Although UK regulators and businesses had months to prepare for the Senior Managers Regime (SMR), this regulation still sent shockwaves through the industry when it was finally implemented in February 2016. Not only was there a great deal of confusion and concern in the run-up to the February deadline, but even now – six months later – some firms continue to struggle due to a lack of clarity and understanding.
These problems are nothing if not ironic: surely a policy that was designed to increase personal liability and increase criminal punishment should be clear in its meaning and expectations? However, despite the lengthy guidelines from the UK regulator the Financial Conduct Authority (FCA), there are several grey areas of the SMR that would benefit from greater clarification.
Above all else, in the wake of the 2008 global financial crisis the SMR has been designed to focus on personal liability in order to prevent a similar catastrophe from occurring in future. However the crash wasn’t caused by just one person making one bad decision, which immediately led to an economic downturn. Rather, it resulted from a web of small decisions made by hundreds of people over a period of time, which eventually created a severe situation and an unsustainable economy.
For this reason, the SMR mainly focuses on senior decision makers – but it is still unrealistic in its scope. More often than not, a single ‘big decision’ is made up of a number of smaller decisions that, if viewed on their own, appear insignificant. However, when compounded one on top of the other, these decisions could constitute a breach and potentially lead to a financial disaster.
As such, the problem facing compliance and risk managers is: when it comes to decision making and the SMR, where do you draw the line? It may be useful to consider this problem in the context of a more familiar everyday example: parking the car.
If someone chooses to park on double-yellow lines, chances are that they know this is illegal – but they also know exactly what the repercussions are likely to be. But what would happen if this same person were to come across a purple line when looking for a parking spot? Is it legal to park there, or illegal? Perhaps it’s legal only at certain times and illegal at others? Moreover, what would the fine be if they happened to judge it wrongly?
It is this driving seat that some in the industry feel is unfair, calling for the FCA to respond with further information.
Playing it safe
The uncertainty surrounding SMR derives from making businesses and the individuals affected distinctly more risk averse. Prior to 2008, many would say that risky decisions were being made liberally and far too often. However, now the opposite has become the case and risk-averse managers could be damaging an organisation in the long term by steering clear of difficult decisions.
This timid approach will not only have a negative impact on the bank sector’s profits, but will also cause problems for smaller players in the economy as banks will be less likely to invest in riskier asset classes. The FCA needs to be more sympathetic in its approach to these issues; particularly as unregulated alternative financers are beginning to snap up sizeable chunks of the UK market.
Understanding best practice
The FCA might have released detailed guidance on the SMR, but it’s not the regulator’s role to present examples or case studies of ‘best practice’, as what applies to one organisation may not necessarily apply to another. As a result, advice that relies upon particular scenarios could actually increase confusion, rather than reduce it.
For example, long-established major banks are in very different places in their business cycle and culture compared to a small start-up; yet the regime applies equally to both. As such, by trying to apply case studies or detailed examples, the FCA would actually be doing a disservice to the firms involved.
This highlights the difficult grey area of the SMR regulations, and showcases the potential dangers for businesses. When deciding on best practice, firms will ultimately need to apply the spirit of the SRM to their own circumstances rather than trying to identify specific behaviours to avoid.
The SMR has already had a major impact on the way in which bonuses are paid and has been instrumental in creating a system of deferred compensation. Opinion remains divided regarding the effectiveness of this change, but one area it has affected for certain is whistleblowing.
The SMR introduces the concept of a ‘whistleblowing champion’ within financial organisations: someone who employees could approach should they witness any signs of bad practice; however, the concept has flaws. For a start, if the organisation chooses to ignore the issue being highlighted, that employee reporting the illicit activity would most likely leave the company to protect themselves and avoid any impact the incident may have on their career progression. In leaving, however, the employee could potentially lose out on receiving the full amount owed to them in their deferred compensation. This risk is already impacting the attractiveness of these roles and will seriously damage succession planning across the industry.
The FCA has therefore created a catch-22 situation. If this issue is left unaddressed, whistleblowing activity will decline and thus undermine what the SMR was created to achieve. One option could be to reflect the system currently in place in the US where the Securities and Exchange Commission (SEC) awards payments to whistleblowers that are proportionate to the amount the regulator would obtain through enforcement.
Shades of grey
There are many grey areas for businesses that are now operating under the SMR regulations. The main issue facing banks is that they will only know how the SMR should be interpreted in practical, commercial situations when further examples of accountability have been demonstrated. This retrospective approach has left banks nervous and unsure about making decisions and managing risk for fear of being the one that crosses the line first.
For all these reasons, the FCA needs to continue to work alongside firms that are trying to comply with the SMR to ensure that they know what is expected of them and what to expect from the regulator. Above all else, the FCA and businesses must work together to identify where the boundaries are when it comes to falling foul of the regulation and what the ramifications will be. This way banks will be able to clearly understand how the SMR applies to their individual organisation and thus avoid any problems going forward.
Europe’s opening banking regulation is finally here. After months of preparation across the continent, the Revised Payment Services Directive comes into effect on January 13.
The revised Payment Services Directive regulation, regarded as one of the most disruptive in Europe’s financial services sector, will begin to make an impact on January 13, 2018.
The cost of compliance efforts for banks has increased exponentially in recent years. This is especially true for those banks that are active in the global trade finance domain, where the overwhelming expectation is for compliance requirements to become even more complex, strict and challenging over time.
This year promises to further the regulatory compliance burden imposed on financial institutions. How are firms in the sector responding to the challenge?