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Part II The New European Supervisory Architecture, 7 The New Structure of Financial Supervision in Europe

Carmine Di Noia, Maria Chiara Furlò

From: Financial Regulation and Supervision: A post-crisis analysis

Edited By: Eddy Wymeersch, Klaus J Hopt, Guido Ferrarini

From: Oxford Legal Research Library (http://olrl.ouplaw.com). (c) Oxford University Press, 2023. All Rights Reserved. Subscriber: null; date: 06 June 2023

Supervision — European Securities and Markets Authority (ESMA) — European Systemic Risk Board (ESRB)

(p. 172) The New Structure of Financial Supervision in Europe

What’s Next?*


7.01  The new supervisory package is a dramatic contribution to improve financial macro- and micro-stability: this is undeniable and it is shown in other chapters of this book. That is why this chapter focuses on the other side of the coin: the half-empty glass of the package, what could have been done but was not. It is important, as soon as possible, to strengthen the powers of ESAs in drafting recommendations and rulebooks, to improve their governance and, in the long term, to shift to a system of supervision by objective (an ‘n-peaks’ system). In case of resistance by EU non-euro countries, the possibility of stronger powers to ECB, ESAs and competent authorities only of euro countries could be explored.

The new EU supervisory structure

The evolution of the financial system

7.02  In the last decades, the integration of financial markets in Europe has dramatically increased. The advance in technology permitted the spread of information as well as financial transactions at an increasing speed; it also allowed intermediaries and investors to connect from remote locations to other financial markets. Privatization processes all over Europe moved savings, directly or through investment funds, (p. 173) from government bonds to shares listed on stock exchanges. Demutualization of exchanges and the European Monetary Union (and afterwards the advent of Euro) transformed investments from cross-country (due to currency risks) to cross-sector (irrespective of nationality).

7.03  Regulation was frequently changed and represented certainly one of the triggers of the evolution. As an example, the Investment Services Directive (93/22/EEC) allowed remote membership of foreign operators into a national exchanges, transforming de facto exchanges from physical to virtual locations; MIFID (2004/34/EC) cancelled the option of imposing concentration rules of trades into a regulated markets, opening the path to multilateral trading facilities like Chi-X and fragmentation of liquidity into many platforms. The principles of mutual recognition and home country control helped in building a regulatory floor which represented, at least in theory, a level playing field for all the EU Member States, whose number increased in the last decades.

7.04  But regulation has often been a consequence of the events, especially in financial regulatory design. Directives were implemented with different timing and especially in a scattered way. The principle of minimum harmonization left room to asymmetric national laws by national Parliaments and different rules by national competent authorities: the net result was an unlevelled playing field, typically favouring of the national operators.

7.05  At the same time, financial supervision was not harmonized: day-to-day supervision was in charge of national competent authorities with different models in different countries.

7.06  There was some academic debate on the creation of a centralized regulation or supervision at the EU or euro level but there was a fierce resistance of national governments and authorities (especially, but not only, from the important financial centres).1

7.07  The first structural break at the EU level was the Commission Communication of 11 May 1999 entitled ‘Implementing the framework for financial markets: action plan’ (COM(1999) 232 final), the so-called FSAP (Financial Services Action Plan). The plan followed the Communication of 28 October 1998 entitled ‘Financial services: building a framework for action’. It was presented at the request of the European Council, meeting in Vienna in December 1998, which invited the Commission to draw up a programme of urgent work to achieve the objectives set out in the framework for action, on which a consensus had emerged. FSAP indicated priorities and a timetable for specific measures to achieve three strategic objectives, namely establishing a single market in wholesale financial services, (p. 174) making retail markets open and secure, and strengthening the rules on prudential supervision.2

7.08  The second structural break was the creation of the Wise Men Committee,3 chaired by A. Lamfalussy, in 2000. Its analysis was limited to securities market regulation (and not to banking or insurance) and it was explicitly prohibited to tackle prudential supervision. In February 2001, the Committee of Wise Men issued its Final Report4 suggesting the adoption of a four-level regulatory approach (the so-called Lamfalussy process) in order to reduce market fragmentation in Europe. A higher level of harmonization across EU Member States in securities-related issues was identified as a driver to foster the competitiveness of the European financial market. The Report was endorsed by the Stockholm Council of Economics and Finance Ministers on 23 March 20015 and then agreed upon by the European Parliament on 5 February 2002. Level 3 Committees of Supervisors (CESR, CEBS, and CEIOPS) were created in order to assist the Commission in proposing the Level 2 framework and trying to coordinate the behaviour of national competent authorities in regulation and supervision through Level 3 guidelines.6

7.09  This system worked for some years but the regulation became more complex and the markets more integrated so that the financial design became increasingly inefficient.

7.10  Many problems progressively emerged:

  • •  an uneven, bad or no implementation by Member States despite Lamfalussy architecture; the governance of Level 3 Committees led to ineffective guidelines and the EU Commission did not enforce sufficiently Level 4 against Member States that formally implemented fairly well the EU framework (cutting and pasting EU directives) but in reality put obstacles against integration;

  • (p. 175) •  tensions between federal and national rules, between EU financial regulation for listed companies and their national company law, between cross-border crisis man-agement and shareholder rights especially for listed financial intermediaries;

  • •  financial regulation and supervision on individual financial institutions only with micro-prudential approach, and lack of focus on systemic stability and macro-prudential dimension, without understanding that micro-stability does not necessarily guarantee macro-stability;

  • •  cross-border issues and burden sharing still unsolved so that, as it is often said, large pan-EU intermediaries are European (global) in life but national in death;

  • •  national authorities in charge of supervision of EU cross-border intermediaries turned out to be insufficient and ineffective with many conflicts between home and host country (due to incentives not aligned), uncoordinated responses, and especially ring-fencing.

7.11  With this background, the financial crisis of 2008 has revealed important short-comings in financial supervision, which has failed to anticipate adverse macro-prudential developments and prevent the accumulation of excessive risks in the financial sector. The absence of macro-prudential oversight both at national and European level, the scarce level of competence of many supervisors and their lack of coordination in supervising the cross-border group helped the propagation of financial distress due to the excessive leverage taken by financial institutions without any warnings by competent authorities, content to see that Basle II requirements, just approved by themselves, were formally abided by.7

From the de Larosière Report to the supervisory package

7.12  In November 2008, the European Commission mandated a High Level Group chaired by J. de Larosière to make recommendations on how to strengthen European supervisory arrangements with a view to better protecting the citizen and rebuilding trust in the financial system. The final report was presented on 25 February 2009.

7.13  In September 2009 the Commission proposed the creation of a European Systemic risk board to deal with macro-stability issues, and to replace the EU’s existing supervisory architecture based on the Level 3 Committees with the ESFS, consisting of three ESAs: the EBA, the ESMA, and the EIOPA.

7.14  On 22 September 2010, the European Parliament—following agreement by all Member States—voted through the new supervisory framework proposed by the Commission. This was confirmed by the ECOFIN Council on 17 November 2010. The new bodies have been established as from January 2011.

(p. 176) 7.15  Two of the four new bodies are located in Frankfurt (ESRB and EIOPA); ESMA is in Paris and EBA in London. The ESAs are located in the same place of their Level 3 predecessors.

The main features of the EU financial regulatory package

7.16  The regulatory package is composed of:

  • •  Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 on EU macro-prudential oversight of the financial system and establishing the ESRB.

  • •  Council Regulation (EU) No 1096/2010 of 17 November 2010 conferring specific tasks upon the ECB concerning the functioning of the ESRB.

  • •  Regulation (EU) No 1093/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (EBA), amending Decision No 716/2009/EC and repealing Commission Decision 2009/78/EC.

  • •  Regulation (EU) No 1094/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (EIOPA), amending Decision No 716/2009/EC and repealing Commission Decision 2009/79/EC.

  • •  Regulation (EU) No 1095/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (ESMA), amending Decision N. 716/2009/EC and repealing Commission Decision 2009/77/EC.

  • •  Directive 2010/78/EU of the European Parliament and of the Council of 24 November 2010 (so called first Omnibus Directive8).

7.17  The new ESFS, the purpose of which is to ensure the supervision of the Union’s financial system, was created. The ESFS shall comprise: ESRB, EBA, ESMA, EIOPA, the Joint Committee of the European Supervisory Authorities (Joint Committee), and the competent or supervisory authorities in the Member States.

The European Systemic Risk Board in short

7.18  The ESRB tasks should be to monitor and assess systemic risk in normal times for the purpose of mitigating the exposure of the system to the risk of failure of systemic components and enhancing the financial system’s resilience to shocks. (p. 177) In that respect, the ESRB should contribute to ensuring financial stability and mitigating the negative impacts on the internal market and the real economy.9

7.19  ESRB should collect information, identify and prioritize systemic risks, issue warnings and recommendations,10 possibly public, either of a general or a specific nature, which should be addressed in particular to the Union as a whole or to one or more Member States, or to one or more ESAs, or to one or more of the national supervisory authorities with a specified timeline for the relevant policy response. The acts of ESRB are not legally binding, but its decisions must be complied with or explained.

7.20  If the ESRB detects a risk which could seriously jeopardize the orderly functioning and integrity of financial markets or the stability of the whole or part of the Union’s financial system, it should promptly inform the Council of the situation, it is the same in cases of emergency situations.

7.21  The ESRB’s structure is composed by a General Board, a Steering Committee, a Secretariat, an Advisory Scientific Committee and an Advisory Technical Committee.

7.22  The ECB has the role to support the ESRB, ensuring its Secretariat, and thereby providing analytical, statistical, logistical, and administrative tools; especially in order to support the ESRB in its international cooperation at the administrative level with other relevant bodies on macro-prudential issues.

The European Supervisory Authorities

7.23  The micro-prudential side of regulation is guaranteed by the creation of the ESFS as a network of national financial supervisors within three newly created ESAs.11 Their governance is articulated into a Board of Supervisors chaired by a full-time non-voting chairman and composed by the (voting) head of the national competent authorities,12 a management board composed of the chairman and six members elected by and from the head of national competent authorities, and full-time executive directors. They have tasks related to (a) regulation, (b) supervision.

7.24  With respect to regulation, ESAs are (apparently) the successors of existing Level 3 committees: EBA from CEBS, ESMA from CESR, and EIOPA from CEIOPS.

(p. 178) 7.25  ESAs exercise the ‘regulatory’ functions of the old Level 3 committees: mainly advising the EU Commission in drafting Level 2 measures and promoting convergence by national competent authorities in the implementing measures through non-binding guidelines and recommendation. The weakness of that process was evident even before the financial crisis. In order to overcome the problem, two measures have been introduced.

7.26  On the one side the ESAs have legal personality as well as administrative and financial autonomy. On the other side, they have a sort of direct regulatory power able to introduce an effective instrument to establish harmonized regulatory technical standards in financial services in order to ensure, possibly through a single rule-book, a level playing field and adequate protection of investors and consumers across the Union.13

7.27  The ESAs are in fact entrusted with the elaboration of two kinds of standards:

  • •  regulatory technical standards (Art 10);

  • •  implementing technical standards (Art 15).

7.28  The Authority may develop draft regulatory technical standards to submit for endorsement to the Commission, in cases when the European Parliament and the Council delegate power to the Commission to adopt regulatory technical standards by means of delegated acts under Art 290 of the TFEU14 in order to ensure consistent harmonization in the areas specifically set out in the legislative acts referred to in Art 1(2). Regulatory technical standards shall be technical, shall not imply strategic decisions or policy choices and their content shall be delimited by the legislative acts on which they are based. ESAs should submit the standards only after public consultation and after requesting the opinion of their Stakeholder Group (referred to in Art 37).

7.29  The Commission may endorse the draft standard in full, but it may happen that in extraordinary circumstances the Commission may endorse it in part, with amendments, or not endorse after a cumbersome process described in Arts 10–14. In no (p. 179) case can the Commission change the content of the draft regulatory technical standards prepared by the ESA without a prior coordination with the ESA as set out in Art 10.

7.30  The ESAs may also submit draft implementing technical standards for endorsement to the Commission in cases when the Commission has to issue implementing acts under Art 291 of the TFEU,15 in the areas specifically set out in the legislative acts referred to in Art 1(2). Implementing technical standards shall be technical, shall not imply strategic decisions or policy choices and their content shall be to determine the conditions of application of those acts. The procedures and possible option for the Commission and the other European bodies are similar to the case of draft technical standards.

7.31  The ESAs scope of work is specified in Art 1(2) respectively of EU Regulation 1093/201 for EBA, 1094/2010 for EIOPA, and 1095/2010 for ESMA which list the EU directives whose scope deals with the ESAs. Further tasks are being attributed following the First Omnibus Directive (2010/78/EU) and the proposal of a Second Omnibus Directive.

7.32  Article 1(3) of the three above-mentioned regulations, enlarge the scope of work referring to cross-directive matters like corporate governance, auditing, and financial reporting. All the three ESAs are competent in these matters. For example, Regulation 1095/2010 in the specific case of ESMA states that: ‘The Authority shall also act in the field of activities of market participants in relation to issues not directly covered in the acts referred to in paragraph 2, including matters of corporate governance, auditing and financial reporting, provided that such actions by the Authority are necessary to ensure the effective and consistent application of those acts’. This sentence is alike for the other ESAs. The only exclusive competence of Art 1(3) deals with taking ‘appropriate action in the context of take-over bids, clearing and settlement and derivative issues’ which is only assigned to the charge of ESMA.

7.33  The system should be aimed at ensuring a consistent application of Community rules and at upgrading the quality of national supervision, strengthening oversight of cross-border groups, and establishing a European single rule book applicable to all financial market participants in the internal market.16

(p. 180) 7.34  ESAs also play a role in the supervision of both financial market participants and national competent authorities.

7.35  Regarding direct exclusive supervisory powers, only ESMA was assigned this power related to CRAs.17 The Commission proposal was more ambitious trying to assign supervision at least on entities with Community-wide reach (possibly including ESMA clearing houses and trade repositories).

7.36  But ESAs still have the power to take individual decisions addressed to financial market participants, in three specific cases.

7.37  The first case (Art 17(6)) relates to the breach of Union law by a national competent authority which does not comply with the formal opinion of ESA. In this case, if the ESA realize that it is necessary to remedy in a timely manner to such non-compliance in order to maintain or restore neutral conditions of competition in the market or ensure the orderly functioning and integrity of the financial system, the Authority may, where the relevant requirements of the acts referred to in Art 1(2) are directly applicable to financial market participants, adopt an individual decision addressed to a financial market participant requiring the necessary action to comply with its obligations under Union law including the cessation of any practice.

7.38  The second case relates to action in emergency situations (Art 18(4)). Where a national competent authority does not comply with the decision of the ESA implementing the emergency situation declared by the Council, the ESA may adopt an individual decision addressed to a financial market participant requiring the necessary action to comply with its obligations under that legislation, including the cessation of any practice. Given the strong effect of the individual decision which may lead to the end of some financial activity, the power of ESA is limited by two conditions which should both apply: extraordinary cases when the competent authority does not apply the relevant legislation, including regulatory technical standards and implementing technical standards adopted in accordance with those acts, or applies them in a way which appears to be a manifest breach of those acts; and where urgent remedying is necessary to restore the orderly functioning and integrity of financial markets or the stability of the whole or part of the financial system in the Union.

(p. 181) 7.39  The third case relates to the ESA attempt to settle disagreements between competent authorities in cross-border situations (Art 19(4)). If the competent authority does not comply with the decision of the ESA, the Authority may adopt an individual decision addressed to a financial market participant requiring the necessary action to comply with its obligations under Union law, including the cessation of any practice.

7.40  ESAs play a relevant active role in supervising financial markets to evaluate if emergency situations arise. In this case the ESAs and possibly ESRB, should address a confidential recommendation to the Council. If the Council determines the existence of an emergency situation, it shall duly inform the European Parliament and the Commission without delay. In this case, the ESAs should actively facilitate and, where deemed necessary, coordinate any actions undertaken by the relevant national competent supervisory authorities, being a participant as an observer in any relevant gathering by the relevant national competent supervisory authorities.

7.41  As a matter of fact the ESAs have many interactions with the competent authorities. In particular, they can take individual decisions addressed to competent authorities in two specific cases.

7.42  The first one relates to the emergency situation described above when the ESA may adopt individual decisions requiring competent authorities to enforce the legislation or decision taken in this regard.

7.43  The second one relates to the powers of ESAs to settle disagreements between competent authorities in cross-border situations18 (Art 19). If the competent authorities concerned fail to reach an agreement within the conciliation phase referred to in Art 19(2), the ESA may take a decision requiring them to take specific action or to refrain from action in order to settle the matter, with binding effects for the competent authorities concerned, in order to ensure compliance with Union law.

7.44  The most relevant power of ESAs with respect to national competent Authorities relates to the breach of Union law as set out in Art 17. If ESA considers that a competent authority has not applied the relevant EU regulations (referred to in Art 1(2)), or has applied them in a way which appears to the ESA to be a breach of Union law, including the regulatory technical standards and implementing technical standards, in particular by failing to ensure that a financial market participant satisfies the requirements laid down in those acts, the Authority shall operate in different ways.

7.45  Upon a request from one or more competent authorities, the European Parliament, the Council, the Commission, or the Securities and Markets Stakeholder Group, or on its own initiative, and after having informed the competent authority (p. 182) concerned, the Authority may investigate the alleged breach or non-application of Union law: in this case the competent authority shall, without delay, provide the Authority with all information which the Authority considers necessary for its investigation.

7.46  Secondly, the ESA may, not later than two months from initiating its investigation, address a recommendation to the competent authority, setting out the action necessary to comply with Union law. The competent authority shall, within ten working days of receipt of the recommendation, inform the ESA of the steps it has taken or intends to take to ensure compliance with Union law.19

7.47  All three ESAs, including ESMA, have prudential competences. This is quite clear in their tasks related to colleges of supervisors (Art 21). They will contribute to promote and monitor the efficient, effective, and consistent functioning of colleges; they will lead in ensuring a consistent and coherent functioning of colleges of supervisors for cross-border institutions across the Union, taking account of the systemic risk posed by financial market participants referred in Art 2320 of the regulation. With the objective of converging supervisory best practices, staff from the authority shall be able only to participate in the activities of the colleges, including on-site examinations, carried out jointly by two or more competents. All the three ESAs may initiate Europe-wide stress tests.

7.48  As regards safeguards, the authorities shall ensure that their actions in emergency situations or settlement of disagreements do not impinge fiscal responsibilities of Member States. Where a Member State considers that a decision, taken in these two cases, impinges on its fiscal responsibilities, it may notify the authority and the Commission within two weeks after notification of the authority’s decision to the competent authority that the decision will not be implemented by the competent authority.21

7.49  ESAs should also provide a centrally ‘accessible’ database of registered financial market institutions, presumably at the disposal of national competent authorities.

(p. 183) 7.50  Finally, ESAs have a competence representing a mix of regulation and supervision in consumer protection and financial activities. These tasks were not inserted in the original Commission proposal and were added by the European Parliament.

7.51  Some of them are drafted in general terms. In particular, the Authority shall take a leading role in promoting transparency, simplicity, and fairness in the market for consumer financial products or services across the internal market, including by: collecting, analysing, and reporting on consumer trends; reviewing and coordinating financial literacy and education initiatives by the competent authorities; developing training standards for the industry; and contributing to the development of common disclosure rules. The ESA shall monitor new and existing financial activities and may adopt guidelines and recommendations with a view to promoting the safety and soundness of markets and convergence of regulatory practice. The ESA may also issue warnings in the event that a financial activity poses a serious threat to the objectives laid down in Art 1(5).

7.52  But some of them allow the ESA to direct intervention in the market. For example, the Authority may temporarily prohibit or restrict certain financial activities (including, we think, financial products) that threaten the orderly functioning and integrity of financial markets or the stability of the whole or part of the financial system in the Union in the cases specified and under the conditions laid down in the legislative acts referred to in Art 1(2) or, if so required, in the case of an emergency situation.

7.53  The Authority may also assess the need to prohibit or restrict certain types of financial activity and, where there is such a need, inform the Commission in order to facilitate the adoption of any such prohibition or restriction.

The new EU supervisory structure: how to fill the half empty glass

ESRB competences

7.54  The ESRB will be responsible for the macro-prudential oversight of the European financial system, in order to realize on time and contrast the accumulation of unsustainable financial imbalances, using possibly the information coming from the ESAs. The fears of national supervisors makes it impossible for the ESRB to request information on individual financial institutions. The conditions set out in Art 15 of Regulation 1092/2010 are very stringent: they should be relaxed.

7.55  The ESRB may provide private warnings and, where appropriate, issue private recommendations. Both measures can be general or specific and addressed to the EU as a whole or to Member States, to the ESAs, or to national authorities. There is no provision that allow the ESRB to issue a warning directly to a single intermediary: this may seem correct because the ESAs should be in charge, but in (p. 184) case of a systemically important financial institution, it could be appropriate to allow the ESRB to do it.

7.56  The ESRB can also decide on a case-by-case basis to disclose its private warnings and recommendation to the public. This is probably an exceptional situation where the public should be informed as soon as possible, but Art 18 makes it impossible to disclose a warning in a short time because, before doing that, the Council should be informed ‘sufficiently in advance’ and inform the addressee ‘in advance’ (in this case there is no specification of ‘sufficiently’, implying that the addressee can receive the info just before the publication).

7.57  Systemic stability is not easily distinguishable from the traditional objective of monetary policy, especially when the central bank is not losing sight, as the US federal reserve did it during the last decade, of the prices of financial assets (and real estate) as well as inflation rate and salaries. Accordingly, macro-stability should have been located inside the ESCB but the resistance of the non-euro countries made it impossible to assign the task directly to ECB and the ESCB.

7.58  It is true that the secretariat task is formally assigned to the ECB, but Council Regulation 1096/2010 is legally based on Art 127(6) of the Treaty according to the Council, acting by means of regulations in accordance with a special legislative procedure, may unanimously, and after consulting the European Parliament and the European Central Bank, confer specific tasks upon the ECB concerning policies relating to the prudential supervision of credit institutions and other financial institutions but ‘with the exception of insurance undertakings’. But systemic stability also includes insurance undertakings and in fact EIOPA is a member of ESRB: given the fragile juridical base, the secretariat should not deal with the insurance dossier of ESRB.

7.59  Furthermore, ESRB has no legal personality or autonomous intervention powers: in practice it is a sort of reinforced coordination mechanism among central banks close to the ECB rather than a new organism.

7.60  It is puzzling that the publication of the recommendation by the ESRB may be decided only after having informed the Council sufficiently in advance so that it is able to react. It is well known that Member States, that are part of the Council do not like to be warned when they conduct destabilizing policies and may block the recommendation through the Council. Thus, this sort of censorship should be removed from the Council.

ESAs: regulatory and supervisory powers

7.61  As we have outlined above, ESAs have regulatory and supervisory competences.

From the regulatory side, the hottest issue is the relationship with the Commission in endorsing the draft, technical and implementing standards. The solution of the regulation seems appropriate.

(p. 185) 7.62  A critical issue may arise by the fact that apparently the standards may not refer to the topics indicated in Art 1(3) (ie for ESMA, corporate governance, auditing, and financial reporting or takeover) because only the topics listed in Art 1(2) are explicitly recalled. Only guidelines and recommendations could be drafted in this regard. There is obvious resistance by Member States which have authorities in charge of, for example, corporate governance issues or takeover matters different from those relating to ESMA (ie the UK Takeover panel or the Financial Reporting Council or the Austrian Takeover Commission). Nevertheless, it is important to correct this omission for all three ESAs.

7.63  The effective success of the new procedure will depend on the effective behaviour of the national competent authorities, that up until now were not really very collaborative. In this regard, the peer review foreseen in Art 30 is very important especially because it can be made public. But the result of the evaluation process may be disclosed publicly, only subject to the agreement of the competent authority that is the subject of the peer review: this limitation, which was proposed by the Council, is likely to affect negatively the name-shame implicit in the public disclosure of bad results.

7.64  Regarding direct supervisory powers on entities with Community-wide reach or economic activities with Community-wide reach as it was foreseen for all the ESAs in the Commission proposal (Art 6(3)), only ESMA kept this power related to CRAs.

7.65  It is necessary to enlarge this kind of function on all the ESAs concerning all the sensible cross-border groups and market infrastructures like trading platforms, central clearing counterparties, and central securities depositories. The first step is already contained in Art 18(2), which attributes relevant powers to the ESA in the creation and management of market information as well as financial intermediaries, though with some caution to avoid duplication and costs, and in initiating and coordinating Union-wide stress tests. The second necessary step (and real milestone) would be to attribute supervisory (non-exclusive) competence on entities with Community-wide reach in order to have a truly European System of Financial ‘Supervisors’.

7.66  Regarding the action in possible emergency situations, which possibly may arise all of a sudden, a critical issue is the lack of possibility for an ESA (and the ESRB) to declare the existence of an emergency: the ESA should rather ‘issue a confidential information to the Council…The Council shall then assess the need for a meeting’ and then inform the Commission and EU Parliament (Art 18). While this cumbersome process may be appropriate for the evaluation of a macro-systemic emergence, it is obviously incompatible with the timing of a micro-emergency situation which may require ESMA, for example, to decide on a Sunday night to suspend trading on certain classes of financial instrument or to limit short selling.

(p. 186) 7.67  Regarding safeguard clauses (Art 38), the ESAs shall ensure that no decision adopted in the case of an emergency situation and settlement of disagreements impinges in any way on the fiscal responsibilities of Member States: the concept of ‘fiscal responsibility’, how it has been proposed, seems vague and potentially too extended, thus it could generate controversies. Furthermore, in the case of ESMA, the typical decision in case of an emergency situation (such as we have mentioned above, suspension of trading and limitation of short selling) by definition should be excluded by Art 18.

ESAs governance

7.68  Although the governance of ESAs was the result of a lot of compromises, some aspects could be (or have been) improved in order to have a more efficient ESFS. The first observation deals with the voting status of the chairman who is non-voting in the case when his vote would have been irrelevant (given the other 27 votes in the Board of Supervisors) while he is voting in the management board (where there are only six other votes): the asymmetry should be corrected.

7.69  The second issue deals with the general governance of the ESA. The supervisory board and the management board are composed of national competent authorities who are (in the supervisory board) the only voting members. This kind of composition does not guarantee the efficiency of the acts and the fair grade of independence to the ESAs because it is too influences by the interests of single national authorities.

7.70  When the ECB was created, the choice was to add six ‘other’ members to the Governors of Central Banks in the Governing Board and in the General Council: the six independent members, appointed by the European Council, constitute the executive board of the ECB. A similar choice would be more appropriate in order to overcome the typical resistance of some national competent authorities to promote, through a central body, convergence in regulation and supervision which was not the case in Level 3 Committees.

What’s next in the long term? A proposal

The objectives of regulation

7.71  In each country, financial markets regulation has been affected by the structure and the evolution of the domestic financial system as well as by the legal system in place. The different objectives of regulation, the different markets, and intermediaries have been assigned to one or more authorities.

7.72  Financial regulation aims to correct market imperfections and unfair distribution of the resources, while pursuing four general objectives: macro-stability of the (p. 187) system, micro-stability of the intermediaries, market transparency and investor protection, and, last but not least, efficiency.22

7.73  The first objective of financial market regulation is the pursuit of macro-stability.23 Safeguarding the stability of the system translates into macro-controls over currencies, interest rates, financial instruments in aggregate, exchanges, payment and, possibly, settlement systems which are among the typical functions of central banks; it also means the function of lender of last resort.

7.74  The second objective pertains to the micro-stability (prudential supervision) of the intermediaries and it can be subdivided into two categories: general rules on the stability of all business enterprises and entrepreneurial activities, such as the legally required amount of capital, borrowing limits, integrity requirements, entry/exit controls; and more specific rules due to the special nature of financial intermediation, such as risk-based capital ratios, limits to portfolio investments and the regulation of off-balance activities, the managing of deposit insurance funds or investor compensation schemes. Furthermore, micro-stability controls can focus on the entities managing financial exchanges, clearing houses, and securities settlement systems.

7.75  The third objective of financial regulation is transparency—in the market and of intermediaries—ie investor protection. This is linked to the more general objective of equity in the distribution of the available resources and may be viewed as the search for ‘equity in the distribution of information as a precious good’ among operators.

7.76  At the market level, transparency rules impose equal and homogeneous treatment (eg rules regarding takeovers, public offers, and conflict of interest) and the correct dissemination of information (insider trading, manipulation and, more generally, the rules dealing with exchanges, micro-structure, and price-discovery mechanisms). At the intermediary level, such rules aim to guarantee non-discrimination in the relationships among intermediaries and different customers (conduct of business rules).

7.77  The fourth objective of financial market regulation, linked with the general objective of efficiency, is the safeguarding and promotion of competition in the financial sector. This requires rules for controlling market power and structures and, at the micro level, regulations concerning mergers and acquisitions, cartels, and abuses of dominant position. Specific controls over financial intermediaries and markets may also be justified by the attempt to limit possible destabilizing excesses generated by tough competition in such an important sector.

(p. 188) 7.78  In order to pursue these four objectives, there is neither a unique theoretical model nor just one practical approach to the regulation and supervision of financial markets. Pros and cons have been extensively discussed by many studies and significant differences are found in the literature in terms of both definition and classification of regulatory models and techniques.24 And it is difficult to observe in reality the adoption of regulatory schemes that are fully consistent with one theoretical model.

7.79  A look at the state of financial market regulatory and supervisory arrangements in the EU (including the recent and announced reforms in Ireland, the United Kingdom, Belgium, and France) show that it is still complex and not homogeneous across Member States but with a unique result: financial supervision by subject (banking, securities, and insurance/pension funds) is not chosen by any Member State even if is the choice of European regulation. Many Member States are moving from a single regulator (different from the central bank) model to a twin peaks (with prudential regulation in or out of the central bank and a separate investor protection authority) or similar model (see Table 7.1).

7.80  Nevertheless, Regulation with an ‘institutional approach’ (also known as ‘sectional’ or ‘by subjects’ or ‘by markets’) is the solution chosen by the European Authorities.

Table 7.1  Structure of financial supervision in selected countries, February 2012




Insurance/Pension fund

























































United Kingdom (end 2012)








United States








Key: CB (central bank), PA (prudential authority on banks, securities, and insurance, different from CB), B (prudential agency for banks), IP (investor protection authority for banks, securities, and insurance), S (securities authority), I (insurance authority), PF (pension fund authority), FSA (single prudential and investor protection regulator), G (government department).

(p. 189) 7.81  It is true that the definition of the term ‘financial market’ has traditionally included the banking, financial, and insurance segments but the nature of financial intermediation has evolved in the last 30 years and a series of economic and legal developments has significantly changed the financial markets’ morphology.25 Today, the barriers between banking, insurance, and securities market activities have fallen together with geographic and legal restrictions, and the model of the universal bank has not only spread worldwide, but increasingly has evolved into complex financial conglomerates operating worldwide. As regards the markets, considerable integration has taken place between the banking/insurance markets and the securities markets. In most countries, banks and insurance companies are among the most important issuers of stocks and other securities traded in both organized exchanges and over the counter. Financial products and instruments have also experienced a certain degree of integration, sometimes changing their original economic function. In general, financial products have become increasingly complex, calling for new and enhanced skills in regulatory and supervisory activities.

7.82  In the more traditional ‘institutional approach’, supervision is performed over each single category of financial operator (or over each single segment of the financial market) and is assigned to a distinct agency for the entire complex of activities. In this regulatory model, which follows the traditional segmentation of the financial system into three markets, we thus have three supervisory authorities acting as watchdogs over, respectively, banks, financial intermediaries and mutual funds, and insurance companies (and the corresponding markets): the ESAs’ competences are divided similarly.

7.83  ‘Institutional’ regulation facilitates the effective realization of controls, being performed with regards to subjects that are regulated as to every aspect of their activity and as to all the objectives of regulation. Each intermediary and market has only one supervisory authority as a counterpart. The latter, in turn, is highly specialized. As a result, duplication of controls is avoided and the costs of regulation can be considerably reduced. But the institutional model could be considered optimal only in a context with rigidly separated financial segments, and where no global players are at stake.

7.84  The institutional model may give rise, in the presence of more subjects entitled to perform the same financial intermediation activities, to distortions in the supervisory activity caused by the enforcement of different dispositions for operations of the same nature that are executed by different entities.

7.85  The disadvantages of this approach are represented by the previously mentioned trend towards multiple-sector activities and by the progressive de-specialization of the intermediaries. In turn, these phenomena are connected to the growing integration of both markets and instruments, that frequently leads to the building (p. 190) of large financial conglomerates. In a context where the boundaries separating the various institutions are progressively being erased, it is no longer possible to establish whether a particular subject is a bank, a non-banking intermediary, or an insurance company; or whether a group is involved more in one or another of such activities.

7.86  Therefore, there is the risk that ‘shadow’ systems of intermediaries may be created, reflecting the diversity of the respective control authorities. In this case, the way the controls are set up may become a destabilizing rather than stabilizing factor. Moreover, the intermediaries might be induced to choose their juridical status in a way which is contingent on the different rules that discipline different subjects.

7.87  At the opposite end lies the single regulator approach which can be divided in two subclasses: the single regulator in the Central Bank (the Irish Model) or the single regulator out of the Central Bank (the former UK FSA model). A possible element of weakness in the model lies in the fact that when a single authority supervises a category of subjects and pursues more than one objective, the result of the control activity might not be effective in the event that different objectives are in conflict.

7.88  We think that a more appropriate solution is to repropose the four-peaks model of Di Giorgio, Di Noia, and Piatti (2001) adapted with some small changes. An outline of this ‘four-peaks’ model for financial regulation is provided in Figure 7.1.

7.89  Even the de Larosière Report seems to agree that the solution with EBA, ESMA, and EIOPA is cumbersome. The regulatory framework should evolve ‘towards a

Figure 7.1  A European System of Financial Supervision within a Global Framework

(p. 191) system which would rely on only two Authorities’. The first would be responsible for banking and insurance issues, as well as any other issue which is relevant for financial stability (eg systemically important hedge funds, systemically important financial infrastructures). The second Authority would be responsible for conduct of business and market issues, across the three main financial sectors. Combining banking and insurance supervisory issues in the same Authority could result in more effective supervision of financial conglomerates and contribute to a simplification of the current extremely complex institutional landscape’ (point 216, p 58).

7.90  The three Regulations establishing the ESAs go in the same direction. Article 81 requests the European Commission to subject the three Authorities to a general review every three years (the first one will be published by 2 January 2014). Among other things the review should also examine whether:

  1. (a)  it is appropriate to continue separate supervision of banking, insurance, occupational pensions, securities, and financial markets;

  2. (b)  it is appropriate to undertake prudential supervision and supervise the conduct of business separately or by the same supervisor;

  3. (c)  it is appropriate to simplify and reinforce the architecture of the ESFS in order to increase the coherence between the macro and the micro levels and between the ESAs;

  4. (d)  the evolution of the ESFS is consistent with that of the global evolution.

7.91  In practical terms, our proposal tends to a European System of Financial Supervision within a global framework, with the international global coordination of central banks on systemic risk and macro-prudential supervision. On the global side, there would be the aegis of the FSB, which could work for guaranteeing the financial stability and the overseeing of the systemic risk. On the European side, there could be a structure by objectives which works for the regulation at the federal level and for the supervision at the national level, thanks to the assistance of coordination committees in both of these cases.

7.92  Our four-peaks model assigns macro-stability to the ESRB with the support of ECB, and the other three objectives of prudential regulation investor/consumer protection and competition to three new ESAs which would have full regulatory powers (Level 2 agencies). These central agencies should coordinate the different domestic agencies in each member country. Apart from this vertical form of coordination, cooperation would be also desirable horizontally, at both the European and national levels. This coordination, and resolution of eventual controversies, could be provided by special Commissions for the Supervision of the Financial System established respectively at the European Commission and at national Treasuries. These commissions would be the natural place for activities involving proposals and consultation concerning measures regarding financial market regulation.

(p. 192) 7.93  We think that it would be wise to transform the EU Commission Antitrust DG into a third separate and independent central agency. This agency will then coordinate and promote the harmonized activities of domestic Antitrust agencies. In each Member State, the national Antitrust agency will safeguard competition in all economic sectors.

7.94  This federal system should obviously evolve with more supervision on Union-wide entities to the central agencies. Furthermore, macro-stability should definitively be in charge of the ECB which is the only entity able to manage some monetary policy instruments: in this regard, it is possible to foresee reinforced powers of the ECB and of all the ESFS structure for euro countries only hoping that their number will increase and not decrease.


*  The opinions expressed in this chapter are not necessarily those of the institutions the authors belong to. Although the chapter is the result of a common effort, paras 7.09, 7.10, 7.11, and 7.12 can be attributed to Maria Chiara Furlò; the others to Carmine Di Noia. We thank Jacopo Carmassi for some useful observations.

1  See eg the chapters contained in Andenas and Avgerinos (2003); Masciandaro (2003); and Masciandaro and Quintyn (2007).

4  The four levels are: (1) framework directives adopted by the Council and European Parliament pursuant to the co-decision procedure (Art 251 of the Treaty); (2) implementing measures (directives or regulations) adopted by the Commission with the assistance of the European Securities Committee (ESC); (3) cooperation among national regulators in order to reach a higher level of convergence in supervisory practices; (4) enforcement of Level 1 and Level 2 measures by the European Commission. For an assessment of the Lamfalussy process in comparison with the traditional EU law making process see Schaub (2005), 110.

5  See Results of the Council of Economics and Finance Ministers, 22 March 2001, available at <http://europa.eu/rapid/pressReleasesAction.do?reference=MEMO/01/105&format=HTML&aged=0&language=EN&guiLanguage=en>.

6  In the late 2000s the EU Commission proposed the establishment of a Community programme, providing direct funding from the Community budget to the three EU Committees of Supervisors and to key international and European bodies involved in the standard setting process for financial reporting and auditing (see at <http://ec.europa.eu/internal_market/finances/committees/index_en.htm> the Commission proposal (2009), 14).

7  See Di Noia and Micossi (2009); and Davies (2010).

8  In January 2011 the Commission has presented the Omnibus II Directive (COM 2011/8) amending ‘Solvency II’ Directive for the insurance sector (Directive 2009/138/EC), and parts of the Prospectus Directive (Directive 2003/71/EC).

9  Whereas Art 10 of Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 on European macro-prudential oversight of the financial system and establishing a European Systemic Risk Board.

10  In 2011 ESRB has published three recommendations on lending in foreign securities, US dollar denominated funding of credit institutions and on the macroprudential mandate of national authorities, see <http://www.esrb.europa.eu/recommendations/html/index.en.html>.

11  For a complete and detailed analysis see Wymeersch (2011).

12  There are other four non-voting members from the Commission, the ESRB and the other two ESAs.

13  Whereas Art 22 of Regulation (EU) No 1095/2010 of the European Parliament and of the Council of the 24 November 2010 establishing a European Supervisory Authority (European Securities and Markets Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/77/EC.

14  According to Art 290: 1. A legislative act may delegate to the Commission the power to adopt non-legislative acts of general application to supplement or amend certain non-essential elements of the legislative act. The objectives, content, scope, and duration of the delegation of power shall be explicitly defined in the legislative acts. The essential elements of an area shall be reserved for the legislative act and, accordingly, shall not be the subject of a delegation of power. 2. Legislative acts shall explicitly lay down the conditions to which the delegation is subject; these conditions may be as follows: (a) the European Parliament or the Council may decide to revoke the delegation; (b) the delegated act may enter into force only if no objection has been expressed by the European Parliament or the Council within a period set by the legislative act. For the purposes of (a) and (b), the European Parliament shall act by a majority of its component members, and the Council by a qualified majority. 3. The adjective ‘delegated’ shall be inserted in the title of delegated acts.

15  According to Art 291: 1. Member States shall adopt all measures of national law necessary to implement legally binding Union acts. 2. Where uniform conditions for implementing legally binding Union acts are needed, those acts shall confer implementing powers on the Commission, or, in duly justified specific cases and in the cases provided for in Arts 24 and 26 of the Treaty on European Union, on the Council. 3. For the purposes of para 2, the European Parliament and the Council, acting by means of regulations in accordance with the ordinary legislative procedure, shall lay down in advance the rules and general principles concerning mechanisms for control by Member States of the Commission’s exercise of implementing powers. 4. The word ‘implementing’ shall be inserted in the title of implementing acts.

16  Whereas Art 5 of Regulation (EU) No 1095/2010 of the European Parliament and of the Council of the 24 November 2010 establishing a European Supervisory Authority (European Securities and Markets Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/77/EC.

17  See EU Regulation No 513/2011. All competencies and duties regarding the supervision and enforcement with regard to CRAs has moved to ESMA from 1 July 2011 and from that date ESMA has the sole responsibility for the registration and supervision of CRAs within the EU. The CRA Regulation provides ESMA with a range of new supervisory tools and measures including: (i) the temporary prohibition of issuing a rating; (ii) suspension of the use of credit ratings for regulatory purposes throughout the EU; and (iii) the possibility to referring matters for criminal prosecution to the relevant national court with jurisdiction.

18  While the joint committee may settle disagreements between competent authorities across sectors—banks, securities, and insurance.

19  In this case, if the competent authority does not comply within one month the ball goes from the ESA to the Commission that will issue a formal opinion requiring the competent authority to take the action necessary to comply with Union law, no later than three months after the adoption of the recommendation. The competent authority shall, within ten working days of receipt of the formal opinion referred to in para 4, inform the Commission and the Authority of the steps it has taken or intends to take to comply with that formal opinion

20  Article 23 of Regulation No 1095/2010 regards the identification and the measurement of systemic risk, and according to it the Authority shall, in consultation with ESRB, develop criteria for these two matters and an adequate stress testing regime which includes an evaluation of the potential for systemic risk posed by financial market participants to increase in situations of stress. The financial market participants that may pose a systemic risk shall be subject to strengthened supervision, and where necessary, the recovery and resolution procedures referred to in Art 25.

21  See Art 38 of EU Regulation No 1095/2010 of the European Parliament and of the Council of 24 November 2010 establishing a European Supervisory Authority (European Securities and Markets Authority), amending Decision No 716/2009/EC and repealing Commission Decision 2009/77/EC.

22  On the objectives of financial market regulation, see Di Giorgio, Di Noia, and Piatti (2000).

23  Macro stability has been recognized as a specific objective of financial market regulation only in the recent years (see Borio (2003), Crockett (2000)).

24  See Wymeersch (2007).

25  Allen and Santomero (2001).