What is the UK regulatory framework?
UK financial regulation is undergoing its most significant overhaul since the 2008 financial crisis and promises to keep professionals in the country’s GBP 8 trillion asset management sector busy in 2024.
The country’s historic decision to leave the European Union (EU) in 2020 allowed the government to replace and refine many laws with more UK-specific legislation.
After a two-year consultation, the Financial Services and Markets Act 2023 (FSMA 2023) entered the statute book last summer, introducing changes that will impact asset management practitioners. The inclusion of environmental, social, and governance (ESG) data consistency, laws around artificial intelligence (AI), and proper regulation of cryptocurrencies were all front and center of the industry’s wish list.
As market participants digest changes to the UK regulatory framework while addressing the need to cut costs, boost efficiency, and generally do more with less, this year is shaping up to be pivotal.
The road to FSMA 2023
The UK officially left the EU on 31 January 2020, with provisions in place for EU laws to continue to be in effect until 31 December 2020. After this date, the government was free to begin restructuring and legislating specifically for UK requirements.
The process started with the ‘onshoring’ of EU laws into UK law as an interim measure while a new framework was discussed between stakeholders. This culminated in the December 2022 Edinburgh Reforms, an assortment of measures spanning domestic regulations and reviewing retained EU legislation. The Chancellor expanded on the measures in his Mansion House announcement in July.
The initiatives and legislation proposed in these discussions are finally coming to fruition, and the long-awaited amendments to the Financial Services and Markets Act 2000 (FSMA) were passed into law on 29 July as FSMA 2023.
The change and implications
The government now has the power to repeal ‘onshored’ EU law and build a framework that will enable the financial services bodies — the Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) — to establish a revised set of rules and regulation for the industry.
Significantly, FSMA 2023 introduces the Designated Activities Regime (DAR). This will impact the asset management community as it enables the FCA to create rules around ‘designated activities’ that are not currently authorized or regulated by the financial services watchdog and those that are.
The act also provides a mechanism for updating some of the legislation present in FSMA 2000, but the most exciting part of the new framework is the inclusion of ESG, AI/machine learning, and digital assets such as cryptocurrencies. The current legislation in these areas is sparse to non-existent, so it is significant that these areas are being addressed as part of the new framework.
For the Investment Management sector, the FCA is eager to promote more proportional regulation and drive innovation through regulation.
This includes keeping the core of the Alternative Investment Fund Managers Directive (AIFMD) and making it more proportional rather than applying only to those above a certain threshold of assets under management. The AIFMID, which regulates hedge funds, private equity firms, and other such alternative funds, has been criticized by some as too costly, so changes to mitigate those perceived onerous costs are welcome.
Simplifying the retail rules for non-UCITS (Undertakings for the Collective Investment in Transferable Securities) funds is also a focus for the FCA, as is creating a blueprint for fund tokenization using direct ledger technology. UCITS is a regulatory framework that allows for the sale of cross-boundary mutual funds for EU member states.
The overarching goal of this legislation and regulatory overhaul is to create an environment for financial services to thrive and be more competitive globally. Additionally, the FCA and PRA’s ‘secondary’ objective is ‘to act in a manner which facilitates the international competitiveness of the UK economy and its growth’.
It is more critical than ever for the financial services sector to be aware of changes to the regulatory framework in the UK and differences that may emerge with its neighbors.
In a symbolic moment on the path to creating a more coherent and integrated capital markets infrastructure in the EU, the European Parliament on 16 January voted to adopt the revised Markets in Financial Instruments Regulation (MiFIR) and the Second Markets in Financial Instruments Directive (MiFID II).
As the UK tidies up its rule book inherited from MiFID II and innovation sweeps the industry, market participants must have efficient technology-backed processes in place to ensure they stay compliant in the face of any regulatory divergence between the jurisdictions.