The deterrence effects of the Financial Conduct Authority’s authorisations activities [pdf]

The Financial Conduct Authority, FCA, has published a report created by London Economics, „one of Europe’s leading specialist economics and policy consultancies“ located in London. The report presents the findings from an analysis of
– how the activities of the FCA during the application process deter firms potentially jeopardizing the UK financial market from entering this market, that is how the FCA’s application process prevents them from advancing their application with the FCA; and
– the potential benefits in terms of prevented harm of the FCA’s application process.
The analysis also looked at various other aspects of the authorizations process and their impact on firms‘ (application) behavior. The study was commissioned by the FCA itself to ensure that the Authority’s application process meets the key objectives of the regulator, namely
– the reduction and prevention of serious harm;
– the setting and testing higher standards; and
– the promotion of competition and positive change.
The key findings of the study are briefly noted below. For more detailed, comprehensive information, please refer to the enclosed report. It shall be noted that the analysis distinguished between the „direct“ and „indirect“ effects of the FCA application process: Direct effects are those effect that resulted directly from firms engaging with the FCA for filing for authorization; that is, applications were modified during the authorization process. Indirect effects are those resulting in firms never filing for authorization due to knowledge about the FCA’s authorization process or firms‘ changing their behavior prior to applying with the FCA based on such know-how.
##### Key findings
– The FCA’s authorization activities have a significant deterrence effect, with the indirect effects being more prominent than the direct ones. Among firms seeking authorization, a greater number of them change their behavior even before the FCA becomes aware of their application (indirect effects), compared to those who change their behavior in response to direct FCA involvement. In fact, for every firm that changes its behavior directly due to FCA involvement (direct effect), 1.49 firms change their behavior as a result of the deterrence effect. This multiplier is even higher, at 2.53, for firms seeking new authorizations.
– The deterrence effect is particularly effective in preventing infringements. The infringement deterrence multipliers are greater than the firm deterrence multipliers. The overall infringement deterrence multiplier indicates that for every infringement prevented directly due to the FCA’s authorization activity, 6.6 infringements are prevented because of the deterrence effect (indirect effects). This suggests that firms more likely to commit infringements are also more responsive to the deterrence effects of the authorization process.
– The FCA’s authorization process generates significant value by preventing harm. It is estimated that the process generates between £866 million and £1.4 billion in benefits annually by preventing infringements, with most of these benefits related to the prevention of harm (e.g. monetary losses).
– Some aspects of the FCA’s authorization process are more effective at deterring potentially harmful firms, particularly those related to background checks of directors or pre-application calls.