4 March 2015

If the ruling had gone against the UK it would have seriously undermined the single market and significantly increased the power of the ECB – and probably would have made ‘Brexit’ more likely.

What was the case about?

On the 5 July 2011 the ECB published its Eurosystem Oversight Policy Framework, which argued that clearing houses based in the UK or other non-Eurozone countries would have to move inside the Eurozone to continue to do business in euros :

As a matter of principle, infrastructures that settle euro-denominated payment transactions should settle these transactions in central bank money and be legally incorporated in the euro area with full managerial and operational control and responsibility over all core functions for processing euro denominated transactions, exercised from within the euro area.

In that paper and future opinions the ECB has stressed that it will not provide central bank liquidity to clearing houses outside the Eurozone but that all such institutions should have access to it.

The UK quickly challenged the policy in September 2011, calling for the ECB’s policies to be annulled, and has launched two further challenges at the ECJ, in which it updates its list of complaints, the key points of which are:

  • The ECB lacks powers to dictate the location of business, especially since it did not include the plans in a regulation to be adopted by the Council or by the ECB itself, simply decreed it in a policy paper and opinion.
  • “De jure or de facto” the rules will impose a residence requirement on clearing houses which want to clear euros, meaning existing clearing houses will face a choice of moving within the Eurozone or changing their business approach.
  • The rules offend the principle of equality in the single market since firms incorporated in different EU member states will be viewed differently and the rules will not apply equally.
  • There are less onerous methods for achieving the  security of the financial system.

How did the Court rule and what did it say?

The ECJ (its general Court) fully supported the UK’s request for the Eurosystem Oversight Policy Framework to be annulled. The press release said:

“The General Court annuls the European Oversight Policy Framework published by the ECB in so far as it sets a requirement for CCPs involved in the clearing of securities to be located within the Eurozone.”

“The General Court holds that the ECB lacks the competence necessary to regulate the activity of securities clearing systems as its competence is limited to payment systems alone by Article 127(2) of the FEU Treaty.”

The Court added that if the ECB felt that its role in managing payment systems required the oversight of securities clearing, it would need to request a change to its statute so that the relevant article includes explicit reference to this point.

This ruling is important for both the UK and the Eurozone

This ruling is crucial for the UK, other non-Eurozone countries as well as the Eurozone itself:

  • Stops a damaging split in the single market (especially in financial services) – Essentially, if the Court had sided with the ECB, there would have been a split in the single market for clearing certain currencies and securities based on where firms were located in the EU. It would put a de facto residency constraint on performing certain financial transactions.
  • Supports view of ECJ as an independent arbiter – concerns have been increasing in the UK, particularly in the financial services, that the ECJ consistently sides with the EU/Eurozone against the UK. If the UK is to stay in the EU in the longer term, having an independent arbiter to enforce the rules is imperative. Ultimately, securing legal and political guarantees/safeguards is pointless unless these are protected. This ruling does not guarantee that yet, but it is a good start and a good sign.
  • Shows limits of Eurozone – as we have pointed out numerous times, many of these court cases encompass a broader aspect beyond the technical rules. They are vital in testing and setting out the boundaries for what action the Eurozone and the ECB can take under EU treaties given how certain decisions impact non-Euro members. This ruling highlights that the single market must be respected and begins to set limits for Eurozone action. This will be crucial in future for a wide range of issues but notably Banking Union and financial regulation.
  • Shows ECB is accountable – One of the concerns with the recent ECJ opinion on the ECB’s bond buying programme (OMT), was that the ECJ was so hesitant to pass any judgement on the ECB. This decision shows that, when it is beyond the ECB’s core issue of monetary policy, the Court is willing and able to hold the ECB to account. This is important for the Eurozone and the whole EU. The ECB has amassed significant power and influence during the crisis, yet it remains independent and largely unaccountable. This is an important step in showing the ECB that it does not have free reign over financial issues and cannot push the boundaries of its Statute.

Does this raise concerns about financial stability?

As we noted before, the ECB does have some validity in its point about financial stability. There is no doubt that more and more transactions are being directed on to exchanges and through central counterparties (clearing houses) therefore it makes sense for them to have access to sufficient liquidity. Then again, the LCH Clearnet clears products in 17 different currencies without the need for central banks backstops in all of them. Furthermore, central counterparties within the Eurozone have always cleared transactions in a variety of different currencies, without access to the relevant central bank’s liquidity. Surely under ECB logic this would have been deemed unsafe? Yet they never made any mention of it or showed any concern. This seems to suggest the decision was more political than about financial stability.

Nevertheless, to rule out any concern our proposal has always been that using the existing Pound/Euro swap lines between the Bank of England and ECB, in a more formal and lasting structure (which can include information sharing on oversight and use of liquidity), is the most sensible and logical way to deal with any concerns around lack of liquidity. We hope that discussions will now move from legal questions to practical ones.

What happens now?

That said, this is far from guaranteed. Since the ruling was made at the General Court, the ECB has the right to appeal. Given the clear and forceful nature of the ruling we would hope this is unlikely. The UK has also lodged two further appeals against the ECB’s action/opinions on this front. These may be withdrawn though we expect it will depend on the action of the ECB.

In the ruling, the Court notes that the ECB has the ability to request a change to its Statute to allow for its role to cover securities clearing. It could request this and as the ruling notes, there is a derogation which:

“Enables the European Parliament and the Council, acting in accordance with the ordinary legislative procedure, and on a recommendation from the ECB or a proposal from the Commission, to amend those provisions.”

This means that changes to the ECB Statute of this nature could be done without full Treaty change and would be decided under Qualified Majority Voting (QMV), meaning the UK could not veto it. However, this looks very unlikely and would be particularly belligerent on the part of the ECB. It’s also not clear that there would be any support for this amongst other member states (other than France and Spain).

One point to note is that, if this dispute does rumble on in some form, the Court has only ruled on the UK’s first plea – that the ECB does not have competence here. It has not directly considered the other concerns (noted above). Any future disputes may take more account of these points, meaning the UK still has plenty of ammunition in the bag.

But this is only the first round

This whole process has raised some concerning questions about certain players in the EU, particularly when it comes to financial services regulation. While it reflects fairly well on the General Court and its role as an independent arbiter, others have come off less well.

  • The European Commission – looking back it does seem strange that the UK has had to fight this almost alone, with only the direct support of Sweden. The Commission is meant to be the guardian and enforcer of the EU Treaties and particularly the single market. The ruling makes very clear what the ECB was trying to do was fundamentally against its Statute and the EU Treaties, yet the Commission at no point considered getting involved or trying to see if the Treaties were under threat.
  • The ECB – One has to question the internal processes of the ECB on this issue and why it continued to push it so forcefully despite the clear objection of some large member states, the serious legal concerns and the inclusion of wording directly contrary to its view in regulation (EMIR). This is exacerbated by the sense that a single member state, in this case France, was driving the policy. While many claim the Germans often dominate the ECB, in this case there seemed to be little interest in the issue from anyone beyond France and the Banque de France. Why it was able to push such an issue so far and so hard is of serious concern.
  • Changes remain possible – as noted above, the basis of the ruling is that the ECB does not have competence in this area but this could be changed. If the ECB were to alter its Statute and persist with this policy futher cases would come into play and the other pleas which the UK made would then be assessed. The ruling does not explicitly mention issues such as the single market and the primary of regulation (EMIR) – so the ruling was not based on discrimination against non-eurozone countries. As such, this may only have been then first round. It is still on net positive since it averts disaster if the ruling had gone the other way.

(The full ruling can be found here and the press release here.)