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Graham Bishop’s OVERVIEW. -
Financial markets are part way through a catastrophic global failure that was not foreseen – in the totality – by anyone. So there must be a substantial revision of the regulatory framework for all financial services. But – for the first time – this process will be driven by the collective wishes of a global citizenry. Their interests will be represented by the governments of the G20 and not just the US and EU. The UK Presidency paper ahead of the April G20 meeting even proposes that governance of the IMF be reformed correspondingly.
However, summit meetings of 20 Heads of Government are likely to produce a catalogue of noble aspirations but the practical need is to reach the end of the process with a body of detailed regulations that will achieve the aspirations and be capable of practical application. The EU Heads of Government pre-meeting last weekend illustrated the risks as they endorsed – according to press reports – a plan to create a comprehensive regulatory framework that covers all financial markets, products and participants. It was described as a grand bargain that covered global financial control mechanisms.
Clearly this is also responding to the intensity of the debate on these matters within the EU. Yet the UK paper made no mention of how this would be knitted together with EU actions. What do the citizens of Argentina, Australia, Brazil, China, India, Indonesia, Japan, Mexico, Russia, Saudi Arabia, South Africa, South Korea and Turkey think about these issues? Do they have any knowledge of the forces that have developed current EU regulations so that they can frame comments in a way that is capable of eliciting an understanding response from the EU, rather than indulging in a “dialogue of the deaf”?
For the EU, this debate will be informed by the results of the Delarosiere Group’s work this week and there will be another weighty contribution soon from the UK’s FSA where the Chairman has already said bluntly that the real choice at this stage is more Europe or less Europe. In the context of the CRD deliberations on a lead supervisor, leading members of the European Parliament have made their views clear that the aim should be a model for supervision in Europe similar to the European System of Central Banks. Colleges, therefore, are only a temporary solution so the central question is whether Parliament should accept colleges or target the “big bang” solution.
Many participants are now publishing the evidence they submitted to the Delarosière group and it is clear that colleges of supervisors seem to offer the most realistic way forward in terms of achieving more efficient prudential oversight in the EU. But there is a central problem that many observers skirt around: if the college is going to have actual power over a cross-border financial institution, what will be the legal foundation for transferring this power away from a national regulator?
The ECB has repeatedly pointed out that there is an existing Treaty article that allows it to be given some banking supervision tasks – but insurance is excluded. What would happen to the insurance parts of financial conglomerates? If actual power is to be transferred, then both Ireland and Denmark are likely to be required to hold a referendum. In current circumstances, it may seem futile to go knocking on the doors of such electors to explain the merits of transferring such sensitive powers to an EU body which would then take its lead (or orders?) from a global body.
In the meantime, two small practical steps attracted little attention. The Commission revised its Decisions establishing the 3L3 Committees CESR, CEBS and CEIOPS. The new Decisions contain a non-exhaustive list of tasks that the Committees are expected to perform and enhance the role of the Committees as regards the safeguarding of financial stability. Interestingly, the Decisions introduce qualified majority voting when consensus cannot be reached. Members who do not follow measures adopted by the Committees must be prepared to explain themselves. But the measures adopted by the Committees remain non-binding. The Commission also proposed to provide direct funding from the Community budget to the 3L3 Lamfalussy Committees and to key international and European bodies involved in the standard setting process for financial reporting and auditing. The Commission proposed the establishment of a Community programme, providing direct funding from the Community budget to CESR, CEBS and CEIOPS. The other bodies are the International Accounting Standards Committee Foundation (IASCF), the European Financial Reporting Advisory Group (EFRAG) and the Public Interest Oversight Body (PIOB).
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The Czech Presidency issued a compromise package on the proposed directive on CRAs following the discussions in the working party meetings. But Parliament is concerned by the way the Presidency is leading the dossier, saying that the text as it stands falls short of expectations, given what is at stake with this topic. (Editor’s note: Whilst the rush to enact the proposal is understandable, there are corporate governance concepts at stake that could turn out to be the proverbial thin end of the wedge.)
ECON discussed the amendments made on the Capital Requirements Directive and the Rapporteur concentrated on three items: supervision, securitisation, and CDSs. He still favoured a securitisation model which differentiates between ‘good’ and ‘bad’ papers but finding the right wording for a definition is key. However, the ECON Chair felt the securitisation issue is not a problem in principle and a solution on the right percentage should be possible.
February saw rapid developments in the debate on clearing of Credit Default Swaps. Commissioner McCreevy addressed ECON and said that a regulatory approach is necessary given the absence of an industry initiative. The International Swaps and Derivatives Association (ISDA) promptly announced that major industry participants have committed to the use of central counterparty clearing for CDS in the EU. Nine of the leading dealer firms in the CDS industry signed a letter to Commissioner McCreevy, confirming their engagement to use EU-based central clearing for eligible EU CDS contracts by end-July, 2009. He welcomed “proposals to address the issue of clearing of Credit Default Swaps on a European CCP, pending a more complete review of the whole derivative area” and added that “CESR and the ECB both consider that clearing of CDS on a CCP in the EU is essential for financial stability and oversight”.
The tentacles of the Madoff scandal have reached into the world of UCITS and the Commission moved to clarify the responsibilities and liabilities of UCITS depositaries. The incident showed differences in the way that the requirements of the Directive are given expression in national law. It has revealed different expectations as to whether the depositary is required to keep assets under its control so as to be able to return them to investors, or whether its responsibilities are confined to monitoring the security of the assets. It also suggests differences as to where the burden of proof lies in establishing responsibility and liability.
Both hedge funds and private equity are usually singled out for criticism by Heads of Government but they still have their supporters who look at the evidence. The EBF supports market-led initiatives and reiterates that the implementation of the Hedge Funds Code will at least lead to important improvements in particular with regard to the transparency towards investors and investor protection. The World Economic Forum published “The Global Economic Impact of Private Equity” which found that private equity-owned firms are generally better managed than counterparts and have strong operational management practices. Firms acquired by private equity groups experience higher productivity growth than firms of the same age, size and industry.
The IASC Foundation Trustees announced some important amendments to their Constitution (with immediate effect) with the goal of enhancing the public accountability of the Foundation while not impairing the independence of the standard-setting process. The IASB itself will be expanded from 14 to 16 geographically-diversified members and a Monitoring Board of public authorities will initially comprise the relevant leaders of the European Commission, the Japanese Financial Services Agency, the US Securities and Exchange Commission, the Emerging Markets Committee of IOSCO, and the Technical Committee of IOSCO. The chairman of the Basel Committee on Banking Supervision will be a non-voting observer. It will participate in the Trustee nomination process and approve appointments to the Trustees.
Looking ahead into the rest of 2009, Commissioner McCreevy observed “It must now be clear to everyone that there is a growing gap between the EU supervisory structure, which is primarily organised on a national basis, and market developments, where integration and internationalisation lead to complex interdependencies and growing spill-over effects”. “The current proposed CRD amendments must and will be only the beginning of a far more comprehensive review of the entire Basel 2 Accord which clearly requires some fundamental overhaul”. Elements of that are likely to be visible when the Commission publishes the White Paper on the reform package for EU Financial markets on 8 July 2009. Main policy objectives include a reinforced prudential legislation, rethinking incentives structures (e.g. remuneration schemes), strengthening risk management in financial institutions, enhanced and more efficient supervisory arrangements.
But the Commission will not be idle as they also plan to issue a Recommendation on the removal of fiscal procedure barriers in securities post-trading infrastructure; a White Paper on requirements for retail investment products; a White Paper on early intervention tools to ensure bank stability; a Proposal for amendment of the Prospectus Directive and, if appropriate, proposals on a harmonisation of the funding mechanisms of deposit-guarantee schemes and the possible introduction of a Community deposit-guarantee scheme.
Looking even further ahead into 2010, one of the Commission’s priorities will be to manage the impact of crisis-related changes in Europe’s economy through state aid and merger control activity. 2010 should see economic recovery alongside a reformed international financial architecture, the Commission expects. The Commission will participate actively in the various international forums that will be shaping new global structures. Major initiatives to improve financial supervision and enhance macro-financial surveillance and crisis management will also be put into practice.
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Graham Bishop