If you thought it was all over with Mifid 2, not so. The ever-evolving world of regulation and responsibilities is entering a new phase, and it’s one that will concern many asset-management stakeholders. It’s no more than a draft at the moment but it reveals a clear intention by the European Commission to boost the powers of centralised supervisory authorities – in the case of funds, this is Esma. Sheenagh Gordon-Hart gives a frank assessment of what’s up for discussion. It’s regulation, but don’t switch off. This could be a game changer for many.
One of the major complaints that we have all had of pan-European regulation is the very different approaches used by local regulators in implementing the directives. Esma was established for precisely this reason – to guide local country regulators to work to a common standard. All well and good, although the latest test of its efficacy is Mifid 2, which looks set to create even more of a patchwork of differing approaches than existed before. Nonetheless, Rome wasn’t built in a day and the European convergence project is unlikely to be built in a decade. So, on to the next phase.
A long and winding road…
In order to understand where the Commission is headed, it’s worth taking a brief look at where it has come from, and the story started with the 2008 financial crisis.
In the wake of this near catastrophe, governments around the world scrambled to create a new and more reliable architecture for financial-markets regulation. The European answer came in a raft of new directives (think: AIFMD; Ucits 5; Mifid 2; Emir; and so on), alongside new pan-European supervisory authorities (the ESAs: Esma, Eiopa, and Eba), plus the European Systemic Risk Board. The Commission reported on the operation of the new regulatory authorities in 2014, and a public consultation on the macro-prudential framework was launched in August 2016. That consultation sought to align the different elements of the framework to ensure it would function more effectively. The key aim was to strike the right balance between national flexibility and community control – for ‘community control’ the cynical amongst us would read ‘EU or European Commission control’.
In March 2017, another consultation was launched on the operation of the ESAs, to evaluate whether they were delivering in accordance with expectation, given their objectives to protect the public interest by contributing to the stability and effectiveness of the financial system, the Union’s economy, its citizens and business. The Commission also said it wanted a clearer view on how the effectiveness and efficiency of the ESAs could be strengthened and improved and its motivation to strengthen the ESAs was based on a need to underpin the forthcoming Capital Markets Union (CMU).
This latest consultation asked for views on areas where centralised supervision (in addition to the current direct supervision of credit-rating agencies and trade repositories, for example) could overcome fragmentation and promote capital-market integration. In fact, the Commission said that this ‘could ensure risks are being appropriately regulated and supervised while taking into account the specific nature of different capital-market segments’ – a clear hint, perhaps, that the Commission thinks Member State supervisors are not properly regulating and supervising risks? Moreover, taking a cue from asset-management complaints that cross-border barriers continue to exist despite the Ucits passporting regime, the Commission believes that the strengthening of Esma is the solution.
That brings us to the present. In mid-September, the Commission’s formal proposals on strengthening the role of ESAs were published. The objectives are laudable: who would disagree with policies designed to ensure financial markets are well-regulated, strong and stable, to deliver investment, jobs and growth? Full marks there, but what exactly is being proposed and will it deliver?
The Commission’s proposals are that ESAs, such as Esma, would have far-reaching responsibilities, specifically:
• To set EU-wide supervisory priorities, ensure that national regulators’ work programmes are consistent with EU priorities, and review their implementation. In other words, a new layer of accountability that will undoubtedly add cost and complexity, but could also, potentially, lead to conflict with national regulators, which are accountable to their own parliaments for their priorities.
• To monitor practices that allow market players to delegate and outsource business functions to non-EU countries, to ensure that risks are properly managed and to prevent circumventions of the rules. This is an issue that has caused howls of concern across the industry because it goes to the root of the daily commercial decisions that stakeholders make to ensure that suitable expertise is embedded in the many complex processes involved in asset management. These delegation models have evolved over many years, they are monitored carefully by Member State regulators and work well, so it is hard to understand what problem the Commission is seeking to solve.
In addition, Esma would be tasked with directly supervising the:
• Authorisation of EU benchmarks and endorsement of non-EU benchmarks used in the EU;
• Approval of certain EU prospectuses and all non-EU prospectuses drawn up under EU rules;
• Authorisation and supervision of European Venture Capital Funds, European Social Entrepreneurship Funds and European Long-Term Investment Funds.
The final item begs the question – what next will be placed under the direct control of Esma? The fear is that this will ultimately morph into control of the entire fund sector.
Who is going to pay?
Just to add to industry concerns, the funding model will change to permit ESAs to collect part of their funding from financial-market players.
This is a consultation and there is no doubt that all the relevant stakeholders will lobby hard to avoid an outcome that could cost investors dearly by closing the door to expertise that currently exists outside the EU. These proposals look protectionist and I personally find it hard to understand how investors will benefit as a result. Policymakers outside the EU have yet to react but I doubt they will applaud the initiative. More likely they will make it harder for EU players to access their markets. We’d be interested to hear your views on this topic – do get in touch. Is this a key change that could transform our market beyond recognition? Or is it a storm in a teacup?