The UK’s Conservative government announced, even before it was elected, that it planned to reform the country’s financial regulatory system – for banks, investment providers and the insurance industry.
On February 11, 2011 it released the proposals it has been working on since last summer. They are far reaching, and will to some extent change the way the UK’s insurance industry is regulated. The insurance community responded cautiously, but overall positively, to the proposals.
As previously announced, the current regulator, the Financial Services Authority (FSA), will be abolished at the end of 2012. It will be replaced by three separate authorities. In a speech to the insurance community the FSA’s Chief executive, Hector Sants, whose is also in line to head the CPMA, outlined the form the new regulations would take.
Three new bodies will replace the all-inclusive FSA. They are: The Prudential Regulation Authority [PRA], a subsidiary of the Bank of England. It’s charged with macroeconomic regulation of the financial system, overseeing individual banks and insurers to minimize the disruption caused when they fail.
The Financial Policy Committee [FPC] – It will operate alongside the Monetary Policy Committee at the Bank of England and, working with the PRA, will create a comprehensive and clear framework for “addressing macro-prudential issues, i.e. looking at the overall risk in the system,” such as capital requirements.
The Consumer Protection and Markets Authority [CPMA], also called the Financial Conduct Authority [FCA] – It is basically a consumer protection agency, and will be charged with ensuring confidence in financial services and markets, with specific focus on protecting consumers and safeguarding market integrity.
The new system looks quite complicated, but, as there remains a great deal of detail to be completed before the proposals are enacted into law, it remains a work in process. Whatever the final form, it will require the services of people like financial consultant Branko Bjelobaba to advise businesses on how to navigate their way through the regulatory minefield.
He spoke to the IJ concerning what he sees as the most important aspects the new system presents.
“The government wants to get rid of the FSA, lock stock and barrel,” he said. “Right, a brand new organization, brand new people;” however, he continued, “many of the regulators are just moving from one [the FSA] to the other. It’s a bit like Dr. Who [the long running TV series], when one doctor dies, another one comes along to replace him.”
In his view the FSA will “be reconstituted” into the Financial Conduct Authority [aka the CPMA]. “In my mind that raises lots of questions about … are we going to have the same rule book? Are we going to have the same approved persons’ regime? What about applications?” He explained that the regulations are based on the “Financial Services and Market Act of 2000,” which will need to be amended to implement them, but will not need to be rewritten.
“I think it’s just a ‘name change,’ a logo change, and hopefully some changes for the better for the regulated sector,” he said. However, he also indicated that “we don’t know yet what’s going to change.” He noted that improvement was need in some areas, “where we haven’t been able to deliver well,” such as “consumer protection and product regulation,” as well as moving more quickly on enforcement, “so it doesn’t take one and a half to two years.” Essentially we need a “clearer rule book, and something that’s proportionate to the size of the firm that you’re trying to regulate.”
Branko explained that the new regulations are split into “prudential” regulations, which will include the banking sector and insurance companies, including the Lloyd’s market, mainly “the principle large firms.” They will also “be regulated by the Financial Conduct Authority… excluding prudential matters.” Small firms will be regulated by the FCA exclusively.
For the big firms “you will have duplication, and possibly increased costs.” As far as Lloyd’s is concerned, he doesn’t think it will have a problem adhering to the new regulatory scheme, as it’s already been regulated under a separate act of Parliament, and the regulators “understand the peculiarities of the Lloyd’s market; besides the same people will still be there.”
Branko also said that the FCA will embrace a “new approach to conduct regulation,” which will “enhance” the current rules followed by the FSA. It will bring “consumer protection issues to, the fore, rather than in second or third place.” It will require insurance providers, including brokers, to “understand the customer, to understand the product” in order to assure that what they’re offering is appropriate. The approach could come closer to U.S. regulations, which frequently require specific rules to be followed.
However, Branko doesn’t think that will be the case. He pointed out that “another key element of the [new] approach is to strike the right balance between rules and principles.” In areas where there has “been consumer detriment” there will be stronger rules; i.e. things you must, or should, do.
That brings up the question of transparency, and continues the debate [in the UK, as well as the U.S.] as to what a broker has to disclose. “We may get hard disclosure [i.e. the broker must tell his client the exact amount – commission – he will receive for selling a policy],” Branko said, but this is still being debated.
Exactly what are brokers being paid for is part of that debate. Branko put it this way, from a client’s point of view: “What do you actually do for me Mr. Broker? Well I sit down with X, Y, Z [an insurer] and I tell them what we want to insure, and then they come back. Do you actually spend a load of time doing this? Well, not really.” That raises the question as to whether “the payment is proportionate or commensurate with the level of activity expended?”
Posing that question opens a can of worms, but it remains an issue. Branko noted that in contrast to insurance brokers, “if you want to call yourself an independent financial adviser, you will not be able to receive a commission from the product provider. The client and you will have to agree on a proper fee, as the client pays you, just like you pay your lawyer or your accountant.”
The imposition of Solvency II, the European Union’s proposed regulations for the insurance industry will come into force at around the same time as the UK’s new regulatory system. “That will be the sole work of the PRA,” Branko said, as it deals with “the adequate capitalization of insurers and the risk takers.” As Solvency II applies to all the 27 countries in the EU, it “something the PRA will have to take on board, and they’re probably well advanced.”
There’s a potential conflict between the proposed EU banking regulations, known as Basel III, which could require banks to raise capital, in many instances through the issuance of long-term debt, and the fact that the insurance industry is the main purchaser of that debt. Under Solvency II rules, it might be deemed to have a greater risk, and thus a lesser value as capital. Branko explained that as far as UK capital requirements for brokers are concerned they are quite low – “between 2 and a half and five percent.”
This is generally a question of liquidity – fixed assets, such as buildings being less liquid than cash and investments. As a general rule the UK requires that “the capitalization is correct, and that it be appropriate for the firm,” Branko said. He also pointed out that the failure of an insurer in the UK was a while ago; “it doesn’t happen all the time.”
He also explained that in the UK an insurance policy enters into force when the broker is paid, not when the insurer is. “If the broker doesn’t hand the cash over, the insurer has to stand by the policy. Even if they pocket millions of pounds of insurer money, the client isn’t exposed.” This is the case even if the broker doesn’t have the formal authority – the pen – to bind the insurer, as the broker is, under UK law, the agent of the insurer.
In conclusion he indicated that, as the regulations were still being formulated, there should be some more clarity in the next 6 or 7 months. “All of it should become clearer, as the year rolls on.”
Topics Carriers Agencies Legislation Europe Market
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