Address by Head of Markets Policy, Martin Moloney, to the Institute for International and European Affairs

Let me firstly thank the Institute for inviting me. I am conscious of the many prestigious speakers who have spoken here and who have often I suspect, provided insightful strategic perspectives on various aspects of European development. My ambition is somewhat more modest. My aim is to bring to your attention the perspective of the plumber, rather than that of the architect, of a public servant engaged in the day to day work of trying to develop the new financial sector regulatory framework and to deal with the practical challenges of the Irish Presidency.

We can, I hope, do that without technical details overwhelming us. I will certainly resist the temptation to use the opportunity to complain about the problems of booking rooms in the Justus Lipsius building or ensuring connectivity while in Brussels. Such details do matter, but once a presidency is over, it is perhaps best to draw a veil over them. Let us try and focus instead on matters where we can ask less mundane questions and maybe even suggest some answers. To that end, I will begin by saying that I will make my remarks on an individual basis rather than seeking to represent the position of the Central Bank. That, hopefully, will give me some additional freedom to be a little challenging in some of my remarks.

Highlights of the Irish Presidency

The end of the Irish Presidency at midnight on the 1st of July, closed our 7th Presidency since we joined the European Union 40 years ago. The bare facts are that we concluded over 80 policy commitments in legislative form during the Presidency. The agreements were from a broad range of areas, some high profile, others not.

There has been widespread praise from figures such as Manuel Barroso, Jonathan Faul and Sharon Bowles MEP. But perhaps the FT’s Brussels Chief, Peter Spiegel put it most succinctly saying simply "there was a focus on the Irish to get some serious things through and they actually did it." Non-financial service file highlights included early success on the so-called ‘two-pack’ regulation to improve budgetary and economic coordination among eurozone countries and then the Multiannual Financial Framework agreement between the Presidency and the European Parliament on the €960Bn budget. Major reforms were achieved in the Common Agricultural Policy (CAP) and Common Fisheries Policy (CFP). Less publicised successes include the agreement reached on the Regulation establishing a European Border Surveillance System.

Financial Services Files

It won’t surprise you that I intend to focus on the financial services files and in particular the securities market-focused files. At the start of the Presidency, Ireland took over 20 financial services files at different stages of completion. These represented many of the elements of the complex regulatory response of the EU to the financial crisis. Almost forty Central Bank staff provided technical advice and support to a number of Department of Finance teams put together to deal with those files. By the end of the Presidency, 11 files reached policy commitments in legislative form - the largest ever for any Presidency and comparable to each for both the Danish and Cypriot Presidencies.

I want to focus my remarks broadly on the theme of compromise and the pursuit of consensus by a Presidency. What kind of compromises gets files across the line? Do those compromises represent the best outcome for the EU? How does a presidency organise its resources to achieve these compromises?

Banking Regulatory Reform

Arguably the most important of all the dossiers undertaken by Ireland was CRD IV, which was based on the Basel III proposals prepared by the Basel Committee to improve the regulation of banks, taking into account the lessons of the crisis.

The agreement of CRD IV in March 2013 was to no little degree, in my view, the result of the decision of the Department of Finance to pull in their Central Bank technical advisors, my banking policy colleagues, to take a central role with them in the trilogue process. I will say some more in a moment about these kinds of tactical issues which arise in a presidency.

But if the success of the Irish presidency rested heavily on getting the CRD IV through, it was our success with the whole banking regulatory package which surprised many. Other key proposals, namely the Single Supervisory Mechanism (SSM) and Banking Recovery & Resolution Directive were also outstanding when Ireland started its presidency. Both were brought through. I should mention that the Mortgage Credit Directive was also agreed.

The matter is not finished. Banking Union still remains in play with the Single Resolution Mechanism (SRM) proposals just released and further work remains on the Deposit Guarantee Scheme. But there can be little doubt now about the capacity of the EU to agree a package of banking regulatory reforms.

The big question about this package is, of course, still worth asking – does it amount, taken with the restructuring of the EU regulatory bodies done in 2010, to an appropriate, proportionate and effective response to the risks highlighted by the crisis ? Here in Ireland, the Central Bank has openly recognised its supervisory failings in the lead up to the crisis. It did too little, too late to prevent or correct the property price bubble fuelled by bank lending which has amounted to one of the worst banking crises any country has had to endure in modern times. An important part of that failure was the inadequate level of challenge to the banks by the Central Bank. For any of you who want to look into this further, my former colleague, William Mason, now Director General of the Guernsey Financial Services Commission made a very useful speech in May 2012 at the PRMIA Conference setting out in some detail how our work on risk-based supervision remediates those failures to challenge banks.

However, challenge by a supervisor can only be as good as the rules it is enforcing. It is widely recognised internationally that the Basel II regulatory framework was inadequate to the role of banking in influencing asset prices in an increasingly globalised economy and financial markets. Capital was too low, regulatory arbitrage was too easy, liquidity was not properly regulated. CRD IV sets out to fix that.

For the broader European Union, the question of whether CRD IV is adequate to that task has probably been well debated and I don’t propose to add to it. It may however, be worth asking if there is a question which has not been discussed here in Ireland and in other small or peripheral EU countries as to whether the CRD IV framework, which Ireland has succeeded in pushing through, would have provided the appropriate regulatory framework which a robust Irish Central Bank could use to challenge and prevent another asset price bubble fuelled by internationally sourced leverage into this small open economy operating with the EU monetary union?

I doubt that there is a simple answer to this question, but we can confidently say the three main pieces of CRD IV - tougher liquidity rules, better quality capital holdings and a non-risk weighted leverage ratio - should assist regulators throughout the EU if and when another asset bubble emerges. 5

Securities Market Files

Banking regulation is the natural focus for most commentators given the centrality of banking to European financial markets. However, my division within the Central Bank focuses on the non-bank financial sector, the stock exchanges and other markets, the derivative instruments, asset managers and collective investment funds which people have come to recognise need to play a bigger part in the European financial sector.

The securities market focused files cover a broad range of areas.

Three examples of smaller, but important files are the Transparency Directive, PRIPs Regulation and the Central Securities Depository Regulation.

The Transparency Directive aims to increase the level of detail being provided by companies to investors and society as a whole. This Directive sets minimum requirements for the disclosure of periodic and on-going information by issuers of securities and on the disclosure of major shareholdings and voting rights. The agreement of this directive was the one occasion, I think, when the Irish Presidency was noticed by rock stars, even if one of the somewhat older, more reflective rock stars.

Bono commented on the successful completion of the Transparency Directive: "I have huge respect for all those who have worked relentlessly to seal this deal that will help fight poverty, hunger and injustice the world over. Hats off and glasses raised to the Irish Presidency and the European Parliament for getting it over the finish line." What drew his support was the provision in the Transparency Directive requiring extractive and mining companies to publicly disclose their links to governments. It was a reminder of the world-wide importance of even the most technical of our Presidency work.

Another file that will impact the person on the street is the Packaged Retail Investment Products (PRIPS) Regulation.

The Regulation requires the provision of a standard Key Information Document to retail investors.

Whether the PRIPS proposal improves the quality of the information available, it is too early to say. What is interesting about PRIPS is that it covers both investment funds and life assurance products. To the casual observer, that might seem unremarkable, as investment funds and life policies are similar medium and long term investment products. However, throughout the history of the EU, they have been regulated entirely separately. The PRIPS proposal bridges that chasm in consumer protection and for that reason alone is a very welcome development.

The Central Securities Depository Regulation was a file we had high hopes for. Ultimately we didn’t conclude it during our Presidency. This is the one that got away, although at one stage it looked like the only securities market file that would be closed. Unfortunately, despite the backing of the ECB, we failed to reach agreement within Council, proving that negotiations in Europe are never straight forward.

The aim of this regulation was to strengthen the process of settling the purchase of securities such as equities and bonds within the Union. Again, this was in response to the crisis which has shown weaknesses in the settlement system. This is to be improved by defining harmonised settlement periods and rules across Europe. If it works, CSDs will hold definitive records for all dematerialised financial instruments. This will rationalise the many national legal set-ups and provide a common template for supervision, risk-management and governance.

We progressed the file significantly, solving issues such as dematerialisation of share certificates and finding a solution to how CSD’s will be able to provide banking services. But we could not quite push it across the line.

The most difficult underlying issue is how to reconcile the different legal systems across the Union, in particular the different company law arrangements. In my view, the CSD-R will have to progress with a provisional solution to that thorny question, such as we outlined in our compromise text of 6th June.

But reviewing CSD-R provides me with an opportunity to also observe that one of the most ambitious directives of the next few years will be a securities law directive which, it is intended, will definitively solve that problem, bridging – if it is a success - the divide between the common law and Napoleonic code jurisdictions with regard to what it means to own, buy and sell a security. While this sounds like a technical issue, those of you who are seasoned observers of the EU will know that one of the most entrenched cultural and technical sources of difference among EU countries are these two different ways of looking at the law of property. The presidency which has to finalise the Securities Law Proposal will be a fascinating one to watch.

Two key Files – MAD/MAR & MFID/MIFIR

The two largest securities market files were the Market Abuse Directive and Regulation (MAD/MAR) and the Markets in Financial Instruments Directive and Regulation (MiFID/MiFIR). MAD/MAR illustrates the challenge when different proposals get inter-connected and provides a good example of the use of discretions to get agreement. Noting that fact allows me to discuss whether that reliance on discretions is OK. MIFID/MIFIR illustrates the influence of the negotiation dynamics themselves; I will explain in a moment.

I should take this opportunity to explain that one thing that has become quite apparent in financial services legislation, is the move towards the use of Regulations as the primary legislative tool. This reflects a focused aspiration from an EU policy perspective to have, in as much as possible, maximum harmonisation of legislation and a single rule book, for products, services and activities that are traded across the Union.

This seems particularly the case, where legislation has previously been the subject of minimum harmonisation at EU level, such as MIFIR and MAR. Both pieces of legislation are in the main, directly applicable with only a few provisions that will require enabling legislation in Member States. They are however, both accompanied by supplemental and complementary Directives, where the effectiveness of the provisions contained therein is dependent on effective transposition into national legal systems, thus arguably deploying to best effect the strengths of both types of legislative instrument.

MAR

In its MAD/MAR proposal, the Commission set out to augment the existing market abuse regime, to increase the powers and sanctions available to regulators and to broaden the scope of application across the spectrum of financial instruments and trading venues including, in particular commodity and related derivative markets.

It included a regulation and a proposed Directive on Criminal Sanctions for Market Abuse. The latter is the first piece of legislation proposed by the Commission relying on Article 83(2) TFEU, an article which gives the Union a regulatory criminal law competence.

The Council General Approach was agreed on MAR at the end of the Cypriot presidency and was a major success for them. Under the Irish presidency, we achieved agreement with the Parliament on the Market Abuse Regulations. We had to leave the finalisation of the Market Abuse Directive text to the next presidency.

Without going through the chronology of the negotiations, my first point is to note that despite the view of many that MAR could not be completed until MiFID was first completed, our team saw the possibility of achieving an agreement on MAR in parallel while ring-fencing certain parts of the Regulation to be up-dated once MiFID was completed. This strategy worked and the Presidency was able to decouple MAD/MAR from MIFID and ensure that one did not become a bargaining chip in relation to the other. This allowed both dossiers to be brought across the line.

However, this was not achieved without difficulty. The most significant issues were

(1) the harmonization of the types and levels of administrative sanctions and

(2) the appropriate powers for the competent authority.

It is worth my spending some time on these to illustrate the kinds of compromises that a presidency must be willing to accept in order to achieve the greater benefit of getting the regulatory reform package through.

The MAR text now sets minimum levels to apply in all member States for the maximum administrative pecuniary fines. These are €5 million for natural persons and €15 million or 15% of annual turnover for legal persons. The maximum fine for legal persons was a critical issue for Parliament and it was increased by €5 million and 5% on the fine originally agreed in Council General Approach. Other administrative sanctions of note include the disgorgement of profits made or losses avoided and a permanent ban from exercising management functions in investment firms for repeated offences of insider dealing or market manipulation.

This Article in the Regulations on sanctions is a good example of how difficult it was to reach agreement between the co-legislators. It’s drafting now seems more like that of a Directive requiring subsequent transposition rather than a Regulation applying directly. There are repeated references to national law and the adoption of a minimum harmonisation approach to the levels of pecuniary fines. Certain Member States faced difficulties with the level of sanctions being set at such a level that they would be deemed criminal in effect and not administrative. The compromise is that the level of the minimum fine has been raised, but the apparent discretion for Member States has been broadened.

Much of the debate centred on the issue of whether market abuse should be an administrative or criminal matter. Because market abuse is so difficult to investigate, it has a counter-intuitive feature which was at the core of the debates. Although it seems more draconian to introduce a criminal sanctions regime, doing so raises the standard of proof required. Raising the required standard of proof paradoxically, increases the legal protection for insider dealers and market manipulators.

Part of the compromise to get the MAD/MAR package across the line is that within 24 months of MAR coming into force, Member States may choose to put criminal sanctions in place. We had to accept that this step back from the mandatory imposition of administrative sanctions for every breach as proposed by the Commission was a necessary compromise.

Critical to combatting market abuse is the likelihood of detection and successful prosecution. The intensity of the penalty is secondary. Criminology studies place considerable emphasis on the impact of a credible threat of detection and enforcement rather than the potential levels of sanctions available under statute. Perhaps politically it can be attractive to impose heavy penalties, but if the price of that is to place obstacles in the way of regulators trying to get at the facts and put a case together, this would be the wrong outcome. It is the retention of this populist but, I think less effective option as a discretion for Member States which leaves me with the most disquiet. I hope that Member States will think long and hard before going down that route.

Let me mention another example of compromise. Failure to cooperate or to comply with an inspection, investigation or request by the competent authority is also subject to sanctions. But the sanctions are not specified in the Article 26 of MAR. They are the subject of another Member State discretion in transposition. Once again, my hope is that Member States will not exercise their discretions in ways which will make it as hard to penalise non-cooperation as to penalise the matter being investigated.

A person trades. The trade is the kind of trade you would do if you had inside information. But how do I show that you had it? The nature of market abuse is such that for many years regulators have been at a considerable disadvantage by being unable to prove the ‘person connection’ between the inside information and the trade. Telephone records are often the key. The agreements reached in both MAR and MiFID improve the legislation in this area. Firms now will be required to record telephone land lines under MiFID. The MAR text grants the power to Competent Authorities to request existing telephone recordings from investment firms, credit institutions or other financial institutions and telecommunications operators. This is a good outcome. In the past, I have come across some resistance to giving market abuse investigators this kind of access. It seems to some a power which should be reserved for the police. This view has been, in my view, misguided and is, in effect, soft on market abuse.

In summary, then the final text of the Market Abuse Regulation reflects our willingness to give discretions back to Member States to get the package across the line. My suspicion is that those discretions will not be used to step back from the original Market Abuse Directive.

I hope and believe that Member States will not actually take that step backwards. On the contrary, I think they will take the opportunity to strengthen their market abuse investigative framework. But part of our approach has been to push matters forward by leaving those decisions with the member States.

MIFID

The other major file was MiFID/MiFIR. MiFID is the cornerstone of non-banking, non-insurance financial regulation within the European Union. Its scope is broad, from how an intermediary conducts its business with a retail client to how competent authorities can intervene in managing positions built up in commodity derivative contracts.

The first MiFID was negotiated under the Irish Presidency in 2004 and came into effect in 2007. The new directive and regulation include a number of changes to European securities market regulation that were required under G-20 commitments and are being replicated across the world. More generally, MIFID II responds to some of the unintended consequence of MFIID I, to the emergence of high frequency trading and to a perceived need to improve oversight of less regulated trading, introducing a new regulatory framework the OTF (Organised Trading Facility) regime to regulate trading previously done off-market and also to introduce a harmonised third country regime and new consumer protection rules.

Prior to the start of our Presidency, we identified three key issues within this complex file that had to be dealt with. These were all issues that large Member States had issues with and were on the opposite side to one another.

The three issues were all technical and I don’t want to get in that detail here today. As I stated earlier, what I want to focus on is the process of negotiation.

We saw early on that with large Member States on different sides of a number of nuanced issues, finding a compromise was going to be difficult.

The situation was very similar to the negotiation on MiFID I when, as is well known, the UK and France were on opposite sides of the debate relating to the structure of European financial markets. One side places the highest value on inter-venue competition, the other values most the quality of the market price formation process.

What was perhaps different this time was that, in addition to those long standing differences of perspective, Germany, on this occasion, had significant concerns on one major issue, Clearing and Access where it wanted to ensure that we had got the balance right between protecting liquidity and promoting competition.

Throughout the six–months of our presidency, we had numerous calls with capitals to discuss their concerns and outline our rationale for our compromise proposals.

It helped to have visited the six largest Member State’s capitals in the first two weeks of January as it allowed us to form relationships and "know the face at the end of the line".

One thing that became clear was that countries were seeing MIFID as a package, although many of the issues were, in principle, capable of being discussed and decided discretely. This meant we could not progress issues one by one to an agreed position – and this was a feature of other files also.

Ultimately we decided the way forward was to put both the relevant countries into a room to work through a diligent (if sometimes painstaking) line by line negotiation. The end result was a text that both sides could live with.

Towards the end of our Presidency, we used this tactic more frequently by holding bi or multi-lateral meetings with Member States. This allowed for more flexible discussions than in Council.

It also helped at times to have another large Member State in the room that had achieved what they wanted in the file and didn’t wish for another issue to result in the loss of their gain, but had no significant interest in the issue the other two Member states were focused on. This promoted compromise.

As in all negotiations, the final stages of MiFID were the most intensive. At a certain point, the Presidency felt we had reached agreement on some key points. For example, an issue we felt had been closed, the introduction of a new trading venue called an OTF, came to the fore again with one Member State raising concerns over the inclusion of equities within the category and another coming out, in response, on the exact opposite side.

This resulted in our team being given 24-hours by the Irish Ambassador to reach a deal between the two countries on this issue.

They did calls to both capitals, late night drafting, working with the key attachés in a room in an open-ended session in an effort to find the common ground between both sides.

The relationships the team had fostered with attachés, the calls with capitals, the negotiation skills and technical expertise the team had, all played a part.

And the result was the achievement of a General Approach in MiFID.

This experience and process was replicated in many of the other files and is a significant part of the reason, the Irish Presidency was successful.

Planning A Presidency Strategy

Let me take a step back from the individual dossiers and say something about what is involved in running a presidency. It is clear to me in retrospect that there are a number of key issues for small countries running presidencies:

• What resources to place in Brussels and what resources to place in the home capital?
• How to balance and mutually organise the mixture of technical advisors from regulators and central banks on the one hand with civil servants from the responsible department on the other, both on the floor of the Council Working Group or Trilogue meetings and back home in the extensive preparatory work required;
• The use to be made of non-papers in the face of substantial uncertainty, at times about the detail of technical matters;
• When to deploy visits to capitals, phone-calls and bilateral meetings between key member States, as I have discussed above;
• When to drive forward a preferred solution and when to see the process as one of mediating between different perspectives and power blocks; at times we drove towards a conclusion too forcefully – for example on CSD-R, at times we could have pushed more forcefully and at times we got the balance right.
• Another issues is how much to link unconnected dossiers or issues and when to de-link connected dossiers or disconnect issues being treated by Member States as a package; I mentioned above how we managed the linkages between MAD/MAR and MIFID/MIFIR, I mentioned also the linkages between CSD-R and the forthcoming Securities Law Proposal; two other sets of dossiers with close links were BRRD with the Deposit Guarantee Directive and the Transparency Directive with the Company Law (Accounting Directive), another Directive agreed under the Irish presidency.
• How to use lobbyists and industry sources as a resource without getting caught up in their perspective;
• How much to place on the agenda of the trilogue meetings themselves and what to deal with through the technical meetings which prepare the way for the triloges;
• How to treat offers of support, particularly secondees by industry and other, larger Member States;
• How to prioritise dossiers and how to deal with the Commission’s priorities which are not always the same as those of the Council presidency. We focused on files with almost ruthless prioritisation. The focus was on files that the department judged we could deliver and the energy and resources were put into those. I give a lot of credit to our Department of Finance colleagues for understanding how important this point was and having a definite vision of where they wanted to get to.