Tuesday, September 15, 2009

A European Financial Services Authority?

In February 2009, an EU committee under the leadership of Jacques De Larosiere recommended that new EU bodies be established to better supervise, regulate and ensure the stability of financial markets. It recommended a Systemic Early Warning System, which would search for and intervene to counter bank failures, Colleges of Financial Market Supervisors that would supervise the risk of failure in companies doing cross-border business in financial services, and some sort of deeper coordination of the Committee of European Securities Regulators (CESR) in cross-border regulation.

The first of these proposals, if adopted, will revolve around the European Central Bank, which led the effort to stabilise European financial institutions and markets. It will involve national central banks in the EU operating in the European System of Central Banks as well as the financial services authorities and/or banking regulators of the member states.

The second and third proposals were discussed outside of the committee, and mentioned within the report as a possible European Financial Services Authority, (EFSA) a one-stop statutory regulator responsible for securities markets, banking and insurance, just as is the case in the most important EU member states.

Talks to establish European cooperation now revolve around the familiar issue of decision-making mechanisms within the proposed EFSA or the proposed upgrade of CESR. At stake is whether the bodies will shift from decision-making by unanimity to qualified majority voting. Qualified majority voting requires a complicated triple majority to pass decisions, but it's nevertheless easier to work with than unanimity.

This is proving to be difficult, and small countries with significant financial services sectors are offering the strongest resistance to change. Although legislation concerning the Single European Market is passed by qualified majority, regulations delegated away from the Council of Ministers and the European Parliament and to the European Commission and other bodies are not. So the EU is unable to take advantage of rules that make decision-making faster at the moment.

Luxembourg is one of the EU's smallest countries and also one of its most dependent on financial services. It, along with a few other countries, opposes the introduction of qualified majority voting on the grounds that its sovereignty will come to an end.

What Luxembourg really fears is that Europe's equivalent of the (American) Delaware Effect, which draws money to the jurisdiction with the most favourable terms of investment (i.e. the least amount of regulation) and ensures low regulatory standards in the US, will be overridden by truly European regulation and truly European regulatory bodies.

Concretely, regulators and politicians around the world are talking about regulating banks to prevent a repeat of the financial crisis that started in February 2008. The banks are countering with claims that they were not the problem, but that allowing Lehman brothers to collapse was the problem. They don't want regulation. They want the return of their bonuses. They're counting on Luxembourg to be the key to protecting that in Europe.

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