Councils blamed over Iceland savings

MPs demand investigation into Tory treasurer's financial empire

The business empire of the Conservative Party treasurer and chief fundraiser Michael Spencer should be investigated over the propriety of its dealings with local councils and other public bodies, MPs say today.

The Communities Select Committee say in a scathing report that the Financial Services Agency (FSA) should investigate whether it is appropriate for one part of Mr Spencer's ICAP empire to assist council finance officers with council investments while another part receives fees for brokering the deals. This could give rise to "actual or perceived conflicts of interest", it said. The FSA said it would consider the request.

The report comes after The Independent revealed that 51 councils who lost £470m when Iceland's banking system collapsed employed Butlers – an ICAP subsidiary – as their treasury management advisors. ICAP in turn received commission from Icelandic banks for brokering 16 per cent of those investments. It says the two divisions were "segregated" and that Butlers only gave councils credit ratings of institutions, rather than investment advice.

Painting an unflattering picture of town hall finance, the select committee acknowledged that many experts had not predicted the economic turbulence. However it said that credit rating agencies had been downgrading Icelandic banks since January 2008 and acknowledged that their soundness had been the subject of speculation in financial circles for months.

The MPs said: "This inquiry has exposed a degree of misunderstanding, misinformation, and complacency on the part of some crucial players, both within local authorities and in the wider financial sector, which contributed to the putting of taxpayers' money at unnecessary risk."

The Audit Commission – which oversees the auditing of local authorities – was guilty of "complacency" about town hall finance, the MPs say.

But the select committee reserved its strongest fire for the treasury management advisers, who set up financial systems, trained staff and passed on credit ratings to local authorities.

"Responsibility for local authorities' investment decisions lies, and must lie, with the local authorities themselves. However, the claim by some treasury management advisers that they give information only, not advice, on investment counterparty creditworthiness is, in our view, misleading," it said.

It called on the public finance body, the Chartered Institute of Public Finance and Accountancy, to warn councils "about over-reliance on treasury management advisers, whose services have been shown to be variable and, in some cases, inadequate" and urged the Audit Commission to carry out a "value for money" audit of their services.

"To allay these fears, the Financial Services Authority should investigate the services provided by local authority treasury management advisers as soon as possible and should take a more active role in their regulation."

Butlers told the committee that there was no impropriety, saying it "absolutely certain that those conflicts of interest are not breached and we operate Chinese walls."

Another company, Sector Treasury Services, owned by Capita which also acted as treasury management advisor to councils who lost money in Iceland, said: "We do not have a conflict of interest, we do not receive any commission on any time deposits for any financial institution."

Forty councils which were advised by a third treasury management adviser did not lose money in Icelandic banks because the company advised against investing in them.

Arlingclose told the committee it had declined offers from financial institutions to pay fees on investments: "In Arlingclose's opinion and experience, third party relationships and transactions can be poorly disclosed in standard terms of business, meaning that local authority clients are not fully aware of the scale of scale of commissions that can be obtained."

ICAP declined to comment.

Capita said: "The terms on which we are engaged with our clients are formally documented and understood by both parties."

The Liberal Democrat treasury spokesman Lord Oakeshott said: "This report raises grave questions of conflict of interest within ICAP. Michael Spencer must answer them."

Financial fiasco: Who is responsible?

Local authorities

Some councils relied too much on outside treasury advisers. Some made appalling errors such as failing to open emails from the advisers warning of credit downgrades. The Audit Commission criticised seven authorities for ploughing a total of £32.8m into Icelandic banks between 1 and 3 October, after they had been downgraded by the credit ratings agencies: Havering, Kent, Redcar and Cleveland, Restormel, Bridgnorth, North East Lincolnshire councils and South Yorkshire pensions authority.

Credit rating agencies

The agencies were slow to spot the underlying weakness of Iceland's tottering financial systems. Agencies downgraded the banks from January 2008 onwards, but the most serious warnings were given only days beforehand. Credit ratings should not be used "in isolation" to justify the soundness of banks, the MPs warned.

Audit Commission

The Audit Commission was complacent about local government finance when the world's financial system was in meltdown, the MPs said. The body responsible for council audits even invested £10m itself into Icelandic banks. The cross-party committee said: "The Audit Commission failed to realise that treasury management was becoming an increasingly risky area."

Financial Services Authority

The FSA gave such poor evidence about its regulatory role in local government finance that the committee wondered whether it was guilty of deliberate "obfuscation". The FSA should make up for it by immediately investigating the role of investment advisers, the MPs said.

Treasury management advisers

The committee criticised Butlers and Sector for claiming that they did not give investment advice when council memos and contracts suggested that they did.

One that got it right

None of the adviser Arlingclose's 40 local authority clients had money frozen in Iceland, as it had warned them against doing so for at least a year.

The Independent's role

The Independent exposed the amounts of funds placed in Icelandic banks by local authorities who employed each adviser – and the brokers who arranged the deals – after submitting freedom of information requests to 116 councils. The paper passed MPs information about potential conflicts of interest.

Martin Hickman