Throw out the rulebook


Larger firms, keen to take a more proactive role in shaping their business practices, have welcomed the Financial Services Authority's shift towards principles-based regulation. However, smaller firms may still lack the resources to confidently interpret the FSA's intentions, as Kirstie Redford reports

Getting to grips with all 9000 pages of the Financial Services Authority's current rulebook is an arduous task even for the most enthusiastic compliance officer.

The regulator's move towards a more principles-based regime - meaning less reference to the rulebook and more judgement about whether firms' processes are fit for purpose - has therefore been widely welcomed.

Principles-based regulation is not new - the FSA's 11 high-level principles have been in place since 2001. In theory this means they should already be embedded within the market. However, focusing away from the rulebook and onto the principles also brings challenges and new responsibilities.

Greater manoeuvrability for firms in deciding how to comply will mean key decisions move further up the organisational hierarchy with more pressure on the board and senior management. "We understand that this more overt responsibility will, for some boards, represent a new and difficult challenge as they will need the experience and insight to make sound judgement calls and be willing to accept the responsibility," says Robin Gordon-Walker, spokesman for the FSA.

Malcolm Tarling, spokesman for the Association of British Insurers, says that the industry has been supportive of this approach since day one: "Insurers want regulation to be proportionate and reflect risk. For most general insurance products customer detriment is low, so a less prescriptive approach is welcome."

However, Phil Barton, commercial director at Jelf Group, says there have been concerns that without clearer rules the FSA may retrospectively change the goal posts. "But despite this I think it's a sensible approach for proactive businesses. The sooner the industry stops trying to fight it, the better," he says.

In fact there may be clear benefits. Andrew Bailey, compliance officer at Markel International, says that as long as firms engage positively and openly with the FSA, they can expect relatively lower levels of regulatory capital, less frequent risk assessments, greater reliance on firms' senior management or a less intensive risk mitigation programme.

But the extra responsibility on management is causing some smaller firms concern - especially brokers. "Bigger firms like the idea of plotting their own course, but smaller firms like regulatory certainty so they know they have to do a certain action at a certain time," says Steve White, head of compliance and training at the British Insurance Brokers' Association.

Because of this, Colin Darnell, group compliance officer at Groupama Insurances, says that it is critical for the FSA to keep communicating its stance so that firms get more comfortable with the spirit behind the rules. "Smaller firms do not have the time or bodies available to consider the FSA's approach in the same detail as larger firms - they need more guidance," he explains.

A helping hand

The FSA says it will be making more guidance material available - but not necessarily in the form of its handbook. Mr Gordon-Walker explains that, instead, other practical materials, such as case studies and 'Dear CEO' letters, will help firms apply the principles to their own business processes.

Some in the market believe they are already working to these principles and should not be made to prove it. Mr White says that the FSA's Treating Customers Fairly initiative has already got brokers' backs up. "Many brokers find it degrading of the regulator to question whether they are treating customers fairly - if they weren't they wouldn't have a business. Nowhere else in Europe are advisers having to turn somersaults to prove this - it's disproportionate."

Suzanne McDonald, head of financial services regulation at TLT Solicitors, adds that firms have to come up with new ways of proving good practice. "For example, instead of remunerating advisers on the number of policies sold, it should be more about how they have retained customers and dealt with complaints. All firms also need to create internal case law so they can refer to how colleagues have dealt with particular issues and, therefore, provide consistent practices," she says.

But Jason Crawford, regulatory affairs manager at Norwich Union, says that taking a more strategic approach should have benefits. "We recognise it won't all be plain sailing - but more senior management engagement to plan how we meet the principles will be positive and mean we look more closely at service and product delivery," he says.

The FSA claims that having fewer prescriptive rules will bring savings. However, Ian Mason, a partner at law firm Barlow Lyde and Gilbert and previous head of the FSA's enforcement division, says this will take some planning. "With any change, there will be costs to meet - the key is to look at how changes can benefit your business so you can see some kind of gain coming out of it," he explains.

The new regime should have little effect on the Financial Ombudsman Service as it already makes decisions based on individual cases and the FSA's principles - indeed only 5% of FOS cases currently turn to interpretation of FSA rules.

A more worrying concern, however, is how prescriptive European Union regulation will dovetail with principle-based enforcement. Mr Gordon-Walker says that the FSA is confident that its approach won't be derailed by developments elsewhere, but acknowledges that it must be "mindful of the risks" that EU directives could have on its strategy.

And Mr Mason believes the EU could indeed reduce the FSA's flexibility. "I struggle to see how it will fit with this approach," he says.

As for timescales, the FSA stresses that the move is simply a change in direction, rather than a project to be implemented by a specific date. "I'm not sure the market will ever be completely ready for this," concludes Mr Darnell. "But we have to try - it really is the only sensible way to regulate the market in the long term."

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