Speaking at the Dublin Funds Industry Association conference, George Tracey tells Dylan Emery about the regulatory plans that are set for Ireland's financial services industry
The Central Bank of Ireland is undergoing a period of substantial change. The present structure is quite simple: departments reporting to the assistant director general, the management board, and ultimately the board and the governor of the central bank. But that's changing this year.
The bank is responsible for credit institutions, investment intermediaries, insurance intermediaries, bonds, the exchange, stock brokers and so on, but it is not responsible for credit unions, insurance companies or consumer issues ' that is going to change. The government has published a bill that has just gone through its second reading, called the Central Bank and Financial Services Authority of Ireland bill. This will create a new organisation called the Financial Services Regulatory Authority (Ifsra). Ifsra will have a dedicated director in charge of consumer affairs, consumer education and consumer protection who will be a member of the board.
It will have a strong liaison role with consumers, the industry and others. It will also consider the issue of funding. Unlike the current situation where the Central Bank doesn't raise any regulatory fees whatsoever, this body may be partially funded by the imposition of regulatory fees. Ifsra will carry out its role largely independently of the bank, but there will be some crossover. The new body will have a direct reporting line to the minister of finance and it will also be a financial services ombudsman, although details of how that will work out are contained in an upcoming bill.
According to George Tracey, deputy head, IFSC and funds supervision, Central Bank of Ireland, it will be the most fundamental change since the bank was set up.
However, there are many age-old issues the regulator will have to continue to cope with as the financial services industry in Ireland continues to increase in size and complexity. One issue is the implementation of the various pieces of cross-border legislation, like Ucits. Another will be the ongoing problem of fraud.
Tracey admits: 'At the end of the day, we can never entirely eliminate an individual who's intent on fraud ' it's not possible unfortunately but I think that from our point of view we place a lot of emphasis on procedures. Unlike some regulators we do actually go into people's offices and have a look around. Whether or not we have enough resources to do that to the nth degree ' well, that's always a balance between cost and effectiveness.
'It takes a scandal of Enron proportions to bring home to everyone in the industry that we're all in this together. The regulators and the industry participants are not on different sides of the fence ' we're coming from the same side. The industry will only prosper if the man in the street has confidence.'
Avoiding red tape
The sluggishness of the EU bureaucracy and legislative is another problem. For Ucits, Tracey found negotiation was particularly difficult with a lot of people protecting their home markets.
'Having participated in debating the Ucits directives I'm always amazed we got the directive at all because it was an excruciating exercise,' he comments.
Nonetheless, European complicity was essential to the success of Ireland's financial services sector. With the introduction of the first Ucits directive and the establishment of the IFSC in Dublin, the seeds of growth were sown. However, it took a little time and it was only in the mid-1990s that the funds industry started to take off, according to Tracey. Today Ireland has a respectable E312bn in assets under management within 3,000 established funds, including sub-funds.
One of the main factors of growth, according to Tracey, was that promoters found Ireland to be a low-cost, tax efficient base to promote their products into Europe, especially promoters from the three main countries from where promoters are today drawn: the US, the UK and Germany.
Ucits is extremely important in the context of Ireland. Since 1998, growth in the net asset value of Ucits has outstripped non-Ucits products. At the end of March 2002, Ucits products accounted for 77% by value of the total assets. This context should not be forgotten, says Tracey.
'There is a lot of talk about the importance of hedge funds in Ireland,' he says. 'But by far the greatest proportion is still accounted for by Ucits products. We now have a range of retail, professional investor, qualifying investor funds, open-ended, closed-ended and, more recently exchange traded funds, which have elements of both.
'However, the speed of growth in Ireland has thrown up a lot of problems and challenges for us as a regulator,' he admits. 'When we were drawing up our rules, many of the positions we set out were drawn directly and unashamedly from the UK's rules and we drew on the experience of the Luxembourgers as well. For example, the requirement in Ireland to have the trustees report included in the annual accounts of funds was drawn from the UK.'
At a macro level, the Central Bank's objectives are to maintain high quality of regulation and keep up with EU and the International Organisation of Securities Commissions (Iosco) standards.
Tracey says: 'We conducted a one-day onsite inspection of every service provider in the funds industry over the last year and a half to establish a risk rating system to be able to focus our resources more effectively.
'The authorisation process we use is designed to avoid problems further down the road. We monitor compliance on an on-going basis through onsite and offsite procedures. We try to intervene as early as possible to correct what we perceive as shortcomings in our firms and we try to develop and train our staff ' although it's quite difficult to get staff in the first place.'
He claims the bank has always treated IFSC-based firms and non-IFSC-based firms in the same way. As a result the disappearance of the tax ringfence around the IFSC will have little or no practical effect on the bank's regulation policy.
'We maintain an open door policy to fund promoters and firms working the area,' he continues. 'So it is quite easy to get a meeting with officials of the Central Bank. For us we follow what is happening in the market, but the industry also gets a first-hand knowledge of our concerns and the reasons why we are imposing new rules.
'With the growth of the industry we find ourselves exposed to practitioners with a deep knowledge of the industry and we find ourselves communicating more frequently with the Securities and Exchange Commission (SEC). We found that has helped us expedite quite a lot of policy issues and many cases we have adopted SEC-type solutions. One example is Ireland was the first European country to introduce a Ucits exchange-traded fund.
'That said, decisions taken by the SEC don't necessarily translate well into the European context, notwithstanding the fact that the issues might be quite similar.'
There are legislative differences in the bodies as well. The SEC has more power to interpret legislation and new rulings than the Irish regulator and there are different requirements as regards to the role of the custodian and independent directors. That can give rise to confusion from promoters coming from the US.
carry on learning
The bank has been on a steep learning curve. 'While we have reached a certain maturity and critical mass, I think that process of learning is going to continue,' Tracey says.
'We have recently become a member of Iosco's standing committee number five, which deals largely with funds regulation. Even though we've only attended a couple of meetings at this stage it is very interesting and I hope the bank will be a good contributor in the coming years.'
In terms of practical regulation, the first line of defence for the bank is the authorisation process. The bank wants to ensure the fund has the experience, the resources and the understanding of the products it is creating. The regulator reviews the investment manager, prospectuses and contracts in detail and contacts the relevant foreign regulators to ensure the parties have the proper regulatory standing.
The service providers in Dublin go through a full authorisation process ' ownership, resources, competence, systems and so on. The bank carries out direct regulation through a series of onsite inspections of service providers and also conducts offsite annual reviews with the principals of each company.
'Regulation in Ireland also puts a strong responsibility of the trustee,' says Tracey. 'We rely on the trustee very much because they are the eyes and ears on a day-to-day operational basis.'
However, Tracey recognises much investment management is done outside the state. In many areas therefore fund administrators have generally been forced to take on the responsibilities for the fund.
'In order for us to complete our duties as a regulator, we require a number minimum activities to be carried out in the state,' he continues.
'This is becoming more difficult and is one of the more contentious areas in regulation. Mainly because developments in technology make this quite an expensive process for fund promoters and it is one of the issues there will be more focus on in the next year or so.
'On the trustee side, the duties are pretty onerous for them. The liability on trustees is also quite heavy and we see them as having a critical role in Ireland.
'Auditors also have an strong role to play and legislation sets out pretty clear duties for auditors. If they have any reason to believe the law has been broken and investors are being mislead in relation to the financial information published by the fund ' the fund is insolvent, or they propose to qualify the report in any way ' then the auditor, without any delays, must come to the central bank and report that.
'We also have powers to require auditors to prepare reports for us and submit information. And I believe there will be a bill published shortly setting out some other duties in general for the auditing community.'
Overall, Tracey sees the role of the regulator as a mediator between all the competing interests, including those of the distributors, the product providers and the end investors.
He summarises: 'There is an element of trying to be all things to all people, but at the end of the day it's about maintaining a balance within the overall framework of reinforcing confidence in the financial system and doing so in as cost-effective manner as possible.'
The setting up of Ifsra will be one of the most fundamental regulatory changes that the Irish financial service industry has seen, according to Tracey.
The Central Bank's objectives are to maintain high quality of regulation and keep up with EU and Iosco standards.
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