Billions of pounds of banker bonuses may have been paid out "by mistake" as a result of miscalculations thrown up by Britain's flawed accounting rules, an influential Parliamentary Committee has been told.
The House of Lords Economic Affairs Committee, which is investigating the role of auditors in the financial crisis, was told that the controversial International Financial Accounting Standards (IFRS) had allowed banks to hide risks so that profits and bonuses were inflated. The devastating assessment of the accounting rules was articulated for the first time by some of Britain's biggest institutional investors.
Iain Richards, of Aviva Investors, told the Lords that the IFRS system of auditing the banks had had "a material cost to the taxpayer and to shareholders" because "as a result dividend distributions have been made and bonuses have been paid that were imprudent". Mr Richards said: "The IFRS (system) is extremely pro-cyclical; it facilitated and exacerbated the credit bubble...There were some very clear risks inherent (in the banks)...the risks were extremely material."
He told the Lords that rather than highlighting the problems, the accounting standards allowed the banks to look far more profitable than they were. The financial crisis exposed the shortfall that had built up. Mr Richards said: "The double-digit billions pumped into the banks went to plug the gap created by both bonus distribution and dividend distributions that were made just preceding the crisis."
His assessment was backed by fund management heavy weights giving evidence to the Lords including David Pitt-Watson of Hermes; Guy Jubb of Standard Life Investments; and Robert Talbut of Royal London Asset Management. Mr Pitt Watson told the Lords that "we as investors and society" need to see the re-introduction of more principle-based accounting system that included prudential and on-going assessments of risks.
The "rules-based" IFRS system has been criticised for not identifying bad loans until they fail. He said that the lesson of the crisis was that "rules encourage people to go round them." He added: "If you have too much weight on rules not a professional over ride on that, we'll give ourselves another problem."
The assessment backs that of Tim Bush, the City veteran who wrote the Government in the summer warning that IFRS amounted to a "regulatory fiasco" that had contributed to the crisis and still posed a danger to the system now.
Stella Fearnley, professor of accounting at Bournemouth University, said: "Since IFRS is supposed to help investors to assess companies, I think that their obvious loss of confidence is extremely important. There needs to be an immediate overhaul of IFRS and the ASB which unleashed this defective system."