By Ben Franklin, Policy and Research Manager, CII
How the Financial Services Bill can improve business conduct
While the race for the US Presidency enters its feverish final few months, closer to home, another political battle is reaching a conclusion – one that could have significant implications for financial services at home and abroad.
Two years ago, one of the Coalition’s flagship policies – the restructuring of financial services regulation in the wake of the banking crisis - began in earnest with the Chancellor’s Mansion House speech.
Now we are on the verge of a new era. By Spring 2013 (or thereabouts) the new regime is expected to be in place. The Financial Conduct Authority (FCA) is to be tasked with focusing on retail conduct risks and issues associated with wholesale markets. Prudential regulation is to sit within the Bank of England under the guise of the Prudential Regulatory Authority. And at the top of the food chain, horizon scanning for systemic risks, will be the Financial Policy Committee headed by the Governor of the Bank.
Before the new regulatory structure is fully operational one crucial piece of the jigsaw remains – the Financial Services Bill, which sets the statutory objectives of the new regime and which is currently passing through its last phase of parliamentary scrutiny before Royal Assent. This is an important piece of legislation with the power to shape the new regime and guide supervisors in their judgements about firms and practitioners. It is important to get this right.
A cultural change in financial services
Since the Treasury’s very first consultation paper on reforming financial services regulation in the UK, the Chartered Insurance Institute has taken the view that, while the structure of the new system will be important, it will be the judgements undertaken by supervisors and the conduct of firms, which will make the difference between regulatory success or failure. Critical to this, is delivering a new culture within financial services which puts the public first.
Over the past year or so, much has been said about the importance of ensuring firms demonstrate an appropriate culture under the new regime.
At the beginning of the regulatory overhaul, then FSA Chief Executive Hector Sants argued that regulators should “ensure firms have the right culture for their business model – the right ethical framework – to facilitate the right decisions and judgements and we should intervene when we find those frameworks are lacking”.
And, in early 2012, incoming FCA CEO Martin Wheatley set out his vision for a “new orthodoxy” in financial services. This would be a world, he said, where the culture of firms, from product governance to sales, is aligned with the best interests of the customer.
Today, in light of the recent LIBOR and interest rate swap mis-selling scandals the voices demanding a cultural change within certain parts of financial services are louder than ever. But understanding that something is wrong is one thing, providing a cure is another matter altogether.
Embedding better culture through professional standards
A commitment to professional standards (which include qualifications, continuing professional development and ethical practice) is an important cornerstone of a properly functioning financial services sector working in the public interest.
This is primarily because the market suffers from significant information asymmetries. This is illustrated in the general insurance market by customers who are unlikely to have the time or expertise to fully understand the risks they are exposed to, the benefits or terms and conditions of insurance, or the price and value of insuring against those risks. Insurers and intermediaries are much better placed to understand these issues, but customers need to be able to trust that the products, services and advice available to them will be appropriate.
Without this trust, customers will be reluctant to buy the financial products that they need, leading to a growth in the proportion of the population that is underinsured and a rise in the “savings and protection gap”.
Professional standards play a pivotal role in this by demonstrating to the customer that practitioners are sufficiently competent and held to a professional code of conduct that requires them to deliver products and services that are in the customers interest. Professional standards are therefore a necessary (if not entirely sufficient) condition for a functional and competitive market.
Amending the bill
This underlines the argument that our future regulators must give due regard to professional standards. Even for those sectors where a certain level of professionalism is a mandatory requirement (as it will be for retail investment advisers after December 2012), the relative level of professional standards exhibited by firms and practitioners will remain a key determinant of the extent to which they work in the consumer interest.
So far at least, the Government has rejected calls to embed professional standards into the body of the Bill; but with the Parliamentary Commission on Banking Standards now in full swing, there may be an opportunity for one last push before the Bill is passed later this year. The level of professionalism exhibited by a firm or practitioner is of course, only one of a number of factors that underpin consumer risk. However, by ignoring this important factor the regulator will have a skewed supervisory toolkit which, will fail to focus on a particularly key and necessary area of public concern.
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