Can the PRA’s proposed Diversity and Inclusion Regulations improve decision-making?

Last month, the Prudential Regulation Authority (PRA) released a Consultation Paper setting out a roadmap to fundamentally integrate diversity and inclusion into business strategies and risk management protocols. The regulator posits that diversity is not just an ethical mandate but a business one, as diverse teams offer a bulwark against groupthink, thereby enhancing decision-making and risk management.

This guide examines the key elements of the PRA’s proposals, unpacking the most noteworthy aspects and potential impacts. It also aims to provide practical insights relevant to regulated firms as they formulate strategies for meeting the new expectations and requirements.

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Overview of the Proposals

The PRA has adopted a multi-dimensional approach across several domains to drive the changes it wants to see. The key features are:

• Firm-wide diversity and inclusion strategies with regular reviews.
• Target setting for representation at multiple levels.
• Enhanced board governance expectations.
• Individual accountability for senior managers.
• Internal monitoring requirements.
• Regulatory reporting of diversity metrics.
• Public disclosure of targets, demographics and inclusion survey outcomes.

This framework aims to embed diversity and inclusion within governance, accountability, transparency, and incentives.

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Core Data requirements

Firm-wide employee numbers

All CRR and Solvency II firms must report total number of UK employees.

Firms with 251+ employees

Demographic data

• Mandatory: age, gender/sex, ethnicity, sexual orientation, religion, disability/health.
• Voluntary: gender identity, parental/carer status, socioeconomic background.

Inclusion data

• Employee survey responses on psychological safety, ability to challenge opinions, feeling valued, experienced bad treatment, safety to admit mistakes, inclusive environment.

Targets data

• Details of any targets set – demographic group, target percentage, role category, rationale.

Disclosure data

• Demographic percentages by board, senior leadership and total employees.
• Inclusion survey responses by board, senior leadership and total employees.
• Diversity targets, strategy to achieve them and progress against them.

Other requirements

• Firm-wide and board diversity and inclusion strategies.
• How firms are monitoring diversity and inclusion and taking action on issues identified.
• Narrative in regulatory reporting to explain data gaps.

The core focus is on gathering demographic and inclusion data to understand workforce representation, experiences and progress, along with disclosure to enable transparency and accountability.

Firms need flexible systems to report across different metrics for board, senior leadership and all employees.

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Implementation timelines

The first regulatory reporting would be required in a 3-month window following the rules coming into effect, based on a reference date to be confirmed. This first reporting would be on a 'comply or explain' basis.

• From the following year onwards, firms would be required to provide the full suite of mandatory diversity and inclusion data in their regulatory reporting.
• The first mandatory disclosures would be made alongside firms' annual reports in the second year after the rules come into force. Firms could also choose to disclose sooner on a voluntary basis.
• Firms would be required to have published their first public disclosures on targets and diversity and inclusion data within 3 years of the final policy statement being issued.

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Key Areas of the Proposals

Below is a more detailed exploration of some of the most noteworthy aspects and their potential impacts.

Firm-Wide Strategies

Mandating organization-wide diversity and inclusion strategies provides a strong foundation for driving change by embedding it into wider business strategy and risk management. The regular review requirements provide an impetus for firms to continually enhance their approach as progress is made and modifications become necessary.

The focus on empowering staff to speak up and actively fostering an inclusive culture is appropriate given the clear link between these factors and unlocking the benefits of diversity. However, the PRA could potentially offer more specific examples of recommended measures to tangibly achieve greater inclusion. While avoiding excessive prescription is prudent, more practical guidance could benefit implementation.

Requiring public disclosure improves accountability to investors, customers and other stakeholders who can scrutinize and compare firms' approaches.

Targets

Allowing the largest firms to set customized targets based on circumstances enables adaptation while ensuring a focus on measurable actions. However, targets risk driving a 'tick box' culture if not well formulated based on proper workforce data analysis.

The multi-level approach covering boards, senior leadership and general workforce is sensible given diversity needs to be embedded throughout the organizational pipeline to enable sustainable change. However, inherent staff turnover dynamics mean firms may face greater short-term challenges improving senior level diversity. Creative approaches to recruitment, progression and succession planning will be needed to expand candidate pools.

Board Governance

Extending existing board diversity requirements to also capture inclusion and culture is an important recognition that diversity alone does not guarantee truly inclusive dynamics or better decision-making. Inclusion must be actively facilitated while constructive challenge is fostered.

Succession planning expectations should prompt boards to take a more strategic approach to talent pipelines and accessing diverse candidates. This could gradually improve senior level diversity over time if well implemented. However, firms may require support to expand their traditional recruitment practices.

Individual Accountability

Linking prescribed responsibilities for oversight of firm culture to diversity and inclusion accountability should compel greater ownership of outcomes by key senior executives. However, incentives and key performance indicators must be carefully calibrated to avoid unintended consequences from over-reliance on metrics.

Empowering the PRA to consider evidence of misconduct like bullying, harassment or discrimination when assessing managerial fitness provides an important avenue for addressing behaviours which actively undermine inclusion. Procedural fairness will be essential.

Monitoring Requirements

Mandating monitoring based on evidence creates impetus for action by compelling self-examination. However, monitoring alone may have limited impact without corresponding steps taken based on the insights it reveals.

Allowing flexibility for small firms to determine appropriate metrics and approaches makes sense given resource constraints. Guidance with suggested methods tailored to smaller institutions would be welcomed.

Regulatory Reporting

Requiring larger firms to report diversity metrics provides essential workforce data to facilitate supervision of progress and publication of industry benchmarks. This will significantly strengthen accountability and transparency over time.

Capturing diversity factors beyond gender/ethnicity leads to a more comprehensive view of workforce representation. However, making some characteristics voluntary could limit industry-level insights.

Inclusion questions offer useful lead indicators of firm culture. Concerning results should compel investigation of the drivers and urgent remedial action. Allowing reporting on ‘prefer not to say’ highlights where poor inclusion may hinder disclosure.

Public Disclosure

Disclosure compels firms to demonstrate their diversity and inclusion commitment and allows greater stakeholder scrutiny to incentivize progress. Safeguards are needed when disclosing data for small cohorts to avoid identification of individuals and ensure compliance. However, firms should aim to disclose as much as lawfully possible.

The one-year lag before mandatory disclosure allows refinement of data quality as newly implemented reporting processes bed down. However, voluntary early disclosure would signal proactive commitment.

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Key Challenges and Mitigation Strategies

While the proposals offer immense potential benefits, firms will need to proactively mitigate several key challenges that could hinder implementation:

Data Limitations

Many firms lack detailed workforce diversity data and have rarely measured inclusion formally. Building robust systems to uncover granular insights will prove demanding. Key steps include:

• Implementing specialized analytics capabilities like machine learning.
• Using qualitative data to complement quantitative metrics.
• Encouraging self-identification by clearly explaining how data supports business goals.
• Analysing intersecting identity dimensions.

Target Setting Complexities

Targets can catalyse change but also risk breeding resentment or discouraging innovation if poorly formulated. Considerations include:

• Ensuring rigorous formulation based on evidence versus arbitrary goals.
• Recognizing external constraints on rapidly improving representation.
• Setting additional qualitative targets about improving processes.
• Accounting for volatility in year-on-year data due to staff turnover.
• Considering intersectional barriers faced by those with ‘double disadvantage’.

Culture Change Challenges

The informal elements enabling inclusion like psychological safety, belonging and fairness remain ill-defined concepts. Strategies to explore include:

• Thoughtfully designed inclusion surveys to reveal nuances.
• Grassroots qualitative insights from focus groups, interviews, and advisory panels.
• Training managers on leading inclusively and mitigating biases.
• Incentivizing employees to propose innovative ideas.
• Mediators to address conflicts and grievances.

Disclosure Risks

Public disclosure carries potential legal risks if data privacy is breached, or firms are perceived to be downplaying serious issues like racism or harassment. Mitigations include:

• Robust data aggregation safeguards for small cohorts.
• Voluntary early disclosure to signal commitment.
• Reporting entity and business unit level insights rather than firm-wide averaging.
• Ensuring both quantitative diversity and qualitative inclusion data provides a balanced perspective.

Resource Constraints

Many firms have limited budgets and headcount. This may impede execution unless deployment is well calibrated. Suggestions include:

• Prioritizing foundational areas like data analytics capabilities.
• Exploring industry collaboration to share costs of inclusion survey standardization.
• Leveraging agile approaches to test interventions rapidly without large upfront outlays.
• Seeking diverse outside experts who can offer fresh perspectives for limited costs.

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Considerations for Implementation

Effective implementation requires a concerted cross-organisational effort beyond just leadership commitment. Firms should take a strategic approach including the following dimensions:

Building Robust Data Foundations

• Construct inclusion indicators tracking factors like psychological safety, trust, and fairness.
• Use statistical modelling and AI/ML to uncover non-obvious workforce insights.
• Gather comprehensive qualitative data through focus groups, exit interviews and advisory panels.
• Encourage self-identification by clearly explaining how data supports business goals.
• Analyse intersecting identity dimensions to reveal where multiple barriers compound challenges.

Challenging Conventional Power Structures

• Audit existing processes using behavioural science to identify biases and barriers.
• Ensure marginalized voices are represented at key forums.
• Provide safe spaces for staff to share experiences one-on-one or via facilitators.
• Reward those who constructively dissent and speak up.
• Quickly address conflicts through mediators before escalation.

Redefining Leadership

• Celebrate leaders who empower teams.
• Design leadership development programme that unlocks each individual's potential.
• Assess executives on fostering inclusion and developing diverse successors.
• Mandate training for all managers on mitigating biases and leading inclusively.

Driving Innovative D&I Initiatives

• Tap into diverse external experts to gain fresh perspectives.
• Harness design thinking and agile development to test and refine inclusion mechanisms.
• Crowdsource innovative ideas from employees.

Focusing on Intersectional Barriers

• Disaggregate data to uncover barriers at identity intersections.
• Build mentoring programs spanning diverse attributes.
• Ensure Diversity and Inclusion teams represent multiple diverse characteristics.

Industry Collaboration

• Agree standardised inclusion survey questions to enable benchmarking.
• Share lessons from innovative experiments through peer forums.
• Jointly develop talent pipelines through coordinated outreach and recruitment platforms.
• Explore collaborative targets for underrepresented groups.

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Final thoughts

The PRA's ambitious diversity and inclusion proposals is an important milestone for the UK's financial sector. Whilst compliance is crucial, firms should embrace this opportunity to look beyond just regulatory compliance and explore how to fundamentally reimagine how they operate, collaborate, and make decisions leveraging diverse perspectives.

This is an invitation to rethink organisational norms and tap overlooked talent pools to bolster innovation, strengthen risk management and the corporate culture.

With commitment from the industry and sound regulatory guidance, these proposals could drive transformative changes by harnessing the untapped potential of diversity and inclusion for human creativity and innovation.

The process is likely to be uncomfortable but firms that embrace this discomfort to enable their employees to thrive can become the trailblazers.