Financial Regulation: a preliminary consideration of the Government's proposals - Treasury Contents

Written evidence submitted by the Futures and Options Association


  1.1  The Futures and Options Association ("the FOA") is the principal European industry association for over 170 firms and organisations engaged in the carrying on of business in futures, options and other derivatives. Its international membership includes banks, financial institutions, brokers, commodity trade houses, energy and power market participants, exchanges, clearing houses, IT providers, lawyers, accountants and consultants (see Appendix 1).

  1.2  The FOA supports the overarching objectives, including the establishment of a Financial Policy Committee (FPC), a Prudential Regulation Authority (PRA) and a Consumer Protection and Markets Authority (CPMA), set out in the Government paper A new approach to financial regulation: judgement, focus and stability (CM7874), but does have a number of observations and concerns, namely:

    (a) The scope provisions of the PRA are unclear and described in different terms in various sections of CM7874.

    (b) It is not clear how, in the proposed structure of the CPMA, wholesale and specialist broker-dealers, which are not systemically important or "retail" or "market infrastructure providers", will be accommodated and the FOA would suggest therefore that there should be three separate divisions within the CPMA, namely "retail", "wholesale" and "markets".

    (c) The FOA supports the broad-based industry view that the UK Listing Authority should remain within the Markets division of the CPMA rather than be transferred to the FRC.

    (d) The FPC, the PRA and the CPMA should be required to take into "full account" the secondary factors referred to in CM7874 as largely reflected in the Financial Services and Markets Act 2000 (described by the FSA as "Principles of Good Regulation"), including the need for regulated institutions to be competitive and innovative. Where possible and appropriate, the factors should be the same for each authority because, as factors, they will be subordinated to each of their primary objectives.

    (e) Retail investor protection and fair dealings should be at the heart of the CPMA, but its description as a "strong consumer champion" seriously undermines its independence as a statutory-based authority, particularly in the area of handling customer complaints and consumer-related disciplinary proceedings, and it suggests that other CPMA divisions will be subordinated to its consumerist responsibilities.

    (f) The proposed restructuring of financial services regulation into separate bodies carries the risk of inter-institutional rivalries and tensions as well as rules and supervisory duplication. It is important therefore that there are "bright lines" in terms of scope, responsibilities and decision-making and in the areas of information-sharing and cooperation.

    (g) The rule-making functions of the PRA and the CPMA should be subject to scrutiny and oversight by the competition authorities and to duties to consult publicly, issue feedback statements and carry out market impact analysis.

    (h) The PRA and the CPMA should each have a high-level, statutory-based practitioner panel of sufficient seniority and expertise to perform the role currently provided by the FSA's existing high level Practitioner Panel.

    (i) The right of the FPC, the CPMA and the PRA to set their own fees should be overseen by the National Audit Office or HM Treasury to ensure that that process is subject to effective cost-benefit analysis, does not involve fees based on unnecessary duplication and does not result in a severe and disproportionate impact on the economics of financial services business.

    (j) The Preliminary Impact Assessment in CM7874 appears flawed because, firstly, it covered only the options of "do nothing" (which is not really an option) or "proceed" and did not analyse such other options as "do less" or even "do differently"; secondly, it did not assess the core elements of the proposed changes; and, thirdly, it assumed no substantive rules change as a result of structural change—an assumption the assessment conceded specifically as "unrealistic".


Q1.   Will the Government's financial regulation proposals improve the framework of for financial stability in the UK? Will they work in a crisis?

  2.1  The FOA supports the establishment of a new FPC and the need for a close interface with the PRA and believes that these proposals will improve the framework of financial stability within the UK, providing responsibilities and decision-making processes are clearly defined and the traditional weaknesses of multipartite arrangements are addressed.

Q2.   Do the Government's proposals get the balance right between tackling the problems of the last crisis and preparing the UK financial system for the next one?

  2.2  Since it is difficult to predict the cause of the next crisis, it is not possible to determine whether the current proposals do, in fact, "get the balance right" but, subject to the observations in para 2.1 above, the FOA believes that they should have a better chance of catching a growing crisis on the "orange light" rather than the "red light".

Q3.   How do the Government's proposals dovetail with initiatives currently being undertaken at European and the global level?

  2.3  Matched responsibilities between the new European Supervisory Authorities and the CPMA and PRA are unlikely, so the PRA and the CPMA will, in certain respects, probably have to represent each other's interests in their relations with the new European Supervisory Authorities.

  2.4  CM7874 does not address how the UK, where it has the competence, will be represented on the international standard-setting bodies.

Q4.  What costs will the regulatory structure place on consumers?

  2.5  The CPMA, insofar as it replicates existing parts of the FSA, should not have any significant cost implication for consumers, although that is unlikely to be the case for the customers of PRA regulated firms, where there will be dual regulation. Such additional costs are likely to be passed on to customers in commissions and charges.


Q5.   Do the Government's proposals appropriately assign roles and responsibilities between the different regulatory institutions?

  2.6  In general terms, the FOA thinks the proposed split between prudential regulation of systemically-important institutions and business conduct regulation is appropriate, but the scope of the firms to be regulated by the PRA (assessed to be in the order of 1500-2000 firms) is unclear (eg broker-dealers are equated with investment banks, which is manifestly incorrect) and the supervisory responsibilities of the PRA are described differently in various sections of CM7874.

  2.7  It is not clear how, within the proposed CPMA structure, the regulation of wholesale firms and the more specialist broker-dealers, which are not systemically important or "retail" or "market infrastructure providers", will be accommodated. It would seem appropriate to establish within the CPMA three separate "retail", "wholesale" and "market" divisions, each of which should have its own sub-board.

Q6.   Will there be unintended consequences of the Government's proposals for regulation on the prospects for non-bank financial institutions?

  2.8  Further to para 2.7 above, the FOA believes that there is a real risk that the CPMA will not be able to differentiate proportionately between wholesale and retail business (which is not an argument for "light touch" regulation), because of the intense consumerist overlay imported into the CPMA by its role being described in CM7874 as a "strong consumer champion" (see also para 2.19 below).

  2.9  The FOA, for all the reasons given by the London Stock Exchange, believes that the UK Listing Authority should remain within the markets division of the CPMA.

  2.10  While the FOA does not seek to speak for insurance and asset managers, the "on the ground" supervisory consequences for non-bank financial institutions which fall within the remit of the FOA are, subject to paras 2.7and 2.8 above, unlikely to generate any significant changes.


Q7.   Should the FPC have a statutory remit? If so, what should that remit be?

  2.11  The FOA is content with the broad remit (which should be statutory) assigned to it in CM7874, but believes strongly that:

    — the FPC (like the CPMA and the PRA) should be subject to those Principles of Good Regulation that are relevant to its work (including taking into full account not just the monetary and economic consequences of its actions, but also the social consequences); and

    — the authority of the FPA to set its fees should (as is the case with the PRA and the CPMA) be the subject of independent oversight (see further para 2.22).

Q8.   How should the success of the FPC, both in and out of crisis, be measured?

  2.12  The FOA supports the external (as opposed to just internal) accountability of the FPC, but believes:

    — there should be more external members on its Board if they are to effectively, as it is put in CM7874 "challenge" its deliberations; and

    — the degree of independence of the FPC, its operational processes and its responsibilities and duties as regards co-operation and information-sharing should all be set out in a separate code of governance.

Q9.   Given the international regulatory framework, what macro-prudential tools should be granted to the FPC?

  2.13  Other respondents will be more focussed on replying to this question, but in general terms, the powers and capabilities set out in CM7874 appear adequate,

  2.14  The powers of the FPC are not entirely clear. For example, it can give directions to the PRA on the regulatory tools that should be deployed in pursuit of macro-prudential policy and to make recommendations where specific regulatory actions are required in order to protect financial stability (para 2.32), but it may not exercise "any formal power of direction in relation to firm-specific decisions or other operational matters" (para 3.29). The FOA would note, firstly, that the former could require the latter and that, secondly, that this undermines the objective of integrating macro-oversight with micro-prudential regulation.

Q10.   Has enough been done to mitigate the risk of conflict between the FPC and the Monetary Policy Committee (MPC)? Is the FPC appropriately structured in terms of:

    the balance between internal and external members? and

    the size of the Committee?

  2.15  It is outside the remit of the FOA to comment on the functioning of the MPC.

Q11.   What characteristics, experience and qualities should the Government look for when appointing external members of the FPC?

  2.16  The FOA believes that the role and responsibilities of external members are comparable to those of a non-executive director, ie they should be sufficiently informed and expert to ensure that the Committee lives up to its responsibilities, including in terms of decision-making and accountability, and to "challenge" the assumptions and decisions of the Committee members could include, for example, a chief economist of one of the major banks, a senior prudential regulation expert from one of the major accountancy firms and a senior, well-respected independent economist.


Q12.   Should the PRA be the lead authority over the Consumer Protection and Markets Authority (CPMA)?

  2.17  Outside the area of prudential regulation, it is difficult to see why the PRA should be the "lead authority" over the CPMA because the CPMA will be responsible for the prudential and business conduct regulation of the vast majority of financial services firms in the UK, ranging from asset managers to specialist broker-dealers, exchanges and international oil and energy corporates, which are far removed from the competence and experience of the PRA. Further, it is difficult to see how the CPMA could play an authoritative role representing the UK on ESMA if it is seen to be sub-ordinated to the PRA.

Q13.   Is it appropriate for the PRA (and CPMA) to adopt a judgements-based approach to financial regulation and supervision?

  2.18  Yes, providing their staff:

    — have the training and competence to do so;

    — exercise their judgements in accordance with pre-set transparent criteria and they are "cleared" internally to ensure consistency;

    — subject to the principal objective of the PRA/CPMA, take into full account the secondary factors; and

    — exercise any discretions in the area of investigation fairly, consistently and in line with accepted notions of natural justice.


Q14.   Do the reforms provide adequate protection for the consumer?

  2.19  The FOA believes strongly that retail investor protection and fair and honest dealings with all consumers should be at the heart of the CPMA, but the description of the CPMA as a "strong consumer champion" is deeply misconceived and materially undermines the CPMA as a detached and balanced regulatory authority, particularly with regard to the handling of customer complaints and consumer-related disciplinary proceedings, free of bias. Further, this poses the question, in respect of what and against whom is it supposed to act as a "champion"?

  2.20  Government policy is clearly confused in this area, insofar as, by way of direct contrast, CM7874 states that the Financial Ombudsman Service should remain independent of the CPMA to avoid impugning "its claim to impartiality, and hence its legitimacy on making rulings which are binding on firms" and that it can only retain credibility "if it does not favour, or appear to favour, consumers". Surely, this is equally true of an independent statutory-based regulatory authority such as the proposed CPMA!

Q15.   To what extent will the regulatory and administrative burden increase for those firms who now have to deal with two regulators?

  2.21  CPMA-regulated firms are unlikely to face any significant increase in the regulatory and administrative burden and the style and nature of CPMA supervision is likely to be similar to that of the FSA in its current revised form. However, dual-regulated PRA firms face potential duplication in reporting obligations and supervisory visits and overlap in areas where business conduct and prudential regulation are closely interwoven. This could be exacerbated if cooperation and consensus-building processes became overly bureaucratic or time-consuming. It was concerns of this nature that led to the abandonment of the SRO system and the establishment of the FSA in the first place.

  For this reason, the FOA believes there is real merit in one authority undertaking the provision of common services, including authorisation, the removal of permissions, organising supervisory visits and collecting data, albeit working in cooperation with any other relevant authorities.

  2.22  Regulatory cost could be exacerbated significantly if the FPC, the PRA and the CPMA are able to set their own fees without any independent oversight to ensure that they are the subject of effective cost-benefit analysis; do not involve duplicative functions; and do not result in a severe and disproportionate cumulative impact on the economics of financial services business. This role could be undertaken by, for example, the National Audit Office or HM Treasury.


Q16.   Should any of the proposed bodies be given responsibility for promoting competition in the banking and financial services sector?

  2.23  No. This is an inappropriate role for a regulatory authority and is already being addressed by a number of organisations, such as TheCityUK, LondonFirst and UK Trade & Investment.

  On the other hand, the FOA is strongly supportive of maintaining competitiveness as a factor that should be taken into account by the PRA and the CPMA when carrying out their regulatory responsibilities. It is impossible to see how they can perform a more judgemental and interventionist role—which will involve taking decisions on commercial matters, reviewing business models and judging growth strategies—without being required to take into full account the need for institutions to sustain not just their international, but also their domestic, competitiveness.

  2.24  If, as stated in para 3.9 of CM7874, one of the reasons for regulatory failure was "excessive concern for competitiveness", that level of attention was not, and never has been, a requirement of the existing legislation, ie facilitating competitiveness was a factor and not an objective; and "promotion" of competitiveness was specifically rejected by the Joint Committee at the time of the passage of the Financial Services and Market Act (see further Appendix 2).

  2.25  Government policy towards competitiveness was clearly expressed in the opening lines to the Executive Summary of the HM Treasury paper "Risk, Reward and Responsibility: The Financial Sector and Society" (December 2009), which stated that

    "a strong and competitive financial sector is essential to a productive modern   economy, and financial services make a significant contribution to the UK economy in particular".

  It seems to the FOA that it is entirely right that the PRA and the CPMA should be required to take into full account this expression of Government policy, albeit as a factor sub-ordinated to the principal objectives of each authority.

  2.26  With regard to innovation, Sir David Walker in the Preface to his Report "A review of corporate governance in UK banks and other financial industry entities" (July 2009) noted that

    "...any undue hampering of the ability of bank boards to be innovative and to take risks would itself bring material costs. It would check the contribution of the banks to wider economic recovery and delay restoration of investor confidence in banking as a sector capable of generating reasonable returns for shareholders".

  2.27  The FOA agrees with the Government view that financial innovation should not be facilitated "at all costs", but, once again, that level of priority was never required under the existing legislation. The need to facilitate innovation should therefore continue to be a factor to be taken into account by the PRA and the CPMA.

  2.28  Since all the "factors" will be sub-ordinated to the delivery of the primary objective, the FOA believes that the obligation should not just be "having regard to" or "being mindful of" but "taking into full account". This will ensure that meaningful and not just superficial consideration is given to them.

Q17.   Should any of the proposed bodies have a role in promoting the City of London?

  2.29 See the response to Q16 above (and Appendix 2).


  3.1  The FOA recognises that the core proposals in CM7874 reflect government policy and the primary purpose of this submission has been directed towards making observations that go with the grain of that political reality.

  3.2  However, the intention of the Government to establish a "shadow" construct of the proposals for a new CMPA and PRA within the FSA, while necessary as a first step in implementation, will constrain the scope of the comprehensive consultation promised by the Government "early in 2011".

  3.3  More positively, this internal restructuring within the FSA will have the advantage of "test driving" the proposed construct and would provide an ideal opportunity for making a preliminary assessment in terms of lessons learned and "fitness for purpose". It would also enable the Government to assess whether or not the objectives and mechanisms for cooperation and coordination, particularly as between the PRA and the FPC, could be achieved without necessarily taking the next step of "externalising" those divisions. Such an interim review would seem pragmatic and sensible and could be incorporated within the proposed 2011 consultation exercise (see Appendix 3).




ADM Investor Services International Ltd

AMT Futures Limited

Bache Commodities Limited

Bank of America Merrill Lynch

Banca IMI SpA

Barclays Capital

Berkeley Futures Ltd

BGC International

BHF Aktiengesellschaft

BNP Paribas Commodity Futures Limited

Capital Spreads

Citadel Derivatives Group (Europe) Limited


City Index Limited

CMC Group Plc

Commerzbank AG

Crédit Agricole CIB

Credit Suisse Securities (Europe) Limited

Deutsche Bank AG

GDI Markets Limited

GFI Securities Limited

GFT Global Markets UK Ltd

Goldman Sachs International

HSBC Bank Plc

ICAP Securities Limited

IG Group Holdings Plc

Investec Bank (UK) Limited

JB Drax Honore«

JP Morgan Securities Ltd

Liquid Capital Securities Ltd

LMAX Limited

Louis Capital Markets UK, LLP

M & G Investment Management Ltd

Macquarie Bank Limited

Mako Global Derivatives Limited

MF Global

Marex Financial Limited

Mitsubishi UFJ Securities International Plc

Mizuho Securities USA, Inc London

Monecor (London) Ltd

Monument Securities Limited

Morgan Stanley & Co International Limited

Newedge Group (UK Branch)

Nomura International Plc

ODL Securities Limited

Rabobank International

RBS Greenwich Futures

Royal Bank of Canada

S E B Futures

Schneider Trading Associates Limited

S G London

Standard Bank Plc

Standard Chartered Bank (SCB)

Starmark Trading Limited

The Bank of Nova Scotia

The Kyte Group Limited

Tullett Prebon (Securities) Ltd

UBS Limited

Wells Fargo Securities International Limited

WorldSpreads Limited


Bahrain Financial Exchange

CME Group, Inc.

Dalian Commodity Exchange

Dubai Mercantile Exchange


EDX London

European Energy Exchange AG

Global Board of Trade Ltd

ICE Futures Europe

LCH.Clearnet Group


NYSE Liffe

Powernext SA

RTS Stock Exchange

Shanghai Futures Exchange

Singapore Exchange Limited

Singapore Mercantile Exchange

The London Metal Exchange

The South African Futures Exchange

The Tokyo Grain Exchange


ED & F Man Commodity Advisers Limited

Engelhard International Limited

Glencore Commodities Ltd

Koch Metals Trading Ltd

Metdist Trading Limited

Mitsui Bussan Commodities Limited

Natixis Commodity Markets Limited

Noble Clean Fuels Limited

Phibro GMBH

RBS Sempra Metals

Sucden Financial Limited

Toyota Tsusho Metals Ltd

Trafigura Derivatives Ltd

Triland Metals Ltd

TRX Futures Ltd

Vitol SA


Atel Trading AG

BP Oil International Limited


ConocoPhillips Limited

E.ON EnergyTrading SE

EDF Energy

EDF Energy Merchants Ltd


International Power plc

National Grid Electricity Transmission Plc

RWE Trading GMBH

Scottish Power Energy Trading Ltd

Scottish & Southern Energy Plc

Shell International Trading & Shipping Co Ltd

SmartestEnergy Limited


Baker & McKenzie

Barlow Lyde & Gilbert

Berwin Leighton Paisner LLP

BDO Stoy Hayward

Clifford Chance

Clyde & Co

CMS Cameron McKenna



Denton Wilde Sapte

Eukleia Training Limited

Exchange Consulting Group Ltd


Fidessa Plc

Financial Technologies India


Freshfields Bruckhaus Deringer

Herbert Smith LLP

Hunton & Williams LLP

International Capital Market Association

ION Trading Group

JLT Risk Solutions Ltd

Katten Muchin Rosenman Cornish LLP


Mpac Consultancy LLP

Norton Rose LLP

Options Industry Council

PA Consulting Group

Patsystems (UK) Ltd

Pekin & Pekin

Pinsent Masons

R3D Systems Ltd

Rostron Parry Ltd

RTS Realtime Systems Ltd



  1.  Section s2(3) of the Financial and Services Markets Act (2000) ("FSMA") sets out a number of factors (otherwise known as Principles of Good Regulation) to which the FSA must have regard in making its rules and guidance and determining the policy and principles by which it exercises its other functions. These include a factor described as "the international character of financial services and markets and the desirability of maintaining the competitive position of the United Kingdom". In commenting on this criterion to the Future of Banking Commission, the Chairman of the FSA described this factor as imposing a "secondary objective" on the FSA, challenging the FSA's target of "good regulation" by infecting it with "industry promotion" and risking a "sort of race to the bottom".

  2.  With regard to imposing a "secondary objective" on the FSA, the legal position is that, while the FSA must, so far as is reasonably possible, act in a way "which is compatible with the regulatory objectives", ie, maintaining market confidence, promoting public awareness, protecting consumers and reducing financial crime, it is required only to "have regard" to the factors set out in s2(3) of FSMA. In the circumstances, and bearing in mind also that competitiveness was specifically rejected as a statutory objective by the Joint Committee of the House of Commons and House of Lords on the Financial Services and Markets Bill and subsequently by the then Government, it is difficult to see how this factor can operate as an "objective", either primary or secondary, of the FSA.

  3.  With regard to the observation over "industry promotion", the fact is that no such duty is imposed on the FSA under s2(3) of FSMA and, while some argued strongly at the time that the competitiveness criterion should use the word "promote", this was, once again, specifically rejected by the then Government. In the circumstances, it is difficult to see how the Principles of Good Regulation in s2(3) of FSMA can be construed as imposing any sort of obligation of "industry promotion" on the FSA.

  4.  Clearly, neither the PRA nor the CPMA should be inhibited from maximising regulatory effectiveness within the boundaries of proportionality, deliverability and affordability. This means, however, marrying up good and effective regulation with, in the case of London, good international business, which in turn would involve taking into account not just the need to sustain diversity, entrepreneurialism and (another s2(3) factor to consider) innovation, but also the international character and competitiveness of that business. It is particularly difficult to see how the PRA or the CPMA can fulfill a more business-intrusive approach to supervision (described by Hector Sants as "judging the future decisions of firms based on business models and other analyses..." and "taking a view on management action") without being required to take into full account the international character and competitiveness of firms regulated by them.



  1.  The proposal in CM7874 to establish a "shadow" internal structure within the FSA which replicates and anticipates the creation of the CPMA and the PRA will provide a very real opportunity to "test drive" the proposals and for a mid-term "fitness for purpose" assessment before proceeding to the next substantive step of "externalising" the PRA and the CPMA as separate bodies.

  2.  The FOA recognises that the Government is committed to a restructuring of financial services regulation along the lines set out in CM7874, but believes such a mid-term assessment (which could also be the subject of the proposed early 2011 consultation) would also provide the Government with an opportunity to assess whether or not its objectives as set out in CM7874 can be achieved to full effect without losing the advantages and strengths of having a unified regulatory authority. Possible advantages include:

    — solving the problems of a potential mismatch between the scope and responsibility of the European Supervisory Authorities and those of CPMA and the PRA;

    — avoiding the major costs and upheaval involved in creating a bi-partite arrangement;

    — sustaining the significant changes introduced by the FSA to correct shortcomings, many of which have relevance to both business conduct and prudential regulation; and

    — reducing substantially the risk of duplication, conflict, complexity and dual regulation of PRA/regulated firms and the risk of inter-institutional rivalries.

  3.  Clearly, the underlying question is whether an independent PRA division operating within the FSA could be sufficiently detached to enable it to deliver on the Government's proposals for improving the framework for managing financial stability in the UK, particularly in the context of providing the FPC with sufficient convergence with and "reach" into the micro-supervisory responsibilities of an internalised PRA. The FOA recognises that any such mid-term review may determine that evolution to an external "twin peaks" approach as envisaged within CM7874 is necessary, but at least such a review will help to determine how best that next step can be achieved to the benefit of all the "stakeholders" in financial services regulation.

September 2010

previous page contents next page

House of Commons home page Parliament home page House of Lords home page search page enquiries index

© Parliamentary copyright 2011
Prepared 3 February 2011