Enhancing Effectiveness, Structure and Consumer Protection in Financial Regulation
Submitting InstitutionLoughborough University
Unit of AssessmentBusiness and Management Studies
Summary Impact TypeEconomic
Research Subject Area(s)
Economics: Applied Economics
Commerce, Management, Tourism and Services: Banking, Finance and Investment
Law and Legal Studies: Law
Summary of the impact
Loughborough University research into financial regulation has had a
significant and enduring influence on how regulatory bodies are structured
and how they use economic analysis. This work has been credited with
shaping the groundbreaking culture and methodology of financial regulation
in the UK with respect to consumer protection, recognising the special
characteristics of retail financial products and contracts and applying
cost-benefit and regulatory impact analysis in decision-making processes.
It has also played a major role in redefining financial regulatory
structure in the UK and South Africa. In addition, the research is now
being used to help develop and guide approaches to ensuring high standards
of bank regulation and consumer protection across the EU through the
European Banking Authority's Banking Stakeholder Group.
The importance of effective financial regulation has earned increasing
recognition in policymaker, professional and academic circles over the
course of the past 20 years, particularly in light of the global economic
crisis. Research by Loughborough University's David Llewellyn (Professor
of Money and Banking, 1976-present) has addressed a number of key themes
related to this issue.
Studies carried out between 1994 and 2004 explored the application of
economic analysis to financial regulation. This work focused on consumer
protection issues to develop an analysis of market failures, information
asymmetries, economies of scale and scope in monitoring and other related
concerns. Llewellyn identified the principal characteristics and market
imperfections in financial contracts and product markets which give rise
to potential consumer detriment and the case for consumer protection
regulation. The potential hazards in post-contract behaviour by financial
firms (and the resultant limitations of ex ante information
disclosure as a means of consumer protection) were highlighted. In
particular, the research offered a challenge to the arguments against
regulation commonly used at the time. Llewellyn suggested that, because
consumers rationally demand regulation, the costs involved are not
dead-weight and the provision of regulation can be welfare-enhancing.
Similarly, he argued that regulation might not be a zero-sum game or a
transfer of rents from producers to consumers: improved consumer
confidence in markets and financial products could also be beneficial to
financial firms [3.1, 3.2, 3.3].
As part of this research, Llewellyn was commissioned to develop
guidelines for the newly-created Financial Services Authority (FSA) with
respect to the application of economic analysis to financial regulation.
The resulting paper [3.2] set out key analytical issues regarding
the special characteristics of retail financial products and contracts.
Three features of the work set it apart and led to it being widely
acknowledged as a landmark in the field: it emphasised the requirement for
financial regulation to be firmly grounded in economic analysis and the
identification of market failures and imperfections; it set out the case
for evidence-based regulation in financial services; and it explained how
the cost-benefit approach to regulation might be conceptualised.
In a related strand of research, carried out between 1998 and 2005,
Llewellyn examined the optimal institutional structures and functions of
different regulatory agencies. This work developed concepts of integrated
and unified agencies. The main finding was that no single optimal
structure exists for all countries: it depends on history, political and
legal structures within a country, the complexity of the financial sector
and the stage in a country's economic development. Comparing the Twin
Peaks model (i.e. the separation of prudential and conduct of
business regulatory agencies) with the unified model used by the
FSA, Llewellyn suggested that the synergies between prudential and
systemic stability supervision were likely to be greater than those
between prudential and conduct of business regulation. The research argued
in favour of a Twin Peaks model, with the Central Bank serving as
the prudential peak [3.3, 3.4, 3.5].
References to the research
3.1. Llewellyn, D.T., 1995. "Consumer Protection in Retail
Investment Services: Protection Against What?", Journal of Financial
Regulation and Compliance, 3(1), 43-54, DOI: 10.1108/eb024826
3.3. Goodhart, C., Hartmann, P., Llewellyn, D.T.,
Rojas-Suarez, L., and Weisbrod, S., 1998, Financial Regulation: Why,
How and Where Now?, London, Routledge, ISBN: 978-0415185042
3.4. Llewellyn, D.T., 2005. "Integrated Agencies and the Role of
Central Banks" in ed. D. Masciandaro, Handbook of Central Banking and
Financial Authorities in Europe, Edward Elgar Publishing Ltd,
109-140, ISBN: 978-1843767893
3.5. Llewellyn, D.T., 2004. "Institutional Structure of Financial
Regulation and Supervision: The Basic Issues", in eds. J. Carmichael, A.
Fleming, and D. T. Llewellyn, Aligning Financial Supervisory
Structures with Country Needs, World Bank Institute, Washington, D,
The above outputs have made significant and original contributions to the
development of the economic rationale for financial regulation and the
application of economic analysis to regulatory policy; the analytical
foundations of cost-benefit analysis in this area; and optimal
institutional structures of financial regulatory agencies based on
countries' political and legal structures and the complexity and structure
of the financial sector.
Details of the impact
Llewellyn's research has had a major and continuing influence on how
financial regulatory bodies in the UK and elsewhere are structured and how
analysis is employed in the course of their decision-making processes.
Research into the application of economic analysis to financial
regulation guided the FSA throughout the impact period. In 2011 the then
Head of the authority's Economics of Financial Regulation Division
acknowledged in a published paper that Llewellyn's insights served as "an
important catalyst for the FSA's groundbreaking work" and "introduced
almost all of the concepts that have in practice proved to be important in
underpinning the FSA's work in the economics of financial regulation" [5.1].
Llewellyn's FSA-commissioned Occasional Paper, The Economic Rationale
for Financial Regulation, remained a key reference on the
authority's website until April 2013, when the FSA was succeeded by the
Financial Conduct Authority (FCA), and is still referenced in documents on
the FCA's website, illustrating the research's enduring importance [5.2].
The former Head of the FSA's Economics of Financial Regulation Division,
who is now Chief Economist of the FCA, remarked in his 2011 published
paper that Llewellyn's Occasional Paper "may be seen as a catalyst for the
FSA developing its use of economics in regulatory policy to an extent that
has not happened in many — possibly any — other financial regulator around
the world" [5.1]. The continued relevance of the research, not
least in the wake of the global financial crisis, has also been noted in
publications such as 2011's The Financial Crisis and The Regulation of
Finance, a chapter of which revisited Llewellyn's "classic work" and
observed that "much of what Llewellyn wrote... remains true today" [5.3].
The Twin Peaks model advocated by Llewellyn was adopted when
financial regulation in the UK was restructured in April 2013. Sir James
Sassoon, whom the Conservative Party commissioned to review the
institutional structure of financial regulation in 2008, quoted
Llewellyn's recommendation in his 2009 report, which served as the basis
for the overhaul [5.4]. Unveiling his findings in March 2009, Sir
James wrote in the Financial Times: "There are arguments for
adopting the `twin peaks' model... by replacing the FSA with two bodies
responsible for micro-prudential issues and conduct of business." [5.5]
The restructuring saw the introduction of the FCA and the Prudential
Regulation Authority, part of the Bank of England, reflecting the system
both highlighted in Llewellyn's original research - that is, a Twin
Peaks model that allows the Central Bank prudential oversight — and
recommended in his published evidence to the review.
Similarly, the South African National Treasury and the South African
Reserve Bank drew on Llewellyn's research into the institutional structure
of regulatory agencies in deciding to move to a Twin Peaks model.
Llewellyn was part of a team of international advisers whose proposal to
adopt such a system was adopted by the South African Cabinet in July 2011.
Explaining the reasons for the decision in a 2011 public consultation
document, Minister of Finance Pravin Gordhan wrote: "We have committed
ourselves to a wide-ranging set of reforms. One of the most important
strands of this work has been the effort to improve the institutional
structure to support financial regulation. A shift to a `twin peaks'
system... [will] separate the oversight of market conduct regulation from
prudential regulation." [5.6] The prevailing view within the South
African government had previously been that a unified model should be
adopted. A former personal adviser to the Governor of the Bank of South
Africa has noted: "Professor Llewellyn advised against this approach for
reasons which have been outlined in his published papers. His strong
preference was a Twin Peaks model, with the prudential peak being the
South African Reserve Bank. [His] opinion proved to be very influential."
In May 2011 Llewellyn was one of five officially designated "Top-Ranking
Academics" in the European Union (EU) appointed to the Banking Stakeholder
Group (BSG) of the European Banking Authority (EBA). He was the sole
academic from the UK. The BSG is an advisory and monitoring board of the
EBA and helps to facilitate consultation with stakeholders. It is composed
of 30 members, who are drawn from EU member states and represent credit
and investment institutions, consumers, SMEs and academia [5.8].
The group is consulted on actions concerning regulatory technical
standards and their implementation, offers opinions and advice and has the
power to submit requests to investigate alleged breaches or
non-application of EU law. As the BSG's first Vice-Chair and its Chair
since April 2013, Llewellyn has been developing and guiding approaches to
ensuring a high and consistent standard of bank regulation across the EU.
In the process, drawing on his research, he has been instrumental in
enhancing the status of consumer protection within the EBA's remit.
Llewellyn was re-elected as Chair of the BSG in October 2013 [5.9].
Sources to corroborate the impact
The following sources of corroboration can be made available at request:
5.1. Andrews, P., 2011. "Economic evidence and financial
regulation". Ch. 4 in C.J. Green, E.J. Pentecost and T.G. Weyman-Jones
(eds), The Financial Crisis and The Regulation of Finance,
Cheltenham, Edward Elgar Publishing Ltd, ISBN: 978-1849808705
5.2. Financial Conduct Authority webpage, Consultation Paper
CP11/10: "Consumer Complaints: The Ombudsman Award Limit and Changes to
(see page 29)
5.3. Richard J. Herring and Reinhard H Schmidt, 2011, "The
economic rationale for financial regulation reconsidered: an essay in
honour of David Llewellyn", in C. J. Green, E. J. Pentecost, and T.
Weyman-Jones (eds), The Financial Crisis and the Regulation of Finance,
Cheltenham, Edward Elgar Publishing Ltd, ISBN: 978-1849808705
5.4. Sassoon Report, 2009: The Tripartite Review: A review of
the UK's Tripartite system of financial regulation in relation to
5.5. Comment article by Sir James Sassoon: `Britain deserves
better financial regulation', Financial Times, March 8 2009: http://www.ft.com/cms/s/0/3decd86c-0c13-11de-b87d-0000779fd2ac.html#axzz2k9FVGwAM
5.6. Public consultation document: Implementing a Twin Peaks
Model of Financial Regulation in South Africa, Financial Regulatory
Reform Steering Committee, February 2013: http://us-cdn.creamermedia.co.za/assets/articles/attachments/43314_twin_peaks_01_feb_2013_final.pdf
5.7. Letter from former personal adviser to Governor of South
African Reserve Bank
5.8. Confirmation of membership of Banking Stakeholder Group,
European Banking Authority:
5.9. `EBA's Banking Stakeholder Group elects Chairperson' http://www.eba.europa.eu/-/eba-s-banking-stakeholder-group-elects-chairperson