As Mervyn King, the governor of the Bank of England, defended his role in the Northern Rock crisis to members of the Treasury select committee on Thursday, the City of London was stepping up its scrutiny of the part played by the Financial Services Authority.

Sir Callum McCarthy, chairman of the FSA who is due to appear in front of the Treasury committee on October 9, has already been branded by one member of parliament as a “formal suspect” in the British banking crisis.

Investors and City analysts are questioning why the FSA – as the lead regulator of UK banks with responsibility for ensuring they are sufficiently capitalised to withstand unforeseen shocks – did not appear to have sufficient warning systems in place, as well as a contingency plan should a crisis occur. Not all criticised the regulator. One influential investor argued the FSA had been “on the side of the markets” and acted more pragmatically than the Bank.

But many investors expressed doubts as to whether the regulatory system had worked as it should. “Where was all the early management of all this?” asked one investor.

The City also wants to know why the FSA allowed the UK’s fifth biggest mortgage lender to expand so aggressively.

As a small “monoline” mortgage bank, Northern Rock derives about 75 per cent of its funding from securitisation and the wholesale markets. For rival banks such as Bradford & Bingley, the proportion is much lower, at about 50 per cent.

As far back as May 2006, Northern Rock made net new mortgage lending of 14.3 per cent, compared with its share of the mortgage market that has historically been 6.7 per cent.

By 2007, the mortgage lender was taking almost one in five of every new mortgage loans made during the first half of 2007.

One investor said: “Northern Rock has fallen foul of the dislocation in markets. But the model was always vulnerable. Why wasn’t that spotted? Why was it allowed to finance its aggressive expansion in this way?

“The system is more about risk measurement than risk management,” he said.

The FSA said it was not trying to regulate for zero failures because such an approach would stop financial innovation.

FSA executives privately say the regulatory regime does not give them the power to interfere in the running of a bank, as long as it meets the regulatory capital requirements. Northern Rock met regulatory capital requirements and satisfied all solvency requirements.

FSA insiders also point out that the regulator insists on regular stress tests. It also stepped up monitoring, recently asking Northern Rock whether it was prudent to fund itself on such a short-term basis.

But in common with other regulators across the globe, the FSA failed to predict that liquidity would completely dry up.

“This is a one-in-a-milllion event; nobody expected interbank funding to dry up,” one insider said.

Sir Callum on Thursday night began to outline lessons learned in the crisis. In a speech at the Mansion House, he urged his audience of City figures to be more transparent about exposure to assets, such as subprime mortgages.

Additional reporting by Peter Thal Larsen

Get alerts on Markets when a new story is published

Copyright The Financial Times Limited 2019. All rights reserved.

Comments have not been enabled for this article.

Follow the topics in this article