Advantages and Disadvantages of Outcomes Focused Regulation

A. Potential Advantages of OFR

There are potential advantages in the regulatory shift to OFR. Its advocates promise a stronger focus on areas of highest regulatory risk and on client protection and high standards of service.

The processes employed under the new-style regulatory regimes usually include intense dialogue between involved actors covering the purpose and application of the principles. The burden of interpretation and responsibility for achieving outcomes is, however, on the regulated organisation. Helping organisations to deliver their out­comes, and achieving the overarching aims of the system, the regulatory principles of the LSA 2007, depends on the methods of regulation adopted by the regulator.¹⁹⁵

i. Flexible and Proactive Regulation

a. Principles-based Regulation

A criticism of traditional, rule-based regulation is that it is not ‘reflexive’; the rule is inflexible, there is no reflection back in the light of experience.¹⁹⁶ Ideal

¹⁹⁵ Black, ‘The Rise, Fall and Fate of Principles Based Regulation’ (n 157).

¹⁹⁶ D Nicolson and J Webb, Professional Legal Ethics: Critical Interrogations (Oxford, Oxford University Press, 1999) at 93.

processes might provide routine oversight of the impact of regulatory processes on practice, space for dialogue between regulator and regulated and scope to share successful strategies with the regulated community. Yet another consideration is facilitating international legal practice, for which detailed conduct rules might be inappropriate.^[1198]

b.

Risk-based regulation is concerned with identifying risks in the regulatory environment and directing resources to controlling these risks. It appears to be more directed to the old method of regulation, where investigations were instigated after tip-offs. It could also involve identifying types of risks associated with particular kinds of organisation and focusing resources on those organisations.

c. Client Protection

Client protection was formerly concerned with compulsory insurance requirements for solicitors and the maintenance of an indemnity fund. Ethical observance among providers is also a dimension of client protection. Therefore, methods that develop attitudes and behaviour consistent with ethical compliance within organisations support the goal of client protection. Regulation can help to develop mechanisms for reviewing and propagating these methods.

d. Client Service

Client service has an ethical and business dimension. Both are supported by effective quality assurance within organisations. A more proactive relationship with provid­ers of legal services provides opportunities to ensure that appropriate management systems are in place.^[1199] An example of this is complaints handling.

ii. Cultural Regulation

The methodology associated with OFR is inspection of quality assurance processes within organisations. This gives regulators an opportunity to encourage the develop­ment of internal structures and processes that promote, formalise and embed ethical behaviour. The New South Wales (NSW) regulator refers to this system as ‘cultural regulation’.^[1200]

a. Managerial Accountability

Conventional ethics codes and disciplinary systems tend to be geared to holding individual practitioners to account. Disciplining managers before professional tri­bunals for organisational failures is difficult. Even where it is technically possible, as in the US, there are low numbers of reported cases.^[1201] The problem of holding managers to account for organisational failings is less of a problem in a system geared to regulating entities.

b. Ethical Infrastructure

The term ‘ethical infrastructure’ was coined by Schneyer to describe organisational structures supporting ethical behaviour.^[1202] There is some evidence that organisations with good management and good values have a more positive impact on compliance than competent management and formal systems, even where there are plentiful resources.^[1203]

c. Self-assessment

Research into PBR in NSW attributed a significant decline in complaints against incorporated practices to a system of self-assessment. Practices were asked to rate their performance against indicative criteria, from fully to partially compliant, for the ‘ten objectives of sound legal practice’.^[1204] For example, a criterion suggested for the first objective, ‘competent work practices to avoid negligence’, is that ‘fee earn­ers practice only in areas where they have appropriate competence and expertise’. Any gaps found in this self-assessment of good office practice and ethical behaviour are discussed with the regulator, the Office of the Legal Services Commissioner (OLSC).

The data collected from the NSW self-assessment regime assisted in developing a ‘risk profile’ and enabled targeting of high risk units. The OLSC conducted compli­ance audits of appropriate management systems. These ‘practice reviews’ looked at files and behaviour that had been highlighted in the self-assessment forms. Analysis of the complaints against such firms showed that completion of the self-assessment triggered improvement in complaints records. Self-assessment was a more power­ful factor in improving performance than either incorporation or management systems.^[1205]

B. Potential Disadvantages of OFR

i. Scale and Proportionality

Early proponents of principles-based regulation promised that it would be ‘light touch’, more concerned with improving practices and raising standards than with punishing offenders after the event.^[1206] There would be high level principles govern­ing practice and the quality of practice, rather than ‘tick-box’ compliance with rules.^[1207] This, of course, was when such systems were to be applied only with large firms.

Smedley expected his system of corporate regulation to apply only to the largest firms in terms of staffing and turnover, those dealing largely or exclusively with cor­porate clients (say, a minimum of 70 per cent of its client base).

Large organisations might experience the regulatory methodology accompanying OFR as ‘light touch’, because of their scale of operations. It is relatively easy to desig­nate specific personnel to fulfil the different roles necessary for compliance. Smaller firms and sole practitioners could find the ‘compliance machinery’ onerous. The methodology of OFR therefore, potentially imposes disproportionate costs on small firms and sole practitioners.

ii. Resources

The effectiveness of monitoring depends to a large degree on the types of mecha­nisms employed. There is a premium on smart use of resources. The lesson from the financial services disaster was that ‘light touch’ regulation carries serious risks. OFR, like any other kind of regulation, requires both resources and teeth. When the FSA changed its regulation regime from PBR to OFR, the main difference was the addition of 350 new staff. This created a team of direct supervisors 1200 strong for regulation of 20,000 firms.

The SRA employs around 600 overall to control 10,000 firms and, now, vari­ous ABS. Of its overall complement, the SRA has a relatively small team focused on supervision of law firms. Additionally, unlike the FSA, the SRA operates two systems, the new regime of ‘firm-based’ regulation, which is supposed to be sup­portive and developmental, and the conventional structures of intervention and preparing disciplinary cases. This is unlike the FSA, which refers serious cases to the police.

iii. Effectiveness

Proponents of PBR, the LSB, Hunt, Smedley and the SRA, all cite the regulation of corporate law firms in New South Wales as evidence that it works.^[1208] The key statistic is the fact that there was a reduction of complaints by two-thirds in the regulated group after the introduction of the new system.^[1209] The regulated group in NSW was, however, incorporated practices.

It is notable that the NSW system operates alongside more familiar frameworks of discipline, which remain the method of regulation for unincorporated firms. Parker comments that

the whole self-assessment regime only works because the lawyers responsible for filling it in fear individual disciplinary action if they do not do it properly—and because they under­stand that it is aimed at demonstrating that their firm has systems to make sure they are meeting the pre-existing rules^[1210]

Parker notes that there were not many true multi-disciplinary practices in NSW and data was not kept to enable analysis of their performance. Therefore, in general, the focus of regulation and discipline remained the individual, who was still subject to substantially the same professional code and disciplinary system that preceded the introduction of measures for incorporated practices. Evidence to support the effectiveness of PBR, or OFR, was therefore thin at best.^[1211]

C. The Code of Conduct

i. Rules or Outcomes?

Black distinguishes between formal and substantive PBR.^[1212] Formal PBR operates at the level of the rule book, where most ethics regimes supplement principles with guidance, explanations and rules.^[1213] The formal aspects of the PBR regime are gener­ally no clue to its substantive nature; detailed rules might co-exist with an approach that is ‘light touch’. Abandoning rules altogether is, Black suggests, usually a mistake.

One of the most startling changes made under the OFR regime implemented by the SRA was the replacement of rules in the Code of Conduct by principles, outcomes and indicative behaviours. This high level of generality was thought necessary to cover the wide range of organisations, sectors and professions the SRA aspires to regu- late.^[1214] The risk is that the methodology will not be adequate to meet the challenge of regulating diverse organisations.

ii. Discipline

The traditional code is the basis of individual responsibility and disciplinary proceed­ings. One of its advantages is that professionals at risk of losing their careers can know the specific breaches they are accused of. This is more difficult when they have failed to achieve a very broad outcome and there are acknowledged to be different ways in which it could be achieved. Another risk of OFR, therefore, is that it cre­ates uncertainty about professional standards and undermines the authority of and effectiveness of disciplinary machinery.

iii. Practitioner Compliance

Reasons why practitioners adhere to professional norms include a sense of common identity and solidarity with professional colleagues. The risk in shifting the focus of regulation, making organisations and ‘compliance professionals’ responsible for eth­ics, is the risk, anticipated by Clementi, that practitioners come to regard regulation as ‘external’, rather than their own professional responsibility.