On 16 May 2019, the PRA published a speech given by its CEO, Sam Woods. In his speech Mr Woods discusses what the UK system of financial regulation might look like after the UK leaves the EU.
Mr Woods states that in terms of the stringency of financial regulation, the PRA has a clear view of what would make sense for the UK in a post-Brexit environment: the PRA should keep financial regulation calibrated roughly where it is now and it has no desire whatsoever to weaken it.
The PRA also believes that financial regulation should keep pace with new developments and continually patch any weak parts of the regulatory system, but overall following 10 years of regulatory reform the new architecture should be left to do its job.
Mr Woods then talks about the ‘style’ of regulation the UK should aim for and explores the differences between EU and UK approaches to implementing regulatory rules.
In terms of style Mr Wood begins with first principles. He argues that these should form the basis of any regulatory regime which aims to deliver safety and soundness and financial stability in the UK context. The first principles are:
- robust prudential standards. The goal is to ensure continuity in the supply of vital financial services to the real economy throughout the cycle, including after severe shocks. All other principles should be subordinate to this one;
- responsible openness based on international collaboration and standards. This means three things: (i) the PRA has a mandate to engage strongly in international standard setting processes and make sure the PRA is at the forefront of implementing those rules in a thorough way; (ii) the PRA adopts practices and structures which promote strong collaboration with colleagues in other jurisdictions; and (iii) the PRA is open to hosting cross-border business in the UK but only if it is appropriately controlled and governed;
- proportionality and sensitivity to business models, and promoting competition. The burdens on firms created by regulation are no greater than they need to be to achieve the objectives set by Parliament. Part of this is about the ability to adapt regulation for different types of businesses, as given the enormous diversity of financial firms operating in the UK it is unlikely that one size will fit all in all cases. The other side of the coin is that a zero-failure regime cannot be run;
- dynamism and responsiveness. This is necessary for the reason that the financial system is constantly changing;
- The approach to regulation must be consistent across activities carried out by firms, and consistent across sectors where different types of firm happen to provide some similar services; and
- This is particularly important in a system in which considerable discretion is provided to regulators, both to make rules and to supervise and enforce firms’ adherence to them.
Where might the first principles lead to for a post-Brexit system of financial regulation?
One possibility, says Mr Woods, is that these first principles may lead to nowhere. This could arise in several ways including a scenario in which the UK’s future relationship with the EU takes a form that means it sticks with a regulatory system which looks like exactly what it is today. However, Mr Woods states that this would be undesirable if it came with the prospect of becoming a rule-taker in financial services with all the risks – both prudential, and as a matter of industrial policy – that entails.
Mr Woods then discusses what the style of regulation would look like in practice if the UK Government and Parliament decided to build financial regulation on the above first principles. He argues that using the existing UK approach – the model of legislation which has been used to introduce the Senior Managers and Certification Regime (SMCR) – is the best way to deliver these principles in the future. In particular, the approach taken for the SMCR for future regulation has been the preferred approach adopted by Parliament most recently when not constrained by EU regulation.
The EU model
Mr Woods asks whether it would be easier to simply stick with the EU model of regulation through which the UK has recently imported a large volume of rules. He replies that the EU approach “is radically different from the approach the UK has taken when left to its own devices. Indeed, the EU model, with a large body of technical rules set out in the equivalent primary legislation, is quite different from how most of the world does it. For example, the EU and Switzerland were the only two members of the Basel Committee on Banking Standards where Basel 3 was implemented through primary legislation rather than the prudential authority’s rule making powers – in major economies like the US, Australia and Canada the regulators did the implementation.”
From his experience as a regulator, Mr Woods feels that the EU adopts a different approach due to its aim of harmonising regulation and supervision across 28 countries. Mr Woods accepts that “it is entirely natural” that this should lead to a system in which a greater volume of the detail gets locked down in legislation as opposed to regulators’ rules. Mr Woods also adds that it is “also entirely natural to ask whether such an approach would make sense for the UK once outside the EU.”
At the end of his speech Mr Woods states that the UK Government and Parliament will also need to take into account the issue of EU market access, which could in some scenarios lead to greater alignment.