LONDON (Reuters) - Britain's banks have 18 months to stamp out incentives that encourage the mis-selling of financial products or face "intrusive" action, the Financial Services Authority said on Wednesday.
UK banks have been hit by a string of scandals in the last 20 years for inappropriate selling of products, such as insurance, home loans and pensions, to customers who often did not need them. Compensation for mis-sold loan insurance alone will cost the banks 9 billion pounds ($14.3 billion).
Martin Wheatley, the FSA's managing director, told a Thomson Reuters Newsmaker event it was time to tackle incentives for sales staff as banks were no longer serving customers properly.
"Some time ago, this changed - financial institutions have changed their view of consumers from someone to serve to someone to sell to," Wheatley said.
Wheatley said banks could no longer expect to make heady returns and should get back to offering "plain vanilla products" that customers can understand.
"If we think in a year to 18 months' time the industry has not cleaned up its act, then we will revisit it in a much more intrusive way," Wheatley said.
"The question is how intrusive we need to be," Wheatley told Reuters.
The FSA has started enforcement action against one firm over its sales incentives to stop what Wheatley called the "pile it high and sell them cheap" approach seen across the industry.
A person familiar with the situation said the enforcement action was being taken against Lloyds (LLOY.L) bank.
Lloyds said that since the FSA began its review of incentives in summer 2011 the bank has been working closely with the watchdog to keep them "updated on our progress and to ensure the changes we have made to the schemes are appropriate".
Wheatley said new rules could make certain that the FSA's "new, fairer, approach is hard-wired into the way firms do business, and enforceable if they disregard them".
He said cultural change was needed at the top of firms to tackle poorly designed incentive schemes that boost the earnings of the sales person but "too often result in customers being sold products they do not need or cannot use".
The FSA will attend more bank board meetings and raise its concerns when it meets bank chiefs collectively each quarter to end a "disconnect" between CEOs' willingness to correct shoddy sales practices and the apparent lack of action on the ground.
The FSA was not aiming to ban commission but to put pressure on banks to have the right sales incentives, as piling on prescriptive rules could encourage them to find ways round them, hence the emphasis on cultural change, he added.
Wheatley is due to make recommendations on September 28 on better supervision and governance for setting the benchmark Libor interest rate, which Barclays (BARC.L) was fined $453 million for rigging.
Wheatley declined to comment on his public consultation on proposed reforms to Libor which ends on Friday.
"I have a busy weekend ahead," he said.
The FSA has already shown its teeth in changing culture at the banks. Chairman Adair Turner helped to force the resignation of Barclays chief executive Bob Diamond in July, saying he was not the right person to bring about a cultural change after the bank admitted manipulating Libor.
Financial consumer champion Martin Lewis told the Newsmaker that Wheatley's pledge to intervene in how banks "flog stuff" to consumer was music to his ears, but the challenge would be to deliver.
The FSA also published a review of sales incentives at 22 banks, insurers and investment firms, with most showing deficiencies that encouraged mis-selling.
"What we found is not pretty. Most of the incentive schemes we looked at were likely to drive people to mis-sell in order to meet targets and receive a bonus, and these risks were not being properly managed," Wheatley said.
The review found many examples of poor sales practices, such as "first past the post" incentives, where the first of 21 sales staff to reach a target could earn a "super bonus" of 10,000 pounds.
Another firm slapped big incentives on staff to sell the more expensive products to customers, despite claiming to offer impartial advice, the review said.
The watchdog also saw a sales person lie about the price of a product to increase his bonus, while another rushed through sales before the end of a quarter to avoid a pay cut.
Some firms intentionally "turned a blind eye" to mis-selling risks, while others that linked bonuses and other pay to the volume of sales needed to "dramatically" improve their standards, the FSA said.
The FSA review recommended rewarding good compliance with appropriate sales rules. Bonuses could also be reduced when sales volumes approach a certain level so there is no incentive to push through more sales.
Criminal sanctions were possible for "egregious" mis-selling, Wheatley said.
The FSA will be scrapped next year and replaced with a Financial Conduct Authority, headed by Wheatley, with a remit to protect customers. It will have powers to ban products and intervene earlier in their design to avoid people being ripped off.
($1 = 0.6295 British pounds)
Additional reporting by Kirstin Ridley, Editing by Sinead Cruise and Will Waterman