These are complex issues, with opinion among financial services leaders on the ‘right’ style and level of regulation as varied as the views we see across the political spectrum.
If we were forced to generalise, many larger UK firms are hoping for post-Brexit regulatory stability balanced with reform in specific areas. Meanwhile new entrants are more likely to argue that existing regulation grandfathered in from the EU favours large incumbents and is anti-competitive.
Enter the UK Financial Services and Markets (FSM) Bill, characterised as an attempt to ignite said bonfire, but primarily designed to replace the hundreds of pieces of EU legislation that will be repealed now the UK has formally left the union.
The Bill arrives during peak political turmoil, meaning financial services firms must navigate challenging uncertainty. Successful firms will be fortifying their risk management practices to protect themselves from playing offside.
Changing rules of the game
Are we seeing a fundamental increase in the pace of regulatory change? Or are we going through a period of outsized and highly publicised political volatility? We would argue it is both.
The FSM Bill ushers in fresh ambiguity around the UK’s regulatory framework – but this has been made to seem more acute by a contest for the premiership in which candidates aired their thoughts on the City’s future. The now-victorious prime minister Liz Truss has reportedly vowed to bring in laws enabling politicians to override decisions if they feel financial regulators are being overly cautious. Truss is also said to be eyeing plans to merge the UK’s three main financial regulators into a single body.
The FSM Bill also contains proposals to expand the remit of financial sector regulators to include driving “competitiveness and growth”. This met with broad support, but ultimately could drive divergence between the UK and EU’s regulatory frameworks.
Any potential regulatory rollbacks follow a post-2008 recovery in which firms worked to implement thousands of EU rules designed to increase capital adequacy, protect the integrity of markets and improve risk management. This included new anti-money laundering rules and broader compliance activity, introduced with the stick of the Senior Managers and Certification Regime (SMCR).
In terms of rules that could be ‘burnt’, the government has revealed specific proposals to make changes to regulations including Solvency II, MiFID and the Prospectus Regime.
It is unclear how the changes proposed so far will increase the City’s international competitiveness, especially with opinion divided over whether the UK should benchmark its frameworks against the EU’s, perhaps to secure a formal equivalence designation in the future, or look to those in other global financial centres, like New York.
There is also preference amongst some in government for transition to outcomes-based, rather than rules-based regulation. This is a significant philosophical shift from European attitudes and could contribute to further regulatory disparity over time.
Longer term, the re-emergence of acute and systemic geopolitical tensions, particularly in the US-China relationship, raises questions over the future of the global financial system and the kind of international coordination of new regulation the G20 led after 2008.
Risk management to weather the storm
A useful way of conceptualising the issue of political uncertainty comes via the stoics, who would urge us to focus on the distinction between what we can control – and what we can’t.
This means you know your risk exposure and the measures that are in place to manage and mitigate that risk, safeguarding your ability to continue operating successfully. Additionally, it is critical to evaluate the threat domain and understand how it manifests as risk to your organisation.
It has been encouraging to see how sophisticated organisations have responded to political and regulatory complexity over the last decade. The ESG movement in the financial sector has been led as much by business, as governments. Firms and investors have signed up to voluntary standards without any regulatory requirement to do so.
This sense of duty has admittedly been catalysed by a 24-hour news cycle and the rise of social media. Good risk management means looking at what your current domain is, as well as your potential future domain. In today’s world this means not just looking to lawmakers and regulators – but to sources (like headlines and social media) that give a more immediate sense of public sentiment.
Regulatory stability and clarity are useful for financial markets – but change, geopolitical volatility and political uncertainty are combining in new ways.
When financial services firms can be confident of the rules of the game, the remit of their regulator, and the pace of change, they can operate smoothly. But when clarity becomes obscured – as is the case today – they can rely on old-fashioned risk management to see them through.
Nicholas Panes is vice-president of risk, investigations & analytics practice at Charles River Associates, and Derek Leatherdale is managing director at GRI Strategies