Wednesday, 9 November 2011



Barnier vs the Brits

Financial regulation: UK’s battle with Brussels is intensifying
Michel Barnier

Forceful: Michel Barnier, the EU’s internal market commissioner

Sir Mervyn King is not known as a man given to shouting. But during a meeting this summer in the genteel surroundings of London’s Threadneedle Street, the Bank of England governor let fly.

The visitor sitting across from him – a silver-haired Frenchman whose meticulous dress and proud demeanour appeared straight out of Gaullist central casting – was threatening to rein in the governor’s new powers to set capital rules for Britain’s banks.

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Sir Mervyn was having none of it. As his voice rose, his interpreter grew increasingly startled – particularly as the Frenchman refused to back down. An hour later, Sir Mervyn’s hands were still shaking when he sat down for lunch with George Osborne, the chancellor of the exchequer.

The object of the governor’s ire was Michel Barnier, the 60-year-old former French foreign minister named two years ago as European internal market commissioner – a perch giving him oversight of the continent’s financial industry. Arguably, no European Union job is of more consequence for the UK.

That a stalwart from French president Nicolas Sarkozy’s UMP party came to lord it over the City of London may one day go down as one of Britain’s most important diplomatic failures in Brussels. After an initial British panic, relations with Mr Barnier were mostly marked by a tense but cordial truce, which endured even the change of government 18 months ago, from Labour to the current Conservative-Liberal Democratic coalition. That detente, however, has collapsed.

Myriad Brussels proposals have left Britain’s financial world reeling. Ministers see many measures hurting the sector or crimping UK regulatory powers. That nervousness – or unfounded paranoia, as critics see it – has burst into the open, with David Cameron recently describing the City as “constantly under attack”. For the prime minister – and figures from the UK’s financial industry – the problem is not one single issue nor even a few misdirected proposals but rather a deeply worrying trend. “Red tape, ill-informed tax initiatives, protectionist policies and high ‘pass on’ costs will damage the international reach of the City,” says Anthony Belchambers, chief executive of the London-based Futures and Options Association.

To some extent, British jitters are natural given its giant financial industry – it is the largest net export sector – and the frantic pace of reform. About 20 proposals are in the Brussels pipeline, covering market infrastructure, financial instruments, bank capital rules, transaction taxes – the list goes on. Most are part of a plan by the Group of 20 leading nations that Britain helped craft two years ago – and still enthusiastically supports, as Mr Barnier often points out. They would reshape the City’s ecosystem and affect the operations of financial institutions worldwide, changing everything from how, where and when financial instruments can be traded to the rules governing the life and death of banks.

Financial-markets-chart

Underlying the alarm in London is a more visceral fear: that Mr Barnier’s backers on the mainland are using this regulatory marathon to sap London’s strength as Europe’s pre-eminent financial centre.

Already, rivals such as Paris and Frankfurt are on the march. UK Treasury officials are suddenly fielding calls from companies offered tax breaks to move to the French capital. Regulators are weighing whether to permit NYSE Euronext to merge with Deutsche Börse, giving the world’s largest exchange a Dutch postal address and a formidable reach across Europe. France and Germany “see the City as ripe for plundering”, in the words of one European official. “The British are only just waking up to it,” the official adds. “And in some cases they’re too late.”

Furthermore, analysts warn, the drive for tighter eurozone economic governance could leave Britain on the sidelines of an EU realignment, with lasting consequences for the City. “There has always been competition between financial centres – there are no friends in this business,” says Karel Lannoo of the Centre for European Policy Studies, a Brussels-based think-tank. “They should certainly be worried.”

British diplomats, in the early days, enjoyed thinking of ingenious offerings to woo Mr Barnier, from fine wine to engravings of the Alps that tower over the village where he was raised. But the gloves are off. In a recent Financial Times interview, Mr Cameron in effect accused Mr Barnier of being part of a Paris-led conspiracy. “The French wouldn’t have us trying to move their aerospace industry to Poland, so I’m not having them trying to move our financial services industry to Frankfurt – forget it,” he said.

Mr Barnier has been at pains to keep Britain onside and so far it has never been outvoted. But his frustrations – particularly over UK refusal to beef up the powers of European banking and market supervisors – are showing. Last Friday he dismissed complaints against him as “nonsense”. It is a point he will forcefully repeat in a meeting today with Nick Clegg, UK deputy prime minister.

Other EU members, too, show limited patience with UK dissent; many believe free-wheeling Anglo-Saxon capitalism caused the 2008 crisis. During a recent EU negotiation, Britain was outnumbered 26 to one – even though the rules under discussion related to derivative markets mainly based in London. Britain increasingly appears on the margins, just at the moment when the stakes are highest.

“If the Commission was not listening and hearing the UK, they would have been completely isolated a long time ago,” says one European official. The head of a Brussels trade body says the UK can no longer afford to “stand in the corner and wonder why it has no friends”.

One flashpoint is Mr Barnier’s bank capital reforms, which respond to the Basel III international standards. To the delight of European banks – and the consternation of Whitehall – the Commission in July proposed a limit on how much capital national regulators could force banks to hold. British ministers think this was deliberately aimed at undermining the flagship recommendation of the Vickers commission, which advocated ringfencing UK retail operations behind a higher capital buffer.

Mr Barnier insists the rules are flexible enough to accommodate tighter UK demands. But London remains convinced the proposal was a sop to France, to prevent their lighter-touch approach being shown up by new-found British zeal. Sir Mervyn last week said he was still “completely baffled” by the measure.

To boot, the commissioner’s proposal included concessions that flattered the capital position of some French and German banks. “This is where he showed his true colours,” grumbles one senior Whitehall figure.

Mr Barnier’s allies dismiss suggestion of bias and point to occasions where he has broken with Paris and Berlin, annoying France over harmonising cross-border payments and Germany over provisions to inject more competition in clearing derivatives trades. They say that, while the UK is vocal about its concerns, it is slow to show gratitude.

London claims that Mr Barnier’s second sin is one of omission. Officials say he is too timid in championing the European single market, cherished by successive UK prime ministers. Worse, in their eyes, is his unwillingness to confront eurozone policies they say are discriminatory.

One sore point is the EU financial transaction tax, a Franco-German-backed Commission proposal that would primarily target London, where much of this activity takes place. But of paramount concern is an esoteric European Central Bank “location policy”, which in theory would force big UK clearing houses to decamp to the euro area so they are under the protection of the ECB. The UK is challenging the rule in the courts as discriminatory, an unprecedented act that is a shot across the commission’s bows. The commissioner’s response is seen as a critical test of his commitment to a level playing field. “Why is Barnier not stepping in?” asks one UK government figure.

For their part, sceptics in Brussels are not convinced Britain “respects the single market” as it claims. “You cannot dominate the market in euro-denominated instruments and then accept no European supervision,” says one Barnier ally. “You can’t reap the benefits stemming from the euro and accept none of the potential risks or compromises.”

His sympathisers say Mr Barnier is a “convenient bogeyman”, caught in a bigger confrontation that could reset the course of the EU project. On one side, France and Germany are pushing for more eurozone integration, while flexing their muscles on financial services regulation. On the other is Mr Cameron, promising to protect “national interests”, while his largely eurosceptic Conservative party demands he repatriate powers. “This is where it could all get rather nasty,” says one Brussels veteran.

Mr Cameron’s stated priority is to exact a proportionate price for backing eurozone reform. In the event that more limited changes become possible, rather than full treaty change, he is likely to push for “safeguards” against a “eurozone caucus” that could put the City at a disadvantage.

One option is to give non-eurozone countries an “emergency brake” on reforms to the single currency area that undermine the wider single market. At a summit last month, Mr Cameron requested work begin on a such a “mechanism”. But the suggestion drew scorn from Mr Sarkozy, who asked why he suddenly wanted to join meetings of a single currency he “does not like”. Germany’s Angela Merkel, meanwhile, warned that the eurozone would go it alone if treaty change proved too difficult.

Other euro “outs”, such as Poland and Sweden, are pushing for all 27 states to be involved in critical decisions. But Mr Cameron’s single market pitch has found less favour. “We don’t have a City to protect,” says a diplomat from one of the seven “out” countries obligated by treaty to join the euro. Another senior non-eurozone diplomat says Mr Cameron had “no allies” on his push for City safeguards or repatriation of powers. “This is a fine line we have to walk,” the diplomat says. “We don’t want to drive smaller countries into the arms of the French. This is the danger when you create two extremes.”

One irony of this dynamic is it may force Britain to be more reliant on Mr Barnier’s commission, a nemesis of UK eurosceptics created to guard the interests of smaller European economies against the Franco-German axis. “The talk is that we have to rely more on the Commission to support our position,” says one senior Whitehall figure. “That’s fine in principle. But the question is: where is Barnier?”


What exactly is the UK worried about?

European market infrastructure regulation

A proposal to overhaul infrastructure for trading and processing over-the-counter derivatives, write Alex Barker and Jeremy Grant. Most derivatives clearing is based in London but Britain failed to persuade other European Union members to extend pro-competition provisions to exchange traded derivatives, which would benefit the London Stock Exchange.


Markets in financial instruments directive and regulation II

Sweeping rules designed to rein in OTC equities and derivatives markets and move more trading activity on to formal exchanges, in the interests of transparency.

Backed by the UK for the most part, but it has big implications for the City of London – home to the bulk of wholesale financial markets business. Mifid II also cracks down on rapid automated trading, hitting traders in London and Amsterdam.

Capital requirements directive IV

The EU vehicle for implementing the Basel III banking accords. Michel Barnier, internal market commissioner, riled UK ministers by proposing a “single rulebook” for Europe with a capital ceiling, which stripped UK regulators of the power to set a higher standard. Provisions that ease capital definitions – to the benefit of some French and German banks – also dismayed British diplomats.

European Securities and Markets Authority

A powerful new pan-European watchdog based in Paris that tilts the balance of market regulatory power away from national regulators. After backing its establishment, Britain has resisted attempts to beef up its powers.

Mr Barnier sees strong pan-European regulators as essential to creating a single market. But London fears it is a vehicle for discriminatory policies against the City. Esma will make rules on investment banking as well as clearing houses and trade repositories (electronic data warehouses) for over-the-counter derivatives – significant since most are based in London.

Financial transaction tax

A proposal backed by Mr Barnier. To Britain, this would be damaging to the economy and a bad way to raise taxes on financial services. The UK also sees the move as the eurozone pushing for a tax that would raise most of its revenue from London.

Short-selling curbs

Britain lost a fight against imposing curbs on short-selling equities and on “naked” credit default swaps – measures it sees as likely to backfire.