. The review might include particular business streams, of which operations in the U.S.A. might be one, or particular aspects of the whole business, such as capital adequacy, or group management structure. The Bank would identify the specific information it needed for these reviews. This was in contrast to the supervision of all other banks, which broadly followed a quarterly (i.e. three monthly) cycle, reflecting their simpler business model and much smaller scale, and was usually based on the routine statistical returns made by that bank. One reason why the very large banks, such as National Westminster Bank, were supervised on an annual cycle based on specially commissioned information was that until 1986 the Bank's routine statistical returns covered U.K. resident business only. This reflected their original purpose for monetary and economic policy observation. A new set of half-yearly returns on a worldwide single entity and consolidated basis was introduced in 1986, but it would not have been until after the end of the relevant period that reliance would have been placed on it for supervising the largest banks. The Bank was keenly interested in promoting international cooperation and coordination of the supervision of internationally active banks: it played a key part in the development of international agreements at Basle in this area; and sought to foster close working relations with supervisors of banks in U.K. headquartered or owned elsewhere, and with foreign supervisors of the activities of U.K. banks abroad. The Bank had very close working relationships with the U.S. Federal Reserve System and the Comptroller of the Currency, and good relationships with the FDIC and New York State banking regulator. The Bank encouraged inspections of foreign banks in U.K. by their parental supervisors, although during the period under review the Bank did not employ on site inspection abroad of U.K. banks. However, it did routinely discuss the outcomes of inspections by U.S. regulators of U.S. branches of U.K. banks (although I believe it did not have direct access to the inspection reports themselves). The Bank did not apply capital adequacy requirements to branches of foreign banks in the U.K., although where it was clearly dissatisfied with the headquarter supervision of a foreign bank, it would insist on the foreign bank's operations in the U.K. being conducted in a U.K. incorporated subsidiary, subject to full U.K. capital adequacy requirements. It is my understanding that U.S. bank regulators also did not apply capital adequacy requirements to U.S. branches of U.K. banks, and relied instead on the U.K.'s capital adequacy determinations.

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Although there was no specific written policy, the Bank made clear that banks should discuss with it major new business initiatives, notably the commencement of foreign operations by U.K. banks. In some cases, these developments would not be permitted at all, where the Bank considered the risks could not be contained sufficiently. In other cases, they might be permitted within defined parameters, or on the basis that a higher Risk Asset Ratio or additional liquidity safeguards would be imposed. These would later be reviewed after the new business had bedded down, usually after a year or two. Other than the routine coverage of U.S. branch assets by the Risk Assets Ratio, I would judge that it is unlikely that National Westminster Bank would have had any additional capital requirements imposed on it arising from its U.S. branch operations in the 1980's. But I would judge that it is likely that the general business model and management of its U.S. branch business would have been included within the yearly review cycle during the relevant period. D. Adherence to capital adequacy policy requirements

As already described, the Bank set Risk Asset Ratio requirements for each U.K. bank, according to its perception of its circumstances. The process involved discussion, and for recognised banks (such as National Westminster Bank) could be described as a one-sided negotiation, since the Bank had no formal powers to impose its will, other than to withdraw the bank's status as a recognised bank. A similar approach applied to dealing with failures to maintain the agreed requirement. At the start of the relevant period, in 1981, the Bank was still new to statutory supervision, and its approach was softer and more open to persuasion than it was at the end of the period, in 1987. By then, it had more experience and had become less tolerant. The status of recognised bank had been discredited by the failure of one of them, and had been abolished in the 1986 Banking Act. The Bank then acquired comprehensive legal powers over all banks, and was much more disposed to use them rather than rely on persuasion. These powers included all the usual powers to require information, directly inspect and give supervisory directions to any licensed institution, including imposition of new management, temporary cessation and/or termination of parts of the business, and application to the courts for court supervised administration and winding up. As the Bank's attitude hardened towards the end of the relevant period, capital adequacy requirements increasingly took two forms: (1) a "trigger" ratio, triggering supervisory concern and an agreement on remedial action within a specified time, with subsequent tracking of remedial performance; and (2) a hard limit, where there was clear expectation of formal supervisorily imposed remedial action. (However, these only became an explicit part of policy when the 1988 Basle Accord on the capital adequacy of internationally active banks was implemented, after the end of the relevant period.) The U.K. clearing banks were thought to have trigger ratios of ½ to ¾% above the hard limit applied to them, although I am not confident as to when or how clearly this would have been articulated during the relevant period. It is very unlikely that National Westminster Bank was subject to use of formal powers during the relevant period. Assuming the National Westminster Bank had a hard limit of not less than 8% in the relevant period, it is reasonable to assume that it would have been reluctant to allow its actual Risk Asset Ratio fall below 8 1/2%, using the formulation of the ratio described in the Measurement of Capital policy document of September 1980.

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EXHIBIT A CURRICULUM VITAE OF RICHARD HENRY FARRANT

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RICHARD HENRY FARRANT
Lane Farm, Cherry Garden Lane, Maidenhead, Berkshire, SL6 3 QG, England Phone / fax +44 (0) 1628 822729 Email [email protected] Date of birth: 20 May 1945

Married with two sons Education: 11 `O' Levels: 3 `A' Levels; 1 `S' Level; Honours BA in Politics, Philosophy and Economics (Oxford University)

CURRENT ACTIVITIES 1. Banking Code Standards Board. Chairman. The BCSB is a company, established by the banking and building societies industry to promote good standards and practice in banks' services for personal and small business customers, as a better alternative to statutory regulation by the Financial Services Authority. Its remit is to police two Banking Codes, to ensure they set minimum standards of good practice, and discipline subscribers who breach it. There are now over 150 subscribing banks and building societies. 2. United Financial Japan International plc. Vice-Chairman and Chairman of the Audit and Compliance Committee. A UK investment bank (£450 mns issued capital and reserves ) with two businesses: proprietary trading in a number of different security markets; and acting as an international securities brokerage and advisory house for Japan related customers. As the Chairman is resident in Japan, I act as de facto day to day Chairman. 3. Institute of Chartered Accountants of England and Wales Investigation Committee. Chairman. This Committee supervises investigations into malpractice by chartered accountants and acts as a disciplinary tribunal for all offences not involving expulsion from membership. I am a lay (ie. non-accountant) member. 4. Sustrans. Chairman and senior trustee. Sustrans is a company and charity which initiated and co-ordinates development of the 10,000 mile National Cycle Network and the national Safe Routes to Schools programme in UK, as part of its role to promote sustainable transport. It has 40,000 financial supporters, and spends approximately £12 mns per year. 5. Occasional consultancy and lecturing assignments. The consultancies have been in the financial business area, covering a range of financial regulatory, banking and governance issues, in Hong Kong, New Zealand, Russia, South Africa and Argentina. The lecturing has been mainly associated with the Toronto International Leadership Centre for Financial Sector Supervision.

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PAST POSITIONS AND CAREER 2000 ­ 2003. Gas and Electricity Markets Authority. Non-executive director and member of the Audit Committee. GEMA was established on 1st December 2000 to unify and administer the regulation of the gas and electricity industry. I retired following completion of two terms of office. 1997 - 2002. City Financial Law Panel. Panel member. The FLP's purpose was to find practical solutions for problems which affect the wholesale financial markets resulting from legal uncertainty. The Panel acted as a test bed for professional analyses of suggested solutions. The panel was composed of a Law Lord, a senior judge, senior practicing lawyers, senior public officials, and industry practitioners. It was absorbed into the Bank of England's Financial Stability Division in 2002. 1999 ­ 2000. Hong Kong Government. Companies Ordinance Inspector into the affairs of Peregrine Investments. Peregrine Investments was Hong Kong's biggest investment bank until its collapse in 1998. The terms of reference called for me to identify the causes of its failure, judge the culpability of directors and senior managers, and identify lessons and possible public policy reforms. This required establishing a team of five persons and an office in Hong Kong. Large quantities of data had to be researched, analysed, and judged. My Report was published, and disqualification proceedings against the directors I criticised are in train. 1997 ­ 1999. Financial Services Authority. Chief Operating Officer and Managing Director. I was responsible to the Executive Chairman and Board for managing the merger of 10 existing financial regulators into the FSA, while not permitting day to day regulatory standards to slip. This included responsibility for finance, accommodation, human resources, information technology, overall day to day executive management, and relations (including service level standards) with the Boards and Commissions of the existing regulators. I resigned following the successful completion of the merger on time and under budget, in order to broaden my interests. 1993 ­ 1997. Securities and Futures Authority. Chief Executive and Director, responsible for the regulation under the Financial Services Act of 1,360 firms involved in the securities, commodities and derivative markets. I resigned following appointment to the Financial Services Authority, which took over the functions of the Securities and Futures Authority. 1967 ­ 1993. Bank of England. I followed a varied career path, including periods of overseas secondment to Washington DC, the Isle of Man and Hong Kong. My last role in the Bank of England was Deputy Head of Banking Supervision. I resigned from the Bank of England following appointment to the SFA.

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EXHIBIT B BANK OF ENGLAND POLICY STATEMENTS

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BSD Notices o BSD/1983/1 Notice to recognises banks and licenced deposit-takers (April 1983)
(April 1983) The implementation of the Banking Act 1979 resulted in the recognition of about 300 banks and the licensing of another 300 deposit-taking institutions; many of the latter were new deposit-takers and others that had not previously been subject to the voluntary arrangements for supervision introduced by the Bank in 1975. In the course of its supervision the Bank has identified a number of matters which it feels should be drawn to the attention of authorised institutions generally. Though most of the points set out in this notice will concern only a minority of institutions, it is being addressed for information to all institutions authorised under the Banking Act. The Bank is ready to discuss with individual institutions the application of these points of guidance.

1 Connected lending
Assessment of the risks attaching to loans to companies or persons connected with the lending institution, its managers, directors or controllers, may be obscured by subjective considerations. In the Bank's view such lending can be justified only when undertaken for, the clear commercial advantage of the lending institution and should be negotiated and agreed on an arm's length basis. The Bank does not normally expect connected business to form a significant proportion of assets. However it does not think it appropriate to set a single threshold figure, applicable in all circumstances, to the total amount of this type of lending since lending can be "connected" in many different ways. In the course of its supervision the Bank has therefore to make a judgement about the degree of connection to be attributed to an institution's loans and its acceptability. In order to do so, it requires full information on all matters relevant to each loan which may be of this kind. When connected lending on any scale exists or is contemplated, institutions should discuss and agree with the Bank the extent of such lending appropriate to their particular circumstances. As stated in the Measurement of Capital paper, paragraph 26(i), lending to subsidiaries and associated companies which has the character of capital is normally deducted from the capital base of the lending institution. Furthermore, there may be occasions when either under the terms of the lending agreement or by virtue of the financial circumstances of the borrower, connected lending is closer to an injection of risk capital than the provision of a loan of certain value. In such cases the Bank may require the amount of this lending to be deducted from the capital base for prudential calculations.

2 Annual accounts and returns to the Bank of England
The Bank expects to receive copies of the annual report and audited accounts of each supervised institution not later than 6 months after the end of the institution's financial year and preferably within 3 months. The Bank also expects to receive regular returns within the time specified for each return, since the Bank's system of supervision depends in large measure on the information shown in these returns. Failure to submit returns on time, or to file accounts within 6 months of its year-end, may lead the Bank to review whether the institution concerned continues to meet the criteria in Schedule 02 to the Act.

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3 Large loans to individual customers
If has become clear that some institutions are not sufficiently aware of the need to keep the size of individual exposures within prudent limits. An important measure of capital adequacy used by the Bank is the Risk Asset Ratio* which calculates the adequacy of capital in relation to the risk of losses which may be incurred. That calculation takes no account of concentration of risk and the Bank in judging the level of the risk asset ratio appropriate for an institution assumes a good spread of assets. However, where it identifies undue concentration of risk, it will expect a higher ratio to be maintained. It follows that an increase in concentration will normally lead to a review of a previously indicated risk asset ratio, with a presumption that a higher ratio will be needed. * See paragraphs 29, 34 of the Bank's paper. The Measurement of Capital (September 1980) Experience suggests that exposures (loans, acceptances, guarantees, etc) to one customer or group of customers should not normally exceed around 10% of an institution's capital base.[2] Lending on such a scale should in any case be made only after the most careful credit assessment, against good and sufficient security and if the directors of the lending institution are confident that such exposure can be justified to the Bank. The more an individual exposure exceeds 10% of the capital base, the more rigorous the Bank will be in requiring justification. If loans in excess of 10% of the capital base have been or are to be made, the institution will normally be requested to maintain a level of capital resources significantly higher than that which would otherwise be required. [2] Adjusted as set out under the heading "Risks Asset Ratio" in Appendix B of The Measurement of Capital paper

4 Risk of fraudulent invitations to lend/borrow/intermediate
Institutions appearing on the lists of authorised institutions published by the Bank - particularly smaller institutions in the licensed deposit-taker sector - may find that they are approached by persons unknown to them suggesting participation in very substantial business out of all proportion to their normal scale of activities. These approaches often concern international activities (involving foreign currencies or gold) and are said to be of a confidential nature. Often these approaches are made with the object of committing a fraud. While tactics may vary, the object of the fraud is usually to induce the institution approached either to make payments itself (eg in the form of advance commission or expenses) or to take some action which may lend plausibility to a story to be told to another institution. For this latter purpose any letter using an institution's printed stationery, even a simple letter declining the offer of funds, may be turned to advantage by those perpetrating the fraud. If business of any substance is offered to an institution without a proper introduction from a trusted customer or financial associate, extreme care should be exercised in authenticating the nature and origins of the transaction and the bona fides of the agent introducing the business. The Bank asks to be informed of all offers which are considered dubious so that appropriate warnings may be given to other institutions. In doing so, the Bank will exercise the greatest care to respect any necessary confidences.

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5 Floating charges
Deposit-taking institutions are reminded that they should not give floating charges over their assets as security for their own borrowing from banks or other sources. Where a lender seeks security in the form of a charge over assets, that charge must either be applied to specific assets or limited to a certain proportion of specified assets, such as hire purchase agreements, in order to ensure that there would always be sufficient unencumbered assets to meet the claims of depositors in a liquidation of the company. The Bank expects to be informed in advanced of any agreement which would create a charge on an authorised institution's assets.

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BSD/1985/2 Off-Balance Sheet Risks: Note Issuance Facilities/Revolving Underwriting Facilities (April 1985)
Off-Balance Sheet Risks: Note Issuance Facilities/Revolving Underwriting Facilities (April 1985) 1. Pressures on banks' capital adequacy ratios in recent years have contributed to a significant growth in off-balance sheet instruments not all of which are currently captured in the prudential measurement of capital and liquidity. This has lead not only to a growth in such new instruments but also to banks taking on such obligations on terms which, in the Bank's view, do not properly reflect the risks involved. The Bank, therefore, wishes to set in train a review, in consultation with banks and other institutions of the range of off-balance sheet risks to which they may be exposed in order to assess those risks more accurately. This review will include the treatment of more traditional and well-established contingent liabilities as well as instruments which have been developed more recently. An area of particular concern arises from the obligations assumed by institutions which act as underwriters of note issuance facilities* or revolving underwriting facilities. The Bank considers that these obligations represent a long-term credit risk for an underwriting bank**, as the bank can be called upon to honour its undertaking to lend at any time during the life of the facility, including circumstances in which the financial position of the borrower has deteriorated and when it might otherwise prefer not to lend. This obligation is different from normal underwriting engagements where, unless the issue has been wrongly priced and is left with the bank, a bank's obligation to the borrower terminates when the issue has been completed. * For the purpose of this notice, these facilities are defined as arrangements which enable a borrower to raise funds through the issue of short-term paper, where the availability of funds is in effect guaranteed by a bank or a group of banks underwriting the issue of paper by the borrower. These include facilities arranged for both bank and non-bank borrowers, where the paper is issued in the form of certificates of deposit or promissory notes. They may also include multicomponent facilities under which the underwriting institutions may make available alternative funds if the borrower chooses not to make an issue of the notes. ** For the purpose of this notice, the term "bank" includes recognised banks and licensed deposit-taking institutions. 3. Although many facilities now include a condition involving any material adverse change in the financial position of the borrower, the Bank considers that an underwriting bank could find itself under strong pressure to provide funds, particularly where there is a long-term relationship between the borrower and the bank. The Bank therefore considers that a bank's underwriting obligations under a note issuance facility should be included in the measurement and assessment of this capital adequacy. The Bank will henceforth, as a provisional measure, treat all such obligations as contingent liabilities for capital adequacy purposes and will include them at a weight of 0.5 in the calculation of the risk asset ratio, whether or not the facility has been drawn down by the borrower. Where an institution holds paper issued under a note issuance facility of which it is an underwriter, its holding of the paper will be weighted as a balance sheet item, and the amount of its underwriting obligations reduced accordingly.

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5.

From discussions which the Bank has had with individual institutions, it is clear that many institutions already include underwriting obligations under note issuance facilities within their existing credit limits for individual borrowers. The Bank believes that this is a prudent practice and that it should be adopted by all banks underwriting these facilities. It is important that an underwriting institution makes a full credit assessment of a borrower under a note issuance facility in the same way as it would if it were making an advance, and that it keeps its exposure under continuous review during the life of the facility. An underwriting institution should also ensure that in managing its liquidity it takes account of the possibility that it may be requested to take up at short notice any unsold notes issued by the borrower. Although the Bank does not apply capital adequacy requirements to UK branches of overseas banks, the Bank nevertheless wishes to monitor branches' activities as underwriters of note issuance facilities and to include these obligations in measuring an institution's large exposures to individual customers. Branches of overseas banks should therefore report their underwriting obligations under these facilities to the Bank. Treatment of these obligations of overseas branches for capital adequacy purposes is of course a matter for the authorities in the home countries of these banks. The issues raised in this note have been discussed by the Bank with the authorities in the major industrialised countries who are also considering their own arrangements in respect of this business. A statistical notice to all reporting institutions is being issued at the same time as this notice. In future an institution's underwriting obligations under a note issuance facility should be reported separately, as a contingent liability, under item 13.7 on the form Q7 or under item 7.6 on the form B7, as appropriate. These obligations should also be included where appropriate, under item 20 on the form Q7, or under items 11 and 12 on the form B7. The increasing scale of many banks' obligations under note issuance facilities has prompted the Bank to bring them within the measurement of the risk asset ratio at an early stage. The Bank recognises that some of these facilities may be arranged for a bank borrower. In such cases there will initially be an inconsistency between the weight (0.5) given to all obligations under these facilities and the weight given to market lending to monetary sector institutions (0.2). This matter will, inter alia, be taken up in the broader review of off-balance sheet exposure referred to in paragraph 1.

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10. Meanwhile the Bank is willing to discuss the impact of the introduction of this policy with any institution the calculation of whose capital adequacy will be materially affected.

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BSD/1986/1 Large Exposures in Relation to Mergers and Acquisitions (February 1986)
Large Exposures in Relation to Mergers and Acquisitions (February 1986) 0. A number of proposals for large mergers or acquisitions have recently been launched. It appears to the Bank that there has been a significant change in the scale and nature of banks'* traditional involvement in facilitating these transactions. In particular the Bank has noted arrangements or proposals for banks or banking groups: * For the purpose of this Notice, references to banks should be taken to include recognised banks and licensed deposit-takers. i. ii. to acquire significant strategic shareholdings in companies involved; to buy individual subsidiaries from a group involved.

The Bank wishes to make clear its attitude to these arrangements in the light of its responsibilities under the Banking Act 1979. 1. Until further notice the Bank expects banks and banking groups to give it prior notification of their intention to enter into these types of transactions or any similar transactions. The Bank will not normally regard as prudent such acquisitions of shares in a company which, taken together with existing exposures to that company or group, exceed 25% of the bank's or banking group's capital base. Moreover, the bank will in certain circumstances treat acquisitions of such shares as though they were investments in subsidiaries and will deduct the value of the investment from the capital base. The Bank will not give special treatment to vehicle companies which do not have the effect of transferring the risk of the exposure from the bank or banking group. Where a bank or banking group is already committed, the Bank will discuss with these banks arrangements to bring their position into line with the Bank's requirements as soon as possible.

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BSD/1986/2 Subordinated loan capital issued by recognised banks and licensed deposit-takers (March 1986)
Subordinated loan capital issued by recognised banks and licensed deposit-takers (March 1986) 0. On 28 November 1984, the Bank issued a consultative note entitled "Subordinated Loan Capital issued by Recognised Banks and Licensed Deposittakers". (For the purpose of this Notice, references to banks should be taken to include recognised banks and licensed deposit-takers.) The note addressed various matters relating to issues of loan capital by banks, and formed the basis for detailed discussions with the banking community about the arrangements applying to bank holdings of debt issued by banks for capital adequacy measurement purposes, the inclusion or perpetual subordinated debt in a bank's capital base and the supervisory treatment of all forms of subordinated debt issued by banks. The Bank has since published the text of two letters* addressed to the British Bankers' Association reporting progress on these matters as discussions with the banks have proceeded. This Notice sets out the Bank's policy on these matters and as such is to be regarded as an addendum to the Bank's paper "The Measurement of Capital" (September 1980). References in this Notice to "The Measurement of Capital" are to this paper. * 16 May and 8 October 1985

1.

2. Bank holdings of subordinated loan capital issued by other banks
3. The Bank is strongly committed to the principle that, in assessing capital adequacy any investment made in the capital of another bank, whether in the UK or overseas. should be deducted from the holder's capital base, to ensure that the same capital is not used by more than one institution to support its operations. Deduction applies to any subordinated loan capital issued by a UK bank authorised under the Banking Act 1979, or by a bank overseas. It also embraces holdings of subordinated and unsubordinated loan capital issued by holding companies of such institutions or financing vehicles within banking groups**. ** The principle of deduction applies to equity as well as loan capital but the concessions explained in this Notice apply only to loan capital if necessary - and presently banks holdings of equity are not great further consideration may need to be given to the treatment of holdings of equity. 4. In recognition of the important role played by a number of banks in making a market for bank capital issues, however, the Bank is prepared to consider applications from primary and or secondary market-makers for concessions from the principle of deduction.

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0. Primary market-makers
5. Those banks which can satisfy the Bank that they act as managers or underwriters for new issues of bank capital may qualify to be regarded as primary market-makers. The concession will allow such banks to hold such issues for up to 90 days from the date of issue***, after which a full deduction from the capital base will be made (unless the holding is accommodated within a bank's concession as a secondary market-maker). A bank to which a primary market-maker's concession applies will therefore be allowed to trade in issues which it has managed or under written during this 90 day period. *** The date of issue is to be taken as the day on which payment is made by the noteholders (and the first such date in the case of a partly paid issue).

0. Secondary market-makers
6. Secondary market-makers are those banks which can demonstrate to the bank that they undertake a committed and regular function as market-makers in banks' capital issues. Banks will be required to identify the particular issues for which they act as secondary marketmakers. The amount of the concession will be calculated individually for each market-maker and will normally be set within a range up to a maximum of 20% of the bank's adjusted capital base (as explained in the Measurement of Capital paper). In setting the concession for a subsidiary of a bank, which subsidiary is authorised under the Banking Act, some account may be taken of group capital. In the case of subsidiaries of overseas banks the amount agreed will, inter alia, be subject to the agreement of the supervisor of the parent bank. The concession will be set as an absolute figure and notified in writing to the bank concerned. It will apply to a bank's net long position in bank debt held at the end of each working day, including any debt sold under repurchase agreements. Further details of the scope of the concession are given in the notes for completion of a new statistical return (see paragraph 11 below).

7.

8.

0. Primary and secondary marketmakers
9. Any bank debt held under a primary or a secondary market-maker's concession will be weighted in the usual way at 1.0 in the calculation of the risk asset ratio. Other holdings of banks' capital will de deducted from the holder's capital base.

10. A holding of group paper by any entity within the bank group concerned should be maintained only on a restricted basis, which will be agreed with individual banks, and will be subject to full deduction from the capital base when calculating the capital ratios of the group on a consolidated basis. 11. Special reporting arrangements will apply in order that the Bank can monitor positions in banks' capital issues. A new quarterly Form MM is

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being introduced for this purpose. The Bank also reserves the right to call from time to time for greater detail of the primary or secondary market portfolios held within either concession. 12. The size of holdings of individual issues held within either a primary or secondary market-maker's concession will be subject to the policy being established on the treatment of large exposures. (A separate consultative document "Large exposures undertaken by institutions authorised under the Banking Act 1979" was issued in July 1985, and a further paper will be issued in due course.)

0. Primary perpetual subordinated debt
13. Subordinated debt can be structured so as to bring it close to equity in terms of the protection which it offers to depositors. The principal features which give it this quality of "primary" capital are that it can absorb losses whilst leaving a bank able to continue to trade, that it has no fixed servicing costs (ie that there are circumstances in which the borrower can defer a payment of interest without bringing itself into default) and that the proceeds of the debt issue are made permanently available to the borrower. 14. The following are the conditions which must be satisfied for an issue of perpetual debt by a UK bank to be treated by the Bank as primary capital: a. The claims of the lender on the borrowing bank must be fully subordinated to those of all unsubordinated creditors. The debt agreement must not include any clauses which might trigger repayment of the debt. This will not, however, prejudice any right to petition for the winding-up of the borrower, for example, in the event of non-payment of interest on the debt (other than that which is deferred in accordance with paragraph (d) below). No repayment of the debt may be made without the prior consent of the Bank (see also paragraph 24 below). The debt agreement must provide for the bank to have the option to defer an interest payment on the debt (eg if the bank has not paid or declared a dividend payment in a preceding period). The documents governing the issue of the debt (hereafter referred to as the debt agreement) must provide for the debt and unpaid interest to be able to absorb losses, whilst leaving a bank able to continue trading. This can be achieved by providing for automatic conversion of the perpetual debt, and unpaid interest, into share capital should reserves become negative and where a capital reconstruction has not been undertaken. In such a case the bank will be required to maintain a sufficient margin of authorised but unissued share capital in order to allow a conversion of the debt into equity to be made at any time. Alternatively, instead of providing for automatic conversion, the debt agreement can expressly provide for the principal and interest on the debt to absorb losses, where the bank would not otherwise be solvent, and for the noteholders to be treated as if they were holders of a specified class of share capital in any liquidation of the bank. In this case the debt agreement will provide for the debt to be treated as if it had been converted into share capital either on

b.

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the day immediately preceding the presentation of a petition for the commencement of a winding-up of the borrowing institution or on the date of the creditors' or shareholders' meeting at which the relevant resolution for a winding-up was passed. The debt agreement must contain an explicit warning to noteholders that the debt can be treated in this way.

0. Inclusion of primary perpetual subordinated debt in the capital base
15. The amount of perpetual subordinated debt treated as primary capital will be limited to one half of a bank's capital base as defined in the measurement of Capital paper, excluding all loan capital* and after deducting goodwill and other intangible assets. (For example, where the capital base excluding all loan capital and intangible assets is 100, the maximum amount of perpetual subordinated debt which could be treated as primary capital is 50.) 16. The amount of all subordinated debt* which can be included in a bank's total capital base will be subject to an upper limit equal to the capital base excluding all loan capital* and after deducting goodwill and other intangible assets. (Continuing the example given in paragraph 15 above, the maximum amount of all subordinated debt* which could be included in bank's capital base is 100 - for example, 50 of primary perpetual subordinated debt and 50 of term subordinated debt.) * Primary perpetual and all other subordinated debt. 17. Term subordinated debt, and perpetual subordinated debt exceeding that allowed as primary capital under paragraph 15 above, will remain restricted to a maximum of one third of the total capital base after deducting goodwill and other intangible assets. (Taking the figure of 100 mentioned in paragraph 15 above and assuming an issue of primary perpetual subordinated debt of 20, term subordinated debt of up to 60 could be included in the capital base - on the basis that the term debt of 60 does not exceed one third of the total capital base of 180.) 18. Any subordinated debt which does not qualify to be included in a bank's capital base, within the limits described in paragraphs 15-17 above, will be treated in the normal way as part of a bank's long term funding. 19. The Bank expects shortly to issue a further Notice to all institutions authorised under the Banking Act, clarifying its treatment of a number of items in the calculation of banks' capital ratios. The Notice will, inter alia, cover the treatment of redeemable shares in a bank's capital base, and this in turn will affect the amount of perpetual subordinated debt which can count as primary capital for banks which have such shares in issue.

0. Supervisory treatment of all subordinated debt
20. The Measurement of Capital paper states that subordinated loan capital which is to be included in a bank's capital base (as defined in paragraph 11 of that paper) must, inter alia, have a minimum initial term to maturity of five years, However, the Deposit Protection Scheme offers protection to deposits which have an original term to maturity of not more than five years, so giving rise to the possibility of a loan stock with a term to maturity of exactly five years qualifying both as part of the capital base and for protection under the Deposit Protection Scheme. In order to

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remove this inconsistency, the Bank has for some time required subordinated debt which is to form part of a bank's capital base to have, inter alia, a minimum initial term to maturity of five years and one day. This requirement does not affect loan capital already in issue. 21. The Measurement of Capital paper also states that in order to qualify for inclusion in a bank's capital base, the terms of a loan stock must not contain any restrictive covenants which might trigger immediate repayment. 22. The bank reaffirms that there should be no clauses in the loan agreement which can trigger early repayment of the debt. This includes cross-default claus