Part 6 Chapter 1

Government Policy

The regulation of the financial services industry in the United Kingdom has developed piecemeal over time.1

1â Introduction

This chapter identifies and explains the policies adopted by the UK government towards the banking sector. The chapter begins by providing a brief historical account of the development of banking regulation from the creation of the Court of Alderman in the seventeenth century to the Financial Services Bill (2011). The chapter identifies the contrasting policies adopted by the Labour government (1997–2010) and those proposed by the Coalition government.

2â History of banking regulation: early policy initiatives

The first attempt to regulate financial activity in the United Kingdom occurred in 1697 when legislation was enacted that required those who worked within the ‘City of London’ to be licensed annually by the Court of Alderman.2 The regulatory regime required licensees to take an oath that they would undertake

1D. Scott and J. Herbst. ‘The Financial Services and Markets Bill: regulation and the 21st century’ (1999) 1(1) Journal of International Financial Markets 33, 33.

2J. Fisher and J. Bewsey. The Law of Investor Protection (London, 1997) 13.

transactions honestly and without fraud. Gilligan took the view that the 1697 Act ‘was a crucial legislative initiative because it was the first attempt by any government to impose certain standards of probity and competence upon those dealing in the embryonic securities market’.3 The next piece of legislation enacted was the Bubble Act 1720, which was followed by an Act to Prevent the Infamous Practice of Stock-Jobbing in 1734.4 However, this legislation only lasted until the early part of the eighteenth century and was replaced by the Joint Stock Companies Act 1844 and the Limited Liability Act 1855.5 It was not until 1939 that any direct legislation applied to the financial services industry. The Prevention of Fraud (Investments) Act 1939 was the first piece of legislation that aimed to protect investors. The 1939 Act was amended by the Prevention of Fraud (Investments) Amendment Act 1958, which gave the Board of Trade the authority to appoint inspectors to investigate the administration of unit trusts. Gilligan noted that these two pieces of legislation ‘were notable for the improvements they brought in licensing standards’.6 Conversely, Fisher and Bewsey argued that they ‘were of very limited scope in practice, regulating only a fraction of investment business’.7 The impact of this legislation was negligible and it resulted in the City of London becoming self-regulating.8 This is a stance supported by other commentators, who noted that financial markets in the United Kingdom have a ‘long-held traditions of self-regulation’,9 as influenced by the ‘essentially private character of the Bank of England and the Stock Exchange’.10

The next major reform was the Financial Services Act 1986, which represented a complete statutory overhaul of the Prevention of Fraud (Investments) Acts. The reform process began in 1981, when Professor L.C.B. Gower was appointed by the government to undertake a review of the legislative protection required by investors, following (according to Professor Gower himself) ‘the collapse, in close succession, of two major firms of the new breed of investment managers. The second and more sensational of these left both the Department of Trade and the Bank of England with egg on their faces.’11 He published his initial views in a discussion document in 1982 and indicated that he would have preferred to recommend the creation of a ‘US-style securities commission, but acknowledged that political constraints made it impossible. Instead he recommended a new Securities Act which would establish wide-ranging self regulatory authorities which would be funded by the industry.’12 Professor Gower also stated that

3G. Gilligan. ‘The origins of UK financial services regulation’ (1997) 18(6) Company Lawyer 167,Â171.

4 Ibid.â 5â Ibid. 174.â 6â Ibid. 176.

7See Fisher and Bewsey, above n. 2, at 13.

8C. Blair. Financial Services and Markets Bill, House of Commons Research Paper 99/68 (London, 1999) 7. For an excellent discussion of self-regulation and its application to the financial services sector, see A. Page, ‘Self-regulation: the constitutional dimension’ (1986) 49(2) Modern Law

Review 141.

9 See Gilligan, above n. 3, at 169.â 10â Ibid. 170.

11L. Gower, ‘Big bang and city regulation’ (1988) 51(1) Modern Law Review 1, 7.

12See Gilligan, above n. 3 at 173. In 1981, Gower wrote ‘the main City bodies were livid. They denounced me for having, exceeded my brief by suggesting regulation of the elite merchant

409 2â History of banking regulation: early policy initiatives

he wanted statutory regulation of investment business under the guidance of a financial regulatory agency.13 He admitted that this would be almost impossible to achieve because the sector was committed to the concept of self-regulation.14 However, ‘revelations about the scandals at Lloyd’s, misdeeds by some Stock Exchange members and criminal behaviour and the collapse of many commodity firms tarnished the City’s reputation both nationally and internationally’.15 On producing his final report in 1983, Professor Gower recommended that the Prevention of Fraud (Investments) Acts should be replaced by a new Investor Protection Act, the aim of which would be to provide the framework for a comprehensive system of regulation of investment business based upon self-reg- ulation, subject to government surveillance.16 Following the publication of the report, two groups were created; one under the guidance of the Governor of the Bank of England to advise on the structure and operation of the self-regulatory groupings, the other under the Parliamentary Under-Secretary of State for Corporate and Consumer Affairs to advise on the prospectus for practitionerbased regulation of the marketing of life insurance and unit trusts.

In October 1984, the government published a White Paper, which endorsed a majority of the recommendations made by Professor Gower.17 The White Paper stated that its proposals comprised a system of ‘self regulation within a statutory framework’.18 However, Professor Gower argued that ‘a more accurate description of what has emerged is statutory regulation monitored by self-reg- ulatory organisations recognised by, and under the surveillance of, a self-stand- ing Commission’.19 Gilligan was highly critical of the proposals, which upheld the independence of the City of London rather than protected investors.20 The White Paper envisaged two practitioner bodies, the Securities and Investments Board (SIB), covering the regulation of securities and investments, and the Marketing of Investments Board (MIB), covering the marketing of investments. After the publication of the White Paper, the MIB was established in the form of an organising committee, but it was subsequently decided that it should merge to form a single body, the SIB. Lomnicka took the view that ‘the SIB was incorporated in … anticipation of the [Financial Services Act], 1986’.21 The SIB exercised both legislative and administrative functions, and was described as an ‘umbrella organisation’.22 It supervised self-regulating organisations (SROs),

banks and Stock Exchange firms when all that was needed was effective regulation of the fringe operators’. Gower, above n. 11, at p.8.

13See Gower, above n. 11, at 8. FSA 1986, s.114(1) permits the Secretary of State to create a ‘designated body’ if he wishes to delegate his powers under the Act.

14 Gower, above n. 11.â 15â See Ibid. 8.

16Review of Investor Protection, Cmnd. 9125 (1984).

17Financial Services in the UK: A New Framework for Investor Protection, Cmnd. 9432.

18 See Gower, above n. 11, at 11.â 19â Ibid.

20See Gilligan, above n. 3, at 169.

21E. Lomnicka, ‘Making the Financial Services Authority accountable’ (2000) Journal of Business Law 65, 66.

22Ibid. 67.