Financial services regulation: the race to reform
Legislation is proceeding to split the Financial Services Authority into two new bodies dealing respectively with large financial institutions, and consumer services. This commentary looks principally at the latter
For those solicitors working in-house in the financial services industry, or advising clients in the industry from private practice, it’s a very busy and interesting time, a time of great change. As we are in a summer of sport, I thought an athletics theme would be quite an appropriate metaphor for it.
A fundamental change is taking place to the regulators themselves, and the race is on to deliver this in 2013, probably around 1 April. The industry’s primary regulator, the Financial Services Authority (FSA) will be hanging up its running shoes. Its demise has come about due to its well publicised failings in the financial crisis. Its fate was sealed when David Cameron and his party included a pledge to split up the FSA in their 2010 election manifesto.
Splitting Team FSA
The FSA is being unceremoniously split into two separate regulators.
On one side will be Team Prudential – the Prudential Regulation Authority (PRA), which will be part of the Bank of England over in the City of London. This will regulate large, “systemically important” financial institutions like large banking groups. The PRA will – as its name suggests – be solely focused on prudential regulation, i.e. ensuring that these institutions are financially stable. There will also be a Financial Policy Committee (FPC), again as part of the Bank of England structure.
On the other side will be Team Consumer, the Financial Conduct Authority (FCA). It will stay in Canary Wharf and will be like the FSA, but smaller and with a much bigger consumer focus. (“Conduct” is about how regulated firms conduct their business, including how they deal with their customers.) This will be captained by Martin Wheatley and is the main focus of this article.
In April this year the FSA split internally into prudential and conduct teams, in a sort of practice run which they are calling the “twin peaks” model. (Why they want to compare themselves with David Lynch’s über strange TV series is not clear!)
Financial Services Bill
The legal instrument of this change is the Financial Services Bill, which will amend the Financial Services and Markets Act 2000 (“FSMA”). The bill is at about the halfway mark in what is quite a speedy sprint through Parliament, having made it through the House of Commons with very little change. It is expected to get Royal Assent before the end of the year.
Clause 5 of the bill prescribes the objectives of the FCA, and six regulatory principles which apply to how it conducts its general functions such as making rules:
• one strategic objective:
Ensuring relevant markets function well
• three operational objectives:
securing an appropriate degree of protection for consumers;
protecting and enhancing the integrity of the financial system;
promoting effective competition in the interests of consumers
• six regulatory principles:
(1) using its resources in the most efficient and economic way; (2) proportionality; (3) consumer responsibility; (4) senior management responsibility; (5) publishing information about regulated firms; (6) transparency.
Each operational objective has an associated list of things the FCA must have regard to, such as the level of care that firms should give their customers and how easy it is for consumers to switch to a different product provider.
What’s particularly new here is the explicit competition remit, something which sits with the competition authorities at the moment – the Office of Fair Trading (OFT) and the Competition Commission. There is also a new focus on individual responsibility for senior management in firms, and a more transparent, less “closed door” approach to regulation.
Better equipment and bigger muscles
The bill will give the FCA better equipment than the FSA had access to under FSMA, in the form of some new powers that give it bigger muscles as a regulator. These include powers to:
- ban products, impose price caps or impose other restrictions on products for up to 12 months (“product intervention”);
- publicly disclose enforcement action earlier – at the commencement or “warning notice” stage; and
- order withdrawal/amendment of non-compliant advertisements and make this public.
Of these powers, the first is the most controversial. Will the FCA be regularly banning products? What happens to consumers who have already bought these products? Draft guidance has been published about how the power might be used, but many questions remain to be answered about how this would work in practice.
The second power also raises questions, not least, what if the FCA gets it wrong? If a warning notice is published saying that the FCA is investigating a firm, this will hit the headlines. If a notice is published later by the FCA saying that they are dropping the investigation and the firm did no wrong, this won’t – but the damage to that firm’s reputation will already have been done. The FCA wants the power, but wants the bill changed so it doesn’t have to consult firms – and risk being hit with an injunction – before it issues a warning notice.
To keep it on its toes, consumer groups like Which? will also have the power to raise with the FCA “super-complaints” about issues which are causing or could cause mass consumer detriment, forcing the authority to investigate quickly and publish plan for action within 90 days.
A new running style
Most important will be the regulators’ style, their regulatory approach in practice. Much has been said about the FCA’s “judgment-based regulation”, “early intervention”, “more intensive supervision”, and “a lower appetite for risk”. The detail is still being worked through and we have been promised more clarity in consultation papers to be issued in early October.
The end of the race, or just the beginning?
When the new regulators start up next year this won’t be the end of the changes – rather just the beginning. Much more change is likely to follow as the PRA and FCA start to break away from each other, taking their own separate routes. We already know about the Government’s plans to scrap most of the Consumer Credit Act 1974 and replace it with a rules-based regime under the FCA, rather than the OFT (probably in April 2014). Longer term, the FCA may also rewrite its handbook from “FSA speak” to plain English, reducing the need for legal and compliance teams to interpret the rules for their business colleagues.
Are they winners?
The regulators face an Olympian challenge to earn themselves a good reputation in the eyes of the British public. I very much hope they succeed, because their reputation and the industry’s reputation go very much hand in hand – if the regulators earn public respect then perhaps the industry can too (although the industry also has its own work to do here).
Whether or not you think splitting the FSA is a good idea, it’s clear that all of this change is good for us solicitors, as it’s likely to keep us busy for the foreseeable future – as long as we can keep up with the pace!
Sara Scott is a solicitor in retail compliance with RBS Group, and a committee member of the In-house Lawyers Group.
The views expressed are the author’s own and not those of RBS Group or the ILG.