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The future architecture of European financial supervision – where do we stand now?

The European System of Financial Supervision (ESFS) was initiated five years ago and has now been in operation for two years.

With further initiatives aimed at framing the supervision of the financial industry in Europe now looming as we move towards a Banking Union, this is a timely moment to reflect upon, and assess, what has been achieved to date. February 2014 marks the fifth anniversary of the "de Larosière Report" on financial supervision in the European Union.

By way of reminder, in 2011 the European Commission mandated a high-level group of experts chaired by Jacques de Larosière to make recommendations on how to strengthen European supervision arrangements with a view to better protecting citizens and rebuilding trust in the financial system. The report1 called for a new regulatory agenda, stronger coordinated supervision and effective crisis management procedures.

Following the report, Regulations establishing a new supervisory framework for financial supervision in Europe2 entered into force in December 2010 and the new bodies established by these Regulations started their operations in January 2011.

The ESFS is composed of three groups of authorities:

  1. As part of the macro-prudential oversight of the financial system, the European Systemic Risk Board (ESRB) has been established to monitor and assess macro-prudential risks to the stability of the system.
  2. Micro Prudential supervision is ensured by three European Supervisory Authorities (ESAs), with different authorities supervising different segments of the financial industry: namely the European Banking Authority (EBA), the European Insurance and Occupational Pensions Authority (EIOPA) and the European Securities and Markets Authority (ESMA).
  3. The final group of authorities is composed of representatives from the competent national authorities of the Member States.

The ESAs took over from previous supervisory authorities3 but their responsibilities and authority were materially increased. Their mandate includes, amongst other things the following tasks:

  • developing a single rule book by developing draft technical standards, guidelines and recommendations;
  • ensuring consistent application of Union law;
  • taking action in emergency situations, which has not been undertaken so far;
  • promoting transparency, simplicity and fairness for consumers and investors;
  • settling disagreements between national supervisory authorities; and
  • for ESMA, supervising credit rating agencies directly.

The EBA is also well known for having stress-tested certain financial institutions in 2011. This exercise attracted a number of negative comments at the time concerning its methodology and the perceived relevance of these tests.

The ESRB has primarily a preventive role: it aims to prevent systemic risks and periods of widespread financial distress, by identifying and prioritising systemic risk.

The ESFS has now been in operation for two years. The regulations establishing the ESAs and the European Systemic Risk Board include provisions for the European Commission to review their structure and performance. The conclusions of this review by the Commission are not yet known4 but certain key issues can already be identified and merit discussion.5

ESAs have focused significantly on their rulemaking function; the EBAs and ESMA have secured many achievements in this field. For understandable reasons, EIOPA's progress has been more limited: it has lacked the EU legislative package under Solvency II.

To date, ESAs have devoted more effort to the rulemaking aspects of their role, than developing their other responsibilities. It has been noted that more concentrated effort needs to be placed on the harmonisation of both the implementation of these rules at natural levels and in supervisory methods. These steps are seen as important measures to sustain the confidence in the banking system and avoid regulatory arbitrage. An interesting illustration of this lack of focus on harmonisation functions is the fact that ESAs have never used the power attributed by the ESA Regulations to assist national authorities in reaching a common approach, or settling a matter (which includes direct decision-making power requiring financial institutions to comply with EU law).

The ESAs' work would be enhanced by a greater clarity and certainty in the preparation of the Regulations and adopting a more reasonable timetable for them to allow for sufficient time for rule-making and testing new provisions. A credible impact assessment is widely recognised as a fundamental part of this rule-making process.

Suggestions have also been made to improve the capacity of ESAs.6 In terms of governance, comments focus on majority rules and the idea of transforming the management board into an executive board composed of full-time members. The ESAs should gain financial independence from the European Commission and the national authorities, which could be achieved with the allocation of a specific line in the Union budget. ESAs would also benefit from increased resources and should recruit staff having market experience.

As far as ESRB is concerned, even Mr Delarosière has recognised that while the creation of a body focusing on macro prudential supervision was the most innovative proposal made in his report, it remains to be seen if the operational efficiency of the ESRB has lived up to expectations.7 There are numerous challenges ahead for ESAs and the ESFS generally. As with any new institutions, they will need to focus on continuing to enhance their credibility, managing a smooth decision-making process and ensuring that they benefit from the resources they deserve and need. Overall, the success of ESAs will depend on their ability to establish leadership by exercising natural authority, rather than adding to the bureaucracy. This represents a significant challenge, especially in a context where they will also need to ensure proper integration and cooperation with the Single Supervisory Mechanism and the future Single Resolution Mechanism as part of the Banking Union led by the ECB, primarily for Euro Member States.

Footnotes

1. Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 on European Union macro-prudential oversight of the financial system and establishing a European Systemic Risk Board; Regulation (EU) No 1093/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (European Banking Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/78/EC; Regulation (EU) No 1094/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (European Insurance and Occupational Pensions Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/79/EC; Regulation (EU) No 1095/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (European Securities and Markets Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/77/EC; Directive 2010/78/EU of the European Parliament and of the Council of 24 November 2010 amending Directives 98/26/EC, 2002/87/EC, 2003/6/EC, 2003/41/EC, 2003/71/EC, 2004/39/EC, 2004/109/EC, 2005/60/EC, 2006/48/EC, 2006/49/EC and 2009/65/EC in respect of the powers of the European Supervisory Authority (European Banking Authority), the European Supervisory Authority (European Insurance and Occupational Pensions Authority) and the European Supervisory Authority (European Securities and Markets Authority) Text with EEA relevance.

2. CEBS, CESR and CEIOPS.

3. Report by the High Level Group on Financial Supervision in the EU chaired by Jacques de Larosière, 25 February 2009.(http://ec.europa.eu/internal_market/finances/docs/de_larosiere_report_en.pdf).

4.  This paper was last reviewed and finalised on 8 January 2014.

5. The European Parliament Commission a study published in October 2013 entitled "Review of the New European System of Financial Supervision (ESFS)" (http://www.europarl.europa.eu/RegData/etudes/etudes/join/2013/507446/IPOL-ECON_ET(2013)507446_EN.pdf); see also the various contributions in responses to the consultation of the Commission on the review of the European System of Financial Supervision.(http://ec.europa.eu/internal_market/consultations/2013/esfs/index_en.htm). 

6.  See Study from European Parliament, op. cit.; see also AFME's Consultation response to the EU Consultation on the review of the European System of Financial Supervision, 31 July 2013 (http://ec.europa.eu/internal_market/consultations/2013/esfs/docs/contributions/registered-organisations/association-for-financial-markets-in-europe_en.pdf).

7. Public hearing in Financial Supervision in the EU", Jacques de Larosière, Brussels, 24 May 2013 (http://ec.europa.eu/internal_market/conferences/2013/0524-financial-supervision/docs/speech-de-larosiere_en.pdf).

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