What do you think of it so far?

Having experienced the honour of Financial Services Authority regulation for more than a year, the world of general insurance is due a little regulatory introspection. Now the FSA has promised a thorough review of its rules in the light of experience; just as the daffodils die away, the FSA will push up its head and invite shots at this tempting target. Now is the chance of a decade to be ready with a fusillade at the most notorious excrescences of the general insurance regulatory regime.

Nobody wanted this regime in the first place: not the FSA, not the government, certainly not the insurance industry. Why do we have it? It is of course one of the many benefits of membership of the EU. The Insurance Mediation Directive underlies the whole regulatory regime and dictates large parts of it. Generally it can be said that the dafter bits are those that were carefully crafted to enhance the Single European Market.

So now we have the 'effectiveness review': not of the IMD - would any European legislation stand up to such scrutiny? - but of the impact on consumers of the FSA's rules. This back-to-basics approach to regulation is good news and, surprisingly, quite new. If it produces sound results, the regulator will be bound to adopt the approach across all sectors.

If regulation is here primarily to protect consumers, there must be ways of determining the success of that function. Nevertheless, that is very much easier said than done. It is debatable whether a satisfied customer is the same thing as one that has been well served. The right advice may not always be welcome. Bad advice provided by a smooth-talking salesman may be very popular with those unable to discern quality anyway. But such a fundamental indicator should certainly not be ignored.

Another important test is the extent of price dispersion. Defining price in the context of insurance is an issue in its own right, especially where retail consumers will very often have no knowledge of the degree of commission in the payment they are making. And what do you conclude from narrow price dispersion? It would be good to be able to claim with confidence that it was evidence of effective consumer discretion, but it is difficult to be certain that it is not telling us something rather more basic about retailers' conduct. It is probably fair to suggest that wide dispersion does speak of inefficient markets, certainly if the level of take-up shows no discrimination against higher price.

But none of this is intended to imply that price is the only measure of value. Clearly other factors are crucial - quality of service, rating of insurer and all the rest of it - so assessment of price dispersion has to evaluate the extent of comparability of the product. Where premium prices occur, the justification will surely be studied carefully to test assertions of value.

And even price and value are not the whole story. Questions that review the extent of appropriate penetration also need to be asked. Inappropriateness is itself a key indicator: if there is a lot of it about, the system is plainly not yet working well enough. Simple statistics, although not proof of mis-selling, may provoke further inquiry.

But this is an area where the danger also lies in regulatory overkill. We have to ask to what extent insurance sales are inhibited by regulation. In other sectors in the past there have been real concerns that regulatory requirements have deterred consumers from appropriate purchases - the ultimate own-goal for any regulator. This must be an aspect of the review for which a host of willing volunteers from the insurance world can provide valuable evidence.

Quality of information

Surely one of the areas where reform is most needed is disclosure. It is common ground between the industry, consumers and regulators that something must be done. The concept of consumers being better informed by 50 pages of jargon is improbable. It is a classic area where the regulator's intention has never been well conveyed by its rules, resulting in a degree of defensive action from firms perfectly properly ensuring that they remain fully compliant. Many have taken legal advice and concluded that briefer disclosure does not meet the letter of the requirement. That must mean that the requirement is wrong.

The review is the opportunity for this issue to be resolved. Current standards are not producing the intended effect and are an expensive burden on the industry, paid for by consumers. Here is a case of less is more; fewer words would deliver clearer information. Now is the time for dialogue and action to replace disquiet and grumbling.

Appropriate selling

The FSA made clear that one of its areas of inquiry will question whether firms selling insurance make appropriate sales. Notice the contrast between that concern and its separate statement on whether consumers buying insurance on an advised basis are being recommended suitable policies. As in the forthcoming Markets in Financial Instruments Directive, the concept of execution-only transactions is being eroded, a phenomenon that has also been seen in FSA's discussions on so-called 'retail contagion', where it has been asking what consideration firms give to consumers' needs when launching a new fund.

Providers of financial products, much like any other type of business, are inevitably going to give careful thought to the marketability of new products. That very consideration, albeit one of quite proper self-interest, certainly entails questions about for whom it will be suitable. If no such consumer can be identified, the product is not likely to progress from the drawing-board. To that extent, the regulator should be and will be pleased to take comfort from market forces.

It is the next step that is of more concern: can producers be reasonably expected to establish whether their products are being recommended by others to the target market, rather than to unsuitable consumers? It is hard to see how any such duty could ever be applied. In some cases, where intermediaries are concerned, providers will have no clue to the identity of the consumer. In others, providers do not hold permission from FSA to give advice to consumers, so they can hardly be expected to second-guess the judgement of those who do. A close watch on regulatory creep in this area needs to be kept.

Claims

There is an assumption among regulators that no one is interested in paying, or even assisting with making, claims. That seems rather prejudiced of them, but they may be right. The effectiveness review is bound to look for evidence that this anecdotally based criticism is well founded. Nevertheless, this looks rather more like meat for themed visits than a policy review. If claimants are being badly treated, the regulatory response must be a little gentle encouragement to those failing to fulfil their obligations, rather than some change to the already-explicit obligations.

And notwithstanding all its well-intentioned plans, there is a fundamental flaw in the effectiveness review. The review's intention is to establish the impact of the rules introduced a year ago. However, to evaluate the impact of a rule you have first to see that it is being observed, otherwise the outcome measured is the impact not of the rule but of its disregard. Let's face it, there are a few of the FSA's rules that are imperfectly complied with just at the moment - a point well brought out by the recent study of compliance with the client money rules. So impact on consumers will, in some instances, not be measurable just yet.

That does not make the exercise fruitless - just, in part, premature. At this stage, the FSA needs to carry out the prior exercise of looking at the extent to which compliance with the requirements is achieved. Some failures will be through dilatory efforts from firms not yet attuned to the obligations they face; others will arise from rules that are badly articulated or complex to comply with. Simplicity in rule-making is undoubtedly a virtue, and one to be encouraged in this review.

With all of these reservations, it is good to see that this will be just the first stage of the FSA's review. For all its imperfections, the FSA is not a corporate fool and can spot a problem when it sees one. If it is early days to be assessing the effectiveness of the regime, clearly early conclusions need to be re-tested at a later stage to detect evolution of impact.

Not only will time bring enhancement to levels of compliance, but it will also show up the impact on the market. The law of unintended consequences could have been written with regulation in mind. So-called 'market dynamics' - change induced by regulation, invariably unintended - may or may not be beneficial to consumers. Tight controls around practices of doubtful benefit may lead to their disappearance, either through opprobrium or the sheer burden of the compliance requirement. Rather more worryingly, desirable practices can also lose currency through poor rule-making. Few would regard the holding of client money as undesirable or a disservice to clients, but the rules must drive any firm involved in client money to look hard for the exit before they drown in overdue reconciliations.

So, stage two may show a very different picture. When compliance is better achieved and market dynamics have reached equilibrium, the impact of the rules will be capable of being properly gauged. Conclusions drawn at this stage should be carefully qualified to ensure that rash corrections are avoided. However, if the effectiveness cannot yet be measured with certainty, problems with compliance most certainly can. This opportunity for the industry to make its views known to the FSA is too good to miss. Consultation on the original proposals produced some useful input to the construction of the regime, but, at that stage, the industry was lacking in experience of statutory regulation - something that it may now feel well qualified to comment on.

Good opportunity

In launching the review in April, the FSA will blow the starting whistle loudly enough to attract as much attention as possible. It will invite all comers to comment, with, of course, special encouragement to consumers and their representatives. But input from the industry will be irresistible if it is carefully considered and puts forward alternative means of achieving the regulatory objectives. The more detail contributions contain, the greater impact they are likely to have. Here is a chance to write our own rules. This review requires participation and imagination. The more we put in, the more we will extract.