Examination of Witnesses (Questions 30
- 39)
TUESDAY 24 MARCH 2009
MR STEVE
BROOKER, MS
SUE EDWARDS,
RON GAINSFORD,
MR PULA
HOUGHTON AND
MS SARAH
VEALE
Q30 Chairman:
Welcome everyone. We have five witnesses and we want to handle
this as efficiently as we can, so please try to catch my eye if
you have a particular response to one of the questions. We do
not necessarily want a response from all five of you on all the
questions but if you feel at the end of it that you do have something
further to say we would welcome any additional comments you would
like to make in writing. We would like to deal with this evidence
session in around about an hour, so we want to try to do it fairly
crisply. First of all, welcome to you all and thank you for the
written submissions that we have had. I want to start off by looking
first of all at the regulatory response to the current financial
crisis and ask you whether you think that the complexity of the
global markets and the global nature of the systems and the complex
corporate and personal incentives in financial institutions make
the financial services sector unique? And whether the regulatory
response in financial services has wider implications for the
regulatory reform agenda. That is a complex question to start
with but would somebody like to try that? Mr Gainsford.
Mr Gainsford: I think Lord Turner's
reaction to that is quite interesting because his view that the
FSA felt that markets would be self-correcting, that there was
a rationale behind markets that meant that the light touch regulation
they had would be sufficient, has itself I guess been exposed
as a fallacy, and in that context I think his emphasis on intense
supervisions and the whole issue of competencies within the industry
is one that is probably a proportionate response to what has happened
there. I think it also translates into other fields. If you take
trading standards and you take this issue of global markets then
my members are involved in the supervision of global markets in
a UK sense, and if you take the incidents of 2007 when we had
the annus horribilis of toy safety being compromised in a significant
way—the Committee may recall the headlines week after week,
month after month of dangerous toys that were capable of maiming
and killing and indeed did so with a number of individuals—those
toys were mostly emanating from the Far East and other international
markets and in that sense one is very conscious that you are in
a global regulatory situation, whether it is financial markets
or whether it is certain products of that sort. Then if we move
on to the Internet stage when we see trading standards officers
around the UK looking to work with their counterparts overseas,
how do you regulate an Internet, a global market where perhaps
all of us in this room are buying products from overseas and otherwise
in a way that we would not have done months or a few years ago,
then I think you can translate the global challenges that the
FSA and the financial sector have faced into the global challenges
that even humble trading standards officers face in their activities
in looking to not only protect consumers but protect bona fide
businesses. So I think there is a translation effect from financial
markets into other markets and I think the important message coming
from Lord Turner is around the realisation that one has to pick
the right tools to deal with the right mischiefs. I liked Hector
Sants' comment where he did say that principles-based regulation
is good as long as those that are to comply with it have principles.
I thought that was nicely put. In other words, its dependency
upon a self-regulating market is not always appropriate and yet
of course there is a place for co-regulation in its wider sense.
Mr Brooker: Can I add to that,
perhaps? First of all we should say that the primary actors in
this drama were the financial institutions, but we are here today
to talk about the role of regulators so I will confine my remarks
to them. I agree with Ron that Adair Turner hit the nail on the
head when he said that there was a philosophy of regulation that
markets were self-correcting, and the very day after Adair Turner
said those remarks Consumer Focus published its Rating Regulators
report, which looked at six regulators across the economy. The
key finding of that research was that regulators relied on market
forces to deliver consumer protection rather than exercise the
powers that Parliament gave them to do their job; and that when
regulators did intervene they relied on industry self-regulation
solutions as their default first and instinctive option rather
than choose—
Q31 Chairman:
You are arguing not necessarily for better regulation but better
regulators.
Mr Brooker: Regulators using the
tools that Parliament gave them is what I am asking for. We felt
that regulators were too timid; that they did not flex their muscles
enough. But I do not think their task was helped by a political
climate which encouraged light touch regulation—political
parties on all sides of the agenda responding to a pro-business
lobby which saw all regulation as a burden rather than as a benefit.
I think that was quite an intoxicating atmosphere and one that
regulators must have found difficult to react to.
Mr Houghton: I would just make
two short points. One is that one thing you might take away from
it is a change in attitude amongst the general population towards
what they expect of both the system and of the regulators within
it, and we did some research recently where as much as 84% of
people think that a response to the banking system requires a
tough interventionist approach. I agree with the point about the
fallacy of efficient markets and my second point would be to take
out of that that it is not sensible to take an overly ideological
approach to regulation; that regulation should be about what works
and it should be about what is fit for purpose and what adequately
deals with the risks that are in front of us.
Q32 Chairman:
Before I call on Sarah Veale, can I expand the question slightly?
If we accept Mr Gainsford's observation which is reflecting the
fact that we are in a completely global market now, do we need
more European or international regulation and, if so, how do you
see it being structured? I will leave that one in the air for
the moment and then go back to it.
Ms Veale: I think the short answer
to that is yes and I would just underpin that by saying that I
am not an economist and I think further speculation from me off
the top of my head would not do my organisation very much good
or educate or edify any of you. I was going to answer the second
part of your first question, which is about the read across. I
think it is early days to assess the full impact of the horrors
in the finance sector across the community at large. People tend
to forget that the huge numbers of employees in the finance sector
at a lower level than the ones who are often in the spotlight,
quite rightly, for the huge amounts of money they are taking out
of the system, are the ones who really are suffering. People may
have seen the Panorama programme last night about the impact
on pensions. I think gradually the public is now waking up to
the horrors of it all and I think that although at the moment
you could certainly safely say that the public does not have any
appetite for further deregulation I am not sure that there is
coherent thought yet on what the opposite of that would actually
be in effect. I do not think there is necessarily directly a read
across and I think regulation, as people who are far more expert
than I am, of the finance sector is very different from regulation
elsewhere. I do think that things will move quickly and I suspect
that if the public do not feel that something is being done now
which will rectify all the problems that have occurred they will
start to read across into other areas and they will not have any
appetite for small business and others saying, "We have to
carry on deregulating, there is too much red tape" because
they will quickly associate their own vulnerability, which has
been so much exposed recently, with vulnerability in other areas
like employment protection and health and safety. So I am afraid
that if you are a keen, better regulator, which the TUC is actually
very much so, some of the damage of this will be that you will
not be able to have a sensible discussion about better regulation
elsewhere because of this spectre of what happened when you let
the markets regulate themselves and the massive impact that is
seeping through society now which I do not think that any of us
can quite yet have a full grip on—it is truly horrendous.
Apart from all other things I think it has illustrated to the
public the central importance of the finance sector and how it
touches absolutely everything in society. If that sounds a bit
apocalyptic I am sorry, but I think we are in very early days
and those are just some early thoughts that we have developed
in our written submission to you.
Ms Edwards: I think the problem
with the way that the market has been regulated—light touch,
principles-based—is that it allows firms to decide what
the principle means. You can say, "This means this thing"
and consumers can have a completely different view; whereas regulation
which is rules-based is transparent and it is clear what behaviour
or not is expected.
Mr Brooker: Could I disagree with
that, if I may, or do you want to move on?
Ms Edwards: Can I actually say
where my view comes from? We give advice to consumers often on
very, very low incomes with very poor skills, so when our advisers
try to negotiate with the credit industry or mortgage lenders
actually they end up having an argument about what regulation
is; and where that regulation is rules-based that argument is
a lot easier to have than when it is principles-based.
Q33 Chairman:
Mr Brooker disagrees with that.
Mr Brooker: I think it needs to
be made clear that principles-based regulation did not cause the
financial crisis. The actions of financial institutions which
led to the crisis took place in a regulatory environment where
the FSA had a handbook running into thousands of pages of prescriptive
rules, and treating customers fairly is an extremely new initiative—it
has not had time to bed down, and some say that it has been withdrawn
before it has even had a chance to get started. What attracts
me about principles-based regulation is that it gets senior executives
within financial firms to actually think about what they need
to do to deliver compliance with the overall regulatory goal of
treating your customers fairly for delivering consumer protection.
Lack of certainty is certainly a danger of principles-based regulation
but what happens when everything is certain is that compliance
departments within banks and other financial institutions regulate
in an unthinking way through the tick box mentality.
Mr Houghton: I think it is important
to break down problems that you are trying to solve and a lot
of the problems in the financial crisis are prudential problems;
there are issues around credit rating agencies; there are issues
around accountancy; there are all sorts of macro issues around
capital requirements and that sort of thing. I think that there
is an inevitability that a lot of those issues will need to be
dealt with at the European level. If you bring it down to the
consumer level and the retail level there are already numerous
areas in which EU regulation does have an impact on the UK consumer.
In terms of this particular crisis the one that stands out in
my mind as probably having the most potential impact on consumers
was the issue around depositor protection, particularly in the
context of the Icelandic banks. So I think that there is an inevitability
about more harmonisation in many areas. I think where sometimes
we do have a concern about some of the EU regulation is when it
is done in a maximum harmonisation approach, which can actually
lead to a reduction of protection for UK consumers as opposed
to an additional benefit.
Mr Gainsford: Lord Turner made
the point about there is no silver bullet and that is the point,
is it not, that the great thing about the current crisis is that
it has awoken consumers, employees and others to the whole issue
of regulation, and consumers expect markets to be regulated; they
are not too fussed about how it is regulated but they expect it
to be regulated and they expect that regulated framework to operate
fairly and effectively. So in that sense I think the whole issue
of the co-regulated environment is the model that we have to try
to keep sustaining and to work. I was at a conference last week
when the whole day was spent on self-regulation as if that were
the total panacea; it is not. There is a place for self-regulation,
very much so a place for self-regulation, but on its own it is
not the answer, so there are other mechanisms that need to be
brought into play. On the European front I was struck again, if
I can use the toys example because it is a specific example but
that spurned a whole lot of activity by the European Commission
and others just to look at the issue of whether that area was
appropriately regulated, and the conclusion they drew—which
involved business as well and there were representatives from
the British Retail Consortium on that study—was that the
regulatory framework was intact and was appropriate; what was
missing was the implementation of that, and that touches on Steve
Brooker's point that it is the issue about how Member States and
how their mechanisms within Member States do actually apply the
regulatory framework that exists. So the conclusion that I think
all Member States agreed with is that there is no need to tinker
with legislation, even though some might see that as burdensome
or not depending on which side of the fence you sat. The reality
was that actually it needs to be applied and implemented in a
constant and even-handed fashion and that is the absolute key
message and it even comes through from the FSA where they are
making the point that we have to put much more focus upon the
competency of individuals to apply regulations within their own
businesses and otherwise, rather than simply on the probity of
those individuals because that has demonstrated that that is not
enough, and as a practised trading standards officer I think I
would entirely agree with those sentiments.
Q34 Dr Naysmith:
Let us consider for a few minutes the question of risk-based regulation
and whether you think it in fact works. Is it fine in theory but
flawed in practice? Mr Brooker, do you want to start on that one?
Mr Brooker: I would say that risk-based
regulation remains a valid approach. Put at its simplest terms,
all it means is that you allocate your scarce resources to where
you think the harm is most likely to occur and if that is to be
successful that depends on having the right intelligence in place.
I do not think the FSA had the right intelligence in place and
got its risk assessment wrong. What I would not do is equate risk-based
regulation with light touch regulation.
Q35 Dr Naysmith:
Some people do.
Mr Brooker: Some people do. Once
you have identified your risk then you decide on the firmness
of your touch. On some occasions a feather light touch is the
order of the day but at other times a vicelike grip is what is
needed. What we see at the FSA and other regulators is too much
light touch and not enough firmness in their approach.
Q36 Dr Naysmith:
Is it possible to identify all risks in advance?
Mr Brooker: No, and it would not
be desirable to eliminate all risk from the marketplace otherwise
you dampen innovation which enables the economy to turn around.
Q37 Dr Naysmith:
So you cannot rely really on risk-based analysis being enough
to give you an outline of all the risks that your company might
run; so you have to have something more than just risk-based.
Or is that just in terms that the really important things have
to be risk-based?
Mr Brooker: I think you should
have a risk-based approach as the central plank of your way of
regulating markets but perhaps to be accompanied by an appreciation
that you can never manage away all risks.
Q38 Dr Naysmith:
Does anybody disagree with that or want to agree with it strongly?
If not, we will move on to something else.
Ms Veale: In principle I think
it is good; I do not disagree with that. I think there is a difficulty
when you are talking about the workplace though because it is
not the employees on the whole taking risks in the sense of applying
regulation and protection; that is the employer doing it on their
behalf. I think when you have the responsibility for risk assessment
on behalf of other people, whether it is the public, employees
or whatever it is, some organisations seem to be singularly ill-equipped
to do the risk assessment sensibly and they either go for a zero
risk option, which is impossible—I would agree with Steve,
it is not even particularly desirable in social terms—or
they get it fatally wrong. Experience in the workplace indicates
that employers, although they do not like too much prescriptive
regulation, if you do something like they did with the Health
and Safety at Work Act and give them something that is based on
principles there is a lot of panicking that goes on—they
lack the confidence. There are other risk factors involved—you
get the insurance companies in, you get the lawyers in and you
can see the risk being parked by people who profess to know all
about it; but something that the government perhaps ought to think
about is what more can be done to assist employers and other people,
important people like that to do risk assessments in a sensible
way so that the government could then avoid having to have more
prescriptive regulation. I hesitate to say after what I said before
to say that that can all be applied to the financial sector. I
think the principle of risk-based regulation, exactly as Steve
said, was not what did for the finance sector—I think there
are all sorts of other complex issues. I think it is not ideal
but I think it is much more complicated and some groups are not
really up to doing it effectively yet.
Q39 Dr Naysmith:
Do you think it can give a false sense of security if you think
that you have analysed and identified all the risks; you think
you have done your job and that is it and you can forget about
it?
Ms Veale: I think that is particularly
the case in workplaces; again, you get that complacency and then
there is an accident and you often hear the employer say, "My
goodness me, I never anticipated that; how did that happen, I
have done my risk assessment?" They do not see it as an active
tool that has to be refreshed all the time; you cannot take a
photograph and say that this is a risk free workplace for ever.
It might be at that minute but things happen, events happen and
so you need to be trained to be alert to risks when they arise.
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