The Regulatory Infrastructure of the UK Financial Services Industry

Karan Pathak -

The UK Financial Services Industry can seem to be a very opaque industry with heavily asymmetric knowledge between consumers and service providers about what the implications are for their services.

Given this, regulation has been playing an increasingly large role in the functioning of the market. The “Big Bang” of the 90s, where the Thatcher government reduced regulation to aid the UK financial industry’s position in competing with its US counterpart, led to two major bubbles – the dotcom crash of 2000 and the 2007-8 Global Financial Crisis. With inadequate corporate governance being a leading cause for these bubbles, regulators in both the UK and indeed the EU have begun to take a much stricter approach on what financial service providers can and cannot do. This phenomenon has been further expedited by the increasing popularity of ESG and Corporate Social Responsibility.

So, let’s have a look at who the major regulatory bodies are in the UK and how they contribute to making a supposedly fair and equitable financial market.

Her Majesty’s Treasury (HMT)

Naturally, we should start with the highest government office in charge of ensuring overall economic prosperity within the country – Her Majesty’s Treasury. HMT is the government’s economic and finance branch. It oversees public spending, financial services policy and the UK’s tax system.

The Financial Conduct Authority (FCA)

The FCA is the authority you are likely to hear about most in the news. It is responsible for regulating the conduct of companies in the financial sector.

The FCA was created as a result of the Financial Services Act 2012. Its predecessor was the Financial Services Authority (FSA) which was created by the Financial Services and Markets Act (FSMA) 2000. The FSA was broken up because it was largely seen that having only one regulator across the entire industry had reduced the UK’s ability to contain the Global Financial Crisis. So, the FSA was split into the FCA and the PRA (see below) and its responsibilities were shared between the two.

There now exists a dual regulatory structure where the FCA assesses conduct and the PRA assesses risk to the economy.

The FCA’s main objectives are:

  • Protect consumers
  • Protect the integrity of the financial market
  • Promote competition in the interest of consumers

It will assess the specific risk each firm’s conduct poses to the wider market and economy and focusses its efforts on high-risk firms or groups of firms – known as a risk-based approach.

The FCA is answerable to HMT in three ways:

  1. HMT can commission reviews into FCA work by an independent auditor
  2. The FCA must investigate any regulatory failures and report it to HMT
  3. HMT has the power to appoint or dismiss the FCA’s Board of Directors and Chairman

The Financial Ombudsman Service (FOS)

The FOS was set up after the FSMA to settle disputes between consumers and financial firms.

It requires companies to develop and establish a culture of monitoring complaints. The idea of the FOS is to create an environment where firms settle disputes themselves and if consumers are still not happy then they can go to the FOS.

The FOS has three jurisdictions:

  1. Compulsory Jurisdiction: Any complaints relating to a regulated activity (as defined in the FCA Handbook)
  2. _Voluntary jurisdiction: _A company can volunteer to come under the jurisdiction of the FOS (something that will be favourably considered were there any issues concerning the company’s conduct) and hence complaints related to non-regulated activities would also come under the purview of the FOS
  3. Consumer Credit jurisdiction: Complaints concerning licensing

The FCA selects the Chairman and Board of Directors for the FOS.

The Bank of England (BOE)

The BoE used to be responsible for regulating the financial industry before the FSA was created by the FSMA 2000. It kept the responsibility of Monetary Policy and its role in financial regulation was limited to that of overseeing the FPC (see below).

When the PRA was formed after the Global Financial Crisis, it was originally an operationally independent part of the BoE’s FPC. However, after the Bank of England and Financial Services Act 2016 the PRA was made fully independent and separated from the BoE.

The Financial Policy Committee (FPC)

The FPC is a part of the BoE and is in charge of macroprudential regulation and the overall stability of the financial sector. It monitors and tackles systemic risks in the economy that could compromise the resilience of the UK financial system.

The committee’s six Bank officials and seven external members meet at least once every quarter to discuss regulatory issues and potential suggestions for the PRA and FCA.

The Prudential Regulation Authority(PRA)

The PRA is in charge of ensuring that the operations of firms do not contribute to systemic risk to the economy as a whole, either at present or in the future. It mainly regulates insurers, credit unions, deposit-takers, banks, building societies and investment banks.

The PRA’s CEO is supported by heads in charge of Banking, Insurance and Policy sectors. Banking is further divided into the sub-divisions of Domestic, International and IB & Overseas. Insurance is split into General and Life.

It regulates with the goal of:

  1. Ensuring operations of institutions do not harm the UK financial system
  2. Emphasising resolution planning to permit orderly failure
  3. Cooperating with the FPC and FCA to achieve macroprudential regulatory objectives
  4. Become a regulatory voice in an international – particularly European – sense.

Unlike the FCA which operates using a risk-based approach, the PRA’s regulation is judgement-based. They will act on any risk that a firm embodies, rather than just prioritising high-risk institutions.

Competition and Markets Authority (CMA)

The body in charge of promoting competition in markets is the CMA. It was created after the Enterprise and Regulatory Reform Act 2013 merged the Competition Commission and the Office for Fair Trading.

Its responsibilities include

  • Maintaining competition in light of new mergers
  • Taking studies of competition in all sectors
  • Taking action against firms who breach regulations with respect to competition
  • Considering regulatory references and appeals
  • Cooperating with sector regulators and ensuring they use their competition powers

This is likely another body you will hear a lot about in the news. For example, when Asda and Sainsbury were considering merging in 2019, the CMA intervened and prohibited them from doing so. The £7bn deal was stopped by the CMA as it gave the resulting entity far too large a share of the groceries market, essentially creating a monopoly.

Information Commissioners Office (ICO)

The ICO is in charge of ensuring that firms are open and transparent in their operations and the way they handle consumer data.

It ensured compliance with UK Data Protection Rules which, since 2016, has been superseded by the EU’s GDPR.

The Pensions Regulator (TPR)

Working with trustees, funds and owners of pension funds, TPR is in charge of regulating work-based pension benefits.

The Tax and Chancery Chamber of the Upper Tribunal

This body is one of 4 government chambers of the Upper Tribunal. It deals with disputes surrounding tax-related matters or charities and also handles appeals against certain decisions by the FCA, PRA, HMT, BoE and TPR.

All these institutions work together to regulate the UK Financial System in a manner which benefits consumers.

Don’t forget, at least until the UK leaves the EU, it is also still tied to EU legislation. This includes MiFIDs I and II, MiFIR, UCITS, the Prospectus Direective, AIFMD, MAR, CRD IV, and EMIR, among others.

This is a focal point surrounding Brexit negotiations. Up till now, due to Passporting Rights (the ability to offer services in other EU states without cost), the UK financial industry has been able to access the vast EU market.

After Brexit, the EU is wary that reduced regulation from the UK government will make the UK financial system even more competitive relative to the EU’s. Hence, by allowing UK’s firms passporting rights even after Brexit, they would essentially be signing the death certificate for their own financial services industry.

This leads to the issue of Equivalence. The EU requires that UK’s financial firms are regulated in a similar manner to the EU’s. This would ensure that the former do not have a competitive advantage. However, Equivalence irks staunch Brexiteers who claim that it does not allow the UK freedom to make its own rules – a central promise of Brexit!

Without any concessions, however, the UK’s financial services industry stands to lose more from a No Deal than that of the EU. The increased costs from exporting services to the EU will hamper an industry which is already seeing costs being squeezed in all its sectors, worldwide. The EU, on the other hand, does still enjoy some cities such as Frankfurt, Dublin and Luxembourg City, which are potential competitors to London in becoming the next financial hub of Europe.