Select Committee on Constitution Minutes of Evidence


Examination of Witnesses (Questions 855-859)

WEDNESDAY 9 JULY 2003

SIR HOWARD DAVIES AND MR ANDREW WHITTAKER, FINANCIAL SERVICES AUTHORITY

Chairman

  855. Sir Howard, good afternoon. We are very grateful to you for being with us and also for the paper you have kindly put in. Before we get under way could I invite you for the record to introduce yourself and your colleague?

  (Sir Howard Davies) Yes. I am Chairman of the Financial Services Authority, pro tem, and since I never travel anywhere without my lawyer these days I have with me Andrew Whittaker, who is the general counsel to the authority.

  856. I should mention that one or two members of the Committee because of particular interests may not put questions during the session; others may declare their interests where appropriate. Before we put questions to you, is there anything you would like to say?
  (Sir Howard Davies) Very briefly if I may, since I know the Committee will want to use most of its time for questioning, the accountability structure we have at the Financial Services Authority is quite elaborate, you might say, following extensive consideration of the appropriateness of the structure that pertained to the previous regulators during the passage of the Financial Services and Markets Act and the question of our accountability was discussed at some length particularly by the joint committee, chaired by Lord Burns, of both Houses which gave our legislation pre legislative scrutiny. Indeed I think the Committee is aware of the extensive nature of the arrangements because of the number of people you have had to have in front of you to explain them. If I might just make one point, a point of international comparison which is perhaps less visible to the Committee but something of which I am very conscious since I do a lot of our international work, our structure is relatively unusual internationally. It is fair to say that the Financial Services Authority does have by comparison with other regulators quite extensive rule-making powers. In some other countries some of what we do would, in fact, be done in legislation but we can do that in secondary legislation and that is something on the whole that is welcomed by the financial community as meaning that we can keep our regulation up to date. The other side of the coin is that as a result we have a board which includes serving practitioners which is highly unusual—indeed, I think unknown—internationally. There are some regulators who have advisory boards but none with serving practitioners on the board responsible for making rules. We have a practitioner panel and a consumer panel and I am not aware of any other regulators who have those, though in Europe at the European level they are now copying that approach and the Lamfalussy Report on European legislation borrowed from our accountability structure and suggested the same thing for European committees and regulators, and that has now been set up for the Committee of European Securities Regulators. The Complaints Commissioner I think also is a novelty—that is the other side of the coin of our statutory immunity and was explicitly agreed as such by the Burns Committee. By international standards, therefore, we are surrounded by these various mechanisms but I nonetheless think that the structure is entirely workable and although our experience of it is so far quite short, only 18 months, I would say that we as the Authority are happy that it is working in the way it was intended.

  857. That is very helpful. We appreciate the fact that you have been in place less than two years so the system is just getting up and running. Now, we are focusing on accountability and you cover that in your paper, I also note in your letter you say, "We also recognise and welcome the accountability which justifies its independence", so clearly there is the need for you, given your very particular role, to have that degree of independence, to be detached, but the corollary as you identify is some measure of accountability and, as you say, the process itself is quite complex. Could I summarise it. I was reading through your paper and also looking at the Act itself. Part 1 provides the accountability structure and, as I understand it, when you are dealing with individual cases, if there is a challenge that could go to complaint, depending on what the nature of the complaint is, it could go to the Complaints Commissioner, the Financial Services and Markets Tribunal, and there is always Judicial Review. On the other side in terms of the general fulfilment of your functions it seems that the accountability is in a sense through consultation and scrutiny, so you have on the input side as you mentioned the practitioner and the consumer panels making representations and having the statutory basis for doing it, and on the output side reporting particularly through your annual report to be scrutinised by both Parliament and ministers. So one can see there a clear process provided for by statute in terms of that input and output, in terms of consultation and scrutiny, and I can see why those would be necessary conditions for accountability. The question is are they sufficient? Could I tease out whether there are any teeth in the process if, and I know the Chancellor could instigate a review under the provision of the Act, you were found wanting?
  (Sir Howard Davies) It depends on how we were found wanting. The key thing for us in the legislation which we are not just content with but I think that my general counsel and I are enthusiasts for, insofar as a lawyer can or should be enthusiastic about anything, is that we find the architecture of statutory objectives and principles of regulation to be an extremely useful and practical discipline on the way in which the regulator operates, and even the architects of the legislation might be surprised at the extent to which we have built them into the management of the authority. Every paper that goes to the board has to explain why this is related to the statutory objectives in the legislation, and also any proposal for a regulation or a rule change has to have attached to it a checklist which explains how each of the principles of good regulation have been met in this area, and that includes the impact on competition, on innovation, on proportionality, the effect on the competitiveness of the United Kingdom's markets internationally and the cost benefits, etc. In relation to each of those principles I guess the teeth are slightly different. In relation to the competition principle the teeth are quite sharp because there is a power for the OFT to review our rules for their impact on competition and to refer them to the Competition Commission which can, in fact, overrule us or can strike them down, so in that case we have to be very careful and think very hard about whether any adverse impact on competition is justified, and almost anything you do in regulation has some kind of impact on competition so you always have to think about that. In the others the disciplines are more our board and the panels. The panels, particularly the Practitioner Panel, have been quite sharp where they believe that our cost benefit analysis has not been adequate. Indeed, the Consumer Panel on one or two occasions has said that the Practitioner Panel tends to comment on the "c" and the Consumer Panel tends to comment on the "b" but that is what you expect and that is quite sensible as a process. So the teeth attached to those are, as I say, primarily the board and the two panels with the Chancellor behind.

  858. As you know we have had the panels before us and I think the view they expressed was that the process was working. As I understand it, there has been no use of section 12 or disagreement where you had to provide a written response or anything of that nature, so I discern from what you are saying that the exchanges have worked in the way they were intended to, but just on the point about the output and relationships with ministers obviously there is going to be some dialogue, that is quite natural, but in terms of the extent to which you are constrained or there is a power reserved to ministers, could you explain that?
  (Sir Howard Davies) Well, ministers considered whether they wanted a power to give a direction to the Financial Services Authority and they decided they did not want such a power. What ministers do have is the ability to order a review of the economy, efficiency and effectiveness of our activities, but that is fairly broadly defined so it could cover almost anything plus it could be done by almost anybody. There is also, however, an exchange of letters between me and the Chancellor of the Exchequer which took place right at the moment in which we went live in December which describes the circumstances which the Treasury wants to hear about, cases with which we are dealing, which may have some public interest dimension, may affect our international obligations or a variety of other criteria, so we would regard that as a trigger or reference to Treasury ministers, but it would be fair to say that ministers have not attempted in any way to interfere with the rule-making power within the Act. They have explained the Treasury role for legislation and our role for regulation and practically that has worked quite neatly with the Treasury working the scope of our activities, so if they throw a ball to us then it is for us to determine how we hit it, and that division of responsibilities I think works really quite well.
  (Mr Whittaker) Could I note that there are three very limited powers of direction in the legislation; the first applies where there has been a competition issue, there has been a reference to the Competition Commission and the Commission has made a report; the second one applies where there is an issue about compliance with international obligations and our rules need to be directed in a way to ensure they comply with international obligations; and the third one is that the Treasury can direct us as to what to include in our annual report. They have not yet sought to do so.

  859. Yes. For me where the trail ran cold was that in circumstances where one could say that a review was initiated, what then, because under the Act they can schedule a review, but I could not work out what were the consequences, were a review to be initiated.
  (Mr Whittaker) I guess it would depend on what the conclusions were. If they were that our scope had been improperly defined then the Treasury can adjust that through secondary legislation. If the conclusion was that there was a competition issue then they could refer that to the OFT. If the conclusion was that we had been simply too costly or inefficient, that would have to go back to our board for correction.


 
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