Chapter 3: Regulation Flashcards Preview

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Flashcards in Chapter 3: Regulation Deck (27)
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1
Q

4 Principle aims of regulations

A

G - Give & maintain confidence in the financial system
R - Reduce financial crime.
I - to correct perceived market inefficiencies and to promote efficient and orderly markets
P - to protect consumers of financial products

2
Q

Direct costs of regulation

A
  • administering the regulation (eg. costs for collection/examination of information from mkt. participants & monitoring their activities)
  • The cost incurred by regulated firms to comply with regulation (compliance of the regulated firms)
3
Q

Indirect costs of regulation

A

P - reduced product innovation
U - an undermining of the sense of professional responsibility amongst intermediaries and advisors
M - a reduction in consumer protection Mechanisms developed by the market itself
A - alteration in the behaviour of consumers, who may be given a false sense of security and a reduced sense of responsibility for their own actions
C- reduced competition

4
Q

2 reasons for the need for regulation

A
  • confidence (the dangers of problems spreading to other parts of the system, and the damage that would be done by a systemic financial collapse)
  • asymmetric information
5
Q

5 Functions of a regulator

A
  • VETTING & registration of firms/individuals authorised to conduct business
  • check the PRUDENTIAL management of fin organisations and the way in which they conduct their business
  • enforce REGULATIONS
  • investigate BREACHES
  • impose SANCTIONS
  • Review & influence GOV POLICY
  • EDUCATE consumers & the public
6
Q

It will be necessary to regulate:

A
  • deposit-taking institutions
  • financial intermediaries
  • securities markets
  • professional advisors
  • non-financial companies offering securities to the public
7
Q

Information asymmetry

A

The situation where at least one party to a transaction has relevant information which the other party or parties do not have.

8
Q

Anti-selection

A

People will be more likely to take out contracts when they believe their risk is higher than the insurance company has allowed for in its premiums.

Can also arise where existing policyholders have the opportunity of exercising a guarantee or an option. Those who have the most to gain from the guarantee or option will be the most likely to exercise it.

9
Q

Moral hazard

A

The action of a party who behaves differently from the way they would behave if they were fully exposed to the consequences of that action.
The party behaves less carefully, leaving the organisation to bear some of the consequences

10
Q

6 key outcomes to be achieved by the FCA’s TCF (Treating Customers Fairly)

A
  • Consumers can be confident that they are dealing with firms where the FAIR TREATMENT of customers is central to the corporate culture.
  • Products and services marketed and sold in the retail market are designed to meet the needs of identified consumer groups and are targeted accordingly.
  • Consumers are provided with CLEAR INFORMATION and are kept appropriately informed before, during and after the point of sale
  • Where consumers receive advice, the ADVICE IS SUITABLE and takes account of their circumstances,
  • Consumers are provided with products that perform as firms have led them to expect, and the associated service is of an ACCEPTABLE STANDARD and as they have been led to expect
  • Consumers do not face unreasonable post-sale BARRIERS imposed by firms to change product, switch provider, submit a claim or make a complaint.
11
Q

Main influences on policyholder expectations:

A
  • statements made by the provider, especially those made to the client in marketing literature and other communications
  • the past practice of the provider
  • the general practices of other providers in the market.
12
Q

5 Areas addressed by regulation - maintaining confidence

A
  • Capital adequacy
  • Competence and integrity
  • Compensation schemes
  • Investor protection (regulators seek to ensure that the mkt. is transparent, orderly and protects investors)
  • Stock exchange requirements
13
Q

Capital Adequacy

A

Institutions must hold sufficient capital to cover their liabilities

14
Q

Compensation schemes

A
  • funded either by the industry or by the government
  • provide recompense to investors who have suffered losses.
    Typically losses due to fraud, bad advice or failure of the service provider rather than market-related losses.
15
Q

3 Forms of regulation

A
  • Prescriptive
  • Freedom of action
  • Outcome-based
16
Q

Prescriptive regulation

A

Detailed rules setting out what may or may not be done.

17
Q

Freedom of action regulation

A

Involves freedom of action but with rules on publicity so that 3rd parties are fully informed about the providers of financial services.

18
Q

Outcome-based regulation

A

Prescribe the outcomes that will be tolerated.

19
Q

Advantages of self-regulation

A
  • The system implemented by the people with the greatest knowledge of the market, who also have the greatest incentive to achieve the optimal cost-benefit ratio.
  • Should be able to respond rapidly to changes in market needs.
  • May be easier to persuade firms and individuals to co-operate with a self-regulatory organisation than with a government bureaucracy.
20
Q

Disadvantages of self-regulation

A
  • The closeness of the regulator to the industry it is regulating. The danger that the regulator accepts the industry’s POV and is less in tune with 3rd parties.
  • Can lead to a weaker regime than is acceptable.
  • May inhibit new entrants to a market (existing participants frame rules)
21
Q

Statutory regulation

A

The government sets out the rules and polices them.

22
Q

Self-regulation

A

Organised and operated by the participants in a particular market without government intervention.

23
Q

Advantages of statutory regulation

A
  • less open to abuse
  • a higher degree of public confidence
  • maybe run efficiently if economies of scale can be achieved through grouping its activities by function rather than the type of business.
24
Q

Disadvantages of statutory regulation

A
  • Can be more costly and inflexible than self-regulation

- Outsiders may impose rules that are unnecessarily costly and may not achieve the desired aim.

25
Q

Mitigation tools: information asymmetries

A
S - restrict Selling practices
P - impose Price controls
I - prevent Insider trading
D - disclosure of information in plain language
E - Educate consumers
R - restrict knowledge to that which is publicly available
C - Cooling-off periods for consumers
C - Can establish Chinese walls
  • customer legislation on unfair contract terms and TCF
  • “whistle blowing” by actuaries if they believe the client is treating customers unfairly.
26
Q

5 Types of regulatory regime

A
  • Unregulated markets
  • Voluntary codes of conduct
  • Self-regulation
  • Statutory regulation
  • Mixed
27
Q

Roles of the central bank

A
  • Control the money supply
  • Determine interest rates
  • Determine inflation rates
  • Determine exchange rates
  • Target macroeconomic features such as growth and unemployment
  • Ensure stability of the financial system
  • Be the lender of last resort to commercial banks