It’s a pleasure to be here this morning and to talk to you about the Government’s approach to regulatory reform.
As the Minister responsible for financial services, I’m well aware of the issues the industry is currently facing.
That you understand the need for reform.
Want to see stronger and more resilient markets.
And agree we simply can’t afford another financial crisis.
This we can all take as a given.
But how we solve these problems - and what action should be taken - is a different matter entirely.
Fundamental reform is no simple matter.
It requires thought.
And above all else, cooperation across the different sectors; governments; and international bodies.
And this is what I’d like to discuss today.
Because while everyone recognises the need for change… how we achieve it… is a far more difficult question to answer.
Europe’s financial sector
Through London, Europe is home to one of the largest and most successful financial centres in the world.
One that brings with it many benefits, not just for Britain, but for all Member States.
Nobody should doubt this Government’s commitment to ensuring that Britain - and indeed Europe - remains world class in this field.
A world class financial centre must be underpinned by a robust supervisory architecture and regulatory regime.
Which is why, as a government, we’ve wasted no time in pursuit of this ambition.
On the domestic front, we’re abolishing the failed tripartite system of financial regulation…
…and replacing it with a new a new regulatory architecture - one that will ensure all regulation of the financial system is effectively coordinated
This will involve a number of big changes.
Yesterday, the Treasury Select Committee published its report on the Government’s plans for regulatory reform.
And later this month, we will launch a consultation on further proposals for financial regulatory reform.
This will include the creation of a new conduct of business regulator that will oversee the conduct of all financial institutions - the Consumer Protection and Markets Authority.
And I’m very pleased that Martin Wheatley - currently chief executive of the Hong Kong Securities and Futures Commission - has agreed to lead this new body.
Mr Wheatley brings with him decades of financial services experience… and I’m sure this will prove invaluable as the CPMA take on the mantle of conduct of business regulation.
On the international stage, we’ve been working through the G20 and EU - to improve international standards.
But in truth, we’ve only just started.
Implementation is key.
In Europe, we must deliver on the commitments our leaders made at the G20 to implement Basel 3 in full and on time.
And we should press our international partners to do the same.
Looking forward, we need to focus on what really matters.
Which is why we will argue that every proposal - and every reform - needs to be backed-up by clear and compelling evidence.
With detailed consideration of the relative costs and benefits.
Because it’s far more important to be doing things right, than to be seen to being doing a lot.
This will underpin our approach to the upcoming markets agenda…in particular the MiFID Review .
It’s important to acknowledge the many benefits MiFID has already brought.
Ten years ago, Europe was an underdog relative to the strength of the US capital markets.
Member States worked in relative financial isolation.
Were hampered by high costs and low liquidity.
And the Single Market had hardly got off the ground.
But MIFID became instrumental in breaking down some of those famous Giovannini barriers that were holding us back.
Today, as a result of the competitive pressure of MIFID, Europe has exchanges that are capable of competing globally:
- Deutsche Boerse,
- the London Stock Exchange,
- Euronext-Liffe -to name just a few.
Europe has become the destination of choice for many global companies seeking to access deep pools of capital.
Competition has brought down trading costs, improved liquidity, and resulted in better protection for investors.
In fact, I’ve read some estimates that suggest the single markets benefits of MIFID could have contributed as much as 0.8% to EU GDP.
Yes, there are regulatory, technological and market developments that need to be addressed…
…but the Commission - indeed the EU - should be rightly proud of this underlying success.
And if we get the MiFID Review right, we have the potential to build on this progress.
But if we get it wrong we could set ourselves back a decade.
Any new legislation, therefore, must pass three key tests:
First, every proposal should be grounded in conclusive evidence…
…evidence that demonstrates a need for intervention.
Where the anecdote or political whim should never be used as an alternative to hard, quantitative analysis.
Second, new proposals should deepen and strengthen the single market.
Adhering to the principles of open and fair competition; non-discrimination; and transparency.
Vested interests who find competition difficult to deal with shouldn’t be allowed to roll back the progress MiFID has brought.
And third, new legislation must be good for Europe’s global competitiveness and for the Single Market… with a sophisticated understanding of how different markets work.
Market regulation in Europe needs to recognise that we don’t work in isolation to the rest of the world.
That the finance industry is a vastly complex web of trades, liabilities, shares, and holdings….
…and if you attempt to cut these strands, it would only weaken - not strengthen - the system as a whole.
Instead, we must ensure that the web remains strong - that we can see where dependencies lie and where problems might arise, as well as benefitting from its many interlinkages.
We need to have a clear understanding of the differences between predominantly national retail markets and genuinely global wholesale markets.
For instance, what works for regulation of equities - a homogenised trading instrument - should not be arbitrarily copied to bonds, sovereign debt, derivatives, or commodities markets.
Also, within each asset class, the markets have their own dynamics and features, which only properly informed regulation will understand.
Indeed each commodity market is unique - where electricity trades in a different way to gold, metals, or agricultural commodities.
And we shouldn’t ignore the fact that in each of these markets we face fierce competition from overseas… not just from traditional financial centres in the US… but increasingly from Asia.
At the same time, these emerging economies present us with huge opportunities to serve new and expanding markets.
But if - in our goal of making markets stronger and more resilient - we get our regulation wrong, these are opportunities that will fall by the wayside.
Firms will start to look elsewhere when it comes to matters of finance.
And this will feed through to our companies, our businesses and our citizens.
So how does the MiFID review bear up against these tests?
Well, there are some clear positives: for example:
- the SME finance proposals;
- the underlying theme of investor protection;
- And the potential to support G20 commitments on the regulation, functioning and transparency of markets.
I also recognise that impressive progress has been made by the Commission in developing proposals for derivative markets.
At the outset, I think it’s fair to say that they didn’t quite grasp all of the issues, but have worked hard to understand them through a genuinely consultative process.
This should be commended.
But the Commission have much more to do to convince me - and the industry- that they’ve genuinely grasped all the issues at stake…
…and that the review will live up to these challenges.
As the review itself is covering many new areas…
…areas that have never been subject to EU legislation before.
And any changes will have profound implications for tens of thousands of firms.
These concerns are exacerbated by the fact that European securities regulators have provided technical advice to the Commission… but their proposals in many areas have been either disregarded or ignored in the Commission’s proposals, with no explanation.
We must learn from the AIFM Directive and other proposals which - in their original form - were fundamentally flawed and lacked an understanding of how our markets operate.
So as the MiFID discussions progress, the Commission should continue to work with all interested parties:
- engaging with businesses across Europe with expert groups on specific areas;
- allowing particular care over legal drafting, to prevent unintended consequences;
- and, again, ensuring that all impact assessments are of the highest quality.
And I can assure you, Britain will be a positive and constructive partner in this process.
Where there are positive signs in the proposals, this engagement will be crucial to move the debate forward…
…especially in the area of SME access to capital markets.
Europe has some of the most dynamic growth markets in the world - AIM in London has almost 1,200 companies, New Connect in Poland 185, and Entry Standard in Germany 132 - to name just a few of these markets.
We should build on this success.
The Commission’s proposals for an “SME market” regime - to meet the needs of smaller companies - is an excellent starting point.
For it to work effectively, however, we should not make the mistake of reducing investor protection standards.
And I would like to see the Commission be a little more ambitious.
First, it would be good if Europe bought forward a package of reforms for SME finance - reforms which MIFID could facilitate - including, perhaps, early stage investment by business angels.
Second, the Review could go much further on retail investor protection, while ensuring no reduction in investor protection standards in any Member State.
The interventions here should be targeted and focused.
The execution only regime works well for millions of consumers; there’s no evidence to justify a major regulatory intervention.
But there have been problems with “misselling” of products by financial intermediaries… and this is an area the MIFID Review should address.
All intermediaries should make clear on what basis advice is provided.
And no firms providing investment advice should have their remuneration set by product providers.
And third, the Commission is missing a golden opportunity to avoid regulatory arbitrage between sectors.
By this, I’m referring to the delivery of reforms to PRIPs through two distinct pieces of legislative: MiFID and the Insurance Mediation Directive.
From where I’m standing, this poses more risks than rewards… and will be bad for the single market.
So I hope the Commission will take every step necessary to ensure a joined-up approach, with similar products being sold according to the same rules.
Turning now to the issue of market structure.
Financial markets are diverse and a one-size-fits-all approach to market regulation will not always work.
Areas such as the governance of trading platforms and venues; pre- and post-trade transparency requirements; and transaction or position reporting; all spring to mind.
If we look at the European equities, MiFID has bought greater competition to the market.
Some incumbent operators, facing challenges to what were previously monopolistic market shares, appear uncomfortable with this.
The answer, however, is not to rein back competitive forces, but to make the markets work better and more efficiently.
A consolidated tape would be a great start… to deal with more fragmented markets.
It would ensure that all post-trade data in equities markets is clear, understandable, and properly joined up.
And provided there are common standards for trading platforms to provide this data… there’s no reason for preventing private sector providers from offering this service.
Also, as a result of MIFID, new forms of trading platform have emerged, and these require a more tailored regulatory framework.
But the suggestion of creating a further category of ‘organised trading facilities’ is ill defined - is Europe certain on what it’s trying to achieve here?
It’s very unclear what will be included in this rather opaque category.
Would an individual owning two computers - which run part of their trading systems - amount to an organised trading facility that needs registering with regulators?
I hope not, but it’s a possibility.
In this example, applying a one-size-fits-all regulatory approach to a vague and ill-defined category of facilities clearly makes no sense.
Not just for the firm, but also the regulator.
Regulators need to know who they should be looking at and why.
I know that the G20 has agreed that ‘all standardised OTC derivative contracts should be traded on exchanges or on electronic trading platforms - where appropriate - and cleared through central counterparties’
The Dodd-Frank Act has set out the high level principles for how the US intends to address this very issue.
But as we develop our own definition in Europe we need to remind ourselves of what it is we’re looking to achieve:
- the mitigation of systemic risk;
- enhanced transparency;
- and added protection against market abuse.
Not all derivatives deemed eligible for central clearing will necessarily be suitable for platform trading- we must look at the facts rather than make broad assumptions.
Competition between venues is critical… and at a time when Europe has record financing needs… we must have well functioning, liquid markets.
Again and again in the MIFID review, we come back to evidence.
As there are a number of areas where much more analysis is needed before we can decide on what action, if any, is required.
Such as, what are the relative costs and benefits of high frequency trading?
Do they add to liquidity?
And what should the regulatory regime be?
Not enough has been done to answer these questions…
…and the same could be said for so called ‘dark pools’.
The case for intervention here is often exaggerated… suffering, perhaps, as a result of its slightly sinister name.
In reality, less than 2% of all equities trading is conducted entirely in the “dark”.
And they have an important role in liquid markets.
So while we support the thrust of the Commission’s ideas on broker crossing networks… I would again question why - once a bespoke regime is in place - there needs to be an automatic threshold to define a multilateral trading facility.
And finally, in developing all this legislation, we should bear in mind that protectionist attempts to close down our borders or balkanize markets by currency or geography will do huge damage to European growth.
As will seeking to impose so-called ‘strict equivalence’ to detailed European standards before anyone can do business in the EU.
Based on recent IMF data, last year non-EU investors provided 27% of the total investment in EU cross-border securities.
This means $5.2 trillion of all cross-border investment in the EU came from outside of the Union.
It’s clear, therefore, that Fortress Europe is not the answer to strengthening our competitiveness.
This is something, I’m sure, we all agree on.
When it comes to finding the best solutions for Europe, we’re at our most effective when we work with you and engage openly on our priorities.
Where we both share analysis to back-up our proposals.
Which is why the industry has just as important role to play as Government. EU regulation will have a direct impact on the business you transact.
As we need more hard-headed analysis.
To strengthen our argument.
Make clear our concerns.
And deliver outcomes to suit everybody’s needs.
That is the message I’d like to leave you with.
That if we want to see a robust European regulatory framework that supports competition and open markets then we must work together.
That as a Government, we can’t achieve this alone.
We’ll need your engagement.
And your positive ideas for reform.
So that any amendments to the current rules are:
- Proportionate - not overbearing.
- Grounded in fact - not political whim.
- And look to support stability, growth, and competitiveness.
That is what Britain is looking to achieve.