UK Finance – Written evidence (EGC0045)

 

Introduction

  1. UK Finance is the collective voice for the banking and finance industry. Representing 300 firms, we’re a centre of trust, expertise and collaboration at the heart of financial services, championing a thriving sector and building a better society. We are pleased to respond to the House of Lords Financial Services Regulation Committee’s (the ‘committee’) inquiry into the FCA’s enforcement guidance consultation. We have already responded to the consultation itself and carried out related engagement.
  2. UK Finance supports the FCA’s efforts to be more transparent about its approach to enforcement. However, we believe that the FCA already has mechanisms to achieve these outcomes. Indeed, we agree with the view of the chair of the committee, Lord Forsyth, when he stated in a letter sent earlier this year to Nikhil Rathi, the CEO of the FCA, that the proposals may have a ‘disproportionate effect on firms named in investigations’ as well as risking the ‘overall integrity of the market’. In short, we emphatically oppose the proposals outlined in the FCA’s consultation.

 

  1. Moreover, as the committee has also highlighted to the FCA, the regrettable absence of a cost benefit analysis (CBA) leaves the sector without any evidence that the FCA has taken these significant risks into account. 

 

  1. There has been considerable political opposition to these plans since they were announced, and we are aware of recent public interventions from ministers voicing their concerns over the proposals. Despite this, the latest signals from the FCA is that it still intends to bring forward the proposals as planned. This is regrettable, though we do welcome the FCA’s recent engagement and willingness to listen further to the sector. However, until we see further detail on the FCA’s plans in writing, we remain concerned about the ultimate impact these proposals will have.

 

  1. Within that wider context, this response sets out UK Finance’s opposition in more detail, highlighting the specific concerns of our members to the proposals as they stand today. As the committee would expect, many of the points made in this submission mirror the points made in our consultation response. Thank you for considering this submission.

 

The benefits of the FCA’s current enforcement framework 

  1. Before we set out the negative consequences of the FCA’s proposals, it is worth starting by reiterating the benefits of the FCA’s current enforcement regime. We believe that the current approach strikes the right balance between transparency and guarding against the unnecessary impact on firm and individual reputations. As such, UK Finance emphatically believes that the current regime should be retained.

 

  1. Under the current approach, the FCA already educates the industry and public by publicising their enforcement work thematically. This does not involve naming any firms specifically, but it has been effective and carries a higher-level of signalling than the FCA’s new proposals, as it is able to be more detailed about its concerns.

 

  1. Furthermore, we note that the legal ability of the FCA to make confidential information public is limited by s.348 of the Financial Services and Markets Act (FSMA) 2000, a breach of which constitutes a criminal offence. The powers that govern the FCA’s publications relating to enforcement actions is set out under s.391. These provisions currently rightly place a significant onus on the FCA to ensure that publication of notices are fair, not prejudicial to consumers’ interests and not detrimental to the stability of the UK financial system. Where the FCA publishes information about a Warning Notice it has issued, it makes clear that it does not represent the final decision of the FCA, and that before any final decision is made the subject has a right to make representations to the Regulatory Decisions Committee (RDC). These provisions are in place in recognition of the probable negative impact on firms caused by the FCA making an announcement before its final decision. These are sensible, proportionate checks on the FCA’s powers which we support and which were enshrined in statute.

 

  1. In any case, FCA’s proposals do not currently suggest any legislative changes to FSMA 2000 will be introduced by the Government to reverse these safeguards, and so it is unclear on what basis the FCA now considers it has the legal authority to publicise enforcement investigations as standard.

 

  1. All that said, section 6.1.3 of the FCA’s current enforcement guidance does allow the regulator to announce investigations to maintain public confidence or protect consumers and investors, in exceptional circumstances only. This contradicts comments made by the FCA to this committee earlier this year, who cited the Public Account Committee’s criticism of the FCA’s enforcement approach in the British Steel Pension Scheme (BSPS) report, suggesting it lacked sufficient deterrence mechanisms. Since the FCA already has these powers, it raises questions about the need for additional ones. As such, we believe the FCA has not make a robust enough case for why it needs the provisions as set out in its consultation. 

 

  1. Further, we are aware of recent FCA comments, comparing the Financial Reporting Council (FRC) powers that allowed it to announce its investigation into PwC, with its own. However, the FRC’s powers are discretionary and exercised by a Conduct Committee that only recommends publication of an investigation if certain conditions are met, such as if  (i) such publication is necessary in all the circumstances and (ii) “any potential prejudice to the subject of an investigation is outweighed by the factors in favour of publication.”[1] There are also fundamental differences between the announcement of an investigation by the FRC into an audit, and the announcement of an investigation into a potential failure to notify the FCA of suspected fraudulent activity, with the latter requiring far more groundwork.

 

  1. The inclusion of the BSPS case (as well as other references to PwC and other firms that have been subject to FCA investigation) in the representations made by the FCA to the committee is curious given these organisations were absent from the FCA’s justification for its new enforcement consultation. It would be helpful for the committee to examine whether there was a reason for the initial omission given the relevance the FCA clearly believes these cases have to its justification for its proposals.

 

  1. The FCA’s current enforcement regime seeks to find an appropriate balance of the FCA’s enforcement powers. If the new proposals are brought forward, they will result in irreparable damage being caused to firms in circumstances where the FCA has yet to make any assessment of the facts, and at a point where the only threshold that will have been crossed is that there are ‘circumstances suggesting’ misconduct.

 

The FCA’s aims

  1. While we support transparency as a regulatory aim and agree that the FCA should focus on providing information where it is legally able to do so (pursuant to FSMA or other applicable legislation and where it believes that doing so will help it achieve regulatory objectives), the FCA’s proposals go beyond that legitimate purpose.

 

  1. We agree with the FCA that it could be helpful to provide information to consumers and market participants about the process and subject matter of investigations more rapidly. Faster paced investigations should be the focus. However, legitimate interest in disclosing information must be carefully weighed against potential harm or unfairness to a particular firm, individual or sector/sub-sector of the market. The FCA has failed to provide evidence as to how or why naming a firm under investigation would be necessary to satisfy any public interests identified. The view that it is educational for other firms to be made aware of an investigation, and that they will then be able to act appropriately in response, is unfounded – particularly as it will be unclear at this point whether there has been a specific compliance failure or not. This is particularly concerning given that 67% of investigations conclude with no further action taken and the lengthy investigation timelines of between 4 and 5 years.

 

Compatibility with the FCA’s objectives

  1. The FCA’s strategic objective is to ensure that the relevant markets function well. The FCA’s proposals undermine this objective. The FCA’s assertion that announcing the opening of an investigation does not imply misconduct or harm ignores the likelihood for consumer confusion, market impact and the likely reputational consequences named firms would face. Disclaimers within the public announcement will be insufficient for the press, industry and public who will likely interpret an investigation as synonymous with a final decision of a breach or misconduct.[2] Indeed, in its DP08/3 ‘Transparency as a Regulatory Tool’, the then FSA recognised that publication “may create unwarranted public concern about the matters and persons within the scope of an investigation”. This risk has only worsened since the proliferation of social media and technology. Indeed, it was demonstrated by how quickly concerns around the soundness of Silicon Valley Bank (SVB) were spread online and how flighty deposits were as a result of online banking. These concerns are not limited to firms regulated by the FCA but also to listed firms that are not involved in financial services.

 

  1. We are therefore concerned that naming firms who are under investigation may undermine their viability, and potentially financial stability, by alarming depositors, clients and investors, and causing possible share price impact. This could lead to potential market dysfunction and instability and may undermine the possibility of a firm’s orderly wind down. If the case is closed and the FCA finds no wrongdoing (which according to the FCA is the case 67% of the time), this damage would not be undone by a follow up announcement to that effect. This, coupled with the fact that the criteria to open an investigation under FSMA is very low, runs counter to the FCA’s strategic objective.

 

  1. In other instances, naming firms who have not necessarily done anything wrong may create concerns for consumers who could as a result liquidate their investments at a point in time which results in them being less able to meet their long-term investment objectives, resulting in poor consumer outcomes which runs against the FCA’s operational objective of consumer protection.

 

  1. Finally, the FCA’s competition objective is undermined by these proposals as well. Naming of an individual product provider may result, in the worst-case scenario, in its permanent withdrawal from the market, reducing consumer choice and competition, or in the best-case scenario withdrawal until an investigation is completed. Save for acknowledging the FCA’s support for international competitiveness, the FCA has not addressed how it will allay concerns regarding market stability, international competitiveness or long-term growth of the UK’s economy. Indeed, the FCA’s proposals go beyond the publicity approach adopted by regulators in other established economies. In circumstances where the UK economy is already stalling, there is a risk that these proposals undermine economic growth by making the UK financial services sector less attractive to investors.

 

International competitiveness

  1. We are also concerned that the FCA’s enforcement proposals will run counter to the FCA’s secondary competitiveness objective, which we strongly support. Annex 3 to the FCA’s consultation (‘Compatibility Statement’) asserts that the impact on education, deterrence, trust, reassurance and confidence of the market of the proposals will serve to support the delivery of the FCA’s new secondary competitiveness objective. However, we are unclear what evidence supports these assertions and note that these criteria are different to its own metrics agreed with HMT.

 

  1. The FCA’s effectiveness at embedding the secondary objective is measured against five success indicators including operational efficiency and management information, international competitiveness, regulatory burden, policy implementation and digital innovation. None of the attributes highlighted by the FCA in its consultation fall neatly into one of these categories, so our members question the relevance of these criteria and why the FCA is seeking to redefine existing measures.  

 

  1. We agree that advancing the secondary competitiveness objective justifies changes to regulation or processes. However, regulators must show how these changes meet the objective using the agreed metrics. We were extremely disappointed that the FCA’s enforcement consultation was missing from its report on the secondary objective published in the Summer. This notable omission undermines confidence in the FCA’s ability to meet its new requirement. We urge the FCA to clarify its assessment of how its proposals support its secondary objective as soon as possible.

 

  1. Linked to this, the FCA consistently argues that regulation can support a growing, competitive economy by ensuring its regulatory systems are safe and make the UK a rewarding place to invest. We agree. That is why we were disappointed by the manner in which the FCA published its new proposals. Its decision to forgo a CBA and not signpost its plans via the Regulatory Initiatives Grid (RIG) further damages the FCA’s reputation as a predictable and transparent regulator.

 

  1. Finally, we noted with interest the comment of the FCA Chair that the regulator was ‘surprised’ by the stern sector reaction to the proposals, during his appearance in front of this committee. Given the nature of the proposals, and the likely impact they will have on market stability, competitiveness and the firm reputation, we do not believe that this should have come as a surprise. It would be useful to understand what assessment the FCA made of the likely reaction to the proposals ahead of publication.

 

Irreparable harm and reputational damage on firms

  1. Existing requirements on firms to make careful and controlled disclosures are already a good way to get the right balance between effective firm led disclosure and the management of reputational risk to those organisations. We are concerned that the FCA’s approach as set out in its consultation will not replicate this, particularly given the consultation’s lack of consideration on the impact on the firm in question. It is another reason why we are not clear why these changes are needed.

 

  1. Under the new proposals, at the start of an FCA announcement irreversible reputational damage may be done even though an investigation may still be at a nascent stage and before any meaningful evidence has been gathered. Relations with investors, customers, employees, service providers and other stakeholders may also be adversely impacted. A subsequent finding of no wrongdoing is unlikely to mitigate the damage caused, particularly if that decision is made a significant amount of time following the investigation having opened. This is especially a risk for smaller firms.

 

  1. We believe that this new approach by the FCA significantly undermines its joint responsibility with our members and the Bank of England to ensure that financial markets operate well and that they remain stable. Moreover, the FCA’s proposals have the potential to lead to more needlessly adversarial investigations, which may take longer and take up more of the FCA’s investigatory bandwidth, contrary to the FCA’s stated aims of the changes proposed by the consultation.

 

  1. Depending on the nature of an investigation, reputational damage may also spill over onto other firms in the sector which could, in a more extreme case, lead to a disorderly and rapid withdrawal of deposits/investments and/or shareholder volatility, potentially causing market dysfunction and undermining any orderly wind down.

 

  1. Moreover, we note that the FCA’s consultation is silent about how a firm might be able to make representations against publication. This is particularly pressing given the FCA’s suggested timeline for making an announcement will leave firms with little opportunity to dispute any decision, assess the impact that publication will have on its business, engage with stakeholders or prepare its own public response. A firm should be allowed to make representations regarding the decision and a mechanism provided to allow it to appeal against the decision to make a public announcement. This is even more relevant where the firm determines it must make a market announcement.

 

Naming of Individuals and wellbeing concerns

  1. The FCA states that it would not usually name individuals under its new proposals but that there will be circumstances – in the public interest – where they may do so. However, as we have noted in our consultation response, depending on the nature of the investigation, it will be possible to identify individuals at the firm in question who are likely to be subjects of interest to the FCA as their enquiries into a firm continue. Individuals may be readily identified from the description of an investigation into a named firm, for instance through the FCA Register and other publicly available information. This is despite FSMA granting individuals ‘third party rights’ under section 393 in relation to issuing a Warning Notice.

 

  1. Moreover, the proposal underestimates the potential impact on individuals who are able to be identified from any announcement. Some of these harms include potentially long-lasting career consequences for impacted individuals, the risk of triggering significant harm as a result of stress and publicity, impact on employment mobility and knock-on impacts on family or home life.

 

  1. As a result, we believe strongly that the identity of individuals subject to or implicated in an investigation should not be disclosed under any circumstances, unless and until any wrongdoing has been sufficiently proven. Furthermore, other than in very exceptional circumstances, no announcement made by the FCA should allow for the identification of an individual (e.g., the relevant SMF) through other publicly available information (such as through the FCA Register).

 

Other concerns

  1. Finally, we are also concerned about the method of consulting on wholesale revisions to Chapters 1 to 6 of the Enforcement Guide. These were presented in a wholly unsatisfactory manner with no additional commentary to explain whether the proposed changes were stylistic or material. The proposed changes remove procedural safeguards for investigation subjects, including the proposal that legal advisers may not be allowed to attend interviews where the FCA perceives there to be a conflict of interest. This fails to acknowledge the professional code of conduct that lawyers are bound by and may create the perverse situation where firms are not able to attend interviews with their own employees.

 

  1. Furthermore, the requirement for a legal review to be conducted by an FCA lawyer (who had not advised on a case in question prior to referral to the RDC) appears to have been removed, while we note that the FCA proposes no longer consulting on all changes to the Enforcement Guide. We consider that these changes are significant, and the procedural protections offered to investigations subjects, including those proposed as part of CP 24/2 should remain subject to public consultation.

 

  1. This inquiry submission draws on some of the key points from our consultation response. UK Finance’s full response to the consultation can be found here.
     

 

18 October 2024

[1] FRC Publication Policy (Audit Enforcement Procedure) paragraphs 7, 10 to 14

[2] The disclaimer that ‘any findings in the decision notices and the descriptions of those findings in this press release are provisional’ was not included by several media outlets in the following case: FCA publishes Decision Notices for Banque Havilland SA and three of its former employees