Emerging Markets : Britains attemps to solve regulatory puzzle

UNITED KINGDOM

Britain’s Financial Services Authority (FSA), much criticized for regulatory and supervisory failings that critics say have exacerbated the country’s financial crisis, is to abandon its much-vaunted light-touch approach to regulation.

Turner: Getting tough

Unveiling the reform plan, Turner admitted that the “financial crisis challenges our assumptions about the self-regulating nature of financial markets.” He added that regulation must prevent macro-instability and called for better coordination between regulators, the Treasury and the Bank of England.

Although it stops short of suggesting a separation of retail banking from investment banking—a notion Turner has floated in recent weeks—the main thrust is to prevent banks taking excessive risks. Banks will be required to build up reserves in good times as a cushion against any future downturn and will generally be required to hold more cash. Remuneration policies will be carefully scrutinized to ensure they do not encourage excessive risk-taking, while the FSA is to invest in “specialist prudential skills” in order to focus on “business models, strategies and outcomes rather than systems and processes.” Proper and effective regulation of such “shadow financial institutions” as hedge funds is called for, along with regulation of credit ratings agencies and the minimization of any conflicts of interest.

The FSA is generally stressing it will now be much tougher. Chief executive Hector Sants has hinted at a departure from principles-based regulation, the cornerstone of the FSA’s philosophy since it was set up in 1997, saying it could not work where people do not have principles, and that in the future financial institutions “should be very afraid” of the FSA.

The immediate response to the review was that it heralded a long overdue return to the common sense abandoned during the financial boom of the past few years, with prudence now seen as the necessary main driving force behind regulation. However, many will argue the changes do not go far enough in revamping Britain’s discredited regulatory system.

Justin Keay