AIFA DINNER
DRAPERS HALL, THROGMORTON AVENUE, EC2
27 NOVEMBER 2003
Callum McCarthy
Chairman, Financial Services Authority

1. I am delighted to have been invited to speak at this, the third annual dinner of the Association. This is the first occasion for me as Chairman of the FSA to deliver a public speech. That I am speaking to AIFA – and also I understand through the marvels of modern telecommunications also speaking to those attending the SOFA Update Conference in Birmingham – is not just an accident of the timing of an invitation. Nor is it due to the fact that your able, energetic and thoughtful Chief Executive Paul Smee used in what was for both of us a previous incarnation to be a colleague. I note by the way that Paul, no doubt in an attempt to manage expectations about what I might say tonight, was recently quoted as saying "November is always a dreadful month". No, the reason why I am grateful to you for your invitation and was keen to accept it is because of the central and growing position which IFAs have in dealing with what I regard as one of the, if not the, most central questions of financial services which this country faces – what Howard Davies called a year ago "the real business of helping people make plans for their future, and especially for their retirement". What I would like to do this evening is to set out the scale of the challenge that we face, and identify some of the major issues with which we must deal. You will be relieved – those in Birmingham who have had the benefit of listening to John Tiner this morning especially so, unless they are particular gluttons for, if not punishment, at least repetition – that I do not intend to list all or even most items on our joint agenda. Instead, I want to look at some of the big themes.

2. I have deliberately said that these are challenges and issues with which "we" – regulators and practitioners, the FSA and AIFA – must deal. I do not expect many IFAs to respond immediately and enthusiastically to a claim that "I am here from the FSA. I am here to help you" – that would represent too rapid and too complete a culture change from the rather unhelpful history we both inherited from the previous relationship between the PIA and IFAs. But I think it important to recognise the wide overlap between your interests and those of the FSA. It is in your interests, as it is in ours, that independent, skilled, responsible and properly resourced financial advice should be available to those who need financial products and services and that this advice should be valued. This has always been the case, but it is more true today than it was a year ago, for at least two reasons. The first is that IFAs represent a growing force in the general population of financial intermediaries : whereas over the last five years tied advisers have fallen in number by roughly 30 per cent, IFAs have grown in number over the same period by over 65 per cent; there are probably now more individuals working as IFAs than as tied advisers. The second reason is extraneous: the move – partly determined by demographics, partly by government policies – by which a raft of financial decisions which historically were taken by institutions (by government itself, by employers) are now and will increasingly in the future be taken by the individuals affected. The obvious – and clearly very important – example is the move from defined benefits to defined contributions, but this is but one example of a wider movement affecting pension provision, the financing of tertiary education, and long-term care provision. This movement will mean that the importance of independent advice to individuals who have to make more weighty financial decisions will grow. Many – far too many – of those individuals are insufficiently knowledgeable, and have too little understanding, about financial questions: they are dangerously ill-equipped to make the decisions which they are increasingly being asked to make. Hence the opportunity for you; hence the FSA’s heightened interest in the way you seize that opportunity. So, I repeat, we at the FSA, like you at AIFA, have a shared interest in the continuing development of a skilled, responsible and properly resourced community of independent financial advisers. And that interest is greater than ever before.

3. What does this mean in practice? First, it means that we both have an interest in a perception of, and a reality for, the IFA sector of competence and responsibility. That means that we have a shared interest in your customers believing that they have been fairly treated; and that belief being underpinned by reality. Our approach to this will increasingly be based not on detailed rules – though these cannot entirely be avoided – but on principles and standards of conduct which we will expect to be observed by those who are IFAs, whether limited companies, partnerships or sole traders. We expect the central questions to be whether you give quality advice to your customers; whether you monitor that properly; and whether you, in the larger IFAs, control that properly when there is a management structure which requires formal controls. The FSA will concentrate on those principles.

4. The second point I would make is that we both have an interest in effective action being taken against any IFA who does not meet those standards. Now I am of course entirely prepared to make the assumption that no-one here tonight falls into this category. But, regrettably, such advisers do exist. It is in the interest of all reputable IFAs that effective action is taken against any disreputable or irresponsible actions by an IFA, since any such action harms the reputation of the sector as a whole. I would therefore expect strong support from IFAs and from the association for those occasions when the FSA is justified in taking enforcement action against particular IFAs. In general, I would say that a principle guiding the FSA across our work is that we must seek to distinguish between responsible and irresponsible behaviour by those who provide financial services and products; and through our regulatory and enforcement policies we must encourage good behaviour and discourage bad. This in general means a lighter and less intensive regulatory regime for those who have demonstrated their adherence to standards and principles. It also means effective and tough action against those who do not. We have set about the task of ensuring that small firms meet the required standards in a deliberately systematic manner. Our Threshold Conditions Team, which is part of the Enforcement division, has devised a stream-lined process for dealing with offending firms. Firms will be prevented from conducting regulated business if they do not meet the FSA's threshold conditions. Failure to satisfy the threshold conditions includes: failure to comply with Ombudsman awards; non co-operation with the FSA; lack of PI cover; inadequate financial resources; or non payment of FSA fees. Since May 2002 when these conditions were introduced, 95 cases have been referred to the threshold conditions team. We have taken disciplinary action in 31 cases. We regularly review our process for dealing with these types of cases and consider other areas which would lend themselves to this process. So for IFAs, as for others whom we regulate, we are pursuing means of separating sheep from goats; of encouraging good behaviour; and – as these examples show – of making bad behaviour expensive.

5. It follows from this that you have a direct interest in the effectiveness with which the FSA sets out its principles, promulgates its rules and supervises in practice those whom it oversees. I have explained that we want to emphasize principles not rules, with the obvious additional responsibility which this means for the practitioners. I am struck by what sometimes – at least to a newcomer – appears something close to schizophrenic behaviour on the part of those whom we regulate. On the one hand, there is complaint – with which I have great sympathy – about the scale and intrusiveness of rule-making: how our rule books are ever longer and more detailed. As I say, I sympathise with this argument, and as you know John Tiner has announced our determination to reduce the size of the rule book. In the meantime we are taking steps to make the present rule book more accessible, through for example the special overview of and guide to the FSA handbook designed for IFAs, which I hope you find useful. But there is a contradictory view which we also hear, for which I confess less sympathy. It is that we should provide certainly by providing precision – identifying how principles will apply in particular circumstances with even greater specificity. Now we – and you – cannot have it both ways. Our strong preference is not to pursue an ever more precise definition – the attempt to dot every i, cross every t, identify every alpha and omega, let alone whatever other alphabets might arise – but to place increasing emphasis on principles. I am sure that that is in your interest as it is in ours. But I – and no doubt you as well – recognise the responsibilities it places upon you.

6. I do not claim that we will ever be able simply to rely on principles. There will always be a place for some rules. We have for example been much occupied – jointly with you and with others – in seeing how in a world where polarisation will no longer exist we establish fair treatment for competing channels of advice, so that retail customers can choose sensibly between direct advice from a provider of financial product on the one hand and an intermediary on the other. AIFA has played an important and constructive part in translating this principle into rules –taking the idea which was first put forward in CP 121 and making the practical proposals which were reflected in CP 166 (numbers now close to my heart) for the menu approach, which we have been testing. In February we will be coming forward with proposals to implement depolarisation and accompany this with detailed proposals for implementing the menu approach initially and helpfully put forward by AIFA. I see this as an effective example of how to relate a principle to a set of rules – and, I would add, a useful model of how a trade association can help make a principle effective in practice. The proposals set out in CP 166 for the model approach owe much to your input.

7. The supervision of a large number of often individually small regulated entities poses special problems for the FSA. We face these already for IFAs; and the extension of the FSA’s responsibilities next year to cover general insurance and mortgage brokers will intensify those problems. Our challenge is to find ways which explain clearly to large numbers of entities what is expected of them; avoid intrusive regulation; and be able to take action against those who act irresponsibly. The first of those tasks is the easiest, and where we have made most progress : our roadshows for IFAs; the dedicated IFA part of the FSA website for general insurance and mortgage brokers; last month’s guide for IFAs to the FSA handbook. The correct balance between the costs of intensive regulation and the costs of failing to prevent irresponsible and harmful behaviour is more difficult : we need to use IT and other mechanisms to find effective ways of ensuring that those who deal with IFAs can have a reasonable expectation of fair and competent service.

8. I have dealt mostly with questions of responsibility and of competence. The third quality which I said we both sought in IFAs was proper resources, which brings us inevitably to the question of PII. I in no way minimise the importance of this issue. We are faced, despite the efforts of AIFA and of the FSA and despite the arguments advanced by the Government in European negotiations, with the likely combined effect of the Investment Services Directive and the Insurance Mediation Directive : a mandatory requirement for PII. The FSA will do what it can to achieve that. You know that we have brought forward proposals to ease the PII problem; we are keen to provide flexibility between PII and the holding of capital; and we are seeking to provide greater certainty for IFAs and for those who provide or might provide them with insurance as to what that insurance would have to cover, by more clearly identifying what past liabilities have been. All these actions will help. But I signal this as a continuing issue, which cannot be shrugged off. It will require a lot more attention from both you and us. Through our actions we have demonstrated our determination to work at this.

9. I don't want to end on the rather down note of the problems of PII – even if mitigated by the measures we have taken to solve those problems. Let me return to the central issue and central opportunity: “the real business of helping people make plans for their future, and especially for their retirement”. There is no more important task in financial services today, and there is nobody in a better position to carry out that task than IFAs. We at the FSA have a major interest – and interest in many senses of that word – in helping the development of a skilled, responsible and properly resourced IFA sector. That interest is closely aligned with that of those here tonight. I look forward to working together to achieve that end.

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