With the financial services sector still reeling from the aftermath of recent banking failures, financial services reform is something of a sensitive – but highly topical – subject. On 9 December 2022, the Chancellor of the Exchequer announced the Edinburgh Reforms, a series of 31 measures designed to ensure that the sector benefits from dynamic and proportionate regulation, and that consumers and citizens benefit from high quality services, appropriate consumer protection, and a sector that embraces the latest technology.
The measures include a review into reforming the FCA and PRA’s Senior Managers and Certification Regime (SMCR). The SMCR was introduced in the aftermath of the 2008 banking crisis and the 2012 London Interbank Offered Rate (LIBOR) scandal as a framework that encouraged individuals to take greater responsibility for their actions, while making it easier for firms and regulators to hold individuals to account.
Reform of SMCR is part of a strategy to maintain and build the UK’s attractive and internationally respected ecosystem for financial services regulation. “Taking advantage of the UK’s position outside the EU, the government is setting out how the framework for financial services regulation will adapt to support a dynamic, stable and competitive financial services sector,” the Chancellor explained in a written statement to Parliament.
There are three key parts to the regime. The Senior Managers Regime imposes obligations on those performing a specified senior management function. The Certification Regime is applicable to all people in a firm who may pose a risk of causing significant harm to a firm, its customers or the market. These people are annually certified by a firm as fit and proper. Finally, Conduct Rules set minimum standards of behaviour for almost all staff, with additional rules applicable to senior managers.
The Call for Evidence, formally launched on 30 March 2023, will look at the legislative framework of the regime, and garner views on the regime’s effectiveness, scope and proportionality, before seeking views on potential improvements and reforms. The FCA and PRA have published a joint discussion document, as has HM Treasury, both inviting responses by 1 June 2023.
The two papers do not set out concrete proposals for what the reforms may look like. They do ask a number of questions to narrow the areas upon which evidence is sought, and offer an insight into the government’s intended approach.
The government’s intention appears to be one of consolidation of the existing regime. In his oral evidence on ‘The crypto-asset industry’ to the Treasury Committee on 10 January 2023, Economic Secretary to the Treasury Andrew Griffith said it is “entirely unobjectionable to have some sort of ‘fit and proper’ or certification for those who are involved in pushing systemic risk into the financial system.”
Both the FCA and PRA agreed that the measures had strengthened individual accountability of senior individuals and standards of conduct in financial services. The PRA’s December 2020 review stated: “The introduction of the SM&CR has helped ensure that senior individuals in PRA-regulated firms take greater responsibility for their actions and has made it easier for both firms and the PRA to hold individuals to account. The PRA review also said that around 95% of the firms surveyed said the SM&CR was having a positive effect on individual behaviour.”
Given the regulators’ endorsement of the current regime, it is unlikely that there will be any significant changes that would weaken the protections currently in place. At the same time, the issues prompting the introduction of the SMCR remain alive and highly relevant for consumers today, as demonstrated by the recent collapse of Silicon Valley Bank and emergency rescue of Credit Suisse by UBS.
The government should be mindful that the existing measures are respected internationally; the IMF called SMCR a “major and welcome improvement” and noted that the individual accountability provisions were “an important step towards bolstering public confidence in the banking system”.
2) Selective reform
Griffith offers an indication of the areas reforms may focus on. In particular, he speaks of “calibrating measures for financial risk in the system in a thoughtful way with as much industry input and expertise as possible”.
To meet the government’s stated ambition for an ‘agile’ system, the government may look to reduced application of SMCR for smaller firms; and the PRA’s 2020 review suggested it was open to reviewing proportionality of the regime.
Clearly, different rules for smaller firms would need to strike the right balance between enhancing agility while maintaining high regulatory standards – both high on the government’s list of ambitions. It remains to be seen how the government would class an actor as ‘small’ and ‘nimble’ and the extent to which the various elements of the SMCR would accordingly apply to them, if at all.
While these firms may not pose the same systematic risk, risks remain nonetheless. The current regime is sensitive to this: under current rules, the size of a firm dictates whether it falls under the limited scope, core or enhanced tier and the measures that apply will change accordingly.
The government has also stated its ambition to speed up FCA approval of senior managers to carry out their senior management function, although this is unlikely to be resolved by regulatory reform. Instead, Griffith suggests that the answer here lies with the FCA committing greater “management bandwidth and some systems investment”.
Griffith says the focus of the regime should be on key decision-makers rather than people further down the organisation just being brought into scope. In contrast, the vast majority of respondents to a PRA survey said the Senior Managers Regime (95%) and Certification Regime (89%) did capture the appropriate individuals in their firm.
As for the substance of reform, Griffith appears keen that the regime does not deviate from its objective of managing financial risk. While there may be an overlap with broader areas of how a firm conducts its business and the control of financial risk, the strength of the regime and the respect it commands are largely due the measures that ensure senior management can be held to account for significant business failures that occurred on their watch. Any change should take care to ensure the regime still meets this aim.
Consumers will be mindful of the extent the changes may detrimentally affect the responsibilities of firms amid a challenging economic backdrop. Firms who have implemented SMCR and are now preparing to adopt the FCA’s new consumer duty may also need persuading of the benefits of further regulatory change. The devil, as they say, will be in the detail.
Nikesh Pandit is a barrister and Akash Gohil a pupil barrister at 4-5 Gray’s Inn Square.
A longer version of this article appeared in the ICAEW Financial Services Faculty bulletin, available to Financial Services Faculty members. To find out more about the faculty and to become a member, visit the faculty’s dedicated hub.
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