Just over a month ago, the Financial Sector Conduct Authority (FSCA) took over the responsibility for regulating South Africa’s financial services industry.
The creation of the organisation represents a major milestone in the government’s implementation of the much-anticipated ‘twin peaks’ legislation, which is set to drastically change the financial regulatory landscape in South Africa.
In 1998, Australia became the first country to adopt the revolutionary twin peaks model. However, 20 years later, the country’s financial industry is caught in the middle of a major crisis. The former treasurer of the country even went as far to say things are worse now than they were during the global financial crisis.
The current trouble stems from several scandals that have rocked Australia’s financial and banking sector in recent years. These controversies include the Commonwealth Bank of Australia, in January, paying nearly A$2m in compensation to clients who had received poor advice from five former advisers.
‘There are certain deficiencies in other regulatory models that remain unaddressed. Twin peaks is the only model that addresses those shortcomings’ Andy Schmulow, Senior Adviser, DB & Associates
A royal commission has now been launched into Australia’s banks and financial institutions, which is expected to have dramatic outcomes.
Given the current situation in Australia, International Adviser examines why industry experts are confident that South Africa will not experience the same fate.
Two sheriff town
The twin peaks model is so named because it creates two regulatory authorities.
In South Africa, the two authorities both commenced operations on 1 April, with the first peak being the FSCA.
The second peak will be the Prudential Authority (PRA), which will regulate financial institutions, including banks.
Andy Schmulow, senior adviser at management consultant firm DB & Associates, said what is less well known is that the reforms will also introduce a new regulatory enforcement approach.
No longer will enforcement be conducted in relation to breaches of specific provisions but will rather focus on outcomes.
Schmulow said: “Principled, outcome-based regulation does not seek to implement a black letter law approach where there is a lot of focus around how to interpret a particular word, or if someone has breached a particular section of legislation.”
He added: “Instead, principled legislation looks at the outcome. For instance, it will ask if we have a lot of disadvantaged consumers. “It creates a much larger target for the regulator and it makes it potentially much easier for the regulator to determine if a rule has been breached.”
Fit for purpose
The FSCA and the PRA replace the Financial Services Board (FSB), which was acting as a blanket regulator.
Shayne Krige, head of investment funds and private equity at Werksmans Attorneys, said under the old FSB system, South Africa had an “integrated” approach to financial regulation, with the FSB acting as a “super-regulator”.
As a super-regulator the FSB had responsibility for regulating both the conduct of the financial markets participants, such as investment managers, and the prudential soundness of financial institutions, like banks.
Krige said: “The main advantage of the super-regulator approach is that it focuses limited resources, notably personnel, in countries where these resources are scarce.
“However, critics argue that market conduct and prudential regulation require
fundamentally different approaches and cultures, and note that no country that has ever adopted twin peaks has ever gone back to a super-regulator model.”
Schmulow added that, without doubt, twin peaks is a superior regulatory model.
“There are certain deficiencies in other regulatory models that remain unaddressed, and those are so serious they cannot be overlooked.
“Twin peaks is the only model that addresses those shortcomings.”
Ding dong down under
According to Schmulow, Australia went wrong with the twin peaks model because of its “appalling implementation”.
He said under twin peaks, Australian regulators fundamentally failed to grasp how a principled, outcome-based approach operates compared with a rule-based one.
“The reason it failed in Australia is because the regulators got it into their heads that part of their job is to facilitate business.
“That confusion came from the fact they combined the Australian Securities and Investments Commission with a business registration function.
“When I have been speaking to the South African authorities I have been saying the lessons we have learned in Australia, which have come out in the royal commission, is that our banks had absolute contempt for the regulator and for the law.
“The only way you change that situation is by demonstrating you are a tough, [no-nonsense] regulator who has adequate resources and will prosecute the big end of town,” said Schmulow.
He added that in his conversations with the South African regulators he has been quite impressed in their understanding that a tough approach is needed to make twin peaks work. “South Africa’s regulators take this seriously and are genuinely concerned that the new regulator has the credibility it needs to be tough,” he said.
He believes twin peaks will create a new financial environment in South Africa that puts emphasis on the consumer.
“Twin peaks will change the emphasis on the branch of law known as consumer protection. Traditionally, under the law of contract there was no consumer protection.
Two parties would sign a contract by which you were bound.
“We now understand there are power imbalances in contracting parties and so what we have done is try to address consumer protections through black letter law.
Schmulow said: “Twin peaks takes this a step further and focuses on what is best for South Africa’s consumers through an outcome-based approach.”
This article first appeared in the International Adviser, a UK financial services publication