Treasury 'flat-footed' over Rock

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The Public Accounts Committee (PAC) criticised the department's lack of readiness to deal with a failing bank despite warning signs emerging as early as 2004.

PAC chairman Edward Leigh warned: "The Treasury must never again be so ill-prepared."

He added: "As this crisis has shown, the Treasury's ability to respond effectively to future financial crises must be maintained at the highest level."

Northern Rock - the first UK bank victim of the credit crunch - was propped up by almost £27 billion in emergency loans from the Bank of England and eventually nationalised in February 2008. The MPs were responding to a damning report published by the National Audit Office (NAO) spending watchdog in March.

The NAO said the bank was offering its infamous Together mortgage - lending borrowers up to 125% of the value of their homes - from the time of its emergency support until it was on the brink of public ownership.

The watchdog also found the Treasury failed to properly assess risks, carry out its own due diligence, or challenge over-optimistic business plans after nationalising the lender. "The taxpayer was exposed to enormous risks and liabilities to an unknown degree," Mr Leigh added.

There were around 60 staff working on financial stability issues in the Treasury during 2007 - but the pace at which it worked on measures to deal with a bank in difficulty was "leisurely", the PAC's report said. The Treasury's financial stability staff in this area has since doubled to 120 and the department has plans to increase it to more than 160 by the end of the year.

Northern Rock's business plan was based on a 5% fall in house prices in 2008, with its "recession" scenario factoring in a 20% fall over three years. But house prices fell by 15.9% during 2008, the biggest annual drop on record, according to building society Nationwide.

Mr Leigh added that the Treasury "did not sufficiently challenge the company's unrealistic forecast that house prices would remain much the same up to 2012".