Cold comfort for a Securency-battered RBA

With hindsight, and the benefit of the review of the Reserve Bank's governance arrangements conducted by consultants Cameron Ralph, it is perhaps easier to understand how the bank got itself caught up in allegations of corrupt payments.

The Cameron Ralph report was issued today as the Reserve Bank offloaded its 50 per cent interest in one of the entities involved in the payments by agents to foreign officials – currency manufacturer Securency – to its joint venture partner for $65 million and a $9 million profit over the book value of the interest.

The report isn't, and wasn't intended, to be a review of the circumstances which led to the scandal and has embroiled the Reserve Bank in controversy and litigation but is a review of the governance arrangements the bank had in place over time to oversee its interests in Securency and a wholly-owned subsidiary, Note Printing Australia. NPA prints Australia's banknotes while Securency, a joint venture with Innovia Films, produces the polymer substrate on which the notes are printed.

A critical moment for the Reserve Bank came in 1989, when McKinsey recommended that NPA, which had been operating as a branch of the bank, should be set up as a division and should use its substantial excess printing capacity and its polymer note technology to pursue external customers. NPA was subsequently corporatised.

Before that NPA was an immaterial part of an organisation which was far more focused on its roles in monetary policy and financial system issues. Cameron Ralph concluded that NPA was not functionally or culturally consistent with the rest of the bank.

It would appear that the critical mistake the Reserve Bank made was, because the note-printing business was so immaterial to its core focus of monetary policy, not to recognise the dangers latent within a very small but far more commercial element of its operations.

The firm's overall findings, however, were that the structures and governance arrangements the Reserve Bank put in place for its note-manufacturing entities were reasonable and reflected the practices of the times.

It is apparent that over time those arrangements, the composition of the board, the audit oversight and reporting requirements to the bank itself, evolved in response to the performance and activities of the entities as well as changing external governance practices and changes in Reserve Bank personnel.

‘'The bank appointed people whom it was entitled to believe could direct the affairs of the companies with due care, diligence and skills," the report says. It said the bank received regular reports at both a management and board level, responded to them in a considered and deliberate way and took appropriate action when the companies appeared not to be performing in line with expectations.

It is also apparent from the report that the entities, until late in the piece, were regarded as treated as immaterial within the Reserve Bank because the bank's primary interest was in ensuring it received an adequate supply of secure notes for its own operations and that it didn't appreciate properly the implications and risks of Securency's development as a global marketer and supplier of polymer notes. Operational decision-making lay with the NPA board.

Over time the bank did introduce external parties with commercial skills and experience to the boards but generally they were peopled by its own executives, who lacked commercial experience or training in overseeing a commercial enterprise. Primary responsibility for overseeing the companies appears to have lain with Reserve Bank management rather than its own board.

The bank's own audit committee audited NPA and, from the late 1990s, expressed concern about the lack of controls and the commercial culture within NPA. And the report says that there was repeated interaction between the audit committee, the Reserve Bank board and staff and NPA management to ‘'press for rectification".

By 2007 (the AWB oil-for-wheat scandal had erupted in 2005, leading to some changes in the Reserve Bank's policies towards the use of agents by NPA and Securency) the board was acknowledging that the aim of establishing a more arms' length relationship between the bank and NPA had had mixed results, with a history of concern about the laxity of control environment at NPA being at odds with the careful risk-management culture of the bank and that these deficiencies potentially exposed the bank to "serious reputational and financial risk". How right they were, albeit that the realisation came too late.

Subsequently the bank made significant changes to the board of NPA to put its own executives in place, altered its reporting requirements and created an NPA audit committee – and completely stopped the use of sales agents.

As Cameron Ralph says, had there been more oversight of NPA and Securency the alleged illegal payments that have caused the Reserve Bank so much angst may have been detected earlier.

It's conclusion, however, was that the structures chosen by the bank were reasonable and reflected the practices of the times and that their failure to detect the payments earlier didn't mean its oversight at the time was inappropriate. That is, of course, of small consolation for the bank and the Reserve Bank staff caught up in the scandal.