UK: Financial Services

Last Updated: 18 February 2014
Article by Philip Mackay

This bulletin focuses on elements of the paper entitled 'Scotland's Future - Your Guide to an Independent Scotland1' (also referred to as the 'White Paper').

Setting the scene:

Putting the Scottish Financial Services Industry in context

  • Contains the United Kingdom's 2nd largest financial centre
  • 8% of Scottish GDP (generates around £8 billion for Scottish economy)
  • 5% of private sector workforce (10% if indirect included)
  • Insurance companies provide over 20% of FS industry jobs in Scotland (24% of all UK life insurance industry jobs are in Scotland)
  • Manages over £800 billion of funds
  • 4th largest centre in EU (after UK, France, Germany)
  • Employs about 100,000 people directly (roughly same indirectly)

Scotland's Financial Services Industry is therefore a major component of, and contributor to, Scotland's economy and to the lives of a great many of Scotland's people who will have a vote in the Referendum. For any government of an independent Scotland (regardless of its political composition) the financial services industry would need to be one of its key wealth generators.

What has the Scottish Government said about the importance of the Financial Services sector to an independent Scotland?

"......we have a strong financial services industry" 2 "Scotland has a diverse economy with key strengths across a range of sectors such as food and drink, tourism, creative industries, life sciences, universities, financial services and manufacturing." 3 The White paper therefore recognises the strength of the financial services industry in Scotland.

How should the White Paper be interpreted in the financial services context?

Without wishing to state the obvious, in considering the White Paper it is important to bear in mind how highly political a document it is. A lot of readers will want to find a blueprint in it but in reality it is closer to a manifesto and one that is inevitably directed primarily at its authors' view of those most likely to vote 'Yes'.

Financial Services and 'fairness'

Realistically, the financial services industry might be said to present certain challenges for the over-riding theme in the White Paper around 'fairness'.

This is particularly the case given the events in recent years surrounding the financial crisis and the issues surrounding banks and some of the excesses (real or perceived) which have emerged there. Equally, it is evident that financial services, in its widest sense, is at the heart of the City of London4 and the wealth creation that has been achieved there. This is particularly so since the so-called 'big bang' in the late 1980s. That was a big factor in giving rise to the concentration of jobs, resources, growth and development in and around London to the detriment of Scotland and the rest of the UK which is at the centre of the negative backdrop which the White Paper tries to paint. In many respects the values that underpin the success of London and the City represent the antithesis of the value principles that are used to underpin the White Paper and the approach that the Scottish Government is trying to take in it to appeal to those voters who might be most likely to vote 'Yes' in the Referendum.

In view of that reality, on one view it might be considered unsurprising that the White Paper could be viewed as being somewhat muted in what it says in relation to such an important industry and wealth generator to Scotland as the Financial Services Industry and the arguably lacks a coherent and detailed future for its growth and retention.

However, it should be emphasised that it is difficult to see why any government of an independent Scotland would want to consciously alienate that part of the current UK financial services industry which is located or based in Scotland (let alone its customers or shareholders who are nearly all located outside Scotland if not in England). Alienating such a significant industry, employer and source of tax revenue does not seem a sensible or likely strategy particularly when the underlying businesses are ultimately capable of being portable before Scotland actually became independent (as well as after independence if Scotland remains in the EU). On the other hand, the question arises whether a Scottish Government would be prepared to follow the policies of a Westminster Government in order to ensure conformity, especially as the White Paper is so predictated on the failures of policy makers of successive Westminster Governments in relation to Scotland. That is even more the case when one factors in the extent to which differences in other areas such as certain aspects of taxation may have to remain very unified to achieve this objective.

The approach that we have tried to take in interpreting the White Paper in this context is very much tempered by these thoughts but it is not easy to achieve a totally objective position. However, we have tried to disregard any political overtones as much as possible.

Policies/ Statements:

As already mentioned, the White Paper is inevitably a political document, a manifesto, so it is worded on the presumption that the Scottish Government's capacity to control the position so as to give the impression (consistent with the idea of independence) the Scottish Government would be in control of Scotland's destiny on all key points. However, if one ignores that element of the political rhetoric it is possible to highlight some principles that the Scottish Government would want to put in place.

Financial stability and financial regulation

On independence the Scottish Government would want Scotland to become a full member of the EU and to retain Sterling in a currency union with the rest of the UK (for further analysis on this proposal see our Inform bulletin on 'Currency Union or a separate currency in an independent Scotland and some possible implications of both').

If currency union can be negotiated and Scotland became a full independent EU member it would adopt EU initiatives, just as the UK does at present and financial products and services (including deposits, mortgages and pensions) would remain denominated in the same currency (and together with the measures on regulation mentioned below) the Scottish Government would hope that firms would continue to provide products and services to consumers across Scotland and the UK no matter where they were based. On financial regulation, for the first aspect – financial stability or prudential regulation - the Scottish Government would ideally want financial stability policy to be conducted on a consistent basis across the Sterling Area. The practical arrangement that they favour for bringing this about, and would propose to negotiate with the Government of the rest of the UK ("RUK") for negotiation in the event of a 'Yes' vote in the Referendum, is to a large extent the continuation of the status quo with the Bank of England's Financial Policy Committee continuing to set macro-prudential policy and identifying systemic risks across the whole of the Sterling Area (as well as it effectively continuing to act as the central bank for that Area5). It is made clear that in the Scottish Government's view (and from their perspective) this might be done through a shared prudential regulatory authority or a separate Scottish prudential regulator working alongside the RUK's PRA on a consistent and harmonised basis for deposit takers, insurers and asset managers (presumably limited to those who present a systemic risk to the stability of the financial system as is the case at present in the UK). So essentially, the proposal on the prudential side (as far as it is described in the White Paper) would be for both countries to operate their prudential regulation in parallel to try to retain a single market for financial services in and between an independent Scotland and the RUK.

While the practicalities of making this work can of course be argued about6, and the independence purists may also argue about how this fits with the concept of independence, it certainly seems clear that the objective of the Scottish Government in the White Paper is to try to create post Scottish independence the conditions which are most likely to maintain a single market for financial services across the present UK. While there is no obvious parallel for this within the EU, there is nothing that we are aware of that would prevent it being negotiated with all concerned if there was argument on the principles and substance on all sides.

Financial products, financial regulation and protecting consumers

For the second aspect of financial regulation – involving the conduct and behaviour of financial firms and how they interact with their customers – the White Paper goes further than the Scottish Government has gone before in describing its objectives. These essentially reflect the objectives described above for prudential regulation although the suggested methodology is slightly different and inevitably still high level. They propose that this aspect of regulation will be discharged by a Scottish Conduct Regulator which would also work on a closely harmonised basis with the Financial Conduct Authority in the rest of the UK to deliver "an aligned conduct regulatory framework, to retain a broadly integrated market across the Sterling Area." They also emphasise that "The regulatory approach will include the application of single rulebooks and supervisory handbooks." and that "This framework will mean that firms will be able to continue to provide financial products and services no matter where they are based. The use of the word "broadly" seems to be somewhat contradictory but there is nothing which amplifies what this is meant to mean.

Given that Scotland is a small market for financial services products relative to the rest of the UK, the cost inefficiency of firms having to cater for material regulatory differences which result in divergence in product design, functionality or administration, in what essentially they would prefer to market as a single product across the whole of what is currently the UK, could result in them choosing to concentrate only on the market in the rest of the UK post-independence. This could result in the Scottish market progressively being less well served in a variety of respects.

What the Scottish Government says on conduct regulation on the face of it indicates the intention of a very unified approach to mirror what they have suggested in relation to prudential regulation and clearly reinforces the objective of trying (post-independence) to create the conditions which are most likely to maintain a single market for financial services across the geography of what was the UK. This goes further than they have before and may be designed to offer some comfort to the financial services industry.

This proposed unified approach (not surprisingly) extends into compensation schemes where the White Paper says that "As part of the framework for financial stability ...the Scottish Government sees merit in a jointly operated or co-ordinated scheme across the Sterling area for key aspects of compensation."

So while the White Paper may be clearer as to the main objectives that the current Scottish Government would have in its approach to governing the financial services industry in an independent Scotland, the White Paper is still very light on detail. Of course, the current Westminster Government is not prepared to engage in any discussion on the proposals put forward by the Scottish Government because it is trying to encourage a 'No' vote. Given the dependency of the Scottish Government's proposals on agreement with the Westminster Government, it is unlikely that further detail will be forthcoming ahead of the Referendum (unless of course Andrew Bailey and Martin Wheatley can be persuaded to come North of the border (in their capacity as technocrats) to do a similar job to the Governor of the Bank of England, Mr Carney of highlighting the issues that would be faced by the Scottish Government's proposed policy on Financial Services regulation in an independent Scotland).

Mutuals - Where have they gone?

It is interesting to note that there is no mention in the White Paper of the Scottish Government's banking strategy "Sustainable, Responsible Banking: A Strategy for Scotland"8 which was referred to fairly heavily in the paper published by the Scottish Government in May 2013 entitled 'Scotland's Economy the case for independence' (also published then). This is despite the fact that strategy paper made the point very clearly that "Independence may offer an opportunity for Scotland to consider how regulation can take better account of the needs of mutuals."

In that strategy paper the Scottish Government referred to studies9 which have suggested that the current financial services legislation is not conducive to encouraging diversity (focused as it is on large, shareholder owned organisations) and acts as a barrier to the entry of new, smaller organisations and to the growth of mutuals whose stakeholder ownership model presents challenges to the current regulatory framework.

It appeared to be an indication that the Scottish Government perhaps saw the promotion of mutuals and mutuality as a component of trying to inject some element of their 'fairness' agenda into their approach to the future running of the financial services industry in an independent Scotland.

It also seemed to show that the Scottish Government would go further in its financial services legislation in an independent Scotland (than the Westminster Government has been prepared to do in the recent Financial Services Act 201210) to try to level the playing field for mutuals and that financial services regulation in an independent Scotland would be more sympathetically crafted for their circumstances.

It is not clear why there is no specific mention of this in the White Paper particularly given the prominence it was given previously. It is difficult to believe that this has been completely dropped given it's previous emphasis but it may be that some of the qualifications on the extent to which the regulatory regimes would be the same between an independent Scotland and the rest of the UK are meant to try to preserve some room for this. If by that they are trying to keep the position open in order to try to create a better environment for mutuals then doing that might not be incompatible with the imperative of maintaining an integrated financial services market with the rest of the UK but it would be a complication in what may already be a difficult negotiation for both Governments.


1. Published by the current Scottish Government on 26th November 2013

2. Taken from page 29 of the White Paper: Part Three - The opportunities of independence - Economy

3. Taken from page 89 of the White Paper

4. Even if a lot of the wholesale and market activity that take place there is no longer replicated in Scotland, although this is something that might be poorly understood by a lot of voters.

5. This would involve the BoE acting as lender of last resort for the whole Area and carrying out its resolution activities effectively as it does at present. The White Paper makes it clear that the Scottish Government would make its financial contribution where that was required to secure financial stability across the Area.

6. Trying to make the Bank of England accountable to both countries could clearly give rise to challenges, not least for the Governor, but it is possible to envisage him appearing before the Finance Committee of the Scottish Parliament in the same way as he does currently before the Treasury Select Committee. Also, although not surprising there is no prominence given to this in the White Paper, it must be implicit that this regulatory objective would have to involve Scotland as very much the junior partner in such a relationship and that the arrangements would have to reflect this.

8. Published by the Scottish Government in May 2013. In this strategy the Scottish Government explains that:

  • it wishes to encourage a Scottish banking market that encompasses different ways of providing banking products and services to as wide a range of consumers as possible;
  • it wants to see a range of institutions headquartered in Scotland, providing employment here and committed to serving Scottish customers;
  • it believes more accessible community banking could have an important role to play in the Scottish banking market in the future, whether this involves mainstream banks, credit unions, mutual or new forms of institution.

9. Promoting Corporate Diversity in the Financial Services Sector, Jonathan Michie, University of Oxford, 2010; The Mutuals Manifesto 2010 Mutuo. In particular this refers to the Westminster Government's Coalition Agreement commitment to foster diversity in financial services and the study advocates that in pursuit of this the new regulatory framework (which came into effect in April 2013) needed to create a clear responsibility in the regulator's charter to promote diversity of ownership by ensuring the regulator was given proper responsibility towards fostering diversity and promoting mutuals and that the regulator had a senior person charged with demonstrating that regulation does not prevent mutual organisations from competing on an equal basis with non-mutual forms.

10. In practice the Act does not go nearly as far as the study advocated and although the new Financial Conduct Authority's (FCA) strategic and operational objectives are capable of impacting the positive diversity and mutual agenda the study advocates there is no emphasis in that direction and the only provision in the Act which specifically impacts to some extent that agenda the way the study was suggesting is section 138K. This puts a specific obligation on the FCA and the Prudential Regulatory Authority (PRA) to publish with a draft rule (which it is proposing would apply both to mutual societies and other authorised persons) a statement of its opinion as to whether the rule will affect mutual societies significantly differently from other authorised persons and, if so, how. It must also publish a statement when the rule is made (if the rule differs from the draft rule) explaining the effect of the difference on mutual societies, and on mutual societies as compared with other authorised persons.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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