Royal Bank of Scotland Failure

The Financial Services Authority report into the failure of RBS has just been released - the report can be read here.

According to the FSA report, the collapse of RBS was due to a combination of the following factors:
  • significant weaknesses in RBS’s capital position, as a result of management decisions and permitted by an inadequate global regulatory capital framework;
  • over-reliance on risky short-term wholesale funding, which was permitted by an inadequate approach to the regulation of liquidity;
  • concerns and uncertainties about RBS’s underlying asset quality, which in turn was subject to little fundamental analysis by the FSA;
  • substantial losses in credit trading activities, which eroded market confidence. Both RBS’s strategy and the FSA’s supervisory approach underestimated how bad losses associated with structured credit might be;
  • the ABN AMRO acquisition, on which RBS proceeded without appropriate heed to the risks involved and with inadequate due diligence; and
  • an overall systemic crisis in which the banks in worse relative positions were extremely vulnerable to failure. RBS was one such bank.
However, the risk management, regulatory and supervisory failings identified in this report are only the proximate causes of the bank's failure.  It is a bit like a fire officer's report stating that the building burnt down because of a fire!  The questions we should be asking are: (1) Why did banks such as RBS take too much risk?  (2) Why did regulators and regulation fail?  It is the answers to these questions which are important if such failures are to be prevented in the future.  

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