RegulationMar 23 2012

50 years of regulation

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Look for a single piece of financial services legislation pre-1986 and you will be disappointed. Banks did not need to be licensed until the Banking Act of 1979, insurance companies did not need prior authorisation until the Companies Act 1967 - prompted by the collapse of Fire Auto & Marine. IFAs, as we know them today, did not exist.

The trigger for regulatory change was often the latest scandal and so it remains today.

It was the problem of share pushing and hawking that led to the first piece of investment business regulation, the Prevention of Fraud (Investments) Act 1939 (PFI). This introduced a system of licensing although with numerous exemptions.

With some tinkering in 1958 the PFI effectively remained the main investment business legislation until the 80s. True, there were also some voluntary industry codes in existence, but coverage seems to have been patchy and enforcement little in evidence.

Financial services cease to be parochial

The late 1970s and the 1980s were a period of rapid and radical change in financial services.

In 1971 competition was introduced to banking and credit controls were loosened, exchange control restrictions were lifted in 1979, building societies were deregulated, the Big Bang happened for the London Stock Exchange, IT started to revolutionise processes and finance started to go global.

It was not just in the world of finance that the Government was making changes. Restrictions on property development were lifted and in the pensions area the ability to opt out of, or transfer from, occupational pension schemes was introduced.

In all these changes can be seen the seeds of many of the later problems to have dogged the financial services sector – the reviews of pension transfers and opt outs and mortgage endowments.

Regulation arrives

Regulation lagged behind the changes in the financial services sector. The landmark of the 80s in changing regulation was the work of Professor Jim Gower, whose discussion paper was published by the Government in 1982 and then followed by his report, ‘Review of investor protection,’ in 1984.

A White Paper in 1985 set out the Government’s proposals to implement some but not all of Gower’s recommendations. It was anticipated that the City would be subject to two regulators, the Securities and Investments Board (SIB) and the Marketing of Investments Board (MIB).

In fact, a strong industry voice emerged in favour of a single regulator to avoid many firms having to be subject to two regulators and the Government bowed to this view; the single regulator was to be the SIB.

Action followed with the Financial Services Act 1986 (1986 Act) and the scene was set for the regulation of financial services as it is familiar to us today.

In advance of the 1986 act, however, the Government had made a small start in shedding itself of front line responsibility for regulating financial services. Membership of the National Association of Securities Dealers and Investment Managers (NASDIM) was recognised by the Government from the end of 1983 as an alternative to the need for a firm to be licensed under the PFI.

When the 1986 Act was implemented on A-Day (appointed day) in 1988 it spawned a number of regulatory bodies. The Government delegated to the SIB its powers under the act and in turn the SIB recognised a number of bodies to carry out the front line regulation for particular sectors of the industry.

Principal among these were two of the self regulatory organisations (SROs) called the Financial Intermediaries Managers and Brokers Association (FIMBRA) – which itself emerged from NASDIM - and the Life Assurance and Unit Trust Regulatory Organisation (LAUTRO).

Although operating within a statutory framework the essence of the regime was self regulatory; FIMBRA, regulating IFAs, and LAUTRO regulating providers and their direct salesforces, were directed by boards of practitioners.

Another scandal, the plundering of the Mirror Group pension fund by Robert Maxwell, caused the Government to order a review of the adequacy of the SIB’s monitoring of the Investment Management Regulatory Organisation (IMRO).

That review was, however, more far reaching and considered also the need for a new regulator to cover the whole retail investment market and so to take over the role of both LAUTRO and also FIMBRA, the latter of which had been suffering chronic funding problems.

This was the so called step change in regulation, which led to the formation of the Personal Investment Authority (PIA). The PIA opened for business in 1994 and was handed a poisoned chalice at birth in the form of the review of past pensions transfer and opt out business.

Back to the drawing board

By the mid 1990s there was growing criticism that almost a decade of self regulation had failed to deliver the standard of consumer protection expected by the public. A priority for the new Labour Government was to reform regulation. The plan for how this was to be achieved was set out by Sir Andrew Large in 1997.

In essence this was for the establishment of a single, statutory regulator. The legislation to give effect to this change seemed to move at a snail’s pace with the Financial Services and Markets Act (FISMA) not reaching the statute books until 2000 and not being implemented until 2001.

This, however, masked rapid change at the working level. In 1997 the SIB renamed itself as the Financial Services Authority (FSA) and in fairly short order the staff of the SROs were transferred to the FSA. Then, under service level agreements the FSA delivered the regulation for which the SROs were still formally responsible until the new legislation was implemented.

The FSA’s track record in sorting out mortgage endowment complaints and its role in Equitable Life did not enhance its image but the death knell for the FSA has been the banking crisis.

As new financial services legislation now trundles through Parliament and we move, probably in 2012, to the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA) the UK moves to a ‘twin peaks’ model - a conduct regulator and a prudential one, but with knobs on.

It will still be statutory regulation but a small element of self regulation has been added back through the need for advisers to be overseen by a professional body recognised by the regulator. A more fundamental change seems to be under way that is not dependent on the new legislation and that is the interventionist approach of the regulator.

For the past 25 years the philosophy has been that innovation and competition will automatically work in the interests of consumers. Although lip service is still paid to this approach, the string of scandals that has accompanied it seems to have given the Government and the regulator cause to think that going forward it might be better to stamp firmly on products or services before they can give rise to problems.

This is more than just product intervention for which the FCA is to be given new powers. It is also the warnings that the regulator is increasingly prepared to give about how IFAs advise.

But even as the UK regulatory regime undergoes another change the next development is already on the horizon.

The influence that European Union directives have had on UK regulation has been growing over the years and they are now probably the dominant factor underpinning UK rules. Now Europe is moving further in setting up regulatory institutions; in particular we have the European Securities and Markets Authority (ESMA) and there are similar bodies covering the insurance and banking sectors.

Money Management may not have to wait another 50 years to report the abolition of the FCA and its replacement by a branch of the ESMA.

IFAs are dead, long live the IFA

A paradox of the past 50 years is that IFAs owe their existence to the regulators. The SIB introduced polarisation, so IFAs, as we know them today, have been around only since the late 80s.

At various stages ever since, the demise of the IFA has been predicted. FIMBRA weeded out quite a number of firms but they were ones unlikely to enhance the reputation of the IFA sector - remember Roger Levitt? To its credit he was found out by FIMBRA, which was then let down by a botched SFO prosecution.

When the introduction of commission disclosure was claimed to be the death knell for advisers, again it was the regulators that saved IFAs by insisting that there should be an equivalent to commission disclosure for bank and insurance company sales people.

Next came the PIA’s introduction of a training and competence regime for IFAs that brought forth similar moans to those heard recently about Level 4 qualifications.

Then came depolarisation, which was perceived by some as about ending independence but, in fact, was about allowing restricted advisers to advise on more than one provider’s products.

Now we have the RDR imminent and again many are claiming that this is the end of the IFA. But the doom merchants might bear in mind that the motto of the IFA over the past decades could have been the title of the pop song, ‘I will survive’.

Some milestones in regulation

1958

Prevention of Fraud (Investments) Act

1984

Gower Report ‘Review of investor protection’

1986

Financial Services Act 1986

1988

A Day – 1986 Act implemented and regulation for IFAs arrives

1994

The Personal Investment Authority takes over from FIMBRA and LAUTRO

2000

Financial Services and Markets Act 2000

2001

The Financial Services Authority takes over

2011

Legislation introduced to set up the Financial Conduct Authority