EU Financial Market RegulationIssues – Impact – Assessment

World Bank 4/11/05

Karel Lannoo

Centre for European Policy Studies (CEPS)

www.ceps.be

22/04/23

Framework• > 15 years of financial sector de- or re-

regulation: single passport under home country control

• Perception that single financial market is not (sufficiently) working, insufficient harmonisation, too much mutual recognition

• Further phase of harmonisation:– Financial Services Action Plan (FSAP) – Lamfalussy report– Basel II directive– Taxation of savings– Corporate governance, etc…

• Dominance of banks continues to grow, market fragmentation remains, market based financing difficult, this has a cost for industry and users

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The European Financial System

Bond, Equity and Bank Assets Markets in EU-15 and the USEnd 2003; in bns of euros and % of GDP

142 %

169 %

64 %

116 %

237 %

73 %

0

5,000

10,000

15,000

20,000

25,000

EU-15 US

Bond Markets Equity Markets Bank Assets

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Strongly bank-basedBank Assets in EU-15, US and Japan 1995-2003

in % of GDP

0%

50%

100%

150%

200%

250%

1995 1996 1997 1998 1999 2000 2001 2002 2003

EU-15 US Japan

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But elements of more market-based system emerging in bond market

Bond Markets in EU-15, US and Japan, 1992-2003in % of GDP

0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

200%

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

EU-15 US Japan

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Fund market fragmented

21.200

7.791

3.444

348

24.490

8.155

2.793

368

25.785

8.305

2.867

313

27.338

8.244

2.718

512

26.379

8.126

2.617

441

0

1000

2000

3000

4000

5000

6000

7000

8000

1999 2000 2001 2002 2003

World Investment Funds

Total assets EU15 Total assets US Total assets JP

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With diverse investor preferences

UCITS Asset Allocation by country in 2004

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Equity Bonds Balanced/Mixed Money Market Other

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Financial Services Action Programme (FSAP)

Achievements - DrawbacksAchievements• 40 of 42 FSAP measures

adopted by October 2005• Raised awareness of

issues at stake• Lamfalussy approach

increased transparency of regulatory process

• Co-opetition between supervisory authorities: high degree of regulatory cooperation, but competition remains

• Higher degree of regulatory harmonisation, less possibility for host country restrictions

Drawbacks• More detail at EU level:

higher common denominator

• More centralisation: the European Commission is in the driving seat, role of national supervisory authorities is limited (advisory)

• New decision process is laborious, complex, time-consuming and resource-absorbing for the authorities as well as for the private sector

• Increases the opportunity for regulatory capture

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Lamfalussy directives(prospectus, transparency, MAD, MiFID)

• Build on earlier single market directives• But more harmonisation, clearer definitions,

more detail, to allow for full home country control and truly integrated market

• Implementing measures (level 2) further increase level of detail

• Requires member states to have independent supervisory authority to approve prospectus and monitor markets

• Single language regime• Coming years should indicate whether it works• International Accounting Standards (IAS) as

basis for disclosure

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Prospectus directive

• Should allow for a truly single prospectus (maximum harmonisation!)

• composed of three different segments:– one for equity issuers (and home country control)– a second for non-equity issues with denomination of at

least €1,000 (choice of home country)– a third and light for professional investors (>€50,000)

• Most debt issuers will go for the basic document• But some markets (London, Dublin, Luxembourg)

have launched alternative schemes; also competition from non-EU centres (Switzerland, Singapore)

• US GAAP – IAS equivalence agreement of 22 April 2005 is important achievement

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Transparency & market abuse

• Covers periodic and ad-hoc disclosure• Annual, semi-annual and interim management

reports (~ Q reports)• Material or price sensitive information must be

made public as soon as possible (company website plus media/supervisory authority), and simultaneous

• Conflicts of interest in investment research must be prevented, member states must impose organisational structures

• Guidelines for information disclosure

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MiFID (or ISD II)

• Abolishes concentration provision of ISD at a cost• Elaborate pre- and post-trade transparency regime

for exchanges (regulated markets), multilateral trading facilities (MTFs) and investment firms, (only for equity transactions)

• Best execution takes a full set of criteria into account (not only price), prior consent for internalisation

• Conduct of business rules to be worked out in level 2, fully harmonised, to avoid friction betw. home a host

• Rules on conflicts of interest• Gone out of control in implementing measures?

Calls for further delay of implementation date

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Making it work is main challenge!

• Focus should now be on implementation and enforcement– Enforcement was weak point in post-1992 phase– Committee structure should improve situation (‘co-

opetition’)– But still some unclarity about who is finally in charge– Can the EU Commission cope in EU-25?

• Supervisory convergence is new catchword– What is supervisory convergence?– Yes for objectives, no full convergence of procedures

required– Need for ‘formal’ powers for the Committee of

European Securities Regulators (CESR)?

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FSAP transpositions I

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FSAP transpositions II

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Overregulation?

• Financial markets, and capital markets in particular, require a well-developped regulatory structure– Multi-layered– Important but diminishing role for self-regulation– Match needs of issuers and investors– Was certainly underdevelopped in Europe

• Will only work when EU law is respected, and mutual recognition allowed to work (cfr. trend to full harmonisation)

• But regulatory process has a bias, adapted to the needs of the big players (‘one size fits all’), but heavy or impossible for small ones

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Future priorities

• Retail financial markets– New consumer credit directive (CCD)– Single European Payment Area (SEPA)– Review of deposit protection directive

• Asset management– Adapting UCITS directive to new structure

• Application of competition policy– Inquiries into retail banking, payments, cross-border

M&A, clearing and settlement• Regulatory dialogues

– EU-US dialogue vibrant, but more may be needed• Corporate governance

– Big item for this Commission, but will be difficult to achieve

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The New Regulatory Structure

Level 1(co-

decision)Commission Council

EuropeanParliament

Level 2

European Commission

Securities(incl. UCITS)

Banking Insurance(incl. pensions)

Financialconglomerates

Level 3

ESC EFCCEIOPCEBC

?CEIOPSCEBSCESR

EFC

FSPG(FSC)