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The Financial Services sector underwent a number of changes in 2013. Michael Wainwright, partner at Eversheds, looks at some of these changes and what impact they have had in practice.
2013 saw the UK’s financial services regulator, the Financial Services Authority (FSA), split into two. How do you think the industry has reacted to the change so far?
For the great majority of firms, the division of the FSA into Prudential Regulation Authority (PRA) and Financial Conduct Authority (FCA) has felt like a non-event. These firms are regulated for all purposes by the FCA, so that the PRA has no direct relevance to them. The regulatory relationship involves the same people, at the same address, working from the same rulebook as before. There is a minor change of name, some expensive but ultimately inconsequential rebranding, and new talk about proactive regulation which was already in the pipeline before the change in regulators.
Firms that are regulated by both PRA and FCA are beginning to experience the burden of serving two masters. Reporting, regulatory approvals, review visits and new rules now come from two directions. This soaks up considerably more resources and management time.
And the regulators—have we seen much interaction between the FCA and the PRA or anything falling through the cracks?
The PRA has a statutory right of veto over FCA action. We do not expect to see this exercised in practice, but it is a clear symbol of the junior status of the FCA in the regulatory hierarchy. On the other hand, the FCA has the lion’s share of the resources, and its mission of preventing misconduct is one that is dear to the present government. The impression is that over the first eight months, each regulator has concentrated on defining and promoting its own role, and there has been little emphasis on either side on co-ordinated action.
The implementation of CRD IV for investment firms has been an interesting test case. The Basel III rules were designed for banks, but European regulators have applied them to investment firms generally, against the will of the UK regulators and government. The PRA took the lead in engaging with the new rules, but did so at a high level, disdainful of explaining implications and expectations in detail. The FCA was left struggling to keep up. Its consultations were piecemeal, late and avoided briefing firms on the central measure, the capital requirements regulation, on the excuse that it was not the FCA’s responsibility and they had no choice in the matter. The consequence was that investment firms were left without proper guidance, leadership or support on one of the most important changes to affect the sector in the last few years.
What are the differences in the way that the FCA has flexed its regulatory muscle to the way in which its predecessor, the FSA, acted in the past?
The FCA has been more willing to take on banks and other large financial institutions in review visits and enforcement actions than was the case with the FSA in the past. This has been possible because the power and influence of banks has been shattered by the financial crisis and subsequent scandals. It is not a consequence of the new regulatory structure, but it is a significant development. At the same time, when compared with the FSA, the FCA has withdrawn significantly from engaging with medium sized and smaller firms on a business as usual basis, and seeks to regulate through speeches, newsletters and ‘Dear CEO’ letters, rather than through an organised framework of rules based on principle and supported by access to reliable guidance.
What have been the key pieces of legislation passed down in 2013 and how is it affecting the industry, both from a UK and an EU perspective?
The continued development of the regime for regulation of credit rating agencies has great symbolic importance as the test case for a European framework of regulation of financial services, where the maker and administrator of rules is a European body, as opposed to national regulators administering national rules implementing European directives. European legislators are hoping to follow this up with a European regime for financial benchmarks and European rules on product disclosure for all forms of packaged retail investment products, which can be enforced by a central regulator. The UK has sought to challenge these developments through the European court, but with only limited success to date.
Within the UK, the continuing elaboration of the themes of the retail distribution review is of central importance to the asset management industry, alongside the implementation of the Alternative Investment Fund Managers Directive 2011/61/EU. Implementation of Solvency II, for which we now have a new start date at the beginning of 2016, and CRD IV, which comes in on 1 January 2014, will have important repercussions over time. The UK banking reform legislation, which is close to adoption, will set the scene for further significant change in the banking industry in the next few years.
What were the most significant enforcement cases of 2013 and why?
The European sanctions on benchmark manipulation are significant because they mark increased intervention by European competition law authorities in the financial sector. In the UK, the series of enforcement cases on insider trading and on client assets (CASS) demonstrate the willingness of the FCA to invest its resources in getting across the message that firms must give high priority to understanding the basic rules of the regulatory regime, and ensuring that they are complied with in practice.
Have there been any significant international developments in 2013 that you think have affected financial service providers in the UK?
Initiatives around the world on shadow banking have the potential to bring new areas of commercial activity within the scope of financial regulation, such as peer-to-peer and crowd-sourced financing. At the same time, they threaten the viability of money market funds across Europe. An international solution needs to be found for regulatory frameworks on ring fencing of banks, where Volker, Vickers and Liikanen conflict, and for clearing and collateralisation for derivatives transactions. Proposals for cross-border financial transaction taxes still flourish.
Is there anything else of significance that has had an impact on the financial services industry in 2013?
It remains to be seen whether quantitative easing on an international scale has kick started a sustainable recovery, or has merely postponed a further market correction. Around the world, the functioning of financial systems has been distorted by historically low interest rates and low private sector investment. In the UK, cash savers have suffered, borrowers have benefited and equity markets have thrived. However, there is increasing anxiety about the consequences of withdrawal of stimulus. In this uncertain environment, it is extremely difficult to offer future proofed financial advice and to recommend products that offer a reasonable return at low risk. This provides yet another source of risk and challenge to innovation in the industry.
Interviewed by Yacine von Welczeck.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
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