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John Tiner, CEO, Financial Services Authority (FSA)

This is an interesting time to be a regulator. At the FSA, we see a real opportunity over the next few years to make significant strides in our efforts to deliver better regulation of an industry that touches the lives of everyone in the UK and many beyond. This represents a considerable challenge for us and for the industry. But we believe that if we give firms and their managers more flexibility in the way they deliver what we as a regulator require, in the longer term this will deliver better outcomes for consumers of financial products and reinforce London's position as the location of choice for mobile capital. In the shorter term it also enables us to respond in a meaningful way to the Government's Better Regulation agenda. It should also have the important benefit of making the FSA an even more interesting and challenging place to work.

Our aim for the future is twofold: to move our regulatory regime further towards reliance on principles rather than detailed rules and to embed fully our risk-based approach towards the way we monitor and supervise firms and markets.

We are not starting from scratch. Over the last two years, we have put in place an organisational model and a set of operating principles which help us to regulate on the basis of a deep understanding of each sector of the financial markets and to decide where our intervention can be justified in the context of the market failures we are seeking to mitigate. And principles-based regulation is not new - the 11 high level principles for firms have been in place in their current form since 2001. So much of what we are about is a continuation of what has gone before.

While the principles have been with us throughout the FSA's existence, and are actually rules in their own right, we also have a sizeable Handbook of more detailed rules and guidance. I recognise that we will not be able to dispense with them entirely, nor is it desirable to do so. But I do believe there are benefits to be gained from such a shift. Rick Haythornthwaite, Chairman of the Better Regulation Commission, recently likened red tape to an old teddy bear, to which we are reluctant to admit an attachment, but like the reassurance that it provides. But I believe less attachment to detail offers advantages to both regulator and regulated.

We already look to the senior managers to ensure that their firm is properly run and has the appropriate systems and controls in place to enable it to meet its regulatory obligations. In a principles-based world, the FSA and the firm should also have a shared understanding of the outcome that the regulator is trying to achieve and the management of the firm can then decide how they wish to organise themselves to deliver the outcome. The FSA will not always spell this out for them in detailed rules. So the focus shifts from the means to the end and we should be able to align good regulation with good business practice.

As we see in other rapidly developing fields such as medicine or communications technology, rule making struggles to keep pace with innovation

It will also affect our policy-making. We are clear that we will only intervene where there is a clear market failure, and where regulation is the most cost-effective solution. Where we can, we prefer to encourage industry-led, market-driven solutions. As firms and products become ever more complex, it becomes increasingly difficult to develop rules in parallel with these changes. As we see in other rapidly developing fields such as medicine or communications technology, rule making struggles to keep pace with innovation. Attempting to do so simply adds further complexity to the existing rules. Nor is it clear that detailed rules are any better at preventing problems arising than high level principles.

We also have to have regard to the international competitiveness of UK markets. Many independent surveys have attributed some of the success of the City of London as a location of choice for international financial business to the pragmatic system of regulation which we already operate in the UK. I believe that this can be reinforced further by a shift towards a more principles-based approach.

However, our approach has not always met with complete support from industry, despite the very public calls from some parts for "less regulation". There are, of course, good reasons why some firms prefer detailed rules. It gives them a greater degree of predictability than a principles-based approach. This in turn can reduce compliance risk and the level of judgment required by compliance staff. So this is about firms changing their behaviour too. Are senior managers prepared to get to grips with principles which give them the flexibility to work out the appropriate way for their firm to act? Are they prepared to invest in training their compliance staff so they can operate in such a world?

One of the major limitations is our obligation to enact relevant EU legislation

There are other reasons why the extent to which we will be able to rely on principles rather than detailed rules is limited. One of the major limitations is our obligation to enact relevant EU legislation. This usually requires us to make rules and when combined with our commitment to use an "intelligent copyout" approach in reproducing the requirements of the EU legislation may prove a constraint on our ability to reduce the number of detailed rules in certain areas. There may also be areas where detailed rules are the only effective means through which we can secure the right regulatory outcome - it may be necessary to be more specific when addressing the asymmetry of the retail financial services market relationship between a firm and a customer than in the wholesale markets. But even within these constraints, I believe that more can be done.

Like most of the firms we regulate, the FSA is also in the business of identifying and managing risk. We have long been a standard bearer for risk-based regulation. Our other key priority for the future will therefore be to embed our approach for assessing and mitigating risk and allocating resource across the organisation. In 2006 this involves rolling out our revised risk-based ARROW (Advanced Risk-Responsive Operating FrameWork) model for the monitoring and supervision of firms and the risks they give rise to, whether individually or at a sector or industry-wide level. Whilst the new model will offer advantages for us internally, it will also offer benefits for firms. When supervisors report back to a firm following an assessment, the analysis will include more information than at present about our perceptions of the firm plus comparisons (using anonymised data) with that firm's peer group. Future improvements will include developing and piloting a self-assessment process for firms. We will continue to assess further the feasibility of using firms' internal management information for regulatory purposes, rather than standard forms.

The real world effects of these developments will depend very largely on the effectiveness of the people who work at the FSA. As CEOs, a major priority for us is therefore to design and implement a people strategy which will help us attract, reward, manage and develop the people we need to deliver this. This requires a focus on our management and leadership, our training and development programmes, our reward structure and recruitment. We will need people who are outcome focused, comfortable in operating with principles rather than rules and capable of making good judgments in the face of uncertainty and communicating these clearly to firms. And we need to deliver this in an environment where we do not have the discipline of the bottom line available to us.

This is a challenging agenda. But I believe we can demonstrate that it is possible to regulate better, to protect consumers and to maintain market confidence through means other than setting rules and through this secure greater benefits in terms of growth, diversity and liquidity in the financial markets.

Biography

John Tiner was appointed Chief Executive of the Financial Services Authority (FSA) in September 2003. He joined the FSA in April 2001 as Managing Director of Consumer, Investment and Insurance Directorate, following a broad ranging career at Arthur Andersen. As Managing Director Mr Tiner spearheaded reform of regulation of the insurance industry and handled the implications of testing conditions in the equity market. He also had the most senior responsibility within the FSA for consumer interests and for developing the regulatory regime for mortgage and general insurance business.

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