They say bad news comes in threes. Or so it would appear from the FSA’s recent press releases, which all seem to begin: ‘FSA fines…’, ‘FSA bans…’ or ‘FSA censures…’.
A large proportion of the column inches reflect the FSA’s own thirst for publicity but it has also received its fair share of criticism from commentators and from the financial services community.
Certainly, the FSA’s enforcement arm has been making headline news in the last 12 months. This includes imposing record fines (Shell), the long running ‘splits’ investigation and the challenges to its procedures made at the independent tribunal.
This criticism tends to focus on three issues. The first is delay. The government wants the FSA’s enforcement system to offer a way for consumers to be given rapid redress and for unsuitable individuals to be removed from the industry. Only when consumers recognise the enforcement process as effective will their confidence in the market be restored after years of pensions and endowment mis-selling and other financial scandals.
In the short term, however, bringing more bad apples to the surface only erodes confidence further. And when the enforcement process is thought to drag its heels, confidence-restoring headlines are even thinner on the ground.
This has been the FSA’s dilemma in cases such as the ‘splits’ investigation which FSA concluded at the end of the year, some two and a half years after its announcement of the investigation, without imposing any penalties or making any findings of regulatory breaches. The firms involved, however, did agree to contribute a financial package to investors. On the one hand, the FSA would like its procedures to reveal it as proactive and capable of bringing cases to a speedy resolution. On the other hand, it recognises that the firms under investigation are entitled to due process and the opportunity to defend themselves, however long it takes to sift through the mountain of evidence.
Recognising the weaknesses in its procedures, the FSA commissioned an end-to-end review of its procedures. The conclusions were reported in summer 2004 and, to no one’s surprise, identified delay as the FSA’s principal problem.
However, many of the FSA’s recent proposals for improving the speed of enforcement are not directed at itself. For example, firms under investigation are being asked to involve senior management at an earlier stage. The early use of mediation and other forms of negotiation are also being encouraged. All three proposals are desirable but it has been suggested that they were proposed in the hope that it would make firms more willing to accept a penalty than defend their case.
The FSA has also suggested that a good way to save time would be to cut out a stage in the enforcement process – in particular, the one where it has to notify its preliminary findings to the firm under investigation. This risks serious damage to the process. Not only is this the first time that firms receive details of the FSA’s case against them, the process of reaching preliminary findings actually helps to promote settlement.
It is often at this stage that the firm’s lawyers can achieve the most, working to soften the FSA’s stance by pointing out factual mistakes, highlighting the shades of grey in what may initially have been a black-and-white view, and by moving the discussion towards counterweight issues such as remedial action, consumer compensation and system improvements.
The second issue for which the FSA is criticised stems from the inherent tension between its wish to generate good headlines for itself and the statutory duty of confidentiality by which it is bound. The FSA would like to amend its published policy on publicity which, at the moment, prevents it from disclosing that it is conducting an investigation. Except in the case of unregulated firms, its current policy is only to issue a press release when the Regulatory Decisions Committee has reached a final decision and the firm concerned has decided not to refer the decision to the tribunal.
Before any policy change is made, the FSA has promised consultation. However, in the splits investigation, it broke new ground. It did not go as far as naming firms but it did announce that an investigation into the sector was underway and then gave details about what it believed had gone on and what it was doing in response. This was then exacerbated by a series of leaks and unattributable briefings which had had the effect, if not the intention, of bringing the firms’ identities into the public domain.
The use of publicity in this way undermines the idea of investigation as a neutral act, actuated by a desire not to secure convictions but only to get to the bottom of the matter. In the eyes of the firms, it has inflicted significant financial and reputational damage before any liability is proven, while, in the eyes of consumers, hopes of redress may have been prematurely raised.
The third criticism levelled at the FSA is one of process. Although it was only established in late 2001, a number of significant referrals have already been made to the Financial Services and Markets Tribunal – such as by L&G, which has criticised the FSA’s procedures and decision-making, and by Sir Philip Watts of Shell, who is claiming that its procedures were unfair and ignored his rights. Cases such as these are likely to increase if the FSA continues to concentrate its efforts on enforcement in an attempt to deliver ‘results’.
Part of the problem is that the FSA is both judge and prosecutor: its enforcement arm investigates and takes action against firms believed to have breached the provisions and requirements of The Financial Services and Markets Act 2000; whereupon these actions are then considered and ruled on by a separate FSA committee called the Regulatory Decisions Committee. In fact, there is some separation of powers because only the chairman of the RDC is an FSA employee; and further protection is built in by the right to refer all the RDC’s decisions to the independent tribunal.
In theory, there is no problem with the two functions being combined in a single body. In practice, perceptions are distorted by the inequality of arms between the FSA’s enforcement arm and the firms on the receiving end of its investigation. The FSA dictates not only the terms but also the pace of its investigation, and calls most of the shots along the way. As FSA is the firms’ regulator as well as investigator, they are under pressure to cooperate. Those who choose to defend themselves can feel that future good relations – not just current reputations – are at stake.
Many people have concluded that the FSA is self-consciously modelling itself on the US system of regulation, an idea given credence by instances where the FSA has chosen to announce action on market timing, fund management and other issues shortly after a similar announcement in the USA. Some even see echoes of New York Attorney General Eliot Spitzer. Whether due to transatlantic influences or not, a regulator perceived to be aggressive and pro-consumerist is not what the market wants.
Especially given its chequered history, what it does want – and need – is a strong and vigorous regulator that no one takes lightly. This need not involve the pursuit of high profile scalps to make headlines.
