Summary and implications
On 1 April 2013, the Financial Services Authority (FSA) will be abolished and replaced by a new regulatory regime. The Government said when it came to power that the existing regime needed reform because it “palpably failed when tested by crisis”. As we approach the finish line, we must all be hoping that this one works. After all, we cannot simply change the regime each time we face a crisis.
This article sets out some of the changes which the Financial Services Act 2012 (the Act) will make to the status quo. Those of note include:
Enhanced powers: The new regime will grant the incoming regulators much wider powers, not only over regulated firms, but also the unregulated sector. Parent undertakings of regulated firms could be subject to various obligations and consumer credit will transfer to the Financial Conduct Authority (FCA) in 2014. This is a much broader scope of powers than under the existing regime.
Increasing competition: The new regulators have recently announced that they are considering lowering the capital ratios for new banks, at least temporarily, in order to promote competition in retail banking and reduce one of the biggest barriers to entry.
Action required: Authorised firms should be exploring whether they need to make any changes before the new regime comes into effect. Whilst a grandfathering approach is expected to be adopted, meaning firms will not have to reapply for authorisation, other changes to the FSA’s handbook are likely to require firms to make some changes.
A reminder of the new regime
The current tripartite system of financial services regulation replaced with a new “twin peaks” model consisting of the following:
- The Bank of England (the Bank) which will have responsibility for ensuring and protecting the stability of the financial system.
- A new Financial Policy Committee (FPC) which will be responsible for identifying threats to the financial system both nationally and internationally.
- Two new regulators (hence the name “twin peaks”): the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA).
The PRA will be responsible for regulating banks, insurance firms and complex investment firms. These will largely be those firms who are deemed to pose a systemic risk to the UK’s financial stability should they be allowed to fail.
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The FCA will be an independent body responsible for the conduct of business of all regulated firms. It will also be responsible for the prudential regulation of non-PRA regulated firms. The FCA is essentially the FSA under a change of name; only with more powers, a wider remit and new statutory objectives.
Impact on FSA-regulated firms
The Government and the FSA have been keen to ensure the introduction of the new regime is as seamless as possible. FSA-authorised firms will not have to re-apply for authorisation as their permissions are likely to be “grandfathered”, or carried over, into the new regime. The FSA has also had an internal structure in place adopting the new “twin peaks” system for some time now. FSA-authorised firms should, therefore, already have some appreciation of how the new regime will work. But this shadow internal structure is, at most, only an example of day-to-day supervisory conduct.
Whilst the aspiration for a seamless transition is well-intentioned, inevitably there will be a cost to firms in adapting the new regime. This is especially true for dual-regulated firms: those regulated by both the PRA and FCA. Such firms will have to adapt to having two regulators, two reporting lines and two lines of enforcement action. On a day-to-day level, the FSA’s existing handbook will be split between the PRA and the FCA. Dual regulated firms will need to consider how their existing policies and procedures comply with the new regime and its rules. The PRA is also likely to be more pro-active as a dedicated prudential regulator. Some firms have already experienced the FSA sitting in on board meetings; this could become commonplace with the PRA, along with other more visible supervisory practices.
One practice that will almost certainly not change is the FSA’s recent approach to enforcement. The new regulators will have additional powers at their disposal in order to tackle malpractice and possible threats to the economy, consumers or the financial markets. If anything, the new regulators’ approach to enforcement is likely to be even more intensive than in recent years.
Another change which will affect all authorised firms includes the amendments to the threshold conditions. These are the minimum standards firms must meet to obtain, and retain, authorisation. The conditions are being split between the PRA and FCA, clarified and supplemented. There will be a new PRA threshold condition requiring PRA-regulated firms to conduct their business in a prudent manner, and a condition for both regulators to assess the suitability of a firm, including its management.
Wider impact on non-FSA regulated firms
The Act grants the regulators various powers over the unregulated parent undertakings of authorised firms. A “qualifying parent undertaking” includes the authorised firm’s immediate parent, but also other parent companies in the wider group. The powers the regulators will have include:
- a power of direction to require the qualifying parent undertaking to take particular action;
- information gathering powers; and
- enforcement powers.
Consumer credit providers
The Government consulted on transferring the regulation of consumer credit from the Office of Fair Trading (OFT) to the FCA very early in the reform process. The intention was to create a single regulator to protect consumers. At present there is a lot of regulatory overlap in the consumer market, but the supervisory approach of the OFT and FSA is markedly different. It has been suggested that having two regulators for day-to-day financial products causes confusion, duplicates regulation and, ultimately, leads to a lack of consistency, although have argued that the current regime is working well at present and has only recently undergone significant changes. On 6 March the Government confirmed its intention to press ahead with the transfer of responsibility for consumer credit to the FCA in 2014.
The FCA will also begin to regulate peer-to-peer lending. Many in the industry have been calling for regulation; possibly as a stamp of approval to entice more people in. Others have been less enthusiastic. A consultation is expected shortly on how the FCA will regulate this industry. Any change is not expected to occur until 2014.
Where things could go wrong
The new regime will be under pressure to do better than the last: spotting emerging threats, ending recourse to taxpayers’ money and taking swifter action to prevent widespread mis-selling and market malpractice. The real test will come in the execution and there are a number of places where the new regime could come in for criticism.
The FCA’s product intervention powers pose some interesting questions. It is expected that this measure will only be used as a last resort. But what if a product slips through the net which causes mass detriment? No doubt the FCA will be hot on the heels of firms, but how will it defend itself for not picking up the problems in the first place? It would be quite embarrassing if another PPI scandal slipped its attention, for example.
The true test will come when faced with a possible stress situation. Will the FPC spot it early enough? What action will it take? Can it react more quickly than previously to prevent the situation getting worse? How will it co-operate with the PRA and FCA?
Again, let’s hope this regime works. If not, one might validly ask “was the change really worth it?”