Open Europe responds to the European Council proposal for a new EU system for financial supervision
19 June 2009
Open Europe has today responded to the decision of EU member states’ leaders to create a new system for financial supervision in the EU. The plans include the creation of two new bodies: a European Systemic Risk Council (ESRC) and a European System of Financial Supervision (ESFS).
Open Europe’s Research Director Mats Persson said:
“Moves to safeguard a stable financial system should be welcomed, and indeed, some of these proposals are a step in the right direction. However, there are too many uncertainties over what these proposals will mean in practice.”
“As always with EU politics, the devil will be in the detail. It’s the nuts and bolts of these proposals that could potentially have a huge impact on how the UK’s financial institutions are run in the future and their ability to compete in the global marketplace.”
“The Government should put the brakes on these plans until there has been full and open consultation with industry and until it undertakes a thorough evaluation of whether these proposals are in the long-term interests of the City, the UK and the wider EU economy. At the moment, the Government seems to be continually one step behind the action. Given the UK’s importance as a financial centre, the British Government should be driving the debate rather than sitting in the back seat”.
Background:
In November 2008, in the wake of the financial crisis, the European Commission mandated a group chaired by Jacques de Larosière – former Governor of the Banque de France – to propose recommendations to the Commission on how to avoid financial meltdowns in the future, by introducing more EU regulation and supervision of Europe’s financial markets.
The final report presented by the so-called de Larosière Group on 25 February 2009 set out a slew of proposals, including a new system of European financial supervision.
This proposal envisioned the creation of – for most practical purposes – two new bodies at EU level: a European Systemic Risk Council (ESRC) and a European System of Financial Supervision (ESFS).
European Systemic Risk Council (ESRC): The ESRC would act as a ‘macro-prudential’ supervisory body, meaning that the body would monitor EU economies, warning against threats to the stability to the system as a whole, for example the systemic impact of lenders such as Northern Rock or HBOS going down due to their exposure to certain kinds of financial products. Risk warnings issued by the body would be passed on to national supervisors to take action to ensure risks are mitigated. However, the warnings wouldn’t be legally binding.
Originally, it was envisioned that the body would be under the auspices of and chaired by the European Central Bank (ECB), and that it would be composed of the General Council of the ECB, which includes central bankers from all 27 Member States, one representative from each of the Level 3 Committees (see below) and one representative from the European Commission. The summit’s conclusions state that “the members of the General Council of the ECB will elect the chair of the European Systemic Risk Board.” This would give the UK a vote but it is unclear how the voting would work in practice.
A European System of Financial Supervision (ESFS): The Commission’s proposal envisions a two-stage process for the upgrading of three EU committees, which currently only have advisory status. The first stage would give these committees a more proactive role in organising and guiding so-called colleges of supervisors (meetings of representatives of all national supervisors) and in reviewing the standards of national supervisors.
The second stage would elevate the committees into three new authorities – called European Supervisory Authorities (ESAs) – overseeing banking, insurance and securities. Controversially, the new authorities would have legally binding powers over national supervisors on supervisory standards. They would exercise legally binding mediation between national supervisors, adopt binding supervisory standards and technical decisions, coordinate colleges of supervisors, license EU-wide financial institutions and work in cooperation with the ESRC to ensure mitigation of macro-economic risks. The European Court of Justice would have the final say in disputes between national supervisors.
An ECOFIN meeting on 10-11 June broadly endorsed the de Larosière Report’s proposals, and similarly, the proposals received the green light at today’s meeting of EU heads of state.
The summit’s conclusions read: “the summit agrees that the European System of Financial Supervisors should have binding and proportionate decision-making powers (over) whether (national) supervisors are meeting their requirements under a single rule book and relevant (EU) law” .
The Commission will table a formal proposal in the autumn, with a view to having it adopted in time for the new supervisory framework to be up and running during 2010. If the proposal is introduced under the EU’s internal market rules it will be decided by Qualified Majority Voting so the UK does not have a veto.
Key points:
The proposals for more cross-border coordination are broadly welcomed: It seems clear that every effort must be made to avoid the systemic failures that became painfully evident during the financial crisis. As a result of what is widely regarded as inadequate financial oversight and regulation in the EU, the UK, along with virtually all member states, rightly sees a need for more cross-border coordination between central bankers, national regulators and other actors. This is a welcome development.
A new EU body charged with monitoring the systemic risks that arise from financial institutions and markets could play an important role in promoting financial stability. Meanwhile, an increased role for the EU committees that currently oversee individual firms with particular focus on banking, insurance and securities issues also makes sense. This would effectively create a ‘network of national supervisors and bankers’ which would exchange information and issue guidance to national supervisors.
However, as always with EU politics, the devil will be in the detail. The UK Government is still to define exactly what structure, powers and role it foresees these EU bodies taking on. A number of problems have been raised by the current proposals and negotiations, including:
The role of the UK’s Financial Services Authority could be undermined: The UK’s Financial Services Authority has argued that the Commission goes “too far in proposing that the EU level body should be able to overrule national supervisors.” As the UK Treasury pointed out in 2008, centralising supervision-powers at the EU-level is problematic, since,
“the most appropriate form of supervision for the single market remains at Member State level, with national supervisors cooperating to ensure that markets function effectively and appropriately. Such an approach allows for the differences in the EU’s retail financial markets in particular, which we believe will remain characterised by differences in national cultures and consumer preferences. Even in wholesale markets, the most appropriate supervisory tools may depend on national or group specific differences…these differences [sic] cannot simply be legislated away…Indeed, recent events in financial markets have highlighted that national accountability remains a critical part of both ongoing and crisis supervision.”
The Treasury has also stated that, “we are strongly opposed…to changes that could lead to giving the Committees decision-making or enforcement powers over national regulators.”
However, if the ESFS is given ‘binding mediation’ powers, as countries such as France are strongly pushing for, this would lead to national regulators being overruled in cross-border disputes. Commission President Jose Manuel Barroso has said that "an overwhelming majority" of EU countries "favoured a binding dispute settlement mechanism", enabling the European regulator to overrule national governments.
French President Nicolas Sarkozy said today that he sees the prospect of ‘binding mediation’ powers for EU supervisors as a “sea-change” in Britain’s position. He said, “Mr Brown has assumed his responsibilities: it is a complete sea-change in the Anglo-Saxon strategy.”
Crucially, under the proposal, legally binding decisions in the new authorities will be reached by Qualified Majority Voting, meaning that the FSA or the UK could be forced to accept an action it doesn’t agree with or which it sees as detrimental to the City or the wider UK economy.
A pan-EU body could make binding decisions that involve British taxpayers' money: Credible threat or political ‘smokescreen’? The UK Government has argued that the proposal for a three-headed EU authority with the power to overrule national supervisors could lead to a mismatch between responsibility for risk mitigation, which would be held at the EU level, and fiscal liability, which would be borne by national governments and taxpayers.
The UK City Minister Lord Myners has argued that the Commission’s proposal risks “breaking the vital link between national supervision of banks and national crisis management. National supervision must be pre-eminent when the cost of the failure of an institution lies with the taxpayer.”
The proposals endorsed at the summit today therefore included a declaration, stating that "Recognising the potential or contingent liabilities that may be involved for member states, the European Council stresses that decisions taken by the European Supervisory Authorities should not impinge in any way on the fiscal responsibilities of the member states."
However, how much of an issue this was in the first place and exactly what the declaration will mean in practice will need clarification over the coming months, before the legislative proposal is formally tabled. There is clearly a tension between the ‘binding’ powers to mediate between national regulators, on the one hand, and the assurance that the “European supervisory authorities should not impinge in any way on the fiscal responsibilities of the member states," on the other. This tension entails a necessary limitation of the ESAs’ powers and this assurance will need to be formalised in a manner satisfactory to the UK Government.
However, it is important to move beyond this ‘headline grabbing’ debate and begin thorough discussions of what powers the bodies will have in practical day-to-day regulation. For example, if they will be able to overrule national regulators in disputes over capital requirements for banks. It is the day-to-day issues that could potentially have a huge impact on how the UK’s financial institutions are run in the future and their ability to compete in the global marketplace.
Creating new authorities with legally binding powers requires EU treaty change: The House of Lords’ European Union Committee has concluded that giving three new authorities binding powers over national supervisors “is questionable under the Treaty, since granting binding powers requires a Treaty amendment.” Similarly, one of the witnesses to the House of Lords Committee, Mr. Sáinz de Vicuña, argued that, "to create a new agency with new powers is in my view across the line of what is permissible under the internal market's legal basis".
This is problematic as the likelihood of ministers wanting to open up negotiations over the EU treaties is very small. Curiously, contrary to the Lords Committee’s conclusions, the Commission has argued that:
“The Court of Justice has acknowledged that Article 95 of the EC Treaty relating to the adoption of measures for the approximation of legislation for the establishment and functioning of the internal market provides an appropriate legal basis for setting up a "Community body responsible for contributing to the implementation of a process of harmonisation", when the tasks conferred on such a body are closely linked to the subject-matter of the acts approximating the national legislations.
The tasks to be conferred on the European Supervisory Authorities being thus closely linked to the measures put in place as a response to the financial crisis and to those announced in the Communication on "Driving European recovery", they can, thus, in line with the Court's case law, be established on the basis of Article 95 of the EC Treaty.”
It is not acceptable that such ambiguity persists over whether the creation of three new EU agencies is in fact permissible under current EU law. Before any proposal is tabled, this uncertainty needs to be clarified – ignoring the EU’s treaty base is no small matter.
The UK Government appears “to be behind the ball game”: Gordon Brown’s government has come under criticism for failing to stand up for Britain’s interests in Europe when it comes to the new proposals for financial regulation and supervision. Labour peer Lord Woolmer, who chaired the Lords inquiry into the Commission’s proposals, criticised the speed in which the proposals have been carried forward, and criticised the UK Government for appearing to “be behind the ball game at times.”
In addition, Lord Woolmer and his committee criticised the UK Government for failing to identify what it actually hopes to achieve in the negotiations over a new EU supervision structure, even accusing a Government Minister of giving different views “in each set of evidence he provided” .
Who will chair the European Systemic Risk Council (ESRC)? The original Commission proposal recommended that the ESRC be chaired by the President of the ECB but the UK has understandably questioned whether the interests of non-eurozone members will be adequately represented. Gordon Brown has reportedly argued for a rotating chair but it is unclear whether he has been successful in securing this.
The summit’s conclusions say that “The members of the General Council of the ECB will elect the chair of the European Systemic Risk Board.” The UK is represented on the ECB’s General Council by the Govenor of the Bank of England but it is still the case that eurozone members outnumber non-eurozone members by 16 to 11 .
Notes for Editors
1) For more information, please contact Mats Persson on 0044 207 197 2333 or 0044 7799 460691.
2) Open Europe is an independent think-tank calling for reform of the European Union. Its supporters include: Sir Stuart Rose, Executive Chairman, Marks and Spencer plc; Sir Crispin Davis, Former Chief Executive, Reed Elsevier Group plc; Sir David Lees, Chairman, Tate and Lyle plc; Henry Keswick, Chairman, Jardine Matheson Holdings Ltd; Lord Sainsbury of Preston Candover KG, Life President, J Sainsbury plc; Sir John Egan, Chairman, Severn Trent plc and Lord Kalms of Edgware, President, DSG International plc.
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