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FSA to move away from principles-based regulation

Hector Sants, chief executive of the Financial Services Authority, says the regulator will be moving away from a principles-based regulation towards a more “outcomes-based regulation”.

Sants says: “Historically, the FSA characterised its approach as evidence-based, risk-based and principles-based. We remain, and must remain, evidence- and risk-based but the phrase ‘principles-based’ has, I think, been misunderstood.”

He says to suggest it can operate on principles alone is illusory particularly because the policy-making framework does not allow it.

He adds: “Furthermore, the limitations of a pure principles-based regime have to be recognised. I continue to believe the majority of market participants are decent people; however, a principles-based approach does not work with individuals who have no principles.”

Sants says what principles-based regulation does mean and should mean, is moving away from prescriptive rules to a higher level articulation of what the FSA expects firms to do.

In other words, it helps emphasise that what really matters is not that any particular box has been ticked but rather that when making decisions, executives know they will be judged on the consequences – the results of those actions.

Sants adds: “If we are an ‘outcomes-focused’ regulator two questions then arise. Firstly, what do we mean by that? Secondly, how do we deliver it or what is our operating model?

“Explaining what we mean is best achieved by contrasting it with the past. The historical philosophy was that supervision was focused on ensuring that the appropriate systems and controls were in place and relied on management to make the right judgements.”

In the future the FSA will seek to make judgements on the judgements of senior management and take actions if in its view those actions will lead to risks to our statutory objectives.

He adds: “This is a fundamental change. It is moving from regulation based only on observable facts to regulation based on judgements about the future.

“This will of course carry significant risk and our judgements will necessarily not always be correct with hindsight. Furthermore, too aggressive intervention will stifle innovation and arguably reduce risk to a level that inhibits economic prosperity.

“However, I believe the revealed preference of society says that this is, and possibly will always be, what society as a whole expects regulators to be doing. Indeed, it was what they thought we were doing.”


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