Financial Services Authority replaced by new “Twin Peaks” regulatory system


In recent years, the Financial Services Authority (FSA) was heavily criticised, and regarded by many commentators as unfit for purpose.  It was therefore not surprising when the Chancellor of the Exchequer, George Osborne, announced his plans to abolish the Financial Regulatory Body and replace it.  The Government claimed that the existing regime needed reform because it “palpably failed when tested by crisis”.   The FSA consistently failed to deliver what it was tasked with, namely maintaining marketing confidence, protecting both the stability of the UK financial system and consumer interests and fighting financial crime.  The fact that the FSA was being funded by the very firms it regulated, perhaps contributed to the failure of the organisation, which in hindsight may appear all too obvious. 

The FSA, established by the Financial Services and Markets Act 2000, was an independent non-governmental body which served to act as the main statutory regulator of the UK’s financial services industry .  The failings of the FSA, in reality and perception, were highlighted after the Royal Bank of Scotland collapsed, and the FSA produced a report of less than 300 words as a result of its investigation.  The FSA’s enquiry into a bank that once owned 3.8 trillion pounds worth of assets was a disappointment to say the least.  In contrast, the Icelandic Truth Commission produced a report which was over 2,200 pages in length.  The publication of the FSA’s full report, which it was forced to publish, was embarrassing as they had tried to get away with a short press release.  In addition, the contents of the report, it transpired, included an admission that the body had failed to prevent the banking meltdown.  It was also later discovered, criticisms of RBS former boss Sir Fred Goodwin had been redacted from the report following complaints from his lawyers. The FSA claimed to promote openness and transparency, and the hypocrisy of their actions was not lost on commentators.  Private Eye referred to the former regulator as the Fundamentally Supine Authority adding to the negative publicity.

Other widely publicised failures included miss-sold payment protection insurance (PPI), miss-sold structured bonds via regulated “boiler rooms”, which effectively overpriced shares in companies with little substance that traded on fringe markets.  PPI was eventually shut down and billions of pounds in compensation were distributed at a very high cost.

The widespread notion was that the city used the former regulatory body as a method of preventing further intervention from the Government.  The prevalent view was that the FSA was ineffective and changes would need to be forthcoming. 

Commentators unsurprisingly have not mourned the death of the FSA, but have stated that the end of the FSA could not have come soon enough.  With its eleven year history stained with controversy, the former regulator’s handling of scandals such as Equitable Life will not be easily forgotten.  The FSA’s obituary could read “too slow, too reactive, too dedicated to its rule book, the regulator has not been a success”.  However, some have argued that the design of the FSA, a single regulator being both Judge and Jury on the financial system and the companies working within it, meant it was fatally flawed from the outset.

The FSA was replaced by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA); The new bodies were officially launched on 1 April 2013 and promises of tougher regulation and enforcement for the UK financial services sector have been made.  The FCA will regulate financial firms providing services to consumers and maintaining the integrity of the UK’s financial markets.  There will be a renewed focus on consumers.  Issues of misconduct (such as the recent Libor scandal), market abuse and competitiveness will also be addressed by the FCA.  The PRA, which will form part of The Bank of England, will work alongside the FCA in a “twin peaks” operating structure and will be responsible for regulating and supervising approximately 1,700 banks, building societies, insurers and investments firms.

The new head of the FCA, Martin Wheatley, in an interview with the Financial Times, gave assurances that the FCA will be looking at things from a consumer perspective and was quoted as saying ‘The FCA will need to ask tougher questions and they need to be the right ones, if we are really going to discover what lies at the heart of your firm’s successes and failures.  The FCA needs to make better, bolder, faster decisions.  We all have to walk in the footsteps of your customers to understand their perspective and to be able to deliver the new approach’. 

The incoming regulator will have wider powers over both existing regulated firms and the unregulated sector.  The additional powers should assist the new regulator to address the issues it faces.  The following areas are expected to be explored:

  1. Previous regulatory regimes have assumed that all consumers have been fully informed and conscious of the pros and cons of entering into a contract for financial products.  The new regulator’s starting point will be to assume customers for financial products are “irrational”.  Customers rarely read the long and often complex documentation they are sent; Customers are often persuaded to sign up if convinced by marketing/sales person pressure. 
  2. Ensuring the right products are sold to the right people.  Many of the miss-sold products were not tailored to a mass market, for example, structured bonds were marketed over bank counters to customers who had current account balances which triggered a tag for the counter staff.  The bonds promised high and safe returns however the risks were not clearly explained to the customer. 
  3. Products will have to go through a real testing process.  Testing, which critics say will push up costs, could identify target audiences for whom the product is toxic.  While it is must be appreciated that testing will never take into account the unforeseeable, it does give a level of comfort which has previously not been achieved before.
  4. Intervention by the regulator to take place sooner rather than later.  It is anticipated intervention will still be seen as last resort however past interventions have occurred only after substantial consumer detriment. 
  5. There will be a focus on more intensive supervision from a consumer viewpoint, rather than from the financial services industry’s perspective.  The regulator will now recruit staff from consumer championing backgrounds rather than staff predominantly from the financial services industry.
  6. Enforcement will need to be more effective through higher fines and more instances of naming and shaming.  The FCA will need to differentiate between miss-selling which is harmful and errors in box ticking exercises where no detriment is shown.


It is expected that the broader scope of powers should assist the new regulator in being more effective.  Furthermore, the new regulator has announced a wish to promote competition in the retail banking sector in particular.  One way of achieving this they hope, is by lowering the capital ratios for new banks, which is one of the biggest barriers to entry into the market. 

The cost of regulating under the new system will push up costs in general and it is unclear how the FCA will handle these claims and how it will control rising costs to consumers.  Historically, product purchasers have taken on the burden of the costs for past regulatory increases.  The remit of the FCA is a concern, as it will only regulate certain investment products and many are outside the scope including a variety of investments where consumers have suffered considerable detriment such as land banking and carbon credit trading.  Alternative investments such as gold bullion, wine, art, property will still be subject to caveat emptor.

The practical implications of the new regime coming into power indicate that the transition period should be seamless; particularly for previously FSA regulated firms. FSA authorised firms did not have to reapply for authorisation as their permissions were carried over into the new regime.  There will however, inevitably, a cost to firms adapting.  This is particularly true for dual regulated firms: those who will be regulated by both the PRA and FCA.  These firms will have to adapt to two regulators, two reporting lines, and two lines of enforcement of action.  The FSA’s existing handbook will still be in force and be split between the PRA and the FCA.  A consideration for dual regulated firms is how the existing policies and procedures will comply with the new regime and its rules. 

It is likely that the FSA’s recent approach to enforcement will be continued by the new regulator particularly in respect to tackling malpractice and possible threats to the economy, consumers or the financial markets.  The new regulator’s approach is likely to be even more intensive than in recent years.

All authorised firms will have to consider the amendments to threshold conditions.  These are the minimum standards firms must meet to obtain and retain authorisation by the regulator.  The conditions are split between the PRA and FCA.  The new PRA threshold condition requires PRA regulated firms to conduct their business in a prudent manner and a condition for both regulators to assess the suitability of a firm includes its management.

The new regime will be under pressure to do better than the last; spotting emerging threats, ending recourse to tax payer’s money and taking swifter action to prevent widespread miss-selling and market malpractice.  Questions already being asked includes will the FCA’s product intervention powers only be used as a last resort, what if a product slips through the net which causes mass detriment?  Will the regulator be able to react more quickly than its predecessor and how will it justify not picking up any problems in the first place? How the PRA and FCA will work alongside is another unknown. 

The multiple agencies involved provide a background of likely conflict of competencies and possibly issues slipping through the cracks.  By the same token, will both bodies be duplicating work and resources when it would be more efficient if the individual remits of each body was more clearly defined?  The regulatory uncertainty may render the UK less able to attract and retain financial service firms and work on the whole.  From a practical point, it is unlikely that in terms of staff there will be much turnover from the FSA to the new agencies; this leads to the presumption that little may change in the way the powers are exercised and firms are regulated. 

It is hoped the two new bodies which will be more suited to regulating a complex industry.  Commentators have stated that the regulatory regime cannot be changed every time when we face a crisis and the new regulator will only be tested once it has endured its first crisis.   

As always, time will tell whether the change was worth it.