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"Rushed" financial market risk reforms could create a "fortress Europe", House of Lords warns

Out-Law News | 12 Jul 2012 | 8:41 am | 2 min. read

Rushing proposed reforms to financial markets regulation could create a "fortress Europe", blocking third countries from accessing European markets, a House of Lords subcommittee has warned.

In a report on the European Commission's draft Directive and Regulation in Markets in Financial Instruments, a package known as MiFID II, the Committee said that the proposals contained "fundamental flaws" that needed to be corrected "as a matter of urgency" to avoid "serious damage" to the EU financial services industry.

"We are very concerned that the undue haste with which MiFID II has been brought forward means that the Commission simply hasn't had time to think through the implications of its proposals," Lord Harrison, chairman of the Economic and Financial Affairs EU Subcommittee, warned. "While we absolutely agree that a review of [the existing law] was needed, we simply can't risk locking third country firms out of EU financial markets or damaging the provision of investment services. It is vital that the UK Government, the Commission, Council and European Parliament ensure that, rather than being bounced into these changes, all steps necessary are taken to ensure that MiFID II is fit for purpose before it comes into force.

The existing Markets in Financial Instruments Directive (MiFID), implemented on 1 November 2007, created a harmonised regulatory regime for investment services across the European Economic Area (EEA). It created a 'passport' system allowing trading venues and investment firms to operate throughout Europe once they had obtained authorisation in their home state, as well as various competition and investor protection measures. Proposals for the revised package, MiFID II, were adopted by the European Commission in October 2011; partly in response to the financial crisis. The new proposals are designed to take into account developments in the trading environment since the original Directive came into force, including advances in technology and gaps in transparency to investors and regulators. It widens the scope of investment services needing authorisation from national regulators, as well as the range of investments covered.

The European Parliament and European member states are expected to reach agreement on the 'Level 1' proposals by the end of 2012, according to an information page on MiFID II by the Financial Services Authority (FSA), however implementation is not expected until at least 2015. The new framework will apply to a wide range of investment services from global investment banks trading complex securities to fund managers, stockbrokers and independent high street financial advisers providing advice to the general public.

In its report, the Committee said that although it "understood the thinking" behind the Commission's proposals a "one size fits all" approach could lead to "serious repercussions", particularly if UK traders were forced to demand the same pre-trade information regardless of the type of product. Ignoring the sensitivity of some trades, for example in the corporate and sovereign bond markets, for the sake of transparency risked "damaging liquidity and reducing competition" and could have a serious effect on market innovation, it warned.

Strict rules that would apply to 'third countries' from outside the EEA wishing to make investments were "ill-conceived", the report said. The European Parliament has, the Lords noted, already proposed amendments to the Commission's proposals, which as they stand could "lock third country firms out of the EU markets and risk "regulatory retaliation".

The Lords also said that the proposed ban on commission payments to independent financial advisers under MiFID II was "unworkable", as advisers would likely instead take steps to avoid being classed as independent. Under the FSA's own Retail Distribution Review (RDR) of the retail investment market, commission payments to any adviser will be banned.

The RDR will introduce consistent professional standards in the retail investment market when its rules come into force at the end of this year. Advisory firms will be required to set their own charges based solely on the level of service they provide rather than the provider or product that they recommend, and will have to clearly state whether their services are 'independent' or 'restricted'.