The Liability of Financial Supervisory Authorities

Articles

Donal Nolan

The Liability of Financial SupervisoryAuthorities*

Abstract: In the wake of the global financial crisis, this article considers the tortliability of financial supervisory authorities to depositors and other investorsfollowing the failure of a bank or other financial institution. The analysis iscomparative, with the primary focus being on the member states of the EuropeanUnion. Consideration is given to the five liability categories or standards whichare employed by EU member states in such cases. These are (1) a public lawillegality standard; (2) a standard of ordinary fault/negligence; (3) a standard ofgross fault/negligence; (4) a requirement of bad faith; and (5) complete immunityfrom liability. It is also shown that on the application of general tort principlesclaims by depositors against financial supervisors face a range of obstacles,including difficulties in establishing fault and causation, and conceptual difficul-ties based on the nature of the damage (the pure economic loss issue), liability foromissions and for the deliberate acts of third parties, liability for the exercise ofjudicial or ‘quasi-judicial’ functions, and the ‘protective purpose of the norm’principle. Finally, consideration is given to alternative means of redress whichmay be available to depositors in such cases.

Donal Nolan: Porjes Foundation Fellow and Tutor in Law, Worcester College, University of Oxford,E-Mail: [email protected]

I Introduction

Although there is no easy answer to the question of where responsibility for theglobal financial crisis lies,1 at least some of the blame has been laid at the door ofthe authorities charged with the supervision of banks and other financial institu-

* I am grateful to Robert Dijkstra for his helpful comments on an earlier draft. The usual caveatapplies.1 See further on the causes of the crisis,H Davies, The Financial Crisis: Who is to Blame? (2010).

DOI 10.1515/jetl-2013-0014 jetl 2013; 4(2): 190–222

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tions. In the words of one commentator, ‘[r]egulation was not the sole cause of thecrisis, but it certainly had a significant role to play’.2 Any exploration of therelationship between tort law and the financial crisis must therefore encompassthe potential liability of these supervisory authorities in tort.

For a number of reasons the topic is a complex one, especially when acomparative approach is taken. One reason is that such liability falls in theborderlands where tort law meets administrative law, and so is classified differ-ently in different legal systems. Another is that in many countries there arespecific statutory provisions which shield the supervisors of financial institutionsfrom the full force of the general liability regime. Yet another is the diversity ofthe general tort liability rules in the different countries under consideration. Anda final reason for the complexity is that on the application of general tortprinciples claims against financial supervisory authorities give rise to a range ofconceptual difficulties, including the principle of the ‘protective purpose of thenorm’, liability for the exercise of judicial or ‘quasi-judicial’ functions, liability forpure economic loss, and liability for omissions and for deliberate third party acts.The result is that while we can choose to view the topic through a number ofdifferent lenses, there is still no guarantee that a clear picture will emerge.

Before we pick up the first of those lenses, however, we need to engage in alittle ground-clearing. The basic scenario under examination is that of a depositoror other investor who loses money when a bank or other financial institutionbecomes insolvent, and who believes that their losses are attributable (at least inpart) to shortcomings on the part of the authority charged with its supervision.3 Itmay be alleged, for example, that the supervisor should have uncovered fraud orother irregularities at the institution, or recognised signs of financial difficulties,or that knowing of difficulties it should have acted more decisively to protectdepositors, by for example imposing a moratorium on the taking of deposits orrevoking the institution’s licence. If in such a case the depositor or investor isunable to recover their money from the insolvency or from a deposit guarantee

2 J Black, Paradoxes and Failures: ‘New Governance’ Techniques and the Financial Crisis (2012)75 Modern Law Review (MLR) 1037, 1037.3 Although the terms are often used interchangeably, strictly speaking we should distinguishbetween ‘regulation’, the establishment of rules governing the operation of financial institutions,and ‘supervision’, the monitoring, implementation and enforcement of those rules (see SI Dem-pegiotis, The Hard-to-Drive Tandem of Immunity and Liability of Supervisory Authorities: LegalFramework and Corresponding Legal Issues (2008) 9 Journal of Banking Regulation (JBR) 131,132). The primary focus here is on the latter, but the two activities often overlap, and so a brightline cannot be drawn between them.

The Liability of Financial Supervisory Authorities 191



scheme, then a supervisor with the deep pockets of a state institution makes foran attractive target of legal action.

Supervisory authorities can of course also face the threat of legal action bythe financial institutions they supervise, which may be concerned about damageto their reputation or financial position caused by unjustified intervention. Wherethe damage has already been done in such a case, any redress would have to liein tort, but where the intervention is merely apprehended, or where there is stilltime to prevent it causing damage, there is in this alternative scenario the pos-sibility of public law proceedings (whether by way of judicial review or statutoryappeals procedures) to stay the supervisor’s hand, and it would appear that mostlegal action by financial institutions against their supervisors takes this form. Forthat reason, and also because any responsibility which supervisory authoritiesbear for the financial crisis arises from sins of omission rather than commission,the liability of such authorities to the institutions they supervise is not the subjectof further consideration in this article. It should however be borne in mind thatthe special legislative protections frequently afforded to financial supervisorsmay also constrain this form of liability, and that these protections are just ascontroversial when used against the financial institutions themselves as they arewhen used against depositors.4 Furthermore, the existence of claims of this kindserves to remind us of the so-called ‘supervisor’s dilemma’, namely the need for afinancial supervisor to balance the potentially conflicting interests of depositorsand the regulated institution itself, and also the broader public interest in thestability of the financial system as a whole. As we shall see, the delicacy of thesupervisor’s task has been one of the main drivers of the legislative tendency toshield them from liability.

Three further preliminary points should be made. The first is that when abank or other financial institution goes under, depositors may be able to recoupsome or all of their money from a deposit protection scheme set up by the nationalauthorities, and that the implementation of such a scheme is mandatory underEuropean law.5 These schemes should be borne in mind when consideration isgiven to the appropriate liability regime for supervisory authorities, since theyreduce the likelihood of legal action against those authorities and serve tomitigate the consequences of legislation protecting them from liability. Thesecond point is that the financial underpinnings of supervisory authorities vary,

4 See further, D Singh, Banking Regulation of UK and US Financial Markets (2007) 188.5 Directive 94/19/EC of the European Parliament and of the Council of 30 May 1994 on deposit-guarantee schemes, Official Journal (OJ) L 135, 31.5.1994, 5–14.

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and this means that who ultimately bears the cost of liability varies as well.6 Inthe United Kingdom, for example, the cost of supervising financial institutions isborne by the institutions themselves, which pay fees to the supervisory autho-rities. Damages awards made to depositors of failed institutions will drive upthese fees, so that ultimately the cost of liability will be borne by the survivinginstitutions and their customers. By contrast, in Italy, at least one of the super-visory authorities is financed in part out of the central government budget, so thatany liability costs will to some extent be met out of taxation revenue.7 And thefinal point is that the international operation of many financial institutions hasled to calls for European harmonisation of the liability rules in this area,8 albeitthat as yet there is no sign of moves in this direction at a political level. It isnoteworthy in this connection that in Peter Paul v Federal Republic of Germany,9

the European Court of Justice (ECJ) held that existing EUmeasures in the financialservices field (1) did not confer rights on private individuals, and so could not giverise to member state liability to depositors for defective supervision of financialinstitutions; and (2) did not preclude national laws conferring immunity fromliability on financial supervisors.10

II An overview of the legal position

When considering the liability of financial supervisory authorities in comparativeperspective, five different liability categories or standards can be distinguished.11

These are (1) a public law illegality standard; (2) a standard of ordinary fault/

6 See generally, D Masciandaro/M Nieto/H Prast, Who Pays for Banking Supervision? Principlesand Trends (2007) 15 Journal of Financial Regulation and Compliance 303.7 F Rossi, Tort Liability of Financial Regulators: A Comparative Study of Italian and English Lawin a European Context [2003] European Business Law Review (EBLR) 643, 646.8 See eg, C van Dam, European Tort Law (2006) 250; M Tison, Do Not Attack the Watchdog!Banking Supervisors’ Liability after Peter Paul (2005) 42 Common Market Law Review (CML Rev)639.9 C-222/02, Peter Paul, Cornelia Sonnen-Lütte and Christel Mörkens v Federal Republic of Germany[2004] European Court Reports (ECR) I-9425. For a critique of the reasoning of the ECJ, see Tison(2005) 42 CML Rev 639.10 On the position under EU law, and for the claim that changes at EU level may bring about aconvergence of the national liability rules in this area, see P Athanassiou, Financial SectorSupervisors’ Accountability: A European Perspective (2011) European Central Bank Legal Work-ing Paper Series No 12, 17 ff <http://www.ecb.int/pub/pdf/saplps/ecblwp12.pdf>.11 RJ Dijkstra, Liability of Financial Supervisory Authorities in the European Union (2012) 3Journal of European Tort Law (JETL) 346, 348 f.




negligence; (3) a standard of gross fault/negligence; (4) a requirement of bad faith;and (5) complete immunity from liability. In the next part of the article, thesedifferent standardswill be subject tomore detailed consideration, but it will first behelpful tomake fourmore general points about the position in themember states oftheEUand in someother jurisdictions, drawinguponacomprehensive recent studyof the liability of financial supervisory authorities in the EU by Robert J Dijkstra.12

The first point is that the existence of a special rule governing the liability offinancial supervisory authorities is very common. Of the supervisory authoritiesconsidered in Dijkstra’s study, precisely half (21 out of 42) are covered by specificliability rules, and when we turn our gaze beyond the EU, we find that specialrules governing the liability of financial supervisory authorities can be found inmany Commonwealth countries as well, including Australia,13 Canada,14 India,15

Malaysia,16 Singapore17 and South Africa.18

Secondly, when we look at the liability standards laid down either by a spe-cial rule of this kind or in accordance with more general legal principles, we findthat in the European context a very mixed picture emerges. According to Dijk-stra’s study, around a quarter of the supervisory authorities for which informationwas available were covered by an illegality standard, a slightly higher proportionby an ordinary fault standard, about one-fifth by a gross fault standard, a slightlylower proportion by a bad faith standard, and about 8% benefited from completeimmunity.19 More uniformity is apparent in the Commonwealth, at least in thosejurisdictions where a specific rule has been adopted, the prevailing standardbeing one of bad faith.20 Finally, in the US, claims against financial supervisoryauthorities are governed by the Federal Tort Claims Act, and in the light of the‘discretionary function’ immunity conferred on federal agencies by this legisla-tion it has been said that it would be very difficult to bring a tort action against USfinancial regulators in the type of case under consideration.21

12 Ibid.13 Australian Prudential Regulation Authority Act 1998 (Cth) sec 58.14 Financial Institutions and Deposit Insurance System Amendment Act, RS 1985, ch 18, sec 24.15 Banking Regulation Act 1949, sec 54.16 Banking and Financial Institutions Act 1989, sec 114.17 Monetary Authority of Singapore Act, ch 186, sec 22.18 The Banks Act 1990 (Act No 94 of 1990) sec 88.19 Dijkstra (2012) 3 JETL 346, 366.20 A bad faith test is employed in all of the jurisdictions listed above (text accompanying fns 13–18).21 C Proctor, Financial Regulators: Risks and Liabilities (Part 2) (2002) 2 Journal of InternationalBanking and Financial Law 71, 71.

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Thirdly, there has been a noticeable recent move in the direction of greaterprotection of financial supervisory authorities from tort liability. Developments ina number of European jurisdictions illustrate this trend. Whereas it had pre-viously been accepted that in Belgium the banking regulator was subject togeneral liability principles, so that an ordinary fault standard applied, in 2002legislation conferred immunity for decisions taken in the exercise of its statutoryfunctions, except in cases of fraud or gross fault.22 In 2005, a similar shift tookplace in Italy, where financial regulators whose liability had previously beengoverned by the general fault standard laid down in art 2043 of the Civil Codewere granted legislative protection from liability in the absence of gross negli-gence or intentional misconduct.23 The following year, the liability regime govern-ing Bulgaria’s national bank was altered by legislation from the illegality stan-dard generally applicable to state authorities to a requirement of intentionalmisconduct or bad faith.24 And in the midst of the global financial crisis in 2008,Austria passed legislation conferring complete immunity on the financial su-pervisor in third party cases, where an ordinary fault standard had previouslyapplied.25 Finally, in the Netherlands, another EU member state in which anordinary fault standard had hitherto been employed in such cases, legislativeamendments which came into force in 2012 limited the liability of the DutchCentral Bank and Financial Market Authority to cases of gross negligence and badfaith.26

The trend towards greater legal protection must be understood in the contextof a long-term re-evaluation of the purposes of financial supervision which hasbeen given added impetus by the financial crisis. According to the preambles tothe UK’s Banking Acts of 1979 and 1987, the primary objective of banking super-vision was the protection of depositors. However, more recent financial serviceslegislation relegates consumer protection to one of a number of ‘regulatory ob-jectives’, including maintaining market confidence in the UK financial system,contributing to the protection and enhancement of the stability of the UK finan-

22 Law on the Supervision of the Financial Sector and on Financial Services of 2 August 2002,art 68.23 Law of 28 December 2005, art 24(6). On the Italian position before this change, see Rossi[2003] EBLR 643.24 Law on Credit Institutions 2006, art 79(8).25 Federal Act on the Institution and Organization of the Financial Market Authority (FMABG)97/2001 sec 3(1) (as amended).26 Act of 7 June 2012 on the Limitation of Liability of the [Dutch Central Bank] and [NetherlandsAuthority for the Financial Markets] and Introducing a Ban on Bonuses for Firms Receiving StateSupport.




cial system, and reducing financial crime.27 Furthermore, contemporary academiccommentary on the objectives of financial supervision emphasises systemic risk –the danger that the failure of one financial institution will produce a ‘domino’effect on others, thereby threatening the stability of the financial system as awhole – which is said to ‘[loom] large’ in this context.28 There is therefore plentyof evidence to support the contention of Mads Andenas and Duncan Fairgrievethat over time the aim of banking supervision has been redefined from depositorprotection to ensuring the soundness of the financial system, and that the focusof the new ideology of banking supervision is on ‘the solidity of financial institu-tions and payments systems’.29

According to this ‘new ideology’, litigation by depositors against supervisoryauthorities has the potential to undermine the regulatory framework by distortingpriorities and distracting supervisors from their core function of promoting thestability of the financial system. More generally, the rationale for special protec-tion has been described by Christos Hadjiemmanuil as ‘the firm legislative judg-ment that, in this context, the emergence of liability in damages would bedetrimental to the effective exercise’ of the supervisor’s regulatory functions.30

Statutory immunities are therefore primarily motivated by the concern that the

27 Financial Services and Markets Act (FSMA) 2000, secs 3–6. The position under the newfinancial services regime ushered in by the Financial Services Act 2012 is less clear-cut, becauseof the division of responsibilities among the Bank of England, the Financial Conduct Authority(FCA) and the Prudential Regulation Authority (PRA). Consumer protection is certainly identifiedas a central objective of the FCA, but so is ‘protecting and enhancing the integrity of the UKfinancial system’ (FSMA 2000 (as amended), secs 1B–1E). As for the PRA, its general objective ofpromoting the safety and soundness of the financial institutions it supervises is to be advancedprimarily by seeking to (1) ensure that the business of such institutions is ‘carried on in a waywhich avoids any adverse effect on the stability of the UK financial system’ and (2) minimise theadverse effect that the failure of such an institution ‘could be expected to have on the stability ofthe UK financial system’ (FSMA 2000 (as amended), sec 2B). Since the Bank of England’s role inthe new regulatory regime is to monitor and respond to systemic risks, its focus also seems likelyto be on the stability of the system as a whole, as opposed to consumer protection.28 R Cranston, Principles of Banking Law (2nd edn 2002) 66. See also P Cartwright, Banks,Consumers and Regulation (2004) 30 ff.29 M Andenas/D Fairgrieve, To Supervise or to Compensate? A Comparative Study of StateLiability for Negligent Banking Supervision, in: M Andenas/D Fairgrieve (eds), Judicial Review inInternational Perspective (2000) 338.30 C Hadjiemmanuil, Banking Regulation and the Bank of England (1996) 339. See eg thefollowing observations made during the passage of the Financial Services and Markets Act 2000through the UK Parliament: ‘It is important for the good of the financial services industry, as wellas for good regulation, that regulators are not deterred from taking regulatory action by the… riskof ending up with all kinds of challenges in court’ (House of Lords Debates (HL Deb) 16 March2000, column (col) 1773 (Lord Bagri)); ‘Financial supervision requires a lot of difficult judgements

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relevant authorities ‘should be able to approach their supervisory functionsuninhibited by the threat of liability and to show independence and confidence incarrying them out’, with other relevant concerns being the diversion of resourcesto meet the burdens of litigation, the ‘potentially explosive effect’ of recovery bydepositors on the costs of running the regulatory system,31 and the danger thatimposing liability for discretionary regulatory decisions could ‘open the way toincidental judicial interference with the general direction of regulatory policy as aby-product of the adjudication of individual cases’, with the result that undueemphasis is placed on the private interests of depositors.32

The end result is that national authorities are increasingly expected to protectsupervisory authorities against litigation by granting them immunity from liabili-ty, at least in the absence of bad faith. Of particular note in this regard are theCore Principles for Effective Banking Supervision laid down by the Basel Commit-tee on Banking Supervision.33 According to the second of these ‘core principles’,the legal framework should include legal protection for the banking supervisor, arecommendation elaborated on in the following ‘essential criterion’: ‘Laws pro-vide protection to the supervisor and its staff against lawsuits for actions takenand/or omissions made while discharging their duties in good faith.’34

Similarly, a report for the World Bank on legal protections for banking super-visors published in 1999 concluded that:35

[T]o the extent that there is a political consensus which often occurs during a banking crisisthat banking laws should be amended to provide greater authority for central banks andregulatory agencies, there may also be an opportunity to include legal protections forbanking supervisors as part of any such legislation … There are a number of models onwhich [such protections] may be based, but care should be taken to ensure that the widestpossible coverage for banking supervisors is enacted into law.

Along with recent legislative developments in national systems, the World Bankreport would suggest that, far from opening the floodgates of litigation against

and if everything the regulator does is subject to threats of legal action, over-regulation andexcessive caution will ensue’ – ibid, col 1786 (Lord Burns).31 Hadjiemmanuil (fn 30) 339.32 Ibid 385.33 Basel Committee on Banking Supervision, Core Principles for Effective Banking Supervision(2012) <http://www.bis.org/publ/bcbs230.pdf>.34 Ibid 24.35 RS Delston, Statutory Protections for Banking Supervisors (1999) <http://www1.worldbank.org/finance/html/statutory_protection.html>.




bank supervisors, the financial crisis is likely to accelerate the trend towardsgranting them special protection from liability.

III The five different liability standards

This part of the article is devoted to consideration of the five different liabilitycategories or standards which are applied to financial supervisors in EU memberstates. Some more general observations are made about the first two standards(illegality and ordinary fault/negligence), while the three remaining standardsare considered in the light of their operation in a particular legal system: Francefor the gross fault/negligence standard; the UK for the bad faith standard; andGermany for complete immunity.

A Illegality

An illegality test is used to determine the liability of financial supervisors in thefollowing EU member states: the Czech Republic, Greece, Lithuania, Poland andSlovakia.36 Where this standard is employed, the depositor need only establishthat the act or omission of the supervisor was unlawful as a matter of public law,and it is not necessary to demonstrate that the conduct in question was negligentor that the authority acted in bad faith (because, for example, it knew that itsconduct was unlawful). Although Dijkstra describes this standard as ‘no-faultliability’, he also points out that because liability is contingent on the violation ofan objective standard of conduct, this is not ‘strict liability in the classic sense asfound, for example, in liability in respect of hazardous activities or the control ofdangerous things’.37

Where this standard is employed, there is sometimes no specific provisionmade for the liability of financial supervisors, whose position is instead deter-mined by general principles of state liability. In the Czech Republic, for example,cases brought against the State for allegedly unlawful conduct of the CzechNational Bank have been decided under the provisions of the State Liability Act,whereby the State is liable for any damage caused by unlawful decisions orimproper administrative actions by a person or legal entity in the course of the

36 Dijkstra (2012) 3 JETL 346.37 Ibid 348.

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exercise of public functions on the State’s behalf.38 Similarly, under Greek law,the liability of financial supervisors is governed by general legal principles, inparticular provisions of a 1941 law which make the State liable for illegal acts oromissions of State bodies in the exercise of their public functions, unless thestatutory provision in question was intended to benefit the public interest.39 Bycontrast, in Lithuania, the illegality standard derives from specific legislationdealing with the liability of financial supervisors,40 while in Poland there is aspecific provision which confers immunity on financial supervisors where theirconduct was compliant with statutory regulations, although the basic liabilityposition is determined by a more general rule on liability for damage caused bythe exercise of public authority.41

Although in theory the illegality standard is the most liberal of the fivestandards, experience suggests that in practice it may be difficult for a depositorto establish that the conduct of the supervisor was unlawful as a matter of publiclaw. It has been said, for example, that in Czech law ‘there is no clear definition ofwhat constitutes improper conduct (or supervisory failure)’, with the result that,while there have been several claims alleging breach by the Czech National Bankof its statutory obligations, none of these has been successful.42

Two further points can be made. The first is that in at least two of thecountries which employ an illegality standard, Greece and Poland, there is alsothe possibility of financial supervisors being held liable for fault under generalprinciples of civil responsibility.43 And the other is that note should be taken ofthe unusual position in Spain, where the general state liability regime whichgoverns actions against financial supervisors requires the claimant to establishonly that the functioning of a public service caused them damage, unless thecircumstances are such that they are expected to sustain the damage withoutcompensation. Because the claimant need not establish that the supervisor brea-ched an objective standard of legality, in theory this is the most liberal approachto the liability of financial supervisors to be found within the EU, but the require-ment of causation and the exception for cases in which the claimant is expected

38 Ibid 352.39 Law 2783/1941, arts 105 and 106. General state liability principles also apply to financialsupervisors in Slovakia and Spain: Dijkstra (2012) 3 JETL 346, 362 f.40 See Dijkstra (2012) 3 JETL 346, 358.41 Ibid 359 f.42 Ibid 352.43 Ibid 355 f, 360.




to bear the loss give the courts some ‘wriggle room’, and how this approach willultimately play out in practice remains uncertain.44

B Ordinary fault/negligence

Despite the recent shift towards more restricted liability in member states such asAustria, Italy and the Netherlands,45 the liability of financial supervisors is stillgoverned by an ordinary fault/negligence standard in Denmark, Portugal, Slove-nia and Sweden.46 Where this standard applies, it is the result of the operation ofgeneral principles of civil responsibility in the absence of specific provision forthe liability of financial supervisors, and it may therefore not be the result of adeliberate policy choice.47 If, as is frequently the case, violation of a statutorynorm amounts to ‘fault’ for these purposes, there is an overlap between this stan-dard and the illegality standard.

Denmark is an illustrative example. Since there is no specific legislationgoverning either public authorities generally or the liability of financial super-visors in particular, in Danish law a claim against a supervisory authority wouldfall to be dealt with by ordinary principles of civil liability for damages asdeveloped by the courts in the public authority context. The result would be thatdisappointed depositors would have to establish only that the supervisor was‘culpable’ and that this culpability caused their damage. As yet, however, it seemsthat no cases of this kind have come before the Danish courts.48

C Gross fault/negligence

A gross fault/negligence standard governs the liability of financial supervisors tothird parties in Cyprus, France, Italy, Latvia, Luxembourg and the Netherlands.49

In France, this standard is the result of judicial development, while in the othercountries it is laid down in specific legislative provisions concerning financial

44 It seems that in recent litigation against state authorities arising out of financial scandals thelower courts have refused to impose liability, but that appeals to the Supreme Court are pending:Dijkstra (2012) 3 JETL 346, 363.45 Text accompanying fns 22–26.46 Dijkstra (2012) 3 JETL 346.47 Tison (2005) 42 CLM Rev 639, 646.48 Dijkstra (2012) 3 JETL 346, 352 f.49 Ibid.

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supervisor liability. Since there is a long history of litigation against financialsupervisors in France, the focus of the discussion under this heading will be onthe way in which the French courts have arrived at a gross fault standard in thiscontext, and the way it has been employed.50

In France, the liability of public authorities is not governed by ordinaryprinciples of civil responsibility, but by a distinct set of rules of responsabilitéadministrative (administrative responsibility) applied by the administrativecourts. Under these rules, a person seeking damages from a public authority mustestablish that they have suffered damage as the result of an act or omission of theauthority which constitutes ‘fault’, with the existence of fault being determinedby two alternative standards, faute simple (ordinary fault) or faute lourde (grossfault). Traditionally, the French courts have adopted a restrictive approach to theliability of public authorities exercising regulatory functions. The difficulty of theregulatory task and the desire to avoid second-guessing the exercise of discre-tionary powers have been considered justifications for the use of the faute lourdestandard in this context,51 and according to one commentator the bar has been set‘very high’ in many areas of regulatory activity, so that ‘seriously negligentconduct has been required’.52 This restrictive approach is illustrated by an earlycase on the liability of financial supervisors. In Bapst,53 the investors in a failedfinancial institution sought compensation for their losses, which they claimedwere caused by the negligence of the Commission de Contrôle des Banques. Inparticular, they argued that, having discovered irregularities in the institution’saccounts, the Commission should have investigated further, and that if it had thecompany’s failure would have been prevented. The Conseil d’Etat held thatdamages would be payable only if faute lourde could be established and that,since irregularities were commonplace in the accounts of small financial estab-lishments, it had not been grossly negligent of the Commission not to investigatefurther.

Recent years have, however, seen a decline in the use of faute lourde in theFrench law of administrative liability, and in the aftermath of the scandalsurrounding the failure of the Bank of Credit and Commerce International SA(BCCI), it seemed that the more general move towards the use of the faute simple

50 For detailed, but now somewhat dated, discussion of the liability of financial supervisors inFrench law, see D Fairgrieve/K Belloir, Liability of the French State for Negligent Supervision ofBanks (1999) 10 EBLR 13; and Andenas/Fairgrieve (fn 29).51 Fairgrieve/Belloir (1999) 10 EBLR 13, 18 f.52 D Fairgrieve, State Liability in Tort: A Comparative Study (2003) 108.53 Conseil d’Etat (CE) 28 June 1963, Sieur Bapst (discussed in Fairgrieve/Belloir (1999) 10 EBLR13, at 16).




standard might extend to the liability of financial supervisors. In El Shikh,54 whereBCCI depositors sought compensation for their losses from those charged with thesupervision of the bank’s branches in France, the Cour Administrative d’Appelheld that, while the exercise of disciplinary powers in this context was stillgoverned by the faute lourde standard, liability for administrative measures takenin a supervisory role required only proof of faute simple, a change apparentlyconfirmed by the same court in the later case of Kechichian.55 This apparentliberalisation of the principles governing the liability of financial supervisors washowever short-lived, since when Kechichian went on appeal, the Conseil d’Etatreaffirmed the across-the-board application of the faute lourde standard in thistype of case, while holding that on the facts the conduct of the authorities was sonegligent that even applying this lower standard liability should be imposed.56

The Conseil d’Etat justified its restrictive approach by referring to the nature of thepowers conferred on the Commission Bancaire and by arguing that in casesinvolving failed financial institutions administrative liability should not be asubstitute for the liability of the institutions themselves. Academic commentatorswho have defended the use of the faute lourde standard in cases involvingfinancial supervisors have done so by reference to floodgates concerns and thedanger that a more liberal approach would result in overly intrusive supervi-sion.57

Although the issues in question will be explored in more depth in the laterdiscussion of conceptual and other obstacles to liability in this context, it wouldbe misleading not to mention at this stage that the use of the faute lourde standardis only one of a number of mechanisms which the French administrative courtshave employed to limit the liability of financial supervisors. Even if depositorssucceed in establishing the requisite fault, they still have to show that the faultcaused their loss, and in practice causation has proven to be a difficult hurdle toovercome in this context.58 Furthermore, even in the rare instance of a claimagainst a financial supervisor succeeding, the damages awarded may be consid-erably reduced on the grounds that the loss was largely attributable to the failedinstitution itself, and that the liability of the supervisor should be limited to theextent of its causal responsibility.59 And finally, we should also note that theConseil d’Etat has treated the exercise of the disciplinary (as opposed to super-

54 Cour Administrative d’Appel (CAA) Paris, 30 March 1999, El Shikh.55 CAA Paris, 25 January 2000, Kechichian.56 CE 30 November 2001, Kechichian.57 See, eg, the author cited by Fairgrieve/Belloir (1999) 10 EBLR 13, at 19.58 See text to fns 117–119.59 See text to fn 109 f.

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visory) powers of the Commission Bancaire as the performance of a judicialfunction and hence deserving of special protection from liability.60 All in all, itseems that in the French law of administrative responsibility, the cards are verymuch stacked in favour of the financial supervisor.

D Bad faith

Although gross fault/negligence and bad faith often overlap, they are distinctconcepts, with the former (like ordinary fault/negligence) connoting the failure tocomply with an objective standard of conduct, and the latter connoting inten-tional misconduct. Challenging as it is for a claimant to establish gross fault, thedifficulties are compounded when liability is limited to bad faith, since the focushas shifted from a comparison of the defendant’s conduct against an objectiveyardstick to an investigation into the defendant’s state of mind.

There are five EU member states (Bulgaria, Estonia, Ireland, Malta and theUK) in which a bad faith standard is applied to the liability of financial super-visors, with the standard being laid down in all except Estonia in a specificlegislative provision governing such liability.61 The inclusion of Ireland and theUK in this list, coupled with the fact that a bad faith standard is the prevailingapproach in the Commonwealth, enables us to say that this approach to the issueof financial supervisor liability is characteristic of common law systems. This canprobably be explained by the felt need to protect supervisors from liability,combined with a traditional scepticism among common lawyers about the grossnegligence concept62 and the availability in common law systems of a cause ofaction predicated on the bad faith exercise of public power, the tort of misfea-sance in a public office. The focus of the remainder of the discussion under thisheading will be on the UK experience, and in particular on English law.

There is no separate system of administrative liability in English law, and theliability of public authorities is determined by the application of the general lawof tort in the ordinary courts. It follows that, in order for a depositor or otherinvestor to recover damages from a financial supervisor, the circumstances mustfall within the four corners of a specific tort, such as negligence or misfeasance in

60 See text to fn 94.61 Dijkstra (2012) 3 JETL 346.62 See eg Armitage v Nurse [1998] Law Reports, Chancery Division (Ch) 241, 254 (Millett LJ). Thisscepticism dates back to Rolfe B’s dismissal of gross negligence as negligence ‘with the additionof a vituperative epithet’ (Wilson v Brett (1843) 11 Meeson & Welsby’s Exchequer Reports 113, 116;152 English Reports (ER) 737, 739).




a public office. However, since 1987 those charged with the supervision of banksand other financial institutions in the UK have benefited from a generouslyworded statutory immunity, the current version of which states that neither therelevant authorities (the Financial Conduct Authority and the Prudential Regula-tion Authority) nor any of their employees are ‘liable in damages for anythingdone or omitted in the discharge, or purported discharge’ of their functions,unless ‘the act or omission is shown to have been in bad faith’.63 By limiting theimmunity to liability in damages, the legislation leaves open the possibility that adecision of the supervisory authorities can be challenged by way of judicialreview, but as we have seen public law proceedings of this kind are much morelikely to be brought by the supervised institutions themselves than by deposi-tors.64

The phrase ‘bad faith’ as used in the wording of the immunity has beeninterpreted as connoting ‘either (a) malice in the sense of personal spite or adesire to injure for improper reasons or (b) knowledge of absence of power tomake the decision in question’.65 Since this definition was derived from thedefinition of ‘malice’ in the tort of misfeasance in a public office, it follows that inpractice the only possibility of recovering damages from a financial supervisorlies in an action in the distinct tort of misfeasance, and that if a claim inmisfeasance is made out, the statutory immunity will not apply, as ‘bad faith’willinevitably have been established. The misfeasance action is aptly known as ‘thepublic law tort’, as it lies only where the damage to the claimant was caused byan exercise of power by the defendant as a public officer. There are two limbs tothe tort.66 The first covers cases where the exercise of a public power is specificallyintended to injure the claimant. The second covers cases where a public officeracts in the knowledge that he has no power to do the act complained of and thatthe act will probably cause loss to the claimant.67 The essence of the cause of

63 Financial Services Act 2012, secs 25, 33. The immunity is also displaced if the act or omissionis unlawful under sec 6(1) of the Human Rights Act 1998 because it is incompatible with a rightlaid down in the European Convention on Human Rights. For earlier versions of the immunity,see Financial Services Act 1986, sec 187; Banking Act 1987, sec 1(4); Financial Services andMarkets Act 2000, schedule 1, para 19.64 We should also note that the extension of the statutory protection to the ‘purported discharge’of the supervisory authorities’ functions means that it is not automatically lost if it turns out thatthe act or omission in question fell outside their powers.65 Melton Medes Ltd v Securities and Investments Board [1995] 3 All England Law Reports (AllER) 880, 890 (Lightman J).66 See generally D Nolan, Government Liability, in: K Oliphant (ed), The Law of Tort (2nd edn2007) para 17.46 ff.67 Three Rivers DC v Bank of England (No 1) [2000] 2 All ER 1.

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action is therefore a deliberate and dishonest wrongful abuse of the powers givento a public officer.68 After a long period during which the cause of action seemsalmost to have died out, misfeasance in a public office has undergone somethingof a renaissance over the last thirty years or so, primarily because it offers claim-ants a way round the obstacles that may lie in the way of a negligence actionagainst a public authority, such as the general non-recovery rule in respect ofpure economic loss. Nevertheless, bad faith is notoriously difficult to establish,and the tort has proved something of a ‘false hope’ for claimants, includingdepositors seeking legal redress from financial supervisors.

The challenges facing claimants alleging misfeasance in a public office in thiscontext are amply demonstrated by what one civil justice expert has referred to asthe ‘colossal wreck’ of the UK BCCI litigation.69 Following the collapse of BCCI in1991 owing to fraud on an unprecedented scale perpetrated by its senior manage-ment, some 6,000 of the bank’s UK depositors brought proceedings in misfea-sance in a public office against the authority charged with its supervision, theBank of England. The gist of the claims was that in its handling of BCCI the Bankof England had wilfully or recklessly failed properly to discharge its supervisoryduties, and had thereby caused the loss of hundreds of millions of poundsdeposited with the institution. In particular, it was alleged that senior Bank ofEngland officials had licensed BCCI as a deposit-taking institution despite know-ing that it did not satisfy the statutory criteria, and deliberately shut their eyes towhat was happening at BCCI after the licence was granted. Suffice it to say thatalthough the Bank of England may well have made serious errors in its super-vision of BCCI, there was no concrete evidence of bad faith on the part of itsofficials, and in the end the claimants were forced by the lack of such evidence toabandon their claims.70 Unfortunately, however, the collapse of the litigationcame after twelve years of hearings at all levels of the judicial system, and left theclaimants facing a legal bill totalling an extraordinary £73 million.

As Lord Hobhouse and Lord Millett pointed out in the course of theirspeeches in Three Rivers DC v Bank of England (No 3)71 arguing for the strikingout of the BCCI depositors’ claims for lack of evidence (unfortunately, theirLordships were in the minority on this issue), a person trying to establish bad

68 Three Rivers DCl v Bank of England (No 3) [1996] 3 All ER 558, 582 (Clarke J).69 A Zuckerman, A Colossal Wreck: The BCCI-Three Rivers Litigation (2006) 25 Civil JusticeQuarterly 287.70 For another example of an unsuccessful misfeasance claim against the Bank of England inrespect of its performance of its supervisory functions, see Hall v Bank of England [2000] LloydsRep Bank 186 (action dismissed as having no real prospect of success).71 [2001] United KingdomHouse of Lords (UKHL) 16, [2001] 2 All ER 513.




faith on the part of a financial supervisor faces an uphill struggle. Such a personwill naturally find it hard to prove that a decision was attributable to a ‘subjec-tively dishonest state of mind’72 on the part of an employee of the authority, asopposed to mere incompetence. Lord Millett described the BCCI depositors’ caseas ‘most implausible’:73

[I]t is scarcely credible that, unless corrupt, public officials should have been guilty ofintentional wrongdoing or have been indifferent to the consequences of their actions to thevery people they were supposed to protect. It is not beyond the bounds of possibility, ofcourse, but in the absence of any incentive to act in this way it is in the highest degreeunlikely. Certainly such conduct cannot lightly be inferred.

As their Lordships both pointed out, the claimants’ real grievance was that theybelieved that the Bank of England had been grossly negligent, and that in thosecircumstances the law ought to give them redress. However, since the Bank couldnot be sued for negligence, no matter how gross, the depositors were forced tobase their claim on a narrowly tailored cause of action which required them toestablish ‘some intentional or reckless impropriety’.74 From the beginning, theirclaims were doomed. The broader lesson from this depressing saga is the extremedifficulty of succeeding in an action for damages against a financial supervisorwhere a bad faith standard is employed.

E Complete immunity

That brings us to the final ‘liability standard’, complete immunity from liability indamages to third party depositors. This solution has been adopted in two EUmember states, Austria and Germany.75 A complete immunity rule in this contextis bound to be controversial, and it has been suggested that the German immunity

72 Ibid at [161] (Lord Hobhouse).73 Ibid at [182]. See also Three Rivers DC v Bank of England (Indemnity Costs) [2006] England &Wales High Court (EWHC) 816 at [65], where the trial judge, Tomlinson J, said after the collapse ofthe litigation that the claimants ‘never grappled with the fact that the logic of their casecompelled them to attribute to these perfectly decent people trying to do their job ever moredisgraceful and dishonest conduct’; and HL Deb 16 March 2000, col 1783 f (Lord Phillips ofSudbury) (bad faith is an ‘extremely difficult test’ to satisfy, ‘particularly within a bureaucracy’).74 Three Rivers (No 3) [2001] 2 All ER 513 at [179] (Lord Millett).75 Dijkstra (2012) 3 JETL 146. See further on the German experience up to 2000 Andenas/Fair-grieve (fn 29) 352 ff.

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is unconstitutional.76 It is worth pointing out, however, that in practice successfulclaims against financial supervisors are very rare, whatever liability standard isadopted, and at least with a complete immunity there is no risk of depositorswasting time and money on claims that are almost certain to fail. It should also benoted that unlike for example the UK’s immunity, which applies to actions fordamages by both third party depositors and the supervised institutions them-selves, the German immunity protects only against third party claims.

Two further points can be made about the German approach. One is that theimmunity dates only from 1984, and came after two decisions of the Bundesge-richtshof (Federal Court of Justice, BGH) which had appeared to open the door toclaims by depositors and other bank creditors against the banking supervisor.And the other is that the immunity is a de facto one which arises out of theoperation of two separate legislative provisions, the first of which states that apublic official can be held liable to third parties only if the official duty inquestion was directed at least in part at the protection of their individual inter-ests,77 and the second of which states that the financial supervisor performs itsduties only in the general public interest.78 The legislator’s preference for anindirect immunity of this kind may be attributable to the need to avoid contra-vening art 34 of the German Constitution, which forbids the exclusion of thejurisdiction of the ordinary courts in respect of damages claims against publicauthorities. The fact that art 34 also extends to legislation qualifying the degree offault required for state liability79 may (somewhat paradoxically) explain whyGermany has ended up conferring complete immunity on financial supervisors inthird party cases, as opposed to employing a standard of gross fault/negligenceor bad faith.

IV Conceptual and other obstacles to liability

The focus of this part of the article is on the conceptual and other obstacles whichlie in the path of a depositor or other investor in a failed financial institution whoseeks to recover their losses from a supervisory authority. Although we have seenthat special protections are often conferred on financial supervisors by legislatorsout of concern that the threat of liability will have a detrimental effect on the

76 See Andenas/Fairgrieve (fn 29) 357 f; van Dam (fn 8) 250 (who however points out that thisargument has been rejected by the Bundesgerichtshof).77 Bürgerliches Gesetzbuch (German Civil Code, BGB) § 839.78 Financial Services Supervision Act, 22 April 2002, § 4(4).79 Andenas/Fairgrieve (fn 29) 358.




performance of their statutory obligations, it would be misguided to suppose thaton the application of general tort principles recovery against an allegedly negli-gent supervisor is straightforward. Experience shows that even where such ac-tions are governed by the ordinary law of civil or administrative liability, it is rarefor a damages claim by a depositor against a financial supervisor to succeed.80

The depositor may fall at any one of a number of hurdles, including fault,causation, and objections based on the nature of the damage (the pure economicloss issue), liability for omissions or for the deliberate acts of third parties,liability for the exercise of judicial or ‘quasi-judicial’ functions, and the principleof the so-called ‘protective purpose of the norm’.81 In the words of one commenta-tor discussing the UK position:82

[I]t would be a mistake to assume that the statutory immunity is the only barrier to recoveryin the event of regulatory failure … [E]ven without an express immunity, considerations oflegal principle unrelated to the specific statutory framework and affecting a broad spectrumof regulatory activities would probably lead to similar results.

Before we turn to look at these ‘considerations of legal principle’ in more detail, aflavour of the difficulties facing depositors can be given by reference to two PrivyCouncil decisions in appeals concerning the negligence liability of financialsupervisors from jurisdictions where the UK’s statutory immunity was not inforce. The fact that on both occasions the Privy Council dismissed the actions onthe grounds that the supervisor owed no duty of care to depositors demonstratesthat even if financial supervisors did not benefit from specific statutory protec-tion, the English courts would be most unlikely to impose liability in negligencein this type of case.83

80 See Athanassiou (fn 10) 16 (‘depositors have rarely been able to recover all or even part oftheir losses, even where supervisors are subject to the regular liability rules’).81 Depositors may also be found to have been partly responsible for their own losses, in whichcase their damages will be discounted for their contributory fault. When investors in a failedItalian company recovered damages from the supervisory authority for authorising a public offerof securities, the defendant unsuccessfully argued that the damages should be reduced forcontributory negligence because the investors ought to have been warned off by media reportingof alleged irregularities in the securities issue: see AP Scarso, Tortious Liability of RegulatoryAuthorities, European Tort Law (ETL) 2005, 94, no 18 ff.82 Hadjiemmanuil (fn 30) 337.83 This opinion is shared by other commentators: see eg Hadjiemmanuil (fn 30) 362 (evenwithout the statutory immunity, ‘the case law shows that regulators … will not owe common lawduties of care … with regard to loss arising from market activities’); C Booth/D Squires, The

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In the first of the two cases, Yuen Kun Yeu v Attorney General of Hong Kong,84

the claimants were investors in a failed financial institution in Hong Kong whobrought negligence actions against the Commissioner for Deposit-taking Compa-nies in the territory on the grounds that he had registered the company (or failedto revoke its registration) despite having had reason to suspect that its affairswere being conducted fraudulently, speculatively and to the detriment of itsdepositors. The Privy Council struck out the claims on the grounds that there wasinsufficient ‘proximity’ between the commissioner and prospective investors inthe company for a duty of care to arise. Lord Keith cited a number of reasons forthis conclusion, including the facts that (1) the registration system served theinterests of the public at large, and was not intended to give rights to individuals;(2) the power to refuse or revoke registration was ‘quasi-judicial’ in character; and(3) the claimants were seeking to impose liability on the commissioner for thedeliberate acts of independent third parties (the company and its managers) eventhough he lacked day-to-day control over their conduct and operations. In thesecond case, Davis v Radcliffe,85 the Privy Council followed its earlier decision inYuen Kun Yeu and struck out a negligence action brought against members of theIsle of Man Finance Board for not revoking the licence of a bank which subse-quently collapsed. The claimants’ argument that a distinction should be drawnbetween the licensing of banks and the licensing of deposit-taking companieswas rejected.

A The protective purpose of the norm

The first conceptual obstacle to claims by depositors against financial supervisorswhich will be considered is the principle encapsulated in sec 6:163 of the DutchCivil Code that ‘[t]here is no obligation to repair damage when the violated normdoes not have as its purpose the protection from damage such as that suffered bythe victim’. One effect of this ‘protective purpose of the norm’ principle is to limitthe liability of public authorities to cases where one of the purposes of the ruleimposing the relevant duty on the authority is the protection of the interest of theclaimant affected by the authority’s alleged breach of that duty. The effect of thisprinciple in the present context will therefore be determined by prevailing percep-tions as to the purposes of financial supervision, and in particular whether these

Negligence Liability of Public Authorities (2006) para 14.56 (negligence liability ‘will not beimposed even if a claim is not covered by the statutory immunity’).84 [1987] 2 All ER 705.85 [1990] 2 All ER 536.




include protecting the interests of individual depositors. We have seen thatdepositor protection is generally considered to be one of the purposes of theregulation and supervision of financial institutions, albeit that it is not the solesuch purpose, and its relative importance seems to have diminished over time.86

Bearing that in mind, it is instructive to consider how the principle of theprotective purpose of the norm has played out in this context in two systemswhich recognise it, German law and the common law.

We have already seen that in Germany the protective purpose of the normprinciple (which is well-established,87 and plays a central role in the law ofgovernment liability) is the mechanism through which the legislator has con-ferred a de facto immunity on financial supervisors in third party cases, byexpressly stating that the banking supervisor performs its functions solely in thepublic interest.88 Needless to say, this statement is not universally accepted, andit can be contrasted with two earlier decisions of the BGH holding that one of thepurposes of the duty to supervise banks was to protect the interests of individualcreditors, thereby paving the way for damages claims by creditors against thesupervisor.89 In the UK and the Commonwealth, meanwhile, it is an establishedprinciple that no duty of care will be imposed if the statutory duty or power onwhich the negligence action is based was intended to be exercised for the benefitof the public generally and not for the protection of members of a particularclass.90 This principle has had a limited, but none the less significant, impact inthe present context. In Davis v Radcliffe, the perception that the objectives offinancial supervision extended beyond investor protection to the wider publicinterest in financial stability was used as a justification for denying that super-visors owed depositors a duty of care on the grounds that the very nature of thework of supervisory agencies, ‘with its emphasis on the broader public interest’,militated strongly against ‘a duty of care being imposed on such an agency in

86 See text accompanying fns 27–29.87 See further van Dam (fn 8) 272–275; H Koziol, Basic Questions of Tort Law from a GermanicPerspective (2012) 276–279.88 See text accompanying fns 77–79. Similar express stipulations can be found in legislation inBelgium (Law on the Supervision of the Financial Sector and on Financial Services of 2 August2002, art 68) and Luxembourg (Law on the Creation of a Supervisory Commission of the FinancialSector of 23 December 1998, art 20.1), albeit these stipulations do not result (as in Germany) incomplete immunity from liability.89 BGHZ (decisions of the BGH) 74, 144, 147 (Wetterstein) and BGHZ 75, 120, 122 (Herstatt). Inneither case was the fault of the supervisory authority established.90 Pyrenees Shire Council v Day (1998) 192 Commonwealth Law Reports (CLR) 330, at 347(Brennan CJ). See generally Nolan (fn 66) para 17.18.

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favour of any particular section of the public’.91 And a version of the protectivepurpose of the norm principle was relied upon by the Supreme Court of Canadawhen it decided in Cooper v Hobart92 that the failure of a mortgage broker registrarto exercise his power to revoke a broker’s licence could not give rise to liability innegligence to a person who lost funds invested with the broker as a result. Theexistence of a duty of care was considered to be incompatible with the relevantlegislative scheme, under which the registrar’s duty was owed to the public as awhole, rather than to individual investors.

B Liability for the exercise of judicial or ‘quasi-judicial’functions

A second possible conceptual obstacle in the path of claims against financialsupervisors is the argument that the decision of the financial supervisor underattack was made in the exercise of a judicial or quasi-judicial function, andshould for that reason not give rise to liability in damages, at least in the absenceof bad faith. Although this argument surfaces occasionally in the English andCommonwealth case law, it seems fair to say that it is not central to the analysis.93

However, the argument has had a significant impact on the development of thelaw in this area in France, where the characterisation of the disciplinary powersof the Commission Bancaire as the performance of a judicial function has meantthat special protection from liability has been given when claims have beenbrought in respect of the exercise of those powers. In the past, this protection tookthe form of a complete immunity, and although more recent jurisprudence coun-tenances liability for faute lourde in this context, this is only in certain very limitedcircumstances, and it seems that none of the claims which have been broughtagainst the Commission in respect of its disciplinary functions has succeeded.94

91 Davis [1990] 2 All ER 536, 541 (Lord Goff).92 (2001) 206 Dominion Law Reports (DLR) (4th) 193.93 Baird v R (1983) 148 DLR (3d) 3, 17 (Le Dain J); Yuen Kun Yeu [1987] 2 All ER 705, 713 (LordKeith); Cooper (2001) 206 DLR (4th) 193, at [52] (McLachlin CJC (Chief Justice of Canada) andMajor J).94 Fairgrieve/Belloir (1999) 10 EBLR 13, 17 f.




C Liability for pure economic loss

Another conceptual difficulty with actions against financial supervisors is thatthey are claims not for physical damage but for a diminution in the value of theclaimant’s assets, and most European systems are (in the words of Cees van Dam)‘reluctant’ in awarding compensation for pure economic loss.95 In English law,where pure economic loss is generally irrecoverable in negligence in the absenceof a prior assumption of responsibility by the defendant towards the claimant,this alone would be enough to doom almost all such actions to failure, since it ishighly unlikely that a financial supervisor would be deemed to have assumed aresponsibility towards a particular investor. In Yuen Kun Yeu, the claimantsargued that, by registering the company and allowing the registration to stand,the defendant made a continuing representation that the company was credit-worthy which the claimants had relied on when they deposited their money withit. However, Lord Keith said that liability for negligent misrepresentation re-quired ‘a voluntary assumption of responsibility towards a particular party’ andthat in the instant case there was ‘clearly no voluntary assumption by thecommissioner of any responsibility towards the [depositors] in relation to theaffairs of the company’.96 In order for a financial supervisor to be deemed tohave assumed a responsibility towards a particular investor, it would have to beshown that the supervisor had gone beyond the mere performance of its statu-tory functions,97 and had (for example) given a personal assurance to theinvestor that an institution was a safe haven for the investor’s funds. For obviousreasons, such a scenario would be most unusual, and in a recent UK SupremeCourt decision Lord Mance SCJ suggested that such an assumption of responsi-bility was inconceivable in the light of the regulatory objectives laid down in therelevant legislation.98

Even legal systems more sympathetic to claims for pure economic loss maybaulk at allowing its recovery in this context. In Canada, where a more liberalapproach is taken to this issue than in England, the Supreme Court referred in

95 Van Dam (fn 8) 711. See also European Group on Tort Law, Principles of European Tort Law:Text and Commentary (2005) art 2.202(4) (‘Protection of pure economic interests … may be morelimited in scope’).96 Yuen Kun Yeu [1987] 2 All ER 705, 714. See also Birchard v Alberta Securities Commission (1987)42 DLR (4th) 300, 323 (Agrios J).97 See (in a different context) Lam v Brennan [1997] Personal Injuries and Quantum Reports(PIQR) P488, P504 (Potter LJ).98 Financial Services Authority v Sinaloa Gold plc [2013] United Kingdom Supreme Court (UKSC)11, [2013] 2 All ER 339 at [37].

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Cooper v Hobart to the danger of indeterminate liability (the so-called ‘floodgates’argument) as a reason for holding that no duty of care was owed,99 while inFrance, where recovery for pure economic loss is unproblematic at a conceptuallevel, it seems that the fact that the interests affected by the alleged fault offinancial supervisors are purely economic influenced the decision of the Conseild’Etat to apply the lesser faute lourde standard to them in the Kechichian case.100

D Liability for omissions

Claims brought by depositors against financial supervisors generally allege sinsof omission, typically that the supervisor should have intervened earlier to closedown or otherwise sanction the failed institution.101 For common lawyers, at least,claims of this kind run into another conceptual difficulty, which is that generallyspeaking common law systems do not impose negligence liability for omissions(failing to confer a benefit) as opposed to positive acts causing harm. In the past,the English courts did not always apply the full rigour of this principle where apublic authority was sued for not exercising a statutory duty or power, and thisremains true of the courts in many Commonwealth jurisdictions. However, inGorringe v Calderdale MBC,102 the House of Lords held that a public authority canbe liable in negligence for its failure to exercise a statutory power or duty only ifthe circumstances are such that a private party would also have come under anobligation of positive conduct. Since on ordinary private law principles such anobligation is unlikely to arise in the absence of a prior assumption of responsi-bility, and since we have already seen that such an assumption of responsibilityis extremely unlikely in this context, in English law the Gorringe principle pre-sents an insuperable obstacle to recovery in most cases of the kind under con-sideration. By contrast, it would appear that the nonfeasance objection is not asignificant obstacle to claims against financial supervisors in continental jurisdic-tions.

99 Cooper (2001) 206 DLR (4th) 193, at [54] (McLachlin CJC and Major J).100 Fairgrieve (fn 52) 119 and 200 (citing a later article by two members of the Conseil d’Etat, aswell as the conclusions of CG Alain Seban in the case itself).101 This is not invariably so. Where, as in Yuen Kun Yeu [1987] 2 All ER 705, the depositor’scomplaint is that by licensing a particular institution the supervisory authority represented thatthe company was creditworthy, and that they deposited their money with the institution inreliance on that representation, the claim is in respect of a positive act rather than an omission.See further on such cases of ‘claimant reliance’, D Nolan, The Liability of Public Authorities forFailing to Confer Benefits (2011) 127 Law Quarterly Review (LQR) 260, 275 ff.102 [2004] UKHL 15, [2004] 1 Weekly Law Reports (WLR) 1057.




E Liability for deliberate third-party acts

Yet another conceptual obstacle in the path of depositors seeking legal redressfrom financial supervisors is the principle recognised in common law systemsthat generally speaking one person is not liable for the deliberate acts of a legallyresponsible third party (in this context, the failed institution and its managers).103

As Jane Stapleton has pointed out, this principle has been used by the Englishcourts to support holdings of no duty of care even where the defendant is ‘aregulator charged specifically with controlling the relevant wrongdoing of theprincipal party’.104 This proposition can be illustrated by reference to the twoPrivy Council decisions discussed earlier. In Yuen Kun Yeu, Lord Keith empha-sised that ‘the immediate cause’ of the claimants’ loss ‘was the conduct of themanagers of the company in carrying out its business’ in a fraudulent, improvi-dent and illegal manner.105 While acknowledging that there were cases in which adefendant had been held liable in negligence for failing to prevent a third partyfrom causing damage to the claimant, his Lordship pointed out in those cases thedefendant had exercised close control over the third party in question, whereas inYuen Kun Yeu the defendant commissioner had no power to control the day-to-day functioning of the failed company. Similarly, in Davis v Radcliffe106 the PrivyCouncil held that the fact that the claimants were seeking to make the defendantregulator liable for damage caused by the default of a third party (the failed bank)militated against the imposition of a duty of care in negligence, and that thedefendant did not possess sufficient control over the bank’s management towarrant the imposition of such a liability.

When considering these authorities, it is important to bear in mind that,applying the principle of joint and several liability, a public authority found liableunder English law for failing to prevent a third party from damaging the claimantwill be liable for the entirety of the damage, and that although the authority willgenerally have a right to contribution from the third party, in practice the thirdparty is likely to be a ‘man of straw’ – in the present context, this will almostinevitably be true of the failed financial institution itself – in which case this rightis of no practical use. The result is that the imposition of a duty of care may exposethe authority ‘to a liability burden wholly out of proportion to their peripheral

103 See generally J Stapleton, Duty of Care: Peripheral Parties and Alternative Opportunities forDeterrence (1995) 111 LQR 301.104 Ibid 314.105 See [1987] 2 All ER 713.106 [1990] 2 All ER 536.

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degree of responsibility’,107 and it has been suggested that this is one of the reasonswhy the courts have been reluctant to impose liability on financial regulators incases not caught by the statutory immunity.108 It is instructive to compare theapproach taken to this issue in French administrative law, where the third party’sinvolvement does not bar the claim, but the damages are instead limited to reflectthe public authority’s relative causal responsibility for the claimant’s loss.109 In theKechichian case,110 for example, although the banking supervisor was held liableto the depositors, it was required to compensate only 10% of the lost deposits, onthe grounds that the primary cause of the bank’s collapse had been the fraudulentactivities of its directors. Where either of these approaches to the third-partyproblem is adopted, it will operate as a significant constraint on liability in thiscontext.

F Establishing fault

Even if the depositor succeeds in surmounting all these conceptual obstacles torecovery, he or she is still likely to face considerable difficulties when it comes toestablishing that the supervisor was at fault, regardless of whether an ordinaryfault or gross fault standard is employed.111 After all, in determining whether fi-nancial supervision has been carried out negligently, account must be taken ofthe ‘inherent complexity of regulating and supervising financial institutions’112

and the so-called ‘supervisor’s dilemma’,113 and it also has to be borne in mindthat financial supervisors are exercising discretionary powers conferred on themby statute. As regards the latter consideration, it should be noted (1) that theEnglish courts have held that the fact that the defendant is a public authority

107 Stapleton (1995) 111 LQR 301, 314.108 Law Commission, Administrative Redress: Public Bodies and the Citizen (Law Com CPNo 187, 2008) 94n.109 See Fairgrieve (fn 52) 175 f. It has also been suggested that the fact that the supervisoryauthority is a ‘causally peripheral player’may partly explain the use of the faute lourde standardin this context: Fairgrieve/Belloir (1999) 10 EBLR 13, 19. For a suggestion that English law followthe French example and abandon the principle of joint and several liability in public authorityliability cases in favour of some form of proportionate liability, see Law Commission (fn 108)para 4.190 ff.110 CE 30 November 2001.111 The position will of course be different if a ‘no-fault’ illegality standard is employed: see textaccompanying fns 36–44.112 Fairgrieve/Belloir (1999) 10 EBLR 13, 19.113 See text fn 4.




exercising a statutory discretion must be taken into account when determiningwhether the authority has been negligent,114 lest by finding fault too readily thecourts end up treading on the toes of the legislature; and (2) that in the Englishand Commonwealth case law on the negligence liability of financial supervisors,much emphasis has been placed on the delicacy and discretionary nature of thedecisions in question.115

The challenges facing depositors when it comes to the fault issue are illus-trated by the French case law in which a gross fault standard has been employed.Despite a considerable volume of litigation, involving what at times appear tohave been quite serious supervisory failures, there was prior to the Kechichiandecision only one case in which an administrative court decided that the bankingsupervisor had been negligent enough for liability to be imposed.116

G Establishing causation

The final challenge which depositors will face is the need to establish that thesupervisor’s fault was a cause of their loss. Again, this may be far from straightfor-ward. It may, for example, be difficult to establish that careful supervision wouldhave resulted in a failed institution being closed down before the time it collapsedand, even if that is shown, depositors who invested their money before the super-visor should have acted are unlikely to be able to establish the necessary causallink between its inaction and the loss of their funds.

Again, the difficulties can be illustrated by reference to the French case law.In the French BCCI litigation, for instance, the Cour Administrative d’Appel did notdecide whether as regards their taking of administrative measures the authoritieshad been at fault in their supervision of the bank’s French operations, insteaddismissing the claims on the grounds that no causal link existed between theiralleged failures and the loss of the funds deposited by the claimants with thebank.117 Since the bank’s collapse was largely attributable to fraudulent activity atits principal office in London, there was no direct causal connection between any

114 See eg Barrett v Enfield LBC [2001] 2 Appeal Cases (AC) 550, 591 (Lord Hutton); Phelps vLondon Borough of Hillingdon [2001] 2 AC 619, 652 f (Lord Slynn); S v Gloucestershire CC [2001] LawReports, Family Division (Fam) 313, 338 (May LJ).115 See eg Yuen Kun Yeu [1987] 2 All ER 713 (Lord Keith); Fleming v Securities Commission [1995] 2New Zealand Law Reports (NZLR) 514, 530 f (Richardson J); Cooper v Hobart (2001) 206 DLR (4th)193, at [53] (McLachlin CJC and Major J).116 See Fairgrieve/Belloir (1999) 10 EBLR 13,16 f.117 CAA Paris, 30 March 1999, El Shikh.

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failings on the part of the French authorities and the depositors’ losses. Further-more, the Governor of the Banque de France was not liable for failing to exercisehis power to request BCCI’s shareholders to shore up the bank with additionalfunds because they would have been under no obligation to comply with such arequest, and so it was not certain it would have had any effect. The court evenheld that the failure to revoke the bank’s licence could not give rise to liabilitybecause it had not been shown that the bank’s collapse was attributable to itsfailure to comply with the requirements of its licence, though it is hard to see whythis was considered relevant to the question which the court should surely havebeen asking, which was whether the revocation of the licence would have pre-vented the claimants’ losses.118 In its decision in the Kechichian case,119 the samecourt took a different approach to the causation question, holding that whileinadequate supervision had been causally significant in the failure of anotherbank, it had only deprived depositors of a chance of avoiding their losses, so thatthe damages awarded should be limited to one-fifth of the funds each had lost.Again, these cases show that even if a depositor succeeds in establishing therequisite degree of fault on the supervisor’s part, he or she is still far from beinghome and dry.

V Alternative means of redress

It would be remiss to leave the topic of financial supervisor liability withoutconsidering alternative routes to redress which may be available to a depositorwho alleges supervisory failures. Bearing in mind the many difficulties which wehave seen depositors will face if they bring legal action for compensation of theirlosses, extra-legal mechanisms for holding supervisors to account may offer amore fruitful way forward. This has certainly been the experience in the UK, andit is the operation of these alternative means of redress in the UK on which I willfocus here. By way of background, we should note that in the UK public bodieswill sometimes make compensation payments on an ex gratia basis, and thatinternal government guidance is provided as to when these payments should bemade and the principles which should govern the calculation of the payment.120

In a case of alleged supervisory failure, the alternative means of redress mostrelevant to a depositor in the UK are the Complaints Commissioner and the

118 See Andenas/Fairgrieve (fn 29) 349.119 CAA Paris, 25 January 2000. This case subsequently went to the Conseil d’Etat, which took adifferent approach (see text to fn 110).120 Law Commission, Remedies against Public Bodies: A Scoping Report (2006) para 4.29.




Parliamentary and Health Service Ombudsman (previously the ParliamentaryCommissioner for Administration, PCA). The position of Complaints Commis-sioner was created to provide an independent means of adjudicating on com-plaints made against the Financial Services Authority (FSA) – the sole financialsupervisor from 2001 until April 2013 – by the firms it supervised and third partiessuch as depositors, and will perform the same function in relation to the newsupervisory authorities which have replaced the FSA. The Commissioner’s juris-diction is limited to allegations of misconduct, which for these purposes includesmistakes and lack of care, unreasonable delay, unprofessional behaviour, biasand lack of integrity. Any complaint is dealt with first by the supervisory authorityitself, and goes to the Complaints Commissioner only if the complainant is notsatisfied with the outcome of the internal investigation. If the Commissioner findsin favour of the complainant, then he makes recommendations to the authority asto the form which any redress should take, including financial compensation. Inthe financial year 2011–2012, the Commissioner considered 161 complaints, 78%of which had been made by individual consumers.121

The Parliamentary and Health Service Ombudsman (PHSO) is one of a num-ber of public sector ombudsmen with jurisdiction to consider complaints ofmaladministration made against public bodies. The PHSO’s remit covers theorgans of central government, including regulatory agencies. Maladministrationis a broad and flexible concept, which includes mistakes and oversights, failingto provide adequate information or explanations, and giving misleading advice.122

In principle, the PHSO cannot investigate matters for which a complainant couldobtain a legal remedy,123 but it seems that this restriction has been interpretedloosely.124 If a finding of maladministration is made, the PHSO can recommend anumber of remedies, including the making of an apology or an award of financialcompensation, as well as changes to the public body’s practices to prevent similarmistakes being made in the future.

In two high-profile cases, damning reports from the PCA/PHSO about failingson the part of the authorities charged with supervising the financial servicesindustry have led to ex gratia payments being made by the government to de-positors who had suffered losses as a result. The first case concerned the BarlowClowes affair, the collapse of two investment firms in 1988 amidst allegations ofmassive fraud which left some 20,000 small investors out of pocket. Since many

121 Office of the Complaints Commissioner Annual Report for 2011/2012.122 G Drewry/R Gregory, Barlow Clowes and the Ombudsman: Part 2 [1991] Public Law (PL) 408,427. For Part 1 of this article, see [1991] PL 192.123 Parliamentary Commissioner for Administration Act 1967, sec 5(2)(b).124 Law Commission (fn 120) para 4.18.

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of the depositors were retired people of modest means, some of whom had losttheir entire savings in the collapse, the resulting scandal had ‘social and politicalrepercussions that went far and wide’,125 and the spotlight soon turned on theDepartment of Trade and Industry (DTI), the government department thencharged with regulating and supervising the financial services industry. Some 159Members of Parliament whose constituents had lost money invested in the firmsasked the PCA to investigate the DTI’s role in the affair, thus precipitating by farthe largest and most complex inquiry in the history of that office. To cut a longstory short, the PCA identified a number of instances of significant maladminis-tration on the part of the DTI in its handling of the two firms.126 Had thismaladministration not occurred, the PCA concluded that the firms’ licences todeal in securities would have been revoked in early 1985, and on that basis herecommended that compensation be paid to investors who had suffered losses asa result of the firms being allowed to continue in business after that point.Although the Government rejected the most important of the PCA’s criticisms, itnevertheless decided, in what it characterised as the ‘exceptional circumstances’of the case (and without admitting any fault on the DTI’s part), to make substan-tial compensation payments to the investors, in return for their assigning to theDTI their rights in the liquidation of the two firms and against any third parties.127

In the end, £153 million in compensation was paid out, all but £33 million ofwhich was subsequently recouped through legal proceedings against those pri-marily responsible for the firms’ collapse.128

In the second of the two cases, the PHSO’s report on the supervision of the lifeinsurer Equitable Life (which collapsed in 2000) made ten findings of maladmin-istration which she determined had caused injustice to a large number of thecompany’s policyholders.129 This time, the then Labour Government did acceptsome (though not all) of the PHSO’s findings, and apologised to the policyholdersfor the maladministration which it accepted had occurred. However, it rejectedthe PHSO’s recommendation that it set up a scheme to compensate policyholderswho had suffered losses as a result of the regulatory failures she had identified,instead of which it proposed making some ex gratia payments to those ‘dispropor-

125 Drewry/Gregory [1991] PL 192, 194.126 Parliamentary Commissioner for Administration, The Barlow Clowes Affair (HC 1989–90, 76).127 Observations by the Government on the Report of the Parliamentary Commissioner forAdministration (HC 1989–90, 99).128 ‘Barlow Clowes Affair Declared Closed After 23 Years’ The Guardian (London, 7 February2011).129 Parliamentary and Health Service Ombudsman, Equitable Life: A Decade of Regulatory Fail-ure (HC 2007–2008, 815).




tionately affected’ by the failures it accepted had been made, which were to belimited by reference to the ‘relative culpability’ of the regulators for thoselosses.130 Before any such payments were made, the Labour Party lost power, andthe incoming Coalition Government took a different tack, and decided to establisha compensation scheme after all. The remit of this scheme, the ‘Equitable LifePayment Scheme’, extends to the losses attributable to all the instances of malad-ministration identified by the PHSO, whether accepted by the previous Govern-ment or not. However, since it was estimated that these losses amounted to some£4.3 billion, the Government decided out of concern for the public finances tolimit full compensation under the scheme to the policyholders it judged had beenhardest hit, and to provide only partial compensation to the others. Even still, it isestimated that the total amount of compensation which will be paid out underthis scheme will be in the region of £1.5 billion. At the time of writing, paymentstotalling over £277 million have been received by some 288,000 policyholders.

When compared to litigation, these alternative mechanisms offer significantadvantages to depositors seeking redress for supervisory failures. They are free,readily accessible, less formal, and will generally come to a conclusion moreswiftly. A considerable range of remedies is available, and compensation may bepayable where no legal claim would lie. On the other hand, it has been said to be‘very rare’ for a recommendation of compensation to be made by the ComplaintsCommissioner,131 and the payments recommended by the PHSO tend to be modestby comparison with damages awards made by the courts.132 Most importantly ofall, the recommendations of the PHSO are not legally binding, and although theyare generally followed the two cases which have been considered here show thatthis cannot be taken for granted, particularly when large sums of public moneyare at stake. Had it not been for the change of government in May 2010, theEquitable Life Payment Scheme would probably not have been established, andin their article on the PCA’s investigation into the Barlow Clowes affair, GavinDrewry and Roy Gregory argue that the then Conservative Government’s decisionto make compensation payments to the investors was politically motivated, andowed much to the strength of the campaign which the investors had waged

130 HM Treasury, The Prudential Regulation of the Equitable Life Assurance Society: TheGovernment’s Response to the Report of the Parliamentary Ombudsman’s Investigation (Cm7538, 2009). This response drew sharp criticism from the PHSO herself: see Parliamentary andHealth Service Ombudsman, Injustice Unremedied: The Government’s Response on Equitable Life(HC 2008–2009, 435).131 Singh (fn 4) 195.132 Fairgrieve (fn 52) 249.

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against the DTI in the wake of the collapse.133 While therefore it is clear that in theUK these alternative means of redress have been of more tangible benefit todepositors in cases of supervisory failure than has the law of tort, experiencesuggests that ultimately their effectiveness is likely to depend on political con-siderations.134

VI Conclusion

Three points can be made by way of a conclusion. The first is that the specialprotections often afforded to financial supervisors by legislators and the concep-tual and other obstacles which stand in the path of a depositor seeking legalredress in respect of a supervisory failure mean that in practice this is a context inwhich successful actions for damages are very rare, whichever legal system isconsidered. To take just one example, in Hungary, where a number of legalactions have been brought against the Financial Supervisory Authority by deposi-tors, and an ordinary negligence standard applied, none of the claims has suc-ceeded.135

The second point is that although the special legal protections increasinglygiven to financial supervisory authorities are primarily motivated by concern thatthe threat of liability is likely to be detrimental to the effective exercise of theirfunctions, in truth the deterrent effects of liability in this context (whether detri-mental or otherwise) are difficult to assess. According to Carol Harlow, ‘studies ofthe effect of tort law on public decision-making are uncommon, inconclusive,and sometimes unreliable’,136 and it has been argued that in this particular con-text ‘there is no conclusive evidence that tort law has any deterrent effect’.137 Acareful and sophisticated attempt by Robert Dijkstra to apply economic methodol-ogy to the liability of financial regulators in the Netherlands served mainly to

133 Drewry/Gregory [1991] PL 408, 441.134 For other instances of ex gratia payments being made following supervisory failures in thefinancial services context, see Hadjiemmanuil (fn 30) 361n (payments made by the Isle of Mangovernment following a report into the failings which were the subject of the unsuccessful legalaction in Davis [1990] 2 All ER 536); and Drewry/Gregory [1991] PL 192, 201n (payments totalling£67,000 made to a dozen investors by the DTI in the late 1980s after the PCA criticised itssupervision of a failed investment company).135 Dijkstra (2012) 3 JETL 346, 356.136 C Harlow, State Liability: Tort Liability and Beyond (2004) 28.137 Athanassiou (fn 10) 32.




show how hard it is to measure the deterrent effects of such liability.138 It shouldnot in any case be forgotten that financial supervisors are subject to a range ofnon-judicial accountability mechanisms – the price paid by the UK’s FSA for itsapparent failings in the run up to the financial crisis, for example, has been itsabolition and replacement with a new regulatory regime.139

And the final conclusion which I think can be drawn is that if the legislatordoes decide to give financial supervisors special protection from liability, theneither complete immunity or the use of a gross negligence standard is to bepreferred to a requirement of bad faith. A gross negligence approach is less likelythan an ordinary negligence standard to cause defensive supervision,140 while atthe same time affording depositors redress in the most egregious cases of super-visory failure.141 And while complete immunity may seem distasteful, it is to bepreferred to a bad faith test which, being practically impossible to satisfy, givesonly a false hope to depositors.

138 RJ Dijkstra, Liability of Financial Regulators: Defensive Conduct or Careful Supervision?(2009) 10 JBR 269.139 See fn 27. On the accountability of financial supervisory authorities more generally, seeAthanassiou (fn 10).140 According to Dijkstra (2009) 10 JBR 269, 279, ‘The problem of over deterrence can be solvedby negligence rules which restrict compensation to cases of obvious negligence or to wilfulbehaviour’. See also Athanassiou (fn 10) 35 (the ‘inhibition argument’ does not apply to super-visory gross negligence).141 Rossi [2003] EBLR 643, 671 considers a gross fault standard to be the ‘optimal solution’ inthis context. See also Scarso, ETL 2005, 94, no 56.

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The Liability of Financial Supervisory Authorities

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