Single Minded

Written by Chris Huhne MEP and published in Bristish Americian Business 2002 on Fri 1st Mar 2002

With both French and German elections in 2002, most savvy political commentators expected zero political progress on European economic reform. When there are voters to please, most politicians are in no mood to make any concessions in a negotiation. But strange things happen, and in fact there are welcome signs of changes that will open up substantial business opportunities in the European Union particularly in financial services. Combined with the advent of the Euro, which took physical shape as notes and coin in January 2002, this breakthrough should create real momentum for reform.

The key development came when the European Parliament unblocked a fast-track procedure for the single market in financial services in February 2002. By allowing a substantial delegation of powers to a nimble official regulatory committee and to the EU Commission - subject, of course, to carefully extracted guarantees of consultation and openness - the European Parliament has set the EU off on its best chance of progress in this area since the first tentative steps were taken in 1973.

Financial services are the last major sector of the private sector economy - excluding sensitive areas of public procurement like defence - that does not have a real single market. Each EU securities market has its own regulator. If a company wants to make a share or bond issue, and reach out to retail investors across the EU, the likelihoodis that it will need no fewer than 15 separate prospectuses, each with slightly differing information requirements.

Both overt and covert protectionist practices - notably the insistence on local languages in France and Spain - are legion. After all, financial services are not just any old sector. It is the nerve centre of a market economy, funnelling savings towards their most efficient use, and hence allocating the key funds that determine the future growth path of the economy as a whole. At the same time, people assume that, at least when they make a bank deposit, the system will deliver the money back when they want it. This political sensitivity means that financial services are the most regulated sector of the economy in every market economy across the world.

But there is now real progress to report in aligning the rules that apply in the 15 EU member states. Not only is the Financial Services Action Plan - the collection of 40 measures including 20 legislative actions - on course to deliver securities market liberalisation by 2003, but the whole programme ought to be completed by the Lisbon summit deadline of 2005. Several measures - such as a revision of the unit trust (mutual fund) rules - have passed parliament and the council, the two chambers of the EU legislative process. A reform of the rules on cross-border pensions activity has gone through first reading. But most significant of all, the constitutional impasse between the Parliament and the EU Commission - which is charged with running policies once they are agreed - over delegated powers has been overcome.

This in turn means that the first two draft directives on prospectuses - aiming to deliver a passport to retail investors throughout the EU with one set of disclosure documents - and on market abuse - insider dealing - are on the slipway. Both contain the sort of delegated powers that Baron Lamfalussy and his wise men advocated. The Parliament, for its part, received the assurance that there would be a serious review of its oversight powers to include a call-back mechanism for delegated rules that it did not like. And it also won the concession that all such directives will include a sunset clause that suspends the Commission's and the committee's powers unless explicitly renewed. This four year close-down is the most effective guarantee that the Commission will respect its undertakings to be consultative and transparent in using its new powers.

Another key test will be the Commission's new proposals to set takeover rules across Europe, particularly limiting the availability of so-called 'poison pills' in defence of companies against a hostile takeover. The parliament rejected the last set of rules in a tied vote - ties always favour the status quo - which left substantial damage to its reputation as a reformer. The report subsequently undertaken by a group of experts has already proposed some interesting ideas which may have bought off the opposition of German MEPs, but which may create new problems elsewhere, particularly in advocating that dual-tier voting structures should have to ensure a substantial majority of all shareholders (including those with no formal or legal voting rights).

For a number of family holding structures, where control depends on multi-tier voting rights, this could be legalised theft, as one of Sweden's Wallenberg clan put it.

Nevertheless, the wily Dutch commissioner Frits Bolkestein should be able to find his way through, and it should now be possible to build on the substantial progress towards a single market that has become a reality due to the Euro. The big change is that currency segmentation - the breaking up into small national currency areas - has ended for the 12 countries and 301 million people in the Euro-area (which sadly still excludes, by their own decision, Britain, Sweden and Denmark). This means that institutional investors (such as insurers) are now able to create substantial portfolios of assets throughout the euro-area without taking any currency risk. Until the Euro, they were often strictly limited in the amount of cross-border investment they could do with a ceiling often of 5 per cent of the assets in non-domestic currency). The result in smaller countries was that bond investors would only buy the highest quality bonds - usually those of their own governments - because of the lack of any alternative. But the Euro means people are liberated from exchange rate constraints within the euro-area.

The most dramatic result has been the birth of an entirely new securities market in euro-denominated corporate bonds, with a sub-sector in high yield (or so-called junk) bonds. Much of the

dramatic mergers and acquisitions activity in Europe over the last three years - in each year running at more than five times the annual peak of the last European mergers boom - is due to the ease with which companies making take-overs can raise substantial amounts of finance. Europe is in the process of restructuring its economy, and the development of a single currency with a single financial market is a key driver for change. Europeans recognise that if we are to close the productivity gap with the United States, we need the competitive spur of a similar sized single market sharing a common currency.

The task of creating a single market in financial services may, though, be a little like peeling an onion. Every time a layer of difficulties is removed - whether currency risk or fast-track for City regulation - it merely serves to remind the Commission and others of other difficulties still to be tackled. For example, a key issue for any lending institution is how quickly it can get its money from a debtor who falls into default. And there is a widespread divergence in the speed and cost of different national legal procedures: it takes 2.5 months to repossess such collateral in the Netherlands against 48 months in Italy, and the cost varies from 6 per cent of the value in Germany to 19 per cent in Italy). Nevertheless, there is real progress, and each step along the way to a genuinely single market opens up possibilities of doing business that were undreamed of before.