5.6.2014   

EN

Official Journal of the European Union

C 170/50

1.1

The European Economic and Social Committee (EESC) is pleased that the European Commission has finally submitted the long-awaited and oft-announced proposal for a regulation of the European Parliament and of the Council on money market funds.

1.2

The market in shadow banking is huge: the Financial Stability Board (FSB) puts its global value at around EUR 51 trillion, equal to 25-30% of the entire financial system. In Europe, the bulk of money market funds (MMFs) (around 80% of the total volume and 60% of funds) operate under Directive 2009/65/EC (UCITS). Since July 2013, the remaining MMFs have operated on the basis of the rules laid down by Directive 2011/61/EU on Alternative Investment Fund Managers.

1.3

There are two main reasons why shadow banking needed to be regulated: first, the possibility that it might be used to get around regulation, particularly capital requirements, or to perform activities that could be managed within the traditional, regulated system, thus increasing the probability of a systemic event; and second, the fact that shadow banks' financial activities have considerable leverage; like traditional banks, they can thus expose the financial sector to panic and systemic risk.

1.4

The EESC endorses the Commission's decision to use a regulation rather than a directive to regulate this sector. Given the characteristics of MMFs which operate at global level but are essentially based in three countries (France, Ireland and Luxembourg), uniform and immediately applicable rules are crucial. The Commission's choice of instrument complies fully with the principles of proportionality and subsidiarity.

1.5

Commissioned by the FSB, in October 2012 the International Organisation of Securities Commissions prepared an initial set of recommendations to steer regulators towards intervening in MMF markets. In November 2012, the Financial Stability Board itself published regulatory guidelines intended to reduce MMFs' vulnerability to divestment rushes and on 20 November 2012 the EP issued its own guidelines. Lastly, in December 2012 (1), the European Systemic Risk Board (ESRB) issued its recommendation.

1.6

In the United States, the Securities and Exchange Commission issued rule 2-a7 which has addressed this issue since 2010. On 19 November 2012 (2), the Financial Stability Oversight Council (FSOC), the United States' regulatory authority, began to revise the rules in force, putting forward proposals very similar to those issued by the Commission: the requirement to establish a capital buffer, to move to variable net asset value MMFs, to carry out very short term investments and to disclose the contents of investment portfolios more frequently. Given the high degree of market integration, the EESC recommends that uniform and effective rules be applied jointly with US authorities.

1.7

The EESC agrees with the statement in the ESRB's recommendation: ‘Although MMFs did not cause the financial crisis of 2007 to 2008, their performance during the financial turmoil highlighted their potential to spread, or even amplify, a crisis. The experience from the 2007 to 2008 crisis has shown that MMFs may be susceptible to investor runs and may need the support of sponsor companies, in particular to maintain their constant net asset value.’

1.8

The EESC reiterates: ‘Although the financial system's need for liquidity — which, since before the financial crisis, has depended to a large extent on the shadow banking system — is unquestionable, the lesson to be drawn from the crisis is that the regulatory process should give priority to the stability of the financial system, which is indispensable.’ Indeed, ‘there should be no such thing as “shadow” activities: the shadow banking system should be subject to the same regulatory and prudential requirements as the financial system as a whole’. ‘The new rules should also have as an objective a high level of protection of European consumers.’

1.9

In line with the FSB's recommendations, the EESC has been calling for some time for the regulation to be issued swiftly (3). The Parliament and the Council must come to an agreement as soon as possible so that this regulation can be adopted, taking account of the EESC's proposed changes. There is a real danger that the regulation may be postponed for months, given the institutional deadlines of the Parliament and the Commission.

1.10

The EESC considers that the best and most appropriate recommendation is that issued by the FSB and the ESRB (4) on the dangers of constant net asset value (CNAV) funds, which should be converted into variable net asset value (VNAV) funds. The 3% capital buffer seems insufficient — given that the biggest possible risk faced was over 6% — to cope with liquidity demands at a time when all operators must anticipate considerable turmoil in the market and may rush to withdraw their investments.

2.1

The proposal for a regulation follows up on last year's green paper on shadow banking (see IP/12/253 and MEMO/12/191). It recapitulates the work carried out to date and provides a roadmap for possible further regulation in this key sector.

2.2

The events which occurred during the financial crisis have shed light on many aspects of MMFs which have made them vulnerable in the event of difficulties in the financial market, and they can spread or amplify risks through the markets.

2.3

One year on, the guidelines adopted by the ESRB to establish some degree of common ground have been applied by only twelve Member States, demonstrating the persistence of national rules. Timely and decisive action is needed.

2.4

MMFs will not be able to operate with derivatives outside the usual safeguards against exchange and interest risks.

2.5

MMFs will also have to reduce counterparty risk by diversifying their investments: 20% will be the limit for a repurchase agreement with the same counterparty.

2.6

Managers will have to refrain from asking specialist external agencies for their opinion; they will also have to apply regular stress tests to MMFs to assess their resilience.

2.7

The proposal for a regulation aims to ensure greater transparency by means of:

2.8

The proposal for a regulation also proposes a clamp-down on money market funds, calling for stricter liquidity requirements. The Commission considers that this will guarantee that the funds will be able to reimburse capital should investors decide to withdraw, without repercussions for the system.

2.9

Specifically, the funds must ensure that their portfolios contain at least 10% of daily maturing assets and a further 20% of weekly maturing assets, while their exposure to a single issuer cannot exceed 5%. A 3% capital buffer must also be guaranteed for constant net asset value funds.

3.1

Shadow banking plays an important role in financing the real economy. ‘The shadow banking system contributed to the financialisation of the economy and to the property bubble which from 2007 affected various developed countries, bringing their economies to the brink of collapse. As a result, it can be considered fundamentally, even if not exclusively, responsible for the major recession which has affected the United States and several EU countries. The financial system as a whole must serve the real economy.’ (5) SMEs in particular are facing major problems in terms of reduced credit. The banking system seems to be unable to fulfil its primary role of supporting the real economy.

3.2

MMFs bring supply and demand for liquid assets together for a short period of time.

3.3

As noted by the Financial Stability Board and other major institutions such as the International Organisation of Securities Commissions and the European Systemic Risk Board, MMFs are not sufficiently regulated despite the fact that their systemic importance is recognised. The EESC supports this view.

3.4

Conversely, the European Banking Federation is concerned about the impact of the proposals regarding money market funds, deeming them to be restrictive and difficult to implement, while the funds' resources can be used by banks to support lending to the real economy.

3.5

Meanwhile, the G20 is also active in this area. Its focus is the sector's activities rather than the players. Comments by G20 countries show a desire for soft regulation of the sector to avoid excessive repercussions on global financial flows, given the key role played by shadow banking in providing the banking sector with liquidity.

3.6

As regards the institutions and activities involved, in 2011 the Financial Stability Board estimated that the global value of shadow banking was around EUR 51 trillion, equal to 25-30% of the entire financial system and half of banking activities (euro area: nearly 17 trillion, United Kingdom: nearly 7 trillion, United States: 17,5 trillion (6)).

3.7

There are a number of intermediaries in this system, but MMFs are systemically important and a considerable source of short-term financing for financial institutions, businesses and governments. For this reason, the functioning of money market funds is central to the international regulatory activity under discussion.

3.8

In Europe, MMFs hold around 22% of short-term debt securities issued by governments or the corporate sector and 38% of short-term debt issued by the banking sector, equal to around EUR 1 trillion.

3.9

In terms of overall geographic distribution in the EU, MMFs are based chiefly in France, Ireland and Luxembourg and are used heavily, mainly by companies in Germany and the United Kingdom; this applies to constant net asset value funds.

4.1

The MMF sector is closely interlinked with the banks, which often manage the funds and even draw on the funds to finance themselves. According to the Commission, the majority of MMFs are supported by banks: nine out of ten of the largest MMF managers are financed by commercial banks. This illustrates the high degree of interplay not just between these two sectors, but also between MMFs, corporate financing and governments.

4.2

For companies, MMFs represent an alternative, short-term means of investing their cash resources. Using these instruments, companies can invest their capital and earn a better return rather than depositing it in a bank. While acknowledging the potential validity of this method of investing money, the EESC would highlight the inherent risks. Unlike banks, in the event of problems, the funds do not have access to any support from central banks.

4.3

There is no deposit guarantee system for MMFs. Shadow banking intermediaries (hedge funds, MMFs or structured investment vehicles) provide credit.

4.4

Under current operating procedures, MMFs can lend all the money collected from individuals or companies. The EESC notes that an MMF could collapse should one or two borrowers be unable to repay their debts, because if several depositors/investors also wish to withdraw their money at the same time, the fund will be unable to honour their requests. Unless prudential rules are introduced, these procedures could trigger another crisis.

4.5

In light of these observations and considering that, as already noted, the MMFs' largest providers of funds/sponsors are in fact banks, the EESC firmly believes that the MMF industry should be subject to rules and controls similar to those already in place for the banking system.

4.6

The EESC considers that the Commission's proposal to avert this danger by imposing a compulsory 3% liquidity buffer will not be enough to cover the risks arising from constant net asset value MMFs, given that there have been cases of risks exceeding 6%.

4.7

The Commission's provisions also fall short in respect of the recommendations of the FSB and the ESRB. Both these boards, with a view to prudential safeguards within the system, have suggested that the Commission adopt a mechanism for evaluating the funds based on variable net asset value, so that the fund's value adapts to price fluctuations. The regulation, however, has maintained the initially planned mechanism of constant net asset value, merely adding a liquidity buffer to deal with any negative variations in value. The EESC considers that the recommendations of the two market regulators adhere more closely to the principle of safeguarding the stability of the financial system, as illustrated by the table below.

Money market funds (MMFs) with Constant Net Asset Value (CNAV) (Article 25)

Table comparing recommendations (7)

With regard to the products on offer, the EESC would draw attention to the fact that products already in circulation in the traditional banking system, and thus regulated, have shifted to the parallel banking system in order to avoid the stricter controls which come with bank oversight.

4.8

The EESC is deeply concerned that these risks may be reproduced by the shadow banking system in order to escape scrutiny. It therefore believes that the principle of ‘same activities = same rules’ should apply.

4.9

The EESC proposes a tried and tested principle: a proper level of transparency and oversight would guarantee that the financial system operates in the interests of the economy, with consequent gains in terms of trust, effectiveness and efficiency.

The proposal for a regulation also bans external ratings of money market funds. This measure aims to prevent potential downgrades sparking panic on the markets. Although this measure runs counter to the principle of transparency and efficiency and could harm full information symmetry, the EESC considers that the MMF market is used by professional operators and that rating agencies can trigger panic among investors simply by changing their opinion. Internal rating measures, stronger risk management procedures and safeguards and more rigorous, stricter oversight will help safeguard the quality of benchmark assets and the funds' collateral quite effectively.