This year’s edition of Room151’s annual treasury and finance survey revealed that more than 75% of councils have been influenced by concerns over “reputational risks” when considering dealing with authorities known to be in serious financial difficulty in the local-to-local lending market.
The public perception of doing so, or the need to have to explain to alarmed members, are just two of the reasons that have been cited for avoiding dealing with some authorities – or withdrawing from the inter-authority lending market altogether. Yet there is almost unanimous agreement that given the nature of the market, cash will always be returned.
The topic was considered during the TMS Panel at the recent Local Authority Treasurers Investment Forum (LATIF). Panellists were asked whether a standardised approach to local-to-local lending by way of accepted national criteria would help in determining whether lending was acceptable – and thus being an easier message to convey to members and help with their understanding.
However, panellist – and audience – reaction was decidedly mixed. David Blake, director at financial advisor Arlingclose, said he believed authorities should have “the freedom to choose” who they want to lend to.
“There will be different situations and circumstances, and risk profiles and interpretations of risks within different authorities, including reputational risks,” he said.
Arlingclose has a “very open counterparty list”, Blake added, only advising against dealing with authorities with an active s114 notice in place. But local authorities themselves “have put in their own restrictions”, taking into account “whether there’s been exceptional support, particular media stories or certain accounting metrics, a resilience index, or geographic location sometimes”.
Additionally, Blake said that any standardised approach or criteria would be “quite tricky to implement and upsetting if you’re on the wrong end of the cutoff and decision making”.
Mark Finnegan, lead treasury accountant at West Midlands Combined Authority, agreed, stating that councils had “perfectly reasonable metrics” to do with “debt borrowing, resilience and reserves, and having up to date data that we can rely on”.
Innes Edwards, principal treasury and banking manager at City of Edinburgh Council, noted that his authority’s criteria included avoiding authorities where commercial investment has been funded by borrowing from the PWLB. But Edinburgh overall is “very supportive” of the inter-authority market, which has “been a very good market for us”, Edwards said. “We had about 75% of assets under management tied to locals at one stage, and I see nothing wrong in that,” he added.
Edwards, who has been a treasury manager since 2000, said he had come to view his job “as almost completely risk management, in a different month, a different year”. He stated: “What we should be doing is managing risk. And in some ways, it’s not personal, but it is value judgment.
“When Thurrock had a billion pounds linked to it from other authorities, we said, ‘actually no, we won’t lend to them’. It’s something that you have to leave to the treasury manager or the authority to look at their own appetite for risk, the council’s appetite for risk, and make a value judgment in terms of what’s appropriate.”
Are trust levels falling?
Holding a slightly different viewpoint, Nemashe Sivayogan, head of treasury and pensions at London Borough of Merton, said that Merton is currently “not lending to local authorities because of the reputational risk”, with additional worries not over whether money would be returned but when among councils in financial crisis. Whether an authority will get its money back at the exact time it wants it is crucial for treasury management.
This situation contrasts sharply with when Sivayogan started working in the sector, when “most of our lending was to local authorities”. She added: “I think the risk and how much trust each council administration has is changing.”
Luke Webster, chief investment officer at Greater London Authority and chair of the panel, noted that one of the “pathologies of finances” was that “despite the fact that we all know we can’t predict the future, we will behave as if we do: that illusion needs challenging every day”.
With that in mind, he stated: “I think risk is subjective. How you weight a given risk’s importance in your own considerations, how you feel it is appropriate to mitigate that, is primarily beliefs based. While the consequences of the prospect of investments going wrong rests locally, it’s entirely reasonable that each responsible authority creates its own criteria.”
Only if that was not the case would it be “potentially legitimate” for central government to intervene “with the perception and beliefs that it has”.
However, Webster added that it “would be helpful” for organisations such as CIPFA to provide “some examples of how people define this and why these criteria are set out that might be useful for information sharing and stimulating the creative juices”.
Blake drew a comparison with the private sector. “When they’re lending to local authorities, they will do a very detailed dive on our credit word and how strong an authority is, [looking at] reputational issues as well, what they’re building, what projects are, and that will be reflected in the in the yield. There is some merit in that system too,” he said.
Criticism aversion ‘no basis for decisions’
From the audience at the LATIF conference, Khadija Saeed, head of corporate finance at Lancashire County Council, questioned why “additional criteria and moral judgment” should be applied in “a known system that’s got laws that underpin it, with the security in that being well known within the public sector”.
Edwards argued that while an underlying statutory framework existed, there was “no absolute guarantee that central government will support local authorities”.
He stated: “If you think of the scope and the magnitude of the Thurrock issue, there was no guarantee that the government would step in with additional financial support. They didn’t have to, and they never have to. We’d like to think [as a sector] they always will, but some authorities have gone so far out of bounds of what a norm would be, it isn’t guaranteed. Government could let a local authority go if they wanted.
“It’s important for us to be sure that we’re lending to people who we are quite comfortable getting the money back – which in the vast majority cases, we are.”
Saeed, though, noted that authorities have “tested the boundaries quite significantly around how much the government would be willing to support [authorities], and it’s substantial”. She added that she was “conscious of local authorities who are already in difficulty being further reputationally damaged and continuing that when the upshot is that you are causing harm unnecessarily”.
Webster concluded that while he agreed “the risk position is not real financially”, it is “legitimate for elected members to decide what their appetite for a reputational fight is as it plays out in the press”.
As long as an authority has its own criteria for inter-authority lending, a defence of any lending decision can be “mounted on those grounds”, but ultimately it is for members and officers to decide their risk appetite.
Caveating that statement, Webster added that in a sector “bedevilled by lazy mindedness around complicated subjects” it is a “crime when officials base their own decision making and advice on criticism aversion” or “keeping your head down and avoiding tough conversations”.
It is clear that theory and practice are two different things. Ultimately, decisions made using the right expertise and with the right intentions – on behalf of the public being served – can be justified without the need for a top-down intervention on lending criteria. Reputational risk remains very real – but must be handled within this existing framework and not used, as Webster suggests, simply as an excuse for inaction.
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