Various Documents considered by the Committee - European Scrutiny Committee Contents

1 Financial services



COM(10) 482

+ ADDs 1-2

Draft Regulation on short selling and certain aspects of credit default swaps

Legal baseArticle 114 TFEU; co-decision; QMV
DepartmentHM Treasury
Basis of considerationMinister's letter of 1 March 2011
Previous Committee ReportsHC 428-iv (2010-11), chapter 3 (20 October 2010) and HC 428-ix (2010-11), chapter 8 (24 November 2010)
Discussion in Council15 March 2011
Committee's assessmentPolitically important
Committee's decisionFor debate in European Committee B


1.1 The Commission held a four week public consultation on short selling,[1] during June and July 2010, following both the various restrictions on short selling imposed by most Member States in the autumn of 2008 and the concerns expressed by some governments about the possible role played by credit default swaps in relation to the prices for Greek sovereign bonds in the spring of 2010.[2] In September 2010, with this draft Regulation, the Commission proposed introduction of a number of permanent measures, as well as some temporary measures to be employed in adverse circumstances, in relation to the short selling of financial instruments.

1.2 When we considered this proposal, in October 2010, we noted that it was clear that the Government had, with good reason, considerable reservations about it, reservations which we shared. However before considering the document further, which we thought we were likely in due course to recommend for debate, we asked to hear from the Government about:

  • discussion of the draft Regulation in the Council working group, particularly in relation to the Charter of Fundamental Rights, to the potential for fiscal consequences of European Securities and Markets Authority interventions in sovereign debt markets, to the lack of an evidence base for the proposal and to the unquantified cost of the risks being addressed; and
  • representations made to the Government by UK stakeholders.

1.3 In November 2010 we were told that, during Council working group discussions:

  • in relation to the Charter of Fundamental Rights, several Member States had noted that certain provisions under the proposal might give rise to issues under Article 17 (right to property), specifically those proposals which would give competent authorities (and the European Securities and Markets Authority) the power to prevent natural or legal persons from entering into transactions relating to financial instruments in certain circumstances;
  • a number of Member States, including the UK, had raised concerns that the Commission proposals extended to sovereign debt and that the European Securities and Markets Authority would have powers to intervene in sovereign debt markets — this was on the basis that such measures could increase volatility and impair the liquidity of sovereign debt markets and thereby impair the ability of governments to easily raise funds and increase the costs of raising funds;
  • in response, the Commission and the Presidency had requested written representation from Member States on the fiscal implications of the proposals as they related to sovereign debt; and
  • a number of Member States had also raised the issue of the lack of evidence to justify the Commission's proposal, in particular as it related to sovereign debt, and to the unquantified cost of the risks being assessed — the Presidency had acknowledged that these issues need to be considered very carefully.

1.4 We also heard that the issue of sovereign debt had been discussed at the 25 October 2010 meeting of the Economic and Financial Committee's Sub-Committee on Bonds and Bills by Member States' debt management authorities — most interventions on this matter questioned the need for and the efficacy of the proposed Regulation with regards to sovereign debt markets.

1.5 As for representations the UK industry has made to the Government, we were told of various meetings by the Treasury and the Financial Services Authority with interested parties, and that:

  • the meetings set out the timing of the negotiations and possible next steps, followed by detailed discussion around the key issues of sovereign debt, the European Securities and Markets Authority, the restrictions around naked short selling, the marking regime and buy-in and fines for late settlement, with even more discussion with the Gilt Edged Market Makers (GEMMs) on the implications for sovereign debt;
  • the industry was very supportive of the Government's position and it had a helpful discussion around the wording of the primary market exemption;
  • the industry has also made direct representations to the Commission on the issues; and
  • the Treasury was working closely with the Debt Management Office and the GEMMs to strengthen the Government's position in its representations to the Commission and the Presidency.

1.6 We said that we looked forward to hearing in due course about further progress in the negotiations. We added that at that stage we might wish to recommend the debate we had previously foreshadowed. But meanwhile the document remained under scrutiny.[3]

The Minister's letter of 1 March

1.7 The Finance Secretary to the Treasury (Mr Mark Hoban) reports that:

  • there have now been seven negotiating meetings on the proposal;
  • the Presidency is aiming to table the proposal at COREPER on 9 March 2010; and
  • it is aiming to seek a general approach at the 15 March 2010 ECOFIN Council.

The Minister then addresses the questions we have asked about the Charter of Fundamental Rights, the sovereign debt market, European Securities and Markets Authority powers, the lack of an evidence base for the proposal and the question of unquantified risks attaching to the proposal.

1.8 On the Charter of Fundamental Rights the Minister says that:

  • the requirement for public disclosure of significant net positions in shares remains — as noted previously this may in some cases engage rights under Article 7 of the Charter, by requiring disclosure of personal information;
  • Article 7 has the same scope as Article 8 of the European Convention of Human rights;
  • the right to respect for private life is not absolute but qualified — a public authority may impose a restriction on it where the restriction is in accordance with the law and necessary in a democratic society in the interests, inter alia, of the economic well-being of the country;
  • the Government position is that the requirement for public disclosure does satisfy these conditions — it strikes the correct balance between providing a degree of restraint on excessive and potentially disruptive short selling, but does not deter legitimate and beneficial short selling;
  • the most recent Presidency text proposes a modification of the powers in Articles 17(3) and 24(1)(d) of the draft Regulation for national competent authorities and for the European Securities and Markets Authority respectively to prevent persons from entering into transactions;
  • under the revised draft this power may only be exercised in order to prevent a disorderly decline in the price of the financial instrument;
  • the use of this power may engage Article 17 of the Charter, if, for example, it is used to prevent a person from disposing of their lawfully acquired possessions (whether this right would be engaged would depend on the nature of the transaction which is forbidden); and
  • Article 17, however, is not an absolute right — the use of property may be regulated by law insofar as is necessary for the general interest.

1.9 In relation to sovereign debt the Minister tells us that:

  • inclusion of measures to restrict the short selling of sovereign debt and credit default swaps has generated significant discussion in the Council working groups;
  • the Government has continued to argue strongly for the removal of all references to sovereign debt from the proposal, on the basis that there is a lack of evidence to support the assertion that short selling of sovereign debt or sovereign credit default swaps has played a significant part in the recent financial crisis;
  • the Commission's credit default swaps taskforce report,[4] which was recently released to the public, did not support the need for regulation in this area;
  • officials have produced evidence to support Government views and highlighted the likely detrimental effect of the proposals on the ability of Member States to raise sovereign debt — for example, a joint HM Treasury and UK Debt Management Office paper was circulated to the Council; and
  • a number of other Member States have supported the removal of sovereign debt from the scope of the proposed Regulation.

1.10 Turning to the powers of the European Securities and Markets Authority the Minister says that:

  • the Government's aim has been to ensure that powers given to the European Securities and Markets Authority go no further than agreed in the regulatory and supervisory package, which created, inter alia, the authority, and that such powers must be exercised legally in accordance with the Meroni[5] principle;
  • the Government is continuing to raise concerns about the extent of the European Securities and Markets Authority's powers in the current Commission proposals, particularly with regards to discretionary decisions that may be taken by the authority;
  • it is therefore continuing to propose the deletion of Article 24 (on the authority's intervention powers), thereby limiting the authority's role to one of co-ordination in relation to measures taken by competent authorities — however, there is little support for this approach from other Member States;
  • in the Meroni case the Court of Justice made clear that EU institutions may delegate powers to independent executive or regulatory bodies only if the delegation relates to clearly defined executive competences, meaning that no power for making policy choices may be granted to the delegated body;
  • the delegated powers cannot consist of "a discretionary power implying a wide margin of discretion" — Article 24 of the draft Regulation, which gives the European Securities and Markets Authority the power temporarily to prohibit or restrict certain financial activities, allows such a wide discretion that it is difficult to reconcile the provision with Meroni;
  • concerns remain around Article 24 giving the European Securities and Markets Authority power to choose both the measures to be taken, and to whom those measures are to be applied — there are currently no criteria to determine how that choice is to be made or how the authority is supposed to judge the effectiveness of measures taken by Member States;
  • however, a number of Member States are keen to give a significant role to the European Securities and Markets Authority; and
  • the Government will continue to work with the Commission, Presidency and other Member States to secure a final text which confers only those powers that may lawfully be conferred on the European Securities and Markets Authority.

1.11 On an evidence base for the draft Regulation the Minister tells us that:

  • many of the key proposals still lack a convincing evidence base and the Government remains concerned by the extent to which Member States are asked to produce evidence to support their points of view;
  • the Government believes an ideal starting point should be the Commission providing evidence to support the need for proposals; and
  • as noted before the Government has taken every opportunity to provide evidence to support its arguments, including the paper on the proposal's effect on fiscal policy and sovereign debt.

1.12 As for unquantified risks the Minister says that:

  • the Government has expressed concern to the Commission that its impact assessment does not quantify costs of the risks being addressed;
  • specifically, the cost/benefit analysis is incomplete, in that figures are given only for the disclosure elements of the proposed short selling regime;
  • in addition, those disclosure calculations are based largely on estimates — for example, for sovereign bond exposure, where disclosure is made solely to national regulators, the Commission's expectations for the UK market are above £47 million for transition costs and above £5 million per annum on an ongoing basis; and
  • no further costs are available for the other (non-disclosure) measures proposed although these will be substantial, particularly for a flagging regime.

The Minister adds that the draft Regulation lacks a clear evidence base and rigorous impact assessment and that the absence of such analysis and compelling evidence is an increasing concern in relation to Commission proposals. He suggests that we might wish to consider how we could work with other national parliaments to highlight the importance of evidence-based regulation to the Commission, particularly in the context of the number of proposals due to be published in the coming months.

1.13 The Minister also gives us a brief update on engagement with UK industry stakeholders, saying that:

  • the Government is working in close co-operation with the Financial Services Authority;
  • officials have also continued to consult with industry trade bodies and firms on a regular basis, holding their most recent consultative group meeting on 26 January 2011; and
  • the industry is entirely supportive of the positions taken by the Government on all the key issues in the draft Regulation.

1.14 The Minister also tells us about two issues on the draft Regulation where a successful conclusion appears likely. First, in relation to marking, he says that:

  • originally the Commission proposed that all short sales should be flagged on electronic trading venues;
  • the Government took the view that this was an unnecessary additional cost to business as there would be an overlap with the disclosure regime;
  • it is now in a position where the majority of Member States support the deletion of the marking provisions; and
  • the Presidency and the Commission have acknowledged the consensus in the Council and have deleted the relevant article from the text.

Secondly, in relation to buy-in and settlement, the Minister says that:

  • under this proposal trading venues would be required to buy-in financial instruments where there was a failure to settle trades;
  • there would also be a fine for late settlement;
  • the Government contends that buy-in requirements are unnecessary, on the basis that there is no evidence that short selling is a major cause of settlement failure;
  • if a provision is justified, it is the Government's view that it would be best dealt with in a horizontal measure in a proposal of wider application, such as the proposed Central Securities Depository legislation or the proposed Securities Law Directive; and
  • this view is supported by the majority of Member States.


1.15 We are grateful to the Minister for his latest account of developments on this draft Regulation. However we note that a successful outcome on sovereign debt and the powers of the European Securities and Markets Authority seems as yet uncertain. Moreover we are concerned that the Commission continues to fail to produce an evidence base for proposals in the draft Regulation and a proper cost-benefit analysis.

1.16 So we think the Presidency wish to secure a general approach on the matter at the ECOFIN Council on 15 March 2011 is wholly unjustified — a rushed conclusion would inevitably result in poor legislation. Moreover, as we have said before, there is a significant risk that Article 24 is unlawful in that it delegates too much power to the European Securities and Markets Authority, in breach of the Meroni principle. However much Member States want this agency to have a powerful role, the confines of EU law must be respected; otherwise the resulting legislation will be vulnerable to a legal challenge. It follows therefore that rather than clearing this document from scrutiny, we recommend that it be debated in European Committee B, so that Members can examine these contentious matters.

1.17 If the Government thinks it possible that sufficient progress may be made on improving the text of the draft Regulation as to allow it to support a general approach on 15 March 2011 the debate would, of course, have to take place before then.

1.18 As for the Minister's suggestion about national parliaments collectively emphasising to the Commission the importance of evidence-based regulation we will explore this possibility with other members of COSAC (Conference of Community and European Affairs Committees of Parliaments of the European Union).

1   The practice of selling assets that have been borrowed from a third party with the intention of buying identical assets back at a later date to return to the lender and with the hope of profiting from a decline in the price of the assets between the sale and the repurchase. Back

2   A sovereign credit default swap is a contract in which one party pays a fee to another party in return for compensation or payment in the event of the sovereign experiencing a specified credit event (such as where a sovereign repudiates or declares a moratorium on paying its debt). Back

3   See headnote. Back

4   See

5   Case 9/56, Meroni & Co, Industrie Metallurgische SpA v High Authority [1958] ECR 133. Back

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