Building a regulatory environment for the future

Speaker: Nikhil Rathi, CEO
Event: City Week 2021
Delivered: 22 June 2021
Note: this is the speech as drafted and may differ from the delivered version

Highlights

• Leaving the EU allows us to tailor our rules to better suit our markets, while ensuring appropriate safeguards and upholding high standards.
• We will rigorously review all firms seeking UK authorisation.
• Our partnerships have never been so important, which is why we are working to deepen existing partnerships and forge new ones.
• We are proposing to extend our climate-related financial disclosure requirements to issuers of standard listed equity shares.
• We want views on selected ESG topics in UK capital markets and, separately, we are proposing new disclosure requirements for asset managers, life insurers and FCA-regulated pension providers.

The last year has been a landmark year for financial markets. 2020 saw inflows of more than £200 billion to European sustainable funds, almost double those seen in 2019. 2.3 million adults now hold cryptoassets in the UK - up from 1.9 million last year. Over half of new self-directed investors in the UK would consider using a new investment platform, and apps advertised online or on TV are becoming more and more popular.

Five years from now, innovation will continue to drive new ways of doing business. Sustainable finance will be mainstream globally. And leaving the EU will have transformed the way we develop regulation in the UK.

While change cannot always be predicted, what is predictable is that change will come. And quickly. There will be inevitable challenges, but also opportunities that we must embrace if we are to protect consumers and support open, competitive markets.

To respond effectively, the FCA is constantly learning and adapting. We have to be agile and confident to build and operate an effective regulatory regime for the firms and consumers of the future. Today I will talk about 3 ways we are doing this: first, meeting the needs of UK markets; second, setting the bar high at the gateway for entry to regulation and intervening assertively to deal with misconduct; and third, playing our part in international regulatory discussions.

All this will support competitive markets and, in turn, attract trailblazing firms that innovate in the interest of consumers. And for those firms listening today – let me be clear – the UK is open for business and we want to welcome firms willing to meet our high standards here. Not only do we want to welcome you, we want you to thrive and be able to compete vigorously, while always providing positive outcomes for consumers and markets.

Meeting the needs of UK markets

Leaving the EU has given us the freedom to tailor our rules to better suit UK markets. We’re making them more efficient and targeted, and removing unnecessary barriers to entry. We are not diverging just for the sake of it, we are ensuring appropriate safeguards and upholding – in fact, building on - high, internationally consistent and outcome-driven standards and this may well involve in some areas standards that are tougher than those in the EU.

In secondary markets regulation, we are consulting on the regime for research and best execution reporting under MiFID. Next, our attention is turning to the broader MiFID regime. We have contributed to a Treasury consultation coming out this summer. The proposals are the product of our experience of the EU regime, listening to the views of market participants, and reflecting the future of UK markets. Areas most in need of reform include market structure; the operation of the transparency regime; the regulation of commodity derivatives markets; and improving access to market data.

Turning now to primary markets. Effective public markets are critical in enabling companies to finance their businesses, which in turn creates growth and jobs. Trusted public markets provide opportunities for investors in a well understood environment with high standards of disclosure and FCA oversight. But according to the UK Listings Review, chaired by Lord Jonathan Hill, the number of listed companies in the UK has fallen by 40% since 2008.

In response to the recommendations of that review, we are in the process of consulting on a set of clear conditions where we will not look to suspend the listing of a Special Purpose Acquisition Company – or SPAC. Retail investors can already buy shares in SPACs. What we’re considering is a framework for issuers willing to provide transparency and strong protections to investors, aligning us more closely with standards in international markets. It’s better for SPACs to operate in an environment where there are high regulatory standards, compared to alternatives such as non-listed markets.

Today I can announce that we will next month be bringing forward a consultation seeking views on removing other barriers to companies listing. This will increase opportunities for investors without compromising on safeguards.

But our ambition is broader than this. We have an opportunity to act assertively to meet the needs of an evolving marketplace. So, our consultation will include a wider discussion, seeking views on the purpose of the listing regime and whether wider-reaching reforms could improve its effectiveness.

As I said earlier, the flexibility we’ve gained since Brexit will allow us to move nimbly and tailor rules to suit our markets, while maintaining high internationally consistent standards at least equivalent to the EU. And although we have advocated for mutual equivalence with the EU, this has not generally been forthcoming given the wider political context. As a result, we have dealt with potential challenges in a pragmatic way, for example using our temporary transitional power to prevent conflicts between the EU’s and UK’s share and derivative trading obligations (DTO).  In most developed markets, cross-border regulatory and supervisory cooperation ensures that these issues can be managed to the benefit of all.

But, some challenges remain. For example, 90% of Sterling assets in Money Market Funds (MMFs) are currently held in European Economic Area (EEA) domiciled funds with a very high portion of institutional UK investors relying on them. In the absence of equivalence under the Capital Requirements Regulation, these funds are oddly prohibited from depositing Sterling with UK banks, notwithstanding the turbulence in MMFs seen at the height of the pandemic. What’s more, additional haircuts apply to repos of those Sterling MMFs when they deal with UK firms. The asymmetry of the system is especially stark in that EEA funds can use the FCA’s Temporary Marketing Permissions Regime (TMPR) to market to UK clients, but the EU has not offered an equivalent regime.

This isn’t the only example where the absence of mutual equivalence creates market inefficiency and reduces choice and competition. To return to an example I have used previously, the lack of equivalence on the DTO means that EU banks are now no longer able to offer to their clients full access to all pools of global liquidity for the trading of interest rate swaps and certain credit derivatives. Our analysis suggests that, depending on the DTO instrument, between 65% and 95% of volumes remain traded outside EU venues. This means higher costs for EU firms, with a direct impact on the prices they can offer to their clients.

I would repeat that mutual equivalence and regulatory and supervisory cooperation can ensure these issues are effectively managed. But the lack of mutual equivalence creates obvious market inefficiencies and results in increased costs for consumers both here and in the EU. We will in time need to consider the extent to which our objectives are at risk, and whether this state of affairs, with oddities such as this, is sustainable.

Nonetheless, as important as it is to highlight ongoing challenges, it’s also important to put this into an appropriate context. Since the end of the transition period, we have enjoyed a close and constructive relationship with our EU counterparts. We have a range of cooperation agreements in place and share many of the same goals and objectives. In other words, cooperation is generally working well.

Setting the bar high at the gateway

Although the UK is open for business, it is not open to firms who do not meet our regulatory expectations. All firms can expect to be held to the same high standards.

There are 1,450 EEA firms currently accessing UK markets via the Temporary Permissions Regime (TPR). As we move to a more permanent arrangement, there will be a rigorous review of all firms seeking to enter the UK authorisation gateway. Our priority is to ensure consumers are not disadvantaged in any way. That’s why firms that have the potential to grow quickly and may pose a greater risk of harm have been told to apply for authorisation sooner. Since the end of the transition period we have taken action against 13 firms, restricting their business, and we’re taking steps to remove a further 120 firms from our regulatory perimeter.

An example of how we are tackling financial crime at the gateway is through our registration of cryptoasset firms. A significant number are not meeting the required standards under money laundering regulations. We have identified 111 firms operating without registration. They are listed on our website and we will take further action where appropriate. We want to support innovation and believe we can do so whilst maintaining rigorous standards on anti-money laundering controls.

Our robust approach continues in our supervision of firms. If, once we do authorise a firm, we see they are not using their authorisation or indeed misusing it, we are not afraid to act quickly to remove their permissions. They will have to ‘use it or lose it’. We also anticipate in more cases, where there are significant risks, that we will need to supervise overseas firms, accessing the UK market more directly to make sure they meet our standards.  

Our approach will mean the firms we want to encourage here are authorised and able to grow and scale successfully. We will support this with our pioneering regulatory sandbox and through the creation of a regulatory nursery in response to the recommendations of the Kalifa Review of UK FinTech. We recognise that fintech firms often need greater regulatory engagement in their early years and the FCA has led regulatory innovations over a number of years and will continue to do so.

Playing our part in international regulatory discussions

The interconnected nature of our markets means that playing our part in international regulatory discussions will be key. The way global regulators aligned our response to market disruption caused by the pandemic helped the financial system to remain resilient. Markets have remained open and we have seen this year very high volumes of equity and debt financing being raised in UK markets to support UK and global companies of all sizes as they recover from the pandemic. For instance, in the first quarter of this year, over £5.5 billion in equity capital was raised on UK markets, more than double the amount raised in the same period last year.

Never have our partnerships with one another been so important. That’s why we are working to deepen existing partnerships and forge new ones. In support of the UK Government’s market access agenda, negotiations are underway on the cross-border financial services agreement with Switzerland. Last year, UK financial exports to Switzerland amounted to £2.2 billion, and imports £474 million. Once finalised, this agreement - the first and most ambitious of its kind – should unlock further trade and investment, showing what can be achieved between 2 jurisdictions, while respecting each other’s autonomy. With Singapore, we are building on past cooperation agreements in relation to innovation and technology, and exploring new areas for regulatory cooperation. We are also supporting the new Comprehensive Strategic Partnership between the UK and India.

Sustainable finance also demands a global response. The Chinese central bank and the US Treasury are leading a G20 Sustainable Finance Working Group, putting sustainable finance back at the heart of the G20 agenda under the Italian presidency. The new United States administration has confirmed that international cooperation in tackling climate change is a high priority. Our work in this area is world-leading and Sacha Sadan will shortly join us as our first Director of ESG to help propel it forward.

We were one of the first countries to introduce climate-related financial disclosure requirements for listed companies, in line with the recommendations of the Taskforce on Climate-related Financial Disclosures (TCFD). Today, we are proposing to extend those requirements to issuers of standard listed equity shares. This covers around 150 more issuers, accounting for almost £1 trillion in market capitalisation. We are also inviting initial views on selected ESG topics in UK capital markets and, separately, proposing new disclosure requirements for asset managers, life insurers and FCA-regulated pension providers.

In parallel, we have been influencing international efforts to promote a consistent approach to corporate disclosures on sustainability. To that end we co-chair a workstream at the Financial Stability Board (FSB), and a workstream under the International Organization of Securities Commissions (IOSCO) Sustainable Finance Taskforce. IOSCO has been showing considerable leadership in this area, including exploring an initiative to create a new International Sustainability Standards Board under the International Financial Reporting Standards (IFRS) Foundation. Under the UK’s presidency, the G7 recently welcomed this initiative, which would set a common global baseline of reporting standards.

LIBOR is another key global systemic risk issue. Andrew Bailey has led for a number of years efforts to find solutions that enhance market integrity. We have been working closely with the Bank of England and other international authorities to ensure an orderly transition away from LIBOR at the end of this year. We have made great strides in Sterling markets, but there is still work to do. With 6 months to go, our message to firms is clear – you should act now and prepare for the end of LIBOR.

Building a regulatory environment for the future

To finish, 5 years is all it takes for the shape of financial services to change. Today I have shared how we are embracing change by building a regulatory environment for the future. We are also transforming the FCA to become a data and technology-led regulator to meet these challenges. While we are taking these steps to deal with the changes we are expecting, I am confident they will stand us in good stead when less predictable changes come our way, which they surely will.