An opportunity for the financial services industry to clean up its act

In no less than three places in the ‘Consumer Outcomes’ sections of the government’s response to the Financial System Inquiry document released on October 20,

In no less than three places in the ‘Consumer Outcomes’ sections of the government’s response to the Financial System Inquiry document released on October 20, stakeholders are invited for detailed consultation on the implementation of the inquiry’s recommendations regarding financial advice. 

These entreaties from the government present clear opportunities for the financial services industry to take the lead and clean up its act in order to restore consumer confidence in the quality of personal financial advice in Australia. 

However, in order to know where to start, the industry needs to confront the key questions that the government has opened up in each of these three instances.

First, in its response to Inquiry Recommendation 21 (Strengthen product issuer and distributor accountability), the government invites detailed consultation on the creation of “targeted and principles-based financial product design and obligation”. 

This is a much bigger challenge to the industry than the few lines devoted to the response would suggest. Carried to its logical conclusion, upon implementation, this recommendation solicits a careful consideration of who owns fiduciary responsibility for product performance outcomes. 

The salient questions that all interested parties need to answer during the consultation are:

What are the obligations of financial services firms? What are the obligations of product distributors? What level of sophistication exists among consumers and what does it say about the level of obligation they should carry?

The final and overarching question in this regard is how the fiduciary responsibilities should be clearly enunciated and apportioned. Should Australia move in the direction mooted by the present US government where financial advisers may end up having legally enforceable fiduciary responsibilities for their advice to consumers?

Second, with regards to Inquiry Recommendation 22, the government “agrees to provide the Australian Securities and Investments Commission (ASIC) with a financial product intervention power to enable it to modify, or if necessary, ban harmful financial products …”

'The Australian financial planning industry is plagued by extremely low consumer trust and frequent scandals on the part of product providers and distributors'

The critical questions that the finance industry and consumers will have to answer during the consultations promised by the government include: Are ASIC’s product interventions going to be temporary or permanent? Will ASIC’s role include or exclude pre-approval of products? Could financial advisers’ competency standards be linked to the sophistication of products? Should product bans be used as a last resort?

Third, the government undertakes to facilitate, after consultation, legislative changes to remove “regulatory impediments to innovative product disclosure” in terms of risk and fees. 

My view is that leaving this important change to “industry-led initiatives” without establishing consensus of how fiduciary responsibilities are handled is futile. 

It is common knowledge that the Australian financial planning industry is plagued by extremely low consumer trust and frequent scandals on the part of product providers and distributors. Rushing to be “innovative” about risk and fee disclosures before addressing the inherent conflicts that are the root cause of these ills is premature. 

The government can only provide direction and some legislated protection in the interests of consumers after balancing off its interests and the legacy of the current Future of Financial Planning laws. 

It is up to the industry to set a higher bar such as abolishing or discouraging its members from using remuneration models that exacerbate volume chasing induced by conflicts of interest. A case in mind is the widespread usage of percentage or asset-based fees, even among parties that claim to run fee-for-service remuneration models.

In summary, crucial parts of the government’s responses to the Financial System Inquiry’s recommendations on consumer outcomes are accompanied by open invitations for further consultation. 

This presents a welcome opportunity for all parties concerned with the perilous state of the Australian personal financial advice market to revisit issues that have previously been left unresolved by legislative and other official intervention. 

This opportunity should not be missed.

Jerry Parwada is an associate professor and head of the school of banking and finance at UNSW Business School.