4.2 The events at Northern Rock presented the Tripartite Authorities with a situation unprecedented in the UK in recent times. Although UK-based banks have collapsed before, for example BCCI in 1991 and Barings in 1995, these crises did not involve a run on a significant high street financial institution.
4.3 The Tripartite Authorities had identified weaknesses in the arrangements for dealing with insolvent institutions posing a systemic risk some three years before the crisis at Northern Rock. Since 2004, the Tripartite Authorities have conducted exercises to test their preparedness to deal with a range of scenarios, ranging from the simulation of a cyber attack on financial infrastructure and the impact of flu pandemic to various financial crises. The exercises were intended to test plans and responses to particular scenarios, and provide training opportunities.
4.4 One of the first scenario exercises, in 2004, tested the options available if a major financial institution got into difficulty for liquidity reasons. The report of the exercise noted that thinking was relatively undeveloped as to how the resolution of an insolvent firm with systemic repercussions would be handled and by whom. It concluded that work was required by the Tripartite Authorities to understand the issues they would face in dealing with an insolvent institution posing potential systemic risks to the financial system, which had not been tested directly in the exercise. At this stage, work on improving the existing arrangements was not considered within the Treasury to be a priority, in the benign economic environment then prevailing, compared with other financial crisis planning that was being taken forward.
4.5 Following further discussion, the Tripartite Authorities concluded in 2005 that the existing legislative framework, effectively restricting the available options to letting the institution fail and deal with the consequences or bail it out, would not be sufficient in a crisis situation. As a result, more work would need to be done before the Tripartite Authorities would be in a position to deal with the resolution of a significant financial institution.
4.6 Following further exercises, in December 2006 and March 2007, the Tripartite Authorities decided that a special administration option should be developed. In May 2007, the Tripartite Authorities agreed to develop a consultation document setting out a range of options and potential legislative changes to deal with a financial institution in difficulty. A discussion paper was published in October 2007, followed by a first consultation paper in January 2008.