George Bernard Shaw said America and Britain were divided by a common language. This famous quote is all too apparent when surveying attempts by the US and European Union to agree on the wording needed for the new global financial regulatory regime. Five years after the $30 billion rescue of US bank Bear Stearns, which started a domino run of failures culminating in the collapse of Lehman Brothers, regulators on both sides of the Atlantic are still inching towards agreement on the key planks of the new architecture.
The two blocs, which include the world’s largest financial centres, are working to make the industry safer after the 2007-09 financial crisis, but differences in the ways banks and other institutions operate across regions have made this a difficult task.
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| Mark Carney, incoming Bank of England governor |
The latest sign of tensions came from a keynote speech in February by Michel Barnier, the EU internal market and services commissioner, who warned of market instability if the two blocs were seen to “part ways”. This was echoed last week by Mark Carney, the incoming Bank of England governor, who said trust was “strained” and there was a risk of “balkanization”. One issue that is clearly causing tensions is the proposal by the US Federal Reserve to force foreign banks to group all their units under a holding company, subject to the same capital standards as US equivalents.
David Strachan, co-head of the Centre for Regulatory Strategy at Deloitte, says this was perceived in some quarters as a measure by the US authorities to ring-fence and protect those operations in the US.
“One issue of real concern is that if the US does not reverse its stance – and I don’t think that is likely – then it sounds as if Europe may reciprocate,” he says.
“If that were to happen and other countries were to follow suit, then the trend we have seen over recent years towards fragmentation would worsen and that would certainly introduce significant inefficiencies and additional costs.”
He was also concerned by the divergence over derivatives regulation between European Market Infrastructure Regulation (EMIR), the EU’s market infrastructure rulebook, and the Dodd-Frank legislation in the US.
“What is clear is that there will be divergence in the detail of the implementation,” he says. “You can see it in the differences between the EMIR that deals with OTC derivatives and the equivalent legislation in the US.”
Over-arching these concerns is the Basel III global regulatory standard on capital and liquidity requirements for banks. Here, the EU and US have shown some unity in one sense: both failed to meet the G20’s January 1, 2013, deadline for implementation.
According to Richard Reid, senior research fellow at Dundee University and former research director at the International Centre for Financial Regulation, this reflects the underlying tensions.
He said Brussels and Washington displayed an attitude of not wishing to rush into Basel III. “Both sides of the Atlantic have concerns for different reasons,” he adds.
The US authorities are concerned about the impact on the large number of small banks that make up the American financial landscape, as well as Basel’s treatment of cash-flow hedges, deduction of mortgage-servicing assets, and the mark-to-market valuation of certain investment securities in the calculation of regulatory capital.
Meanwhile, politicians in the EU are more comfortable with the capital requirements but the delay in implementation is a tit-for-tat response to American foot-dragging and the challenges of crafting an EU-wide legislation across all member states, through the Capital Requirements Directive (CRD IV), which encompasses the Basel III binding requirements.
“There are reasons on both sides of the Atlantic for the delay in the adoption and the beginning of the implementation of Basel III with both sides thinking the other side is delaying to get a competitive advantage,” says Reid.
Strachan said the fact that the US never implemented Basel II had created an “element of anxiety if not suspicion” over the US’s intentions.
Reid says the reason the process grinds on is that it is better than admitting defeat. “If they have to have a slippage in adoption of six to 12 months, it’s important to keep the process going because we really don’t want to go back to square one and go through this whole performance again,” he says.
Nicolas Véron, an economist who straddles the two regions as a senior fellow at Bruegel in Brussels and visiting fellow at the Peterson Institute for International Economics in Washington DC, strikes an upbeat tone on the state of relations.
He said it was significant that Barnier had not used his speech to “hector” the US on its attitude to Basel III and was confident it would implement the agenda. “The EU and the US are likely to adopt Basel III around the same time, probably in both cases in the second quarter of 2013,” says Véron.