The Edinburgh Reforms – Your guide to the proposals
On 9 December, the Chancellor of the Exchequer, Jeremy Hunt, travelled to Scotland’s capital to announce a package of reforms to UK financial services regulation billed as the “Edinburgh Reforms.” In the words of the Chancellor, these reforms aim to “deliver an agile and home-grown regulatory regime that works in the interest of British people and our businesses”, following the UK’s exit from the EU Single Market.
The decision to announce the reforms in Edinburgh neatly emphasises that the UK financial services sector is spread far more widely than the City of London, and that a number of key banks and asset managers are headquartered north of the Borderlands. The location of the announcement is also, whisper it quietly, a carefully considered piece of politics, with the Supreme Court’s decision that the Scottish Parliament does not have the power to legislate for a referendum on Scottish independence less than a month old, and the UK government keen to generate goodwill in Scotland. Recognising the strength of Scotland’s financial services industry is a sensible move, however one feels about Scottish independence.
Like many recent financial services ‘packages’, some of what is in the reforms might sound familiar, and there are a number of initiatives already in train that have now been bundled under the Edinburgh badge. In particular, the Edinburgh reforms need to be read in conjunction with the Financial Services and Markets Bill 2022-3 (FS&M Bill), which is not expected to receive Royal Assent until some time in the first half of 2023, but which will provide the statutory basis for many of the initiatives announced in Edinburgh.
Use of repeal and replace powers
The Edinburgh Reforms answer one of the key questions posed by the FS&M Bill, namely which pieces of EU onshored legislation might be repealed using the powers in the Bill, which may be amended and which might be replaced. Whilst the Edinburgh Reforms do not provide a comprehensive list of which pieces of legislation may be headed for the bonfire and which may survive in some form, the government did publish an accompanying Policy Statement on its proposed approach to the use of the broad legislative powers pending under the Bill in relation to Retained EU Law (or REUL, to use the government’s acronym). In addition, the Edinburgh reforms confirmed at least some examples of legislation that will be either repealed or amended using the powers, even if they were not necessarily the ones that were expected. In particular:
- in conjunction with the Edinburgh Reforms, HM Treasury have published a consultation recommending the repeal of the UK onshored version of the Packaged Retail and Insurance-based Investment Products (PRIIPs) Regulation in favour of “a new direction for retail disclosure”;
- in an accompanying Call for Evidence on the UK onshored version of the EU Short Selling Regulation, the government is seeking feedback on how to reform the UK short selling regime to ensure that the restrictions are proportionate, looking at (amongst other things) the extent to which short positions need to be publicly disclosed and whether the current exemptions for market-making and trading in overseas shares are working effectively or could be streamlined;
- HM Treasury have published a draft Statutory Instrument intended to reform the UK onshored version of the EU securitisation regulation, as well as a draft SI on Electronic Money and Payment Services, each of which accompanies the policy statement on the government’s approach to REUL;
- HM Treasury have published a consultation on streamlining the fee and other information requirements in the Payment Account Regulations, which were originally implemented in order to transpose the EU Payment Accounts Directive;
- the government has confirmed its intention to repeal the UK onshored version of The European Long-Term Investment Fund (LTIF) Regulation, with reference to the fact that the UK now has its own Long-Term Asset Fund (LTAF) regime designed for the specificities of the UK market; and
- the government has now laid a Statutory Instrument before Parliament with a view to modernising information reporting requirements to clients under MiFID, including switching to electronic rather than paper-based reporting by default, absent a specific client request to receive reporting on paper.
This is an interesting selection of first wave topics for the long-promised ‘bonfire’ of EU regulations. For example, whilst the PRIIPs Regulation was never universally popular across the structured products industry, Key Investor Information Documents (KIIDs) were seen by at least some product manufacturers as a neat and compact way to set out their stall, and dropping PRIIPs in favour of a new direction for retail disclosure was perhaps not at the top of most people’s Christmas list. Any change in disclosure standards inevitably involves a degree of repapering and involves an up-front cost to implement. Coming hot off the heels of the recent FCA Consultation on the Sustainability Disclosure Requirements (SDRs), we are starting to see the UK approach to investor disclosures not so much diverge from the legacy European model, but veer off in a different direction. Bifurcation of investor disclosure requirements for the EU and UK markets is swiftly becoming a given.
In relation to the proposed changes to the UK securitisation regulation, no one expected the government to drop “skin-in-the-game” rules in their entirety, not least because memories of the credit crisis are still too recent, but trying to remove some of the direct conflicts that exist with the EU Securitisation Regulation as well as the broad application of the regime would help remove some of the inefficiencies that come with arrangers and originators having to structure around them. Clarifications on the territorial application of the regime and simplification of the disclosure requirements would be welcomed by market participants, particularly in relation to private securitisation transactions; there will no doubt be more industry debate on whether the proposed changes go far enough.
In conjunction with the Edinburgh reforms, the government has published its response to the independent review on ring-fencing and proprietary trading chaired by Standard Life Aberdeen’s Chief Executive Keith Skeoch. In its response, the government confirmed its intention to amend the ring-fencing regime to, amongst other things:
- take banking groups without major investment banking operations out of the regime, supporting domestic competition by removing requirements from retail-focused banks where ring-fencing does not provide financial stability benefits, thereby removing a barrier to growth for smaller, growing banks;
- update the definition of “Relevant Financial Institution”, thereby removing a barrier preventing some small businesses such as high street financial advisers from accessing financial services and removing a disproportionate compliance burden on banks;
- remove blanket geographical restrictions on ring-fenced banks operating subsidiaries or servicing clients outside the European Economic Area (EEA), helping UK banks to compete internationally and supporting UK businesses operating abroad while leaving space for regulators to manage any associated risks to their objectives;
- in terms of the scope of the ring-fence, review and update the list of activities which ring-fenced banks are restricted from carrying out; and
- the government intends to consult in mid-2023 on plans to increase the threshold for coming into scope of the ring-fencing regime from GBP25 billion to GBP35 billion of retail deposits.
These proposed reforms will no doubt be welcomed by UK headquartered banks who are subject to the regime. Ring-fencing is not a one-time cost and running a ring-fence creates an ongoing governance and operational cost that is, by design, restrictive on the movement of capital within banking groups due to rules on the ‘height’ of the ring-fence. It is sometimes forgotten now, but the EU shelved its own ring-fencing proposals towards the end of Michel Barnier’s tenure as EU Commissioner for Internal markets and Services, on the basis that BRRD sufficiently managed risk of failure without a formal, EU-mandated ring-fence. Whilst no-one wants to re-live the credit crisis, regulators had to navigate the credit crisis without the broad resolution powers that now exist in the regulatory tool-kit thanks to the Banking Act. Rigorous bank stress-testing and effective resolution powers create an environment where the benefits of loosening ring-fencing rules can now be considered. The EU ultimately took the view that separating banks’ operations into separate subsidiaries could negatively impact the financial services sector’s ability to drive growth; it is interesting that, in a set of reforms in which the UK is keen to emphasised its newfound independence from the EU, it is now coming around to similar thinking.
New objectives for the regulators
The FS&M Bill already contains proposals to give the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) statutory objectives to promote the international competitiveness and growth of the UK economy; this proposal is now part of the Edinburgh package, with the Chancellor using new remit letters making recommendations to the Prudential Regulation Committee and the Financial Conduct Authority on how they should pursue their statutory objectives in a way that “unlock[s] the full potential of the UK financial services sector.”
Whilst there is almost certainly a degree of political rhetoric in this change to regulators’ objectives, it will be interesting to see how the new objectives and recommendations impact on the policymaking approach of the regulators and their dynamic with the government of the day, particularly with reference to the introduction of new rules. When read together with the proposed obligations under the Financial Services and Markets Bill for both regulators to keep their rulebook under rolling review, as well as the powers for HM Treasury to appoint an independent third party to review regulators’ rules for them, there is almost certainly going to be a subtle but important change in the rulemaking dynamic between the government and the regulators, who will continue to prize their independence.
Elsewhere in Edinburgh
Other various new and in-train initiatives which have now been packaged within the Edinburgh proposals include the following:
- the government is consulting on long-awaited and wide-ranging reforms to the Consumer Credit Act (CCA), including importing those aspects of the regime that remain in the CCA directly into the FCA Handbook, and reviewing how the CCA, particularly heavily mandated content and process rules, operates in conjunction with the FCA Consumer Duty, which is due to come into effect for new and open products on 31 July 2023;
- the government has published a response to its December 2021 Call for Evidence on Amendments to the Building Societies Act 1986;
- the government will review the UK Senior Managers and Certification Regime (SMCR), looking widely at the effectiveness of the regime, its scope and its proportionality;
- the government has published terms of reference for a new Accelerated Settlement Taskforce, with a view to following the US and Canada in their move towards at least T+1 settlement, and exploring the potential to moving towards T+0 with the support of settlement through distributed ledger technology and other forms of digital settlement;
- a consultation on reform to the VAT treatment of fund management services;
- a response to the government’s May 2022 consultation on expanding the investment management exemption under the fund tax regime to include cryptoassets; and
- the government has confirmed its intention to publish an updated Green Finance Strategy in early 2023 and (amongst other things) to consult on bringing ESG ratings providers into the perimeter of regulation;
- the government intends shortly to consult in the next few weeks on the introduction of a central bank digital currency (CBDC), in collaboration with the Bank of England;
- the government will consult in early 2023 on new guidance to the Local Government Pension Scheme (LGPS) in England and Wales on asset pooling; in tandem with this, the government will also consult on requiring LGPS funds to ensure they are considering investment opportunities in illiquid assets such as venture and growth capital, as part of a diversified investment strategy;
- in the new year, the Department for Work and Pensions (DWP) will consult on a new Value for Money framework for pension savers alongside the FCA and the Pensions Regulator, which will set required metrics and standards in key areas such as investment performance, cost and charges and quality of service that all schemes must meet;
- the government will amend the tax rules for Real Estate Investment Trusts (REITs) by (amongst other things) removing the requirement for a REIT to own at least three properties where they hold a single commercial property worth at least GBP20 million and amending the rule that applies to properties disposed of within three years of significant development activity;
- on the markets side, the government confirmed that it is working with regulators and market participants to bring forward a new class of wholesale market venue, which would operate on an “intermittent trading basis” – a move the government describes as “highly innovative” and a “global first” that would act as a bridge between public and private markets, boosting the UK as a destination for all companies to seek investment; and
- the various provisions in the Financial Services and Markets Bill on Financial Market Infrastructure (FMI) Sandboxes and the regulation of certain cryptoassets including stablecoins are now a formal part of the “Edinburgh” package.
The Chancellor announced in the reforms that “in tandem with the work taken forward through the FSM Bill, will deliver for this key growth sector, and the people and businesses that rely upon it.” Whatever your view of the various proposals, the package of announcements in Edinburgh will give those in the regulated sector and stakeholders a number of key developments to follow over the coming months and years.