London’s success in attracting financial transactions and securities offerings from U.S. markets has sparked interest in the Financial Services Authority (FSA), the coordinating body for financial services regulation in the United Kingdom. The U.S. regulatory system for financial services is highly decentralized—even fragmented—while the UK’s system is strongly centralized. U.S.
Download Audio as MP3 regulatory institutions have been created on an ad hoc basis over many years, while the FSA was created relatively recently for the specific purpose of achieving coordination of regulation among banks, securities firms, and insurance companies—three formerly separate industries that are increasingly being seen as one.
How are the regulatory objectives of the two systems different? How are they similar? How are regulatory priorities determined, and how are decisions made by the FSA? Is London’s recent success in attracting financial transactions attributable to the FSA’s regulatory approach? Does the size of the regulated market affect what structure is suitable? These and other questions will be the subject of this conference.
This is the second event in a series of conferences on the regulation of banks, securities firms, and insurance companies.
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Peter J. Wallison, AEI
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Howell E. Jackson, Harvard Law School
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Ronald Gould, FSA
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Melanie L. Fein, Law Offices of Melanie Fein
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Heidi M. Schooner, Catholic University of America
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Thomas H. Stanton, Johns Hopkins University
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Peter J. Wallison, AEI
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London's success in attracting financial transactions and securities offerings from U.S. markets has sparked interest in the Financial Services Authority (FSA), the coordinating body for financial services regulation in the United Kingdom. The U.S. regulatory system for financial services is highly decentralized--even fragmented--while the UK's system is strongly centralized. U.S. regulatory institutions have been created on an ad hoc basis over many years, while the FSA was created relatively recently for the specific purpose of achieving coordination of regulation among banks, securities firms, and insurance companies--three formerly separate industries that are increasingly being seen as one.
How are the regulatory objectives of the two systems different? How are they similar? How are regulatory priorities determined, and how are decisions made by the FSA? Is London's recent success in attracting financial transactions attributable to the FSA's regulatory approach? Does the size of the regulated market affect what structure is suitable? These and other questions were the subject of this March 29 AEI conference.
Peter J. Wallison
In recent months, several reports have suggested that excessive regulation and litigation are impairing the ability of the United States to compete with other financial centers like London. These reports have suggested that one of the reasons for London's success in attracting business is the relatively light regulatory hand of the Financial Services Authority (FSA).
Because banks, securities firms, and insurance companies compete among themselves, it makes little sense to regulate each in a different way. A major advantage of the FSA, therefore, is its approach of regulating along functional and not industry lines. The FSA also differs from the U.S. regulatory system in the way it seeks to resolve compliance issues quietly rather than through litigation, the way it promotes London as a leading financial center, and the way it does not make consumer protection its foremost goal. While the advantages of the FSA do not mean that the United Kingdom has got it all right, if London is indeed attracting business from New York, then the United States has a sub-optimal regulatory system.
Harvard Law School
The United Kingdom's FSA originated within a unique political context. First, there was impetus for regulatory reform due to the collapse of a major bank and the Maxwell pension scandal. Second, the Blair government had made financial regulatory reform a priority, and due to the parliamentary system of government, legislation was passed in a timely fashion.
In addition, the European Union (EU) had begun to issue regulatory directives, and these became incorporated in the new FSA. Since Britain had formerly relied primarily upon self-regulation and cooperation between firms and regulatory agencies, there existed a more collegial, collaborative environment, in which the players were willing to "muddle through" some of the initial confusion and uncertainties of the new regulator.
In terms of regulatory goals, the FSA has four guiding objectives. The first is to promote confidence in the financial system. The second is to promote understanding of the financial system. The third is to secure the appropriate degree of protection for consumers and the fourth is to reduce the extent to which business can be used for financial crime. The FSA also has seven principles of good regulation that mainly pertain to cost benefit analysis--managing resources efficiently--and maintaining the United Kingdom as a strong, internationally competitive financial market. This approach is distinct from that of U.S. regulators, which typically place a greater emphasis on consumer protection, whereas the FSA lists consumer protection third on its list of objectives.
The U.S. regulatory regime is far more intense in terms of resources. The FSA has a staff of approximately 3,900 and a budget of $650 million, while the combined U.S. regulatory system employs over 40,000 personnel and spends almost $6 billion each year. U.S. regulators make far greater use of sanctions and penalties than FSA regulators.
Between 2002 and 2004, the U.S. regulators imposed over 3,600 sanctions and levied over $5 billion in penalties. In comparison, in 2004, the FSA imposed only ninety sanctions and $40.5 million in penalties.
In light of the recent reports assessing the influence of the U.S. regulatory system on the movement of financial transactions away from New York, the FSA has been increasingly perceived as a more business-friendly regulator. This perception is based on notions that the FSA is a principles and not a rules-based regulator, and that it regulates with a "light touch."
There is some truth to these notions--especially when compared to the U.S. system--but they are only half-true at best. The FSA does try to rely on its eleven core principles but it also has a rule book that is 8,500 pages long. While the FSA has attempted to rely more on principles, the influx of rules from EU directives and financial associations makes it difficult. Although FSA is less obtrusive and levies lower fines than U.S. regulators, it is inappropriate to consider it a "light touch regulator."
For instance, the FSA regulates hedge fund advisers, whereas most other countries do not, and in 2004, it levied fines on Citigroup and Shell that were high by EU standards. A more accurate description of the FSA is that it is a "risk-based" regulator, which allocates resources towards sectors and firms where a failure would most likely have the biggest impact on the regulator's statutory objectives.
Law Offices of Melanie Fein
One of the most striking contrasts between the U.S. and UK regulatory systems is the differences in regulatory attitudes. The FSA has a cross-industry perspective and is capable of interacting with all three financial services sectors. In the United States, on the other hand, regulatory agencies are mainly one-dimensional, and regulatory staffs are extremely specialized in their areas of expertise. The Federal Reserve would never consider that it had the requisite expertise to regulate an insurance company or securities firm, for example, apart from its lack of jurisdiction to do so.
The FSA's principles-based approach would be very difficult to replicate in the United States, particularly because the latter is such a litigious society compared with the Britain.. For example, in the United Kingdom, there is no equivalent of a 10b-5 private right of action and there are no class action lawsuits. There is also considerable trust between firms and the FSA. The U.S. has much to learn from the FSA's approach to financial regulation.
Catholic University of America
The differences between the FSA and U.S. regulatory system likely stem--at least in part--from the fact that most U.S. agencies are dominated by lawyers, who generally prefer a highly formal regulatory system. Although the FSA has developed a "light touch" reputation, it is important to note that it has only existed since 2000.
In the United States, enforcement activity has developed over many years in which the agencies received positive reinforcement, in the press and otherwise, for successful enforcement actions. The same could happen to the FSA given some time.
The principles- versus rules-based dichotomy overstates the differences between the two systems, since every regulatory system is a hybrid of rules and principles. For example, U.S. bank regulation often relies more heavily on general safety and soundness principles than it does on rules. In addition, regulatory systems are often cyclical, moving back and forth between a preference for rules and then for principles. The FSA's current expressed preference for a principles-based approach may over time give way to a more rules-based orientation.
Thomas H. Stanton
Johns Hopkins University
Due to the political culture in the United States, it is unlikely that Congress would ever institute a consolidated regulator. A more viable option would be to create an agency responsible for analyzing major risks across the financial system, including institutions such as insured depository institutions, insurance companies, investment banking firms, large finance companies, and government-sponsored enterprises.
The savings and loan debacle of the 1980s showed that risks will migrate to the place where government is least equipped to deal with it. Having an independent agency to monitor risks could be very beneficial. While this agency would lack authority to take action in response to these risks, it would be able to report to other agencies and make recommendations. This sort of agency already has a precedent: the National Transportation Safety Board, which is required to assess the risks in the transportation sector and make recommendations to agencies such as the Federal Aviation Administration.
AEI research assistant Daniel Geary prepared this summary.