EU overhaul of financial supervision raises questions

Ambitious plans laid out by the European Commission to revamp the supervisory framework of the European financial markets have raised concerns about the possible implications of creating new supervisory bodies.

The EC said today it would push forward with plans to create a European Systemic Risk Council (ESRC) and three new supervisory authorities to replace the committees that advise on banking, securities, and insurance and pensions.

"Better supervision of cross-border financial markets is crucial for ethical and economic reasons," said EC president José Manuel Barroso today. "The new system will help the European Union and its member states to tackle problems with cross-border firms and the build-up of overall systemic risk. I would like the new architecture up and running during 2010."

The ESRC idea was proposed earlier this year by a high-level committee chaired by former Banque de France governor Jacques de Larosière. The ESRC, to be chaired by the president of the European Central Bank (ECB) and made up predominantly of the governors of the EU's 27 national central banks, would not have legally binding powers. It would be tasked to assess and provide early warnings on possible threats to financial stability arising from macro-economic factors and developments within the financial system.

But some concern has been expressed that the ESRC would overlap with the work of the Financial Stability Board (FSB), whose mandate was strengthened after the April meeting of the Group of 20 leading economies in London. "In an ideal world, the FSB would be the global body in charge of this, but we don't live in an ideal world," said Patrik Karlsson, policy director for EU affairs at the British Bankers' Association. "The EU is a strong regional bloc and we have to understand the political need for improvements to be made at the European level as well."

UK market participants have also expressed concern about the ESRC being chaired by the ECB, as it could cause a shift of focus away from London, which is not part of the eurozone. "It's important for the focus to be truly EU-wide and not just eurozone-centric - that's very important for the City of London," said Karlsson.

The ESRC would also include observers from national regulators and the chairs of three new European supervisory authorities, which would collectively form the European System of Financial Supervisors under the EC proposals. Those three authorities would replace the existing committees - the Committee of European Banking Supervisors, the Committee of European Insurance and Occupational Pensions, and the Committee of European Securities Regulators -which effectively act as advisory bodies to the EC under the current framework.

"In spite of a number of improvements to these committees, the EU cannot remain in a situation where there is no mechanism to ensure national supervisors arrive at the best possible supervisory decisions for cross-border institutions; where there is insufficient co-operation and information exchange between national supervisory authorities... [and] where national solutions are most often the only feasible option in responding to European problems," said the EC.

The three new authorities would have more defined legal powers and would be mandated to improve the supervision of cross-border institutions by developing common supervisory requirements and settle any disputes between national supervisors, with the ability to overrule them when necessary.

But some have expressed cynicism about the feasibility of the proposal. "The real test of whether it will succeed is the ability of the new authorities to really influence and control the style and standard of regulation around Europe," said John Tattersall, partner in the financial services regulatory practice at PricewaterhouseCoopers. "Of course we have to accept that national governments will want to retain direct supervision of their own institutions, given that they could be responsible for bailing them out. But consistent standards are very important."

Others express misgivings about whether the new authorities should really be able to overrule individual supervisors. "We acknowledge that this is set out as a last-resort option, but we'd still question whether it is appropriate for the authorities to resolve disagreement between national supervisors," says Karlsson. "It could undermine them and make situations worse if decisions are not based on a proper understanding of local conditions."

The EC's proposals will need the endorsement of EU leaders when they meet at the European Council in June. If they give the green light, the EC will draft formal legislative proposals later this year.

See also: De Larosiere calls for ECB to lead European macro supervision