February 11, 2014 / 4:01 PM / 4 years ago

UPDATE 2-UK regulator "surprised" by Lloyds chairman's evidence

* Bailey “surprised” by Bischoff evidence to lawmakers

* Bailey says Co-op concerns passed to Lloyds in 2011

* MPs probing collapse of Lloyds branch sale to Co-op

By Matt Scuffham and Freya Berry

LONDON, Feb 11 (Reuters) - One of Britain’s senior financial regulators said he was surprised that the chairman of Lloyds Bank did not know of concerns raised in December 2011 about a planned sale of Lloyds’ branches to the Co-op Bank .

Andrew Bailey told parliament’s Treasury Select Committee on Tuesday that the Co-op had informed Lloyds in December 2011 of the regulator’s concerns about the sale. Lloyds executives had told the committee last July they were not aware of a problem with the Co-op’s capital strength until a year later.

Bailey, the Bank of England’s deputy governor for financial stability, cited a letter he sent to Co-op Bank’s Chairman Paul Flowers in December 2011, which questioned whether Co-op had a “feasible and sustainable capital plan”.

Bailey said he had instructed Co-op executives to inform Lloyds of his concerns and had evidence that they had done so.

“I have to say to you what was a surprise in your hearing was that (Lloyds chairman) Win Bischoff didn’t know. When I heard about your hearing I said ‘well that’s odd’ and that’s obviously an issue within Lloyds,” Bailey told the committee.

Lloyds declined to comment on Tuesday.

Lloyds, 33 percent-owned by the government, was ordered to sell 631 branches by European regulators as a condition of its 20 billion pound ($32 billion) bailout following the 2008 financial crisis. The committee is examining whether there was undue political interference in the sale process.

Lloyds’ decision to sell the branches to the Co-op had support among lawmakers within the Conservative-led coalition government, which is committed to supporting customer-owned lenders. The deal was supposed to create an alternative to Britain’s established banks but collapsed last April.

Three months later, a 1.5 billion pound capital shortfall was uncovered at Co-op Bank, which subsequently fell under the control of bondholders including U.S. hedge funds. The bank’s problems were exacerbated when Flowers was arrested in November after becoming embroiled in a drugs scandal.

The regulator has been criticised for approving the appointment of Flowers, who had virtually no banking experience, as chairman in 2010. Bailey said he had found Flowers to be “pompous” in their meetings but added he was “well briefed” and “didn’t display ignorance.”

He said the appointment would not be approved now as the regulator is insisting bank chairman have significant financial services experience. But Bailey also acknowledged that the tougher criteria is making it harder to fill senior positions within banks.

“We do have to watch that we don’t create a regime where these jobs are so unpopular that no right-minded person would do them,” he said.

Bailey told the committee that most of the problems at Co-op Bank stretched back to its 2009 takeover of the Britannia Building Society, which saddled it with a portfolio of souring property loans. He said that Britannia would have required a rescue had it not been acquired by Co-op.

“My view at the time was ... it would have failed,” he said.

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