Select Committee on Treasury First Report

3  The role of the FSA

37. The Financial Services and Markets Act 2000 (FSMA) gives the FSA four statutory objectives:

  • to maintain market confidence;
  • to provide the appropriate degree of consumer protection;
  • to promote public understanding of the financial system;
  • and to reduce financial crime.

38. The FSA told us that it had translated these four statutory objectives into three strategic aims, which guided its day-to-day work:

  • Helping retail consumers achieve a fair deal;
  • Promoting efficient, orderly and fair markets, both retail and wholesale; and
  • Improving the FSA's business capability and effectiveness.[60]

39. The FSA stated that, "in carrying out our general responsibilities we must also have regard to seven principles, including using our resources efficiently and economically, proportionality, and facilitating innovation and competition".[61] The FSA observed that, under the FSMA,

we have no explicit statutory responsibility for financial inclusion. Nor is it included in the principles of good regulation as an issue to which we should formally have regard. However, we take the issue very seriously and have consistently tried to be thoughtful about and sensitive to the special requirements of those who find it difficult to gain access to financial services.[62]

40. The then Treasury Committee's Report examining financial regulation prior to the introduction of FSMA concluded that "the Government's agenda for extending access to such financial services as savings and pensions will involve the FSA in issues of social and financial inclusion. The FSA will want to develop adequate and sensitive systems for monitoring and regulating, to encourage innovative products suitable to the markets being served and to ensure that providers and consumers will not face unnecessary obstacles in gaining access to these particular markets."[63] In 1999 the Government stated that "it is strongly committed to working with a range of agencies and private bodies in combatting financial exclusion and expects that the FSA's role will bring it into contact with various aspects of this work. We believe however that adding to the FSA's objectives is unnecessary and could distract from the core role of the FSA as a financial regulator."[64]

41. The Joint Committee on Financial Services and Markets concluded in April 1999 that

the FSA should not be given additional objectives. This would make life unnecessarily difficult for a regulator responsible for prudential supervision, and would damage lines of accountability. If the Government wishes to impose social or ethical obligations on financial service businesses, it should do so directly; it might then wish to involve the FSA in monitoring delivery. This is broadly the approach being followed in the USA.[65]

42. We compared the approach taken by the FSA with those taken by two other statutory regulators, Ofgem (the Office of Gas and Electricity Markets) and Ofcom (the Office of Communications). The Communications Act 2003 and the Universal Service Directive require Ofcom, in performing its duties, to have regard to a range of factors, including several relating to vulnerable consumers or other groups who may be disadvantaged. Amongst other things, Ofcom is required to take account of: the needs of persons with disabilities, of older people and of those on low incomes.[66]

43. Ofgem is the regulator of the UK's gas and electricity markets. Under the Utilities Act 2000, its principal statutory objective is to protect the interests of consumers, wherever appropriate by promoting effective competition. The Act also gives it secondary duties, one of which is to ensure that, the interests of vulnerable consumers, including the sick and disabled, those on low incomes and those in rural areas are met. One of Ofgem's key themes in its Corporate Strategy and plan was to help tackle fuel poverty by "promoting a holistic and targeted approach to fuel poverty" and taking "account of the particular needs of vulnerable consumers in all" their decisions.[67] Sir Callum McCarthy, who was previously Chairman of Ofgem before becoming Chairman of the FSA, has commented that he "was struck by the fact that the FSA had no statutory duty comparable to that placed upon Ofgem (and on its predecessors Ofgas and Offer) to have special regard for those on low incomes—an odd absence given the importance of financial services in our society."[68]

44. The FSA believed that "the reasons for rejecting a statutory objective on financial inclusion continue to hold good" and that a new requirement to "have regard to the principle of financial inclusion would make little material difference to how we operate since we already take financial inclusion into account in our work".[69] Mr Tiner was clear that it was "not the responsibility of a regulator—any regulator, indeed, of appointed people like me rather than elected people to be creating social policy. I think that is a Government responsibility."[70] He noted discussions at the time of the FSA's inception in 1999 which had concluded that there was "an inherent conflict between having an objective for financial inclusion and an objective for prudential soundness and market confidence, in that [the FSA] may therefore direct companies, direct banks for example, to make decisions which were not in their commercial interest".[71]

45. In 2000, the FSA commissioned research from the Personal Finance Research Centre at Bristol University to provide the FSA with a comprehensive review of current research and action on the topic. The report arising from that research—In or out? Financial Exclusion: a literature and research review—provided a means of identifying areas where the FSA's efforts could best be focused.[72] This research has not been repeated, and it is not clear how the FSA has taken the results of that research into account in its regulatory approach or in any other of its activities.

46. Mr McAteer told us that "The FSA is already struggling hard enough to make markets work" and did not think the FSA "could actually cope with the practicalities of absorbing" a new financial inclusion objective.[73] The NCC believed "the FSA should make a specific and sustained commitment to long-term work on financial inclusion, promoting the specific needs of financially excluded consumers. The FSA does not have explicit responsibility for tackling financial exclusion. However, its overall aim is to promote efficient, orderly and fair markets and to help retail consumers achieve a fair deal … the regulator should interpret its aims and objectives in the widest sense to ensure that financially excluded consumers are also protected, have confidence in the market and are offered a fair deal, so that they have access to appropriate financial products."[74] Ms Whyley of the NCC called for "greater clarity at the FSA about its responsibility for the financially excluded".[75]

47. The FSA, as the statutory regulator for financial services, has an important role to play in promoting financial inclusion. It has been successful in some areas, notably in producing a proportionate regime for the regulation of credit unions and other third sector lenders. In other areas, such as in ensuring that the financially excluded are adequately prioritised within the National Strategy for Financial Capability, there is a need for much further progress. While we do not recommend any changes to the FSA's statutory duties under the Financial Services and Markets Act, we recommend that the FSA make a commitment to take account of the need to promote financial inclusion in all its activities and report annually on how this commitment has influenced its work. The FSA should also commission research into the markets it regulates to determine the extent of any problems of financial exclusion and where it could best focus its resources. The Government should commission the FSA to monitor the extent of financial exclusion.


48. The regulatory regime for the financial services sector can have an important impact on financial exclusion. For example, stringent regulations to prevent money laundering can exclude people lacking the necessary forms of identification from accessing financial services.[76] Over-stringent regulation of the sales process could make it uneconomic for the financial services industry to serve the low-income consumers.[77] The FSA is required, under the FSMA, to conduct and publish a Cost-Benefit Analysis (CBA) of all proposed rule changes. The CBA should quantify the compliance costs and potential benefits of the proposed regulation and examine any other impacts that regulation might have on the market.[78]

49. The Financial Service Consumer Panel (FSCP) cautioned that "The FSA does not regulate the products themselves, and may not be in a position to act beyond encouraging firms to ensure adequate provision of products or services which meets the needs of the financially excluded".[79] We asked Mr Tiner whether he regarded it as the FSA's job to encourage the industry to develop products or services that cater for the needs of different groups who would otherwise be excluded. He told us that it was not the FSA's job "to encourage them per se.[But] if [the FSA's] rules somehow prevent the creation of products that might be in demand in the community, then we should seek to look at those rules very carefully … Our view is that is up to the market to determine what products they should create, and then to stimulate demand for those products".[80] He gave two examples of occasions where the FSA had changed rules to allow products to develop. These were: "widening the assets that can be held within investment trusts" and "the reform of collective investment schemes which were quite old fashioned … We have liberated the market quite a bit to allow property funds to emerge."[81]

50. The ABI noted that

a range of regulatory requirements, such as restrictions on financial promotions and suitability rules add to compliance cost and can restrict access, particularly by the low paid, to key financial services … the answer is clearly not to dismiss all regulation, but to examine more carefully the costs and benefits of regulation. 'Costs' should cover not just direct compliance costs but all the likely impacts of the regulation on consumers. Such cost-benefit analysis should pay particular attention to ensuring that sections of the population will not be disproportionately affected by regulation. The FSA needs to be aware of the detrimental impact its regulations can have on access to savings products, particularly among those on low incomes with little practical access to commercially paid-for financial advice. If we are to avoid a situation in which it is only commercially viable to market savings products to the relatively prosperous, cultural change is needed at the FSA. We believe the Government should amend the FSA's statutory objectives to achieve this by ensuring it pays due regard to the impact of regulation on the availability of products.[82]

51. A report commissioned by the FSA and undertaken by Oxera to develop a framework for assessing the benefits of financial regulation states that "Even if markets were operating efficiently, financial services provision may not be adequate to meet all consumer needs, or it may be unaffordable by some … Financial exclusion is a detrimental market outcome for some consumers, and the reverse [is] a potential benefit that regulation could be delivering. Although the FSA objectives are not in general targeted at improving distributional outcomes in the market, the framework can be extended to capture benefits along this dimension." [83]

52. Mr Tiner told us that, where vulnerable groups were potentially being targeted in a way that could take advantage of that vulnerability, the FSA would definitely consider preventing that as part of the FSA's consumer protection objective.[84] He did express concerns that, "by lightening the regulatory touch for the more vulnerable people, you are reducing the protections to the people who need it most".[85] He acknowledged that some consumers could currently be excluded from accessing financial advice due to the weight of regulation, noting that "the cost to companies of the sales process is quite high. A fact find might take two to two and half hours, which is expensive and time consuming … the full advice market does cut out a number of people who need access to advice."[86] He referred to the cut-down process of Basic Advice, which we discussed in our earlier Report on access to credit, savings, advice and insurance.[87]

53. We recommend that, when conducting cost-benefit analyses, the FSA examine and report on whether regulation could affect financial inclusion by reducing access amongst low-income groups. The FSA's work on a framework for assessing the benefits of financial regulation should attempt to measure any benefits of greater financial inclusion that stem from FSA regulation. It is important that the FSA avoids creating burdensome and uneconomic regulatory regimes that might force providers out of the market. However, as acknowledged by Mr Tiner, the FSA will also need to be aware that by lightening the regulatory touch for the more vulnerable it may be reducing the protection afforded by regulation to those consumers who need it most.

54. We asked the FSA whether promoting financial inclusion was a criterion for deciding which sectors of the financial services market would be a priority for investigation. Mr Briault, Managing Director of Retail Markets at the FSA, told us that the FSA did not take into account the need to promote "financial inclusion explicitly … but …we do take into account the vulnerability of particular group of consumers involved [and] whether or not people are making clear the nature of the product, and whether or not people are selling in a way which takes into account the particular circumstances of the consumer".[88] We welcome the fact that the FSA takes into account the vulnerability of consumers when deciding on priority sectors for investigation.

Treating Customers Fairly

55. The FSA's Treating Customers Fairly (TCF) initiative aims to ensure that Principle 6 of the FSA's rules—"A firm must pay due regard to its customers and treat them fairly"—is reflected in all aspects of firms' strategy, culture and operations.[89] The FSA has said that the framework for Treating Customers Fairly meant considering how this principle could be embedded throughout what the FSA termed the "product life-cycle". The FSA has indicated that financial services firms should be considering how to Treat Customers Fairly in respect of a firm's activities in product design, marketing, the sales process, staff remuneration, complaint handling and management information.[90]

56. The Financial Services Consumer Panel believed that the "Treating Customers Fairly initiative could well be used to address issues surrounding financial inclusion".[91] The NCC argueed that "the FSA should ensure that Treating Customers Fairly means providing all consumers, including those who are currently excluded, with access to the financial services market and its basic products".[92] However, Mr Tiner told us that Treating Customer's Fairly did not explicitly cover financial exclusion because the initiative was about customers who were currently being serviced by the financial industry, rather than going out and seeking people who were not currently engaged.[93] Mr Briault said that the Treating Customers Fairly initiative looked at the product life cycle including the way in which firms designed products and how they communicated information about these products, the quality of advice provided and the handling of complaints "[Treating Customers Fairly] does not seek to reach out to the financially excluded."[94] We recommend that the FSA ensure that the Treating Customers Fairly initiative encourages firms to think about the need to improve access of financially excluded consumers to financial services products. The Treating Customers Fairly initiative should also encourage the financial services industry to develop products which meet the needs of the financially excluded.

Savings clubs

57. In our first Report on financial inclusion, we concluded that "savings, and the problems of making saving worthwhile and beneficial for those on lower incomes, are integral to any effective strategy on financial inclusion".[95] In that Report, we also indicated our intention to return in this Report to the issue of savings clubs.[96]

58. On 13 October 2006, Farepak, the Christmas hamper company, was placed into administration. It is estimated that over 100,000 people lost savings with a value of over £43 million when the company collapsed.[97] In a debate in Westminster Hall on 7 November 2006, the Minister for Trade, Mr Ian McCartney MP, said

The impact on so many family Christmases, in so many parts of Britain, can only be imagined. I fully share the concern that so many hon. Members have expressed about the effect on hard-working people, many of them among the least well-off, who aimed to put by something for Christmas, so that when that happy time of year came round again, they could be sure of participating without getting into debt.

59. He noted that the situation was under investigation by the Administrator, BDO Stoy Hayward, and officers from the DTI's Companies Investigation Branch.[98] He announced the establishment of the "Farepak response fund" which will be operated by the "Family Fund", a registered charity. This fund, which will grant vouchers to affected families, will be independent and will accept donations from any organisation willing to help.[99] A number of major companies have announced donations to this fund.

60. Whether a company accepting deposits is regulated by the FSA will depend on whether the company meets the definition set out in the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001. Article 5 of this Order states that deposit means "a sum of money … paid on terms … under which [the money] will be repaid, with or without interest or premium, and either on demand or at a time or in circumstances agreed by or on behalf of the person making the payment and the person receiving it". This indicates that if the money is paid over on terms that it won't be repaid, and that the purchaser will get goods in return, then the money is not classified as a deposit under the regulation and the company involved does not have to be regulated by the FSA.

61. We raised the issue of the regulation of Farepak and other savings clubs during our oral evidence on the FSA's annual report for 2005-06. Sir Callum McCarthy expressed "huge sympathy for the people who have lost money in this way" but noted that "the FSA has no responsibility whatsoever at the moment, as the law is drafted, for this sort of scheme. It would require a change of law to give us responsibilities."[100] Sir Callum pledged to discuss the issue of possible changes to the regulatory regime with the Trade Minister, Ian McCartney MP.[101] In reply to a letter from our Chairman, Sir Callum told us that the FSA

Had great sympathy for the people affected by this failure. However, we can only discharge the responsibilities given to us by Parliament. Farepak was not authorised by the FSA and, as we understand the position, the way in which it conducted its business did not require it to be. It follows that those affected cannot benefit from the Financial Services Compensation Scheme. Ian McCartney, the Minister of State for Trade, Investment and Foreign Affairs, has written to MPs who took part in the Westminster Hall debate on 7 November explaining the position. The Minister also announced that he met the Chief Executive of the Office of Fair Trading (OFT) on 8 November and asked that the OFT work with the FSA and DTI officials to look at the regulatory framework in which Farepak operated, and to consider options to address any issues raised. A report will be made to him at the earliest opportunity. We will contribute fully to this work.

62. As part of the Government's agenda to promote savings it is vital that people are given confidence that their money will be protected. We note that the Farepak scheme was not regulated by the FSA and is outside the scope of the Financial Services Compensation Scheme. We recommend that as a matter of urgency the Government, in conjunction with the OFT and FSA, consider whether appropriate safeguards are in place to protect those who have entrusted their money to others. This should include examination of whether an expansion of the FSA's regulatory responsibilities is necessary, or whether the appropriate degree of regulation could be accomplished through other mechanisms. The Farepak case has highlighted a serious lack of consumer protection which could have much wider implications for savings products of this kind. Given the level of public concern, we want the Government to address this issue with urgency and we want to see evidence of substantial progress by the end of January 2007.

60   Ev 305 Back

61   Ibid  Back

62   Ibid  Back

63   Treasury Committee, Third Report of Session 1998-99, Financial Services Regulation, para 38 Back

64   HM Treasury, Financial Services and Markets Bill: Progress report, March 1999 Back

65   Joint Committee on Financial Services and Markets (1999-2000), First Report, para 62 Back

66   OFCOM, OFCOM's consumer policy: a Consultation, February 2006 p 22 Back

67   OFGEM, Corporate strategy and plan 2006-2011, p 20 Back

68   Sir Callum McCarthy, Chairman, FSA, Speech, The London Chamber of Commerce and Industry, 27 June 2005 Back

69   Ev 309 Back

70   Q 674 Back

71   Q 671 Back

72   FSA, Consumer Research No. 3, In or out? Financial Exclusion: a literature and research review, July 2000 Back

73   Qq 100-102 Back

74   Ev 404 Back

75   Q 94 Back

76   HC 1717, para 48 Back

77   Ev 194 Back

78   NERA, The FSA's methodology for Cost-Benefit Analysis, November 2004 Back

79   Ev 320 Back

80   Q 673 Back

81   Qq 673-674 Back

82   Ev 194 Back

83   A framework for assessing the benefits of financial regulation: Report prepared for the Financial Services Authority, Oxera, June 2006, p 2 Back

84   Q 677 Back

85   Q 695 Back

86   Q 978 Back

87   HC 848-I, paras 93-96 Back

88   Q 704 Back

89   FSA, Annual Report 2005/06, p 27 Back

90   FSA, Treating Customers Fairly, Building on progress - building on progress, July 2005 Back

91   Ev 320 Back

92   Ev 404 Back

93   Q 672 Back

94   Ibid Back

95   HC 848-I, para 118 Back

96   Ibid Back

97   Information from DTI Back

98   HC Deb, 7 Nov, col 207WH Back

99   Ibid Back

100   FSA Annual Report Scrutiny, 24 October, Q 240 Back

101   Ibid, Q 241 Back

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