Hands up if you know about Solvency 2 and MIFID!

There was a curious moment during the BBC’s Liz Truss vs Rishi Sunak debate and we turned to David Cook , Managing director of our International Financial Service practice for answers...

This moment will have left 99% of viewers baffled, bored or both. But as a member of the 1%, I think it reveals a critical choice facing our next PM, which more people need to understand.?

Rishi Sunak was talking about reformed financial markets helping businesses access cash. Liz Truss hit back that there was no growth plan, nor the necessary reforms of ‘Solvency 2’ or MiFID. ?

It wasn’t exactly a knockout blow, along the lines of ‘Sir, you are no Jack Kennedy'.?

Indeed, Rishi made this point by asking the audience how many knew what Solvency 2 and MIFID were. Not surprisingly, they didn’t. ?

But as someone who spent large parts of my career negotiating these things, here’s what you should know. In very simple terms: Solvency 2 are the rules that aim to ensure that Insurance companies have enough resources to protect and service their policyholders; and MIFID (actually MIFID2, a huge piece of regulation of almost 2 million paragraphs) are the rules that govern how financial markets operate, particularly to protect investors and ensure efficient functioning of financial markets. ?

A bit like the reams of code that make your smartphone work – you don’t need to know every bit of them. But you do need to trust them. Because when they go wrong, the results can be disastrous.?

?So, does that mean Truss is right when she says they are about enabling investments into towns like Stoke, or should they be seen as technical mumbo-jumbo as implied by Sunak’s response??

The answer is that Truss is right that reform to these regulations could impact investment in the UK economy, including around the levelling up agenda. However, I was surprised at Sunak’s flippant response, given that he, as Chancellor, had already initiated reviews of both pieces of regulation with this aim in mind.??

Both regulations are EU laws that were largely agreed before Brexit, so do reflect (at least partly) the interests of the UK, while aiming to ensure a higher level of standardisation across the EU. In the time since the agreement of these regulations, financial markets have developed enormously – with technological driving a key part of this. Also, with the UK outside the EU, standardisation with countries such as Germany, Bulgaria and the Netherlands is less of a concern. Insurance companies hold vast quantities of cash and reducing the amount that needs to be kept, effectively for rainy days, and liberalising what can be invested in could bring huge dividends. Similarly, the quantum of money flowing through UK financial markets is so huge that relatively small improvements in efficiency could deliver significant amounts that could be deployed to productive investments.?

But ?(and there will always be a but) there is a balance in everything to do with regulation. Certainly efficiency improvements can be found in the regulations, but it is difficult to do this without introducing extra risks. In these cases, the risks will be to insurance policyholders, investors (effectively everyone with a pension) and the financial system generally – which could impact everyone (as we saw in the financial crisis of 2008). Furthermore, there is an efficiency with standardisation for companies operating across jurisdictions, even if that standardisation on poor regulation. This is because running multiple compliance regimes or providing different products is very inefficient.?

Whoever becomes the next Prime Minister, these regulations are well in the spotlight of politicians who will have to consider and become educated on the balance regulation vs risk balance. Sunak has already started the process and Truss has ?planted her own flag on ?it. Also, the EU is undertaking its own, post-Brexit review of these regulations which is also leading to changes and will, no doubt, be influenced by UK reform and vice-versa. Exciting times ahead – if you like that sort of thing!