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Phil Young: When should the regulator intervene?

How does a regulator nip a problem in the bud early enough to be effective but late enough to understand it well?

Phil-Young-700x450.jpgA relatively innocuous article by the FCA’s unusually titled “philosopher of science and economist” Damien Fennell highlighted what has long been a conundrum for financial regulators.

The article refers to “evidence based” policy creation and the impracticality of amassing sufficient information to make the success of any policy decision a formality.

Some form of theory is required to bring together the facts we do know and explain how they all interact with one another. True enough. Too true in fact (an in-joke for philosophers of science).

Given all the time and resources in the world, there will still remain a certain selectivity about the data chosen, methodology used and conclusions drawn. Even with a lab coat on, we damned, dirty humans are unavoidably part of the process with our biases, our opinions and our preconceptions. But if we worried too much about it we would never get anything done.

There is often too much time wasted worrying whether a subject such as economics, investment theory or business management is a science (it rarely is) rather than accepting a scientific “attitude” is a good idea and enough to move on with.

The more significant problem for a market regulator is timing when to intervene.

The preference for any regulator is to prevent major incidents rather than resolve them after the fact. The most recent recession reminds us of the importance of that. However, if you want absolutely unequivocal evidence of a problem presented before acting, the horse has most likely bolted and your evidence is an empty stable.

Former FCA chief executive Martin Wheatley was all bluff when he said in 2012 the new regulator would “shoot first and ask questions later”. A number of its early papers were navel-gazing dissertations on behavioural finance. Interesting theory with very little plot or action.

Nobody is expecting the regulator to act like Dirty Harry, asking a bank executive to describe his attitude to luck while staring down the barrel of a Smith & Wesson .44 Magnum. Acting on a hunch alone can be a huge waste of resource.

So how do you nip a problem in the bud at a point early enough to be effective but late enough to understand it well? Let’s take defined benefit transfers as an example.

  1. Follow the money. Product manufacturers and, to a lesser extent, advisers are hungry for sales and there is not much new money around. Cash is the largest “asset pool”, to use provider-speak, but hard to shift. DB pensions are sizeable amounts of money already invested which must go into a pension. It is high profile and the public are already motivated to move it. For all the talk of the difficulties of DB transfers, it is far easier than convincing someone to invest cash. Transferred DB monies account for the outperformance of a lot of pension provider sales figures these days.
  2. Data should show a spike in this activity. An improvement in the format, accuracy and consistency of data will help the FCA over time but pension providers are probably the most reliable source of where transfers come from and who to target. The problem with data is that often it shows a product sale (a Sipp, a repayment mortgage) but not the scenario behind it (a transfer from a DB scheme, a loan to finance a business), which, in hindsight, is often more important. Historic data is often too specific to be reliable for predictive purposes.
  3. A network of informants, as unsavoury as it sounds, is vital for any regulator to understand the direction markets are heading. The gut-feel of one individual may be unreliable but the gut-feel of a broad cross section of people can paint a clearer picture. It takes more time and effort to build a reliable network of contacts, as any journalist will know. They will help explain where the spike in data comes from.
  4. Watch and listen. I regularly see FCA delegates at industry events, which are often trying to influence the future direction it takes. Just looking at the agenda items gives a good flavour for it. The latest Market Studies show a genuine interest in understanding the “game within the game” of financial services. Strong, challenging financial journalism is absolutely critical in aiding regulation, even when it might feel uncomfortable.

It is always too early and it is always too late. I think the FCA is heading in the right direction on all these issues but retaining key staff who have developed sector experience and good contacts is vital for success, as the data available is still too patchy to rely on alone.

It is easier to gather around an impact crater and work out what hit us and why after it landed. We have plenty of evidence to look at. Every book explaining reasons for the 2008 financial crash appeared after it happened, although opinions still differ despite all the evidence we have to look at.

I suspect Fennell knows that and perhaps it is with a degree of irony he refers to himself as both a philosopher of science and an economist.

Phil Young is managing director at Threesixty



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There are 5 comments at the moment, we would love to hear your opinion too.

  1. An interesting and thought provoking article Phil. I agree that ‘scientific’ is not the right course but that having a ‘scientific attitude’ is.

    I’d prefer to call it an ‘analytical attitude’. If a decision or process is unable to sustain analysis without throwing up errors, inconsistencies and poor process then it is safe to assume that something is seriously wrong.

  2. Julian Stevens 31st July 2017 at 4:57 pm

    Dirty Harry didn’t ask a bank executive to describe his attitude to luck while staring down the barrel of a Smith & Wesson .44 Magnum. At the beginning of the movie, he asked one of the bank robbers this question and, at the end, the psychopathic nutcase he’d spent most of the movie pursuing.

    Perhaps you’re confusing him with his partner Smelly Dick.

    That aside, we’ve all read (here and on other forums) numerous tales of IFA’s who did their level best to draw to the attention of the FSA and FCA untoward activities that really did warrant investigation without delay but about which it did nothing.

    Better by far, I suggest, for the regulator to investigate early ~ discreetly, of course ~ and, if nothing amiss is found, confirm this to the subject of the investigation and move on, than to stand back and dither until the brown stuff has hit the fan and the rest of us have to pay for the clean up.

  3. So 4 easy steps ……

    What rubbish ! utter crap !

    We will always have retrospective regulation until …..

    “The FCA regulate the product”

    You cant sell crap if there is no crap to sell

    Do the FSA (food standards agency) regulate chefs or do they regulate the food people eat and hygiene ?

    Is there more regulation on the doctor or …. the medicine he prescribes ?

    I would argue the product has caused us more problems of late than the actual advisers … sure there are bad ones like there are good, that have just been caught out by bad products

  4. DH could not agree more. If providers had to get their products approved by the FCA prior to releasing it to general public, it would certainly help to remove all the crap. However in the world in which we live they simply won’t do it. They are a spineless bunch of bureaucrats that find it much easier to blame advisers if things go wrong than take some responsibility themselves. It would probably save them a lot of resources if they did regulate products. Surely it would be easier and far less time consuming to pre-approve products that chase advisers, do lots of reviews of files etc., after the event? Still I guess we can all dream that one day we will have a regulator that does this

  5. I think the comments on regulating product are wrong or fail to answer the problem for a few reasons, but mainly:

    1. Even if he FCA had the expertise and resources to do this (it doesn’t) the idea that advisers who are paid well to give advise, aren’t culpable is wrong. It is difficult to advise on a ‘bad’ product as you call it. UCIS, derivatives etc have been all big banned from advice already and I find it hard to believe that if a product is so demonstrably bad you can spot it well in advance, an adviser isn’t advising on it willfully.
    2. The product is often not the issue, indeed sometimes there isn’t a product. Using DB transfers again, you wouldn’t be concerned about advising on a pension, it’s the planning scenario which is the concern. Similarity, some higher risk tax planning advice may or may not involve a product, but can often result in a claim.

    As a result, even if you did regulate products (no specific object to that other than practicality of it) you would still end up with the issues I’ve highlighted above. Or am I missing something?

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