The chancellor has now set out his detailed proposals for financial services regulatory reform. These seek to address three substantial concerns which became clear in the wake of the banking crisis:

1. The Memorandum of Understanding between the Financial Services Authority (FSA), the Bank of England and Treasury did not adequately clarify who was responsible for crisis management.

2. Responsibility for macro-prudential supervision - ensuring that the banking system as a whole was systemically ‘safe’ - was left unassigned.

3. Powers which were potentially conflictive - prudential supervision; conduct of business; market effectiveness and economic regulation - were all assigned to the FSA.

To address these concerns, the UK is to adopt the ‘twin peaks’ model of regulation which has been used in Australia for some years, with great success. Success elsewhere will not of course guarantee success in the UK - much will depend on the way in which the proposals are implemented. Briefly, this will involve:

1. Assigning to the Bank of England two tasks - prudential supervision, through the Prudential Regulation Authority (PRA), of deposit takers, insurers and a small number of significant investment firms; and, through the Financial Policy Committee (FPC), the task of macro-prudential supervision.

2. The Financial Conduct Authority (FCA) will be responsible for regulating conduct in retail and wholesale markets (including both exchange-operated markets and over-the-counter dealing); supervising the trading infrastructure that supports those markets; and for the prudential regulation of firms not prudentially regulated by the PRA.

The PRA, FPC and FCA will all be new entities although it is to be expected that they will, at least to some extent, be staffed by FSA regulators and supervisors. The FSA itself will be dismantled.

The proposals also clarify who will be ‘in charge’ in crisis situations. Since the taxpayer is likely to be involved in some aspects of any future recovery and resolution process, it seems reasonable that the chancellor should have final say on any action to be taken and in that sense will direct the crisis management operations. The Bank of England will undertake these, essentially as ‘project manager’.

Some aspects of the proposals have come in for criticism. The Treasury select committee has in particular criticised perceived shortfalls in the standard of governance over the activities of the FPC. These criticisms stem mostly from two detailed proposals from the governor. The first of these relate to the minutes of the FPC’s proceedings which the Bank proposes should not routinely be made public. The second issue that has been raised relates to the proposed Oversight Committee of the FPC, which will be staffed entirely by non-executives but which will have no veto over FPC decisions.

The Northern Rock episode reminded all of us of the impact of ‘herd instinct’ on systemic stability. The FPC will necessarily consider matters which, if made public, could easily trigger a reaction precisely the opposite of what was being sought. This seems to provide ample justification for the Bank’s stance.

On oversight, in a sense the Bank is to be congratulated for proposing to establish the Oversight Committee of the FPC staffed by non-executives. Their role will doubtless be to advise and to challenge the FPC’s ‘executive’ members. To do so successfully, in my view, involves mutual trust and respect. The provision of a veto would likely change this dynamic, and not necessarily for the better. Non-executives in general occasionally fail in their task of challenging the executive, at which point they need to consider their position and, if necessary, resign. Doing so from the Oversight Committee will spark controversy and seems, in my view, to be a better final sanction than a veto. Similar thinking can be applied to related criticisms, such as the way in which the Bank will communicate with the chancellor through the governor.

The new model of regulation and supervision will not be perfect, even when bedded in. The advantage for firms of the old regime was that all the powers were concentrated in one place. Under the new regime, some firms will need to deal with both the PRA and the FCA, and there will need to be effective liaison between the two authorities to avoid further burdening the firms. At best, navigating the new structure will be harder than it is today, even if its prospects for wider success seem good.

Those prospects depend critically on the effectiveness with which the new structure is implemented. Two thoughts here. Firstly, many of us are hoping that the PRA adopts more of a ‘top down’ approach to supervision involving smaller, more senior teams, and the application of more judgement and less process. Whilst this might well be consistent with the way in which the Bank approached supervision under the old Banking Act, the world is arguably a much more complicated place now and getting adequate numbers of senior people would mean recruiting from the market in size.

The second issue relates to the scope of prudential supervision. I find it curious that certain key elements of the wholesale market - clearing houses, inter-dealer brokers, futures brokers - will seemingly be supervised by the FCA. As MF Global has amply demonstrated, such players have the capacity to create systemic risk and their oversight might have been more desirably assigned to the PRA. The trend towards taking OTC volume into the cleared environment merely reinforces that concern.

In conclusion, the new model should serve us better than its predecessor. For all kinds of reasons, we need it to be successful.

Stephen Kingsley is a senior managing director in the London office of FTI Consulting. He works as an expert witness in financial services disputes, having been the global head of Arthur Andersen’s financial services practice