01 June 2006

Fraud and trust litigation news - summer: A question of balance


Regulation of the UK financial market

Two trends are discernible in the regulation of UK financial markets which together have the potential to make life uncomfortable for those involved.

The Financial Services Authority (FSA) is the independent non-governmental body which regulates the activities of businesses and individuals in the fields of banking, mortgages, insurance, and investment in the UK. It derives its powers from the Financial Services and Markets Act 2000 (FSMA).

The traditional approach to financial regulation has been to issue detailed, lengthy, and prescriptive rules and guidance. In January this year, the FSA announced its first step away from rules-based regulation toward principles-based regulation, with the scrapping of its detailed “handbook rules” on money laundering.

One reason cited for the move was that the rules have become so detailed that they were acting as not only a barrier to entry into the regulated sector, but also as a barrier to compliance. Emphasising the high-level principles and a more risk-based approach to compliance would, say the FSA, shift the focus of senior management away from the letter of the law and towards the effect of their behaviour on the market and their customers.

This trend suggests that a period of uncertainty lies ahead for the regulated sector as the predictability of detailed rules is replaced by broader, more subjective, principles. Not a comforting thought when one considers the other message being broadcast by the FSA – that it aims to get tougher on regulatory misconduct.

As well as conferring on the FSA the status of the UK's single regulator of all things financial, FSMA also gave the watchdog an impressive set of teeth. It has the power to deal with misconduct by regulated firms and individuals by disciplinary action or by bringing civil or criminal proceedings. The FSA is also empowered to act on breaches of money laundering regulations, insider-dealing provisions and the EU Market Abuse Directive and to bring proceedings against firms and individuals outside the regulated sector.

The remedies it can seek in the civil courts include injunctions to prevent unauthorised activities; payment of restitution or compensation to victims (backed up by asset-freezing injunctions); and winding up, administration or bankruptcy orders against firms or individuals who carry on regulated activities without authority. The FSA also has the power to prosecute several specific offences in the criminal courts, the penalties for which range from a fine to a maximum prison sentence of 7 years.

When exercising its disciplinary powers, the FSA acts as policeman, judge and jury. If it has reason to believe that an approved person is guilty of misconduct or a firm has contravened a FSMA requirement, it will initiate an investigation, the result of which can be a private warning (if the conduct is merely a cause for concern) or formal disciplinary action. That entails the issue of a formal notice procedure culminating in a public censure or public statement, and/or a financial penalty. Apart from penalties for late filing, the FSA has no published tariff for the financial penalties it   can impose.

Criticism last year from the Financial Services and Markets Tribunal led to a review of enforcement procedure within the FSA and a clearer separation between the investigative arm and its disciplinary committee. Following this short period of introspection, the FSA has once again set out its intention to use its enforcement powers to demonstrate that the cost of misconduct is not just a cost of doing business.

In a speech in January 2006, Margaret Cole, head of enforcement at the FSA, said that the regulator had reviewed the level of its penalties and would, in appropriate cases, seek to impose higher financial penalties. A discount for early ‘settlement' will be offered to firms under investigation which co-operate and take remedial action, such as dealing decisively with employees involved.

These trends show the financial sector moving to a phase where deregulation may make it hard to predict what is or is not compliant, penalties for non-compliance are rising, and incentives are being offered for not contesting the regulator's view.

Category: Article

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