MiFID II: Getting it Right for the City
and EU Financial Services Industry
CHAPTER 1: Introduction
Background
1. This report examines the European Commission's
proposal for a Regulation and a Directive on markets in financial
instruments, commonly referred to as MiFID II.[1]
The proposal was published in October 2011, following a review
of the original Markets in Financial Instruments Directive (MiFID
I), in force since November 2007.
2. MiFID is the successor to the Investment Services
Directive of 1993 and is the foundation of the EU regulatory framework
for investment firms. These firms encompass a wide range of activity
such as global investment banks trading complex securities, fund
managers investing pension funds, stock-broking firms and small
high street financial advisers providing financial advice to the
general public. The Commission's objectives in terms of MiFID
are to open up trading in securities to competition so as to reduce
transaction costs for investors, to apply equivalent regulatory
rules to different market models which perform similar functions
and to enhance, standardise and harmonise investor protection
across the EU. These objectives give effect to the broader EU
Treaty objective of creating a single market in financial services
in the EU. MiFID II responds to deficiencies in the MiFID I regime
exposed by the financial crisis. It focuses in particular on addressing
problems that have arisen from the expansion in over-the-counter
(OTC) trading in comparison with trading on exchanges and the
related issue of transparency of such trading. MiFID II carries
fundamental implications for the nature and shape of financial
markets by shifting trading from the more opaque OTC market to
more transparent organised markets.
3. In order to aid our scrutiny of this important
and complex legislative proposal, we invited a number of practitioners
and experts in the operation of financial markets to give oral
evidence to the Committee:
- Chris Bates, Partner, Clifford Chance
- Christian Krohn, Managing Director, Equities
and Prime Services, Association for Financial Markets in Europe
(AFME)
- Guy Sears, Director, Wholesale, Investment Management
Association (IMA)
- Thierry Philipponnat, Secretary General, Finance
Watch
- Dr Kay Swinburne MEP, Member of the European
Parliament Economic and Monetary Affairs Committee
- Professor Niamh Moloney, Department of Law,
London School of Economics
- Professor Emilios Avgouleas, Chair in International
Banking, Law and Finance, University of Edinburgh.
We were also assisted in our work by Professor Iain
MacNeil, Alexander Stone Chair of Commercial Law, University of
Glasgow, who acted as Specialist Adviser for this short inquiry.
We are grateful to them all for their assistance. The Glossary
to the report defines a number of the technical terms used in
relation to MiFID II. We make this report to the House for
debate.
IS MIFID II NECESSARY?
4. MiFID I established a regulatory framework
for the provision of investment services (such as brokerage, advice,
dealing, portfolio management and underwriting) by banks and investment
firms and for the operation of regulated markets by market operators.
It also established the powers and duties of national competent
authorities (such as the UK's Financial Services Authority (FSA))
in relation to these activities. The overarching objective was
to further the integration, competitiveness and efficiency of
EU financial markets, and specifically to abolish the requirement
for all trading in financial instruments to take place on specified
exchanges, thereby enabling EU-wide competition between traditional
exchanges and alternative venues.[2]
5. Although the Commission argues that MiFID
I has been successful in encouraging greater competition between
venues in the trading of financial instruments, and more choice
for investors, it cites a number of problems that have emerged:[3]
- The benefits of increased competition have not
flowed equally to all market participants and have not always
been passed on to investors.
- Market fragmentation has made the trading environment
more complex, with the result that investors and regulators find
it more difficult to observe and monitor trading in financial
instruments across multiple trading venues.
- Market and technological developments have outpaced
various provisions in MiFID I.
- The financial crisis has exposed weaknesses in
the regulation of instruments other than shares, traded mostly
between professional investors. That assessment follows the approach
previously adopted by the Financial Stability Forum which commented
in the early phase of the financial crisis that "weaknesses
in public disclosures by financial institutions have damaged market
confidence during the turmoil. Public disclosures that were required
of financial institutions did not always make clear the type and
magnitude of risks associated with their on-and off-balance sheet
exposures. There were also shortcomings in the other information
firms provided about market and credit risk exposures, particularly
as these related to structured products. Where information was
disclosed, it was often not done in an easily accessible or usable
way."[4]
- The growing complexity in financial instruments
underlines the importance of high levels of investor protection.
6. Alongside the perceived need to address these
problems, the Commission views the proposal as:[5]
- An essential vehicle for delivering on the September
2009 G20 commitment to tackle the less regulated and more opaque
parts of the financial system by the end of 2012. MiFID II addresses
the commitment to move trading in standardised derivatives contracts
on exchange with a view to improving transparency for investors
and regulators.[6] It also
extends transparency requirements so as to improve the operation
of non-equity markets and enhance the capacity of regulators to
supervise market conduct.
- An opportunity to contribute to the establishment
of a single rulebook for EU financial markets.
- Meeting the requirement for a review of MiFID
I as set out in Article 65 of the original Directive.[7]
7. We asked our witnesses whether MiFID II was
necessary. Chris Bates and Dr Swinburne regarded it as inevitable
in light of the requirement in the Directive and the G20 commitment.[8]
Dr Swinburne also stressed that the major technological advancements
and developments since MiFID I needed to be addressed.[9]
Christian Krohn argued that it was necessary in light of problems
such as the fragmentation of data relating to trading, as well
as the renewed focus on financial stability since the financial
crisis erupted.[10] Guy
Sears told us that the magnitude of the task of breaking up the
national domination of exchanges that MiFID I entailed meant that
there was a lot of "unfinished business" that needed
to be addressed.[11]
BOX 1
Timetable for the implementation of MiFID
II[12]
| December 2010—European Commission issued initial consultation on revising MiFID.
February 2011—UK submitted consultation response to the European Commission.
October 2011—European Commission published proposals for a revised Markets in Financial Instruments Directive and a Markets in Financial Instruments Regulation (MiFID II).
November 2011-present—The proposals are now with the European Parliament and the Council of Ministers for discussion and final adoption of the text.
Late 2012—Expected agreement of the final Level I measures.
2015—Implementation of MiFID II is not expected until at least 2015.
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8. Notwithstanding this consensus that further
steps were needed, there was considerable concern about the timing
of the legislation, and in particular the desire to meet the G20
commitment to tackle less regulated and more opaque parts of the
financial system by the end of 2012 (See Box 1 above). Guy Sears
told us that the timing of the G20 commitment was "unfortunate"
because it "advanced the MiFID review and made people feel
that they had to get on with it".[13]
While Professor Moloney thought that MiFID II had emerged
from "a pretty sophisticated process" of engagement
and consultation, she too thought that the timing was "ambitious",
and that it was impractical to expect the Council and Parliament
to agree a common position in the immediate future. She told us
that, since the crisis broke, various pieces of legislation have
been rushed, causing confusion. In her view, it would be a mistake
to rush MiFID II because it was not "crisis-era legislation"
necessary to rescue the financial system.[14]
Dr Swinburne stressed the complexity of the legislation when
she told us that, as of 29 May, 2,145 amendments had been submitted
by MEPs.[15] In the light
of such complexity, it is important that the Government consult
with the financial sector as to the operational implications of
the proposal. We also observe that there is a tendency for greater
complexity to increase the likelihood of regulatory arbitrage.
9. We agree with our witnesses that a review
of MiFID I was necessary, not least because of the technological
advances that have taken place since it came into force. Nevertheless,
we are deeply concerned at the speed with which MiFID II has been
brought forward. With a package of the size, complexity and importance
of MiFID II, it is more important to get the legislation right
than to get it passed quickly. The consequences of poorly drafted
legislation could be damaging for the EU financial sector, and
for the economy as a whole. We urge the UK Government, the Commission,
Council and European Parliament to take all steps necessary to
ensure that the legislation is fit for purpose before it comes
into force. Given the important co-decision powers that the European
Parliament now possesses, we particularly urge the Government
to ensure that they liaise with and pay due attention to the European
Parliament in its consideration of the MiFID II proposals.
1 "MiFID" stands for Markets in Financial
Instruments Directive, 2004/39/EC. Throughout this report, "MiFID
II" should be taken to refer to the combined package of directive
and regulation. Back
2
COM (2011) 652 final, p. 2. Back
3
Ibid, p. 3. Back
4
Financial Stability Forum, 'Report of the Financial Stability
Forum on Enhancing Market and Institutional Resilience' (April
2008). Back
5
COM (2011) 652 final, op. cit., pp. 3-4. Back
6
The G20 commitment to require clearing of designated derivatives
through a central counterparty is addressed by the European Market
Infrastructure Regulation (EMIR). Back
7
Dr Swinburne, Q 16. Back
8
QQ 1, 16. Back
9
Q 16. Back
10
Q 1. Back
11
Ibid. Back
12
See http://www.fsa.gov.uk/about/what/international/mifid/markets/timetable.
Back
13
Q 1. Back
14
QQ 33-34. Back
15
Q 18. Back
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