Tuesday, 1 January 2019

2018: A Regulatory Year in Review

As 2019 begins and we look back on 2018, it has been, as always, a busy year for the world of business and the regulators tasked with controlling it. In this review post, we will look back over the year by sector, and discuss some of the flashpoints to analyse whether there are any themes that can help us foresee what 2019 has in store. Before that, I would like to thank everybody for their continued support of the blog, and also all of those kind contributors who have provided guest posts throughout the year. Also, in a bit of shameless promotion, my first two books are now available for purchase and I would like to thank everybody at Routledge for bringing Regulation and the Credit Rating Agencies: Restraining Ancillary Services to life, as well as everybody at Palgrave Macmillan for bringing The Role of Credit Rating Agencies in Responsible Finance to life.

A Year of Failure

There were a number of high-profile failures this year, and many were socially impactful. In 2016 we witnessed the collapse of BHS with thousands of employees left stranded and at the mercy of the Pension Protection Fund, but this year we watched as Carillion, the contractor intertwined with the Government via a ‘private public partnership’, struggle and ultimately fail. The impact of the failure was far-reaching, with key hospitals (amongst other socially vital institutions) left unbuilt. The fear was that ‘contagion’ would set in and cause a number of other vital providers to fail, and at the end of the year we witnessed that fear become a reality with the news that Interserve was also struggling. Right at the end of the year the news was that Interserve had managed to agree upon a rescue plan, despite the collapse of their share price, but in reality the provider teeters on the edge of collapse just as Carillion did at the start of the year. This led us to discuss the fragility of the ‘PPP’ model, and the importance of a governmental safety-net, despite the reluctance of certain political parties to accept that reality. Yet, other producers struggled as austerity, despite the claims of some that ‘austerity is over’ continued to take hold. The famous toy brand ‘Toys “R” Us’ failed earlier this year, bringing an end to a high-street icon in the UK and taking thousands of jobs with it. Whilst we also saw a number of firms disappear including Maplin, Conviviality, and Poundworld disappear. Furthermore, only the introduction of Mike Ashley, who strengthened his grip on the British High Street as a result, saw House of Fraser saved in the final minutes of its existence. If we align this to the fact that many families are still struggling in this post-Crisis world, it is clear to see that austerity is not over. In fact, it is very much still alive and so are the consequences. Consistent increases in food bank usage, a persistent attack on the benefit system, and also a continued assault of the plight of children from poorer families means that, for many, 2019 will be a similar story to that of 2018: struggle and hardship.


In this blog, there is a purposeful focus on regulators and, in the UK, it is difficult to look further than the FCA. The FCA has taken on a prominent role in the wake of the restructuring that took place after the Crisis, and as such sees itself involved in a number of key societal issues. Arguably, the biggest story this year was that of RBS and the performance of its ‘GRG’ unit which despite having the remit to help SMEs actually drove a number into the wall. Akin to the same issue at HBoS, the GRG unit was widely criticised for its performance and, as such, the FCA was looked upon to regulate efficiently and protect those who had dealt with the particular unit. However, the FCA chose to restrict information to the public and withhold a key report that detailed a number of systemic issues that made the GRG’s negative effect possible. This was discussed in February when the Treasury Select Committee, and not the FCA, published the full report for the public. Whilst not absolute in its condemnation for the GRG unit, the report was damning for RBS and its role, which led us to discuss in March ‘has the FCA “gone soft”, or are its hands tied?’. The reason we asked this is because the regulator was more than forthcoming with punishments for certain people and firms (the Co-operative’s Paul Flowers was cited) but were less forthcoming with punishing RBS. We asked why, and struggled to look past the fact that RBS, as a result of the Crisis and the tax-payer rescue of it, is societally important for the future of the UK, particularly as it faces such a tumultuous period as a result of Brexit. Though the regulator is independent, it cannot be overlooked that they take the political, and also geo-political realm into consideration when deciding the ferocity with which they will punish.

This theme was repeated with other regulators, like the FRC and the SFO specifically. The two regulators had difficult years, with the FRC facing a massive re-structure after years of tame regulation, and the SFO coming into consistent conflict with the Government after a productive 2017 (as evidenced by its victory when pursuing Rolls Royce for corruption). The SFO, which as we have discussed is in line for a re-structuring and merging into the National Crime Agency, suffered a humiliation in its pursuit of Tesco executives at the end of the year, which leaves its new leader, Lisa Osofsky, with a difficult task ahead of her in 2019 as she battles to keep the SFO sailing in the right direction. It is clear that regulators have to balance a number of competing issues, and that often those issues are things they cannot really cite when making decisions. The impact of Brexit, and the inevitable upheaval it has and will continue to produce, is a constant factor for British regulators. Moving forward, it is almost impossible that the same theme will not be repeated, with the focus needing to be on the interest of the country as it moves into its post-Brexit phase.


As if often the case, banks remained under the spotlight throughout the past year. A number of stories stand out, chief amongst which is the continuing issues with RBS. With its former leaders facing court cases in 2017 (which eventually did not come to fruition), the bank would be catapulted into the spotlight via its notorious ‘Global Restructuring Group’ division (GRG). In February we discussed how this was an emerging issue for the bank, and as mentioned above we would witness the bank and the FCA come under massive scrutiny for a report on the processes at the GRG which, thanks to the FCA, would be published but heavily redacted. At the same time, it emerged that the Treasury had asked the US DoJ to bring forward punishment for the bank which eventually resulted in the bank being fined $4.9 billion for its role in the financial crisis. This development accompanied the Governmental sale of more than 900 million shares in June, with the British taxpayer suffering a second consecutive loss on the sale of RBS shares (the first sale of RBS shares cost the taxpayer more than £1 billion, and the second tranche were sold at just over half the 500p-per-share price the Government paid in the wake of the crisis). The following months would see the bank haggle on the compensation offered to affected clients of the GRG division, which would in turn see it face more criticism (which has now faded somewhat). Lloyds, having acquired HBoS which was also guilty of similar transgressions, attempted to approach the issue in the same way and haggle over the compensation due to victims (leading to very public battles with Television personality Noel Edmonds). Elsewhere in the UK, Barclays won a crucial decision in the courts against the SFO, who were pursuing the bank on account of suspected fraud regarding their Crisis-era bailout by Qatari financiers; in June two actions were dismissed by the British courts. We discussed, in February, the original claims of the SFO but ultimately, in October, the SFO suffered another serious blow when its attempts to reinstate charges against the bank were dismissed by the High Court, which now just leaves a separate case against four Barclays bankers as a result of the same capital raising which is due to be heard in early 2019.

Away from the UK, it has been another difficult year for a number of high-profile banks. In the EU, Deutsche Bank continued to suffer from what has been an incredibly challenging period for the banking giant. In 2017 it had agreed to settle with the DoJ for just over $7 billion for crisis-era related activities, and then in 2018 it had its credit rating slashed by S&P. It was also suggested in June that Australian officials were preparing a case against the bank, and others, for ‘cartel charges’ over a A$2.3 billion issue. To further cement this troubling period, S&P confirmed that the bank would remain in a negative position for some time. In May, in the US, Wells Fargo continued to suffer over its decision to create a raft of ‘fake accounts’, with even more penalties coming its way in the shape of $1 billion from the Consumer Financial Protection Bureau and the Office of the Comptroller of the Currency. Adding to this was a class-action lawsuit totalling nearly $500 million, which led to the suggestion that the bank would need to find another $2.6 billion to cover the costs of the penalties in addition to what it had originally budgeted for. Whilst there were a number of penalties levied against the banking giants of the world in 2018, the effect was minimal at best. The result is one that cannot be overlooked, with that result being that penalties are not designed to seriously impact banks and that the banks are far too big to be punished by financial means alone. We discussed ‘deferred prosecution agreements’ in 2017 and, whilst they do have shortcomings, the ability to directly affect the practice within these large corporate entities is a potential regulatory tool for the future, particularly in this too-big-to-fail era.


As this author focuses exclusively on the Credit Rating Agencies, it is worth leaving the subject of ‘gatekeepers’ until last. Starting with the audit industry first however, 2018 was a particularly challenging time for the leading audit firms. Right out of the gate in January, KPMG had to recuse itself from the Grenfell Tower inquiry on account of perceived conflicts of interest in its advising on the organisation of the inquiry – KPMG audited the company that produced the insulation for the tower. Then, in February, KPMG were again in the headlines for its connection, and poor performance, when auditing Carillion. In April, the same firm was banned by South African officials from auditing in the country on account of its connection to the Gupta Scandal that was engulfing the country. Yet, it was not just KPMG making the headlines. In July PricewaterhouseCoopers was ordered to pay $625 million, on top of an earlier punishment of $5.5 billion in 2016, for ‘negligence’ regarding its audit of Colonial Bank in the US. At the same time, although paltry in comparison, the British regulator the FRC had set its own record when fining PwC £6.5 million for the poor performance when auditing the failed high-street icon British Home Stores. The FRC were highly critical of PwC in August regarding their auditing of BHS, although the FRC were themselves criticised heavily for altering the report in favour of Green and PwC, with MPs venting their fury at the conduct of the regulator. As a result of these transgressions, a number of parliamentary figures suggested that the ‘big four’ be broken up, although in May we questioned here in Financial Regulation Matters whether such calls were a demonstration of a misaligned focus that maintains the audit firms oligopolistic superiority. Whilst the FRC attempted to fight its corner, 2018 was a difficult year for the regulator. The year ended with an independent review calling for its dissolution, and with it being labelled in the business press as a ‘hangover from a different era’. Towards the end of the year, KPMG’s claim that it would cease providing consultancy services to those that they audit seemed to be a desperate response to the growing pressure against the oligopoly, although we discussed that this tactic was used after Enron to great effect and that, importantly, such a move should not be left to the firms themselves to implement.

For the Credit Rating Agencies, the year was actually positive. This author produced a number of articles on the CRAs (available here, here, here, and here) but, in terms of business stories, the CRAs had a good year (for them). In June China opened its doors to the CRAs after suspending Dagong for its performance. As China seeks to implement its massive ‘Belt and Road’ initiative, the business for the CRAs will be lucrative as the massive initiative seeks financing for a vast number of different operations. Then, in October, it was decided in the UK that the FCA would be the regulator charged with regulating the CRAs after the UK leaves the EU, which is the best option for the CRAs by far on account of a smooth transition (the FCA is currently the ‘competent authority’ within the EU regulations so that changeover should not be disruptive). With the penalties for the CRAs’ involvement in the Financial Crisis beginning to fade after the two large fines in 2015 and 2017, it seems that the industry is about to experience another phase of concerted growth. If we add that all three of the Big Three are now aligned to the Principles for Responsible Investing initiative, the future looks bright for the CRAs at least – although this author cautions against that expansion in the most recent book which is linked at the top of the post.


Ultimately, the year was tumultuous but not devastating. Bearing in mind the political distortions in the western world, the feared devastation that aspects such as the Trump administration and Brexit would bring were not realised. Yet, in 2019, it is apparent that those fears are replicated and, in some instances, heightened. March sees the UK leave the EU, and the mid-terms in the US revealed a resurgence for the Democrat party that will surely impact upon the Trump administration’s ability. 2019 promises to be an interesting year for the world of business, with plenty of opportunity for growth but continued failure. The demise of the British high street continues to be of interest as the country continues to battle with the effects of austerity, and the US continues to gear up to the 2020 election which will, no doubt, have a global effect. In Europe President Macron is facing domestic disorder which puts into question the health of the EU, particularly considering that Angela Merkel will soon be stepping down from her role as chancellor, and in China the country continues to strive to be a global superpower, with the Belt and Road initiative being central to that economic objective. Regulation will be key in managing those particular aspects, but the question remains as it does every year – will regulators be given the tools to effectively regulate?

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