Officials in Brussels who champion streamlined oversight of EU capital markets need only turn to neighbouring Luxembourg to understand why this project has floundered.
Claude Marx, head of Luxembourg’s financial watchdog, summed up his country’s position by telling the Financial Times that centralising supervision “would create a monster” and do little to solve funding problems.
“We have regional differences. We have language differences. We have cultural differences and a savings product in the south of Spain does not necessarily resemble a savings product in the north of Finland or in Greece,” said the leader of Luxembourg’s Commission de Surveillance du Secteur Financier.
“If we wanted to build central supervision on this . . . it would just be a very huge machine.”
Gilles Roth, Luxembourg’s finance minister, was equally disparaging. “More centralisation will not, in our view, unlock additional funding for the EU economy and it will take time and also entail costs for businesses to implement a new institutional structure,” he said. “It will also undermine competitiveness.”
It seems improbable that a major EU policy objective can be frustrated by one of its smallest members with a population that is not even 1 per cent of Germany’s.
But on this issue, Luxembourg’s voice has carried the day — often bolstered by other smaller countries, such as Ireland, Malta and Cyprus, that are united by their shared mistrust of reforms that diminish the powers of their national supervisors.
“Luxembourg was successful in organising the resistance to single supervision,” said a senior EU official.
The irony of Luxembourg’s criticism is that the most concerted effort to integrate EU financial markets was launched by Jean-Claude Juncker, the Grand Duchy’s longest-serving prime minister, after his appointment as European Commission president in 2014.
Since Juncker promised to create a “capital markets union” to make the EU less reliant on bank lending by boosting financial market funding of its economy, the project has at best inched forward.
Executives and analysts say blame can be spread widely. But many believe one of the main culprits is the refusal of member states to cede control over their national markets — resistance epitomised by Luxembourg.
“In the discussion of the EU capital markets union there is this idea of supervisory integration, and Luxembourg has appeared to be steadfastly against that,” said Nicolas Véron, an economist at Brussels think-tank Bruegel who has written several books on Europe’s financial system.
“It has ostensibly been effective at undermining the integration of market supervision together with other relatively small countries like Ireland and Belgium,” said Véron.
Financial services make up 25 per cent of Luxembourg’s economy, led by its vast investment fund sector with more than €7.3tn under management — the biggest in Europe. This has helped it to become one of the world’s richest countries, with a GDP per capita of almost $150,000.
The country’s market-friendly regulations, along with its accommodating tax system, are big draws for financial services. Analysts say this is why its officials see the idea of centralised EU supervision as a threat.
“Small countries like Luxembourg and Ireland have specific niches in the financial industry, and their supervisory systems are designed in a way that fits these niches,” said Marlene Schörner, policy fellow at the Hertie School’s Jacques Delors Centre in Berlin.
“So if we centralise supervision, then they would be losing their competitive advantage, which is very important for them because these industries are a big part of their national economies,” said Schörner.
Despite the faltering progress of its decade-long push to integrate financial markets, Brussels sought to breathe fresh life into the project. It has been rebranded as the “savings and investment union”, with a proposal unveiled this month to expand central supervision in certain areas.
The idea is another test of whether EU countries can bridge their national differences in favour of more shared benefits.
There have been repeated calls, including by the past two European Central Bank presidents — Mario Draghi and Christine Lagarde — for the region’s fragmented capital market rules to be unified by transferring supervisory powers from national regulators to the European Securities and Markets Authority.
As things stand, Paris-based Esma only has direct supervision over a few entities, such as credit rating agencies, non-EU central counterparty clearing houses, securitisation repositories and benchmark administrators. But Brussels plans to vastly increase its powers to cover cross-border stock exchanges, crypto asset providers, central security depositories and clearing houses.
The hope is that by making Esma more like a European equivalent of the US Securities and Exchange Commission it will trigger a harmonisation of rules across the EU’s 27 countries as well as encouraging a consolidation of the region’s fragmented market infrastructure.
Europe has more than 35 different stock exchanges, as well as 17 separate central counterparties for clearing and 28 central securities depositories for settling trades, compared to only a handful of all these in the US, according to research group New Financial.
EU governments and regulators fiercely defend their ability to supervise big market operators, such as settlement house Clearstream in Luxembourg. “The reality is that national capital market supervisors protect national infrastructure incumbents,” said Véron.
This has been highlighted by the debate over whether to fund Ukraine using €185bn of frozen Russian assets at Euroclear, the Brussels-based central securities depository, which has put Belgium in a pivotal position as the company’s regulator.
The EU’s patchwork of national markets — along with a tendency for each country to adapt rules drawn up in Brussels to its own interests — is widely blamed for making Europe’s financial markets more expensive and less liquid than those in the US.
“There is still a very much national approach to these issues rather than a European approach,” said Maria Luís Albuquerque, EU commissioner for financial services. “That leads to resistance to change, resistance to think more in terms of integrating markets, and that comes from across the board: incumbents, national competent authorities, governments.”
German Chancellor Friedrich Merz recently summed up the growing frustration over the issue by calling for the establishment of a single European stock exchange that can create “a sufficiently broad and deep capital market” to meet the region’s funding needs.
Many of the financial services groups with large operations in Europe are equally bewildered by the regulatory barriers to providing cross-border financial services in the region.
Ben Pott, international head of public policy and government affairs at US bank BNY, expresses frustration at how EU rules for funds require them to appoint a depository for the safekeeping of their assets in each country they operate in.
“If we wanted to serve funds across the EU, we would have to set up 27 different entities with one in each country, because there is no ability to provide cross-border depositary services,” said Pott, adding that BNY has set up offices in 10 EU countries.
However, not everyone is convinced that Luxembourg is the main culprit for Europe’s failure to integrate its financial markets or that creating a single supervisor would solve many of the region’s funding problems.
Eurozone lenders have long complained that the bloc’s lack of a single deposit insurance scheme has held back the creation of a truly single market for banking. This long-standing aim keeps bumping up against Germany’s refusal to share the risks from Italian banks unless Rome accepts a cap on how much domestic sovereign debt its lenders own.
The Association for Financial Markets in Europe said in a recent report that €225bn of capital and €250bn of liquidity had been trapped by national restrictions that impede cross-border banking activities in the EU. “Legal and regulatory fragmentation is Europe’s silent killer,” said Adam Farkas, AFME’s chief executive.
Experts point to other weaknesses, including the lack of private pension funds in many EU countries, such as France and Germany, or the differences between national insolvency laws that deter cross-border investments.
Some even blame Brexit for leaving the bloc without a major financial centre. Lord Jonathan Hill, who worked on capital markets union as EU commissioner for financial services, said: “Britain is no longer the EU’s financial centre and it doesn’t have another one, which has made the task of integrating capital markets harder.”
The sheer complexity of EU financial regulation is another factor. New Financial estimated it had created 1,629 documents with about 95,500 pages and 38mn words — enough to fill 50 copies of the Bible.
“It starts with a good idea and positive intentions but often ends up with multiple different national implementations,” said Bryan Pascoe, chief executive of the International Capital Market Association, representing debt market participants. “With a blank sheet of paper, you wouldn’t start where we are now to have a unified and broadly accessible single market.”
This article has been corrected to reflect Christine Lagarde’s position as European Central Bank president.
Read the full article here