Faculty of Law

CHAPTER 29: FINANCIAL INSTITUTIONS

 INTRODUCTION
 Financial institutions have 2 main purposes:
1) ensure the financial environment for doing business is stable and efficient
2) protect consumers, ensure they will be treated fairly in all transactions
with banks, insurance companies and financial markets.
 SA’s financial institutions have recently undergone significant changes.
 After global financial crisis in 2008, certain regulatory deficiencies were
identified and a new model of financial regulation was introduced
internationally.
 This was the Twin Peaks Model – parallel structures that together form the
framework of the regulation of financial institution.

One Peak Second Peak

o Prudential regulation – o Market conduct
focuses on broad regulation – focuses on
financial framework and consumer rights.
sustainability of financial
institutions
 Prudential regulation
• Regulated by the Prudential Authority (PA)
• PA is separate legal entity that falls under administration of the
South African Reserve Bank (SARB)
• Focus of prudential regulation is to ensure the financial
liquidity and stability of SAn financial institutions vital
for well-being and sustainability of the SAn economy.
• S34 FSR sets out functions of the PA to ensure that it meets
its objectives. These include:
regulation + supervision of financial institutions
promotion of competition within financial institutions
support for financial inclusion in financial institutions
 Market conduct
• Regulated by the Financial Sector Conduct Authority (FSCA)
• FSCA is a separate legal entity
focus is consumer protection and consumer education.
objective is to ensure that financial consumers (customers) are given
fair treatment
prevent the abuse of consumers in the financial sector.
• FSCA has developed a framework referred to as the ‘Treat Customers
Fairly (TFC)’ principle. This framework has 6 outcome-based policies,
which are:
1. to ensure the culture of any financial institution is treating customers
fairly
2. to ensure product design that is appropriate and intended to add value to
the customer
3. to ensure that the institutions will communicate to its customers clearly
and transparently
4. to offer customers suitable and helpful advice, when necessary
5. to ensure that the performance measures and standards implemented by
the institution are geared to treating customers fairly
6. to ensure that an effective and responsive framework for complaints is
implemented

The FSR is overarching legislation that facilitates the implementation of the

Twin Peak model for the 3 important financial institutions that will be looked
at in this chapter. They are
1. banking
2. insurance
3. financial markets
 Regulation of Banking
• Banks function as institutions where funds can be deposited and held
safely for the depositor who can access these funds or invest them in the
longer term
• Banks use these deposited funds to advance loans to borrowers who need
money
• Loans come in different forms, including the extension of credit, the
financing of moveable assets (cars), immoveable assets (houses) or a
business venture
• There different types of banks in SA.
a) Commercial banks – focus on corporate banking services
b) Retail banks – focus on individual consumers
• The functions of these types of banks overlap in SA.
• Other types of banks include investment banks, mutual banks, which are
regulated by the Mutual Banks Act and innovative types of banks such as
digital banks, that enable users to conduct banking business over digital
platforms. Tyme bank or Bank Zero are e.g. of digital banks.
 South African Reserve Bank
• Governed by the South African Reserve Bank Act
• Central bank of SA
• Its function is determined by section 224 of the Constitution of the
Republic of South Africa which states that its primary object is to ‘protect
the value of the currency in the interest of balanced and sustainable
economic growth in the Republic’ and that it must ‘perform its functions
independently and without fear, favour or prejudice’.
• SARB has overarching responsibility to ensure the stability of the financial
institutions.
• SARB does this through PA that falls within the administration of SARB
and through core legislation, including the Banks Act and the FMA.
 Banks Act
 Was passed into law to govern and supervise the business of public
companies taking deposits from members of the public.
 The term ‘deposit’ deals with a situation when an amount of money is
paid by one person to another, in terms of a specific type of agreement,
so that the money will be repaid.
 Banks Act requires that all banks be public companies and must be
registered as a bank in terms of the Banks Act.
 This Act sets out certain requirements that an institution must meet
before it can call itself a bank and do the business of a bank.
 The Banks Act also sets out the requirements that any institution
carrying out the business of banking must meet.
 The basis of these requirements is to ensure that the public is protected
and that the bank’s business is carried out fairly and diligently.
 Registering a bank
• Banks Act – all banks must be registered.
• A company wishing to conduct business as a bank must first apply to the
PA for authorisation, under the auspice of the SARB.
• Once authorisation is granted, the company must apply to the PA for
registration as a bank.
• In addition, each year, every bank must, once it has paid a fee, obtain a
business licence to operate.
• The Banks Act and Mutual Banks Act set out certain functions that the PA
must perform.
• These include:
 The issuing of circulars and the provisions of guidelines, when
necessary. These provide useful info on how the Banks Act is to be
applied and interpreted.
 In terms of s7 Banks Act, PA has power to instruct any bank to deliver
any information the PA feels is needed to do the job properly.
 PA can also call for the report of a public accountant or any other person
who is able to assist the PA in carrying out the mandated functions.
Before the PA grants an application, the PA must be satisfied that the
following will be met:
 The establishment of the bank will be in the public interest.
 The business to be done is that of a bank.
 The proposed business will be done in the capacity of a public company
that is registered under the Companies Act.
 The applicant will be able to establish itself successful as a bank.
 The applicant will have the financial means to meet the provisions of the
Banks Act.
 The business will be conducted in a prudent manner.
 Every person who is to be a director or executive officer of the bank is, as
far as can be reasonably ascertained, a fit and proper person to hold such
position.
 Every person who is to be a director or executive officer of the bank has
sufficient management experience for this kind of business.
 The composition of the board of directors of the proposed bank will be
appropriate for the nature and scale of the business.
The PA has statutory power to require any person who is not properly
registered as a bank to submit any relevant document or info.
 Minimum financial requirements
• Banks generally deal with large sums of money and different people, it is
therefore important that they keep high levels of liquidity and have funds
available.
• To prepare for ‘bank run’.
• This usually happens when there are rumours spread of a bank being in
financial trouble and panic that they are about to lose their life’s savings.
• As a result of this, Banks Act forces banks to comply with some strict
requirements regarding how much money they must have available at all
times.
• This also has the effect of preventing too many companies from
registering as banks.
• A bank must have an account with the SARB and it must have a minimum
amount of money in it.
• The amount is decided by the Governor of the Reserve Bank.
• If bank is unable to meet these minimum requirements, they must report
to PA and give reasons for the problem.
• PA has discretion to decide whether any action should be taken against
the bank concerned, such as ordering the bank to pay a fine.
See case study on p521.
See article that introduces the regulation of cryptocurrency in South Africa on
p522.

Regulation of insurance companies

• The insurance industry is an important pillar of financial services.
• It spreads the risk of harm or financial loss and therefore encourages
investment and entrepreneurship.
• Also reduces the impact of catastrophic events by protecting individuals
against financial ruin and disaster.
• This includes protection against financial loss from damage or destruction
of assets (houses or cars);
protection against medical costs and loss of income; and
protection of families and businesses in the case of death or serious
injury
• Insurance policies may also function as investment vehicles, usually
linked to life insurance policies.
• It does this by collecting relatively small payments (the premium) and
undertaking to compensate the insured for the loss suffered.
Insurance regulation is aimed at the following:
 To ensure that the insurers maintain minimum financial requirements and
solvency margins
 To establish and maintain proper communication with customers
 To be transparent and disclose all relevant information to customers who
may not be financially literate
 To make sure the fees and premiums are not excessive
 To encourage the development of insurance policies that will ensure that
the benefits of insurance are widely available.
The insurance industry is often considered an industry that does not treat its
customers fairly.
Therefore, the introduction of this framework and the ‘treat customers fairly’
policy that is a part of this legislative framework is important when it comes
to changing this perception.
 An overview of the key instruments in the insurance regulatory
framework
• The regulations aim to provide maximum protection to customers by
ensuring efficient administration of the industry and the establishment of a
secure, sustainable and financially sound industry.
• The foundation of the regulatory framework is Long-Term Insurance Act
(LTIA) and the Short-Term Insurance Act (STIA).
LTIA + STIA regulate the registration and some practices of
insurers.
E.g. set out when the insurer can repudiate a claim, based
on misrepresentation by the insured.
• The market conduct (consumer protection) aspects of the Twin Peaks
model are found in this Act.
• This is expressed in the Policyholder Protection Rules.
• The Insurance Act (more recent) has repealed and changed aspects of
the LTIA and STIA.
• Insurance Act delas with aspects such as the governance of insurers, the
financial stability and the insolvency of an insurance company.
• No person can conduct any insurance business unless it is licenced
under the Insurance Act.
• The Insurance Act’s stated purposes is the protection of policyholders and
it provides that an insurer must, at all times, conduct its business with
integrity, due skill, care and diligence.
• The FSCA and PA also have an important oversight function.
See TCF principles case study on p524.
The regulation of financial markets: insider trading
• Insider trading is considered to be a form of market abuse and is
regulated by Chapter X of the FMA.
• The financial market refers to any platform where securities are bought or
sold.
• This is the foundation of the capitalist economy.
• It is therefore important to ensure that is functions efficiently and fairly.
• The FMA is the main regulatory instrument to prevent the abuse of the
market and to protect investors.
• Compliance with the FMA, such as the banking sector and the insurance
industry, is overseen by the FSCA.
• One of the purposes of the FMA is to prevent market abuse.
 What is insider trading?

• The trading of a public company’s shares or securities by ‘insiders’

who have access to material information about that company that
is not available to the public.
• Info is made public when the info is:
- published for the purposes of informing clients their professional
advisers
- contained in records that are open to public inspection
- easily obtained by those people who deal in listed securities
related to information.
A wide range of people may be considered ‘insiders’. These include
management, shareholder and employees of a company, as well as
any person who has access to info from certain sources such as the
company’s lawyers and accountant, who are aware that the direct or
indirect source of info was an ‘insider’.
• Relevant provisions of the Financial Markets Act – as mentioned
above, Chapter X of the FMA regulates insider trading.
• See definitions on p526.
 Defences to civil and criminal liability

• S78 of the FMA sets out certain defences that can be raised by the
offender in order to escape liability.
• Before any person can be liable, it must be shown that the person
knew that the specific info in their possession was obtained because
of their position, that it had not been made public, and that it was
material to the price of the securities of the company.
• The person who committed the offence of receiving the information
from an insider must have had knowledge that the source was an
insider.
 Penalties and liability

• S82(1) of the FMA sets out liability for insider trading.

• It distinguishes between the offences that include actual ‘dealing’
(s78(1) – (3)) and the offences that involved disclosure of
information and the ‘encouragement’ of a third party 9s78(4) – (5)).
• In both cases, a person who contravenes the sections is liable for
the following:
 an administrative penalty not exceeding the equivalent amount of
the profit that the person would have made or the loss the person
avoided, as a result of the insider trading
 an amount of R1 million plus three times the amount referred to
above
 interest and legal costs
 for contravention of sections 78(4) – (5) any commission or payment
for the information must be repaid.
• In addition to the abovementioned penalties, section 109(a) of the
FMA provides for criminal sanctions for any person who engages in
insider trading.
• A person who commits the offences of insider trading, market
manipulation or false reporting is liable, on conviction, to:
- a fine of up to R50 million
- imprisonment for a period of up to ten years
- both fine and imprisonment.