Discusión

4.2.1 Manufacturer and distributor structure

The investment business regulatory structure is based on business practices which draw a distinction between the “manufacturers” and the “distributors” of financial products and services. For example, the “trusted adviser” with access to the client may assemble a number of investment funds suitable for their client from a range of fund managers. The latter can be described as the “manufacturers” of these funds while the adviser acts as the distributor. As explained earlier financial services regulation imposes a range of different obligations on each business. For example, the advisor has to understand their clients’ needs and to provide suitable advice. The fund manager, for example, has to look after 5 the clients’ money left with it for safe keeping pending investment in a fund. The 6

subsequent regulation of investment business has highlighted a continuing tension

FCA Conduct of Business Rules 9.2.1

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FCA Client Assets Rules: Principle 10 and Guidance 5.1.7

between “manufacturers of products” and “distributors” who sell the investments, all measured in levels of market share, commission payments, “ownership” of the client relationship, with the customer coming last. This conceptual approach to the conduct of 7 business regulation of the investment business industry is important in understanding the later regulation of mortgage business which, in many ways, not only adopted the same approach to regulation but also a similar market structure and comparable battle for access to customers. Finally, in this area it is important to distinguish between the

important credit and affordability assessments both of which need to be undertaken by the lender. These often cause considerable confusion and are considered next. Nevertheless, they are central to both macro and microprudential policy as well as conduct of business regulators.

4.2.2 The issue of credit and affordability assessments

Many of the issues relating to mortgage regulation hinge on a failure to distinguish between the “credit” and “affordability” assessments. The former is part of the prudential steps aimed at protecting the lender. It involves assessing the creditworthiness of the borrower and their ability to meet the servicing costs of the loan and their ability to repay the principle. If, for any reason, the borrower fails to meet their obligations some, or all, of the security may become forfeit and, in the UK, they can be pursued for any outstanding balance through the courts. The assessment of the borrower and the security they are able to provide to cover the lender’s risk, coupled with the lender’s “risk appetite”, have formed a fundamental portion of banking since the business was first developed in its modern form in medieval Italy and Flanders. However, although closely related to aspects of the 8 credit appraisal, the “affordability assessment” is different in concept, origin and

consequence. It is important to emphasis that the latter is regulated in order to protect the borrower, often from their own inclinations, intuitions and folly. The microprudential

supervisor will focus on credit while affordability falls within the purview of the conduct of business supervisor.

Discussed more fully by Kit Jebens, Lautro, a pioneer regulator 1986-1994, (private printing, 1997) and

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Jean-Jacques Laffont and Jean Tirole, ‘The politics of government decision-making: a theory of regulatory capture’, (1991), The Quarterly Journal of Economics 106(4), 1089

James Murray, ‘The Bruges credit and payments systems’ in Bruges: Cradle of Capitalism, (Cambridge

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Credit and underwriting departments, within banks and other well established lenders, have long been familiar with their traditional role of protecting their employer’s business. However, they have had to go through a period of process and cultural adjustment to implement the affordability regulations first promulgated in 2004 in the UK. The

requirements have become more onerous and they now need to carry out two separate assessments often using different data, for two different purposes. First protecting the lender from financial loss due to customer default and inadequate security and second, protecting the customer from over-borrowing contrary to the financial services regulations. This can often result in cultural confusion. Organisationally, compliance and credit staff have worked in separate “silos”. Credit staff are likely to be highly experienced credit officers with little exposure to others areas of regulation. Secured lending credit staff will normally concentrate on the value and adequacy of the security in relation to the risk exposure in order to ensure that the lender is protected. However, compliance staff come from a variety of backgrounds often with a legal or an operational perspective. In a

commercial bank their objective can be summarised as consumer protection and hence protecting the organisation from regulatory and reputational damage. Credit staff will use a specialist language of statistical analysis, determining levels and risks of probability of default, loss given defaults and exposure at default. The credit teams will be part of the business generation process and will work closely with the marketing, distribution and pricing units. Compliance, on the other hand, is exclusively a control function. In the UK it is generally kept separate from the Risk and Legal function. This often makes for poor 9 communication and understanding between credit and compliance staff who have different objectives, reporting lines and measures of success. These aspects have neither been addressed in the policy deliberations nor in the regulations themselves. This confusion may be seen in regulatory responses to the concerns expressed by the Financial Stability Board (FSB) addressed in the next section.