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Ladies and Gentlemen,
Thank you for inviting me to address you here today. My theme today is regulation and supervision of the financial sector, which many people blame for the current crisis, and the role which regulation and supervision plays in the Commission's strategy to help get Europe out of this situation and prevent a similar crisis from re-occurring in the future.
This may seem like locking the stable door after the horse has bolted, and locking it too tightly shut to boot. What I mean by that is that it has been observed that the level of regulation tends to jump following a crisis, then over the years of the ensuing good times, there is pressure for lightening the regulatory load, which happens just in time for the next crisis to strike. So the level of regulation risks following an inverse cycle to the economic cycle, overshooting the optimal level just after each crisis and undershooting the optimum following the peak of the economic cycle.
Perhaps the only good thing about the financial crisis is that it has created a window of opportunity, in which there is a greater political willingness around the world to strengthen our regulatory and supervisory framework. We must use that window, as it may snap shut as memories of the crisis fade. But we must be careful about how to introduce new rules. We must do so in a careful balanced way, after full consultation of interested parties, and not discourage risk-taking, which is essential for a dynamic financial sector.
Regulation
We have already taken a number of regulatory initiatives since this crisis started, and more are in the pipeline. First, over the last year we have plugged important gaps in regulation, for example with our Regulation on Credit Rating Agencies, and our recently-proposed Directive on Alternative Investment Fund Managers (AIFMs, that is, hedge fund and private equity managers). We want to bring more transparency into both those fields, which before were unregulated at EU level.
The proposed AIFM Directive has the objective of creating a comprehensive and effective regulatory and supervisory framework for AIFMs at the European level. It will provide robust and harmonised regulatory standards for all AIFMs within its scope and will enhance the transparency of the activities of AIFM and the funds they manage towards investors and public authorities. We consider that the proposal is proportionate in the requirements imposed, which differentiate between different instruments according to the level of risk they pose. It takes into account the ongoing work at global level to tackle the issue of off-shore centres, whilst avoiding closing the door to funds and service providers located outside the EU. Finally, the proposal opens new internal market opportunities for industry through the new passport, whilst ensuring that investors are properly protected.
I do not believe that this initiative will damage the European hedge fund and private equity sector, nor that it will drive business outside the EU, as some scaremongers allege. But I do recognise that there are certainly ways to improve our proposal in several respects, for example on technical issues such as depository arrangements and valuation.
Remuneration and bonuses in the financial sector is another touchy subject, on which the Commission adopted a Recommendation at the end of April. The point of our Recommendation on executive pay in the financial sector is not to intervene in debates on what level of remuneration is just or appropriate (the Commission doesn't have the power to do that in any case). Our goal is a prudential one, to link pay and incentives to long-term performance and prevent excessive risk-taking behaviour. This is linked to our provision on remuneration in an amendment to the Capital Requirements Directive for banks (CRD), proposed in July, which gives banking supervisors the power to sanction banks with unsound remuneration policies that encourage excessive risk-taking.
That same CRD proposal also introduces significant prudential changes in the banking sector. It increases capital charges for banks' trading book in line with the Basel process and ensures that banks take due account of the risks associated with resecuritisation and remuneration policies. We also plan to present, following appropriate impact assessment, proposals to address leverage and liquidity concerns and to introduce dynamic provisioning for banks. We also intend to issue a Communication on the EU's cross border crisis management framework, which requires significant upgrading.
We must also ensure that European investors, consumers and SMEs can be confident about their savings, and access to credit, and their rights regarding financial products. We recently published a Communication on retail investment products, and we will soon review the adequacy of existing deposit guarantee schemes and make appropriate legislative proposals.
I want to say a few words also about the Markets in Financial Instruments Directive. We are due to commence a review of the operation of this Directive at the end of this year. I believe that it is important that we do this thoroughly taking into account market developments since the MIFID was implemented. There is no doubt that it has stimulated greater competition in some areas but there appears to have been a significant migration of share trading transactions from the more regulated MIFID venues to the unregulated over the counter broker dealer venues where substantial unregulated dark pools of liquidity have built up. This gives rise to questions as to whether there are unfair commercial advantages for the operators of these venues and whether the trend undermines price discovery, market integrity and efficiency for the market as a whole. The MIFID review will address this issue.
Supervision
Regulation and supervision go hand in hand, and in May, following the now famous de Larosière report, the Commission published policy proposals to strengthen European financial supervision, both at the systemic level and the level of individual financial institutions. The European Council welcomed our proposals, and we have prepared draft legislation creating new bodies, which will be presented later this month.
In the area of micro-prudential supervision, colleges of supervisors will remain the lynchpin for cross-border institutions, bringing together home and host supervisors. But to provide the EU with a supervisory framework that detects potential risks early, deals with them effectively before they have an impact and meets the challenge of complex international financial markets, we have proposed a European System of Financial Supervisors consisting of a network of national financial supervisors working with new European Supervisory Authorities.
The system will combine nationally-based supervision of firms with specific tasks at the European level. It aims to foster harmonised rules and coherent supervisory practice and enforcement. This network should work to enhance trust between national supervisors by ensuring, for example, that host supervisors have an appropriate say in setting financial stability and investor protection policies so that cross-border risks can be addressed more effectively.
Among their powers, the new European Supervisory Authorities will be able to intervene in cases of disagreement between home and host supervisors, issue guidelines to try to iron out regulatory differences between member States, and have direct supervisory powers over entities with a pan-European reach, such as Credit Rating Agencies. Importantly, they will be able to propose binding technical standards in areas where there are currently none, thus contributing to the harmonisation of such rules across the EU, and working towards a single European rulebook for the financial services sector.
A second element of the revised supervisory structure will be a European Systemic Risk Board (ESRB), which will monitor and assess the risks to the stability of the financial system as a whole. It will provide early warning of systemic risks and, where necessary, present recommendations for action to deal with these risks. Lack of any body to monitor systemic risk was one of the factors contributing to the current crisis, and this has been realised in the EU, in the US and at global level.
International
However, the best regulation and supervision in the world will be no use to Europe, if the rest of the world is not appropriately regulated. Global co-ordination is essential. That's why I was very encouraged by the outcome of the G20 summit in London at the beginning of April. Many elements high up on the EU's agenda were reflected in the summit conclusions. We must ensure the same level of success at the Pittsburgh G20 summit in a few days. The preparatory finance ministers' meeting earlier this month went well, and I am optimistic about Pittsburgh.
One of the major achievements of the G20 summit has been the creation of the Financial Stability Board, on which the Commission has a seat, and which will play a key role as an early warning system of systemic financial dysfunctions, together with the IMF. Our own future European Systemic Risk Board will have to interact with it closely. There will also be global colleges of supervisors for international cross-border groups, reflecting the EU cross-border colleges which we are rolling out in Europe. The G20 is broadly on the same line as us regarding hedge funds, credit rating agencies, offshore financial centres, the need to resist protectionist tendencies and conclude the ongoing WTO trade talks. I am especially pleased that the G20 have also followed us in proposing that banks and originators retain a proportion of the risk in assets which they securitize. I was pilloried in Brussels when I originally suggested this in Europe but happily it has now gained acceptance internationally.
The amendments to that particular proposal made by the Council and Parliament, in my view, open up quite a number of loopholes and I expect that in its review the Committee of European Supervisors will identify all of those loopholes and come up with comprehensive proposals f or closing them. In my view a globally consistent and loophole-free approach to this issue should be a high priority over the next 12 months.
Conclusions
After all this talk about financial regulation and supervision, I should stress that getting the financial system back to stability is just one of the pillars of the Commission's strategy for getting the European economy back on track. We are also boosting the real economy, through the European Economic Recovery Plan, announced last December, and the full implementation of the Single Market. The entry into force in December of the Services Directive will be an important milestone in this respect.
In summary, improving regulation cannot be a form of macro-economic stimulus in itself. Indeed, even good regulation can hinder recovery if it is introduced at a bad time in the economic cycle, for example, putting a burden of change and adaptation on banks when they are trying to restructure themselves and re-establish their lending activities.
Although regulatory reform is not itself an anti-recession tool, combined with macro-economic stimulus package and global co-operation in a coherent joined-up policy we believe it will help to restore confidence among economic operators, to get the European economy back on its feet in a sustainable way, and to prevent us finding ourselves in this situation again in a few years time.
You cannot use regulation to get out of a crisis once it has hit – trying to do that is a path to bad, short-termist regulation; you can only use regulation to try to prevent the next crisis hitting, or hitting so hard. That is precisely what we are trying to do. Thank you.
