the european financial services landscape in … efr report - the europea… · the european...

MARCH 2015

THE EUROPEAN FINANCIAL SERVICESLANDSCAPE IN 2015

Boosting growth, improving competitiveness and adapting to global challenges

The European Financial Services Round Table (EFR) was formed in 2001. The Members of EFR are Chairmen and ChiefExecutive Officers of international banks or insurers with headquarters in Europe. EFR Members believe that a fullyintegrated EU financial market, a Single Market with consistent rules and requirements, combined with a strong,stable and competitive European financial services industry will lead to increased choice and better value for all usersof financial services across the Member States of the European Union. An open and integrated market reflecting thediversity of banking and insurance business models will support investment and growth, expanding the overallsoundness and competitiveness of the European economy.

A. INTRODUCTION 5

B. GOALS FOR EFFECTIVE REGULATION 7

C. SUMMARY OF MAIN ISSUES AND KEY RECOMMENDATIONS 9

D. MAIN ISSUES AFFECTING THE EUROPEAN FINANCIAL SERVICES SECTOR 15

Facilitating growth, long-term investment and competitiveness

1. Long-Term Investment 15 2. Infrastructure Financing 18 3. Consumer Protection 20 4. Trade 22 5. Digital Financial Services 24

The critical importance of insurance and asset management

6. Insurance Prudential 27 7. Insurance Supervision and Systemic Risk 29 8. Pension Reform 31

Supporting the key role of banks in society

9. Bank Structural Reform 34 10. Banking Supervision 37 11. Banking Resolution 39 12. Banking Prudential 42

Integrated markets, appropriate international standards

13. Shadow Banking 46 14. Market infrastructure 48 15. Benchmarks 50 16. Transaction Tax 53 17. Taxation Information Exchange 55 18. Accounting 56

ANNEX I: ABBREVIATIONS 58

ANNEX II: EFR’S VISION 61

ANNEX III: MEMBERS OF THE EFR 62

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TABLE OF CONTENTS

My first priority as Commission President will be to strengthen Europe’s competitiveness and to stimulateinvestment for the purpose of job creation. We need smarter investment, more focus, less regulation and more flexibilitywhen it comes to the use of public funds.

Jean-Claude Juncker, President of the European Commission, 15 July 2014

It is in all our interests to have a successful, competitive financial services sector. We do not make our economystronger by making our financial services weaker.

Jonathan Hill, EU Commissioner for Financial Stability, Financial Services and Capital Markets Union, 6 November 2014

2014 has been a year of profound change. But what has been achieved so far is not enough. 2015 needs to be theyear when all actors in the euro area, governments and European institutions alike, will deploy a consistent commonstrategy to bring our economies back on track.

Mario Draghi, President of the European Central Bank, 17 November 2014

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There have been growing signs of economic recovery across Europe in the past year largely due to public and private sectoraction to resolve an economic crisis that has weighed on growth, investment and employment for more than six years.

European institutions and member states have worked closely with the G20 and Financial Stability Board (FSB) to reformthe global financial system and to improve resilience against future financial crises. In Europe, the biggest reforms havebeen banking union and the Bank Recovery and Resolution Directive (BRRD). The Single Supervisory Mechanism (SSM)and the Single Resolution Mechanism (SRM) will help address the negative loop between banks and sovereigns byreducing the probability of bank failures and the potential cost for taxpayers of an eventual bank resolution process.Now that the direct recapitalisation of Eurozone banks by the European Stability Mechanism (ESM) is possible, a lastresort public common backstop will stand there to buttress the credibility of banking union by avoiding anoverburdening of those stressed sovereigns that are in a weak fiscal position. Credible public sector backstops are animportant pillar of the banking union.

The financial sector is at the centre of Europe’s economy, serving as the infrastructure that keeps national economiesmoving. It is undergoing massive operational and cultural changes. It is innovating, rebuilding trust in the financial systemand working hard to meet the needs of consumers. European financial services firms must remain competitive, which meansthat legislators and regulators should respect the diversity of their business models. A competitive and diverse Europeanfinancial sector is essential to economic growth.

These are still critical times for Europe. The economy is under pressure, weighed down by indebtedness, unemployment –especially among young people – and declining competitiveness. The new European Commission, working closely with theEuropean Council, European Parliament and European Central Bank (ECB), is aware of the challenges. The economy needsto start growing again to create jobs. Many countries have to improve their fiscal positions, undergo structural reforms,become more competitive and stimulate long-term investment. This will not be easy, especially as the demographic profileof Europe is changing and forecasts indicate that economic growth will remain weak. Europe is part of a more integratedworld, where other economies are growing faster and becoming increasingly competitive. However, the EU’s announcedInvestment Plan for Europe, which aims to mobilise at least EUR 315 billion in additional public and private spending inthe next three years, and the envisaged Capital Markets Union, will be important new drivers of growth and help createan even more integrated Europe.

Through this report, the European Financial Services Round Table (EFR) intends to contribute to the debate on key economicand financial issues, share its views with EU policymakers and make specific recommendations. In difficult times it isimportant we work together to make the right decisions about matters that will boost long-term growth, employment andcompetitiveness. For that to happen it is vital that there is a well functioning and diverse financial services sector, able togenerate sufficient profits and continue to play a role in the economy and in society as a whole.

Across Europe, people aspire to improve their quality of life for themselves and their families. Improvement requires theexpansion of economic activity – to provide high quality food and housing, a stable energy supply, desirable consumer goods,modern and efficient public and private transport, life-enhancing education and essential healthcare. Greater economicactivity requires a corresponding expansion and management of the related risks. Banks, insurers, asset managers and otherfinancial institutions have a vital part to play in all of this.

Banks keep the stock of money moving efficiently. They provide payment services. They provide a safe home for cash andare an essential source of finance; by intermediating between savers and borrowers, they transform the short-term savingsof people and companies into long-term loans and other credit instruments for the smallest to the largest borrowers,including companies and governments. And they facilitate direct investment into the economy.

Insurers and reinsurers take on many of the short- to long-term risks faced by individuals and businesses: from theuncertainty that arises from an accident or burglary, to helping people provide for their retirement. The insurance sectorcontributes to economic growth by covering the productive activities of their customers against unexpected expensesarising from unforeseen events; in return, customers pay a fee, or premium. This benefits both parties because through thepooling of risk there is less volatility and the insurer can hold the risk more cheaply than any single party.

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A. INTRODUCTION

The strength of an economy has a large bearing on the success or otherwise of its financial services firms. Likewise, thesefirms play a key role in facilitating economic growth. The European economy has been under substantial pressure over thepast few years due to delayed reforms, emerging national protectionism, loss of confidence in European integration, a financial crisis, and loss in international competitiveness. This has led to a slowdown in economic growth and recession insome member states, increasing unemployment and economic fragmentation.

Time is of the essence. Without a return to growth in 2015, fiscal balances may worsen and make it even more difficultfor governments to honour their promises to provide pensions and healthcare for their aging populations. It is also likelyto lead to more unemployment, declining incomes, lower asset values and under-funded retirement provision. There isalso a deflation risk, in part due to weak credit expansion. With deflation, debt to Gross Domestic Product (GDP) ratioscan soar, creating a pernicious threat to fiscal balances.

If the public and private sectors continue to cooperate, and take whatever further action is necessary this year, we shouldrealise our joint ambition to restore Europe to a sound economic footing.

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An extensive reform agenda for the European financial sector has helped firms refocus on the vital role they play in theeconomy. Many of the reforms have made the financial sector more resilient and better able to weather future economic orfinancial crises without taxpayer support.

As policymakers continue to discuss new laws and regulations, the European Financial Services Round Table (EFR) isconcerned about the amount and unpredictability of regulation and would like to propose a number of high-level goals toensure effective regulation. Our over-riding objective is to ensure that the reforms will have the desired effects, includingboosting economic growth and ensuring the European financial services industry is safe, competitive, sufficiently profitableto be attractive to investors and able to provide the necessary products and services for consumers and businesses, while atthe same time avoiding any unintended consequences for the industry and the economy in general.

Our goals are to:

• Find a healthy balance between safety and economic growth. Make the system safer by reducing risk but ensuring thatfinancial firms are still able to be dynamic, competitive and innovative within a framework of long-term and stablegrowth.

• Ensure that the financial sector continues to provide the products and services needed by customers, and provideattractive and competitive returns to investors, while complying with increased regulatory requirements.

• Ensure that regulations do not overburden the financial sector and that specific reforms enable banks and insurers toplay their key role in the European economy.

• Make certain that reforms are logical and consistent with what has been introduced in the past seven years and give thesector sufficient room to meet the needs of customers by offering a variety of services, over different models, and tocontinue innovating.

• Ensure a harmonised approach and level playing field across European countries and sectors, where appropriaterecognising the structural differences in the assets and liabilities of banks and insurers.

• Maintain the wide diversity of share ownerships and business models across Europe. This diversity should be respectedand treated appropriately in European legislation through proportionality, the principle of subsidiarity and nationalimplementation of EU law.

• Maintain the diversity of available services and products through rules that foster competition in the area of financialservices. For example, the EU should establish appropriate market access rules for non-EU firms. These rules shouldensure a safe and stable financial system and a level playing field, while avoiding protectionism.

• Opt for a global approach to reform where appropriate and without putting European legal, structural, and businessmodels at a competitive disadvantage. This will support consistency, ensure a level playing field that is more effectiveand preserve the competitiveness of the European financial services industry compared with other parts of the world.

• Make sure that proper impact assessment studies – including cross-sectoral and cumulative impact studies – areconducted to estimate the benefits and costs of regulation, not just on the financial sector, but on the economy as awhole. A fundamental principle in financial regulation should be that any new framework must never be detrimental tothe long-term funding of the economy.

• Take stock of existing regulation and ensure that it has been correctly calibrated to support the growth agenda, andeffectively implemented, before adding another layer of regulation as this may subsequently be unnecessary,counterproductive or need a different focus.

• Assess the post-crisis legislation, as well as envisaged legislation, against its overall impact and its ability to support thecreation of jobs and growth and investment, and rewrite or withdraw it if necessary.

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B. GOALS FOR EFFECTIVE REGULATION

• Make EU policies and legislation predictable to help companies plan for the future and make sound and predictableinvestment decisions.

• Rebuild trust in the EU and its ability to provide satisfactory solutions for all citizens and all economic sectors.

• Make banks and other financial firms independent of taxpayer support, including through effective resolution tools,thereby reducing moral hazard. In this context, the EFR supports the creation of the banking union and the strong roleof the European Central Bank (ECB) as the single supervisor for European banks and the Single Resolution Board (SRB)as its counterpart for resolution.

• Increase the global competitiveness of Europe’s financial services sector, while ensuring it remains sound and safe.

• Make certain that new regulations only enter into force if they prove to be efficient and fulfil their purpose in a cost-benefit-analysis. Furthermore, there should be regular cost-benefit reviews of existing regulations.

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The main issues facing the European financial services sector, and the European Financial Services Round Table (EFR)’s keyrecommendations for dealing with them, are summarised here. Full details are given in the next section, Section D.

1. LONG-TERM INVESTMENT

Key Recommendations:

• Convergence on a definition for infrastructure would promote availability of data, innovation and clarity of rules.

• While banks will continue to be important players in financing SMEs and infrastructure, access to long-term finance forSMEs and infrastructure should be made easier through private and public sector initiatives. Long Term Investment Fundsshould be supported by adequate regulatory constraints.

• The high-quality securitisation market should be revitalised to address the funding gap for SMEs and infrastructurefinancing.

2. INFRASTRUCTURE FINANCING


• In order to maximise market participation, reduce inefficiency, and accelerate the development of infrastructure as anasset class, Europe needs to develop a more standardised and harmonised infrastructure capital market.

• Policymakers should address legislative and regulatory policies that disincentivize infrastructure investment. A stablelegal framework promoting confidence and long-term relationships is essential.

• Viable infrastructure projects should be created and promoted throughout Europe. More cooperation between the publicand private sectors would also be welcome and the use of public private partnerships should be further expanded acrossmember states.

3. CONSUMER PROTECTION


• EFR supports requirements for retail financial institutions and intermediaries to conduct an assessment of the customer’sneeds, with joint responsibility between the institution and the customer, in order to avoid misselling of products andensure that the most suitable product is advised to the client, as opposed to measures impacting business models in anegative way without addressing the problem that a lack of suitable advice would create.

• EU initiatives should not ignore the differences in market practices, language, culture and consumer needs that existbetween member states. Likewise they should consider existing local market practices relating to financial education toavoid imposing asymmetrical information requirements towards the customer.

• Policymakers should consider complementary measures to consumer protection laws and rules, such as self-regulation,codes of conduct, sharing and promotion of best local practices, without undermining agreed-upon EU standards,appropriate procedures and regular dialogue with industry practitioners to prevent mis-selling practices.

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C. SUMMARY OF MAIN ISSUES AND KEY RECOMMENDATIONS

4. TRADE


• Trade agreements should aim to include as many countries as possible to maximise the economic benefits.

• Finalising negotiations to create the ambitious and comprehensive Transatlantic Trade and Investment Partnership (TTIP)and other Free Trade Agreements, such as with Canada and India, should be prioritised in 2015. Financial services regulationand market access should be included in the TTIP in order to improve access to capital and boost economic growth.

• Regulators should monitor the impact of prudential rules on the supply of trade finance and, if necessary, review theircalibration.

5. DIGITAL FINANCIAL SERVICES


• Develop a level playing field for all digital financial services providers, applying the same rules required of financialinstitutions to new entrants, and in particular for all transactional services (including payments, foreign exchange,lending and advisory), to ensure security for clients.

• A level playing field can also be achieved by introducing greater flexibility into existing rules for traditional EU financialinstitutions, in particular concerning the use of big data techniques and location of data.

• To further enhance consumer protection against cyber risks, regulators should harmonise cyber security standards forthe Digital Single Market, based on principles that allow the cross-border sharing of cyber security incidents, as well asbest practices and prevention measures between companies and clearly identified competent authorities.

6. INSURANCE PRUDENTIAL


• Certain adjustments to calibrations within the final Solvency II framework are still needed to reflect the long-termnature of the insurance business.

• Such adjustments will allow insurers to continue to offer long-term guarantees backed by long-term investments.

• Changes should be made to the way Long-Term Investments (LTIs) are defined and calibrated in the Solvency IIframework. This should be done as soon as possible to support European Commission President Jean-Claude Juncker’sEUR 315 billion public and private infrastructure investment plan.

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7. INSURANCE SUPERVISION AND SYSTEMIC RISK


• Global insurance initiatives should be compatible with the Solvency II framework to help realise common objectives.

• ComFrame including the Insurance Capital Standard (ICS) should aim to provide a common basis for convergence ofadvanced supervisory practices, avoid new or duplicative layers of regulation and supervision and be an economic risk-based approach to group supervision that enables Solvency II to be the European application of any such standards.

• Any capital surcharge, as part of the systemic supervisory framework, should be a last resort and there must berecognition of the relevant risk management, risk mitigating activities and mitigating factors already embedded inadvanced risk based group supervision frameworks such as Solvency II.

8. PENSION REFORM


• There need to be a fair competition within Europe’s pension sector and a greater awareness among EU citizens towardstheir retirement arrangements.

• The European Commission should identify the various categories of funded pension schemes, products and providers, andto determine where prudential regulation might create uneven playing fields in certain markets across the EU.

• European pension reform should respect national diversity of social policy and taxation, ensure a competitive internalmarket and take into account the substantial changes that have already taken place. Demographic changes in Europemean that private pensions are needed to supplement public ones. The industry needs stability to help deliver this.

9. BANK STRUCTURAL REFORM


• Any bank structure reform rules need to differentiate clearly between proprietary trading and market-making, as thelatter has many benefits for all market participants. It is essential that market-making activities and more generallyclients’ related activities stay in the core entity as separation would hurt capital markets activities and make thedevelopment of Capital Markets Union impossible.

• It is imperative to preserve the universal bank business model which ensures greater resilience through diversifiedactivities and geographical markets.

• An in-depth impact assessment should be undertaken to determine the economic impact and unintended consequencesof bank structure reform. Should bank structure reform be implemented, then European banks would be stronglydisadvantaged compared with non-EU banks.

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10. BANKING SUPERVISION


• The Single Supervisory Mechanism (SSM) should carefully balance the new central responsibility of the European CentralBank (ECB) with the need to take advantage of the local expertise that national authorities have built up over the years.

• The EFR supports the ECB’s intention to review the national options and discretions in the EU single rulebook. The finalisation of the single rulebook by the European Banking Authority (EBA) and its role as a mediator between homeand host supervisors are essential for the single market.

• The European Commission should follow up on its assessment and consider in the long term a revision of the governanceand voting system of the EBA to further improve the capacity of its Board of Supervisors to take decisions in the interestof the EU as a whole and ensure the effectiveness of its role as mediator between home and host.

11. BANKING RESOLUTION


• Establish the Single Resolution Board (SRB) to ensure a uniform approach to the resolution rules and a decision-makingstructure that is aligned with the SSM.

• In banking union it needs to be clarified how supervision and resolution are carried out to provide confidence and clarityto the market.

• While Bail-in and resolution funds remain the primary tools to orderly manage banking crisis and avoid that taxpayermoney is used first to cover the losses of banks in trouble, credible backstops are important to ensure the credibility ofthe whole mechanism, even if they are never needed.

12. BANKING PRUDENTIAL


• Policymakers should resist further substantial increases in capital, liquidity and other regulatory requirements for banksat a time when most EU economies are still experiencing weak growth and addressing macro-economic imbalances.However, evolving international standards –such as Total Loss Absorbing Capacity (TLAC) or the Leverage Ratio – shouldbe taken into account in order to ensure a level playing field for European firms internationally.

• There are many regulatory changes occurring simultaneously and a prudent approach would be to allow reforms to takehold before layering on more regulations that may result in unintended consequences.

• A balance needs to be found between simplicity, risk-sensitivity and the comparability of risk-weighted assets.

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13. SHADOW BANKING


• The objective of further regulation should be clearly defined and aimed at proposing solutions to genuine problems thathave not already been addressed.

• Existing sources of data should be fully leveraged.

• Regulation should support the smooth functioning of money market funds, securitisation markets and repo andsecurities lending. Any unintended consequences of proposed changes to prudential rules should be understood andmitigated.

14. MARKET INFRASTRUCTURE


• Regulators must defer to each other’s rules where they achieve equivalent outcomes. This is vital to avoid furtherfragmentation of the global market and significant market disruption where Central Counterparties (CCP) rules are notmutually recognised and duplicative transaction-level requirements apply.

• Balanced legislation on recovery and resolution regime for Financial Market Infrastructures (FMIs) is required. Theforthcoming EU legislative proposal on CCP recovery and resolution must strike an appropriate balance on recovery andresolution requirements given the importance of CCP services for financial stability. Policymakers should ensure thatincentives to promote central clearing are not undermined by prudential regulation (such as the Leverage Ratio.)

• In order to avoid too many change projects for Central Securities Depositories (CSDs) and market participants at thesame time, European Securities and Markets Authority (ESMA) could consider a phase-in approach for the settlementdiscipline regime and use the information available at the Target 2 Securities (T2S) platform.

15. BENCHMARKS


• The new regulatory regime for benchmarks should be flexible and allow workable requirements to be applied to indiceswhere appropriate safeguards already exist. Where benchmarks are critical to more than one member state or involvecontributors and users in more than one member state, ESMA is best placed to assume supervisory oversight functions.

• The proposed equivalence regime needs to be given further consideration. No jurisdiction outside the EU is regulatingbenchmarks in a similar fashion, so equivalence regime is unworkable and hence an adequate grandfathering regimeshould be put in place until an equivalence decision is granted or a workable recognition/endorsement regime should beimplemented to avoid market disruption and financial instability.

• The definition of critical benchmarks should be based on both quantitative and qualitative criteria in order toinclude those benchmarks below the EUR 500 billion threshold that are nevertheless used to reference retailcontracts across the EU.

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16. TRANSACTION TAX


• The EFR urges the 11 participating states and the European Commission to cancel plans for an EU Financial TransactionTax (EU FTT).

• The tax would not achieve its intended goals and would have significant harmful effects on financial markets andeconomies, putting Europe at a competitive disadvantage.

• Policymakers should consider that similar taxes in the UK, Sweden and Switzerland have led to capital outflows, reducedtrading activities, less liquidity and created distortions in markets.

17. TAXATION INFORMATION EXCHANGE


• Full convergence on one final information exchange model – including timing of implementation, and safety ofcustomer information transmitted, – are of utmost importance. There should not be several different standards oninformation exchange as this would unnecessarily increase implementation costs.

• More clarity is needed on how the EU envisages phasing out the EU Savings Tax Directive (STD) and replacing it with theglobal Common Reporting Standard (CRS) (or the CRS as embedded in the Directive on Administrative Cooperation(DAC)). The EFR is also concerned about the limited progress made by the CRS jurisdictions on issuing the detailedimplementation guidelines.

• More detail is needed on the process that will be used to match and prioritise countries with one another under the CRSto facilitate the automatic exchange of information exchange.

18. ACCOUNTING


• The EU should utilise the new European Financial Reporting Advisory Group (EFRAG) structure so that private sector andnational stakeholder interests are fully taken into account in a transparent decision-making process that is also alignedto the objective of global convergence.

• International Financial Reporting Standards (IFRS) accounting rules require stronger political and macroeconomicframing. They should also recognise the diversity of business models, in particular for insurance companies with theirlong-term perspective and the assets they hold to back their liabilities.

• Accounting authorities should be encouraged, without being detrimental to European interests, to continue to try toconverge the international and US accounting systems, and to ensure that efforts to make standards more compatibleare of a high quality, workable and are able to reflect all types of business models.

Facilitating growth, long-term investment and competitiveness

1. LONG-TERM INVESTMENT

Background

Long-term investment (LTI) is essential for the economy and society as a whole. Funds held by financial institutions areinvested in long-term energy, transport and other infrastructure projects, as well as in businesses, including small andmedium-sized enterprises (SMEs), real estate and other assets.

The European Commission in its Green Paper on the long-term financing of the European economy, published in March 2013,asserts that the most pressing challenge for Europe is a return to sustainable and inclusive growth, creating jobs andenhancing its international competitiveness. The Commission regards large-scale, long-term investment as essential forreviving growth and employment across Europe. It has sparked a debate on how to foster more long-term financing andhow to improve and diversify the system of financial intermediation.

In November 2013, the Economic and Monetary Affairs Committee (ECON) of the European Parliament (EP) published itsown-initiative report on the long-term financing of the European economy, containing suggestions on how the Commissionshould tailor its follow up to its Green Paper. The report welcomes the Commission’s proposals, acknowledging that long-term investment is the key to economic growth but is hindered by the lack of alternative equity and debt financinginstruments that are available for EU companies. The EU’s announced Investment Plan for Europe, which aims to mobilise atleast EUR 315 billion in additional public and private spending in the next three years, and the envisaged Capital MarketsUnion, can both be important new drivers for boosting long-term investment across Europe.

Infrastructure projects, when they give rise to stable and predictable cash flows, may be suitable investments for insurersand long-term savers. However, they need to have access to information on a range of projects to choose from. As for long-term investment in SMEs, this is being held back for a number of reasons. Many SMEs prefer to raise funds through bankborrowing rather than the capital markets. This is often due to the high costs of access which are not in relation to theborrowing needs of SMEs. Traditional lending via banks has proven to be a reliable source of financing, as well as helpingSMEs access the capital markets when appropriate. Indeed, the European Commission has rightly noted that the realeconomy in Europe will continue to rely on the banking sector for a long time. For this reason, it is important to reactivatethe healthy balance of financial flows between banks and SMEs. Nevertheless, it is an area that in recent years has comeunder pressure. Transferring part of the SME reliance on traditional bank-based financing to market-based financing couldmitigate part of the pressure. In addition, creating a trustful regulatory framework for crowdfunding could also help manySMEs to access alternative sources of finance.

In this regard, as a response to the need for revitalising the securitisation market, the European Financial Services RoundTable (EFR) has helped to launch a European market-led initiative, Prime Collateralised Securities (PCS), where anindependent, not-for-profit entity defines and promotes best market standards and practices in the securitisation market.

More should be done to promote Venture Capital (VC) and business angels as a source of SME finance. There is no integratedventure capital market in Europe, and VC funding is fragmented along national lines; this increases funding costs and limitsopportunities for entrepreneurs and investors alike. There also remain significant obstacles in the form of double taxation,tax treatment uncertainties and administrative requirements that will continue to hold back venture capital.

Finally, historical data proves that European households traditionally choose basic deposits when placing assets. Since asubstantial portion of European assets is held by households they play a significant part in finding a solution for securingsustainable and long-term growth in Europe. Successful activation of these assets could become vital in securing financingfor SMEs and infrastructure.

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D. MAIN ISSUES AFFECTING THE EUROPEAN FINANCIAL SERVICES SECTOR

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Possible Impacts

The European Commission recognises that long-term investment has diminished in recent years for a number of reasons,including the economic situation in Europe and post-financial crisis regulatory reforms. It is looking for ways to rectify thesituation, but needs to be aware that parts of its regulatory reform programme have contributed to the problem as it hascreated some real obstacles to long-term funding.

Insurance companies, occupational pension funds and other institutional investors are well suited for long-term financingand investment. They have substantial portfolios with long-term horizons, and continue to seek out diversification andyields. Unfortunately, current European regulatory reforms in combination with market trends to deprive the Europeaneconomy of healthy long-term financing.

Certain elements of the Solvency II directive may make it more difficult for insurance companies to invest long term, dueto unfavourable capital requirements for some asset classes. Especially long-term infrastructure financing and high-qualitysecuritisations suffer from high capital charges.

The European insurance sector unanimously requested that the measures for implementing Solvency II (the so-called“delegated acts”) proposed by the European Commission should send a clear and strong message in favour of long-terminvestment. Unfortunately, the Solvency II delegated acts, which were published in October 2014, show only limitedimprovement in support for long-term investing except for some marginal change on the treatment of securitisations.

Many of the concerns expressed by the insurance sector– in particular those focused on the inconsistency between theregulatory framework and Europe’s ambitious plan on investment, growth and job creation – have not been sufficientlyconsidered.

On high-quality securitisation, the designation criteria need to be revised to avoid discriminating against junior tranches,and capital charges should be capped to the underlying assets (the “look-through” approach, which is not fully applied inthe current version). The European Central Bank (ECB) could promote such adjustments, which are essential to revivingsecuritisation markets.

Banks are traditionally the major conduits of finance, but new regulations might in certain cases reduce banks’ appetite forlong-term lending. Non-banking financial institutions – “shadow banks” – are stepping into the gap. The Europeanauthorities intend to regulate shadow banking, which is in general supported by the EFR to ensure a level playing field withother financial institutions.

The newly agreed European Long-Term Investment Fund (LTIF) framework could become an important source of investmentand direct financing for SMEs. However, its success will to some extent depend on the inclusion of insurance companies,long-term savers and integration with the well-functioning Undertakings for The Collective Investment of TransferableSecurities (UCITS) framework.

Multinational and national development bank programmes such as guarantee facilities, risk-sharing agreements, bankfinancing and global loans should be further developed. These instruments are very useful, especially for financing SMEsthat cannot access the capital markets.

EFR Recommendations

• Convergence on a definition for infrastructure would promote availability of data, innovation and clarity ofrules. At a national and European level the visibility of the range of infrastructure projects seeking privatefinance could be made much clearer, particularly for small and medium- sized projects.

• While banks will continue to be important players in financing SMEs and infrastructure, access to long-termfinance for SMEs and infrastructure should be made easier through private and public sector initiatives. LTIFsshould be supported by adequate regulatory constraints. SMEs are far more reliant on bank borrowing thanlarge companies and are generally wary of tapping into the debt capital markets which tend to provide longer-term finance. Governments, banks, insurance companies, development banks and others should explore what canbe done to help SMEs access these markets, while expanding the EU project bonds initiative would help build scalein the market for infrastructure bonds. LTIFs should be supported and a functioning secondary market with fullcollaboration between European fund structures will be central for ensuring that the new fund structure canachieve the defined goal of assisting European growth.

• The high-quality securitisation market should be revitalised to address the funding gap for SMEs.Re-developing the European SME securitisation market – securitising bank loans to SMEs, with or without creditrisk mitigation from the European Investment Fund (EIF) or other official bodies – could provide an attractivealternative for investors and a stable source of liquidity and capital for SMEs. If properly designed, such a systemcould significantly diversify sources of funding for SMEs, lower funding costs and reduce the exposure of thesector to any future constraints within the banking sectors.

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2. INFRASTRUCTURE FINANCING

Background

Investment in infrastructure is a driver of global economic growth. Europe requires infrastructure investments – both debtand equity – of between EUR 1.5 trillion to EUR 2 trillion to meet the goals of its Europe 2020 strategy. However, there is asubstantial funding challenge as traditional lenders are under pressure to deleverage and reduce their balance sheets.National governments and private investors, particularly long-term institutional investors, therefore have a vital role to play.

Private investment is hampered by the relative inaccessibility of infrastructure as an asset class due to highly technical andbespoke projects and financing structures, a lack of benchmarking and performance data, and national infrastructure plansthat lack depth and are short on commercially viable projects.

The new European Commission is prioritising infrastructure financing in its Investment Plan for Europe, which aims tomobilise at least EUR 315 billion in additional public and private investment in the economy over the next three years. TheEuropean Financial Services Round Table (EFR) supports measures that would help infrastructure become a more accessibleasset class for institutional investors. Such measures include greater transparency, the harmonisation of projects, structures,financing and performance, a common legal framework, standard project documentation, a common investor prospectus,the development of best practices, and greater availability of benchmarking and performance data.

There are a number of global initiatives underway to promote more investment in infrastructure. For example, the G20andthe B20 (the Business 20 forum that brings together business leaders from the G20 countries), have called on the public andprivate sector to:

• Reaffirm the critical importance of infrastructure in national growth plans.

• Establish, publish and deliver independently assessed infrastructure plans.

• Establish a Global Infrastructure Hub to encourage collaboration between governments, the private sector, developmentsbanks and international organisations.

• Implement best practice procurement and approvals processes.

• Work towards greater promotion and protection of cross-border investment and increase the availability of long-terminfrastructure financing.

Possible Impacts

There are many legislative, regulatory and tax barriers to infrastructure investment and new ones are being constructed. Forexample, within Solvency II the risk weighting of infrastructure investment in the standard formula and other regulatorycapital charges will act as disincentives to institutional investment. Instead, infrastructure investments should be subject tocapital charges that take account of their specific characteristics, such as their lower risk of default higher recovery ratesand more stable cash flows than corporate bonds.

It would help if relevant insurance regulatory frameworks allowed a separate ”fixed income” classification for infrastructuredebt, rather than require it to be classified as an illiquid asset under “alternatives”. It would also be beneficial if governmentsmaintained stable policies. Sudden or frequent changes in policy (such as the many changes seen in several countries’financial incentives regimes for renewable energy projects) reduce investor appetite.

More cooperation between the public and private sectors would be welcome and Public-Private Partnerships (PPPs) ininfrastructure projects should be expanded across Europe. PPPs are under-used in some member states so it would be usefulif policymakers were to promote successful PPPs as examples of best practice to be emulated in states where their use hasbeen minimal.

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The many different sources of capital available for infrastructure projects, including publicly funded institutions such as theEuropean Investment Bank, should be promoted. The public sector should do more to help private sector companies identifyall the different aspects of infrastructure financing such as credit enhancement, guarantee programmes, and MultilateralDevelopment Banks (MDBs). Furthermore, governments should do more to cover risks that the private sector is not willingto cover. For instance, the number of national projects eligible for Project Bonds Credit Enhancement (PBCE) could beincreased to develop investor appetite for infrastructure assets. Governments should also review how infrastructure projectsare taxed and consider changing the rules to attract investors.

Policymakers should maintain an open dialogue with the biggest investors like larger pension funds and insurers andconsider changing policies to meet investors needs.

Besides improving investors’ appetite for infrastructure projects, governments should ensure there are enough attractiveprojects in the pipeline to meet demand. The reasons for the limited use of PPPs in some countries should be investigated,a range of different PPP models should be promoted and PPP documentation and benchmarking data should be harmonised.

EFR Recommendations

• In order to maximise market participation, reduce inefficiency, and accelerate the development ofinfrastructure as an asset class, Europe needs to develop a more standardised and harmonised infrastructurecapital market. By creating a common framework for project due diligence and disclosure, or a pan-regionalpassport, infrastructure investing will become more accessible to long-term institutional investors. Astandardised framework should maintain some flexibility so that different jurisdictions could impose additionalrequirements where necessary.

• Policymakers should address legislative and regulatory policies that disincentivize infrastructure investment.A stable legal framework promoting confidence and long-term relationships is essential. The public andprivate sectors should be encouraged to cooperate in project financing. They should also work together to meetthe recommendations made by the B20 to promote more investment in infrastructure. The public sector shouldplay a key role in a project’s initial stage: it should set priorities, provide a transparent procurement procedure,offer initial financial support, provide guarantees and mitigate risk.

• Viable infrastructure projects should be created and promoted throughout Europe. More cooperationbetween the public and private sectors would be welcome and the use of public-private partnerships shouldbe further expanded across member states. As well as improving investor demand for infrastructure projects,governments should address the supply side by creating enough projects to meet demand. They should promotethe right allocation of structural and cohesion funds (through, for example, the Connectivity Europe Facility) totackle inefficiencies. Such funds create significant leverage and attract additional public and private resourcesthrough the use of innovative financial instruments such as EU Project Bonds. Resources available for the EU2020 Project Bond Initiative, carried out by the European Investment Bank, should be increased. A Europeaninfrastructure strategy should be developed by encouraging member states to define priority projects, especiallythose that will have a sustained impact on economic growth. To avoid inefficiencies and the waste of financialresources, improved mechanisms for project selection is needed.

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3. CONSUMER PROTECTION

Background

In the immediate wake of the financial crisis, the regulatory focus first turned to solvency and liquidity. From the CapitalRequirements Directive IV (CRD IV), the Capital Requirements Regulation (CRR), the Bank Recovery and Resolution Directive(BRRD) and Solvency II in the EU, to the Dodd-Frank Act in the US, enhanced prudential regulation – especially ofsystemically important financial institutions – took centre stage in an effort to stabilise the financial system. However, thefocus soon switched to consumer protection to deal with the series of high-profile mis-selling and other incidents that ledto a general loss of public confidence in financial institutions. Within the banking union, it is argued that the transfer ofprudential supervision responsibility to the European Central Bank (ECB) may provide an opportunity for national supervisorsto be more attentive to conduct of business and consumer protection issues. Within the insurance industry, the EuropeanInsurance and Occupational Pensions Authority (EIOPA) is also regarding consumer issues as one of its main priorities and isaiming to bring greater harmonization of practices throughout Europe.

The G20’s High-Level Principles on Financial Consumer Protection issued in October 2011 provide a credible plan for thefuture of financial consumer protection regulation. These principles emphasise: a) avoidance or disclosure of conflicts ofinterests in the provision of advice; b) product choice and ease of switching; c) transparency and product suitability; d)recourse for customers when dissatisfied.

The European Union has made a concerted effort to advance a common consumer protection agenda to apply the principlesset out by the G20. These consumer protection initiatives have common objectives, namely to increase transparency infinancial transactions to reduce the risk of conflicts of interest, to stimulate an easier and more convenient access tofinancial services through harmonised definitions and rules across the EU, to promote the development of efficientcomplaint and redress mechanisms, and to enhance competition to put downward pressure on prices. The EuropeanCommissioner for Financial Stability, Financial Services and Capital Markets Union, Jonathan Hill, supports the creation of asingle market for retail financial products. Such a market should consider the diversity of ways in which clients are servedby the financial sector and intermediaries.

Financial institutions are following these developments closely since consumer protection is a necessary condition forregaining consumer confidence and business growth. The European Financial Services Round Table (EFR) supports theseobjectives. Nevertheless, it is important to find a way to both protect consumer interests and to preserve appropriatefinancial innovation, security and competitiveness. It is also essential to make sure that regulations aimed at protecting andhelping consumers do not end up acting against them as a result of burdensome information procedures, lengthy andcomplex security checks and, above all, higher costs. Furthermore, too strict rules could end up creating a narrower offeringof services and products for certain segments of customers. Consumer protection measures often imply substantial changesin distribution channels, disclosure requirements, and authentication processes, which translate into higher operational costsand increased prices for end-users. The optimal outcome strikes a balance between providing the right amount informationto customers and the best procedures for dealing with customers, and the costs of doing so. If the appropriate balance isnot struck, the information and procedures can become so burdensome for all involved that their purpose is weakened.

In addition, consumer protection rules should not lead to the provision of uniform services and products within the financialservices sector as this would not serve customers’ diverse needs and could even affect financial stability. In particular, serviceand product information provided to customers must be allowed to vary depending on the specifics of those services andproducts.

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Possible impacts

Numerous new consumer protection rules have been proposed in recent years, affecting business practices in several ways.They include the Revision of the Markets in Financial Instruments Directive (MiFID II), Insurance Distribution Directive (IDD),previously known as the Revision of the Insurance Mediation Directive (IMD II), Packaged Retail and Insurance-BasedInvestment Products (PRIIPs), the Payment Accounts Directive, the revision of the Payment Services Directive (PSD2) and theregulation on Multilateral Interchange Fees (MIF) as well as various mortgage and consumer credit rules. As a result, firmswill have to adapt their distribution channels, change pre-contractual information processes, continue to adapt commercialproduct documentation for customers, enhance remuneration and compensation disclosure practices, facilitate bankaccount switching, adapt compliance systems, introduce more efficient complaint and redress mechanisms, implement newrisk management and client mediation processes and raise the standard for sales qualifications. While in general thesechanges are expected to benefit consumers, the significant operational costs that accompany these efforts and the pressureto avoid passing those costs on to the customer should not be underestimated.

EFR Recommendations

• EFR supports requirements for retail financial institutions and intermediaries to conduct an assessment ofthe customer’s needs, with joint responsibility between the institution and the customer, in order to avoidmisselling of products and ensure that the most suitable product is advised to the client, as opposed tomeasures impacting business models in a negative way without addressing the problem that a lack ofsuitable advice would create. Policymakers and regulators should take a holistic approach to consumerprotection that looks at the real needs of the consumer while also taking into account the impact regulationsmay have on the take-up of financial services. It should be assessed whether consumers’ wishes (expressed insurveys for instance) correspond to the products and services that they would actually use. In parallel, financialliteracy should be improved so that consumers have a proper understanding of how to manage their finances,and how to avoid unnecessary risks, excessive debt and financial exclusion. The assessment of regulation shouldbe carried out in close coordination with the financial services industry, which has expertise in the functioningof financial systems and processes, customer behaviour and product-testing procedures.

• EU initiatives should not ignore the diversity of the business models of the financial sector and thedifferences in market practices, language, culture and consumer needs that exist between member states.Likewise they should consider existing local market practices relating to financial education to avoidimposing asymmetrical information requirements towards the customer. To promote flexibility andcoherence, policymakers and regulators should focus on essential rules only, following the approach of targetedfull harmonisation at the EU level. The principles of subsidiarity and proportionality should therefore be carefullyobserved when assessing the need for new regulations and definitions at EU level. For example, brokers and tiedagents should not be subject to the same rules because while a broker acts on behalf of consumers of financialservices, a tied agent acts on behalf of providers of financial services. Similarly, the proposed ban on commissionswhen providing independent advice on investment products is a relatively recent and untested development; theprinciple of subsidiarity should be applied so that member states can make their own decisions on restrictionson commissions.

• Policymakers should consider complementary measures to consumer protection laws and rules, such as self-regulation, codes of conduct, sharing and promotion of best local practices without undermining agreedupon EU standards, appropriate procedures and regular dialogue with industry practitioners to prevent mis-selling practices. Such alternatives have often proven to be more efficient, flexible, easier to implement andmore cost-efficient than prescriptive legislation and rules. They also tend to be more “technology- neutral” and“innovation friendly” than legal and regulatory instruments. Similarly, consumer protection measures shouldremain neutral of financial providers’ business models. It would be helpful if the financial services industry hada regular and structured dialogue with the European Supervisory Authorities to identify priority areas inconsumer protection and to see how monitoring and reporting processes could be best integrated into financialinstitutions’ governance, risk management and compliance systems.

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4. TRADE

Background

International trade boosts company revenues and profits, fosters competition between businesses, creates jobs, stimulateseconomic growth, gives consumers more choice, boosts returns to company shareholders and provides many other benefits.The 2008 financial crisis contributed to a slowdown in global trade volumes but efforts to revitalise cross-border businessthrough multilateral, regional and bilateral agreements and partnerships have yielded results.

At the Ninth World Trade Organisation (WTO) Ministerial Conference held in Bali, Indonesia, in December 2013, Ministersagreed a series of decisions aimed at streamlining trade, allowing developing countries more options for providing foodsecurity and boosting least-developed countries’ trade. While implementation of these decisions has been delayed but willhopefully resume in 2015, work has also started on a plurilateral agreement (an agreement between more than two countriesor trading blocs, but not involving all WTO members) on trade in services.

In February 2013, the EU and US agreed to start discussions on a Transatlantic Trade and Investment Partnership (TTIP). Thisaims to eliminate barriers to trade and investment and to deepen economic integration between the world’s two largesttrade blocs to support job creation, economic growth, and international competitiveness. Tariffs between the EU and US arelow (around 3% on average but can vary significantly by sector), so the focus is on tackling non-tariff barriers, such ascustoms procedures and regulatory restrictions on goods and services. The European Commission cites independent researchdemonstrating that TTIP could boost the EU’s economy by EUR 120 billion, the US economy by EUR 90 billion and the restof the world by EUR 100 billion.

Financial services are the lifeblood of transatlantic commerce, facilitating nearly USD 1 trillion in annual trade flows as wellas USD 3.7 trillion in total cross-border investment. Several rounds of TTIP negotiations have taken place in 2013 and 2014but so far no agreement has been reached on the inclusion of financial services.

Following the conclusion of the EU Singapore Free Trade Agreement in 2013, negotiations continue on trade and investmentagreements between the EU and other developed and emerging economies, notably the Association of Southeast AsianNations (ASEAN), Canada, India, Japan, Mercosur and Vietnam.

Creating access to affordable and workable trade finance is as important for growth as removing barriers to trade. Tradefinance provides important liquidity and risk mitigation benefits which are especially important for smaller companies, sothe right regulatory treatment is essential. The International Chamber of Commerce estimates that around 80% to 90% ofcross-border trading activity relies on some form of trade finance. Trade finance is one of the safest forms of finance becauseof its short-term, self-liquidating and transactional nature. According to the ICC Trade Register Report 2014, produced bythe International Chamber of Commerce (ICC), which draws on data from major global commercial banks reflecting morethan 4.5 million transactions totalling an exposure in excess of USD 2.4 trillion, short-term trade finance customer defaultrates range from a low of 0.033% to a high of 0.241%, a fraction of the 1.38% default rate reported by Moody’s for allcorporate products (according to 2012 figures).

European policymakers have so far set a positive example by recognising the low-risk liquid nature of trade finance andadjusting the prudential calibration of certain capital and liquidity provisions within the Capital Requirements Directive IV(CRD IV), and this has been accepted recently at the international level in the Basel Committee’s final proposal on theLeverage Ratio.

Possible Impacts

The most substantial gains in world trade are to be made in tackling non-tariff regulatory barriers. For the financial servicessector, there is the hope that the envisaged TTIP between the EU and the US will address outstanding concerns over marketaccess and regulatory coordination, in particular for cross-border firms affected by legislation with extra-territorialimplications. EU policymakers support this aim. Reducing or eliminating unnecessary regulatory differences that increase thecost of financial services and fragment liquidity would benefit not only the financial sector but all sectors involved intransatlantic trade and investment.

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Certain legislative initiatives such as the European Commission proposal on bank structural reforms or the Volcker Rule couldhave unintended consequences in financial markets. As well as potentially hindering financing to the real economy they mayalso result in an uneven playing field and therefore affect trade relations between the EU and the US. Moreover, there isempirical evidence1 that the imposition of mandatory execution rules under the US Dodd-Frank Act in February 2014 hasfragmented liquidity in over the counter derivatives markets along geographical lines. The market for euro interest rateswaps is now clearly split between US and non-US counterparties.

EFR Recommendations

• Trade agreements should aim to include as many countries as possible to maximise the economic benefits.It is important that free trade agreements are seen as steps towards more harmonised and coordinated trade atthe multilateral, or at least plurilateral level. Regulators and financial services firms should monitor how theBasel III and CRD IV rules on capital could reduce the supply of trade finance.

• Finalising negotiations to create the ambitious and comprehensive TTIP and other Free Trade Agreements,such as with Canada and India should be prioritised in 2015. Financial services regulation and market accessshould be included in the TTIP in order to improve access to capital and boost economic growth. The TTIPshould be viewed as an opportunity to ensure that global regulatory initiatives being developed by the G20 andthe Financial Stability Board (FSB) are implemented in a coherent manner on both sides of the Atlantic, with theaim of avoiding extraterritorial impacts or conflict of laws and preventing fragmentation of liquidity.

• Regulators should monitor the impact of prudential rules on the supply of trade finance and, if necessary,review their calibration. Before new rules are introduced the impact should be carefully assessed to avoid areduction in the supply of trade finance

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1 ISDA Research Note (July 2014), Revisiting Cross-Border Fragmentation of Global OTC Derivatives: Mid-year 2014 Update.

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5. DIGITAL FINANCIAL SERVICES

Background

The internet’s expansion and the emergence of e-commerce and the new connected technologies in general have createdan environment in which companies of all sizes have access to the international market and to huge amounts of data,enabling them to grow faster, improving their economic efficiency and profitability.

Consequently, financial providers have moved their offerings online and will continue to innovate in this area asconsumers expect their finances to be easily accessible across several platforms. The financial world is moving tocontinuous accessibility, empowered by technology and consumer demand, and both the private and public sectors needto adapt to this.

The free flow of information about financial products and services is empowering consumers and giving them easier accessto their accounts at banks and insurance companies. “Crowdfunding” and other social media developments in finance andthe “sharing economy” are expected to become more and more popular as technology further continues to connect businessand society.

In addition to traditional financial institutions, there is also an increasing number of new entrants venturing into onlinefinancial services and products, seizing on the capabilities of new technologies and that test the application of existingfinancial regulation, intended to protect customers and financial stability.

Greater speed and interconnection carry risks. Consumers will therefore want to be reassured that their money and bankaccounts are safe from cyber attacks and they may be willing to pay more for increased security.

In this context, the European Commission has rightly identified the Digital Single Market (DSM) as one of its top priorities,with a DSM strategy that will have to overcome real obstacles and boost the economic potential inherent to the digitaleconomy, in order to develop the competitive leadership of Europe in the global market.

Possible Impacts

Two issues in particular require appropriate regulatory responses to ensure a safe and advantageous digital environment forthe consumers and to strengthen Europe’s financial industry in the digital economy. First, a consistent regulatory frameworkshould be implemented to boost the development of digital financial business models and ensure a level playing field forexisting and new players. Second, EU cyber security and data protection regulation needs to be harmonised.

Digital financial business models

Financial technology products and services are being deployed globally against a background of diverse regional regulations.Information and Communication Technology (ICT) companies have started to compete with traditional financial servicecompanies in the provision of innovative financial services, offering services such as electronic money transfer,intermediation in online payments, financial data aggregation, peer-to-peer funding and credit extension, and commonlydeploying big data techniques (for example in risk modelling, pricing, knowledge based service offering and telematics). Newentrants often operate under different policies and legislation leading to transnational IT models, taking advantage of cloudtechnology, which allows them to reduce IT costs and in the first place, enables powerful big data techniques; by contrast,delocalised models are not that widely permitted by regulators of traditional financial services providers.

There are a number of other differences in how these new “fintech” companies are regulated and supervised compared withconventional providers. In the area of payments, which is a corner stone of the digital economy, banks have a vital role assafe keepers of the payment system infrastructure and the security of their clients’ data, which requires very significantinvestments and operational costs. We favour and embrace policies that enable new entrants to be part of, and use, thepayment system, but they must be held to the same licensing, security, and liability rules applicable to financial institutions.They should also contribute fairly to meeting the payment system’s costs. The existing uneven playing field needs to beremedied, not only to create a fairer marketplace but also to reduce risks to all providers, their customers and the financial

system in general. Standardised regulation is essential if the full potential of digital financial services is to be realised.

And this uneven playing field, not only raises concerns from a prudential point of view (security risks, money launderingrisks and even systemic risks), but also and firstly regarding consumer protection and the optimal use of digital innovationin financial services in the interest of the consumers.

Cyber security and data protection

At the same time, cyber security must be enhanced if the new digital environment for financial services based ever more onopen and interconnected platforms is to operate effectively and be trusted by customers2. The regulatory approach to howfirms protect themselves in cyberspace needs to be carefully considered to ensure security, privacy, consumer protection andfinancial stability. The trustworthiness of digital financial services requires clear standards and the same rules for all players.

EFR Recommendations

• Develop a level playing field for all digital financial services providers, applying the same rules required offinancial institutions to new entrants, and in particular for all transactional services (including payments,foreign exchange, lending and advisory), to ensure security for clients. All activities in the financial servicesvalue chain should adhere to the same set of regulations.

• A level playing field can also be achieved by introducing greater flexibility into existing rules for traditionalEU financial institutions, particularly concerning the use of big data techniques and location of data. Moreflexible rules are needed that continue to ensure the protection of consumer interests and their rights of privacywhile enabling EU financial institutions to best serve the customer through the use of Big Data, whose essenceis the analysis of data in ways that may not have been envisaged when they were first collected. It is throughthis ex-post analysis that new, innovative and targeted products and services for the benefit of consumers canbe developed. Geolocalization of data goes against the current trend of ever-increasing globalisation of financialservice infrastructure and use of cloud-based services. The focus should rather be on security of data storageand risks of leakage, access control, outsourcing, etc.

• To further enhance consumer protection against cyber risks, regulators should harmonise cyber securitystandards for the Digital Single Market, based on principles that allow the cross-border sharing of cybersecurity incidents, as well as best practices and prevention measures between companies and clearlyidentified competent authorities. In order to reduce the impact of cyber threats and improve cyber resilience,the financial industry should be able to share information on well-defined incidents, without breaking dataprotection laws. Data sharing would include a common set of definitions and rules for cyber security, includinga standardised audit and reporting process. In the longer term, common cyber security standards andinformation sharing could be extended to include the US under the Transatlantic Trade and InvestmentPartnership (TTIP), and other countries within the G20 framework. For the implementation, governments inEurope should provide proper resources against cybercrime. Furthermore, on a global level, an authority shouldbe assigned, potentially at G20 level, that clarifies lines of responsibility for cyber risks and can respond tomaterial attacks.

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2 Considered in the CRO Forum paper 'Cyber Resilience – The cyber risk challenge and the role of insurance' http://www.thecroforum.org/cyber-resilience-cyber-risk-challenge-role-insurance/

The critical importance of insurance and asset management

6. INSURANCE PRUDENTIAL

Background

The Solvency II Directive fundamentally changes the regulatory framework for the European insurance industry. It aims toenhance policyholder protection and the internal market by introducing common rules to improve the system of governanceof insurance and reinsurance undertakings; introduce new supervisory measures; enhance risk management, economiccapital and risk-based capital requirements; and increase transparency for insurance undertakings and insurance groups.

The rules introduce new requirements for governance within insurance entities, enhance the role of the executivemanagement, including making the Board of Directors being responsible for risk management, and set new requirements forregulatory reporting and disclosure. In addition, supervisors will get new powers to supervise the industry, and the supervisionof insurance groups will be enhanced.

Solvency II will incentivise the use of best practices in risk management including the use of internal models. It will ensure auniform and enhanced level of policyholder protection by making sure that insurance undertakings are sound and can survivedifficult periods. Solvency II may therefore give policyholders greater confidence in insurance products and contribute tofinancial stability. The European Commission also expects the new rules to increase competition.

Solvency II will create a robust common European regime, which will be especially important for standard setting in futureinternational discussions on global insurance capital rules.

Following intense political discussions the framework has been finalised following agreement on amendments to the Directiveand the publication of the Delegated Acts. These include measures to reflect the long term nature of insurance business andmitigate pro-cyclicality with the specific inclusion of measures such as the volatility adjustment, matching adjustment andextrapolation of discount rates.

Priorities

Industry is now focused on implementation including internal model approval by national supervisors which remain a criticalaspect of the economic risk based regime under Solvency II. Aspects of the implementing measures and guidelines are stillunder development and it remains important that issues such as Equivalence with non-EEA regimes are satisfactorilyresolved as soon as possible.

Possible Impacts

A fundamental principle in financial regulation is that any new framework must not be detrimental to the long-termfunding of the economy. In its final state the calibration of Solvency II asset risk capital charges weigh heavily on the holdingof long-term assets especially infrastructure investments and high quality securitisation exposures. Those investments areessential to support sustainable growth in any economy. For instance, insurance regulations do not set lower capitalrequirements for infrastructure investment, which is a key area of investment and is much less risky than general corporateinvestment. Similarly, the capital requirements for securitisations invested in by insurers tend to be much higher than therisks they actually carry.

This issue has not been sufficiently addressed, even though long-term investments provide a good match for insurers’ long-term liabilities. Under the implementing measures certain aspects of Solvency II implementation, including the calibrationsof fixed-income securities and infrastructure investments will be reviewed by the end of 2018.

However there is a possibility that the European Commission will revisit these parameters much earlier than the end of 2018,through legislation to support Jean-Claude Juncker’s EUR 315 billion public and private infrastructure investment plan. Wewould strongly encourage this as it will create an opportunity to change the way Solvency II treats certain Long-Term

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Investment (LTI), which is necessary if insurers are to contribute fully to the recovery of the European economy. The threekey changes should be:

• To replace the excessive proposed calibrations with calibrations that would take better account of the true underlyingrisk.

• To define infrastructure as a specific asset class, subject to capital charges that take account of its specific characteristics,such as its lower risk of default, higher recovery rates and more stable cash flows than corporate bonds.

• To revise the designation criteria for high-quality securitisation to avoid discriminating against junior tranches, and to capcapital charges to the underlying assets (the “look-through” approach, which is not fully applied in the current version). TheEuropean Central Bank (ECB) could promote such adjustments, as they are essential to revived securitisation markets.

EFR Recommendations

• Certain adjustments to calibrations within the final Solvency II framework are still needed to reflect thelong-term nature of the insurance business. The European Financial Services Round Table (EFR) regrets thatinsufficient action was taken to improve the treatment of long-term assets in the finalisation of Solvency II.

• Such adjustments will allow insurers to continue to offer long-term guarantees backed by long-terminvestments.

• Changes should be made to the way Long-Term Investments are defined and calibrated in the Solvency IIframework. This should be done as soon as possible to support European Commission President Jean-ClaudeJuncker’s EUR 315 billion public and private infrastructure investment plan.

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7. INSURANCE SUPERVISION AND SYSTEMIC RISK

Background

The Financial Stability Board (FSB) and the International Association of Insurance Supervisors (IAIS) continue to work onmeasures to address sources of systemic risk in the insurance sector and consider development of a global Insurance CapitalStandard (ICS).

The outcomes are likely to have significant implications for the European insurance industry. The debate is influenced byjurisdictional developments, including the finalisation of Solvency II in Europe, and the Dodd-Frank Act in the US.

In July 2013, the FSB established a list of nine Global Systemically Important Insurers (G-SIIs), which was updated inNovember 2014 with no changes. A decision on the designation of reinsurers has been delayed further, potentially until 2016and the overall G-SII designation methodology is being re-visited during 2015.

The policy measures applicable to G-SIIs remain unchanged, namely (i) enhanced supervision, (ii) improved resolvability and(iii) Higher Loss Absorbency (HLA) capacity from 2019 onwards. A simple Basic Capital Requirement (BCR) has beendeveloped and will be confidentially reported to supervisors by G-SIIs from 2015 onwards. It has been confirmed that theBCR will not apply to IAIGs. The BCR serves as the basis for the HLA, which is scheduled to apply to G-SIIs from 2019. Theconsultation on the HLA has been delayed to June 2015 and is due to be finalised later in the year. It remains critical thatany G-SII measures are just focused on systemic activities.

In May 2014, the IAIS issued a memorandum on the ICS. The IAIS issued principles in September that provide the frameworkfor development of the ICS by the end of 2016. They subsequently published a consultation in December 2014 as part of amulti-year process to develop and adopt the ICS by 2018. The ICS will be part of the Common Framework for the Supervision(ComFrame) and apply to all Internationally Active Insurance Groups (IAIGs). ComFrame is a key IAIS initiative to improvesupervisory cooperation and increase global convergence in supervisory practices. However, it faces many political challengesparticularly in relation to ICS.

Possible Impacts

Even though the IAIS recognises that traditional insurance and reinsurance activities are unlikely to be a source or amplifierof risk and are shock absorbers rather than sources of financial turbulence, many supervisors continue to raise concerns andmay introduce additional domestic measures to ring-fence their markets.

EU-based insurance groups and G-SIIs face an increasing number of regulatory initiatives on group supervision that overlapeach other, generating duplication and fragmentation. The main concerns are:

(i) Excessive and non-risk based capital requirements affecting the competitiveness and attractiveness of groups as well aspenalising advanced domestic solvency regimes;

(ii) Ring-fencing requirements;

(iii) Reduction of diversification benefits;

(iv) Introduction of additional protectionist and extra-territorial measures by national jurisdictions beyond global standardsor in rejection of the standards;

(v) Excessive and duplicative reporting requirements; and

(vi) Inadequate and inappropriate requirements being applied to re/insurers (such as a leverage ratio).

As regards capital charges in particular, neither the practical nor the cost-benefit case for surcharges has yet been madeagainst this background. Capital charges may also affect customers, lowering the availability of insurance and personal orbusiness finance, and therefore reducing the resilience of businesses and households alike. We would recommend a thoroughanalysis of the differences between the banking and insurance business model and the assessment of the differencesbetween systemic riskiness and relevance before any discussions on capital adequacy are finalised.

EFR Recommendations

• Global insurance initiatives should be compatible with the Solvency II framework to help realise commonobjectives. If implemented properly, Solvency II will provide incentives for improved risk management andenhanced protection for consumers and the economy.

• ComFrame including the Insurance Capital Standard (ICS) should aim to provide a common basis forconvergence of advanced supervisory practices, avoid new or duplicative layers of regulation and supervisionand be an economic risk-based approach to group supervision that enables Solvency II to be the Europeanapplication of any such standards. The European Financial Services Round Table (EFR) is supportive of the IAISefforts in developing ComFrame to facilitate better coordination and cooperation in supervision of groups. EFRrecommends that EU institutions actively engage with the IAIS to promote the solutions to these issues offeredby Solvency II, and that any new global capital and/or valuation standards are consistent and compatible withSolvency II.

• Any capital surcharge, as part of the systemic supervisory framework, should be a last resort and there mustbe recognition of the relevant risk management, risk mitigating activities and mitigating factors alreadyembedded in advanced risk based group supervision frameworks such as Solvency II. Governance, consistentand proper risk management and supervision are much more critical for the stability of the financial sector thanadditional capital charges.

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8. PENSION REFORM

Background

State-run, occupational and private pension schemes (known as pillar I, II and III pensions respectively) are extremely importantas they should allow people to enjoy their retirement after a working life and provide good protection against poverty. But thechanging demographics in Europe present a major challenge to pension systems in many EU member states. People are livinglonger, and in many countries are having fewer children, which together will have far-reaching economic and budgetaryconsequences and may lead to many citizens not having sufficient retirement income. A looming pension crisis underlines thechallenges that state-run pension systems in particular may pose for European economic and monetary integration.

Being aware of the situation, the European Commission has launched several pension initiatives in recent years. It publisheda White Paper in 2012, “An Agenda for Adequate, Safe and Sustainable Pensions” which looked at how the EU and memberstates can work together to tackle the problem. The European Parliament has since adopted a non-legislative resolution thatstresses the need for complementary pillar II and pillar III pension schemes, effectively recognises direct competition in somemarkets between occupational pension funds and insurance companies as providers of pensions, and supports theapplication of the “same risks, same rules, same capital” principle to all financial institutions providing occupationalpensions, where relevant.

The Commission published the revision of the Directive on Institutions for Occupational Retirement Provision (IORP II). Thefocus is on governance, transparency and reporting requirements for occupational pension funds but it is not covering thesolvency of these pension funds – a topic on which EIOPA recently launched a consultation. For countries in whichoccupational pensions are also provided by life insurers, the question of solvency rules could give rise to an uneven playingfield; life insurers will have to comply with strict solvency requirements under Solvency II, whereas occupational pensionfunds will not be subject to similar requirements.

More widely, it is clear that there are still lessons to be learned about the prudential treatment of long-term financialproducts. These lessons need to be included in the various EU secondary laws to achieve consistency without forcinginappropriate uniformity on Europe’s diverse pension systems. The Commission has emphasised that it aims to protect futurepensioners and not to penalise national pension systems that function well. In its Green Paper on the long-term financingof the European economy the Commission has also highlighted the important role all pension providers play in providinglong-term financing for the wider economy, for example by investing their assets in infrastructure projects.

Possible Impacts

Savings rates and savings returns have been aggravated by the financial and economic crisis. Pay-as-you-go (PAYG) – thatis, only part-funded – pension schemes face falling employment and thus lower contributions, and are increasingly regardedas unsustainable because the burden of their long-term funding falls on future taxpayers. At the same time, fully fundedschemes are affected by falling asset values, low interest rates and consequently reduced returns. All these factors raisesignificant challenges for the future retirement provision of European citizens.

In most Central and Eastern European countries mandatory, sustainable fully funded pillar II pension schemes wereintroduced in the late twentieth century, but these are under threat, as evidenced both in Hungary, where mandatorypension funds were dismantled in 2011, and more recently in Poland, where a government review of pension legislationincluding partial takeover of the portfolios had serious consequences for funded pillar II pension funds. These developmentsare more symptomatic of short-term budgetary pressures than of well thought-out pension strategies, and risk spilling overto other countries in the region.

For all these reasons it has become an urgent necessity to adapt pension systems throughout Europe to the changingdemographic and economic environment and to create effective pensions regimes for the future.

The current, limited internal market for pensions stems from historical, cultural and economic variances across memberstates, and pensions rules across Europe remain fragmented, in part due to the close interaction with member state’s socialsecurity and tax regimes, areas where the EU has only limited competences. The EU’s pension policies need to respect

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national social policy choices and the associated diversity, yet at the same time ensure that an increased role of private andcommercial providers is facilitated by sensitively designed regulation that enables markets to reinforce PAYG systems andwhich will also enable an internal market for pensions and pensions-related services to begin to emerge and flourish.

It is known from behavioural studies that supply creates its own demand. The creation of a Single Market for PersonalPension Product which facilitates long-term investments, portability and cross-border competition is obtainable and couldhelp mitigate the looming crises in the pension area. However product standardisation is a central component in thisinnovation process.

Product standardisation is crucial as it i) enables product comparability; ii) complements or substitutes information andeducation; iii) reduces the need for financial advice and embedded costs; and iv) creates the foundation for critical mass inproducts. These features are of high importance to many EU countries without pillar II pensions and which are in theembryonic phase of building diversified pension systems and starting with limited resources for pension saving.

It is important for member states to encourage market competition to help ensure adequate retirement provisions for asmany of their citizens as possible. The insurance sector is active in the provision of funded pensions in all three pillars andis a significant provider of long-term savings, pensions and annuity products.

Life insurers are also well placed to provide protection against the various risks that individuals face in preparing for, andduring, retirement. However, as long-term businesses investing in the future, insurers and other pension providers needregulatory stability and to be confident that any regulatory change is evidence- based and ultimately motivated by theinterests of pensioners. At the same time, through the long-term investing of their assets, insurers and pension providerssupport economic growth and safeguard the future competitiveness of the European economy.

EFR Recommendations

• There need to be a fair competition within Europe’s pension sector and a greater awareness among EU citizenstowards their retirement arrangements. Europe’s citizens should save more within the multi-pillar pension systems,with an increasing focus on funded pensions. Private sector providers and their customers need clear and stable rulesand fair and effective competition. Regulation should not be at the detriment of national pension systems whileenabling cross-border or pan-European solutions. Transparency is needed to make Europe’s pension diversity moremanageable.

• The European commission should identify the various categories of funded pension schemes, products andproviders, and to determine where prudential regulation might create uneven playing fields in certainmarkets across the EU. In some countries where occupational pensions are governed by insurance directives,competition issues among different providers may arise as Solvency II comes into effect for insurers, while IORPs(Institutions for Occupational Retirement Provision) remain subject to the current IORP solvency rules. It isimportant to determine where this will occur and where different types of providers will compete directly forthe same business. EIOPA has already announced it will place stronger emphasis on occupational pensions and,in addition, hopes to create a Europe-wide approach to personal pensions. In this regard the review of the IORPdirective initiated by the Commission should be maintained. Member states have just agreed upon a compromisewhich would be subject to a trilogue negotation with the European Parliament and the Council. This is a positivestep forward making it very untimely the removal of the Commission proposal.

• European pension reform should respect national diversity of social policy and taxation, ensure acompetitive internal market and take into account the substantial changes that have already taken place.Demographic changes in Europe mean that private pensions are needed to supplement public ones. The industryneeds stability to help deliver this. Effective interaction between the various dimensions is key to a holisticsolution. Responsibility for pensions is neither a purely national issue nor a purely EU issue, it is shared. Europeneeds a “Pension Partnership” between member states and the EU institutions. It may also be useful for theEuropean Commission to review the effectiveness of its new integrated approach to pension reform, announcedin its Green Paper of 2010.

Supporting the key role of banks in society

9. BANK STRUCTURAL REFORM

Background

A number of countries are implementing structural reforms with the aim of strengthening the stability of their bankingsectors and tackling the “too-big-to-fail” issue, including the UK, France, Germany, Belgium and the US.

In Europe, the European Commission published in January 2014 its own proposal for regulation on structural reforms,building on the October 2012 “Liikanen Report” of the High-level Expert Group (HLEG), as well as national legislation. TheCommission said its proposed new rules are mainly aimed at addressing the biggest and most complex banks. The new ruleswould also give supervisors the power to require those banks to separate certain activities from their deposit-taking businessif necessary.

In brief, the main features of the European Commission proposal are:

• The new rules would apply only to a subset of EU banks, based on size of bank assets and trading activities.

• A ban on proprietary trading in financial instruments.

• Prohibition from acquiring or retaining shares of hedge funds or of entities that engage in proprietary trading.

• Granting supervisors the power and, in certain instances, the obligation to require the transfer of other trading activities(such as market-making, investments in and acting as a sponsor for high-quality securitisation, and trading in certainderivatives) to separate legal trading entities within the group.

• Providing rules on the economic, legal, governance, and operational links between the separated trading entity and therest of the banking group.

Possible Impacts

The separation of trading activities would result in higher funding costs for European banks (among other things the tradingentity would most likely receive a much lower credit rating) and loss of economies of scale, resulting in higher operationalcosts that would result in higher credit costs and reduced market liquidity.

It would also introduce more restrictive obligations compared to the current legislative framework in the United States, withthe risk of a dangerous competitive disadvantage for European banks – mostly retail and commercial ones. In addition, manyEuropean banks do not have high enough volumes of activity to justify the creation of a viable separate trading entity ableto finance itself by accessing the capital market. Many banks would therefore be forced to resign from these tradingactivities and hand the business to banks with a higher focus on investment banking. Concentrating this business in fewplayers might be detrimental to financial stability.

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The proposed separation would also have a detrimental impact on banks’ ability to perform their role as a provider offunding (see recommendations below). The separation could therefore be highly harmful to the European economy andmight result in increased dependency of the European corporate sector on foreign banks, increased financial instability, anddecreased profitability (with a consequent decline in tax revenues for EU member states). Indeed, the proposed scenario thataffects the activities related to market-making could entail unintended consequences on the financial sector and on theeconomy as a whole.

As the European Central Bank (ECB) pointed out in its opinion on the proposal, market-making is essential for financialstability and negative consequences for market-making activities should be avoided. Finally, not recognising the economicvalue of market making could be an obstacle to the development of one of the main priorities of the new Commission, aCapital Markets Union.

These activities are fundamental for the proper functioning of the financial markets and fulfil two essential functions: (i)the provision of liquidity to all financial instruments in the secondary market; and (ii) the supply of risk management toolsto end-users.

Customers, likewise, would be negatively impacted. Small and medium enterprises could be faced with a much more limitedaccess to markets and a reduced range of services. Retail customers could be affected by lower returns on deposits, and morerestricted access to bank services.

The HLEG rightly concluded that there is no confirmed link between bank failures and the structure or business model ofbanks. Examples of bank failures, such as Lehman Brothers and Northern Rock show the range of banks that might posesystemic consequences. The report also appreciates the recognition that prudent universal banks “weathered the crisis well”,that universal banks are “valuable to customers” and that the diversity of European banks is a strength, both in terms of riskand customer offering.

There is also a danger that the activities of the deposit-taking bank being too narrowly defined, which would restrict theprovision of treasury management and risk management services to a narrower range of non-financial customers.

The prohibition on owning shares in hedge funds or entities engaged in proprietary trading in financial instruments doesnot apply to the ownership of unleveraged and close-ended hedge funds; this exemption should be extended to cover theownership of any collective investment vehicle which is already subject to the rigorous regulatory standards imposed by theAlternative Investment Funds Managers Directive (AIFMD). The objective of the AIFMD was precisely to create a frameworkfor the supervision and prudential oversight of alternative investment fund managers in the EU to increase theirtransparency towards investors and supervisors, allowing them to monitor and respond to risks to the stability of thefinancial system that could be caused or amplified by their activity. Investing in hedge funds regulated under the AIFMDshould therefore not be considered as a risky activity.

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EFR Recommendations

• Any bank structure reform rules need to differentiate clearly between proprietary trading and market-making, as the latter has many benefits for all market participants. It is essential that market-makingactivities and more generally clients’ related activities stay in the core entity as separation would hurtcapital markets activities and make the development of Capital Markets Union impossible. Through theircapital markets activities, banks offer a wide range of services and products that help their corporate customersmanage many types of financial risks such as credit risk, market risk, interest rate risk and currency risk. Market-making in financial instruments is an essential economic function which is directly linked to these clientactivities.

• It is imperative to preserve the universal bank business model which ensures greater resilience throughdiversified activities and geographical markets. The report states that prudent universal banks “weathered thecrisis well”, that universal banks are “valuable to customers” and that the diversity of European banks is astrength, both in terms of risk and customer offering. In light of these findings, it is surprising that the EuropeanCommission and the HLEG report recommend the separation of trading activities, as the consequences would bedetrimental to the financing of the EU economy. Indeed, this recommendation calls into question two majorissues in this respect: first, banks’ ability to serve customers via capital-markets activities and second their abilityto provide liquidity to issuers and investors.

• An in-depth impact assessment should be undertaken to determine the economic impact and unintendedconsequences of bank structure reform. Should bank structure reform be implemented, then European bankswould be strongly disadvantaged compared with non-EU banks. Addressing systemic risk is about ensuring thatbanks perform operations that are useful to the economy, properly manage risks and can be resolved withoutrecourse to taxpayer bailouts. The many legislative initiatives currently being undertaken, notably the frameworkfor the recovery and resolution of credit institutions and investment firms, already address many of the sameconcerns identified by the European Commission and the HLEG. It would be preferable that they are implemented,embedded and assessed before embarking on further reform. Policymakers could fruitfully consider how tomitigate the build-up of systemic risk by, for example, looking more closely at macro-prudential policy measuresand their coordination across the Single Market. In any case, the proposed regulations should be subject to astringent assessment of their impact both on economic growth and financial stability.

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10. BANKING SUPERVISION

Background

Since September 2012, the European Union has been working towards creating an integrated banking union that bothrestores confidence in the supervision of all banks in the euro area and breaks the link between sovereigns and their banks.The union consists of four elements: harmonised regulation; a common supervision of the banking system; a commonresolution mechanism for troubled banks (including a fiscal backstop to be used as a last resort measure); and, in the longerterm, a common deposit guarantee scheme to protect depositors.

The first step towards the banking union is the Single Supervisory Mechanism (SSM), a single centralised mechanism for thesupervision of banks. Having entered into force in November 2013, it confers upon the European Central Bank (ECB) theultimate responsibility for financial supervision of credit institutions in the euro area.

The SSM became fully operational in November 2014, when the ECB assumed the direct supervision of all larger creditinstitutions.

National supervisors remain responsible for the direct supervision of lenders considered to be less significant creditinstitutions, but the ECB is responsible for overseeing the overall functioning of the system, and can also assume the directsupervision of any institution posing a threat to financial stability. The power to require additional capital buffers to addresssystemic risks specific to a country and countercyclical buffers will be shared between the SSM and national competentauthorities, with the latter having the power to exercise it without the ECB having a final say on its legitimacy.

EU countries outside the euro area can also participate in the mechanism on a voluntary basis, by signing an agreement withthe ECB. In this new institutional context, the European Banking Authority (EBA) will retain its role of developing standardsand ensuring consistency of the supervisory practices across the banking union.

Prior to the implementation of the SSM, the ECB undertook a comprehensive assessment of the significant credit institutionsof the eurozone. This assessment was composed of three elements: a risk assessment, which identified broad risk factors,including funding and liquidity risks; an Asset Quality Review (AQR), which used calculation, qualification and valuationchecks of a broad risk-based nature, with central quality assurance according to a common methodology; and a stress test,jointly performed in close cooperation with the EBA, which applied the results of the AQR to a baseline and an adversemacroeconomic scenarios.

The comprehensive assessment was a rigorous and major milestone ahead of the implementation of the SSM that wasundertaken with high standards of transparency, consistency and equal treatment among the largest banks in Europe.The assessment found a capital shortfall of EUR 25 billion at 25 banks. Twelve of the 25 banks had already covered theircapital shortfall by increasing their capital by EUR 15 billion in 2014. Banks with shortfalls presented to the ECB capitalplans within two weeks of the announcement of the results. The banks where given up to nine months to cover thecapital shortfall by private means before triggering the procedures foreseen in the Bank Recovery and ResolutionDirective (BRRD). If public funds were to be used at any point of the process, they would be conditional on final approvalby the European Commission under State Aid rules, including the presentation of a restructuring plan and burden-sharing, thus ensuring a level playing field.

Along with the establishment of the SSM, the EBA regulation was partially amended by envisaging a new voting-system,whereby a double-majority is necessary for the approval of several types of decisions, to ensure they are backed by a majorityof both SSM and non-SSM countries.

Possible Impacts

As the first step towards banking union, the SSM is of key importance in achieving sounder underpinnings for the euro. Oneof the main goals of the SSM is to dispel any remaining doubts about the health of European banks and to ease the “doomloop” between sovereigns and banks, introducing an EU-level supervisor that will eliminate any national bias, will harmonisesupervisory practices within the euro area, and will also promote a homogeneous implementation of the single rulebook. As

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a consequence, market fragmentation and the divergence in funding costs for governments and Small and Medium-SizedEnterprises (SMEs) within the euro area will be minimised.

The finalisation of a Single Rulebook by the EBA – ensuring a more robust and uniform regulatory and supervisoryframework throughout the EU, not just within the banking union, and preventing a downward spiral of competitiverelaxation of prudential rules or the setting of stricter requirements not justified by the preservation of financial stability inthe EU – is of paramount importance. Excessive heterogeneity of the regulatory environment within the banking unionwould force the ECB as the Single Supervisor to apply different rules for each member state. In this regard, SSM toprepresentatives have already expressed serious concerns on the risk that national options and discretions represent from alevel playing field perspective, as well as on the need to address their implications for the quality and composition ofbanking capital. Besides, the ECB will now carry out the supervisory functions of the home and host authority for all memberstates in the banking union, simplifying the functioning of cross-border groups and Colleges of Supervisors, reducingcoordination problems when applying prudential requirements.

On the other hand, for cross-border banks with activities inside and outside member states participating in the SSM,previous home/host supervisory coordination procedures will still apply. As appropriate, the EBA should act as mediatorbetween home and host supervisors and changes to the EBA’s governance should not impede this essential role. It is essentialto ensure no fragmentation of the wider single market as a result of the banking union.

It can be noted, however, that the EBA’s governance remains unwieldy and in need of reform to make it more independentfrom the European Commission and from national authorities. The new voting system may complicate the exercise of theEBA’s mediation role, making it less likely that it will act at its own initiative to start an infringement proceeding against anational competent authority.

EFR Recommendations

• The SSM should carefully balance the new central responsibility of the ECB with the need to take advantageof the local expertise that national authorities have built up over the years. All elements of the banking unionmust be made compatible with the rest of the EU single market, which the EBA will monitor. While keysupervisory powers will be entrusted to the SSM, in certain circumstances national authorities will still be ableto require banks to hold additional capital buffers. The ECB should take steps to ensure that national and EUinterests are balanced.

• The EFR supports the ECB’s intention to review the national options and discretions in the EU singlerulebook. The finalisation of the single rulebook by the EBA and its role as a mediator between home andhost supervisors are essential for the single market. National options and unjustified discretions shouldgradually be removed, respecting the agreed phased-in timeline, to prevent a risk of fragmentation in Europeanprudential supervision along the lines of the different national legislations. Particular consideration should begiven to ensure the competitiveness of European banks in the international arena, to grant equal treatment ofall EU institutions, and to avoid regulatory arbitrage. Both the finalisation and role of the EBA should be ensuredand encouraged, to prevent any risk of the banking union giving place to financial fragmentation within theEuropean Union as a whole. The European Commission should follow up on its assessment and consider in thelong term a revision of the EBA’s governance and voting system, to further improve the capacity of the Boardof Supervisors to take decisions in the interest of the EU as a whole.

• The European Commission should follow up on its assessment and consider in the long term a revision ofthe governance and voting system of the EBA, to further improve the capacity of its Board of Supervisorsto take decisions in the interest of the EU as a whole and ensure the effectiveness of its role as mediatorbetween home and host.

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11. BANKING RESOLUTION

Background

Beyond the Single Supervisory Mechanism (SSM), the other main element of banking union is the development of a resolutionframework, the Single Resolution Mechanism (SRM) to address the failure of a bank within the SSM. The SRM strongly relies onthe EU single resolution rulebook set up by the Bank Recovery and Resolution Directive (BRRD) and the Deposit GuaranteeScheme Directive (DGSD), which are aimed at providing authorities in all EU member states with the means to tackle bank crisespre-emptively, while also providing the tools and powers to wind down banks in a way that safeguards financial stability acrossthe region, eliminates moral hazard and removes taxpayers’ exposure to losses in insolvency.

The SRM was published in July 2014 and entered into force in January 2015. The SRM applies to all banks in the euro areaand other member states that choose to participate. The SRM comprises:

• A Single Resolution Board (SRB), which is the EU authority that prepares for and carries out the resolution of a failingbank, and

• The Single Resolution Fund (SRF), which ensures that medium-term funding support is available while a credit institutionis being restructured.

The division of powers of the SRB and national resolution authorities broadly follows the division of supervisory powersbetween the European Central Bank (ECB) and national supervisors in the context of the SSM. The SRB managementstructure provides for a plenary session and an executive session. In its plenary session, in which all members participate, theBoard decides upon matters of general importance. In its executive session, comprising a Chair, four full-time members ofthe SRB and the representatives from those Member States in which a troubled bank is located, the Board will in particularprepare, assess and approve resolution plans, determine the minimum requirement for own funds, and decide on the use ofthe SRM's financial resources in individual resolution cases.

In order to comply with the Meroni doctrine, the discretionary parts of a decision must be validated by the EuropeanCommission, by non-objection within 24 hours. Where the Commission considers that (a) the proposed resolution scheme isnot in the public interest and should be objected; (b) the amount of the Fund should be materially modified, the Councilmust also endorse the proposal.

The SRF has a target level of EUR 55 billion and can borrow from the markets if decided by the Board. It will be formallyestablished in January 2016 and will reach the target level over eight years. During this eight-year transition period, theFund will comprise national compartments, which will be progressively mutualised, starting with 40% of these resources inthe first year. The SRF and the decision-making on its use is regulated by the SRM Regulation, while the transfer ofcontributions raised nationally and the mutualisation of the national compartments is set out in an Inter-GovernmentalAgreement signed by 26 member states.

On the other hand, a fully operational SSM was a condition to allow the European Stabilisation Mechanism (ESM) torecapitalise banks directly. Following the decision on 8 December 2014 by the ESM Board of Governors, the DirectRecapitalisation Instrument (DRI) has been added to the ESM’s financial assistance instruments. The ESM DRI, which will hasa capacity of EUR 60 billion, may be activated in case a bank fails to attract sufficient capital from private sources and ifthe ESM member concerned is unable to recapitalise without endangering its own solvency. The following burden sharingscheme will determine the contributions of the requesting ESM Member and the ESM:

• If after applying the bail-in instrument the credit institution had insufficient equity to reach the legal minimum CommonEquity Tier 1 of 4.5%, the requesting ESM Member will be required to make a capital injection to reach this level.

• Only once the credit institution meets this capital ratio, the requesting ESM Member will be obliged to make a capitalcontribution alongside the ESM. This contribution will be equivalent to 20% of the total amount of public contributionin the first two years following the DRI’s entry into force. Afterwards, the ESM Member’s contribution will amount to10% of the total public contribution.

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Possible Impacts

Banking union should be seen as a key element in helping reduce the current inter-dependency between sovereigns andnational banking systems, and in restoring confidence and growth in the euro area and the Single Market as a whole.

The SRM aims at alleviating contentious home-host issues, minimising the systemic impact and cost of bank failures, andensuring more efficient, effective and less-costly resolution. It will also ensure more consistent decision-making with respectto cross-border groups.

On the other hand, the establishment of an SRF for banks could lead to a duplication of contributions to resolution fundsat the national and European level. The SRM allows for raising ex-post contributions from banks which could have asignificant economic impact. As in the BRRD, bail-in should be the primary means for absorbing losses with resolution fundsonly used in limited circumstances.

What makes resolution authorities in addition credible is the knowledge that, when private sector solutions do not suffice,they can draw on temporary public bridge financing, although as a last resort. The provision of such an instrument – to beused only after applying bail-in and private-funded sources of resolution funding – would demonstrate the strongcommitment of Member States and European institutions to equip the SRM with all the resources needed to cope withpossible new crises.

More specifically the European Financial Services Round Table (EFR) supports:

• Timely and uniform implementation of the new BRRD toolkit, either via national transposition of the BRRD or viathe SRM;

• The establishment of the SRB, as it will ensure a uniform approach to the resolution rules and an integrated decision-making structure aligning resolution with supervision under the SSM. Resolution action at banking union level willensure that failing banks are resolved with minimal cross-border spill overs;

• The simplification of decision making in the transition period, without so many players being involved in what needs tobe an expeditious process;

• The drawing up by national resolution authorities of resolution plans in 2015, a competence that within the bankingunion will be assigned to the SRB in 2016. The EFR strongly hopes for a close cooperation between the SRB and nationalauthorities over the course of 2015, with the view to agree on group resolution plans;

• The creation of a new Single Rulebook on Bank Resolution which will mean that a bank’s own shareholders andcreditors will bear the primary responsibility for losses and recapitalisation. This internalises costs to the responsiblebank, and avoids the moral hazard issues of externalising these costs to resolution funds or governments. This is acritical step forward.

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EFR Recommendations

• Establish the Single Resolution Board (SRB) to ensure a uniform approach to the resolution rules and adecision- making structure that is aligned with the SSM. The key from a market perspective is that decisionswithin the SRM can be taken quickly, if necessary in a weekend.

• In banking union it needs to be clarified how supervision and resolution are carried out to provide andclarity to the market. The SRB should take advantage of its setting-up process to provide further details on howit will handle banking crisis in coordination with the ECB.

• While Bail-in and resolution funds remain the primary tools to orderly manage banking crisis and avoid thattaxpayer money is used first to cover the losses of banks in trouble, credible backstops are important toensure the credibility of the whole mechanism, even if they are never needed. This will help stabilize marketexpectations and reduce the fragmentation of banks’ funding costs across Member States. The EFR agrees withthe European Commission Blueprint and the Four Presidents reports that the euro area needs credible backstopsfor the credibility of the SRM and the banking union as a whole.

12. BANKING PRUDENTIAL

The substantial changes in capital and liquidity requirements required by Basel III and the Capital Requirements Directive(CRD IV) / Capital Requirements Regulation (CRR) are well known. While these changes have been at the forefront of recentregulatory responses to the financial crisis, the process of re-drawing the prudential regulatory framework does not end withtheir implementation. There are a number of new initiatives, planned or already initiated at the global level, which willrepresent additional sources of regulatory pressure over the next five years. These in turn will partially frame the EU’s futureregulatory priorities.

These global initiatives include the fundamental review of the trading book, planned changes to securitisation andoperational risk rules, the treatment of interest rate risk in the banking book and new large exposure rules. Moreover,additional potential changes arise from the debate over variability in risk-weighted assets and complexity in regulation andreducing excessive dependence on credit rating agencies’ assessments. In 2018, the EU will also have to integrate into theCRR the Basel rules on liquidity (the Net Stable Funding Ratio) and the new Basel Leverage Ratio standards. A legislativeproposal is expected in 2017 to incorporate these into the CRR. Further to these regulatory approaches, the banking unionand the Single Supervisory Mechanism (SSM), fully operational since November 2014, represent a major step forward in theharmonisation and optimisation of supervisory practices in the euro area.

In addition, in the response to the global financial crisis there was a growing consensus among global policymakers, as wellas economists and academics, that the prudential framework should include more of a macro-prudential perspective. Macro-prudential policy is essentially focused on the identification and mitigation of “systemic risk,” that may threaten the stabilityof the financial system and could damage the real economy. Macro-prudential tools may include capital-related, liquidity-related, and credit-related measures.

The European Systemic Risk Board (ESRB) was established in the end of 2010 as part of a wider reform aiming to improvemacro-prudential oversight in the EU. The ESRB contributed to the recent EU stress tests exercise through design of themacro-economic scenario and is currently examining macro-prudential impacts related to conduct risk, such as onprofitability, solvency and business model. In June 2014 the ESRB issued a Recommendation on setting countercyclical bufferlevels. It has also reviewed a recommendation aimed at creating a common framework for national macro-prudentialauthorities. Many European countries are currently establishing governance for macro-prudential oversight and developingpolicy tools applicable to both the banking and insurance sectors. In the US, the Financial Stability Oversight Committee(FSOC) was created with the objective of identifying risks and responding to threats to financial stability. Some countries,including Switzerland, Hong Kong and Singapore already have substantial experience in macro-prudential supervision, whilein the UK, new legislation has established an independent Financial Policy Committee (FPC) at the Bank of England (BOE)whose primary objective is to identify, monitor and take action to remove or reduce systemic risks with a view to protectingand enhancing the resilience of the UK financial system. The FPC has a secondary objective to support the economic policyof the UK Government.

There is also an increased focus on Systemically Important Financial Institutions (SIFIs), whose failure might trigger afinancial crisis. The Financial Stability Board (FSB) identified 28 global banks in 2012 as being “systemically important”(increased to 29 in November 2013 and to 30 in November 2014) and with insurance companies having followed in July2013 (and updated in November 2014, however reinsurance companies will be considered separately). A number of policymeasures apply to institutions designated as SIFIs, including recovery and resolution planning, enhanced group-widesupervision and higher loss absorbency requirements (in the form of capital buffer requirements.)

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In November 2014, the FSB published its proposals on Total Loss Absorbing Capacity (TLAC), aimed at ensuring that GlobalSystemically Important Banks (G-SIBs) have sufficient capacity to absorb losses, both before and during resolution, andenable resolution authorities to implement a resolution strategy that minimises any impact on financial stability whilesafeguarding the continuity of critical economic functions. G-SIBs will have a Pillar 1 requirement for 16-20% on aconsolidated, risk weighted basis (the precise figure to be agreed at the G20 summit in November 2015.) TLAC must also beat least twice the Basel Leverage Ratio – currently 6% but there is a clear expectation that the Basel minimum will beincreased. The TLAC requirement is calculated before any capital buffers. Additional Pillar 2 add-ons may be added to theminimum Pillar 1 external TLAC requirement. There is no separate requirement for gone-concern loss absorbency (ieexcluding capital) but at least 33% of the TLAC requirement in form of debt capital instruments and other TLAC-eligibleliabilities that are not regulatory capital. Debt capital instruments can count towards TLAC provided that they arecontractually, statutorily or structurally subordinated to excluded liabilities. However, senior debt within bank operatingentities is likely to be accepted to a limited extent only. Under the Bank Recovery and Resolution Directive (BRRD) seniorunsecured debt is largely recognised for MREL purposes provided that such liabilities can be bailed in. The limited recognitionof senior unsecured debt for TLAC purposes is not sufficiently reducing distortions in how the TLAC rules impact EUinstitutions differently from US and other institutions, due to different structural and funding models. European regulatorsshould work to ensure that EU rules and global standards converge on a consistent and effective approach.

Possible Impacts

The next wave of micro-prudential reforms is likely to further increase the amount of capital banks are required to hold,alongside further restrictions on funding and liquidity, reduced reliance on internal models for regulatory purposes and lessrisk sensitive regulatory treatments. The European Financial Services Round Table (EFR) is concerned about changes thatwould invalidate the rationale for banks to invest in improving internal risk weighting models. Moreover, given thesubstantial reforms already introduced, it is open to question whether the marginal benefits further measures may bring interms of financial stability are outweighed by their costs. If taken too far, these reforms could have unintendedconsequences – including, for instance, further restricting banks’ capacity to provide credit or encouraging banks to holdriskier assets.

Increased capital, liquidity and leverage requirements also reduce the capacity of bank balance sheets, not only limitingbanks’ traditional role in expanding the supply of credit but also in supporting liquidity in markets. As the EU looks to createa Capital Markets Union through expanding the role of markets in supplying credit to the economy, the role of banks asmarket makers, providing liquidity through their inventories of equities and bonds will be critical. Some fine tuning toprudential rules is likely to be necessary to ensure that this function can be carried out efficiently.

Macro-prudential supervision on the other hand aims to deliver greater financial stability through focusing on the financialsystem as a whole rather than on individual financial institutions (even if the exercise of macro-prudential policy mayinvolve the exercise of micro-prudential supervisory tools such as the counter-cyclical variation of capital requirements orloan to value ratios). Whilst it is clear that pre-crisis regulatory frameworks (in developed economies at least) failed to takea comprehensive view of the financial system as a whole, it is intended that the new macro-prudential frameworks that arecurrently being developed should act as a counter-cyclical force for stability, for instance by supporting the supply of bankcredit during a downturn. The ESRB should also continue to play a leading role in the oversight of macro-prudential policyacross the EU, ensuring its consistency of application and cross-border observance to prevent national ring-fencingmeasures. The ESRB’s governance, mandate and structure need to reflect this role across both SSM and non-SSM countries,working in close cooperation with the European Central Bank (ECB) and other central banks within Europe but with anindependent chair and greater visibility. The ESRB should also continue to play a leading role in the oversight ofmacroprudential policy across the EU, ensuring its consistency of application and cross-border observance to preventcircumvention that could lead to the build-up of risks and to prevent national ring-fencing measures.

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EFR Recommendations

• Policymakers should resist further substantial increases in capital, liquidity and other regulatoryrequirements for banks at a time when most EU economies are still experiencing weak growth andaddressing macro-economic imbalances. However, evolving international standards - such as TLAC or theLeverage Ratio – should be taken into account in order to ensure a level playing field for European firmsinternationally. It is therefore important, that the development of global standards takes sufficiently intoaccount the specificities of the EU’s banking sector and hereby avoiding level playing field issues and resultingimplementing problems within the EU. Any changes to individual prudential regulations need to be assessed inthe context of the prudential framework as a whole, and the major tightening of requirements that has alreadybeen achieved. They should also be viewed alongside additional capital and liquidity demands arising from otherparallel initiatives, including the FSB’s TLAC requirements, and tougher supervisory demands arising from stresstesting and Pillar II add-ons, such that there is a more coherent and overall proportionate set of regulatorycapital and liquidity demands placed on the industry. In order to remain true to the original policy intent, theFundamental Review of the Trading Book should not result in increased capital requirements overall. Moreover,the role of banks as liquidity providers needs to be borne in mind in the context of the Capital Markets Union,and the impact of prudential rules on their capacity to support market based finance in this regard.

• There are many regulatory changes occurring simultaneously and a prudent approach would be to allowreforms to take hold before layering on more regulations that may result in unintended consequences. Banksneed some degree of certainty with respect to regulatory requirements they are trying to solve for, to allow themto complete the process of adjusting business models and deliver the changes asked of them following the crisis.Consideration should also be given to the fact that excessive regulatory uncertainty may hinder decision-making. Consequently, the desirability of creating an environment with regulatory stability should not beundervalued.

• A right balance needs to be found between simplicity, risk-sensitivity and the comparability of risk-weighted assets. There are unintended consequences in shifting the pendulum too far in the direction ofsimplicity and in further restricting the use of internal models. A less risk sensitive framework creates adverseincentives to take on riskier exposures and greater opportunities to arbitrage rules. Less risky lending, such astrade finance and some Small and Medium-Sized Enterprises (SME) and retail, should not be penalised in theLeverage Ratio, for example, by its regulatory treatment compared with riskier lending. The Enhanced DisclosureTask Force report, now implemented by a number of banks, is a major step forward in building transparent, high-quality risk disclosures that enable investors to understand a bank’s business and risks and link these to capitalconsumption and financial performance.

Integrated markets, appropriate international standards

13. SHADOW BANKING

The shadow banking sector has been in the limelight in recent years as regulators attempt to put it under closer scrutiny.Taking a broad approach, the Financial Stability Board (FSB) defines the shadow banking system as “the system of creditintermediation that involves entities and activities (fully or partially) outside the regular banking system.” The EuropeanCommission, in its March 2012 Green Paper, defines shadow banking entities as entities operating outside the regularbanking system engaged in (i) accepting funding with deposit-like characteristics; (ii) performing maturity and/or liquiditytransformation; (iii) undergoing credit risk transfer; and, (iv) using direct or indirect financial leverage.

In August 2013, the FSB published its framework for addressing shadow banking risks in securities lending and repos whichset out proposals on enhancing transparency, regulation of securities financing and improvements to market structure. TheFSB accompanying consultation considered the appropriate size of mandatory haircuts for Securities Financing Transactions(SFTs). In the final framework released in October 2014, the FSB decided to raise the levels of numerical haircut floors basedon the quantitative impact study results, existing market and central bank haircuts, and data on historical price volatility ofdifferent asset classes. The FSB also proposed in a consultation applying the numerical haircut floors to transactions betweennon-bank institutions.

Regulators and supervisors are concerned that the shadow banking system can be used to arbitrage bank regulation andpose “bank like” risks to financial stability through long-term credit extension based on short-term funding and leverage.The FSB has worked to develop recommendations to deal with the concerns about the lack of oversight of the shadowbanking system and its interconnectedness with the regular banking system via five work streams: i) bank exposure toshadow banking; ii) regulation of money market funds (MMFs); iii) securitisation; iv) other shadow banking entities; and v)securities lending and repurchase agreements (repos).

In January 2014, the European Commission published a proposed regulation on reporting and transparency of SFTs issuedalongside the proposal for structural reform of the EU banking sector. The overall rationale is to prevent a shift of theactivities affected by the structural reform proposals to the shadow banking sector. The proposed regulation will apply toboth financial and non-financial counterparties to SFTs, including repurchase agreements. The SFT Regulation requires thatboth counterparties to a trade report the transaction to trade repositories. This places a disproportionate burden on smallercounterparties and adds complexity with few offsetting benefits. The lessons from the European Market InfrastructureRegulation (EMIR) reporting should be applied so that the emphasis is on data quality rather than quantity. In addition, theminimum conditions for rehypothecation envisaged by the European Commission imply some restrictions prior to theexecution of any transaction requiring the posting of collateral. It is of paramount importance that where legal title tocollateral is transferred in SFTs (either via title transfer collateral arrangement or a rehypothecation right being exercised)the new collateral owner has a right to reuse it without the imposition of any restriction. Moreover, it is important that anydiscussion on incorporating a framework of minimum haircuts takes account of international standards being developed inthis area. High minimum haircuts may actually encourage pro-cyclical fluctuations rather than reduce them, dis-incentivisethe use of SFTs and increase credit exposure amongst counterparties. With appropriate regulation, shadow banking(including SFTs) can be brought out of the shadows and transformed into a sustainable source of market based financingwhich can fund the economy and provide an alternative to reliance on bank lending, especially in Europe. Furthermore,managers of Undertakings for The Collective Investment of Transferable Securities (UCITS) and Alternative Investment Fundshave additional investor disclosure obligations.

In the EU, many shadow banking activities are already regulated by reforms implemented since the crisis: for example, bankinterconnections with the shadow banking system (Capital Requirements Directive II/III, and the implementation ofinternational accounting standards); insurance interconnections with the sector (Solvency II); alternative fund managers(the Alternative Investment Fund Managers Directive (AIFMD)); OTC derivatives (EMIR); securitisation arrangements; andcredit rating agencies. A proposed regulation on money market funds (MMFs) is currently under discussion in the EuropeanParliament and EU Council. Moreover, at the beginning of 2014, the EU released a proposal on reporting and transparencyof SFTs. In this vein, it is worth mentioning that despite banking entities make an extensive use of SFTs; they are not themain target of this proposal as their SFTs are limited by the Capital Requirements Regulation (CRR) requirements on capital,

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liquidity and disclosure. In addition to regulatory measures aimed at improving oversight and regulation of the shadowbanking system, private sector initiatives have played an important role. The Prime Collateralised Securities (PCS) initiativeco-founded by the European Financial Services Round Table (EFR) promotes high-quality securitisation assets.

Possible Impacts

Many shadow banking activities are an essential complement to traditional bank credit intermediation and, according to theFSB, “such intermediation, appropriately conducted, provides a valuable alternative to bank funding that supports realeconomic activity”. They can offer alternative sources of funding, enlarge the available spectrum of assets for investors andhelp to re-allocate risk within the financial system thereby securing financial stability and promoting efficient functioningof financial markets. Securitisation for example can help ensure a steady flow of credit, most importantly to companiesunable to access directly capital markets. Secured lending, through repos and securities lending, offers a safe alternativecash management option for companies, investors and central banks and also enables funding to be provided to a morediversified set of banks. Money market funds perform an important service bringing together the demand and supply ofshort-term funding. Constant Net Asset Value (NAV) MMF funds are an essential daily cash management tool for a range ofinvestors including asset managers, pension funds and companies.

Overall, shadow banking activities contribute to the biodiversity of the financial system, and expand funding sources in theeconomy. Competition is welcome but alternative sources of funding should be under similar scrutiny. Adequate regulationand oversight is helpful for avoiding new sources of vulnerabilities and protecting consumers.

EFR Recommendations

• The objective of further regulation should be clearly defined and aimed at proposing solutions to genuineproblems that have not already been addressed. As regulation of shadow banking needs to be global to beeffective, proposals should strive to ensure international consistency between the various recommendationsproposed by the FSB.

• Existing sources of data should be fully leveraged. Central data repositories such as the European Central Bank(ECB) collateral eligibility and loan level data initiative, or direct information feeds from identified shadow bankentities, already provide ready sources of data.

• Regulation should support the smooth functioning of money market funds, securitisation markets, and repoand securities lending. Any unintended consequences of proposed changes to prudential rules should beunderstood and mitigated. The proposed 3% capital buffer for constant NAV MMF funds in the draft EUregulation would threaten the viability of a majority of these funds and the need to manage short-term liquiditywould require an alternative such as bank deposits or direct investment in individual instruments. Liquidity gatesand redemption fees could serve as an alternative means to smooth the perceived risk of runs associated withconstant NAV funds. Draft EU rules on securities financing transactions and the Basel Committee’s revised NetStable Funding Ratio proposal should be examined carefully to ensure that any unintended impacts on marketliquidity, market making capacity or the ability of primary dealers to support issuance through the repo marketare fully understood and effectively mitigated. In the final FSB framework for haircuts for SFTs, which sets outthe qualitative standards for methodologies to calculate haircuts on collateral received, while the final backstopfloors for numerical haircuts seem broadly sensible, it would be preferable to have less prescriptive language toallow banks to risk manage towards an acceptable level of close-out risk. In addition, it is of paramountimportance that in the case of repurchase agreements no undue constraints on the collateral transfers, or onthe information that needs to be given to the counterparty granting the collateral, should be imposed.

14. MARKET INFRASTRUCTURE

Background

In 2009, G20 members agreed that a reform of the Over-the-Counter (OTC) derivatives market was necessary to improvetransparency, mitigate systemic risk and protect against market abuse. They agreed to implement reforms to:

• Require reporting of all OTC derivatives contracts to trade repositories;

• Clear certain OTC derivatives through central counterparties;

• Subject non-cleared OTC transactions to additional capital and margin requirements;

• Require standardised OTC derivatives contracts to be traded on exchanges or electronic platforms, where appropriate;

Significant progress has been made across Financial Stability Board (FSB) jurisdictions. Most progress has been made withreporting requirements with progress on clearing, margining and trading requirements varying across jurisdictions. Furtherwork is needed to ensure full implementation, consistent application and functioning cross-border rules. It is important toensure that effective incentives are in place to promote central clearing of OTC derivatives, in line with the policy objective,and that reforms such as leverage ratios are reviewed in this light.

Possible Impacts

Mandatory clearing has already started in the US and clearing is expected to start in the EU in summer 2015. The smoothimplementation of clearing mandates will be maximised where clearing determinations are internationally consistent as aresult of regulatory coordination and there is legal certainty around counterparty classification and application of the rules.

Major jurisdictions including the US, EU and Japan have formulated draft rules to implement the September 2013 BaselCommittee on Banking Supervision (BCBS) and International Organisation of Securities Commissions (IOSCO) standards onmargin requirements for non-centrally cleared derivatives. To maintain a level playing field and avoid regulatory divergence,substantial deviations from the internationally agreed standards should be avoided. Sufficient implementation time shouldalso be provided between the finalisation of the rules across jurisdictions and the phasing-in of the requirements.

Some trading requirements have already commenced in the US while in the EU, implementation will start after the entry intoforce of the Revision of the Markets in Financial Instruments Directive (MiFID II) / and MiFIR regulation in 2017. It is importantthat any liquidity fragmentations resulting from the misaligned timelines are minimised through regulatory cooperation.

In terms of delivering on the remaining challenges, the European Financial Services Round Table (EFR) shares the FSB’s viewthat the main risk to implementing these reforms is inconsistency, gaps and duplication between major jurisdictions. The EFRbacks the principle that jurisdictions should defer to each other’s requirements where they achieve similar outcomes. It alsosupports regulators’ efforts at promoting regulatory convergence through coordination in forums such as the FSB and theOTC Derivatives Regulators Group (ODRG).

Target 2 Securities (T2S), the European Central Bank (ECB) project to provide a single platform for securities settlement inthe euro area in central bank money, moves into a critical phase in 2015. The first transactions are due to be settled in June2015. The Central Securities Depositories (CSDs) Regulation (CSDR) provides the legal certainty on the outsourcingagreements of the CSDs towards T2S. However, the European Securities and Markets Authority (ESMA) is still due to delivera set of technical standards on the future settlement discipline and buy-inregime, which won’t take effect until Q4 2015.There will therefore be a lot of changes for both CSDs and market participants to contend with simultaneously, emergingfrom both CSDR and T2S. Three more migration waves under T2S will follow after June 2015 up to 2017. ESMA couldconsider a phase-in approach for the settlement discipline regime in order to avoid too many change projects for CSDs andmarket participants at the same time. Moreover, with the single platform for securities settlement that T2S provides, ESMAshould consider using the information available at the platform for a harmonised settlement discipline- and buy-in regime.

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EFR Recommendations

• Regulators must defer to each other’s rules where they achieve equivalent outcomes. This is vital to avoidfurther fragmentation of the global market and significant market disruption where Central Counterparties(CCP) rules are not mutually recognised and duplicative transaction-level requirements apply.

• Balanced legislation on recovery and resolution regime for Financial Market Infrastructures (FMIs) isrequired. The forthcoming EU legislative proposal on CCP recovery and resolution must strike an appropriatebalance on recovery and resolution requirements given the importance of CCP services for financial stability.Policymakers should ensure that incentives to promote central clearing are not undermined by prudentialregulation (such as the Leverage Ratio.)

• In order to avoid too many change projects for CSDs and market participants at the same time, ESMA couldconsider a phase-in approach for the settlement discipline regime and use the information available at theT2S platform.

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15. BENCHMARKS

Background

Proper regulation of financial benchmarks is of critical importance to the banking sector as the integrity of benchmarks iscrucial to the pricing of many financial instruments, such as interest rate swaps, and commercial and non-commercialcontracts, such as loans and mortgages, and risk management. Any risk of manipulation or compromising their robustnessand reliability may undermine market confidence, cause significant losses to investors and distort the real economy. Since2013, the International Organisation of Securities Commissions (IOSCO) has been in charge of creating an overarchingframework of Principles for Financial Benchmarks used in financial markets. The goal was to address conflicts of interest inthe Benchmark-setting process, as well as transparency and openness when considering issues related to transition.Consistent with this objective, the definition of Benchmark that has been adopted for the IOSCO Principles is very broad.

In 2014, the Financial Stability Board (FSB) undertook a review of major interest rate benchmarks because of concerns aboutthe reliability and robustness of benchmarks such as EURIBOR, LIBOR and TIBOR. It set out recommendations which draw onIOSCO’s work, among others. The recommendations relate to measures to strengthen existing benchmarks and otherpotential reference rates based on interbank markets, as well as developing alternative nearly risk-free reference rates. Lateron, the FSB published a final report on foreign exchange benchmarks which set out recommendations for benchmark reformin FX markets, further to the public consultation on the FSB's July 2014 interim report. According to the FSB, the report wascompleted independently of the various conduct investigations into allegations of manipulation of FX and the FSB did nothave access to the evidence being considered by the relevant authorities.

To help address the issues arising from the current market structure, the FSB proposed a number of recommendations forFX benchmark reform in five broad categories: (i) the calculation methodology of the WMR (WM/Reuters) benchmark rates,(ii) recommendations from an IOSCO review of the WMR fixes, (iii) the publication of reference rates by central banks, (iv)market infrastructure in relation to the execution of fix trades, and (v) the behaviour of market participants around the timeof the major FX benchmarks (primarily the WMR 4pm London fix).

In the EU, the European Commission concluded that its market abuse and criminal sanctions proposals alone will not improvethe way benchmarks are produced and used, and to this end it proposed in September 2013 a Regulation on indices used asbenchmarks in financial instruments and financial contracts. This Regulation aims to improve the functioning andgovernance of benchmarks and to ensure that benchmarks produced and used in the EU are robust, reliable representativeand fit for purpose and that they are not subject to manipulation.

Overall, not much progress was made on the compromise text in the subsequent negotiations in the Council of the EuropeanUnion, and as such the issues that could have severe unintended consequences remain. The critical benchmarks, including theirsupervisory regime, and the third-country (ie non-EU country) regime remain the most controversial parts of the proposal. Thereseems to be a growing agreement that equivalence is not the most realistic solution for third- country benchmarks and thatendorsement” would be a better option as part of a package of solutions, although this may not be enough on its own. Otherelements could be built into the text.

Possible Impacts

An EU Regulation on indices used as benchmarks in financial instruments and financial contracts will significantly affectthese indices and the way in which the benchmarks are set. Given that many benchmarks are truly international, rather thanmerely EU-based, there is a risk that unless regimes equivalent to the Regulation are enacted in other major countries, globalfinancial institutions may seek to carry out transactions outside the EU where they would be beyond the scope of theRegulation.

The EFR believes the proposed regime should be more appropriately calibrated to reflect the diversity of the range ofbenchmarks in existence to ensure that the requirements applied to different types of benchmarks are broadlyproportionate. For example, the proposal does not adequately distinguish between a public benchmark used by a wide rangeof users of differing sophistication and a bespoke benchmark used only by a small number of sophisticated users.

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Additionally, we are concerned by the impact of the following provisions:

• Critical benchmarks: the definition of critical benchmarks should be based on both quantitative and qualitativecriteria in order to include those benchmarks below the EUR 500 billion threshold that are nevertheless used toreference retail contracts across the EU.

• Authorisation vs. registration: more clarity is needed on the exact differences between the treatment of authorisedversus registered benchmarks to better understand the impact.

• Third-country regime: the new authorisation requirement will have a substantial impact across the industry and willprobably result in a reduction of available benchmarks for use in financial instruments and financial contracts. Thiscould, in return, lead to concentration risks if only a limited number of benchmarks is available. The EFR has significantconcerns with the requirement for equivalence in order for EU entities to use a benchmark produced by a third-countryadministrator. Equivalence can only be granted where the Commission deems the legal framework and supervisorypractice of the third-country equivalent to the requirements of the Regulation. The EFR believes such equivalence willtypically not be satisfied, in the short- to medium-term at least, as most jurisdictions do not have in place formalbenchmarks regulatory regimes. This would result in EU entities being unable to use third-country benchmarks overnight(no transitional period is proposed) which would (i) significantly narrow the range of benchmarks available to EU entities(and could be considered protectionist) and (ii) would result in significant market disruption (such as a material fall inliquidity for third-country benchmarks, fire-sales by EU entities of products referencing third-country benchmarks,undermining of EU entities' ability to hedge third-country FX risk). The EFR favours the endorsement procedure for third-country benchmarks over the lengthy and administratively burdensome equivalence procedure.

More clarity is also needed on the operation of the transitional periods to prevent significant market disruption if entitiesare forced to switch from new to existing benchmarks in a short timeframe. Also, no transitional periods are proposed forthird-country benchmarks resulting in an uneven playing field.

As far as supervision is concerned, where benchmarks are critical to more than one member state or involve contributorsand users in more than one member state, the European Securities and Markets Authority (ESMA), rather than the local,competent supervisor of the administrator, is best placed to assume supervisory oversight functions. ESMA’s role iscrucial to ensure that decisions on critical benchmarks take into account the EU general interest and the stability offinancial markets as a whole, avoiding fragmentation along national lines.

In the case of critical benchmarks with a cross-border dimension, it is important to ensure that the panel is large enough toensure both the representativeness and the continuity of the benchmark itself. For this reason, and given the urgencyrequired in the adoption of the related decisions, ESMA should be given the power to impose the mandatory contributionrequirement, regardless of any numerical threshold.

When entering in a financial contract with a consumer, the Proposal requires banks to verify that the benchmark suits theclient’s profile. In the event the bank considers that the benchmark is not suitable, it shall warn the consumer in writingwith reasons. In this context, it is worth to avoid unnecessary duplication taking into account that consumer protectionmeasures are already reflected in the Consumer Credit Directive and the Mortgage Credit Directive. In particular, banks arealready required to provide consumers with adequate information to compare and understand the characteristics of creditproducts preliminary to the conclusion of the credit agreement and to warn the consumer that possible fluctuations of thebenchmark could affect the amount payable by the consumer. Furthermore, the suitability assessment would beimpracticable in relation to long-term (up to 30 years) credit products such as those related to residential property. A furtherobstacle could arise in the event that – at the end of the assessment – no suitable benchmarks are available for a specificconsumer. As an alternative, a reasonable solution could be that to require banks to communicate the benchmark statementto their clients, in good time before the credit agreement is concluded.

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EFR Recommendations

• The new regulatory regime for benchmarks should be flexible and allow workable requirements to beapplied to indices where some safeguards already exist. Where benchmarks are critical to more than onemember state or involve contributors and users in more than one member state, ESMA is best placed toassume supervisory oversight functions. Where indices are used to compute the pay-off calculation forstructured products, investors in such products already benefit from significant investor protections such asRevision of the Markets in Financial Instruments Directive (MiFID), Market Abuse Directive, TransparencyDirective and Prospective Directive, meaning there is a far weaker case for additional regulation of such indices.Under the proposed regulation, transaction-based data are given priority in the definition of benchmarks.However in some cases, such as EURIBOR and the interbank market, estimates can be more appropriate becausethe interbank market experiences periods, even protracted, of poor liquidity and lack of transactions. Thereforeestimations data or committed quotes should be admitted, provided that they accurately and reliably representthe market or the economic reality that the benchmark is intended to measure.

• The proposed equivalence regime needs to be given further consideration. No jurisdiction outside the EU isregulating benchmarks in a similar fashion so the proposed equivalence regime is unworkable and hence anadequate grandfathering regime should be put in place until an equivalence decision is granted or aworkable recognition/endorsement regime should be implemented to avoid market disruption and financialinstability. It is important that envisaged requirements do not impede EU financial institutions' access to third-country benchmarks. The EFR supports an approach to require index administrators outside the EU to self-certifycompliance with IOSCO Principles to ESMA. It is also important to have a sufficient transitional period, andclarity as to what happens to existing contracts. In this context, requiring compliance with global IOSCOprinciples as a foundation for a third-country equivalence regime is highly appropriate.

• The definition of critical benchmarks should be based on both quantitative and qualitative criteria in orderto include those benchmarks below the EUR 500 billion threshold that are nevertheless used to referenceretail contracts across the EU. The criteria is insufficient and does not appropriately take into account the factthat there might be benchmarks which – although being under the threshold – are nevertheless of systemicimportance for several member states or the EU as a whole.

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16. TRANSACTION TAX

Background

In February 2013, the European Commission issued a legislative proposal for an EU Financial Transaction Tax (EU FTT) onsecurities and derivatives transactions in 11 participating member states. The EU FTT proposal is broad in scope and highlyextraterritorial in nature, embodying both the Residence Principle and Issuance Principle. Under the Residence Principle, thetax would apply if at least one party to the transaction were deemed “established” in the territory of a participating state;under the Issuance Principle, the tax would apply if the security had been issued in a participating state. Initially the taxwas supposed to have been introduced in January 2014 but it has been delayed because of the need for more negotiations.Several EU states have already adopted national FTTs, with France’s FTT having entered into force in August 2012 and Italy’sand Hungary’s in 2013. The UK and Switzerland have had their current stamp duties in place since the early 1970s.

There has been increasing opposition to the EU FTT from both inside and outside the FTT zone, with the result that therecould be a reduction in the scope of the tax, changes to the principles on which the tax is to be based, and changes to thetax collection mechanism. In May 2013, the UK launched a legal action against the EU FTT proposal with the European Courtof Justice (ECJ). The UK challenged the extraterritorial effects of the proposal, and the ECJ rejected the UK challenge onprocedural grounds. However, a substantive challenge may follow. In addition, the EU Council’s Legal Service issued a legalopinion in September 2013 finding one element of the Residence Principle of the EU FTT proposal unlawful. The EuropeanCommission produced in December 2013 a “non-paper”, putting forward arguments why it deems the Residence Principleto be compliant with European and international law.

At the May 2014 ECOFIN, the FTT participating member states declared their intention to work on a progressiveimplementation of the FTT, focusing on the taxation of shares and some derivatives, as a first step, to be implemented atthe latest on 1 January 2016. The declaration should not to be viewed as a reduction of scope of the tax, but rather as adecision to implement the tax gradually, starting from a first-step agreement by the end of 2014. The first step would be areduced scope compared to the original proposal, with a first EU directive focusing on shares and "some" derivatives butthen, under the umbrella of the enhanced cooperation, the EU directive on FTT could be amended or other directives couldfollow this first one in order to broaden the scope/application of the FTT. The two focus points in the negotiations at themoment are the definition of “equities and some derivatives” and the issuance versus residence principle. The 11 countriesseem close to reaching an agreement on the definitions of equities and equity-like instruments (this does not include thedefinition of derivatives yet). The implementation date of January 2016 is very ambitious and will depend on when thedirective enters into force (increasingly likely to be delayed further).

It should be noted that when proposing the FTT in September 2011, the Commission had two main objectives in mind:

• To ensure that the financial sector makes a fair and substantial contribution to public finances, and

• To discourage financial transactions which do not contribute to the efficiency of financial markets or of the realeconomy.

Furthermore, banks have changed their business models and substantially reduced (or even stopped) pure speculativetransactions.

Possible Impacts

The primary rationale of the EU FTT was to secure a “fair and substantial contribution” from financial institutions to coverthe costs of the recent crisis and limit undesirable market behaviour. However, the current proposal would have significantharmful effects on financial markets and economies. It would penalise directly financial instruments that are used tomanage business risks in the real economy and would therefore be detrimental to growth. The wide scope of the proposalwould lead to higher transaction costs and higher costs of capital and funding for all market participants, includinggovernments and therefore undermine efforts for a Capital Markets Union and for fostering long-term, or any, investment.Much of the cost of the tax would be passed on to end-users of financial services. Considering that the FTT is a gross tax,

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charged on each leg of the transaction, the impact would be substantial, in particular for investments by investment fundsand funded providers of pensions. Industry associations say that asset values would be significantly reduced by the tax. Astudy by Oliver Wyman estimates a one-off decline in asset values of EUR 425 billion to EUR 445 billion.

Most of the financial instruments and transactions in scope are used by banks and companies to hedge their risks and raisefunds. The EU FTT would therefore badly affect the market for short-term hedging instruments and increase costs forcompanies, which therefore might either reduce hedging, or opt for less business risk. The tax would substantially affectbank-funding capabilities, especially short-term money market financial instruments. Short-term repos would becomeexpensive and would largely disappear. Furthermore, as transactions with the European Central Bank (ECB) would be exempt,the tax would increase the role of the ECB. Handling the EU FTT will be operationally complex due to its envisaged widescope meaning there could be a high risk of involuntary non-compliance.

The EU FTT would significantly reduce market liquidity in financial instruments. In addition to increased spreads and highercapital and funding costs, it would also have negative consequences for the liquidity value of financial instruments and theextent to which they could be used for hedging purposes. The tax would increase funding costs on sovereign bond markets.The imposition of the tax on secondary trading would result in reduced market liquidity and, consequently, higher fundingcosts for governments. The imposition of the tax on repos would cause another challenge, as primary dealers and marketmakers in sovereign bonds rely in a large part on repo funding (primarily overnight), which would be rendered very expensiveby the FTT. As a result, some primary dealers may be forced to consider whether they are able to continue to act in thatcapacity. When an FTT was introduced in France and Italy trading volumes fell by as much as 30%, volatility increased andat the same time there was a reduction in market depth, resiliency, and price efficiency. Despite the fact that only 11 EUstates plan to introduce the EU FTT, non-participating EU states and non-EU countries will be affected due to theextraterritorial effects of the proposal. The tax would have a high compliance and operational impact, resulting in anincrease in costs for financial institutions and customers and savers in those countries. Furthermore, the introduction of sucha tax will imply a competitive disadvantage for those 11 countries vis-à-vis their EU peers and also the rest of the world.

EFR Recommendations

• The EFR urges the 11 participating member states and the European commission to cancel plans for an EUFinancial Transaction Tax.

• The tax would not achieve its intended goals and would have significant harmful effects on financialmarkets and economies, putting Europe at a competitive disadvantage. It is becoming evident that most ofthe associated costs will be borne by investors and passed on to retail investors (pensioners, savers) throughdecreased portfolio returns.

• Policymakers should consider that similar taxes in the UK, Sweden and Switzerland have led to capitaloutflows, reduced trading activities, less liquidity and created distortions in markets.

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17. TAXATION INFORMATION EXCHANGE

Background

The US’s Foreign Account Tax Compliance Act (FATCA) was a catalyst for the introduction of Automatic Exchange ofInformation (AEI) on tax globally. In 2009, the G20 committed to dealing with “non-cooperative jurisdictions” in three areas:(i) Anti-Money Laundering (AML), (ii) tax, (iii) prudential standards. On tax, the G20 mandated the OECD to develop a newsingle global standard for AEI on tax, which the OECD presented in February 2014 as the Common Reporting Standard (CRS).

The first edition of the CRS was released by the OECD in July 2014, together with the Model Competent AuthorityAgreement, the Commentary, and the CRS schema. The CRS draws extensively on the FATCA’s Inter-governmentalAgreements (IGAs). It obliges countries to obtain all financial information from their financial institutions and exchange thatinformation automatically with other countries, annually. Unlike FATCA, there are no minimum thresholds on individualaccounts, either new or pre-existing; but for entity accounts, there is a USD 250,000 threshold for both pre-existing andnew accounts. The information is expected to be exchanged on a reciprocal basis and subject to appropriate safeguardsincluding certain confidentiality requirements and the requirement that information may be used exclusively for the taxpurposes foreseen. At the Global Forum meeting in October 2014, all OECD and G20 countries as well as a majority offinancial centres endorsed the new OECD/G20 standard. 58 jurisdictions, terms "Early Adopters", committed to launch thefirst automatic exchanges in 2017 and 35 jurisdictions committed to start in 2018.

When the OECD revealed the global CRS, the EU signalled that it would align its revised EU Savings Tax Directive (STD) withthe new standard. In October 2014, political agreement was reached on amending directive 2011/16/EU on administrativecooperation in the field of direct taxation (DAC). The revised DAC reproduces the OECD standard at the EU level, with firstexchange of information expected to take place in 2017, in line with the Early Adopters' timeline. Austria was given an extratransitional year for implementation. The EU position on how its tax information exchange regime will apply to non-EUcountries is unclear as yet. This is because taxation is a matter of national competence for member states and some areopposed to giving the European Commission negotiating power in this area.

Possible Impacts

Financial institutions will have to ensure compliance with the CRS’s documentation, due diligence and reportingrequirements. They will also have to integrate their CRS and FATCA AEI (automatic exchange of information) systems andprocesses, to foster consistency and avoid duplication. The tax department will need to work closely with other functionssuch as AML and compliance to align processes for determining tax residency and other details. New policies, proceduresand forms will have to be created to capture all the necessary client data. IT systems will need to be updated and monitoringarrangements put in place to ensure that changes in customer circumstances and status are logged and stored.

EFR Recommendations

• Full convergence on one final information exchange model– including timing of implementation, and safetyof customer information transmitted – are of utmost importance. There should not be several differentstandards on information exchange as this would unnecessarily increase implementation costs.

• More clarity is needed on how the EU envisages phasing out the EU STD and replacing it with the globalCRS (or the CRS as embedded in the DAC). The EFR is also concerned about the limited progress made bythe CRS jurisdictions on issuing the detailed implementation guidelines. These guidelines are crucial if firmsare to meet the ambitious timetable, as reporting is due to start in 2017 (2018 for Austria.) If the guidance isnot issued by Q1 2015, this timetable may not be met. It is also unclear how the Competent AuthorityAgreements will be put in place between the EU and non-EU countries.

• More detail is needed on the process that will be used to match and prioritise countries with one anotherunder the CRS to facilitate the automatic exchange of information exchange.

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18. ACCOUNTING

Background

Financial statements aim to present a true and fair picture of a company’s performance and net assets to management,shareholders, lenders, regulators and others. Transparency, consistency, and comparability of accounting information acrosscountries and industries allow providers of capital and credit to make informed decisions on the allocation of funds.Robustness of performance reporting aligned with the specificities of an insurer’s business model provides management witha sound basis for performance reporting.

For well over a decade, international accounting standard-setters have been working on establishing a single set ofaccounting standards that can be used internationally, with a focus in particular on efforts to reduce the differencesbetween International Financial Reporting Standards (IFRS), which are set by the International Accounting StandardsBoard (IASB), and the US Generally Accepted Accounting Principles (US GAAP), set by the Financial AccountingStandards Board (FASB) in the US.

IFRS originated in Europe, was adopted in 2005 and has since become a requirement in many countries around the world.While the US Securities and Exchange Commission (SEC) has said it intends to move from US GAAP to IFRS, progress hasbeen slow and very much uncertain. In July 2012 the SEC issued a report on IFRS and US GAAP and gave no clear indicationon how convergence would occur. Whilst recent political dialogue continues to reiterate the commitment towardsconvergence, increasingly the focus of FASB is on improving US GAAP and collaboration and co-operation with IASB andother national standard setters. The SEC is also looking to consider the optional use of IFRS by domestic companies in theUS. In an insurance context convergence now seems unlikely, IASB is now progressing their project separately whilst FASBis primarily focussing on limited improvements to the existing US GAAP standards.

The US should be encouraged to continue making progress. Negotiations between the EU and US on a Transatlantic Tradeand Investment Partnership (TTIP) agreement might provide a good opportunity to align US and international accountingstandards. However, convergence must not be detrimental to the substance of the standards.

Transparent and consistent financial accounting information is vital for capital markets to function effectively. Soundreporting performance is critical for well-advised management decisions. The IASB has been developing a new commonvaluation framework for insurance contracts. It has also published IFRS 9, a new accounting standard for assets and otherfinancial instruments, which make up the majority of insurers’ investments. The key thrust of these proposals is to movetowards an economic valuation of both assets and liabilities, marking assets to market prices and measuring liabilities usinga discounted cash flow-based approach.

The European Financial Services Round Table (EFR) welcomed the Maystadt report (September 2013) and therecommendations for enhancing the EU’s role in promoting high quality accounting standards. We welcome theimplementation through the recent transformation of the European Financial Reporting Advisory Group (EFRAG) structureand objectives so that the public policy voice is embedded in the decision-making process. Accounting standards shouldprovide a fair view of business models and be designed not only for short-term investors but also long-term investors. Long-term financing investors need to have an adequate measurement of the value of their investment.

In June 2013, a revised exposure draft (ED) on insurance contracts (IFRS 4 phase 2), on the liability side, was issued by theIASB, which has indicated that a final standard will be issued later in 2015. The expected effective date is uncertain giventhe deliberations.

This new common valuation framework for insurance liabilities – IFRS 4 phase 2 – is based on current valuation. It representsa fundamental change in the measurement of insurance contracts and reporting of performance compared to currentpractices under IFRS 4. In particular, the IASB’s proposed standard does not appropriately address current value, its resultingneed to handle profit developments and short-term market fluctuations. The short-term market fluctuations can be verylarge even though not necessarily relevant in view of the long-term nature of the business and leads to less meaningfulfinancial reporting for investors; and most importantly they would introduce incentives for insurers to focus on the short-term reporting performance aspects.

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European insurers are concerned that the 2013 exposure draft and current re-deliberations do not provide an appropriatebasis to explain the performance of insurance business to investors and do not adequately reflect the nature of participatingcontracts. Participating contracts represent a significant portion of the products written by the global insurance industryand are a core part of long term insurance business. It is critical that the final accounting model reflects the substance ofthe contracts in the liability measurement and reporting of performance. Without this, the standard will not provide anappropriate basis for reporting the performance of insurers.

Moreover, the IASB should consider the interactions with IFRS 9 (on the asset side) to appropriately reflect the insurancesector’s asset-liability management and ensure consistency between the valuation of assets and liabilities.

Possible Impacts

A single set of high quality accounting standards would make it much easier to compare accounts of companies across theworld, thereby improving transparency for investors, regulators, consumers and other interested parties. Furthermore, itwould create a level playing field and help increase trade and investment between countries. If the US converged to IFRS,or at least allowed companies to use IFRS, it would significantly reduce costs for companies active in the US

The insurance sector believes that as international accounting standards are developed they should appropriately reflect thenature of long-term product and participating contracts, and provide a measure of results relevant to the operatingperformance of the insurers. It is important that standards on financial instruments are aligned with standards on insurancecontracts. Non-alignment and inconsistency of accounting treatment between assets and liabilities would lead to unjustifiedvolatility and mismatches in performance reporting.

The IASB’s standard on Financial Instruments Classification and Measurement introduces much more measurement at fairvalue and more accounting mismatches for insurance companies than in other industries, including banks. As currentlydrafted, the Insurance ED and its interaction with the proposed IFRS 9 standard is inappropriate as it will not provide asuitable basis for explaining insurers’ business performance to investors.

EFR Recommendations

• The EU should utilise the new European Financial Reporting Advisory group structure so that private sectorand national stakeholder interests are fully taken into account in a transparent decision-making processthat is also aligned to the objective of global convergence.

• IFRS accounting rules require stronger political and macroeconomic framing. They should also recognise thediversity of business models, in particular for insurance companies with their long-term perspective and theassets they hold to back their liabilities. IFRS 9 for assets and IFRS 4 phase 2 for liabilities may create artificialshort-term volatility, thus impacting long-term investment. The IFRS 4 phase 2 standards need to be amendedto take into account the insurers’ long-term business model. Until then, the Commission should hold back onIFRS 9 adoption.

• Accounting authorities should be encouraged, without being detrimental to European business, to continueto try to converge the international and US accounting systems and to ensure that joint efforts to makestandards more compatible are of high quality, workable and are able to reflect all types of business models.The TTIP may offer fresh impetus to address some of the remaining obstacles. The SEC could consider theoptional use of IFRS by US companies, and provide a clear schedule for the gradual adoption of IFRS.

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ANNEX I: ABBREVIATIONS

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AEI Automatic Exchange of Information

AIFMD Alternative Investment Fund Managers Directive

AML Anti-Money Laundering

AQR Asset Quality Review

ASEAN The Association of Southeast Asian Nations

BCBS Basel Committee on Banking Supervision

BCR Basic Capital Requirement

BOE Bank of England

BRRD Bank Recovery and Resolution Directive

CCP Central Counterparties

COMFRAME Common Framework for the Supervision of Internationally Active Insurance Groups

CRD IV Capital Requirements Directive IV

CRR Capital Requirements Regulation

CRS Common Reporting Standard

CSD Central Securities Depositories

CSDR Central Securities Depository Regulation

DAC Directive on Administrative Cooperation

DGSD Deposit Guarantee Scheme Directive

DRI Direct Recapitalisation Instrument

DSM Digital Single Market

EBA European Banking Authority

EC European Commission

ECB European Central Bank

ECJ European Court of Justice

ECON Economic and Monetary Affairs Committee

ED Exposure Draft on Insurance Contracts

EFR European Financial Services Round Table

EFRAG European Financial Reporting Advisory Group

EIF European Investment Fund

EIOPA European Insurance and Occupational Pensions Authority

EMIR European Markets Infrastructure Regulation

EP European Parliament

ESM European Stability Mechanism

ESMA European Securities and Markets Authority

ESRB European Systemic Risk Board

EU European Union

EU FTT European Union Financial Transaction Tax

FASB Financial Accounting Standards Board

FATCA Foreign Account Tax Compliance Act

FMI Financial Market Infrastructures

FPC Financial Policy Committee

FSB Financial Stability Board

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FSOC Financial Stability Oversight Committee

FTT Financial Transaction Tax

G20 Group of 20: the 20 most economically developed countries

GDP Gross Domestic Product

G-SIB Global Systemically Important Banks

G-SII Global Systemically Important Insurers

HLA Higher Loss Absorbency

HLEG High-level Expert Group

IAIG Internationally Active Insurance Groups

IAIS International Association of Insurance Supervisors

IASB International Accounting Standards Board

ICC International Chamber of Commerce

ICS Insurance Capital Standard

ICT Information and Communication Technology

IDD Insurance Distribution Directive

IFRS International Financial Reporting Standards

IGA Inter-governmental Agreements

IMD II Revision of the Insurance Mediation Directive

IORP II Revision of Directive on Institutions for Occupational Retirement Provision

IOSCO International Organisation of Securities Commissions

LTI Long-Term Investment

LTIF Long-Term Investment Fund

MDB Multilateral Development Bank

MIF Multilateral Interchange Fees

MiFID II Revision of the Markets in Financial Instruments Directive

MMF Money Market Funds

MtoM Marked-to-Market

NAV Net Asset Value

ODRG OTC Derivatives Regulators Group

OTC Over-the-Counter

P&L Profit & Loss

PAYG Pay-as-you-go pension schemes

PBCE Project Bonds Credit Enhancement

PCS Prime Collateralised Securities

PPP Public-Private Partnership

PRIIPS Packaged Retail and Insurance-Based Investment Products

PRIPS Packaged Retail Investment Products

PSD2 Payment Services Directive

SEC US Securities and Exchange Commission

SFT Securities Financing Transaction

SIFI Systemically Important Financial Institutions

SMEs Small and Medium-Sized Enterprises

SRB Single Resolution Board

SRF Single Resolution Fund

SRM Single Resolution Mechanism

SSM Single Supervisory Mechanism

SST Swiss Solvency Test

STD Savings Tax Directive

T2S Target 2 Securities platform

TLAC Total Loss Absorbing Capacity

TTIP Transatlantic Trade and Investment Partnership Agreement

UCITS Undertakings for Collective Investment in Transferable Securities

US GAAP US Generally Accepted Accounting Principles

VC Venture Capital

WTO World Trade Organisation

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ANNEX II: EFR’S VISION

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The European Financial Services Round Table (EFR) was formed in 2001. The Members of EFR are Chairmen and ChiefExecutive Officers of international banks or insurers with headquarters in Europe.

EFR Members believe that a fully integrated EU financial market, a single market with consistent rules and requirements,combined with a strong, stable and competitive European financial services industry will lead to increased choice and bettervalue for all users of financial services across the member states of the European Union. An open and integrated marketreflecting the diversity of banking and insurance business models will support investment and growth, expanding the overallsoundness and competitiveness of the European economy.

Increased fragmentation as a result of the post-crisis regulatory response underlines the need to safeguard the single marketand to protect the level playing field. The EFR therefore strongly encourages national governments and the EU institutionsto continue their efforts to create a truly single market for wholesale and retail financial services, which will play an essentialrole in providing long-term financing for the economy in Europe. Furthermore, strong market discipline is essential to ensurefairness and alignment of interests of the financial sector and the rest of the economy towards serving the citizens of Europeand the world.

The integration of financial markets does not stop at the EU’s borders – markets are increasingly global. EFR Memberstherefore encourage both national and European leaders to establish internationally consistent and coherent financialregulation and supervision and to support and promote free and open markets throughout the world.

As of March 2015, EFR Members’ companies combined represent

• Around 819 million customers 3

• Around 2 million employees

• EUR 18.74 trillion total assets

• EUR 13.84 trillion assets under management

3 Please note that double counting of customers may occur.

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Walter B. KielholzEFR Chairman and Chairman of the Board of DirectorsSwiss Re Ltd.

Paul AchleitnerChairman of the Supervisory BoardDeutsche Bank AG

Ana BotínExecutive ChairmanBanco Santander

Henri de CastriesChairman of the Axa Group Management Board and CEOAXA

Jean-Paul ChiffletChief Executive Officer Crédit Agricole SA

Michael DiekmannChairman of the Board of ManagementAllianz SE

Annika FalkengrenPresident and CEOSEB Group

Douglas FlintGroup ChairmanHSBC

Federico GhizzoniChief Executive Officer UniCredit Group

Francisco GonzálezChairman and CEOBBVA

Mario GrecoGroup CEOAssicurazioni Generali S.p.A.

Ralph HamersChairman of the Executive Board and CEOING Group

Sir Philip HamptonChairman The Royal Bank of Scotland Group plc

Antonio Huertas MejíasChairman and CEOMAPFRE

Jean LemierreChairman of the BoardBNP Paribas

John McFarlaneChairmanAviva plc

Urs RohnerChairman of the Board of DirectorsCredit Suisse Group

Tom de SwaanChairman of the Board of Directors Zurich Insurance Group Ltd.

Tidjane ThiamGroup Chief ExecutivePrudential plc

Björn WahlroosChairmanNordea

Axel WeberChairmanUBS

Alex WynaendtsCEO and Chairman of the Executive BoardAEGON NV

EFR Members - March 2015

www.efr.be

ANNEX III: MEMBERS OF THE EFR

EFR – European Financial Services Round Table (asbl)Rond Point Schuman 11

B-1040 BrusselsBelgium

Tel: +32 2 256 75 23Fax: +32 2 256 75 70

[email protected]

Siège socialRue Royale 97

B-1000 BrusselsBelgium

RPM BXL 0861.973.276

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