Financial Services Must Act To Restore Trust

Everyone agrees that something must be done, and soon, to restore trust in financial services. The sector has acquired a toxic reputation, and is now seen by some as systemically and institutionally perfidious.

Moreover, in the wake of the financial crisis, the inherent complexity of the system has become a challenge, not only to those outside the sector, but also for those within.

However, this technical complexity seems to obscure the fact that financial services only really provide five essential functions: forms of money, stores of value, finance, investment, and risk management. These are all vital services, but it seems almost as if the sector has forgotten that it is, ultimately, a service industry.

Regulators around the world have been working on ensuring their rules are not only up-to-date but also robust.

Local regulators are doing the same; the UAE Central Bank has introduced amendments to its liquidity regulations and the potential for a new financial services regulatory structure is being discussed.

Dubai Financial Services Authority (DFSA) chief executive Ian Johnson has also said that the DFSA will be looking more closely at incentives and rewards in the sector, and what effects these have on behaviour.

Financial services are clearly extremely important to both the UAE and the Middle East in general. Standard & Poor’s estimates that it generates over seven per cent of the MENA region’s GDP and that financial services account for around 40 per cent of market capitalisation in the GCC, with over 200,000 people working in the sector.

The region has not experienced scandals similar to those that have come to light in the UK and the US, such as LIBOR-manipulation or mis-selling, but financial services is such an internationally integrated area that an issue the other side of the globe can have profound effects that are felt worldwide.
Regulation alone is not enough

But restoring trust in financial services cannot be simply left to regulators. Of course strong and rigorous regulation is vital, but there is only so much it can achieve. Moreover, too much regulation can have an adverse effect on behaviour – it can lead to a ‘compliance culture’ where the emphasis is on ticking boxes rather than on ethical principles.

Far more important is the culture of the industry. We need a new paradigm centred on integrity and competence. Those at the top must lead by example, business models should promote integrity and there should be more focus on professionalism. Furthermore, financial services need to become easier to understand.

There are currently products in the market that are so complicated almost no-one really understands them fully. Not only are these inappropriate for customers, who cannot properly judge if they meet their needs but it also means that the only people who do properly comprehend them are often so specialist they do not properly appreciate broader risks and cannot necessarily anticipate wider problems.

Practical solutions outlined

In a recent report, Market Failures; Market Solutions, ICAEW outlined seven areas where the financial services industry needs to take action:

– Focus on providing services that support the economy rather than selling products or short-term profits
– Take a constructive approach to dealing with regulators and consumers
– Place more emphasis on preventing avoidable failures and improve the way it reacts when problems occur
– Establish professional communities that set standards for behaviour and that can apply sanctions to both individuals and firms
– Change business structures so that they promote integrity
– Invest in staff training to ensure they understand wider concepts to better understand risk and reduce dangers of mis-selling
– Improve the way products and services are described and offered, and help promote financial literacy more broadly.