Friday, 12 October 2018

Post-Brexit Credit Rating Agency Regulation Decided: The Correct Call?

In 2017, this author produced an article that examined the potential regulatory framework that exists in the UK where Credit Rating Agencies are concerned (later published in 2018). We spoke about this issue here in Financial Regulation Matters, where we discussed how there may be a need to incorporate sole regulatory responsibility within one of the regulatory bodies should the UK be unable to come to a ‘deal’ with their EU partners. As part of the EU (Withdrawal) Act, the Government has recently come to a decision regarding which body would be responsible for regulating the CRAs in the wake of a no-deal Brexit, and it confirms the findings of the article. However, it is worth revisiting this developing story to examine what the consequences of such a decision may be.

It has been decided, as the original article produced by this author predicted, that the Financial Conduct Authority would be the regulatory body charged with supervising the credit rating industry, should the UK be unable to negotiate a post-Brexit deal with the EU. In a very short document, the FCA state that a draft Statutory Instrument will transfer the regulatory responsibility to the FCA from the ESMA, and change the FCA’s role from ‘competent authority’ to that of principal regulator. Also, there is no details made available regarding the fees the CRAs would be charged, and the proposed timeline advanced by the FCA describes how a consultation of applicable technical standards for CRAs will be made available from the 9th of October , and that the application window for CRAs wishing to transfer their registration status to the FCA will open from ‘early 2019’. In the FCA’s ‘Business Plan’, they do discuss how the resources required for ‘onshoring’ the CRAs will be derived from the CRAs themselves via levies and fees, with the suggestion being that the required level of resources may be around £6m.

As we discussed in the associated post from 2017, the FCA was always going to be the likely regulator selected for this task. The fear from the business media was that there would be the need for a ‘cobbled-together’ regulatory framework to govern the rating agencies, but in reality the CRAs are accommodated much easier within the FCA than any other regulator, and offer a much cheaper alternative than creating a new regulator. The FCA was the regulator of choice for the CRAs themselves, who were rightly worried that to go unregulated would cause massive problems for their business, and their users. The FT also suggested that there may be an issue of regulatory imbalance between the FCA and the ESMA from the perspective of the EU, but with the FCA acting as a competent authority since its inception in this realm, this is unlikely to be the case in reality. However, the real issue is not whether the process is smooth or not, but whether the FCA is the right regulator for the job.

In truth, the FCA is the best placed regulator amongst the British regulatory framework for the job. Yet, this does not mean that it will be successful in doing so. Rather, it is feared that the FCA will struggle with what is a massive task in regulating such an industry. We have covered the FCA so many times here in Financial Regulation Matters it is difficult to select an appropriate link to a post, but this post that examines whether the FCA is ‘soft’, or has its hands tied, is a snapshot of the problems surrounding the FCA. Its performance this year has not been good at all, and its performance regarding RBS and the GRG Unit specifically leaves a particularly sour taste in the mouth. In terms of Gatekeepers, the FRC is tasked with regulating the audit industry (and is not doing a great job, as evidenced by persistent transgressions by those firms), and now the FCA may have to regulate another Gatekeeper. The fear is that a lax regulatory approach is the last thing required when regulating the credit rating agencies, because they have the capacity to transgress and cause serious damage, as evidenced by the Big Two’s recent and record fines. Does the FCA have the authority to properly regulate an oligopolistic powerhouse like the credit rating industry? It seemingly does not have the authority to properly regulate the banking industry, so by deduction it is difficult to see how it may properly regulate the Credit Rating industry. One aspect that does not aid in this vision of the FCA having regulatory authority is its extraordinarily limited range of penalising options, which would need to be addressed if it were tasked with regulating the rating industry – fines of a few hundred thousand pounds will not suffice with this industry.

Yet, there is scope for development. The FCA could learn from the experiences within the US, where the SEC were tasked with developing an ‘Office for Credit Ratings’ but performed woefully in doing so (it was not even staffed for 12 months). In attempting to learn such lessons, the development of a dedicated office, or ‘spearhead’ for the FCA would be positive, and allow the FCA to accelerate its understanding of this tremendously complex relationship that exists elsewhere between CRAs and regulators – the FCA have no experience in this regard. Whilst the risk of ‘capture’ is increased with the creation of a dedicated ‘office’, in reality that risk is probably no greater than the general risk of ‘capture’ between a highly specialised and oligopolistic sector and its regulator.

Ultimately, the FCA is the right regulator to be selected from the framework, but this does not mean that it is the right regulator. In the event of a no-deal Brexit, there would need to be organisational changes within the FCA to cope with this new burden. Any political or regulatory belief that one can simply just transfer the registration from the EU and continue to regulate effectively is massively misplaced, and will be taken advantage of – such oligopolistic sectors thrive on such regulatory arbitrage, and the post-Brexit environment is both primed for such arbitrage, but also incredibly vulnerable to the effects of regulatory arbitrage. British society has been consistently placed under severe pressure since the Crisis, and a period of upheaval borne from financial actors taking advantage of gaps in the marketplace could be massively detrimental.


Keywords – FCA, Credit Rating Agencies, Business, Politics, UK, EU, Brexit, @finregmatters

Sunday, 7 October 2018

The FCA Attempt to correct the post-Brexit Narrative

We have spoken here in Financial Regulation Matters of the potential for a regulatory race-to-the-bottom in the post-Brexit era. With the U.K. choosing to go out into the economic landscape on its own, the potential for a weakening of regulatory protection to encourage foreign trade and investment is tremendous, and hardly a surprise. Yet, the FCA, as one of the fundamental elements in the regulatory framework that governs the U.K., has no option but to refute any suggestion that the framework will be weakened as a result of Brexit. In this post, we shall examine their latest insistence on the back of what were very telling declarations by leading British politicians.

Speaking on a recent visit to Tokyo, the Economic Secretary John Glen told his audience that ‘we will do whatever it takes to keep the UK as a global hub for financial services and to maintain the City of London as an asset for Europe’. This follows on from Theresa May telling the UN Summit in New York recently that the post-Brexit Britain would be ‘low tax’ and ‘unequivocally pro-business’. Glen continued this pro-business narrative by stating that the British Government is determined to provide ‘one of the lowest, if not the lowest corporation tax environment’. There is a clear narrative being advanced by the Government, and of course it is no surprise – it is clear that the Conservative-led government will take this approach as we had towards the uncertain time of the post-Brexit era.

This official rejection of a move towards a race-to-the-bottom scenario has been prevalent since the decision of the British electorate. However, with a arguable change in approach as we near the projected date of withdrawal, the Chairman of the FCA has this week made the point that ‘the FCA does not see the UK’s withdrawal from the European Union as an opportunity to join a race to the bottom in regulatory standards’. Charles Randall continued by stating that ‘strong global standards also reinforce the competitiveness of the UK financial services sector’. This sentiment has been repeated in the business media, with one author going as far to say that Brexit brings with it the potential to actually outdo the EU in terms of financial regulation, and that ‘the UK should compete post-Brexit… with tough, fair and proportionate rules based on evidence’. Interestingly, this week’s statements from Randall are not his first on the matter, and the fact that there is a fear that, globally, a race to the bottom is very much underway (think of the Trump Administration’s protectionist approach) is potentially underpinning Randall’s need to show a progressive aim for the regulator.

However, there is one massive piece of evidence that suggests the FCA will take another route, and that is its dealings with Saudi Aramco. The FCA’s changing of listing rules, designed to enhance the UK’s chances of hosting the Saudi Arabian colossus’ stock market floatation, is clear evidence of assisting with the push envisioned by the government – ‘unequivocally pro-business’. Despite concerted opposition to the FCA’s actions, the regulator admitting meeting Saudi Aramco months before the rule change, and now a reported crackdown on any domestic opposition to the plans to float the company, the FCA is maintaining its course to fulfil the Government’s agenda, and not the one it portrays for itself. Is this acceptable, that one of the most important financial regulators essentially does the Government’s bidding? Perhaps, but really if this the case, then surely advancing the same message is the correct course of action.

Regulators in this current climate has a difficult job in maintaining any sense of authority. With the post-Crisis era, in terms of financial penalties at least, coming to a close, financial regulators are entering a phase where, essentially, they cannot be seen to be ‘getting in the way’. Amnesia is alive and well in the current climate (one thinks of the dancing Theresa May declaring that ‘austerity is over’), and as such there will be many calls to allow business to flourish. The problem with that, and this is something we have discussed many times, is that we have not had the chance to have our version of the ‘quiet period’. The post-Depression era was followed by WWII, and whilst it is obvious that nobody would want a repeat of those horrors, it did essentially force the ‘quiet period’ upon the world; in this generation, there is an attempt to move straight past this necessary post-shock period and straight into the next Bull era. Regrettably, the actions of financial regulators inform us that they see the responsibility to consider future systemic movements as the responsibility of politicians. Perhaps many would argue that this is democracy at work (as the regulators are not elected), but the real question is should a financial regulator be merely an extension of the sitting government?


Keywords – Brexit, Financial Regulation, Business, FCA, race to the bottom, @finregmatters

Monday, 24 September 2018

The Dynamics of Financial Penalties

In response to the news that KPMG has ‘rejected’ the size of the fine given to it by the Financial Reporting Council (FRC), today’s post will discuss some of the dynamics of financial penalties. We have analysed the FRC a number of times in Financial Regulation Matters, and it will be important to assess whether the recent pressure being heaped upon the regulator has had the effect of changing the dynamic within that particular regulatory sector. However, it will be worth looking into the issue of financial penalties moreover, to ascertain whether they are considered effective enough, and if so then why that may be.

The news story that initiated today’s post can be found in The Times, and runs under the headline ‘KPMG rejects size of misconduct fine’. The fine is based upon the auditor’s performance when auditing BNY Mellon, and specifically in relation to its recent £126 million fine from the FCA regarding the mixing of institutional and client assets. KPMG has admitted that it had fallen short of ‘the standards set for auditors’, but that it was rejecting the fine because it felt the fine was too high. At first glance, and especially when one views the headline, it seems to be remarkable that the auditor would have the gall to ‘reject’ the fine, and further still even be in the position to do so. After the performance of auditors in other high-profile cases like the collapse of Carillion, it is easy to see why such a headline would cause widespread consternation and further distrust in the capacity of auditors to perform at an adequate level. However, there may be other issues at play rather than the obvious one.

The reality of the situation is that KPMG has the right to reject the fine within the current regulatory framework, and has plenty of reasons for doing so. The first is that the issue will be now be escalated to an independent tribunal, and other auditors have seen their fines reduced by similar tribunals only very recently. The second issue is that, relatively speaking, the fine really may have been ‘too high’. The word relative is important here, however. Regular readers of Financial Regulation Matters will know that very rarely, if ever, will a fine be considered ‘too high’ by this blog, but for the auditors and their relationship to the FRC, this may very well be the case. Very rarely will the FRC’s fines exceed £10 million, and whilst we do not know the size of the fine in this instance with KPMG, it is likely that it is near that £10 million figure. That is, of course, speculation, but there is a reason for that speculation, and it is likely the reason that KPMG would have decided to challenge this fine and, in all likelihood, win a reduction via the tribunal. The FRC has come under increasing pressure from MPs to toughen up, which has been received by the FRC as an indicator that its fines need to be increased (rather than look at alternative forms of punishment, for example). As a result, there is a potential that the FRC is exceeding the limits of its regulatory dynamic with the firms that it is exceptionally close with, although this is all relative still. If that is the case, and more auditors reject the fines given to them by the FRC, then there is a real potential for the FRC to be facing a critical juncture in its future. In reality, can the regulator maintain any sense of authority, authority which it struggles to maintain anyway, if the regulated entities, en masse, reject its decisions? If the tribunals put forward lesser fines, then that may essentially destroy any credibility the regulator has with its regulated entities, as it has very little outside of that sector. Yet, should the regulated entities even be allowed to accept or reject a punishment given to it?

Professor Cartwright discusses this very issue of ‘credible deterrence’, in relation to financial penalties in particular, and put forwards some very thought-provoking points. Within Cartwright’s chapter he discusses how traditional corporate crime theories focus on the usage of financial sanction to deter negative behaviour and encourage positive behaviour, but the question for us is the effect of financial sanctioning on the regulator themselves. Whenever a regulator imposes a fine upon one of its regulatory subjects, it is essentially extending its authority to impose such fines. For some regulators this action is enshrined, and can rarely be questioned, but for others it is part of a process, or a ‘game’ within which both sides battle for what, for them, constitutes a victory. For the regulated it may involve ‘settling’ or negotiating down a fine so that the fine is palatable for it and its members (RBS and its recent fine from the U.S. DoJ comes to mind), or for the regulator it may be that it needs to signal to stakeholders, which may constitute politicians and/or the public, that it is taking the appropriate action against a wrongdoer. All of this is fairly well understood and is admittedly basic, but what happens when that regulator does not have the authority? It is likely that we are seeing the answer to that question play out in front of us with the FRC and its current politics-inspired approach to regulating. Perhaps the major issue with the FRC is that it is becoming a very reactionary body, which is a result of its incredibly lax approach in the past. Perhaps it is simply too late for the regulator to ‘toughen up’ on the orders of politicians, as it either has no authority to do so, or the dynamics of the regulatory arenas within which it operates simply do not allow for such heavy-handed tactics to be employed.


Yet, there are a number of issues with those last few statements. The ‘toughening up’ that has been called for, and the ‘toughening up’ that has seen KPMG reject the recent fine, is only a very slight increase on the levels of fines in the past – the difference between £1 or £2 million and £10 million, to a firm with revenues of £2 billion, is negligible. It is arguable that KPMG and their oligopolistic are themselves disciplining the regulator, but that is a very dangerous approach. It is dangerous because whilst it is very difficult to make a case for the FRC continuing, its demise would bring about uncertainty within the regulatory framework – what happens if a new, fundamentally tougher and more removed regulator is put in its place? The effect of this would indeed be felt by the auditors, particularly as in the UK the opposition parties are calling for the break-up of their industry – the development of a tougher regulator could move the needle fundamentally in that direction. Nevertheless, for the FRC, KPMG’s rejection of its fine may well prove to be a turning point for its ultimate future, and if another oligopolistic members rejects a future fine then it is not outside of the realms of possibility that the FRC as we know it will not be able to survive such insolence.

Monday, 3 September 2018

Wonga’s Collapse: The ‘Platform for the Future of Financial Services’ Ceases to Exist

The issue of short-term lending and its connection to the post-Crisis era has been discussed on a number of occasions here in Financial Regulation Matters, most notably here and here. We discussed how the growth in this particular market was borne out of a desperation experienced by citizens who were, for the most part, struggling to make ends meet. One of the largest players in that field was Wonga, set up in 2006 just before the Crisis hit the Western world. In this post, we will look at Wonga’s recent collapse and discuss what its collapse may mean, both for consumers and the marketplace moreover.

In a previous post we discussed how, in June 2017 the Financial Ombudsman revealed that consumer complaints against Wonga and other similar lenders had exploded by 227%. That increased rate of complaints has subsequently been cited as being one of the core reasons behind Wonga’s recent collapse. The Guardian notes how the company ‘collapsed into administration after it was brought down by a welter of compensation claims’, with the newspaper also reporting that, as we stand after the company failed to save itself, there are still an estimated 200,000 customers who still owe upwards of £400 million in short-term loans. A worrying development is that as Wonga became renowned for targeting vulnerable people with their lending practices, those still in debt with Wonga have been instructed to continue making their payments whilst a buyer if found for Wonga’s loan book. One wonders whether the news of Wonga’s collapse will lead to an increased rate of delinquencies and/or non-payments, which will simply further place these already vulnerable borrowers into financially unhealthy predicaments.

Nevertheless, Wonga’s collapse is significant for a number of reasons. The company had survived a stinging PR campaign against it, from the Church of England amongst many others, but what is perhaps at the heart of its collapse is the positive potential of financial regulation. Between 2014 and 2015, the Financial Conduct Authority (FCA) had flexed its regulatory muscles and had enforced new rules that mandated that payday lenders needed to increase their checks on the affordability of its products (and also whether borrowers could afford repayments). Most tellingly, the FCA brought in new rules in 2015 that capped the rate of interest that payday lenders could charge, and this cap was a significant reduction in comparison to the rates that they were charging borrowers before the new rules were established. The article in The Guardian cited earlier states that ‘once lined up for a stock market floatation with a price tag approaching £1bn, Wonga was laid low by a cap on interest rates that ruined its business model’. It is worth pausing here to deconstruct that sentiment, as in the news media it is often passed over. Consumers were subjected to extraordinarily high interest rates before the cap was imposed, with rates as high as 5,833% being cited in some sources. Though the cap has been installed at 0.8% of the amount borrowed per day, the fact that charging incredibly high rates of interest and targeting vulnerable people who the company knew were unable to repay is nothing short of despicable. One would possibly imagine that people who had devised such a business strategy would be facing criminal charges, not administration and insolvency, but in reality what they were doing was not, in effect, illegal. Of course targeting vulnerable people with high-interest loans can and should result in sanctions, but criminal prosecution is, regrettably, not even a consideration in the world we inhabit. What is does do, however, is allow us to single out the people who were responsible.

In 2012, the company’s founder Errol Damelin stated that (in relation to the company’s creation) ‘we have dared to ask some hard questions, like how can we make loans instant, how can we get money to people 24 hours a day, seven days a week, how can we be totally transparent?’. It has been discussed in the media recently that Demalin’s proposed foundation for the future of financial services was to create an almost fully automated process that removed the stigma from borrowing and appealed to a number of different demographics. However, as discussed in econsultancy, the altering of lending variables from traditional indicators of creditworthiness to more fluid variables has not, and will not change fundamental components of the lending/borrowing cycle – the money given by the lender must be repaid. This was, in essence, Wonga’s business model: charge extortionately high rates of interest to ensure that the initial payment if repaid, whilst leaving anything else paid as pure profit. Their argument would be that such high rates of interest are required in order to lend to people who did not meet traditional standards of creditworthiness, but this is a poor argument. Whilst there are isolated cases of people benefitting from using companies like Wonga, the reality is that Wonga were exceptionally vicious in its marketing to vulnerable consumers and hiked their interest rates up to reflect the fact that they were lending to people that they should not have been lending to; this is further demonstrated by fines of £2.6 million (to be paid in compensation) and a write-off of £220 million’s worth of debt after admitting that the company had targeted people who it knew could not afford to repay.

Ultimately, Wonga should not be missed. Whilst one author presenting an opinion in The Guardian paints a picture of Wonga providing a useful service to society, this to miss the point entirely. The author describes how he would utilise Wonga to supplement his £20,000 annual salary, but the reality is that the majority of those affected by Wonga had no such foundation upon which to fall back on. Furthermore, the company actively targeted those in much lower brackets in the knowledge that the economic cycle in the post-Crisis era was ripe for exploitation. Such companies cannot prosper in boom periods, so it is not a stretch to label Wonga, and the many companies like it, as parasitic. There is a lot that can be said of Wonga, with the vast majority of it negative, but its existence is a direct indicator of a much broader and deep-rooted problem. That so many consumers required the services of Wonga is a testament to the financial quagmire that the Crisis plunged the West into. What is also telling is that it took regulators 4, 5, or even 6 years to even begin to consider putting a stop to such clearly exploitative practices. The sentiment that presents is that this exploitative post-Crisis process is almost expected, and potentially worse is fundamental to the development of economic cycles in the modern era of capitalism. It would be satisfying to see the executives of Wonga publically castigated and held accountable, but that will not happen. The reality of the situation is that many were happy to look the other way, as at the same time Wonga were raising its interest rates and targeting the vulnerable, the Government was pumping money into financial institutions at an unprecedented rate, whilst also slashing public budgets and obliterating the welfare system that defines the U.K. and acts as the ultimate safeguard against citizens being pushed into the waiting arms of the venal. With that in mind, perhaps Wonga was a necessary evil, but the truth is that we really should never have need for such a company to exist.


Keywords – Wonga, payday lenders, loans, administration, politics, capitalism, @finregmatters

Friday, 17 August 2018

Guest Post - Back on Track or Heading for a Derailment: The British Railway System

In today’s guest post, Jake Richardson discusses the potential future of the British rail network, both in advance of the changes that Brexit may bring, and also based upon the historical trends within the industry.

The British railway system has indeed been through some massive restructuring exercises throughout its history. Post-World War One and the Victorian era of Britain’s steam railway revolution, all private companies were rationalised into the ‘Big Four’ predominant companies under The Railways Act 1921, which included Great Western Railway (GWR), London, Midland and Scottish Railways (LMS), London and North Eastern Railway (LNER) and Southern Railway (SR). However, post-World War Two, the railways were once again run into the ground, meaning post-war nationalisation was inevitable and the British Railways, latterly known as British Rail, came into action through the enactment of The Transport Act 1947. For nearly fifty years the nationalised railway system, which was often associated with inefficiency, industrial strike activities and poor customer service – as embodied through the infamous British Railway sandwich - survived the ever-growing case of privatisation under the Thatcher-led Government during the 1980s. However, privatisation was eventually achieved during the late 1990s through the enactment of The Railways Act 1993. The question to be solved here is how should our railways be run? This, as many would agree, is not as clear cut as one would expect, since many economic, political, and some legal points need to be discussed. Therefore, this post will evaluate whether Britain’s railways should return to the era of the 1920s, if re-nationalisation is the preferred route, considering Labour’s manifesto under Corbyn supports this model, or whether the current system needs to be developed further.

Perhaps a return to the days of the ‘Big Four’ railway companies could be an option available. However, while John Major believed this to be a valuable option, he was nevertheless talked out of it because that model was deemed impractical to recreate; in the sense that each one of the four companies would have to own the rolling stock and infrastructure. We will use Great Western Railway as an example of the reasons why such a system could or could not operate. The profits that Great Western Railway enjoyed were obtained through the creation of a monopoly on certain routes, particularly the Bristol Mainline section. At the time, there were no other railway companies that could compete with GWR, which is still the case today. The only competition GWR faced was that from the Kennet and Avon canal which, most of the time, had water shortages and the slow alternative stage-coach services. Profitability was also enjoyed by GWR because of the lack of health and safety regulation. It was down to GWR to keep their own staff and infrastructure safe but, of course, profits took precedent back then and the infrastructure was not up to scratch, as demonstrated by the bridge collapse over the River Dee in 1847.  However, even in the midst of such issues facing GWR in its early days, it was the only one of the ‘Big Four’ to make a profit between amalgamation and nationalisation period. Yet, these were the days when the motor car and heavy goods vehicle began to take place and offer an alternative means of transportation of goods and people. Therefore, it is difficult to determine whether the 1920s railway system would work. Perhaps, with the increase in passengers and less people commuting to work by car in today’s society meaning that if there were to be a return to the ‘Big Four’ companies, then they would be faced with less competition. Throw in the issue of an ever-growing population, perhaps a return to just four large companies would mean that the issue of profitability would be of less concern and investment would be placed back in the privately owned assets.
Could a return to a nationalised railway, under the banner of British Rail, work? When the railway system was first nationalised, it went through a modernisation plan of around £30 billion in today’s terms. However, this was a missed opportunity because the investment work only sought to replace what already existed, instead of looking ahead and future-proofing the system. By the 1950s, the nationalised system was in decline, partly due to the increase in car usage and the Beeching cuts of the 1960s, which witnessed the cutting of about a third of the railway network. Recently, there has been a drive to have the railway system re-nationalised, with some viewing the current franchise system as being broken. Upon a closer and careful inspection of the franchise system you will notice that many of the train operating companies are foreign state operators, with some including Ariva, Keolis, Govia, and Go Ahead Group. Almost 90 per cent of the 1.73 billion railway journeys taken in the U.K during 2016-2017 were controlled and run by foreign-backed rail operators across Europe, with RMT suggesting that 70% of UK rail operators are now owned by foreign entities.  It seems ironic then that the British government allows for a state run railway so long as it is not British. Yet, the result of this causes fragmentation, with issues over ticketing, coordination, and waste; something which was foretold in 1993. To add insult to injury, the presence of foreign-backed operators running the railway system in the U.K means that the British population are the ones subsidising the state-run railway systems across the continent. Perhaps Britain’s departure from the European Union could ignite reform, meaning that the UK could be released from certain EU rail directives. The bigger question is how much does the railway system make? According to the Office of Rail and Road, the total income was £12.4 billion, which included fares and government subsidisation. As one can see, that is a lot of money. However, closer attention must be given to the government subsidies. In 2013, the University of Manchester published a report that found Welsh and Northern railway operators paid out dividends of £176 million between 2007 and 2011, but such profits would not have existed if it were not for the £2.5 billion in government subsidies. Thus, if the railway system was nationalised once again, government subsidies would not line the pockets of private shareholders. Instead, it would be invested into the publicly-owned railway system to reduce fares and maintain current or future infrastructure projects. In the midst of all this, there is still support for the current system to remain and continue. Railway operators like Chiltern or C2C are seen to have transformed rail services, with Chiltern Railways having invested £130 million of the £320 million cost of the new Oxford to London Marylebone line. Therefore, perhaps the franchise system can be further developed if rail operators have an incentive to invest, which can be achieved through longer periods of franchise agreements so that rail operators have a chance to recover money from such projects. Developing this line of thought could mean that if the rail operators oversaw the infrastructure as well as the rolling stock, with the government creating legislation that operators must abide to, then rail operators would recognise the need to modernise the infrastructure to increase train services and profitability.
What this post has aimed to do is demonstrate the need for the railway system to be reformed. As to how this should be done is different matter altogether, with points raised here open to scrutiny whilst others have not been discussed.  Indeed, there are major problems with the current model, as seen with the InterCity East Coast franchise having been taken into public ownership twice. Through taking back control of the East Coast mainline, the government is demonstrating that public services must be run for the people and not for profit; especially since a nationalised East Coast returned a healthy £209 million profit to the taxpayer. All too often, the British population look towards how other states run their rail services. Looking at how our European neighbours operate their services, one can see that rail travel is cheaper due to the higher rates of public subsidies which, again, raises the case for a publicly-owned system. Those in favour of the privatised rail system often look towards the Japanese model as being the epitome of transport success, because it is entirely privately controlled. Whereas, the British model is a collection of temporary and varying franchises tightly controlled by the government. However, something which is often overlooked is the current state of the British railway infrastructure. While attempts have been made to overhaul and modernise the Victorian model, such as modernisation projects like the Electrification of the Great Western Mainline, many have been hit with catastrophic delays to both the punctuality of train services and the completion of projects. If reform is on the table, then the Government need to decide how it is going to strike a balance between the need to continuously modernise the British railway system, whilst providing a service for its people. So far, this country has been through three models, each with their own strengths and issues. Times do change and perhaps the old saying of ‘what goes around comes back around’ may apply here.

Keywords – Railways, UK, Nationalisation, Trains, Business, @finregmatters


Mr Jake Richardson is an LL.B. student in Aston University. Jake can be contacted via LinkedIn here.

Whistleblowing on the FCA’s Agenda… Again

Previously in Financial Regulation Matters we have discussed the issue of whistleblowing, mostly in relation to the case of Barclay’s CEO Jes Staley (here and here). We know that the FCA faced criticism for not suspending Staley in that case, so today’s news that the regulator are looking into the conduct of Royal Bank of Canada (RBC) has brought the issue to the forefront once more. In today’s post we will review this news and look at what whistleblowing actually means, and its ‘function’ in a much broader sense.

The case with RBC has accelerated after a former trader recently won his case against the bank for unfair dismissal. The claim, relating to the trader’s revelations regarding the ‘box-ticking’ culture that was/is prevalent within the firm, concluded with the judge describing the bank’s conduct as ‘egregious’ and that, ultimately, ‘employers should take better care of whistleblowers even if they find them somewhat enervating’. Whilst the FCA has not confirmed the nature of its enquiries with the firm, it is widely believed that they in relation to claims from whistleblowers that legal and compliance problems have not been dealt with adequately for a number of years. For the FCA, it is clear that the issue of whistleblowing is currently high on its agenda (particularly after the response to its performance with Staley), as its head – Andrew Bailey – recently met with the head of Whistleblowers UK to discuss ‘potentially suspect patters of departures of individuals who have raised compliance issues at a number of banks’. In Wednesday’s post we discussed the concept of a regulator’s ‘role’, and presented the concept that regulators have the role of maintaining the ‘system’, rather than protecting the public. On that basis we shall not discuss the FCA in too much detail in this post, but what is of interest is the relationship between the concept of ‘whistleblowing’ and its importance to the ‘system’.

Within the whistleblowing literature, it is often advanced that ‘whistleblowing can and should be understood as a “pro-social” process’. However, there is a competing dynamic at play that revolves around the concept of ‘loyalty’. Older views on the subject have labelled whistleblowing as being ‘disloyal’ against the firm, although more developed views now consider whistleblowing to be ‘loyal’ to the firm, particularly if the firm has advanced the notion of reporting malpractice for the greater good of the company – the concept here is ‘where an organisation has stated that its staff are expected to report suspected wrongdoing, the failure to do so may be regarded as disloyal’. That understanding would suggest that there are positive developments within the field of whistleblowing, and indeed there are, but the process of whistleblowing is a multi-faceted process. One of the most important aspects of the process is that there is adequate protection for one to blow the whistle, and in that regard there is still plenty of work to be done. It was reported recently that Senior MPs and campaigners ‘are demanding the government overhauls laws around whistleblowing, calling the current legislation “wholly inadequate” and “not fit for purpose”’. These calls are in relation to the number of individuals who ‘blow the whistle’ but then lose their jobs, which is a clear inhibitor for whistleblowing. More worrying still, the article discusses how, perhaps, the greatest impact is within the NHS where doctors are losing their jobs after highlighting malpractice. The effect of a reduction in whistleblowing is tremendously obvious in that particular field, but the reduction of whistleblowing in any area is a clear social problem.

The article in The Independent concluded with the views of Philippa Whitford, the SNP’s health spokeswoman, who states that there ‘has to be some form of enforcement and some form of punishment… when someone has real concerns about how a trust or department is being run or how an individual is behaving, they need to be able to come forward safely…’. Admittedly Whitford is talking in relation to public bodies, which perhaps denotes a slight difference in relation to the public-facing nature of those institutions and the ‘duty’ of those involved, for want of a better term. But, in reality, a private institution is more often than not engaging with the public, and the question is whether their responsibility to a ‘consumer’ should be any different to a public body’s responsibility to a ‘citizen’. Arguably, there should be no difference whatsoever. Another question is what should be done to make the process safer for whistleblowers?

Unfortunately, there is no easy answer to that question. If anonymity becomes an absolute in the process, which would protect whistleblowers, then what would be the impact upon businesses or public bodies? What if the claim against them is unsubstantiated, or is not a genuine claim? This is the underlying issue that dominates the concept of whistleblowing and its development, and it is difficult to foresee a middle ground. In the excellent International Handbook on Whistleblowing Research, there are a number of ‘remedies’ discussed, ranging from the criminal law protections that have been developed in the courts, to those involving the (American) constitutional rights infringements that punishing dissenting opinions theoretically constitute. However, when analysing the comparative legal developments, Fasterling finds that there is plenty of divergence between countries, which perhaps lends itself to ‘social’ foundation of the concept of whistleblowing, which impacts upon how it is protected, and indeed advanced. Fundamentally, it all may boil down to the concept of ‘values’, and what a given ‘system’ values.

If a ‘system’ values the development of its business arena, then how whistleblowing is developed and protected can go one of two ways: it will either be advanced upon the concept of the whistleblower doing right by the company and, ultimately, making the organisation a better entity for it, or it will be repressed upon the basis of protecting the company from a variety of effects, including external investigations, a loss of reputational capital, or a number of other things. This discussion directly relates to the discussion on Wednesday regarding the role of regulators, with the relationship being the concept of the regulator being an enforcer, but for whom? Again, it is dependent upon the viewpoint the regulator takes in relation to its role in the wider arena. Again, we must look at the evidence rather than the ideology, and on that basis it is difficult to foresee the process of whistleblowing being afforded more protection anytime soon. The FCA’s treatment of the Staley case means that, for them, acknowledging a breaking of the whistleblowing rules is punishment enough, but the question on the back of that decision is what effect does that decision have? Does it encourage whistleblowing in the future, when one may consider that their superiors will circumvent rules to identify them but then not suffer any serious consequences? Arguably, it does not. Arguably, even though the Staley case was in relation to a personal connection and then somebody somewhat outside of the organisation, the sentiment is loud and clear – the circumvention of whistleblowing rules is allowed, depending upon the importance of those circumventing the rules. For the FCA, Jes Staley as CEO of Barclays presents an entirely different proposition than the RBC, and therefore we may see more punitive action taken in this current case, if the FCA decides to pursue it. If that is the case, then the sentiment that we can take from those diverging actions is even more worrying – is it the case that some people, and organisations (think RBS), are above the law if they are deemed vital to the national interest? The impending unknown in the UK – Brexit – is defining the future of the UK, and stories such of those demonstrate that the effects could be particularly long-term, and particularly damaging.


Keywords – UK, Whistleblowing, Royal Bank of Canada, Barclays, FCA, Financial Regulation, Business, @finregmatters

Wednesday, 15 August 2018

The FRC Reluctantly Releases a Report on PwC and BHS: Yet another Indicator of Weakness, or is it?

We have reviewed the collapse of BHS here in Financial Regulation Matters, whilst we have also reviewed the performance of the Financial Reporting Council (FRC) here. We also looked at a number of investigations that the FRC were undertaking with regards to the audit sector, with the regulator’s record fine against PwC for its auditing of BHS being one of the more recent actions taken. However, what looks like a victory for the regulator, at first glance, is quickly becoming anything but, and in today’s post we shall look at the sentiment of the regulators actions in this case.

When the announcement was made that PwC would be fined, and one of its partners involved in the audit banned for life, it was suggested by the regulator that they would be releasing an extensive report into what went wrong. However, Sir Philip Green initiated legal proceedings to amend, and essentially delay the report from being published on the grounds that it would negatively affect members of his holding company, Taveta. At the end of June, the High Court ruled against Green and his attempt to impose an injunction, meaning that the FRC were then free to publish the report. Yet, they did not. This quite rightly drew criticism, with Frank Field MP demanding to know when the report would be published. Yet, they still did not release the report. However, in The Sunday Times last weekend, the report was leaked, meaning the FRC had no choice but to release the report.

One would think that would be the end of this particular episode, and that we can now focus on the poor job that PwC did when auditing BHS. The report was released by the FRC on Wednesday, and spans nearly 40 pages. The report goes into detail regarding the lack of supervision undertaken by lead partner Steve Denison, the alarmingly short amount of time that was spent on the audit, and the decisions the board at BHS were allowed to take and have them signed off by PwC. The report is indeed highly critical of Denison, PwC, and the board at BHS, but there is one more twist in the tail. Today in the Financial Times, it is being reported that ‘the report released on Wednesday contains differences to the original document that Sir Philip attempted to block. The FRC declined to comment on what changes were made’. An example provided of the differences between the two versions include the previous report stating that the FRC concluded that the management at BHS had assumptions regarding future losses that ‘were not reasonable’; in the released report, that sentence was changed to the assumptions regarding future losses ‘should have appeared to the respondents to be very optimistic’. This change was that suggested by counsel for Taveta during the application for an injunction, and this has lead Field being forthright in his criticism for the concession. However, does this occurrence tell us something about the reality of the situation between a regulator and the regulated?

It appears that there is a fear that exists within financial regulators, and if we focus on the dynamics of that particular relationship we can perhaps see why. The theory behind the relationship is that regulators operate to protect the public from the iniquities within the marketplace, by way of either disciplining, or setting standards. Yet, the FRC’s actions, when combined with the actions taken by the FCA recently with regards to the releasing of a report into RBS and its GRG unit, suggest that the actual power dynamic within that regulator-regulated relationship is tremendously imbalanced. The regulators are, it appears, fearful of going against what are particularly wealthy and resourceful organisations, with the legal ramifications for the regulators being much higher if they were to enter a legal war with the regulated. There is also the issue of the regulators not wanting to alienate the regulated entities, as it is often prescribed that working with these entities, rather than ordering them is the more beneficial route to take. These points are valid, simply because they make sense. Whilst the regulators represent the state, they do not have the resources to challenge these massive organisations legally. Also, it will be easier to work with people and organisations who you have not alienated. However, if we look at it from the opposing side, there is an entirely different story.

What justice is there for the 11,000 employees of BHS who faced losing everything they had saved (and many will not receive what they are supposed to), or for the many SMEs who were put into a brutal machine within RBS and HBoS, and in the latter instance are continuing to be consistently disrespected by Lloyds in their handling of the case? The answer, it appears, is that the justice they may receive is second to the preservation of order. That sentence may seem conspiratorial, but it answers the question of why so few were imprisoned for criminal conduct in the Financial Crisis, and why so many other scandals are ‘settled’. But, perhaps this is too idealistic. Perhaps, there needs to be a recalibration of the role of the regulator. Do they exist to protect the public, or do they exist to ensure the efficiency of the marketplace? A definition for the word ‘regulator’ is ‘a person or body that supervises a particular industry or business activity’, but that does not describe for what purpose. If we are to ask, then, for what purpose do the regulators operate, it is arguably important to remove ideology from the equation (which would be a difficult exercise in the modern era given the prevalence of ideology over evidence). If we were to remove ideology and replace it with evidence, and historical analysis, then the answer of for who do regulators operate will become abundantly clear – need the answer be written here?


Keywords – FRC, BHS, PwC, Audit, Financial Regulation, @finregmatters

Sunday, 12 August 2018

The Latest Indicator of the Onset of Regulatory Amnesia: Trump Takes Aim at the OFR

We know here in Financial Regulation Matters that there were a number of initiatives set up in the wake of the Financial Crisis, with all of them theoretically designed to guard against a crisis of similar, or even worse proportions. Some have been somewhat of a success, and others less so, but recently the Trump administration took aim at an agency which is purposely designed to guard against another crisis by providing cutting-edge research to regulators. In this post we will examine the Office of Financial Research (OFR) and the news that the agency will soon be experiencing even more job cuts, alongside a further depletion of its resources. The question will be whether this constitutes just the latest in a string of events which suggest the onset of ‘regulatory amnesia’, or the culling of an agency that sounds good in theory, but could never have been effectual in the real world.

As part of the many reforms brought forward by the Dodd Franck Act of 2010, the Office of Financial Research was created, and was designed to support the Financial Stability Oversight Council (FSOC), which itself sits within the Treasury Department. The OFR’s official mandate is to look across ‘the financial system to measure and analyse risks, perform essential research, and collect and standardise financial data’, and to protect it from a myriad of potential influences, it was designed so that it would be funded by assessments taken from financial institutions. The Office also has the power to issue subpoenas to institutions and people who are not forthcoming with the necessary information required. On paper this initiative sounds like it is particularly well placed to furnish the regulatory environment with the up-to-date and critical research it needs to guard against future crises. However, there is an obvious problem with this aim. That problem is that by doing so, there is the potential that the Office will stifle growth in areas which are beneficial to both the financial marketplace, and also politicians who campaigned on the promise of bringing about the end of the recession and long-term economic growth. This has been noticed by commentators, who have suggested that the OFR has been plagued by a number of issues (some internal, many external), ranging from a lack of cohesion amongst regulatory agencies, the lack of discipline that the FSOC can administer, and a reluctance on behalf of the OFR to issue subpoenas.

Yet, it has also been suggested that the OFR has been doomed to fail by the interference from politicians. Reuters reports that the OFR has been under pressure for many years from Republican congressmen and women, who claim that the Office is ‘unproductive, unnecessary, and another form of intrusive government bureaucracy’. According to the Financial Times, Steven Mnuchin (who we know from previous posts) has taken a direct aim at the office, insisting that the Treasury Department take over the OFR’s staffing and budgetary decisions. The fact that the OFR sits within the Treasury is one major problem, and the fact that the OFR is supposed to be autonomous is clearly another problem. Yet, that has not stopped the Trump administration, who have recently announced that the OFR will have its budget cut by 25% to around $76 million, and will see up to 40 positions obliterated – in 2016 there were 208 members of staff, but that is an ever-dwindling number. The Treasury maintains that it is taking such actions to ‘make OFR a more efficient organisation with a stronger workforce and culture to better execute its mission’, but the suggestion from elsewhere is that ‘rather than strengthening the OFR, the Trump administration is undermining it… this is shortsighted’. It is worth noting that it is not just the Treasury taking aim at the OFR, as the SEC took action in 2013 by declaring that some of its reports ‘were too strong in [their] depiction of the industry’s risks’.

Here in Financial Regulation Matters we know full well that there will always be a sharpened opposition to risk-aversion because, essentially, being risk-averse is not profitable. It was reported recently that the banking industry is increasing its lobbying efforts to repeal certain banking laws in the U.S. that will enable them to free themselves from certain capital ratio requirements (the so-called G-SIB Surcharge), and this is not surprising. However, it is relevant to paint a picture of both the desire to free the industry from crisis-era restraints, and also the public body support for that to come to reality. Donald Trump vowed to cut back governmental red-tape throughout his Presidential campaign, and he is doing just that. Perhaps that is fair – he is doing what he said he would do – but the reality is that these calls were made under a false pretence. On many occasions he stated that there was a requirement to cut the red tape to create jobs in the U.S., and in some cases that may come to fruition. But an associated reality that he rarely mentioned when campaigning for office is that this approach disproportionately benefits and emboldens the rich, with particular reference to the financial powerhouses that tower over American, and many other societies. We know that after his massive tax cuts for the rich he proudly declared that he had ‘made his friends rich’, and developments such as these with respect to the OFR only further that cause.

Essentially, we are beginning to move through the certain ‘phases’ which can be traced back for a large number of years. The calls by financial institutions to be freed from restraint, in order to grow and ‘provide jobs’, is not heeded after a crash. However, those calls never stop, and it is institutional support from the state that advances the ‘phases’ so that these calls start developing momentum. Any rational person would surely suggest that, for what is quite a limited budget anyway, the OFR should be supported further so that, once the financial institutions begin to make more moves in the marketplace, the regulators tasked with regulating their activities are provided with as much information as possible. The logical chain of events is that the financial institutions are allowed to take more risk but from within the informed and progressive regulatory arena which monitors and regulates the systemic risk being taken. Yet, there is a push to do exactly the opposite, with politicians now queuing up (on the bank of increased lobbying efforts) to severely damage that regulatory arena. The reason is simple, and it is not related to ‘growth’ or ‘jobs’ – the ‘excess’ that is required to be made to make certain people rich cannot be developed within that regulatory arena. A solid regulatory arena can allow for the development of ‘growth’ and ‘jobs’, but does so within a confined, sustainable, and systemically-safe manner; none of those attributes contribute to the development of excess, and it is that excess that allows Donald Trump and his ‘friends’ to continue their dominance. The cuts to the OFR merely represent just one small strand in what is an ever-unwinding regulatory tapestry. The question then is, and this is a question we have asked a number of times, is a decade of ‘recovery’ enough to provide societal stability if another crash takes hold?


Keywords – Office of Financial Research, Trump, USA, Treasury, Business, Regulatory Amnesia, @finregmatters

Monday, 6 August 2018

House of Fraser Continues to Teeter

House of Fraser, the massive department store that began in 1849, in Glasgow, has been making the business headlines for quite some time. After the collapse of BHS, House of Fraser stands on the brink of being the next massive feature of the British High Street to fold. In this post, we will look at the latest developments as the company battles to stay in existence and survive the hostile environment facing High Street retailers, whilst we will also look at the what these developments many mean for the future of British retailers as we continue to move through the economic cycles.

The news of House of Fraser’s troubles broke earlier in the summer, which came on the back of negative financial results last year which detailed that the company had made a net loss of £37 million, with a £53 million drop in revenue. Those financial troubles led to the need to develop a rescue plan to protect the company from the hostile environment within which they operate, and in June of this year they announced that it would be closing 31 of its 59 stores. As part of that rescue plan, there were two specific elements that needed to be realised, and recently those elements have been played out. Today the company managed to come to a legal arrangement with the landlords of the properties they wish to close, after those landlords had sought to take legal action against the closures as part of the ‘Company Voluntary Arrangement’ (CVA) process that we have discussed before here in Financial Regulation Matters. The terms of the arrangement involve the company being allowed to continue the CVA process without running the risk of further litigation from the landlords, with the landlords stating in response that ‘we are pleased with the outcome and hope that our landmark legal challenge sends a clear message to any other companies considering a CVA, on the importance of transparency and fair treatment for all creditors throughout the CVA process’. It has been suggested that inherent weaknesses within the CVA process are being magnified by the increased usage of them, relatively speaking, and that these issues need to be ‘urgently addressed by the industry and by government’, whilst there is also a number of scholarly investigations on this area taking place at the moment.

The second element of House of Fraser’s rescue plan involves finding an entity to invest in the firm, or better yet take it over. It was suggested yesterday that the removal of the legal hurdle presented by the landlords would advance the rescue of the company, but other news recently has presented the company with much larger hurdles. C.banner, a Chinese firm which also owns the toy store Hamley’s, had been in talks with House of Fraser regarding a takeover and a much-needed injection of £70 million. However, C.banner announced last week that it would not be proceeding with that planned takeover/investment, and this stems from the company’s issuance of a profit warning after its share price plunged. It has been mentioned subsequently that Sports Direct founder, Mike Ashley, may be interested in investing, as too may the Alteri Investors vehicle, but apparently those talks are not at an advanced stage. The question is, however, may there be a longer effect stemming from this current period of turmoil.

It should come as no surprise that economic cycle fluctuations will have a demonstrable effect upon sectors such as the retail sector. We have looked previously at the tremendous effect the economic cycle is having upon the dining sector, and it is obvious that the retail sector would struggle also. As leading names on the High Street struggle (John Lewis reported warnings over its, and Waitrose’s performance recently), one would assume that there would be an almost-natural shift towards the ‘price-aggressive discount retailers’. Yet, the collapse of Poundworld recently perhaps flies in the face of that understanding. There has been plenty of research into the connection between the retail sector and its performance during the changing economic cycles, with it being suggested that economic downturns are prime moments for discount retailers to irreversibly take market share from the more respected retailers. That view seems more than sensible, but the collapse of Poundworld forces us, perhaps, to re-evaluate. What then is the differing factor between that economic research and the reality we see in front of us?

The answer, arguably, is Amazon. The massive online retailer is revolutionising the way in which retail companies operate, and is quickly becoming the focus for targeted research as we begin to seek to understand its scope, its role, and its effect. Amazon made the news recently after reporting a profit of $2 billion for the first time in the second quarter, and also for having paid just £4.6 million in tax within the UK. Predictably, this news has resulted in a number of articles within the business (and wider) media regarding the system of corporate taxation, but for us there is another effect which is worth discussing. Earlier this year a columnist asked ‘is this the end of the UK’s retail boom?’ after referring to slumps in spending over usually busy periods (Christmas, and early year periods). However, perhaps the question should be aimed at the presence of a High Street at all. The British High Street is fundamentally changing, with bank branch closures being performed at an accelerated rate, restaurants struggling to cope with the economic climate, and now constitutive components of the traditional High Street model now disappearing. If House of Fraser were to fall, then the loss of BHS and House of Fraser to the British High Street would be massively noticeable. The existence of Amazon is providing the retailing dynamic with a new stimulus, and the sector is being changed irreversibly. Amazon is forcing society into two particular streams: from a retailer perspective, it is forcing retailers to compete online, but the dominance of Amazon in that field is prevalent. From a customer’s perspective, the need to shop on the High Street is ever-diminishing, with better value and more convenience to be had via online retailers. This revolution started in 1994 but did not gather pace until the Financial Crisis took hold, and that is for a good reason – the economic climate is forcing society into the realm of Amazon, and the deteriorating High Street is the proof of that. What is means for the future of the High Street is uncertain, of course, but it is not outside of the realm of possibility that the concept of a ‘High Street’ will be a thing of the past very soon. What the High Street of the future will look like is another question entirely, because the obvious conclusion to make would be that it would be dominated by discounted stores. But with Poundworld’s demise that may not be the case, whilst it is also possible that an economic upturn (although one is surely not forthcoming anytime soon) could reverse these trends mentioned in this post. Whilst that may apply to consumable items i.e. restaurants, it is difficult to see a way back from the brink for the large department stores, which would mark a sea-change for modern living.


Keywords – Retail, UK, House of Fraser, BHS, Investing, @finregmatters

Wednesday, 1 August 2018

Trust and the Banking Sector: RBS and Lloyds Make the Headlines Again

In Financial Regulation Matters we have covered the story of the disgraced GRG unit within RBS from the moment that the scandal was publicised, and recently that case has taken a particularly disappointing turn. In other news from the Banking sector, Lloyds have been forced to set aside even more money to cover PPI claims made against them, bring the prospective to total to more than £19 billion. In this post, we will assess these stories and examine what they may mean for the continuing lack of trust that the public have in the Banking sector.

Starting with RBS, the bank have been in the midst of a number of legal claims regarding the conduct of its infamous GRG unit, which was set up to ‘help’ Small and Medium Enterprises (SMEs). Last month the bank managed to fend off a claim from a Real Estate group regarding the mis-selling of interest rate swaps and manipulated interest rate benchmarks, and a couple of days ago managed to fend off a claim in the High Court from an SME regarding its treatment via the GRG unit. Yesterday, however, came the news that many affected SMEs were dreading, in that the FCA are to take no disciplinary action against RBS for the conduct of its GRG unit. In explaining the FCA’s decision, CEO Andrew Bailey stated that the regulator lacks the powers to take action, although this was followed by the statement that the lack of action does not condone the actions of the GRG unit. Bailey suggests this based upon the understanding that whilst the FCA does have the power to punish senior management within banking institutions, those powers only came into force in 2016 and could therefore not be used retroactively. This decision falls in line with many other legal conclusions that suggest that whilst the GRG unit was clearly deficient when it came to standards, there was little in the way of overtly illegal action. This is the viewpoint put forward from a number of avenues, despite the damning report that RBS fought to keep from the public, and revelations that include leaked memos that declare that GRG were advising its staff that ‘sometimes you have to let customers hang themselves’ and ‘missed opportunities will mean missed bonuses’.

This has led, understandably, to considerable backlash since the news broke that the FCA would not be taking action. Nicky Morgan, Chair of the Treasury Select Committee, immediately stated that ‘it will be disappointing and bewildering for those who got caught up in GRG’s actions that the FCA is not able to act. This demonstrates the need for a change in how lending for SMEs is regulated’. Affected customers have also been quick to voice their anger at the announcement, with one customer stating that ‘the Government have got to get a grip’. So, whilst RBS celebrate the findings of the High Court and the FCA, the question is what will be the effect of these continuing scandals that are going without punishment?

The actions of RBS are rather remarkable when one takes a moment to look at them. Not only are the bank attempting to close the compensation scheme and cap it at £125 million, despite the investigation into affected customers not being complete (only 10% of customers who may have been affected have come forward), but the bank is continuing the usage of the term ‘legacy’ to distance the bank from its previous actions. Sir Howard Davies, the Chairman of RBS, stated that ‘we await the publication of the FCA’s full account and will reflect carefully on its findings to learn any further lessons from what was a hugely challenging time for the bank, its customers and the wider economy’. The tragedy is that the ‘challenging time’ for the bank was supported by the British taxpayer, and for the victims of GRG and the wider economy, those ‘challenging times’ continue to this day.

The trust that the public have in the banking sector is incredibly low, and this is because the rate of scandals that are emanating from the sector is showing no signs of abating. Over at Lloyds Bank, who are having massive issues with their own version of GRG (albeit via the purchase of HBoS), it was announced today that the bank have put aside another £550 million to cover claims for mis-sold PPI. Although the bank announced this alongside strong financial figures – a pre-tax rise in profits of 23% to £3.1 billion in six months – the figure of £19.2 billion as a prospective figure for PPI compensation is difficult to ignore. It is also worth noting that this figure represents the highest figure for all British banks and the compensation due to customers who were mis-sold PPI, The bank, rather predictably, avoided commenting too much on the extra provision, but it is a damning development for the culture within the bank – although, obviously, the bank will be quick to write this off as ‘legacy issues’.

In reality, these are not ‘legacy issues’. In fact, they are representations of a culture that has persevered throughout one of the largest financial crashes in modern history. Yes the banks are not able to perform in exactly the same manner, but the sentiment the banks still display when treating the victims of their transgressive policies ‘with contempt’ is truly remarkable. It often goes unsaid that banking does not have to be like it is, where the actions of the banking companies are almost adversarial to everybody else but themselves. The trust that the public have in the sector will have been damaged significantly during the Crisis – this we know – but the way in which the banks are dealing with the post-Crisis era is arguably much worse. To transgress is one thing, but to take such an adversarial approach when it has been proven that one did wrong is something which can damage the future relationship between the public and the sector irreversibly. However, there is a counter-argument to this, and that is that relationship between the banking sector and the public is absolutely irrelevant. It is perhaps the case that people would like that relationship to mean something, but from the perspective of the leading banks there is very little to suggest it is the case. One may argue that a breakdown in trust on behalf of certain banks, say RBS, would damage their reputation, but in reality it is riskier to deal with the smaller banks since the Crisis, despite deposit protection schemes. The Crisis taught us all that the larger the bank, the safer it is, so why would the banks care about the relationship with the public? It is worth debating, but it is certainly the case that the ‘regulatory capital’ argument no longer applies – the banks have been called ‘too-big-to-fail’, but perhaps it is more the case that they are ‘too-big-to-care’.


Keywords – Banking, RBS, Lloyds, UK, FCA, Business, @finregmatters.

Tuesday, 10 July 2018

Another Transgression in the Automobile Industry Highlights the Need for ESG Consideration – Nissan’s Emissions Scandal

As part of this author’s research on the Principles for Responsible Investment, the concept of ESG consideration has been analysed in relation to its importance to development of more forward-looking and sustainable investment practices. In this post, we will look at whether Environmental, Social, and Governance’ (ESG) principles are followed in full, or whether there is still some resistance to incorporating all of the concept. There is a suggestion that only certain elements are ‘material’, but recent news suggests that it is sometimes, or even often, unwise to separate the three components.

In reviewing the two particular reports generated by the PRI concerning the impact of ESG on credit analysis (the first one is available here, and the second here), it quickly becomes apparent that, for the Credit rating agencies (CRAs), the concept of ‘G’overnance is the most material aspect. Yet, the CRAs make a point of the Volkswagen emissions scandal to demonstrate where the different elements of ESG converge, with that case in particular covering aspects of Governance (via poor management practices), Environment (via environmentally-concerned regulations), and the wider impact upon Society. This focus is valid, but within the reports this situation is held up as a somewhat solitary event. Just a couple of weeks since the last report was published, the automobile industry is facing another scandal with the news that Nissan, Japan’s second largest automobile company, has been falsifying its emissions-related data.   

The first point to note is that the business media are almost unanimous in suggesting that this case is not exactly the same as the VW case. The suggestion is that Nissan have fallen foul of poor practices across their manufacturing operations, with certain tests falling short of the prescribed requirements imposed by Japanese regulators – as opposed to VW, who were found to be including emission-altering recording software in their vehicles. This narrative falls in line with previous issues at Nissan relating to safety concerns and practices which resulted in a recall of 1.2 million cars last year. However, Nissan has confirmed that emissions data was ‘deliberately altered’, and that news has had an immediate and significant effect upon the company’s position. In response, Nissan has initiated internal investigations which it says will consist of ‘a full and comprehensive investigation of the facts… including the causes and background of the misconduct’. There has been little to suggest, so far, that the company will find itself embroiled in a scandal the size of VW’s, but these news does signal that focusing upon the entirety of ESG as a concept is important, as many investors have been calling for.

The CRAs, who exist to provide an opinion on the creditworthiness of a given entity, are in complete agreement that governance is the key factor. There are a number of reasons for this, but the main reasons are that the management of a company will often have direct impact upon the company’s creditworthiness, and that the governance of a company can be made much more quantifiable than the other elements within ESG. This, of course, is not invalid, and it is not a surprise to hear that the CRAs want to focus upon what can be quantified. However, whilst Governance is obviously a massive factor in the Nissan case, the other elements of ESG are all present, meaning that this story (in addition to the VW scandal), is a shining example of the interlinking properties of the concept of ESG. Furthermore, there is perhaps a fear that these stories represent a trend, which makes ESG analysis even more valuable. In the Nissan case, the ‘E’ is represented by the regulations designed to enforce environmentally-concerned standards, and the ‘S’ essentially informs the ‘E’ policies – the standard-setting in this industry is not just in relation to environmental concerns, but also is in relation to consumer habits, the impact of a degrading environment, and the direction of society towards a more renewable sentiment.

The implications of the Nissan story will be felt for some time, and it is likely that Nissan will not be the last automobile company to fall foul of emissions regulations. The issue is that these factors are only slowly coming to be recognised by the financial sector, with traditionalist viewpoints maintaining in the face of mounting evidence that a dynamic and more forward-looking focus is required. The story represents a clear demonstration that finance needs to respond to the changing, and more ‘ethically’ concerned society. However, this term is problematic in that it describes processes which are moralistic in nature. It is mostly for this reason that the PRI has decided to attempt to take the world of ‘ethical’ finance, or more accurately ‘sustainable’ finance, more mainstream so that the impact of changes in the field will be more widespread; news like that from Nissan will only help to demonstrate why that is a worthwhile endeavour.


Keywords – Nissan, emissions, ESG, PRI, CRAs, environment, @finregmatters