The FSA has released a Discussion Paper containing four options for the future funding of the Financial Services Compensation Scheme (FSCS).
The FSA and the FSCS have worked closely with economic consultants, Oxera, in developing the Discussion Paper, as well as trade associations, the Consumer, Practitioner, and Smaller Business Practitioner Panels and a number of firms.
The options are:
A. The broad classes would stand alone with no cross-subsidy between each class.
B. Above the broad classes would be a general pool whose operation would be triggered by catastrophic losses which overwhelmed a single class.
C. Sub-classes would be included within the broad classes. Each sub-class would meet the first tranche of liabilities falling to it. Each class would then meet its own class liabilities, net of first tranches.
D. A widening net with sub-classes, classes and a general pool.
FSA managing director, David Kenmir, said: "Having an effective system for compensating consumers for losses incurred when a financial services company fails is a vital part of the regulatory system. The FSCS contributes directly to two of the FSA's four statutory objectives: protecting consumers and maintaining market confidence. The cost of compensation has to be met by regulated firms. We recognise that it is not possible to devise funding arrangements which will command universal support. However, through an open and fair discussion process, we hope to design funding arrangements which apportion the cost of compensation between regulated firms as fairly as possible. Discussions about this issue tend to focus on today's problems such as endowment mis-selling, but the scheme must also be capable of providing compensation for tomorrow's problems."
FSCS chief executive, Loretta Minghella, said: “The FSCS plays a vital role in maintaining consumer confidence in the financial services industry, a role from which all firms benefit. We need a funding structure that is sustainable, that smoothes volatility in compensation bills and provides sufficient funding to let us get on with the job we are here to do. We believe that sharing compensation costs across broader classes of firms in future will provide the fairest and most resilient system for the longer term.”
The Paper proposes dividing the scheme into a number of broad classes: life and pensions; securities, mutual funds and derivatives; deposits; general insurance; and mortgages.
Kenmir added: "We favour a solution, along the lines of Option B, which initially apportions the cost of compensation to the broad classes, and then once claims exceed a certain financial amount spreads the cost amongst all those who contribute. We believe this will be much more robust than the present arrangements, will allocate costs to firms that have a mutual interest in maintaining the confidence of consumers who use markets within which they operate, and will be relatively simple to administer."
After evaluating the responses to the Discussion Paper, the FSA will bring publish draft rules for funding the scheme in a Consultation Paper this autumn. The FSA expects that these will not come into effect before 1 October 2007.
