Financial regulation: The EU’s agenda

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In response to the worst crisis in decades, the European Union has agreed on a series of rules and new watchdogs to regulate and supervise global financial markets. EURACTIV offers an overview of the state of play.

The repercussions of the global financial crisis on the real economy have been severe, with unemployment rising across Europe and governments having to make significant public spending cuts.

The largely unregulated financial sector has been widely blamed for inflating asset bubbles which popped and brought the global economy to a standstill. As one of the biggest crashes in the financial system revealed wayward lending policies, poor credit checks and wholesale gambling on financial markets, policymakers have started to come down hard on many aspects of banking, trading and conduct.

In particular the alphabet soup of financial products, like derivatives, credit default swaps and collateralised debt obligations, which had an inflated value and made banks rich on borrowed money, have come under the knife at the EU's main policy house, the European Commission.

Many banks invested heavily in sovereign debt with products built on borrowed money that was not as secure as previously believed, like sub-prime mortgage debt. Governments in the EU and the US have been bailing out their biggest lenders on top of pursuing policies of fiscal stimulus to reinvigorate their economies.

However, the two continents have responded differently to the financial sector's wrongdoing. The US has preferred a policy of quantitative easing – meaning printing money to stimulate demand – while the EU has poured money into its banks and clamped down on the sector with tighter regulation, the effects of which remain to be seen.

Regulating capital markets and market actors

The European Commission is adopting a 'safety-first approach' to regulating capital markets and market actors, and is filling in the gaps where European or national regulation is insufficient or incomplete.

  • Supervisory rules: The EU is in the process of approving measures to tighten regulation of financial markets, banks and insurance companies. The cornerstone of this is a financial supervision package, which established three new pan-European bodies with powers to regulate banks.
  • Taxing banks: The idea is to avoid forcing taxpayers to fund bailouts in any future bank crisis. The Commission is working on a bank resolution fund, yet member states – notably the UK and Germany – have been pressing ahead with their own bank levy plans. Another idea is a tax on financial transactions. Though this curries less favour in EU capitals (EURACTIV 01/10/10), Brussels promises to come up with legislation, either endorsing a tax on transactions or a Financial Activities Tax on bank profits.
  • Credit rating agencies: The failure of credit rating agencies to uncover the true value of sub-prime mortgage-backed securities has resulted in calls for greater regulation of the sector. Commission proposals were approved by the European Parliament and officially endorsed by the Council in mid-2009, though member states are still divided over imposing tight controls on agencies (EURACTIV 01/10/10). The sovereign debt crisis, however, has highlighted the power and devastating effects of these agencies and their behaviour. Many countries want to come down hard on ratings agencies' influence (EURACTIV 07/07/11), while the sector argues that ratings are merely an opinion on projected value.
  • Hedge funds and private equity: In April 2009, the Commission proposed a comprehensive legislative instrument establishing regulatory and supervisory standards for hedge funds, private equity and other alternative investment funds. The plans were the subject of fierce debates between the Parliament and the Council – and between member states themselves, particularly France and the UK (EURACTIV 29/09/10). After a record 2,000 amendments to the original legislation, the Alternative Investment Fund Managers Directive was adopted in November 2010 (EURACTIV 11/11/10).
  • Derivatives: A July 2009 report on derivatives and other complex structured products provided a basis for Commission initiatives to increase transparency and ensure financial stability. The EU executive has since proposed that derivatives be traded via stock exchanges and processed by clearing houses or central counterparties (CCPs), which will have to comply with stricter governance rules (EURACTIV 15/09/10). The EU's draft policy has been put on hold amid British fears that a pending stock exchange merger would create a monopoly clearing house for the enormous derivatives market (EURACTIV 05/07/11).
  • Prudential capital: Before the crisis hit Europe, Brussels proposed a review of the Capital Requirements Directive, which was then approved by the other EU institutions. The CRD is the EU's version of international capital standards agreed by the Basel Committee of Banking Supervisors. Their latest round of rules, Basel III, has recently become draft EU legislation in the form of the fourth Capital Requirements Directive (CRD IV), which is yet to get parliamentary approval (EURACTIV 20/07/11). One of the EU's three new watchdogs, the European Banking Authority, has also been tasked with drafting bank stress tests to uncover a lack of liquidity and measure their resilience to economic shocks. The last round of tests revealed that banks in Spain and Greece were worse off in a sector badly burned by the crisis (EURACTIV 18/07/11).
  • Insurance: There are separate capital rules for the insurance sector. Relatively recent draft rules – known as Solvency II – will require insurers to match their capital more accurately to the risk on their books. They are due to come into force by 2013. The Solvency II Directive introduces a risk-based approach as an alternative to the existing 'flat-rate' system for insurance companies' capital requirements. It also seeks to reform supervision procedures, with the intention of increasing cooperation among national supervisors, especially for multinational companies. In March, the proposed rules passed a stress test at Europe's insurance companies (EURACTIV 18/03/10). Implementing measures for Solvency II, including calculation of the new risk-sensitive capital requirements and rules on remuneration, are set to be introduced in 2011.

Financial supervision: The European financial supervision package, adopted in September 2010, consists of two elements:

  • Macro-prudential supervision: a European Systemic Risk Board (ESRB) to oversee the stability of the financial system as a whole.
  • Micro-prudential supervision: three European Supervisory Authorities, the European Banking Authority (EBA), the European Securities and Market Authority (ESMA) and the European Insurance and Occupational Pensions Authority (EIOPA) began their operations at the beginning of 2011. The supervisory package, based on a report by former IMF Managing Director Jacques de Larosière, suffered long delays over fears – mainly voiced by Britain – that it would impinge upon member states' fiscal sovereignty. Others, however, warned it would produce only decorative changes. The watchdogs came into operation in January 2011. The ESAs will be able to overrule their national counterparts in three scenarios: when the supervisor is in breach of EU law, when there is a disagreement between two or more national supervisors and when an emergency has been declared by member states (EURACTIV 03/09/10).

Retail financial products

The economic crisis has unnerved European savers as banks have come close to collapsing, while credit has become less and less accessible. The Commission hopes to bring political consensus to bear on these issues as it unveils a series of initiatives:

  • Retail investment products: A communication to strengthen the effectiveness of marketing safeguards was published in April 2009.
  • Investor and financial consumer protection: The Commission will unveil measures to reinforce bank depositor, investor and insurance policyholder protection. One such measure is a recent legislative initiative on access to basic banking services (EURACTIV 19/07/11).
  • Responsible lending: Measures on responsible lending and better credit checks were announced to tackle the grave credit market risks that were at the root of the financial crisis (EURACTIV 31/03/11).

Sanctions for market abusers 

To ensure more effective sanctions against market wrongdoing, the Commission is taking the following steps: 

  • Market abuse: Market Abuse Directive aims to increase market integrity by defining cases of abuse and enabling administrative authorities to investigate and sanction market abuse. It also covers the level and nature of sanctions. The European Securities and Markets Authority has the job of making sure financial actors do not spread rumours or make false claims about certain financial products.
  • Strengthening sanctions: Under recent draft legislation, bankers could face fines above five million euros for rule-breaking under EU plans that would bring other European countries into line with Britain's tougher regime on regulating banks. The draft law promises a stricter code of penalties not just for banks, but also for individual bankers, if they hide information from regulators or break rules capping the amount of cash paid in bonuses (EURACTIV 01/06/11).
  • 1 Oct. 2008: European Commission presents legislative proposals to review Capital Requirements Directive.
  • Oct. 2008: Commission appoints ad hoc high-level group on financial supervision, chaired by former IMF Managing Director Jacques de Larosière (EURACTIV 23/10/08).
  • 12 Nov. 2008: Commission proposes tighter rules for credit rating agencies (EURACTIV 13/11/08).
  • 15 Nov. 2008: G20 summit in Washington agrees five-point action plan to reform global financial markets (EURACTIV 17/11/08).
  • 25 Feb. 2009: De Larosière group hands in report (EURACTIV 26/02/09).
  • 19-20 Mar. 2009: EU summit endorses common position for G20 (EURACTIV 20/03/09).
  • 2-3 April 2009: G20 summit in London.
  • 15 April 2009: EU lawmakers agree tighter rules for credit rating agencies (EURACTIV 17/04/09).
  • 22 April 2009: Parliament adopts new rules on insurance firms (Solvency II) (EURACTIV 23/04/09).
  • 29 April 2009: Commission presents draft recommendations to review capital requirements for banks to take into account risks related to re-securitisation, trade books and managers' remunerations (EURACTIV 29/04/09).
  • 29 April 2009: Commission presents draft directive on hedge funds, private equity and other alternative investment funds (EURACTIV 30/04/09).
  • 6 May 2009: Parliament adopts review of Capital Requirements Directive.
  • 27 May 2009: Commission presents its European financial supervision package, taking into account proposals made by the De Larosière group (EURACTIV 28/05/09).
  • 19 June 2009: EU leaders agree on financial supervision package (EURACTIV 19/06/09).
  • 3 July 2009: Commission tables proposals to strengthen safety of derivatives (EURACTIV 06/07/09).
  • 13 July 2009: Commission proposes imposing fines and higher capital requirements on banks which have risky bonus policies for top traders and managers (EURACTIV 14/07/09). 
  • 27 July 2009: Council adopts changes to Capital Requirements Directive as proposed by the Commission in October 2008.
  • 23 Sept. 2009: Commission proposes detailed legislative package for financial supervision: a European Systemic Risk Board for macro-prudential supervision (ESRB) and three European Supervisory Authorities (ESAs) for banks, insurers and markets (EURACTIV 22/09/09).
  • 18 May 2010: Commission proposes greater oversight of credit rating agencies (EURACTIV 18/05/10).
  • 13 July 2010: EU finance ministers agree on powers of new financial watchdogs.
  • 3 Sept. 2010: Negotiators from Council, Parliament and Commission reach political consensus on supervisory bodies.
  • 15 Sept. 2010: Commission unveils proposal to drive derivatives onto exchanges.
  • 22 Sept. 2010: European Parliament gives final approval to financial supervision package (EURACTIV 23/09/10).
  • 22 Sept. 2010: Commission announces review of Markets in Financial Instruments Directive (EURACTIV 22/09/10).
  • 19 Oct. 2010: Commission issues communication on crisis management framework.
  • Jan. 2011: EU financial watchdogs start work.
  • Feb. 2011: Commission launches consultation on capital requirements.
  • Feb. 2011: Commission unveils plans for common consolidated corporate tax base (EURACTIV 14/02/11).
  • March 2011: Commission announces measures to recover cross-border debt (EURACTIV 21/02/11).
  • March 2011: Commission raises heat on rating agencies after downgrades cause market panic (EURACTIV 31/03/11).
  • March 2011: European Banking Authority begins tests on bank liquidity.
  • March 2011: Commission announces moves to impose new taxes on banks (EURACTIV 09/03/11).
  • March 2011: Commission announces new rules on mortgage lending in EU (EURACTIV 31/03/11).
  • May 2011: EU finmins approve partial ban of naked shorting of sovereign debt (EURACTIV 12/05/11).
  • May 2011: Parliament approves rules to get derivatives cleared by counterparties (EURACTIV 25/05/11).
  • Jun. 2011: Commission unveils million-euro fines for rule-breaking bankers (EURACTIV 01/02/11).
  • Jul. 2011: Commission unveils fourth Capital Requirements Directive, trebling required capital levels (EURACTIV 20/07/11).
  • Aug. 2011: France, Italy, Spain and Belgium impose short-selling ban on some stocks (EURACTIV 12/08/11).
  • 2013: Solvency II capital rules to enter into force in insurance sector (EURACTIV 18/03/11).

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