Bank of England, stung by scandals, flags market concerns

By William Schomberg and Patrick Graham

LONDON (Reuters) - The Bank of England is warning about potential irregularities in financial markets on a regular basis as it tries to address the problems that dragged it into recent market scandals, a senior BoE official said.

Chris Salmon, executive director of markets at the BoE, also told Reuters that more rigid rules of engagement for the central bank's staff inevitably meant that traders would offer them less information, but the Bank would still be able to do its job.

The BoE was stung last year when its chief foreign exchange dealer was found to have not told his managers about his concerns that traders were manipulating a key currency rate.

Some of the world's biggest banks were fined more than $4 billion for their role in the scandal. BoE Governor Mark Carney promised last year to ensure there was not "a shadow of doubt about the integrity of the Bank of England."

But the Bank hit the headlines again this month when it asked anti-fraud investigators to look into the potential rigging of money market auctions that the BoE held at the onset of the financial crisis in 2007 and 2008.

The Bank has responded to the scandals by introducing new rules for its staff who talk to market players, including stricter requirements on note-taking and clearer rules on escalating any concerns, as it seeks to end what has long been seen as its overly cosy relationship with the City of London.

From its museum-like headquarters in London's financial centre, the Bank keeps a close eye on 23 different markets, ranging from currencies which see trillions of dollars of trading each day, to emerging market bonds.

Salmon, in his first interview since he took over as BoE markets director last June, said Bank staff are no longer hesitant about flagging worries that traders in financial markets might be breaking the rules, he said.

Employees of the Bank are now escalating between two and four cases of concern to their managers each month, he said.

Most of those cases are passed on to regulators, chiefly the Financial Conduct Authority (FCA).

"We have achieved a change of culture here. That wasn't happening before and that is happening now and that is a healthy thing," Salmon said. He declined to say exactly how many cases of concern the BoE previously tended to pass to regulators.

The number of cases remains relatively small. BoE staff have held around 2,500 meetings with market participants over the past year and had 10 times that number of phone calls.

As well as the concerns now being related to regulators each month, the BoE referred more than 40 cases to the FCA after it asked staff last year to flag any past concerns they had.

TRADERS WILL BE CAUTIOUS

Salmon said the more pro-active approach by the Bank came at a price, as some traders would refrain from sharing information.

"Is it the case ... that there might be some forms of intelligence or feedback that we don't get that we used to get? I am sure that that's the case. It must be the case," he said.

But he expressed confidence that the BoE would still be able to gather the right kind of market intelligence to keep it on top of possible risks to the economy and the banking system.

"I genuinely don't believe, and this is my experience, that my ability to gather intelligence about what's going on in financial markets is currently materially hampered."

The BoE plans to increase the size of its full-time market intelligence team to about 12 from eight now, he said.

On top of that, scores of Bank employees are responsible for passing on information to the team and Salmon estimated the total amount of work being done on market intelligence was equivalent to about 35 or 40 full-time staff.

Salmon said he was due to propose a list of new priorities for the Bank's market intelligence operations soon.

Themes included changes in liquidity in financial markets which have left asset prices more vulnerable to price swings, such as last October's surge in U.S. government bond prices.

Among other themes were changes in inflation expectations and the ability of financial players to look around for the most attractive regulatory regime as many countries overhaul rules for the financial sector in response to the financial crisis.

(Writing by William Schomberg; Editing by Crispian Balmer)