House of Commons - Regulatory Reform Committee

Themes and Trends in Regulatory Reform - Regulatory Reform Committee Contents

Memorandum submitted by the Association of Certified Chartered Accountants

SUMMARY

The financial crisis was a product of poor governance rather than poor regulation. If anything, it should teach us that regulation is no substitute for sound commercial practice and trust. Although the state of the economy might make regulation more appealing, it has not made it more useful. Regulatory reform can remain relevant if structured around real improvements in the business environment, rather than arbitrary outputs such as administrative "savings".

The government needs to explore the potential of regulatory reform to complement fiscal policy by reducing burdens on business. But reform itself may benefit from some measure of business support. Improving SMEs' ability to cope with new requirements could make regulation more effective and less onerous.

Calls for a "balanced" approach to regulation may reflect a false dilemma of increased burdens for business v. increased levels of public risk. Instead we should focus on achieving the best possible public benefit for the resources consumed by regulation. This hinges on a better appreciation of risk, better regulators, guidance and communication, and better co-ordination with Europe. But it also depends on a deeper understanding of business. Some improvement is possible if the Impact Assessment process can be strengthened through improved methodologies and better access to grassroots information.

INTRODUCTION

1.1 ACCA is the largest and fastest-growing international professional accountancy body with 131,500 members and 362,000 students in 170 countries, whom we support through a network of 80 staffed offices and centres around the world. ACCA has its headquarters in London and 54,000 of our members and over 60,000 of our students are UK-based.

1.2 The expertise of our senior members and in-house technical experts allows ACCA to provide informed opinion on a range of financial, regulatory, public sector and business areas, including: taxation (business and personal); small business; pensions; education; and corporate governance and corporate social responsibility.

EVIDENCE

2. Regulating in difficult times

2.1 ACCA is concerned that a poor economic outlook can create the conditions for a surge in new regulation. Regulation is a form of taxation—a use of private resources to achieve government objectives.[1] It will become more attractive to policymakers as the government's fiscal options become constrained by the deteriorating state of public finances. It may also become more acceptable to the public as it becomes more risk-averse and increasingly looks to government for solutions.[2]

But the case for regulation outside financial services has not changed. Trust in the wider UK business community has not been compromised.[3] The financial crisis has not exposed a world where workplace injuries, employer misconduct or lapses in food standards are more frequent or damaging than previously thought. The nature of the underlying risks has not changed, nor has our understanding thereof improved in any way. The risk of non-compliance rising among struggling businesses has been highlighted,[4] but were this to materialise, it would justify stronger enforcement, not additional burdens on compliant businesses.

ACCA's SME Committee has warned that regulatory reform could become less relevant in the current economic climate if pursued in terms of outputs such as regulatory savings.[5] Insofar as there is a link between regulation and productivity, it will become weaker in a recession. Regulatory "savings" achieved by cutting red tape are less likely to translate to increased output or profit. Crucially, time saved by entrepreneurs, a key component of these savings, is less likely to be invested in the business as risk-aversion rises and the productivity of additional work is reduced.[6]

If evaluated against wider outcomes, however, the case for regulatory reform is stronger than ever. Perceptions of regulation can influence the rate of business start-ups and employment decisions, which will be central to halting the rise in unemployment.[7] Additionally, reduced regulatory burdens could contribute to higher rates of business survival by reducing distraction among SME owner-managers.[8] Finally, the competitive impact of regulation could become more acute in the current adverse credit environment,[9] as any regulation requiring high levels of investment is more likely to raise barriers to entry. The ensuing concentration cannot later be reversed by simply removing the regulations that created it.[10]

2.2 Learning from the financial crisis

The circumstances and regulation of financial services are unique in many ways, and thus any parallels drawn between financial regulation and the wider regulatory agenda must be treated with caution. ACCA's view is that the financial crisis was caused primarily by a failure of governance, and only facilitated by the inadequacy of regulation or oversight.[11] Nevertheless, we agree that some of the lessons from the recent financial crisis could be adapted for the benefit of the wider regulatory agenda.

Businesses cannot deal with risk they do not understand. Even when risk is actively addressed by the business, high profitability can paralyse its control mechanisms. Therefore those who take ownership of risk need to be both able and inclined to override income generators. Finally, the regulatory system must recognise that the relationship between a business and its customers should be characterised by trust. Regulation must aim to support, but not supplant, this trust.[12]

The credit crisis has also underscored three important themes in compliance behaviour: that compliance does not equal the absence of risk; that the way businesses choose to comply can vary, and finally; that their choices can have unexpected, even negative, consequences.

2.3 Beyond a "balanced approach" to regulation

Part of the renewed appetite for regulation stems from a belief that the process of consultation and the regulatory reform agenda are skewed toward the interests of business.[13] However, independent survey evidence cites regulation as a bigger obstacle to succeeding in business than any private sector factors, especially competition. This should, in our view, constitute at least a red flag. By this measure, small and micro enterprises may very well be over-regulated.[14]

But it is pointless to consider regulation and regulatory reform as a zero-sum-game in which a supportive business environment must come at the price of placing the public at risk. We also appreciate that benchmarks of "over-regulation" might be too simplistic as regulation can have strong enabling effects for businesses.[15]

Rather than ask whether the government's approach to regulation is balanced, it would be more appropriate to consider whether regulation is offering the best possible public value for the private resources it consumes, and whether it is using these without jeopardising long-term economic competitiveness and growth. We have argued in consultation that scrutinising this value-for-money relationship should be the role of the Better Regulation Executive.[16]

We believe that much of the infrastructure for good regulation is already in place. At the strategic level the UK's regulatory reform programme is world-class. In practice, however, there is much room for improvement.

2.4 Achieving value for money in regulation

A value-for-money approach to regulation must first of all be guided by an appreciation of the risks faced by the public and businesses. A risk-based approach not only identifies and ranks the areas where regulation can make a difference but also highlights its potential benefits.[17]

An ongoing process of impact assessment (IA) must shape proposed regulations from inception—assessing both their effectiveness and the costs they impose on business, and examining how alternative measures might perform. Internal and external scrutiny of IAs has been shown to motivate high-quality assessment.[18]

Recognising that regulation is a form of taxation, Government needs to treat it accordingly: accounting regularly for the full burden that it will impose and the benefits it anticipates. To reduce uncertainty and facilitate adaptation, government should publish its regulatory plans in the medium-term, taking care to set the total regulatory burden at a level, defined by explicit commitments, that does not compromise macroeconomic goals such as growth and competitiveness.

In this context, "better regulation" is independent of, and complementary to, deregulation just as achieving value for money in public spending is independent of, and complementary to, fiscal discipline.

Finally, a balanced approach acknowledges that only part of the effectiveness and impact of regulation results from the characteristics of regulations themselves. The rest is determined by perceptions among businesses and the public,[19] as well as businesses' internal resources and compliance behaviours.[20] Regulators need to maintain a solid understanding of these factors and monitor how they are changing.

2.5 Priorities for better regulation

Better understanding of risk—We strongly support the basic concept behind the establishment of the Risk and Regulation Advisory Council (RRAC): that a better understanding of public risk by all parties can both reduce the burden and improve the outcomes of regulation.[21] We are, at this time, unsure of the influence and ambition of the RRAC. We hope, however, that past the scheduled end of its mandate in April the RRAC agenda will be internalised by government departments and regulators.

Better regulators—We share the Regulatory Reform Committee's concern that regulatory reform is not as embedded or valued a part of the civil service career path as it ought to be.[22] The lack of regulatory reform capabilities is likely exacerbated by the dearth of public sector financial expertise recently highlighted by the Public Accounts Committee.[23] As the reform agenda becomes more ambitious, these skills gaps will become increasingly problematic and the resulting reliance on a small number of better regulation "champions" may be close to exhausting its usefulness.[24]

Better guidance and enforcement—Across the public sector there is a need to foster an account-management mentality, whereby regulated parties are treated as customers and authorities can keep track of their dealings with individual businesses. Examples of good practice, including Companies House and HMRC, should be emulated as widely as possible.[25] Taken together, the regional better regulation agenda and the recent independent review of guidance led by Sarah Anderson CBE set out a vision of enforcement at the local level using inspectors trained as sector generalists. We have supported this move and hope that it signals a long-overdue shift to using established intermediaries with a high penetration rate to improve compliance behaviour. We believe that this will yield superior results to the current reliance on Business Link and www.businesslink.gov.uk regardless of perceptions and performance.

Co-ordination with Europe—Impact Assessments (IAs) are prescribed by both the UK and EU regulatory regimes, and yet there is little integration between the two processes at the domestic and European level.[26] In the UK, guidance on both Impact Assessment and the transposition of EU Directives treats the UK and EC impact assessments as entirely separate documents.[27] With more than half of all regulatory burdens originating from Brussels,[28] better integration of UK and European practice in regulation design and impact assessment is a promising, but largely unexplored, option for regulatory reform.

Better communication—Perceptions can be as important as facts in shaping the business environment,[29] and so communicating progress in regulatory reform is crucial if businesses are to reap its benefits. But this must focus not on "celebrating success", as the government seems intent on doing,[30] but on informing businesses, especially at the grassroots level, of the work undertaken and seeking their views. This could in turn not only generate useful insights for policymakers but also help change one of the most frustrating perceptions of all, namely that the government does not understand business well enough to regulate.[31]

2.6 Regulatory reform as business support, and business support as regulatory reform.

Governments around the world, including the UK, have embraced fiscal policy interventions in an effort to contain the effects of a global downturn. As a substitute for fiscal policy, regulation could limit the effects of fiscal stimulus—and regulatory reform can be used to reinforce them. The UK government came close to taking this route in autumn, when it was widely reported that new employment regulations were likely to be delayed in order to support small businesses.[32] But it missed this opportunity and also appeared to misjudge how the administrative burden of implementing VAT cuts at a very short notice would compromise its fiscal stimulus.[33]

Throughout 2008, ACCA urged the government to consider regulatory reform as part of its support to hard-hit businesses. We noted in October that if every sole practitioner discouraged from hiring by employment regulation were to take on one member of staff, they would reverse all of the job losses sustained in the preceding year.[34] We were delighted that the Anderson Review employed a similar rationale to support its recommendations.[35]

However, research commissioned by BERR suggests that the burden or otherwise of regulation is determined at least in part by business' own capabilities and resources. This suggests a role for business support as a regulatory reform mechanism. Building small businesses' ability to comply can both reduce the burden of regulation and, by changing compliance behaviour, improve regulatory outcomes.[36]

3. DESIGNING BETTER REGULATION

3.1 Understanding business.

Independent evidence suggests that businesses don't believe that Government officials understand them well enough to regulate.[37] It is fair to say that the practicalities of life in a small business cannot readily be appreciated by anyone working in a larger organisation, private or public. It is also a fact that SMEs are numerous and diverse, and it is difficult to derive a representative picture of their behaviour without compromising its value through aggregation.

We have welcomed the initiative to make small firms impact testing compulsory for all Impact Assessments and are encouraged by the NAO's reporting of a 78% compliance rate in 2008.[38] But the selection of "representative" businesses, the design of a consultation process and the consideration of alternatives for the purposes of the test all rely on officials' familiarity with the realities of small business, which brings regulators back to square one.

We have welcomed the Regulatory Reform Committee's call for grass-roots information[39] as a means of improving policy-makers' understanding of business, and would like to see more of it complementing the more aggregated process of "stakeholder engagement". Initiatives such as the Small Firms Consultation Database can contribute to this body of knowledge and should be strengthened.

Additionally, a requirement that IAs outline their assumptions on SME compliance behaviour would be welcome. Making officials conscious of their assumptions concerning in-house resources and capabilities, supply chain relationships and bargaining power, the state of workplace relations, as well as recourse to advice and compliance behaviour, would, we believe, improve the overall quality of IAs.

3.2 Understanding implementation.

IAs typically assume that regulations can be applied ideally, eliciting 100% compliance rates and a uniform response from businesses of all shapes and sizes.[40] In reality, research carried out for the Anderson Review suggests that the compliance behaviour of some 42% of SMEs will not fit a standard model,[41] and that one in six businesses are unlikely to take proactive action in order to remain compliant. It is also documented that the adequacy of SMEs' internal resources determines to a large extent the costs and benefits of compliance.[42] In failing to account for the complexities of compliance behaviour, IAs can misrepresent the costs and benefits of regulation.

There is potential to improve this understanding through post-implementation reviews, whereby regulators can assess the responses of businesses and their antecedents. But the evidence suggests that the proportion of IAs that make reasonable provision for such fell to one in three between 2006 and 2008 despite improved IA guidance.[43] That said, officials can hardly be expected to plan for reviews when they haven't planned for implementation in the first place. Incredibly, the NAO found that the proportion of IAs that included an implementation plan plummeted from 74 to 20% between 2006 and 2008.[44]

February 2009

1 R A Posner, "Taxation by Regulation" Bell Journal of Economics 2(1): 22-50 Spring 1971. Back

2 Edelman Trust Barometer 2009. Fieldwork took place from 5 November to 14 December 2008. Back

3 Ibid. Back

4 A recent survey by the National Accident Helpline reported employees' belief that the recession has reduced attention to health and safety since the recession hit. The latest data from the Health and Safety Executive (Q2 2008) suggest the number of incidents has been falling, against seasonal trends. Back

5 ACCA, "Better regulation: what it really means" February 2009. Back

6 R Thurik, "Allocation and productivity of time in new ventures of female and male entrepreneurs." Small Business Economics, December 2008. Back

7 "The Good Guidance Guide: Taking the uncertainty out of regulation." BERR, January 2008. For the effect of perceived administrative burdens on action taken to start a new business see Grilo, I & Thurik, R. "Determinants of entrepreneurial engagement levels in Europe and the US." Industrial and Corporate Change. 17:6, October 2008. Back

8 C Decker, T Keyworth, and G Yarrow, "Identification of regulatory impacts on scale economies in compliance costs." In BERR Occasional Paper no. 3, "Impact of regulation on productivity" September 2008. Back

9 ACCA, "SME Credit Update Q4 2008" January 2008. Back

10 BERR "Impact assessment of regulatory budgets consultation" August 2008 Back

11 ACCA, "Climbing out of the Credit Crunch" September 2008. Back