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ICTD3720106

Advanced Certificate in Compliance

Assignment Question

Submission Date 30 May 2011

I confirm that this assignment represents my own work and where quotations and/or

ideas have been utilised from other sources these have been acknowledged and

referenced accordingly.

Your Chief Executive has asked you to prepare a Briefing Paper for the Board that:

a) Sets out what impact this change in regulatory structure will, or could potentially have,

upon the

financial services industry in the UK .

(50 marks)

b) Identifies what actions or activities might be required by your firm in preparation for this

change.

(50 marks)

Total 100 marks

Introduction

The financial services industry in the UK is an important part of the UK economy and hasseen a huge amount of changes over the past couple of years. Over the past few years it has

seen a financial crisis in the banking sector and the UK economy has been in recessionfollowing a global economic downturn. We also have had a change of government, with thenew Conservative and Liberal Democrat coalition government representing a major politicalshift in comparison to the previous Labour administration.

Throughout this time the UK financial services industry has been overseen by the UK sindependent regulator the Financial Services Authority (FSA). In June 2010 the Chancellor ofthe new Conservative/Liberal Democrat government announced the decision to replace the

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FSA with two new regulators. This paper outlines some of the major changes that thisrepresents, and the impact that these changes will or could have on the financial servicesindustry in the UK . It will also explore the actions or activities that RESPONSE may need totake in preparation for the change, which should be completed in 2012.

The FSA & Current regulatory structure

The Financial Services Authority is the UK s financial services regulator. It is an independentorganisation from government and works closely with HM Treasury and the Bank of England.The FSA was formed was formed in 1997 when the chancellor of the then new LabourGovernment announced plans to reform the way the UKs financial services industry wasregulated.

In the past the UK financial services industry was largely self regulating. The FinancialServices Action (FSAct) had introduced a basic regulatory framework in the mid 1980s. Therewere a number of regulatory bodies in existence, the Securities and Investments Board(which would later become the FSA), and a small number of Self Regulatory Organisations(SROs) and Recognised Professional Bodies (RPBs). Despite this attempt to introduceregulation in the UK marketplace, the structure was widely considered to have failed in its aimto ensure that investors were protected. The rules introduced under the regime were seen astoo detailed and prescriptive, meaning companies found that disproportionate resources wererequired to comply with rules, and consumers found it difficult and confusing if things wentwrong and they sought redress. In 1997 when the FSA was formed, the government alsoannounced the replacement of the FSAct, and this happened in 2000 with the creation of theFinancial Services and Markets Act (FSMA). Over the years the FSA has evolved itsapproach to regulation, and has gained more power, expanding to include regulation ofMortgages and General Insurance products in 2004/05.

Current regulatory framework

The FSA operates as the UK single regulator, independent from government. Its overall aimis to promote efficient, orderly and fail markets and to help retail customers achieve a fair

deal (1) has four statutory objectives: Market confidence maintaining confidence in the UK financial system.

Financial stability contributing to the protection and enhancement of the stability ofthe UK financial system.

Consumer protection securing the appropriate degree of protection for consumers.

The reduction of financial crime reducing the extent to which it is possible for aregulated business to be used for a purpose connected with financial crime

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In order to achieve its statutory objectives, the FSA has moved towards a more principlesbased approach to regulation. That is, that instead of working to a set of prescriptive rules,which many firms may find overly burdensome and which would try and impose a one sizefits all solution onto a wide variety of different firms offering different products and services,the FSA would regulate with a set of principles: - firms can then analyse the principles and

objectives set-out by the regulator and asses what needs done to meet these in practice. Thisgives the regulatory framework more flexibility and prevents the FSA becoming too involved inthe day to day running of business. The cost of regulation, which must be borne by theindustry is reduced, and the competitiveness of the UK s financial services industry is notstifled by an over restrictive regulator. The FSA has eleven high level principles for businessthat are laid out in the FSA Handbook. The FSA has the power to authorise individuals tocarry out regulated activities and it is required under the conditions of the FSMA to monitorauthorised individuals and firms for compliance with the conditions of the act. Responsibilityfor the actions of firms lies with senior management, who must ensure that responsibilitieshave been assigned within the organisation and that adequate controls to meet the rules,principles and objectives are in place.

The FSA takes a risk based approach to supervision, seeking to put the most resources onthe supervision of firms whos activities present the greatest risk to the achievement of theFSA four statutory objectives. The level of supervision, and contact with the FSA will vary frombaseline monitoring through returns to the FSA for low risk organisations, to regular on-sitevisits from the FSA in the case of medium to high impact firms.

Supporting the Rules and Principles of regulation, the FSA has moved more recently to focuson not just principles, but outcomes as well. Outcomes typically support rules that are in place

as a result of UK or EU legislation, but can also support one or more of the 11 high levelprinciples, for example, the FSAs Treating Customers Fairly (TCF) initiative which delivers aset of six desirable consumer outcomes in support of a number of the principles for business.This is a key move firms must demonstrate, not only do they operate within the rules andfollowing principles as laid out by the FSA, but also that they are achieving the desiredoutcomes for consumers.

Changes

Following the financial crisis of recent years, the FSA recognised a need to make a number ofchanges, including taking steps toward a more proactive, not reactive, outcomes-basedsupervision(2) Following political change, the new coalition government announced changes to theregulation of financial services in the UK. In February of this year (2011), the FSAs chief

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executive, Hector Sant wrote to the CEO of all regulated firms confirming that the FSA wouldbe replaced in two years by with the creation of two new regulatory bodies:

the Prudential Regulation Authority (the PRA);

the Consumer Protection and Markets Authority (the CPMA).

The Prudential Regulation Authority will be a part of the Bank of England, and will be

responsible forpromoting the stable and prudent operation of the financial system through regulation of alldeposit taking institutions, insurers and investment banks. (3)

The Consumer Protection and Markets Authority will be responsible for regulation of conductin retail, as well as wholesale, financial markets and the infrastructure that supports thosemarkets. The CPMA will also have responsibility for the prudential regulation of firms that donot fall under the PRAs scope. (3)

Change to Twin Peaks regulation

This new form of regulation overseen by PRA and the CPMA has been referred to as a twinpeaks supervision. The responsibilities of the new regulators as described, ensure that thefour regulatory objectives, as required by the FSMA can be met. The PRA fulfilling objectivesof market confidence and financial stability and the CPMA delivering consumer protection andreduction of financial crime. The changes have been begun to be delivered by the FSA,starting on the 4th of April 2011 when their Supervision and Risk business units were replacedwith a Prudential Business unit (PBU) and a Consumer and Markets Business Unit (CMBU).The FSAs current chief executive, Hector Sants, will be the chief executive of the PRA, aswell as the PBU. The government has also announced the the chief excecutive of the CPMA

will be Martin Wheatley, who will also be the head of the CMBU.These initial internal re-organisations that the FSA have undergone only represent a first stepon the road to becoming two separate regulators (3). Further details of the new regulatorystructure will emerge over the coming months.

Impact on the financial services industry in the UK . Immediate impact/long term impact/notthere to prevent failure

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The immediate impact of these changes may not be felt, as there will be a period of transition.The FSA have already started making the changes in their management structure. They planto ensure there is a smooth transition between one regulator toward the new twin peaksstructure. In the immediate future changes to the way that capital resources are calculatedmeans that firms will need to hold more of their annual income in reserve capital than before.In the long term there a likely to be changes to the way in which the new authorities regulate,

and the level of interaction with the regulator that some firms may expect. The CPMA willidentify firms needing closer scrutiny using a risk model. Due to the events of the last fewyears in terms of the economic crisis, it has been recognised that the FSAs has not alwaysbeen effective in the past. In response to this the CPMA will aim to minimise the amount ofconsumer detriment and is likely to scrutinise more closely firms with a lower risk thresholdthan the FSA would have. There is also the posibility that more firms may be allowed to fail inthe future, as the PRA has recognised that regulatory culture should not operate under azero failure regime.

Impact of changes on RESPONSE

Although much of the final structure and the exact working of the new authorities remains tobe seen there are a number of was in which the changes might affect RESPONSE as anorganisation. As an outsourcer we are in a slighlty different position to other firms, in that thenew regulatory bodies and the rules that they set out are less likely to affect us than they willfirms such as the clients we provide contact centre services for. As with the current regulatoryframework, REPSONSE does not design, market or provide financial services directly to anyconsumers, however we do provide front line staff who will act as a point of contact for bothsales and service enquiries on behalf of those firms, and as such we are ourselves an FSA

regulated organisation.

Depending on our future activities for clients we may be required to hold a larger percentageof RESPONSEs annual income in reserve. The basic requirement for a firm which does nothold client money at present is wither 2.5% or 5000GBP, whichever is greater. This couldpotentially mean that RESPONSE will need to hold more funds in reserve. RESPONSEshould take action now and ensure that extra funds can be made via our bankingarrangements with the firms parent organisation.

Our compliance team is responsible for ensuring that regulations are adhered to and conduct

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monitoring to see that checks are in place at all appropriate levels. Our compliance staff mayrequire further training on the subject of the new regulatory bodies, any new legislation thatcomes into force to underpin the new regulatory structure and changes to the principles oroutcomes demanded by regulators or new or updated rules that may be put in place. Whilstformal training may not be necessary across all areas of the revised regulatory structure, timeand resource must available to enable the compliance team to keep abreast with legal an

regulatory changes, as well as industry reaction and best practice responses to the changesimposed. RESPONSE must ensure that our compliance staff receive training to anappropriate level, based on the level of change that takes place within the industry. Ourcompliance staff will be key in ensuring communication of regulatory objectives with the widerbusiness is of good quality, and that we can influence good compliance behaviours within theorganisation.

Consideration will need to be given to the training of staff dealing with regulated financialservice clients. The correct level of responsibility and training will have to be re-assessed foreach job profile, from front-line advisor to Senior Operations Managers. This will requirescheduling considerations: time for sometimes large numbers of staff to undergo awarenesstraining. Some staff members will require more detailed training and may be required todemonstrate understanding via a measure of competence. The compliance team will be animportant tool in the training and awareness program, having been prepared with technicalknowledge from the training and awareness activities they have undertaken (as outlinedabove). Compliance will seek to support the roll out of any new rules or guidance byintegrating them into our processes in a way that meets the business' needs, and allows us toincorporate compliance behaviours into our business culture.

Under the current and future regulatory frameworks, Senior management have ultimateresponsibility in ensuring the that we operate under a compliant framework. Our seniormanagement team must also receive training in the changes to the regulatory structure and

how it affects their roles and responsibilities as a controlled function within the organisation.Provision must be made for the professional provision of this training, and as in previousyears it is recommended this training be outsources to an accredited firm.

Finally we should prepare for the possibility that we will require more interaction with theregulator than at present. Currently RESPONSE is monitored by regular returns to the FSA,however in the future these may increase in complexity, may require further disclosure than atpresent and will take more time and expertise to complete. We are also more likley to fallunder direct scrutiny from the regulator.

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References and Quotes

(1) About the FSA/Aims and objectives at www.fsa.gov.uk

(2)

13 December 2010

Speech by Hector Sants, Chief Executive, FSA

Reuters Newsmakers

(3)

Letter to CEO's from Hector Sants 7-2-2011

www.fsa.gov.uk

The supervisory approach of the Prudential Regulation Authority

19 May 2011

Speech by Andrew Bailey, Executive Director, Bank of England

www.fsa.gov.uk