Regulation of the financial services sector is complex. One need only look at the global financial crisis in 2008, and the scramble to regulate banks and insurers that ensued. And it would be easy to argue that this regulatory scramble hasn’t quite ended. In fact, in a policy document published by Treasury in 2011, then Minister of Finance Pravin Gordhan argued that ‘while the recession is over, the crisis and the results of the crisis still linger as financial stability is not yet secured internationally’.

The policy medicine for this, Treasury contends, is a shift to a ‘Twin Peaks approach to regulation, characterised by separate prudential and market conduct regulators’. The history is important. In recent decades, our financial regulation has mostly been modelled on countries with which we’re historically linked – mostly Commonwealth nations. Out of the four regulatory approaches globally – institutional, functional, single-regulator, Twin Peaks – in the early 1990s we favoured the integrated, or single-regulator, option.

Having a single regulator is not inherently bad. Indeed, until recently, the UK too followed this approach. There’s no jurisdictional arm-wrestling and, Treasury asserts, ‘oversight is broad as well as deep’. However, as it sums up superbly, there is ‘likely to be conflict between prudential regulation (which requires “thinking like a banker”) and market conduct regulation (which requires “thinking like a customer”).’

The global financial crisis was the catalyst. The UK blinked first but it’s not as if the Twin Peaks approach was invented as a consequence of the crisis. Countries such as Australia, Canada and the Netherlands have followed this model for more than a decade.

Twin Peaks ‘separates regulatory functions between at least two regulators: one that performs the prudential supervision function and the other that focuses on business conduct regulation’.

In practice, this means a significant departure from the current regulatory framework in which, according to KPMG, the responsibility of prudential regulation and market conduct regulation is shared by the South African Reserve Bank and the Financial Services Board, as well as the National Credit Regulator and the National Consumer Commission.

‘From a regulatory review perspective, I can see only good things coming from this’

NADIA MULLER, HEAD OF LEGAL AND COMPLIANCE, SYGNIA GROUP

Crucially, Treasury says it is likely that a move to a Twin Peaks system ‘would cause the least amount of disruption to both market participants and to the regulators themselves’. By the time these reforms are implemented by Treasury, with the 2015 to 2017 window looking likely, it will have been a decade since government’s formal review of the country’s financial regulatory system. This culminated in the 2011 policy document.

Twin Peaks has garnered more admirers than critics, with the country’s largest banks and insurers in favour of the approach. Then again, it’s not like any of them would want to pick a fight with Treasury.

In an op-ed in Business Day last year, outgoing chief executive of Sanlam Johan van Zyl argued that Twin Peaks legislation is absolutely the ‘correct [approach] for the country’. In fact, he says, it is ‘more relevant and applicable in SA than elsewhere in the world such as, for example, in the UK. This is due to SA having a more concentrated and intertwined financial services sector’.

He pointed to the fact that in this country, the ‘financial services sector represents more than 30% of the economy. We have four or five big banks and we have five big insurers.

‘On a prudential level, the insurers supply substantial liquidity to the banks. These things are all interlinked. For this reason, you cannot regulate the banks separately from the insurers because we are working with the same pot of money.

‘We support it because it also makes sense to us in our context. Yes, we should learn from the experiences of other countries such as England, but here in SA, a Twin Peaks approach is the most sensible to follow – and Sanlam supports it.’

The main criticism levelled at efforts to increase regulation in the sector is cost.

‘In the medium term, in order to implement future planning to prevent the next financial crisis, further costs are likely to be incurred but will be beneficial in the long term,’ says KPMG.

‘It is important to find a balance between cost and benefit, between those regulations necessary to make a safer financial system and ultimately an improved economy.’

Even Minister of Finance Nhlanhla Nene agrees. ‘I am cognisant of the additional cost burden that the regulations in the aftermath of the financial crisis has on financial services companies, but this is outweighed by the benefits for the sector,’ he told the Discovery Financial Planning Summit in May this year.

‘Regulations must have a purpose,’ he said, and that is to ‘protect consumers and provide stability for the industry’.

That’s the idealistic view. However, the blurring of the lines between banks and insurers – not just in South Africa but globally too – has regulators, including our own, in effect catching up.

‘I also do not agree with statements made on market conduct and the Financial Services Board (FSB) –that the Reserve Bank has never regulated insurers before and does not have the skills, expertise, experience or background for the task, and that the FSB has never regulated banks and knows nothing about how banks operate,’ says Van Zyl.

‘The JSE’s world-leading ranking as front-line securities regulator has put it in an excellent position’

NATALIE LABUSCHAGNE, HEAD OF POLICY, JSE

‘The reality is that over the past 10 years or so, we have seen an increasing overlap developing in the various products banks and insurers offer. For example, insurers are offering credit and money market funds, and banks are offering investments such as unit trusts. And they take deposits.

‘At present, people are using regulatory arbitrage to do insurance with a banking licence or banking with an insurance licence. For this reason, we need the same set of rules in the marketplace; otherwise we face some serious future problems.’

Van Zyl’s views are echoed by Nadia Muller, head of legal and compliance for the Sygnia Group. ‘Much of the current legislation, if you look at it in isolation, is great,’ she says. ‘But in practice, when a company provides different products and services to an investor base, it becomes very intricate and very difficult to compare three or four or five different pieces of legislation to that one service.’

Often the legislations contradict each other. One example, she says is the new Protection of Personal Information (POPI) Act and the Financial Advisory and Intermediary Services (FAIS) Act.

‘There are certain restrictions that the FAIS Act places on financial services providers, while POPI allows certain things to take place in certain instances. From a regulatory review perspective, I can see only good things coming from this.’

The JSE will also be impacted in some ways, says Natalie Labuschagne, Head of Policy at the exchange.

‘In the past, the JSE has always maintained an open dialogue with the SARB but has never fallen directly within the SARB’s regulatory ambit. With the move to Twin Peaks, the JSE will fall within the mandate of the SARB, which will lead to more engagement between the JSE and the SARB on macro- and micro-prudential regulatory issues.’

Financial institutions that provide financial products (for example, insurance policies) or services (such as the buying or selling of equities) to financial customers must ‘undergo a significant cultural shift to meet the new conduct standards’, she says. However, the JSE – as an exchange and clearing house/market infrastructure – does not have financial customers and therefore these conduct standards are not expected to impact it.

‘The self-regulatory model will continue in its current form, with the JSE as front-line regulator, and we do not at this stage expect a significant change in how it, and other market infrastructures, will be regulated by the FSCA [the Financial Sector Conduct Authority, which will replace the FSB].

The compliance function can be neatly split to deal with the two regulators and their requirements

‘The JSE’s world-leading ranking as front-line securities regulator has put it in an excellent position to manage the transitions under the FSCA. Overall, however, the JSE does expect regulatory oversight to become much more intrusive,’ she says.

Arguably, the most contentious aspect of the Twin Peaks model is the market conduct regulation – or what the industry has apparently condensed into simply the ‘treating customers fairly’ (TCF) framework.

That said, market conduct regulation will be considerably broader. Along with TCF, it includes retirement reform, the retail distribution review and implementation of recommendations from the Jali Commission into banking, among others.

Treasury believes a revised legal framework, as well as the proactive responses to bad practices within the existing legal framework already under way, will result in ‘improved market conduct’.

Walter Muwandi, a fellow of the Association of Chartered Certified Accountants (ACCA) says: ‘Ordinary investors will benefit from the Twin Peaks approach given that one of the key objectives of the market conduct authority is the promotion of fair treatment of customers by the mono-regulated and dual-regulated organisations.

‘The other objective of the authority, of ensuring financial awareness and literacy of consumers, will make customers more discerning, thus increasing pressure on financial players to offer competitive and meaningful products and services.

‘Consequently, ordinary investors and customers should start seeing the financial players providing reasonably priced products, which are well thought out and appropriate to their requirements.’

Niki Giles, COO of the Sygnia Group, says that while it’s ‘difficult, given we’re not under this regime yet, it’s going to be quite useful having one regulator that’s focused on prudential matters’, and another market regulator, focused on ‘compliance and the client-facing side’.

Right now, she adds, the single regulator’s coverage is so broad that the compliance function can be asked anything ‘from capital to the disclosure in fund fact sheets’. Under the new regime, the compliance function can be neatly split to deal with the two regulators and their requirements.

While detractors argue about whether regulation has gone too far, the collapse of African Bank Investments Limited (ABIL) in 2014 proves the point, says Van Zyl.

‘The Reserve Bank acted timeously, clearly and decisively. It got the other banks to step in and provide collective support. But the original funding for ABIL comes from insurers and investors, including the big asset managers. This is why, from a prudential point of view, there is a need for them all to be managed as one system.’

By Hilton Tarrant
Images: Andreas Eiselen/HSMimages, Sarah Isaacs