Financial Services and Markets Appendices to the Minutes of Evidence


Supplementary Memorandum by the London Investment Banking Association



  1. This submission has been prepared in response to Lord Burns' request, at the Committee's 25 March hearing, that it would be helpful if LIBA could prepare a list of specific areas in the legislation where its Members continue to believe that changes are necessary. In preparing this submission we have taken into account policy developments already referred to in the Treasury's 6 March Progress Report, and we have also tried to take subsequent developments into account.

  2. The submission concentrates on the disciplinary and enforcement issues which were discussed at the 25 March hearing.[16] We recognise, however, that these issues cannot be considered in isolation: improvements in FSA's accountability—and clarification of the objectives and the principles to which it must have regard—might reduce the need for some of the specific safeguards on the disciplinary front which we still consider to be necessary at this stage. There are some other issues—which we have not yet been able to raise separately with the Committee—which are also important in assessing the overall acceptability of the new regime and its implications for the competitiveness of UK firms. Examples include the drafting of the provisions on the reduction of financial crime objective, FSA's financing arrangements and the arrangements for setting FSA's "public awareness" budget, and the establishment of Ombudsman and compensation schemes which must ensure that wholesale international businesses do not finance expenditure for the benefit of UK retail consumers. (We can provide further details if this would be helpful.) In addition, the Treasury are consulting separately on other important areas such as the scope of the legislation and the new promotion regime, and FSA is due to publish a consultative paper over the next few months on their plans for the regime to apply to "approved person" and senior executives.

  3. In this paper we summarise, first, the areas where we think that the general safeguards in the Bill should be enhanced; we then turn to aspects of the disciplinary process itself. We shall comment separately on the proposed market abuse regime. As for FSA's intervention powers, at this stage we have nothing to add to section E of the second part of our November submission.


  4. We believe that the provisions in the Bill on FSA's Annual Report and on the "independent investigator" should be amended so as to enhance external scrutiny of the regulator's procedures which will reduce the risk of inappropriate or unfair proceedings being launched: the Economic Secretary—at the 18 March hearing of the Committee—confirmed that the Bill provided the powers to take the necessary "drastic action [if] FSA ran amok"—but it is clearly in everybody's interest to have the measures in place to prevent such an occurrence.

  5. First, and with regard to the independent investigator, we do not think that the announcements made by the Treasury and FSA so far address the concerns raised in our November representations about the investigator's independence: the Progress Report indicates only that the FSA will be required to consult upon its arrangements and that the investigator, as well as being able to report publicly on his investigations, will have the power to publish the FSA's responses to his recommendations. We continue to believe that the investigator should be appointed by a body other than the FSA, perhaps by the Parliamentary Commissioner or by the same process as for the appointment of the Parliamentary Commissioner, so as to ensure independent scrutiny at least as extensive as that applied to Government. For example, the way in which FSA chooses to interpret its rules and guidance, and whether an investigation/disciplinary process has been unduly protracted, should be subject to independent review so that "maladministration" can be addressed satisfactorily. (We think that the validity of particular enforcement decisions—which will be challengeable at the Tribunal—can be distinguished from the manner in which these decisions have been taken and would, therefore, be excluded from this process.) It will also be important to ensure that the investigator provides a public report each year on his activities. In addition, we believe that the Non-executive Committee's functions should include reviewing any concerns raised about the efficient/fair conduct of FSA's operations: this could be achieved by amendments to Schedule 1 to the draft Bill. We also believe that the Committee should periodically scrutinise the costs and timescale of disciplinary proceedings to ensure that these are conducted efficiently (again, we believe that the Bill should explicitly provide for this).

  6. A related point concerns FSA's exemption from liability in damages. We agree that the regulator should not be inhibited from taking decisive action when this is necessary but, equally, it cannot be right that compensation should not be payable when maladministration has occurred: if necessary, paragraph 17 of Schedule 1 should be amended accordingly. (There is, incidentally, an European Convention on Human Rights (ECHR) aspect here: see Paragraphs 10 and 11 of Lord Lester's Opinion.)[17] With regard to the financing of compensation orders made against FSA, it is clear that the annual fees paid to FSA by the regulated community should not be used for this purpose (on this see Clifford Chance's evidence at the 25 March hearing).

  7. With regard to the FSA's Annual Report, the Treasury have confirmed that there will be an agreed list of the contents (which they are discussing with the FSA currently). As we explained in our November submission on the Bill, we believe that the legislation should prescribe a number of issues which the FSA would be required to cover in the Report—we continue to believe that one such issue is the regulator's management of disciplinary and enforcement issues during the year.

  8. We do not question the need for a flexible system, so that the regulator can respond promptly to market developments, and we agree with the Government's wish to establish a structure which is clear, robust, accountable and fair: our main objective has been to seek to establish clear ground rules in the legislation to ensure that FSA applies its discretion reasonably. We believe that the approach we advocate is supported by the Government's Better Regulation Guide principles.[18]

  9. The Bill should be amended to ensure that practitioners are involved in Tribunal hearings—currently Schedule 10 simply provides that the "President may, for the purposes of the appeal, appoint such further members of the . . . lay panel as he thinks appropriate"[19]—and the composition of the lay panel should involve consultations with practitioner bodies (see, for example, for provisions of regulation 5 of the 1993 Industrial Tribunals (Constitution and Rules of Procedures) Regulations).


  10. As discussed at the 25 March hearing, there is a major concern that individuals and small firms in particular will be deterred from seeking a full hearing of a case by the fear that they will have to finance FSA's investigatory costs if they lose the case, as well as paying any fine. Clearly, to an individual or firm, it is the amount of penalty overall that matters—not whether it is characterised as a fine or as a contribution to costs. We think it is essential that FSA's fining powers in the legislation do not extend to the imposition of awards of costs of the investigation, except in cases where it is held that the "offender" has behaved vexatiously (it may be that the legislation, as drafted, already has this effect but the discussion in FSA's Consultation Paper 17—Enforcing the New Regime—suggests that the intention is to impose costs orders). At the very least, the Bill should allow for costs to be awarded against the FSA (currently Schedule 10 only allows the Tribunal to make orders in respect of costs incurred in connection with its proceedings alone).


  11. The Committee is aware of the debate about whether FSA's disciplinary processes—as regards the market abuse regime in particular—should be regarded as "criminal" for the purposes of the ECHR: we believe that the continued emphasis on "discipline as a deterrent" reinforces the view that the processes should, indeed, be regarded as criminal.

  12. Our November submission outlined what the due process implications of this analysis would be but, as we have stressed previously, we hope that the Government would wish to recognise these principles regardless of whether, in strict law, they are required to do so under the Convention.

  13. The Treasury have already indicated a number of areas where the framework sketched out in the draft Bill is to be amended:[20] we believe that the following points still need to be explicitly recognised in legislation (either primary or secondary):

    —  the right of an accused person to be provided with the regulator's evidence;

    —  the role of the "enforcement committee", the involvement of practitioners in the committee's work, and the right to be heard before the committee;

    —  restriction on the use of evidence obtained under compulsion (as entailed by the Conventions);

    —  the equality of arms principle and the right to be legally represented;

    —  the "sliding scale" burden of proof.

  14. We discuss the Convention's rule on the "foreseeability" of an offence below.


  15. We continue to be concerned about the lack of consistency with regard to FSA's fundamental approach to disciplinary proceedings: although Consultation Paper 17 stresses the importance of an open and co-operative relationship between firms and the regulator, transparent, proportionate and consistent exercise of power and fair treatment for those in the enforcement process, it also states that "it is equitable that those who breach regulatory obligations should generally pay a penalty". This seems to imply that fines will always be sought except in exceptional cases. We believe that the primary objective should be to provide strong incentives for firms to establish efficient internal compliance arrangements and to provide remedies to clients if, as a result of a rule breach, they are put at disadvantage. Fines or censure are only appropriate for firms—or individuals—who egregiously ignore their responsibilities. We acknowledge that enshrining these principles in the Bill is not without difficulty but we suggest that one way of doing so would be for the Bill to require FSA to prepare and comply with a code matching the relevant provisions of the code for Crown Prosecutors in determining whether proceedings should be brought forward (the Crown Prosecution Code provides, for example, that prosecutions are less likely to be needed if the defendant has put right the loss or harm that was caused or if the offence was committed as a result of a mistake or misunderstanding).


  16. In his Opinion Lord Lester stressed that the ECHR requires "offences"—if criminal—to be foreseeable. Whether or not in strict law the Convention applies in this way to FSA, it can only be right for firms or individuals to be censured or fined if it was possible at the time "the behaviour" occurred for them to establish whether or not it would be subject to sanction. (The Better Regulation Guide adopts a similar approach.)[21]

  17. This point arises most acutely with regard to the Bill's market abuse provisions and FSA's wish to be able to mount disciplinary proceedings for breaches of their Principles alone. (A separate paper will be submitted on the former.)

  18. As we explained in our submissions on the draft Bill, the "light touch" wholesale regime has been a key element in maintaining the City's international competitiveness: the absence of detailed rules has been an important element in this and wholesale clients/counterparties such as large corporations—who neither need nor want the protection provided by retail rules—have no wish to change the current structure. However, the FSA has made clear that it wishes to be able to mount disciplinary proceedings for breaches of the Principles alone in spite of the objections to this approach which firms and their trade associations have already made over recent years to the SROs pursuing a similar tack. (As we made clear at the 25 March hearing, firms had not anticipated that breaches of the Principles alone would be cited in disciplinary procedures when the "new settlement" was introduced in 1991-92.)

  19. We believe that, in the wholesale markets at least, there is no need for FSA to adopt such an approach, given the ability of clients/counterparties to look after their own interests, and that to do so will lead firms to press for the introduction of detailed rule to provide the certainty that they need—which will undermine the UK's competitiveness in due course[22]. In addition, FSA do not need to impose disciplinary sanctions for breaches of Principles: if there is some sort of unforeseen gap in the rules which is exploited by a firm in some way in a particular case then the regulator can change the rules as soon as it becomes apparent to prevent other firms pursuing a similar course and, as far as the "offending" firm itself is concerned, a history of such occurrences would colour the regulator's attitude to its assessment of the firm's compliance culture.

  20. Currently the draft Bill provides that the contravention of certain rules will not be actionable at the suit of private persons—Clause 80(3)—and FSA's Consultation Paper 13 (on the new Principles) stresses that this provision is designed to cover the breaches of the Principles. We suggest that the Bill should also provide that censure or fines should not be imposed in respect of breaches of any rule designated under Section 80(3).


  21. As explained in our November submission, we continue to believe that the Bill should oblige FSA to provide firms seeking guidance about the regulatory treatment of transactions with a binding view of the regulator's assessment of their compatibility with the rule book. The greater the extent to which FSA is able to impose disciplinary sanctions for breaches of rules which fail to impose clear guidance on expected behaviour, the more important this matter will be[23] although we agree that the financing of this activity will need to be discussed further.

  22. A related issue is the need to ensure that general rules do not override specific ones: we believe that the Bill should make clear that where a firm has complied with a specific FSA rule, or with the rules of an Exchange, then it should not be vulnerable to disciplinary action for breach of a more general precept. We cannot believe that such a principle is problematic and our Members—not least those from other countries—would be very concerned if this approach were to be regarded as controversial by the Treasury or FSA.


  23. In our November submission, we explained why our Members, drawing in particular on their experience in the USA, thought that a "settlements without admission of guilt" procedure would be valuable—primarily because it allows the regulator to indicate its disapproval of a firm's behaviour whilst by-passing the potentially lengthy adjudication process when a firm disagrees with the regulator's analysis. We continue to believe that the Bill should provide for such a procedure here and we do not understand why the UK authorities are unwilling to accept the point.

14 April 1999

16   We will be providing a separate paper on Market Abuse. Back

17   The Economic Secretary, at the 18 March hearing, agreed that there would not be immunity if the FSA or its staff had acted in breach of the ECHR: the draft Bill does not appear to recognise this at present. Back

18   See the Annex. In addition, we note-from 31 March press stories-that the Government is taking further steps to prevent legislation that imposes a disproportionate burden on business. Back

19   Compare with Section 96 of the Financial Services Act which provides that three Members of the Panel should be appointed to hear appeals and that, as far as practicable, "at least one . . . shall be a person with recent practical experience in business relevant to the case".  Back

20   For example, that FSA will be required to publish procedures and act in accordance with them and that evidence will be disclosed on request to the firms and individuals involved (although, on the latter, we are not clear whether this is to be a legislative requirement). Back

21   See the Annex. In this context it is interesting to note the recent Enforcement Statement issued by the Data Protection Registrar which reflects the Guide's principles: "To be effective any piece of legislation must be understood by those to whom it applies . . . understanding and compliance are always preferable to enforcement . . . ".  Back

22   The Committee considered competitiveness issues at the 16 March session with FSA and Mr Michael Foot said, citing inter alia the regulator's discussions with LIBA, that the evidence suggested that the cost of compliance with UK regulation did not provide a disincentive for business to be conducted here. It should be noted, though, that our November submission on the compliance cost assessment accompanying the draft Bill stated that "we have little doubt that savings will not be achieved if the new regime creates greater uncertainty than the current framework: we are concerned that-as the Bill is currently drafted-this seems likely to be the outcome: see, in particular, our discussion on Part VI of the Bill . . . ".

A similar issue arose in the tax field in connection with the Government's proposal to introduce a General Anti Avoidance Rule drafted at a very high level of generality. In that case the Government has decided not to proceed with the proposal but to introduce targeted provisions if gaps in the legislation are exploited. It is not clear why a different approach should be followed in financial services regulation. Back

23   With regard to the Government's consultation on the introduction of a GAAR in the tax field (see footnote 6)-we understand that the great majority of bodies responding stressed the need for a pre-clearance procedure. Back

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