Select Committee on Constitution Minutes of Evidence

Memorandum by HM Treasury on the Financial Services Authority


  1.  HM Treasury submits this memorandum in response to the Committee's call for evidence on the accountability of regulators to citizens and to Parliament, as the government department primarily responsible for the legal and institutional framework within which the regulation of financial services is carried out in the UK. This memorandum sets out the legal framework under which the Financial Services Authority (FSA) operates and describes the various mechanisms by which it is held accountable to Ministers, Parliament, stakeholders and the wider public.


  2.  The main responsibility for regulatory supervision of the UK financial services sector falls to a single, unified regulator, the FSA. The FSA is a private company that carries out public functions and which has regulatory powers conferred upon it by the Financial Services and Markets Act 2000 (FSMA).

  3.  The Financial Services and Markets Act (FSMA) came in to force at midnight on 30 November 2001, providing the legal underpinning for the FSA to act as the UK's sole financial regulator and supervisor. The FSA is independent of Government and separate from the conduct of monetary policy by the Bank of England. FSMA gives the FSA four statutory objectives, which are intended to clearly define the role and functions of the FSA and make it accountable for the way its functions are exercised:

    (i)  Maintaining confidence in the financial system;

    (ii)  Promoting public understanding of the financial system;

    (iii)  Securing the appropriate degree of protection for consumers; and

    (iv)  Reducing financial crime.

  4.  In the course of discharging all its general functions, the FSA must have regard to the seven principles of good regulation that are enshrined in FSMA and which form an important complement to the statutory objectives:

    —  the need to use its resources in the most efficient and economic way;

    —  recognition of the responsibilities of regulated firms' own management;

    —  proportionality between the burden, or restrictions imposed on a regulated body in relation to the benefits;

    —  the desirability of facilitating innovation in connection with regulated activities;

    —  the international character of financial services and markets and the desirability of maintaining the competitive position of the United Kingdom;

    —  the need to minimise the adverse effects on competition that may arise from anything done in the discharge of its functions; and

    —  the desirability of facilitating competition between those who are subject to any form of regulation by the Authority.

  5.  Under the regulatory framework created by FSMA, the Government remains responsible for the following:

    —  the legal institutional framework within which regulation is carried out, including the core corporate governance structure of the FSA;

    —  the appointment of Board members and assessment of their overall performance in relation to the statutory objectives;

    —  ensuring that the boundaries of FSA regulation are correct;

    —  directing the FSA on additional matters to be included in its public Annual Report;

    —  mounting investigations in cases of possible major regulatory failure, and also to assess value for money; and

    —  directing implementation of international obligations.

  These responsibilities were clearly set out by the Chancellor in his letter to Sir Howard Davies of 13 December 2001 (see Appendix).

  6.  The governing body of the FSA is the Board, which is currently made up of a Chairman, three executive directors and 11 non-executive directors. The non-executive directors are required to report on the economy and efficiency of the use of FSA resources, to review the FSA's internal financial controls and to determine the remuneration of the executive members of the Board. The Board is appointed by the Treasury and maybe dismissed by the same. Although the FSA falls outside of OCPA, Ministers have agreed that Board appointments should follow the Nolan Principles. Though the Board is currently led by a Chairman alone, the Chancellor announced on 10 February 2003, in a written statement to Parliament, that the successor to Sir Howard Davies as Chairman will also be supported by a Chief Executive.

  7.  Though creating a single regulator in the place of the nine that had existed prior to the commencement of FSMA, FSMA did not widen the scope of the FSA, in any significant way, beyond those activities and products already regulated by the organisations that the FSA was absorbing. These broadly encompassed activities and products related to savings and investments as well as deposit-taking, insurance and the listing of shares. This remit is set to be extended with the addition of regulation of mortgages and long term care insurance in October 2004 and of general insurance mediation in January 2005.

  8.  The FSA is not reliant upon central government for its funding, but has the power to levy fees on all the firms which it regulates to cover the costs of its functions as defined within FSMA. The FSA reports annually on its planned expenditure (as published in the FSA Plan and Budget) and is statutorily required to consult on its proposed fee structure.


  9.  The FSMA regulatory regime is made up of a number of legislative instruments ranging from primary legislation and statutory instruments to FSA legislation (rules, guidance, codes, statements and directions). The Act itself determines the institutional structure, responsibilities, powers and accountabilities of the regulatory regime. The boundaries of FSA regulation are determined by statutory instruments which are made by the Treasury and subject to Parliamentary scrutiny. The detailed content of regulation is set out in FSA rules and so on, which are not subject to direct Parliamentary control. The relationship between the Treasury's legislation and FSA legislation is conceived as one of difference rather than subordination.

  10.  As noted above, the Treasury determines the scope of the regulatory regime by way of statutory instrument. Such statutory instruments are subject to public consultation and accompanied by a regulatory impact assessment where required. In addition, FSMA provides (in broad terms) that statutory instruments which increase the scope of regulation must be approved by both Houses of Parliament. So for example, any statutory instrument that subjected a particular activity to FSA regulation for the first time would be subject to debate in both Houses. The Treasury keep the scope of regulation under review. A large proportion of the activities that are currently subject to regulation, are activities which the UK is obliged to regulate by virtue of community law.

  11.  The FSA has rule-making powers, power over the preparation and issuing of codes and is able to give general guidance and determine general policies. The FSA's rules impose binding requirements on authorised (and in some cases unauthorised) persons, which have the force of law. There are important checks and balances of these powers contained within FSMA, which sets out clear procedures that the FSA must follow in the exercise of its rule-making powers.

  12.  The FSA may only make rules if they appear to be necessary or expedient for the purpose of protecting the interests of consumers. If the FSA proposes to make any rules, it must publicly consult on the proposed rules and the consultation must be accompanied by, amongst other things, a cost benefit analysis and an explanation of the FSA's reasons for believing that making the proposed rules is compatible with its statutory objectives and principles of good regulation (see above).

  13.  There are also two statutory panels under the terms of FSMA. The Financial Services Practitioner Panel and the Consumer Panel are bodies independent of the FSA, who may make representations direct to the FSA Board regarding the concerns of their constituent members. The FSA is obliged by FSMA to have regard to the recommendations of the panels. Where the FSA disagrees with Panel representations which relate to the extent to which the FSA's policies and practices are consistent with the FSA's statutory objectives and principles of good regulation, the FSA must give its reasons for such disagreement. A report of FSA responses to Panel recommendations is made in the FSA's Annual Report.


  14.  As a private company, the FSA is independent of the government, but there are a number of mechanisms by which the FSA is held accountable, to Treasury Ministers, Parliament, those it regulates and to consumers.


  15.  In addition to the two statutory panels, and the ex ante requirements to consult before the exercise of its rule making power, described above, a party aggrieved by certain FSA decisions, including the determination of an application they have made to the FSA, or if an authorised person is aggrieved by the exercise of the FSA's disciplinary power, may refer the matter to the Financial Services and Markets Tribunal. The Financial Service and Markets Tribunal is an independent statutory body. Each case is considered by a panel consisting of laymen and at least one person with legal experience. Tribunal members are appointed by the Lord Chancellor.

  16.  FSMA also imposes procedural requirements on the FSA, which ensure that its decision making is fair and transparent. Where the FSA is considering taking major, adverse decisions in relation to any person (eg the refusal of an application for authorisation or the imposition of disciplinary penalties), it must give the person concerned a warning notice indicating what the proposed action is and why the FSA proposes to take it. The FSA must also give the person concerned the opportunity to make representations to it before it takes the decision.

  17.  Furthermore, under the terms of FSMA, there is an independent Complaints Commissioner, who will undertake to investigate complaints raised with regards to the FSA's exercise of, or failure to exercise any of its functions apart from the legislative functions, for which the consultation mechanism exists. These include complaints about maladministration, negligence, unreasonable delay, unprofessional behaviour, bias and lack of integrity. No charge is made by the FSA or the Commissioner to those who use the scheme. However complaints cannot be made about the FSA's rule making, the issuing of statements or principle and codes of practice, or the issuing of general guidance, as such complaints are excluded from the scheme. As discussed above, FSMA prescribes alternative mechanisms for public scrutiny of such functions.

  18.  There are also a number of independent bodies that may hold the FSA to account. The Director of the Office of Fair Trading (responsible for enforcement of competition legislation) is obliged to keep under review the FSA's rules, codes and general guidance. If the Director considers that any such measure has a significantly adverse effect on competition, he must make a report to the Treasury and to the Competition Commission. If the Competition Commission agrees with that conclusion, the Treasury are obliged (in most cases) to direct the Authority to remedy the position. The FSA is also subject to administrative law and judicial review as it is a statutory regulator and performs public functions.

  19.  The Treasury also has the power to launch enquiries into matters of grave regulatory concern. The Chancellor elaborated on this power in his letter to Howard Davies of 13 December 2001 and this remains an important part of the accountability structure for the FSA (see Appendix).


  20.  The most important mechanism by which the FSA is held accountable for its performance is through the publication of an Annual Report, which must be laid before Parliament. (Copies of the most recent report may be found in the Libraries of both Houses.) In this report, the FSA must detail its performance against its statutory objectives and illustrate how it has addressed the principles of good regulation. The Treasury has the power to direct that particular matters be included in the Annual Report. In the wake of the report's publication, the Treasury Select Committee may hold a formal hearing with the FSA. The Annual Report must also be presented at an Annual Open Public Meeting, which is open to members of the public to attend.

  21.  As well as having the power to direct that particular elements be included in the FSA's Annual Report, the Treasury may commission an independent value for money review of the FSA's operations, under Section 12 of FSMA. The Treasury may determine the timing and the frequency of such a review and the person(s) who will conduct it (see Appendix).

HM Treasury

25 March 2003

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