In response to Opposition calls for a Royal Commission into the banking sector, the Australian Government has announced a $127 million reform package aimed at increasing the powers of Australia’s corporate watchdog, ASIC. A key component of that package will be the accelerated implementation of two key recommendations of the Financial System Inquiry: an obligation on product issuers and distributors to ensure products are suitable for the consumers to whom they are distributed; and product intervention powers enabling ASIC to intervene in product design, disclosure material and distribution to prevent significant consumer detriment.
Financial services sector reform has been elevated in recent weeks to a key election battleground. Labor’s call for a Royal Commission is reported to be widely supported by voters, with a Fairfax/Ipsos poll published on 18 April 2016 revealing that 65 per cent of voters are in favour of the proposal with only 26 per cent against it. Against the backdrop of an approaching 2 July election, the Government has been quick to respond. Its intention is to considerably bolster the funding and powers of ASIC to increase its surveillance and enforcement capabilities.
The product suitability obligation and proposed intervention powers are a key component of this, and one which has significant implications for the financial services sector. Below we answer a few questions about this development.
What are the relevant FSI consumer protection recommendations?
The recommendations are:
- The introduction of an obligation on product issuers and distributors to consider and monitor a range of factors to ensure that financial products meet the needs of their target market and hence do not create consumer detriment. The FSI recommended that providers of financial products (both issuers and distributors) more actively design, test and distribute products with their target market in mind, for the purpose of ensuring products meet the needs of that target market and are not distributed to consumers to whom they are not appropriate.
- The introduction of a product intervention power for ASIC to enable it to take a more proactive rather than reactionary approach in order to reduce the risk of significant consumer detriment. The scope of this power would be broad, allowing ASIC to actively intervene in the design and distribution of financial services products including amending marketing material, restricting distribution or even banning products entirely.
Why are these developments significant?
The FSI recommendations demonstrate a shift in financial services regulation away from a disclosure-based regime to one placing greater responsibility on product issuers and distributors.
The provision of product disclosure information to a consumer to enable an informed investment decision is no longer perceived as adequate to promote and ensure positive consumer outcomes. Under the influence of behavioural economic theory, and the experience and studies conducted by foreign regulators (particularly the UK’s Financial Conduct Authority), there is now a view that even fully informed consumers make poor investment choices in some circumstances, and therefore disclosure-based regulation is not sufficient.
The consequence of this change in thinking (manifested in the introduction of the proposed product suitability obligation) is to shift at least some of the responsibility (and potential liability) for ensuring that a product is appropriate from the consumer making the purchasing decision to the product provider underwriting or distributing the product.
The changes will require product issuers and distributors to implement robust product development and testing procedures, and have in place governance structures that ensure proper oversight of product development and distribution.
What is ASIC likely to focus on?
ASIC has already indicated that it is most concerned about complex or high-risk investment products sold in retail markets (over the counter contracts for difference and hybrid securities have been noted), and insurance products sold as add-on or bundled products (most notably, consumer credit insurance and GAP).
When are the changes likely to be implemented?
The Government fully endorsed these FSI recommendations in late 2015. However, it had indicated that a public consultation process would take place during the course of 2016. As a consequence, the general expectation was that these regulatory changes would not be implemented before mid-2017 at the earliest.
The Treasury’s statement today indicates only that the implementation of these recommendations will be “accelerated”. It is unclear what timing the Government has in mind, and whether or not a public consultation will occur; but it now appears a real possibility that these changes will be in place sooner than expected.
What else is the Government intending to do?
The package released today also includes the following:
- $61.1 million investment to enhance ASIC’s data analytics capabilities;
- $9.2 million allocated to Treasury for the purposes of accelerating relevant law reform, including the proposals discussed in detail above;
- $57 million to be provided to ASIC to enable increased surveillance and enforcement on an ongoing basis in the areas of financial advice, responsible lending, life insurance and breach reporting;
- the introduction of an industry funding or ‘user-pays’ model for ASIC, to commence in the second half of 2017. From 2017-18, ASIC’s costs will be recovered from all industry sectors regulated by ASIC;
- The extension of Mr Medcraft’s tenure as ASIC Chairperson for 18 months to oversee the changes; and
- The appointment of a new ASIC Commissioner to assist.
We have been tracking these consumer protection recommendations closely over the last 18 months, and have been conducting briefing sessions with our banking and insurance clients to share our learnings from the UK and EU (where product governance obligations and intervention powers have been in place for a number of years) and to explore how the changes might impact the market in Australia.