Some EU financial centres have been accused of bidding too aggressively to host financial firms relocating from London, revealing flaws in the EU’s regulatory architecture that its authorities are seeking to fix. By Justin Pugsley.

What's happening?

Since the UK voted to leave the EU, financial firms have been scouting around for new headquarters within the remaining EU27 states.

Some countries keen to host those firms have been accused of loosening application procedures and of promising less rigorous supervision. This led to Ireland making a formal complaint to the European Commission over such practices. It is thought it was aimed at Luxembourg and related to AIG choosing that country for its new EU headquarters.

Reg rage – acceptance

Apparently, regulators have been on the conference circuit promising all kinds of concessions for firms relocating to their jurisdiction. In the meantime, Germany’s financial supervisory authority, BaFin, the European Central Bank (ECB) and the European Securities and Markets Authority (ESMA) have been warning about a regulatory race to the bottom, which could have dire consequences for the eurozone’s financial system.  

Why is it happening?

Clearly the exodus from London represents a potential bonanza to recipient countries, so not unsurprisingly politicians and regulators have been pitching aggressively to host these firms in the hope of harvesting lucrative taxes and creating high-quality jobs.

However, these regulators do not appear to be doing anything illegal. Put simply, they are merely making generous use of national discretions and options (NDO) embedded into various EU regulatory texts such as the Capital Requirements Directive.

There are hundreds of NDOs giving member states the discretion to interpret certain directives. NDOs are designed to accommodate the obvious differences in banking systems within member states, and not to be used to support aggressive bids to host financial firms.  

At the time of writing, ESMA was due to launch an opinion piece tackling this topic. The problem is that it will not be legally binding. But as an ESMA spokesman put it, the NDOs are being agreed by the EU27, which puts them under moral obligation to comply with what they have signed up to.

Meanwhile, the European Commission is consulting over the role of the three European supervisory authorities, one of which is ESMA. It is likely to give them more power and, with the departure of the UK, there is clearly a drive towards regulatory harmonisation and the removal of as many NDOs as possible. Certainly this is something the ECB and the European Banking Authority would like to see.

What do the bankers say?

Banks, especially the top-tier players, are unlikely to be taken in by the siren calls of lower standards from certain regulators. If anything, they want to be located in a jurisdiction known for sound and robust regulatory and supervisory standards. It imparts confidence to their clients that they are dealing with similarly robust financial institutions.

Indeed, Ireland’s very public complaint to the European Commission was rather a smart move: it spells out that Dublin is one of those more serious financial centres where supervision is carried out properly.

However, there are mixed views over the drive towards regulatory harmonisation. The big global banks will welcome a more level playing field across the EU. Smaller banks operating in a particular market in one jurisdiction are likely to be nervous that the particularities of their market are no longer recognised or tolerated.

Will it provide the incentives? 

That depends on from which angle the topic is looked at.

There is little consensus over whether shrill warnings of potential financial disasters are a real threat or just an excuse for another power grab by pan-EU authorities. After all, there is a saying in Brussels about never letting a good crisis go to waste. In this case, it is Brexit.

Nonetheless, it probably is a good idea to revisit the various NDOs and tidy some of them up so there is a more level playing field for financial services across the EU. Minimising opportunities for regulatory arbitrage has to be good in the long run. Also, a more harmonised rulebook would foster more cross-border activity within the EU and competition for customers.

Greater harmonisation would support the creation of the Capital Markets Union, and partly enhance some of its sub-components such as the complex but crucial Recovery and Resolution Directive.  

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