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04 July 2007

Observations on EU/US Financial Relations

Observations on EU/US Relations in Financial Services
This paper takes as its starting point the formal declarations made at the April 2007 EU/US Summit (full text). This codified the formal agenda, but there are other items that will become important depending on the flow of financial events. Banking and insurance will certainly remain high on the agenda.
Annex 2 Lighthouse Priority Projects
Financial Markets. Promote and seek to ensure conditions for the U.S. Generally Accepted Accounting Principles and International Financial Reporting Standards to be recognized in both jurisdictions without the need for reconciliation by 2009 or possibly sooner
Annex 6 Financial Markets
In light of the considerable differences that exist between financial market structure and regulation on both sides of the Atlantic, and given the consolidation underway globally and transatlantically in this sector, we resolve to take steps, towards the convergence, equivalence or mutual recognition, where appropriate, of regulatory standards based on high quality principles. In particular, we resolve to maintain the existing informal Financial Markets Regulatory Dialogue (2004 launch text) and focus on the following areas:
A Strengthen cooperation to promote smooth implementation of the Basel II framework for banks, notably to address transitional issues and minimize differences of implementation between the EU and United States;
B Promote conditions for the U.S. Generally Accepted Accounting Principles and International Financial Reporting Standards to be recognized in both jurisdictions without the need for reconciliation by 2009 or possibly sooner;
C Fully support roadmap discussions between the Public Company Accounting Oversight Board and the European Commission in the area of auditor oversight;
D Advance convergence in the area of reinsurance regulation;
E Work on greater regulatory convergence towards highest quality and most effective regulation and, where appropriate, mutual recognition in the fields of securities regulation; and
F Increase cooperation between EU and U.S. financial regulators.
For securities markets, the critical issues appear to be:
  1. Accounting standards,
  2. Audit,
  3. Mutual recognition in the fields of securities regulation” and
  4. Co-operation between regulators.
But the issues of financial stability arising from the activities of hedge funds are also rising rapidly, even if not on this formal agenda. However, the vexed problem of de-registration by foreign companies was largely solved by new SEC rules announced in February 2007. So one success has been achieved already.
This analysis will focus on topics 1-3, though recognising that the financial stability question is at the heart of the problems about regulatory co-operation. Moreover, the private sector wishes to ensure that there is a very broad discussion – epitomised by the EU-US Coalition on Financial Regulation. Their agenda (2005 text) runs to 177 pages of great detail but the governments have chosen to restrict attention to the broad issues – at least initially.

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Around 2002, the US and the EU began to realise how inter-connected they really were when they discovered in the EU’s Financial Conglomerates Directive and the Sarbanes-Oxley Act that in setting policy, there were inevitable but unintentional regulatory spill-overs on other jurisdictions and companies. The depth of this change began to become clear to me personally when I chaired a breakfast briefing with William Donaldson, then SEC chairman, on the EU-US regulatory relationship in January 2004. This was the first visit by an SEC Chairman to Brussels and was part of their plan to strengthen relations with its closest counterpart in Europe in an attempt to avoid further regulatory conflicts between the US and the European Union. The move to establish formal ties with CESR also underlined its growing importance.
Since then, through the EU-US Financial Markets Regulatory Dialogue, co-operation has been built and has yielded tangible results already: cooperation on financial conglomerates; cooperation on accounting standards, agreement to changes on reinsurance and on deregistration rules, launching roadmap discussions on equivalence of each other’s audit oversight bodies.
So the April 2007 EU/US Summit was building on established procedures as far as financial services are concerned. But the Summit also announced the creation of a Transatlantic Economic Council to be chaired by a US Cabinet member and a European Commissioner. It is to accelerate progress and will meet once a year, prepare an annual report to the Summit and oversee a formal work programme that includes setting targets and deadlines.
So there are some teeth to the process and, certainly within the financial sector, there is a strong private sector willingness to achieve results. This raises the chances of more far-reaching convergence but, in Commissioner McCreevy’s words “Tentacular extra-territoriality has no place in this co-operative environment.” From the EU side, all steps will be seen through that prism – and already difficulties are surfacing.
Perhaps underlying this sudden conversion by the US is the dawning realisation that the EU is creating a genuine alternative to US markets, and thus their economic and political power. The euro is a growing alternative to the US dollar and the trend by foreign issuers to raise new capital in London instead of New York has focussed US minds on the ailments of the US system. When London raised more equity capital last year than New York, the alarm bells rang loudly!
The “financial branch” of the US political class has reacted with its normal swiftness – producing various reports that identify the problems and proposing solutions. The question may now be: will their political system permit the necessary changes, as some of it strikes at the heart of the litigious society? To an outsider, the US seems to be dominated by lawyers and that may be especially true of the SEC. By contrast, the EU’s development has been driven by visionary politicians. In the economic arena, they have been assisted by economists intent on designing an economically viable system. Critically, the lawyers are invited to draft the necessary legislation only after the economics are resolved. Will the US be able to rise to the new challenges – and quickly, given the probable change of SEC Chairman after the 2008 Presidential election? The answer will be important beyond financial services.

Accounting Standards
Some key Events in the Timeline:
2003: EU adopts IAS for all EU-listed companies for financial years starting in 2005 (but with carve-outs for parts of IAS 32 and 39).
April 2005In the context of the EU-US Financial Markets Regulatory Dialogue the EU and US reached agreement on a ‘roadmap’ toward equivalence between International Financial Reporting Standards (IFRS) and US Generally Accepted Accounting Principles (GAAP). The roadmap establishes a goal of eliminating the requirement as early as possible between now and 2009 at the latest. Achieving that goal would, among other things, depend on a detailed analysis of the faithfulness and consistency of the application and interpretation of IFRS in financial statements across companies and jurisdictions, and continued progress on the IASB-FASB convergence project.
Feb 2006 The Securities and Exchange Commission welcomed the announcement by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) of a memorandum of understanding about their work plans from 2006-2008.
SEC Chairman Cox said that “The SEC is working diligently toward the goal of eliminating the existing IFRS to U.S. GAAP reconciliation requirement.”
Aug 2006 CESR and the SEC published a joint work plan which will guide the CESR-SEC Dialogue in the immediate future and will be implemented immediately. The main focus of the work plan is the application by internationally-active companies of US GAAP and IFRS in the European Union and the United States, respectively. In addition, the staff of CESR and the SEC will forge a closer dialogue on the modernisation of financial reporting and disclosure information technology, and regulatory platforms for risk management.
March 2007 Speaking at the SEC Roundtable in Washington, Commissioner McCreevy outlined the progress so far achieved on the changeover to IFRS in Europe. “I am very pleased to be able to say today that the move towards IFRS has been going well”, he said noting that the introduction of 40 new standards plus interpretations has given rise to some application and interpretative issues.
April 2007 SEC announced a series of actions it intends to take relating to the acceptance of financial reporting in International Financial Reporting Standards (IFRS) as published by the IASB. The Commission anticipates issuing a Proposing Release this summer that will request comments on proposed changes to the Commission’s rules which would allow the use of IFRS in financial reports filed by foreign private issuers that are registered with the Commission. The approach in the proposed rule would be to give foreign private issuers a choice between IFRS and U.S. GAAP. In addition, the Commission plans a Concept Release relating to issues surrounding the possibility of treating U.S. and foreign issuers similarly in this respect by also providing U.S. issuers the alternative to use IFRS.
(Note the influential role of the Roadmap, as part of the over-arching political process: SEC Chairman Christopher Cox said “The next steps that the Commission is announcing today will keep us on course with the Roadmap announced in 2005”. The SEC Chief Accountant said “Mindful of the Roadmap, we are working expeditiously to develop our recommendations for the Commission to consider.”)
June 2007 In a joint press release by Ms. Pervenche Berès, Chairwoman of the Economic and Monetary Affairs Committee, and Mr. Alexander Radwan, Rapporteur for the upcoming report on the IASB, criticized that the way the SEC envisages accepting IFRS as this undermines the role that European legislators and supervisors play in international accounting standard setting.
They recall that it was the EU decision to make IFRS mandatory for listed EU companies that gave IFRS global prominence. Other jurisdictions, e.g. New Zeeland, Australia, Hong Kong, followed the EU in requiring some or all of their companies to use IFRS. Even if many jurisdictions and standard-setters world wide are concerned the IASB pays disproportionate attention to the US Financial Accounting Standards Board (FASB). These two Boards have agreed a programme for convergence of the principle-based IFRS and the rules-based US accounting standards.
Using this programme for convergence as cover, the IASB has already imported certain parts of US GAAP, without considering either the implications for the quality of IFRS or the implications for the jurisdictions which require companies to apply IFRS. With its plans to import more American accounting standards, the IASB could undermine its own success by moving away from principle-based IFRS, a move that will lead to a rules-based regulation creeping into the EU. Ms. Berès and Mr. Radwan consider that this is in no- one’s interest.
The international accounting standard-setter must be reformed and must focus on the needs of companies, investors, users and preparers in the jurisdictions requiring IFRS - the main customers of the IASB. Moreover, the oversight of the IASB must be improved and made more accountable to the public in order to ensure that the international accounting standard-setter actually works in the public interest - as it claims to do as one of its primary goals.
The issues:
The SEC views its opening up as being an opening to all parts of the world that share its values of investor protection, and not limited just to the EU. Its settled view is that only one alternative accounting system can be accommodated by US investors and it has chosen IFRS – as enacted by the IASB itself. Moreover, the only acceptable version is that in English – another provocative statement when viewed from the perspective of some in the EU who will only use the code language statement of a “commonly-used business language”. Nonetheless, some users seem quite relaxed about this and point out that it is in the EU’s broader interests to have a single set of standards that are indeed accepted globally.
SEC staff argue that the EU version of IFRS is merely a carve out for two options on IAS 32/39 so a company can readily choose not to use that opt-out if it wants access directly to US investors. However, European Parliamentarians argue that the EU’s adaptation of IFRS goes beyond that simple optionality. But this is really an argument about the governance of the IASB as acceptable governance should lead to a corresponding acceptance of the resulting standards.(Given the technical complexity of this argument, has decided to hold an event in December to examine these competing views.)
Currently, the SEC seems minded to accept that the different interpretations of IFRS that are becoming apparent at this early stage of adoption can be resolved – especially using CESR’s database of decisions on interpretation. Then the SEC can argue that IFRS is genuinely a single accounting system. That would open the way to accounts for the period ending in December 2008 (and thus to be reported to the SEC by June 2009) not to require reconciliation. This would meet the Roadmap. However, CESR is committed to ruling on the equivalence of accounting standards in 2008 so a delicate diplomatic game may be played out in the final stages!
Some key Events in the Timeline:
Oct 2005 Agreement on Directive on Statutory Audit
The Directive aims at reinforcing and harmonising the statutory audit function throughout the EU. It sets out principles for public supervision in all Member States. It also introduces a requirement for external quality assurance and clarifies the duties of statutory auditors. It also foresees the use of international standards on auditing for all statutory audits conducted in the EU. The law also requires the application of the International Standards for Auditing (ISA) in European auditing.
Commissioner McCreevy welcomed the agreement. ”This is a crucial Directive, which will bring EU financial reporting into the 21st century by introducing a much more rigorous and ethical audit process for company accounts. Importantly, it will also require the application of international auditing standards and establish criteria for public supervision”.
April 2006 Formal Adoption
“International aspects: auditors and/or audit firms from third countries that issue audit reports in relation to securities traded in the EU must be registered in the EU and be subject to member state systems of oversight, quality assurance and investigations and sanctions. Only auditors or audit firms that meet quality criteria equivalent to the directive can be registered. The directive allows for exemption from registration, oversight, quality assurance and investigations and sanctions only if audit firms from third countries are subject to equivalent systems of registration and oversight.”
Oct 2006  Commissioner McCreevy on Implementation of the Directive on Statutory Audit
The successful implementation of the Directive on statutory audit will be a key priority for the next two years in the EU. A cornerstone in the Directive is the move to International Standards on Auditing. European listed companies have already moved to one set of accounting standards for their group accounts – the International Financial Reporting Standards (IFRS). In auditing, we should move in the same direction. The Directive creates a mechanism for the introduction of International Standards on Auditing in the EU.
One of the conditions which have to be fulfilled before we can adopt ISAs in the EU is to ensure sound governance of the standard setters. Proper due process, public oversight and transparency are the elements to make sure that standard setters fully understand the real world consequences of their actions.
That's why I am very happy that recently, we have been able to sketch out an international understanding on the governance of the International Auditing and Assurance Standards Board (IAASB) and the Public Interest Oversight Board (PIOB). This will allow us to move closer to the adoption of ISAs and I also think that the two EU observers should become full members of the Public Interest Oversight Board.
Cooperation with third countries: To enhance practical coordination between EU audit regulators the Commission has set up the European Group of Auditors' Oversight Bodies – the EGAOB.
The EGAOB can be seen as the common face towards third country public oversight systems. I welcome very much that Mark Olson and the Presidents of the European audit regulators will come together at an EGAOB meeting tomorrow. This is exactly the kind of close collaboration we need. And in future we will need it on an even more regular basis and at all levels – from the technical to the political.
But we have to ensure that our local regulatory frameworks are compatible and help international cooperation.We need to find ways to ensure high quality audits without smothering business with unnecessary regulation. Look, for example, at the accounting field. We are on good track now to get rid of costly reconciliation requirements for EU companies in the US by 2009. There are high quality standards in place in both jurisdictions. There has been a growing realisation in the EU and the US that we should be able to rely on the other sides' standards without saddling another, costly layer on top.
I think this is a model that should be followed for auditing, too. Both the EU and the US have put, or are putting in place high-quality public oversight and supervision of the auditing profession. Let's find ways of relying on each others' structures to avoid costly regulatory overlaps.
This is the approach we want to take in the EU. The Directive on statutory audit invites the Commission to assess whether third countries with companies listed on regulated markets in the EU have public oversight systems equivalent to EU public oversight. Audit firms from countries with equivalent systems will not have to register individually with European audit regulators.
Equivalence in this respect does not require systems to be fully identical. What we need to see are similar high-quality structures and procedures. We want to get to the point where we can have registration and inspection carried out by authorities in those non-EU jurisdictions – and as fast as possible. Sending inspectors abroad is costly and not really a trust building measure.
Estimates show that there are several hundred audit firms from a substantial number of third countries active in the EU. Not all will be affected by the Directive, but nevertheless the process of assessing the equivalence of home country systems will take its time. On the basis of the information we now have available, I hope that the Commission, in cooperation with the EU Member States and the European Parliament, will have settled the equivalence issue by the end of next year….
This morning PCAOB chairman Mark Olson and I have agreed to deepen EU-US cooperation on audit regulation. The starting point for cooperation between oversight bodies should be the home country principle. This is why we have agreed today to launch roadmap discussions on equivalence of our respective auditing systems. We want to move towards full reliance on our respective auditor public oversight systems, in the same spirit as in accounting. Equivalence does not require systems and standards to be identical but robust enough to ensure investor confidence. Robust enough for each of us to have confidence in each other. I believe that we should also work to find a way to narrow down differences in auditing standards. The aim is to have, by 2009, inspections of audit firms carried out by their home-country public oversight body - and not by host country inspections which are legally and organisationally cumbersome.
Jan 2007 The British Bankers Association said that it has serious concerns over the 8th Directive on Statutory Audit. As it is currently worded, the Directive will have an adverse impact on third country companies trading on the UK market by potentially requiring them to be audited by an auditor registered in the UK.
The BBA has already raised these concerns in November 2006 with the European Commission and consequently the Commission has launched a consultation on applying transitional measures until equivalence of third country oversight into auditing is established.
March 2007 Commissioner McCreevy and PCAOB Chairman Olson met to discuss steps to enhance cooperation between the PCAOB and European auditor oversight bodies and advance collaborative efforts in 2007. Both agreed to launch roadmap discussions on cooperation between the PCAOB and EU regulators. The goal is to enable the PCAOB and EU auditor regulators that have independent and rigorous oversight systems to move toward full reliance by 2009.
The PCAOB will consider issuing further policy guidance regarding its reliance on non-US regulators. The PCAOB plans to consult with key jurisdictions worldwide, including the European Commission and the EU Member States, as part of developing such potential guidance.
Both sides will confer in October 2007 on the progress of the PCAOB’s policy guidance as well as the work on the equivalency and other determinations that are required under the EU’s Statutory Auditor Directive.
Commissioner McCreevy noted “the principle of equivalence can also be applied in the field of EU-US cooperation on audit regulation …The starting point for cooperation between oversight bodies should be the home country principle. This is why we have agreed today to launch roadmap discussions on equivalence of our respective auditing systems…The aim is to have, by 2009, inspections of audit firms carried out by their home country public oversight body - and not by host country inspections, which are legally and organisationally cumbersome.”
The issues:
The financial scandals at the turn of this century awakened policymakers to the weaknesses of the auditing systems and there were a spate of measures enacted (SOX, the 8th Company Law Directive on Statutory Audit). As these measures moved into the implementation phase, some of the shortcomings of quick legislation became apparent. In particular, both the US and EU wanted to have oversight of the auditors for securities purchased by their investors. Global investors, global securities and global markets seem to require global auditors. But who will oversee their work? (A separate issue is their liability for their work!). The key issue that underlies this debate in the EU is the unwillingness to see US “tentacular extra- territoriality” – in McCreevy’s splendid phrase.
Given the deadline of 2009 for recognition of the accounting standards, it is obvious sense to have the same timeframe for recognising the accountants who apply the standards. But this will require a careful comparison of the substance of the two bloc’s systems.

Mutual Recognition of Securities Regulation
Some key Events in the Timeline:
2006: Bids for EU Stock Exchanges by US exchanges crystallise the long-running concerns about equality of access for example, the inability of EU futures exchanges to have screens in the US.
June 2006 FSA statement to encourage discussion of the potential longer term implications of any change of ownership of a UK Recognised Investment Exchange. The possibility of ownership of the LSE by a US entity has raised questions about whether, and to what extent, US law and regulation might impinge on the operation of the exchange and its markets and the companies listed on them.
'In respect of the LSE, neither the FSA nor the SEC consider that US ownership of the LSE, in and of itself, would result in US regulations, including Sarbanes-Oxley, applying to companies listed or quoted on its markets or member firms of the LSE.
'Over time, a combined group, although continuing to operate separate subsidiary exchanges, may seek to harmonise aspects of both markets in respect of its trading platform, rules, membership arrangements and listings of companies.
'Harmonisation of trading rules would need to be consistent with US and UK standards, including those required by the Markets in Financial Instruments Directive - to be effective by November 2007.
'However, we believe that there could be circumstances where a more complex regulatory position might arise. Theoretically, in the longer term, a new entity might seek to achieve further benefits from rationalisation of its regulatory structure. This could at the extreme involve the LSE no longer being subject to UK regulation as an RIE. Its services might be provided from outside the UK, either from the US, another EU member state or an alternative location, through the provision of trading screens in the UK and with securities admitted to trading on the market operated from elsewhere. Such a move, were it to occur, would potentially have significant implications for various aspects of the wider regulatory regime as indicated in our February 2005 statement. If such a market were to be operated from the US it would require member firms and issuers to be registered with the SEC and subject to its oversight.
June 2006 The SEC Office of International Affairs and the Divisions of Market Regulation and Corporation Finance released a fact sheet concerning potential cross-border exchange mergers. The SEC wants to ensure that all affected parties clearly understand the regulatory issues created by such mergers. Particularly, the SEC states that:
 Cross-border exchange mergers would not result in mandatory registration of a non-U.S. exchange with the SEC, and .
 Those forms of integration also would not result in the mandatory registration of a non-U.S. exchange’s listed companies with the SEC or the mandatory compliance with the provisions of the federal securities laws, including the Sarbanes-Oxley Act, that would derive from that registration.
 Joint ownership of a U.S. exchange and a non-US exchange would not result in automatic application of U.S. securities regulation to the listing or trading activities of the non-U.S. exchange.
A non-U.S. exchange would only become subject to U.S. securities laws if that exchange is operating within the U.S., not merely because it is affiliated with a U.S. exchange.
Winter 2007 Harvard Intl Law Journal: “This Article proposes a new framework to apply to foreign financial service providers accessing the U.S. capital market, by providing investment services and products not otherwise available on the U.S. market. Rather than requiring such foreign stock exchanges and foreign broker-dealers to register with the SEC, as is currently the case, the proposed framework relies on a system of substituted compliance with SEC regulations. Instead of being subject to direct SEC supervision and U.S. federal securities regulations and rules, foreign stock exchanges and broker-dealers would apply for an exemption from SEC registration based on their compliance with substantively comparable foreign securities regulations and laws and supervision by a foreign securities regulator with oversight powers and a regulatory and enforcement philosophy substantively similar to the SEC’s. The SEC would still retain jurisdiction to pursue violations of the anti-fraud provisions of the U.S. federal securities laws. The comparability finding would need to be complemented by an unambiguous arrangement between the SEC and its foreign counterpart to share extensive enforcement- and supervisory-related information.”
Jan 2007 The College of Euronext regulators announce the signing of a Memorandum of Understanding with the US SEC. The Memorandum lays down the willingness to cooperate in the areas of investor protection, fostering market integrity, and maintaining investor confidence and systemic stability. They will also consider the regulatory implications of further levels of integration of markets.  The MoU will become effective upon publication by Euronext Paris S.A. of a declaration that the thresholds for acceptance of the NYSE Euronext offer have been reached. The signing of the MoU follows the approval by the Chairmen's Committee of the Euronext regulators of the Euronext / NYSE combination.
April 2007 EU/US Summit commitment:
E Work on greater regulatory convergence towards highest quality and most effective regulation and, where appropriate, mutual recognition in the fields of securities regulation;
April 2007 CESR Chairman and US SEC Chairman Christopher Cox met as part of the ongoing CESR-SEC dialogue. The discussions included the progress to date on the joint work plan as agreed in August 2006 to facilitate the CESR-SEC dialogue …Other issues included the mutual recognition of securities regulatory regimes, and the imminent agreement on the framework protocols covering the confidential exchange of information.  “The model protocol that the SEC and the Committee of European Securities Regulators finalized today will serve as a blueprint for bilateral arrangements across the continent [author’s emphasis]”, SEC Chairman Christopher Cox said.
May 2007 SEC Commissioner Atkins: “Speaking of roundtables, two weeks from now, the SEC will host a roundtable on the subject of selective mutual recognition. The roundtable will focus primarily upon the issue of substantially comparable regulation. This is an interesting topic for academics and policy wonks, but I am afraid that we are in danger of dissipating our opportunities to make real progress in the near-term on more practical issues that have immediate pay-back… As optimistic as I am about the prospects of mutual recognition in the area of accounting standards, I am less certain of the imminence of mutual recognition in the world of oversight of securities firms and exchanges. Two SEC staff members recently published an article discussing an idea of substituted compliance. Although speaking for themselves, they deal with a topic that has been under consideration in one way or another by the SEC for more than twenty years. Their article at least has focused renewed attention on the matter.
In sum, their vision is to make a financial intermediary’s eligibility to participate in U.S. markets contingent on its supervision under a foreign regime that has a regulatory scheme substantially comparable to that in the United States. I have long been a proponent of more flexible treatment of non-U.S. firms in the U.S. markets. U.S. investors will be the ultimate beneficiaries if restrictions are eased.
When we talk about “mutual recognition” and “substitute compliance,” we should be careful about our terminology and how we set out to achieve our goals. It can be all too easy to insist on actual harmonization of regulations between various jurisdictions – as in a rule-by-rule comparison of how each regime puts its principles into effect. If the rules are not in harmony, then must the jurisdictions work to bring them into harmony? That may be a great goal, but to me, this is a bottom-up approach and would result in a completely unworkable and potentially never-ending process. Unfortunately, the process suggested by this article would too easily devolve into this sort of impractical approach.
Basically, the article’s suggested process would begin with each individual foreign firm’s applying for an exemption from SEC registration. The SEC would then engage in discussions with the regulatory regime overseeing the firm, and if necessary seek to eliminate any regulatory gaps. The process would also include an assessment of the firm, with a public notice-and-comment process before approval of the exemption. To top it off, the article suggests that the United States could enter into a series of bilateral treaties with each counterpart nation. To say the least, this does not sound very practical. It certainly is not achievable in the near term.
An alternative framework to that suggested in the article would be a top-down approach. In this regard, the SEC has much to learn from our fellow American regulators, such as the Commodity Futures Trading Commission (CFTC) and Federal Reserve. The CFTC, for example, first identifies the important elements that a compatible regulatory jurisdiction should embody. In the SEC’s case, this would include investor protection standards, such as protection against misappropriation of customer assets, fraudulent sales practices, financial responsibility of registered entities, effective examination, and licensing and qualification of brokers. Then, instead of examining each rule of the foreign jurisdiction, we would assess the adequacy of that jurisdiction’s oversight. Thereafter, a firm could be eligible for exemption.”
June 2007 Commissioner McCreevy at the FESE Conference: “On mutual recognition the Commissioner stressed the “need to discuss in our Financial Markets Regulatory Dialogue with the SEC and agree the basic framework for mutual recognition of each other's rulebooks and supervisory and enforcement practices.”
“In my view, rulebooks should be assessed on agreed, equal and transparent criteria to determine whether they are substantially comparable”, McCreevy said. However, “there should be no cherry-picking. Brokers and exchanges from any jurisdiction meeting the agreed criteria should be given access and there should be full reciprocity.” This however, does not necessarily mean uniform rules. “We need to be pragmatic in dismantling barriers to transatlantic business”, he underlined.
The issues:
The reality of inter-continental stock exchanges has forced the regulators to review their approach rather quickly. Nonetheless, the commitment at the Summit was merely to “work toward convergence … and where appropriate, mutual recognition.” But this seems to foreshadow the genuine possibility of a dramatic shift in traditional US policy.
The Harvard paper was “only” by two staff members and the Paris speech by Commissioner Atkins appeared to downplay it to a surprising extent given the immediately preceding Summit. However, a careful reading suggests that there may not be an inconsistency as Atkins is a long-standing liberal on these matters and it seems that all SEC Commissioners now believe that a “mutual recognition regime” is an idea whose time has now come. But how to do it?
The EU is just finalising the creation and then implementation of a body of law to provide a single legal framework across the entire Union. These final steps are epitomised by the FSAP and the consequent build-up of pan-EU co-ordinating committees of regulators in the various financial sectors. It is an essential part of the EU’s philosophy that agreed EU law takes precedence over national law so any inconsistencies can only be temporary. For implementation, the essence of Levels 3 and 4 of the Lamfalussy Process is to create uniform conditions across the EU of financial measures.
However, market participants (and Commission officials in private) would argue that implementation is not uniform across the Union. This may present a knotty diplomatic problem for the US. Nonetheless, it now seems likely that the SEC will propose a Rule as soon as October and that it will be accepted. The presumption must be that the SEC will believe that such a proposal will be acceptable to Congress as it will be within the SEC’s legal powers but is always subject to Congressional oversight.
This is where a clear reading of Atkins’ speech is revealing as the rule is bound to say that there can be mutual recognition – but subject to some conditions. If those conditions are in the form of principles – a top-down approach – then there is a reasonable hope for real change. Commissioner McCreevy said at FESE that they only need to be “substantially comparable”. Will the US lawyer community be able to restrain itself and accept such principles – or will they go the route feared by Atkins of bottom-up, rule-by-rule comparison? That would indeed take many years – and leave the door open forever to bureaucratic re-interpretations that would frustrate any real action.
The SEC has made abundantly clear that it has no intention of dropping its guard (and legally cannot) on investor protection. The rules and laws may be at the EU level so the great majority of any comparisons will be done for the EU by CESR. Moreover, the CESR Review Panle can fill in many US questions about how it is all done in practice. But, inescapably, examination, supervision and finally enforcement is at the national level. This underlines the importance of SEC Chairman Cox’s statement that the model MOUs will be at a bilateral level. The SEC has long-standing MOUs with the UK’s FSA and has just signed one with Germany’s BAFIN. Another is imminent with France’s AMF. How many more will actually be signed, as a necessary precondition to “selective mutual recognition”?
The EU may find it hard to accept that distinctions will be drawn between its Member States and the SEC has always stated that it is not in the business of judging foreign jurisdictions. But how many EU commercial entities will actually apply for mutual recognition of their EU “passport”? Will there be any applications from outside those states where the SEC is happy to sign an MOU?  Any substantive progress is likely to need a deft touch – but the demands of the market place are insistent. But the demands might all come from “acceptable” market places, thus avoiding the need for any discrimination.

© Graham Bishop

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