2nd Annual FSA Conference for Investment Firms
at the Financial Services Authority - 29 May 2003
David Green
Head of International Policy, FSA

  1. I was delighted when the theme of my remarks today was proposed, because I thought at first: fine, as the majority of the FSAP measures this is the acronym for Financial Services Action Plan - are already agreed, my task will be both brief and easy. Those of you who are already acquainted with the content of the Action Plan will not be surprised that my optimism in fact proved shortlived. Indeed, there is much to be said about the FSAP which raises some challenging issues - but I will nevertheless try to stick to at least part of my initial intentions and seek to focus my intervention on a few essential points.

  2. The first thing to recall about the FSAP is that it is part of a wider programme: the realisation of the single European market. This is an objective on which the heads of government have long agreed and there is a general feeling that such a market already broadly exists for the "real goods" - mozzarella and scotch whisky flow freely across EU borders, so to speak but the financial services sector lags somewhat behind, apart from the international markets located in London.

  3. The idea that underpinned the design of the FSAP was to make a quantum leap to catch up with what had been achieved elsewhere, and to establish the single European financial market by 2005. Single markets in securities and risk capital were already intended to be in place by this year. This is what was decided at the Barcelona European Council in 2002 in order to reinforce the programme agreed in Lisbon two years earlier. The benefits to businesses, investors and consumers are expected to be significant. Some studies suggest that, as a result of the Action Plan, EU-wide real GDP will increase by 1.1% - or 130 billion (in 2002 prices) over a decade or so. Certainly, we should be careful about too precise a figure, but even when one allows a margin of error, this prospect is appealing, or at least for those who will benefit from it, for much of this gain comes, of course, from increased competition in financial services and the driving down of margins.

  4. The FSAP properly speaking consists of some 42 legislative and non-legislative initiatives which fall mainly under three headings: (1) Completing a single EU wholesale market, (2) creating open and secure retail markets, and (3) underpinning all this with state-of-the-art prudential rules and supervision. A majority of the measures have now been agreed upon. Among those that are directly relevant to investment firms are measures on selling at distance and electronic commerce, both directly related to facilitating cross-border sales; a number of initiatives to ensure an EU accounting strategy is implemented so that accounts are directly comparable; the Directive on insurance mediation; and the two new sets of rules on UCITS - collective investment schemes.

  5. It must be said, however, that the weight of the programme is such that it is unlikely that the entire Action Plan can be completed by 2005. Hard work is currently under way to achieve agreement on key dossiers for investment firms: the Investment Services Directive, the Directive on Prospectuses, and the new capital framework for banks and investment firms it is now called Risk-Based Capital Requirements Directive. The Take-over-Bids Directive is also very relevant. (By the way, if you are ever asked in a quiz about the length of the negotiation process concerning this last Directive, do not hesitate to play completely safe by ticking the box at the very extreme end - "14 years or over".)

  6. I think it is fair to say that, in the past, some UK investment firms were doubtful that the FSAP had any special relevance to them. By contrast, I have more sympathy with the position that the UK has a very particular interest in the FSAP - and its follow up (more on that later). In contrast to other countries, the UKs financial sector is very strong both in comparison to others and with respect to the rest of our economy. A plan that includes numerous legislative measures for financial services will, because of the hierarchy of law within the EU, have a direct impact on FSA rulemaking, on our financial markets and on the wider economy. What is decided in Brussels and what others think elsewhere in the EU matters directly to firms in the UK. This is true even when they have themselves no intention to engage in cross-border trade and carry out their business on a purely domestic basis. Not only will domestic rules change, but they must be aware that it will be increasingly possible for foreign firms to offer their products directly to UK consumers, either through a direct presence, or by electronic means through the e-commerce channel. The profile of competition will change in UK financial markets as the scope for pan-European competition increases.

  7. Many are just waking up to this reality others have already seized the opportunity to make their voices well heard. Because opportunity there most certainly is - I will come back to this essential point. Their action has borne fruit: the UK negotiating position both on the ISD and the Prospectus Directive has been significantly influenced by the involvement of the industry alongside our other stakeholders. The FSA as a regulator tries to be as pro-active as it can to influence the negotiation behind the scenes in order to improve the quality of regulation across the EU. Part of this is through our close collaboration with HMT, aimed at elaborating common positions and at taking consistent account of stakeholders concerns. To achieve these two objectives, the FSA is in constant dialogue with HMT. Together we also organise meetings with trade associations and industry representatives, some on a monthly, others on quarterly and still others on an ad hoc basis depending on the nature of the issue. These meetings, that have been organised for some time, have helped us to develop an appropriate UK line towards different aspects of the FSAP and the experience has, I think, been helpful and well received.

  8. As to the detail of the measures, there are perhaps four areas of particular concern to you. Small and medium-sized firms will be more specifically interested in the Insurance Mediation Directive and the impact it has in terms of Professional Indemnity Insurance (more colloquially called PII). The FSA is aware that this Directive could mean that some firms will find it difficult to obtain PII cover particularly in as tight a market as the current one. We are therefore working hard to find a solution that responds simultaneously to our prudential concerns and to the legitimate interests of these firms.

  9. Large firms will be interested in what the Risk-Based Capital Requirements Directive will bring to them. We are fully aware that the proposed framework, that applies both to banks and to investment firms, will mean a change with respect to the past and particularly for the latter firms. It is our objective to achieve a reasonable balance between the prudential concerns that we have as a regulator and the legitimate interest of firms that they should not bear compliance or capital costs that are disproportionate to the risks run. You will know that negotiations on the European Directive run in parallel to the talks on the Basel Accord with the aim to keep differences between the resulting EU and global rules to a minimum. They are expected to be adopted in 2005 and implemented in 2006. Until then you will have ample further occasion to react - the European Commissions next consultative document on the RBCRD is expected in mid- to late June. A draft Directive is then likely to come out early in the new year.

  10. Some of your concerns will be particularly focussed on the treatment of what is called "operational risk". This term captures many quite heterogeneous risks which were inadequately recognised before. Producing a sensible outcome is still giving some headaches to the negotiators in Basel and probably not to them alone. In the industry, there is a very welcome move towards a more pro-active approach to operational risk management which makes it clear that this area is part of the wider issue of better risk management by market participants and not simply an external imposition only linked to the Basel Accord. The FSA is consulting the industry in order to build an appropriate framework for these risks and a working paper was made available on our website in January this year "Implementation of the Capital Accord for Operational Risk". This will give you an idea of what we have in mind. Operational risk management is still in a relatively early stage of development and our policy framework tries to reflect this by its flexibility. For you this means there is a continued opportunity to put your views to those who will construct the rules.

  11. Many of you will be interested in the future outcome of the Investment Services Directive on which I, like many of you, have an entire cupboard full of paper as well as a clogged-up PC. You will know that the formal legislative process has started. The discussions in European Council working groups cover the whole range of issues, debates are heated and it is unlikely that any country will get full satisfaction. As is often the case in EU matters, it is likely that there will be compromises and we will do everything to work with HMT to ensure they will be fair ones. What is clear for now is that there is still some hard work to do although we remain tolerably optimistic about the possibility of achieving an acceptable outcome within the scheduled time limit of adoption in Spring 2004.

  12. Overall, there have been concerns that the series of measures coming out of the FSAP could be too much for a number of firms which will be strained by the compliance costs at a time when profitability has fallen back. A lot is happening at the same time. We are aware that the scale of the change is considerable and that there is some risk that the domestic reform agenda in the financial services industry combined with the European one creates some bottlenecks. We take these concerns seriously and will work with the industry to ensure that what is agreed makes sense and what is implemented is manageable.

  13. We have therefore been keen to suggest in Brussels that earlier ideas for an FSAP Mark II were misplaced and decision-makers in the Commission have reacted positively to our concerns. But it would be wishful thinking to conclude no FSAP II means a complete halt to change. This is what I referred to when I spoke earlier about follow-up. One of the long-planned initiatives in the pipeline that will be of particular concern to you is reform in the area of corporate governance and company law. Reforms here are timely when one thinks of some recent setbacks in this area for market confidence and the need to be broadly consistent across the EU if the single market is to have reality. The Commission has just published its Action Plan on modernising company law and enhancing corporate governance. The plan covers such issues as the disclosure of corporate governance practices, the role and independence of non-executive directors, board structure and directors remuneration. Most importantly, the Commission accepts that the case for a single EU-wide corporate governance code is not made. The UK is well positioned in this debate because the Commissions proposals are broadly in line with current or anticipated practice. Nevertheless, it will be important to follow the detail of the legislative means by which the Commission gives effect to its plan. Again, I encourage you to give comments.

  14. More generally, as well as engaging with the existing FSAP agenda, we need to look beyond it. It is likely that one consequence of the reorientation of the Commission away from a second FSAP will be an increased focus on enforcement, that is, seeing that Member States are properly effecting the requirements of Directives already in force.. All this is still at an early stage, but we hope that, as a result, both existing measures and those newly coming out of the FSAP will be properly scrutinised by the Commission to check if the intended effects have indeed taken or are taking place. An ABI-chaired working group has been quick to realise that there is an enormous opportunity here for change and elaborated a paper with a surprisingly long list of barriers to cross-border business. This has been well received within the Commissions DG Internal Market. This London initiative serves as a reminder, however, that it is the industry who need to identify what obstacles or failures to implement are material. It is completely unrealistic to expect the Commission to do this unaided and it will be vital for the Commission to be given the evidence on which to prioritise its action.

  15. Another part of the agenda is to continue to improve the legislative process. As you know, the FSA has a fundamental policy of transparency and consultation. We are pleased to see that other regulators are beginning to take this up. At the European level, the legislative process is also now more open as the consultation process related to the Investment Services Directive has shown. I do not pass over what some, perhaps erroneously, call the Prodi Amendment, but hope and expect that it will soon be considered an accident on the road towards more transparency - without this incident, this particular consultation could well serve as a role model.

  16. Another example of improved consultation is the public document on CESRs consultation process. Note that CESR has nothing to do with any Roman emperor. It is the Committee of European Securities Regulators a network of European regulators. This committee has been created as a result of the Lamfalussy report that proposed reforms to improve the quality of European law-making concerning securities markets.

  17. The basic idea is to separate the overarching framework - and this remains submitted to the usual, full legislative process - from technical details that are dealt with by specialised committees which constitute the regulatory network. In particular, this structure will also allow for more flexibility when rules need to be amended in the light of market developments. A recent ECOFIN decision has read this Lamfalussy approach across to the other financial sectors, i.e. banking, insurance and pensions, and financial conglomerates and decided that UCITS will be covered by the securities committees. The committees of the other financial sectors, that are soon to come, will almost certainly imitate CESRs good practice of consultation. This new legislative structure and the enhanced consultation process of the specialist committees give greater opportunity for industry than ever before in influencing the detail of Community legislation.

  18. The question has now arisen as to whether these regulatory networks should be replaced by a single EU regulator and whether there should be an enabling clause in the coming Treaty amendments to facilitate the creation of such a single I hesitate to use the word federalregulator. Michael McKee from the BBA has set a good example of proactive behaviour by the industry in writing a paper tackling this, which I commend to you. It not only gives a presentation of the UK point of view, but is at the same time a good introduction to the general discussion about regulatory organisation within Europe. Of all the different topics, this is the one that keeps me personally currently most busy, and if we had most of the rest of day and night to spare, I might have been tempted to give you a simple introduction.

  19. I hope that the example of Michaels paper will encourage you to take the initiative in the policy area you are most concerned with, to get involved and to make your voice heard. This involves the need to generate clear ideas and strategic thinking. When you lobby in Brussels you are not alone and the people I talk to in Brussels say that firms from other countries are pretty efficient at the task. We must avoid the outcome that the views of UK firms are left unheard while firms from other member states lobby loud and clear.

  20. This is not possible without a commitment of sufficient resources. Larger investment firms rely on their trade bodies to represent them, though they make the views well known, and I would consider that their action is generally appropriate if there is always room for improvement. It is our experience, however, that small and medium sized firms are often unaware of how domestic legislation derived from Brussels impacts on them and I can only repeat that not doing business cross-border does not mean there is no effect from the FSAP. You should be aware that the volume of cross-border business is likely to increase when the EU legislative measures are implemented in 2005, and with it, as I observed before, the profile of your competitors may well change and broaden.

  21. Overall, firms might want to reflect whether they are proactive enough. In the new European context it will be helpful to think more about the strengths of UK financial firms and the UK financial market. These features need to be reinforced we must avoid being reactive only to unwelcome initiatives, instead of being ready to create new opportunities. But we should also look beyond our borders, begin if this is not already being done - to analyse other markets in Europe and be aware of new opportunities there. What has been hitherto inaccessible may soon be on your doorstep. You may well yourself be the source of that competition which will create the wider economic benefits on which the FSAP is predicated. Because of our well-developed domestic financial markets our firms have much valuable experience to exploit an experience that is often lacking elsewhere in Europe. So, be ambitious and do not hesitate to exploit what your comparative strengths might be within the wider European financial market.

  22. Thank you for your attention and good luck.

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