FCA calls for insurers to help solve FSCS puzzle

FCA chief executive Andrew Bailey has called for the insurance industry’s help on professional indemnity (PI) cover to help ease the pressure on the Financial Services Compensation Scheme (FSCS).

Speaking at the ABI annual conference this morning, Bailey pointed out that firms that are dual-regulated by the PRA and FCA, such as banks and insurance companies, have their own capital bases as a first line of defence against financial failure. They then can fall back on the FSCS if this line of defence fails.

Companies regulated solely by the FCA, such as agents, brokers and independent financial advisers, essentially rely on professional indemnity cover as their first line of defence.

The problem is that PI insurance does not always respond. Bailey said: “PI cover is not by experience always reliably performing the role, particularly in the IFA and investments world. The contracts are framed often in ways that rule out loss absorption in the context we are dealing with here when the firm fails.”

The result is that for FCA-only firms, the FSCS becomes a first line of defence rather than a backstop. But the FSCS does not charge a risk premium for the cover it provides, and so the costs are not related to the risk.

Bailey said the issue is relevant because the FCA is conducting a review of FSCS pooling on the agent side of its activities. The regulator is having to deal with two tensions. The first is how to spread the cost of FSCS cover enough to avoid damaging other firms but also avoid firms paying for failures far removed from their area of activity.

The second is how to spread the cost between the creator of the product and those who sell and advise on it.

Bailey said: “These tensions would be at least less pointed if they were not trying to cover a world where there is no risk-based pricing of insurance in the front-line.

“This is rightly a public policy issue, but it is also a private issue too because many advisory firms are meeting substantial bills for FSCS pay-outs. With all this in mind, my request today to the insurance industry is to help us to think through how we might solve this problem.”

He added: At the moment I would say that the insurance scheme we have to limit the cost of financial conduct risk is highly limited outside the FSCS provision.

“If there is a desire to solve this problem and I hope there is, we need to work together to determine what is possible on professional indemnity or related insurance.”