COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT pursuant to the second subparagraph of Article 251 (2) of the EC Treaty concerning the Common Position of the Council on the adoption of a Directive of the European Parliament and of the Council on the supplementary supervision of credit institutions, insurance undertakings and investment firms in a financial conglomerate and amending Council Directives 73/239/EEC, 79/267/EEC, 92/49/EEC, 92/96/EEC, 93/6/EEC and 93/22/EEC, and Directives 98/78/EC and 2000/12/EC of the European Parliament and the Council

2001/0095 (COD)

COMMUNICATION FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT pursuant to the second subparagraph of Article 251 (2) of the EC Treaty concerning the Common Position of the Council on the adoption of a Directive of the European Parliament and of the Council on the supplementary supervision of credit institutions, insurance undertakings and investment firms in a financial conglomerate and amending Council Directives 73/239/EEC, 79/267/EEC, 92/49/EEC, 92/96/EEC, 93/6/EEC and 93/22/EEC, and Directives 98/78/EC and 2000/12/EC of the European Parliament and the Council

1- BACKGROUND

Date of transmission of the proposal to the EP and the Council (document COM(2001) 213 final - 2001/0095(COD)) [1]: // 24 April 2001

[1] OJ. C213E-31/7/2001 p.227.

Date of the opinion of the Economic and Social Committee [2]: // 17 October 2001

[2] OJ. C36-8/2/2002 p.1.

Date of the opinion of the European Parliament, first reading [3]: // 14 March 2002

[3] Report A5-0060/2002.

Date of adoption of the Common Position [4]: // 12 September 2002

[4] 9754/3/02 Rev.3

//

2- OBJECTIVE OF THE COMMISSION PROPOSAL

The heightened tempo of internationalisation and consolidation in the financial sector, together with the blurring of boundaries between financial sub-sectors, has lead to the emergence of cross-sector financial groups involved in banking, insurance and securities activities ('financial conglomerates'). In some Member States the importance of financial conglomerates is quite significant and some of the biggest actors in the financial markets are financial conglomerates. It explains why a number of Member States have started introducing regulation and/or other supervisory measures at national level.

European legislation however has not kept pace with this market evolution. In particular, the existing European legal framework for the supervision of financial institutions primarily deals with 'homogeneous' groups of financial institutions (banking groups, insurance groups or investment firm groups). A comprehensive set of rules on the prudential supervision of 'heterogeneous' financial groups combining institutions from the different financial sub-sectors is lacking. As a consequence, there is no appropriate regulation of such groups at conglomerate level. Therefore, the Financial Services Action Plan has identified legislation for supervising financial conglomerates to be a priority measure.

The Commission proposal for a Directive aims at addressing a major loophole in financial regulation by introducing a complementary supervisory regime for financial conglomerates that supplements the existing sectoral rules for credit institutions, insurance undertakings and investment firms. It will help to ensure European financial markets' stability and addresses concerns about systemic risks. In doing so, the Directive will also implement the G-10 Joint Forum recommendations regarding the supervision of financial conglomerates.

The main objectives of this Directive are:

- to ensure that financial conglomerates are adequately capitalised. In particular the proposed rules would prevent the same capital being counted twice over and so used simultaneously as a buffer against risk in different entities in the same financial conglomerate ('multiple gearing'). The proposal would also prevent "down-streaming of capital" whereby a parent company issues debt and uses the proceeds as equity for its subsidiaries ('excessive leveraging');

- to introduce methods for calculating a financial conglomerate's overall solvency position;

- to deal with the issues of intra-group transactions and group-exposure to risks;

- to deal with the suitability and professionalism of management at financial conglomerate level;

- to ensure adequate internal control mechanisms and appropriate risk management processes in a financial conglomerate;

- to require Member States to ensure that one single authority is appointed for the overview of each financial conglomerate and to ensure a co-ordination and proper exchange of information between the different supervisors involved in the supervision of a financial conglomerate's component parts;

- to introduce minimum steps to remove unnecessary inconsistencies between the regulations for homogeneous financial groups and for financial conglomerates, in order to ensure a minimum of equivalence in the treatment of these groups.

3- COMMENTS ON THE COMMON POSITION

3.1 General comments on the common position

The Swedish, Belgian and Spanish Presidencies have treated the Commission's proposal for a directive on the supplementary supervision of credit institutions, insurance undertakings and investment firms in a financial conglomerate as a matter of priority. The Barcelona European Council (March 2002) asked the Council and the European Parliament to adopt the Directive as early as possible in 2002. The Council has adopted its Common Position on 12 September 2002. The Commission is in a position to accept the Common Position.

3.2 Specific comments on individual provisions

Regarding the definition of 'group' in Article 2 (11) and (12) of the Commission proposal for a Directive, the Parliament proposes to limit its scope to parent/subsidiaries and participations, as a substitute to the broader concept of close links proposed by the Commission (Amendments 4 and 5). Article 2 (12) of the Common Position takes into account Parliament's amendments, with one exception however. Similar to the Commission proposal, Member States in the Council are of the opinion that the definition of group should also cover relationships within the meaning of Article 12 (1) of Directive 83/349/EEC (so-called 'horizontal structures'), the inclusion of which should not be left to national discretion. The rationale for including such structures in the definition of a 'group' is twofold: such structures exist in the market and therefore need to be addressed from a prudential point of view, and a common approach is needed in order to ensure a convergence in supervisory practices and level playing field within the EU. Consequently, the Common Position does not follow Parliament's Amendments 11 and 12 neither, proposing any reference to Article 12 (1) of Directive 83/349/EEC to be deleted in Article 4 (2) (c) of the Commission proposal and to be included in Article 4 (4) dealing with supervisory discretion (Article 5 (2) (c) and Article 5 (4) of the Common Position respectively). The Commission believes that the definition of 'group' in the Common Position is a sensible compromise, situated between the Commission's proposal and Parliament's amendments.

Although in the Common Position the definition of group is no longer based on the concept of 'close links', the latter is still - but solely- used to define "intra-group transactions" (Article 2 (18) of the Directive). This complies with the objectives of the supervision of intra-group transactions, i.e. to identify all entities in the group, the activities of which are relevant for assessing the risk of contagion between entities of the same financial conglomerate and its impact on the financial position of the regulated entities in the conglomerate.

In order to identify whether a group is a financial conglomerate that falls under the scope of the Directive, Article 2 (13) together with Article 3 of the Commission proposal provides for micro-economic criteria for defining a group's involvement in the financial sector in general and in different financial sub-sectors in particular. However, as pointed out in the Explanatory Memorandum to the Commission proposal, because of the lack of reliable information the Commission planned to undertake a mapping exercise on the presence and the nature of financial conglomerates in the EU. The outcome has confirmed the need for some further fine-tuning of the definition of a 'financial conglomerate'. Member States had a comprehensive discussion in the Council-Working Group on this issue. The Common Position that has emerged from this discussion provides for the following amendments to the proposed definition: (a) the introduction of a lower threshold of 40% for identifying whether a group is mainly financial or not (in line with Parliament Amendment 7; Article 3 (1) of the Common Position); (b) the inclusion of financial groups with significant cross-sectoral activities in absolute figures (in line with the objectives of Parliament's Amendment 50; Article 3 (3) of the Common Position); (c) the possibility for the authorities to exclude from the scope of the Directive a financial conglomerate the smallest sector of which or the market share in a Member State of which is of limited seize (in line with the objectives of Parliament Amendment 6; Article 3 (3) of the Common Position); (d) the possibility to introduce a three-year calculation period for the identification of the existence of significant cross-sector activities (in line with the objectives of Parliament Amendment 8; Article 3 (4) of the Common Position).

The Common Position on the definition of a financial conglomerate, as explained in the previous paragraph, fully respects the objectives of the Commission proposal to cover all relevant financial groups with significant cross-sectoral financial activities. The Commission believes that the Common Position also takes up the essence of Parliament's proposals in Amendments 6 to 10 and Amendment 50, and in this regard fully respects Parliament's intents.

Parliament's Amendment 10, aimed at limiting competent authorities' derogation powers, has been partially taken into account in the Common Position. In line with the amendment, Article 3 (6) of the Common Position limits the ability for competent authorities to lower the thresholds for the identification of a financial conglomerate. On the other hand, Article 3 (5) of the Common Position still follows the Commission proposal to grant competent authorities derogation powers as regards the choice of alternative parameters for identifying a financial conglomerate. The Council is of the opinion that for groups for which the parameters defined in Article 3 (1) and (2) are not appropriate, it should be possible in exceptional cases to apply one or two well-defined alternative parameters if they are more relevant for that particular group. The Commission is of the opinion that recent events in the financial markets have shown the appropriateness of such a provision (e.g. as regards the significance of off-balance sheet transactions for some groups).

Regarding capital adequacy (Article 5 and Annex I of the Commission proposal; Article 6 and Annex I of the Common Position), the Common Position follows Parliament's Amendments 17 by introducing a clarification on co-operative structures, as well as Amendments 39 and 58 which transfer part of the text of Annex I to the body of the Directive. Although agreeing on the substance of Amendment 17, the Council is of the opinion that for legislative reasons it is more appropriate to include the proposed amendment in Article 5 (4) on the scope as the amendment deals with clarifying the scope of the supplementary supervision.

Furthermore, the Common Position adopts a drafting change, aiming at clarifying the text of Annex I, paragraph I (2) (ii), of the Directive. The original proposed text could give rise to some ambiguity (in particular in some language versions). Parliament identified this risk too and proposed its Amendment 16. The Common Position now explicitly states, in line with the Commission's objectives, that sectoral risks are to be covered by sectoral capital according to the sectoral rules and that any additional deficit at conglomerate level should be covered by cross-sectoral capital. In addition, Parliament proposes to transfer that text to the body of the Directive (Amendments 16 and 37). Although the Common Position does not follow this latter proposal, the Commission believes that by taking into account Parliament's Amendments 3, 28, 29 and 30, the Common Position nevertheless meets Parliament's underlying objectives.

On the choice of the methods for calculating a conglomerate's solvency requirement as provided in Annex I, the Common Position does not go as far as Parliament's wish to give financial conglomerates the full freedom to choose one of those methods, subject to supervisory approval (Amendment 52). The Council considers that where a group is headed by a regulated entity, Member States should be in a position to require the calculation to be carried out according to one particular method, in particular where the sectoral rules for group-wide supervision for regulated entities in that Member State provide for a particular method and given that all methods are not equivalent under all circumstances (Annex I of the Directive explicitly provides for this). However, if a group is not headed by a regulated entity, Annex I provides that Member States shall in principle authorise the application of any of those methods.

The provisions in the Common Position dealing with risk concentration and intra-group transactions have a different presentation to that proposed by the Commission. In particular, Article 6 of the Commission proposal has been split in a new Article 7 on risk concentration and a new Article 8 on intra-group transactions. The Common Position however does not depart from the Commission proposal on the substance.

The Common Position also takes up the essence of Parliament's Amendment 18, by requiring the Commission to evaluate and to report on the appropriateness of Community rules on risk concentration and intra-group transactions, and by requiring the Commission to make legislative proposals if necessary (for legislative reasons all provisions on future reporting by the Commission have been grouped under a new Article 31). The Common Position does not go as far as Parliament's proposal to require the co-ordinator to report to the Financial Conglomerates Committee on a regular basis on a financial conglomerate's compliance with risk concentration and intra-group rules, as such a requirement would conflict with supervisors' obligations on confidentiality of information. For the sake of clarity, the Common Position provides for a specific recital in the preamble recalling the existence of confidentiality requirements for supervisory authorities.

Articles 5 and 6 of the Commission proposal provide for provisions on internal control mechanisms and risk management processes. The Common Position has grouped these provisions in a new, separate, Article 9. The text elaborates on the principles underpinning these requirements, in line with recently released international recommendations (e.g. Internal audit in banks and the supervisor's relationship with auditors, Basel Committee, August 2001).

Regarding the procedure for the appointment of a co-ordinator, the Common Position has reversed the procedural decision making order compared to the Commission proposal (Article 7 of the Commission proposal; Article 10 of the Common Position). The Common Position provides for the automatic identification of a co-ordinator on the basis of criteria as proposed by the Commission, which may be waived subsequently by common agreement of the relevant competent authorities after consultation of the financial conglomerate. Furthermore, the Common Position provides for the appointment of a single co-ordinator, as well as for the communication of the latter's appointment to the financial conglomerate (Article 4 (2) of the Common Position). On all of these issues, the Common Position is fully in line with Parliament's Amendments 19, 20, 21 and 22.

A new provision in Article 11 (2) of the Common Position explicitly provides that the co-ordinator, as regards information that has already been reported to another supervisor, should address itself to the latter in order to prevent duplication of reporting. In doing so, the Common Position strengthens and complements the requirement of Article 9 (2), 2nd subparagraph, of the Commission proposal, in line with the objectives of Parliament's Amendments 23 and 25. The Common Position does not make duplication of reporting an explicit task of the co-ordinator, as Member States in the Council believe it is not a task in itself and reporting requirements in most Member States are not the (sole) responsibility of the supervisors. On balance, the Commission believes that the Common Position however fully meets the intention of Parliament's amendments 23 and 25.

Article 12 of the Common Position on co-operation, by deleting a further specification on the concept of strategic policies compared to the Commission proposal, follows Parliament's Amendment 42. The Common Position is also in line with the spirit of Parliament's Amendment 24, as the ability for supervisory authorities to waive the exchange of information has been deleted and the ability to waive consultation, although not fully deleted, is limited to well defined exceptional cases.

Article 18 of the Common Position deals with financial conglomerates that are active in the EU, with a parent undertaking outside of the Community. Article 18 (1) of the Common Position departs from Article 14 (1) of the Commission proposal by replacing the procedures for the notification and objection against a co-ordinator's decision on the equivalence of a third country's regime with an obligatory consultation procedure that requires the co-ordinator to take into account guidance of the Financial Conglomerates Committee. Furthermore, Article 18 (3) of the Common Position provides that in the case of absence of equivalence, Member States shall allow their competent authorities to use alternative methods for ensuring appropriate supervision of such groups. In doing so, Article 18 (3) of the Common Position follows Parliament's Amendment 26. The Commission supports the Common Position, which will produce similar results as the one it originally proposed.

Article 20 of the Common Position deals with powers conferred on the Commission in accordance with the Comitology procedure of Article 21 (Articles 16 and 17 of the Commission proposal). The Common Position follows Parliament's Amendments 28 and 29 by using a slightly different wording compared to the Commission's proposal. On the other hand, the Common Position does not take on board a drafting change proposed by Parliament in Amendment 27 for legislative reasons (to avoid textual repetition and as the Directive strictly speaking does not need implementing measures). Furthermore, the Common Position complements the Commission proposal by adding supplementary competence with a view to enhance supervisory convergence regarding risk concentration and intra-group transactions. Finally, the Common Position requires the Commission to consult interested parties and to inform the public prior to submitting draft regulation. On this latter point, the Common Position is in line with the objectives of Parliament's Amendment 31.

Regarding Article 17 of the Commission proposal on the Comitology procedure (Article 21 of the Common Position), the European Parliament proposes a further clarification of the Commission proposal through the introduction of two new recitals. Parliament's Amendment 3 provides for the introduction of a new recital 14a, which is taken on board by the Common Position. On the other hand, Parliament's wish to include also a recital referring explicitly to the 'Lamfalussy' resolution of the Parliament on the implementation of the financial services legislation has not been followed (Amendment 2). In the Council's opinion such a recital would be superfluous and could lead to misunderstanding as the Financial Conglomerates Directive provides for a 'classic' Comitology procedure. Finally, the Common Position also follows Parliament's Amendment 30, proposing the introduction of a new provision according to which the procedure referred to will end after four years, subject to a possible renewal. For legislative reasons the Council prefers to amend the article on the comitology procedure (Article 21 (4) of the Common Position) instead of amending the article on the powers conferred on the Commission (Article 20 of the Common Position). On balance, the Commission believes that Parliament's concerns about its legislative role are well recognised by taking on board its Amendments 3 and 30.

Articles 22 (2), 23 (2) and 29 (4) of the Common Position, which amend the sectoral banking, insurance and investment firm regulations, concern the elimination of multiple gearing of capital in a group. The Common Position reflects the compromise reached in the Council between those Member States, which want a more stringent and harmonised approach across financial sectors than proposed by the Commission, and those Member States, which want a less stringent approach. The compromise reached in the Council departs from some of the techniques and thresholds for deduction as proposed by the Commission, but nevertheless fully respects the latter's objectives (Article 18 (3), 19 (3) and 25 (5) of the Commission proposal). In general, compared to the Commission's proposal some of the thresholds that apply to the insurance sector have been raised (in principle from 10% to 20%), as well as some of the thresholds that apply to the banking and investment firms sector (in principle from 10% to 20% for holdings in insurance entities), and the different calculation methods provided by Annex I of the Directive for financial conglomerates will also be applicable to sectoral groups as regards their capital holdings in a different financial sector. Furthermore, Article 31 of the Common Position provides for timely initiatives to be taken by the Commission in order to bring Community legislation in this domain in line with future international agreements. The Commission believes that on all these issues the Common Position provides for a well-balanced approach and fully achieves the objectives of Parliament's Amendments 34, 44, 46 and 48.

Article 29 (10) of the Common Position adopts, with slight drafting changes, the Commission's proposal amending the banking legislation by giving competent authorities the possibility to participate in the verification of information provided by an entity situated in another Member State (Article 25 (8) of the Commission Proposal). The Common Position does not follow the drafting proposed in Parliament's Amendment 35, but the Commission believes that both are substantially in line with each other.

Articles 32 and 33 of the Common Position deal with the transposition and the entry into force of the Directive. The wording is identical to the corresponding existing wording in sectoral regulation. Those articles, together with the new Article 4 on the identification of a financial conglomerate, meet the intent of Parliament's Amendment 36.

Finally, Annex II of the Common position dealing with risk concentration and intra-group transactions follows Parliament's Amendment 36 providing that the co-ordinator shall define the appropriate thresholds after consultation with the financial conglomerate.

3.3 New provisions introduced by the Council

The new Article 4 of the Common Position provides for an explicit procedure for the identification of a financial conglomerate, as well as for the notification of that identification. This procedure will add to the transparency of the implementation process of the Directive, both for the financial conglomerates concerned and the competent authorities involved.

The new Article 13 of the Common Position provides for fit and proprietary requirements as regards the management body of mixed financial holding companies. In doing so, the Common Position clarifies similar provisions of the Commission proposal (e.g. Article 18 (1) of the Commission proposal).

The new Article 30 of the Common Position deals with asset management companies. The text reflects a compromise between Member States in the Council, which aims at including these institutions in the group-wide supervision of financial groups (whether sectoral groups or financial conglomerates). The rationale is that asset management companies are to be considered financial sector entities. The issue is important, given that following the adoption of the Directive amending the UCITS Directive 85/611/EEC, asset management companies will now directly compete with investment firms, which are already submitted to group-wide supervision (in particular regarding individual portfolio management). The Common Position provides that Member States will decide according to which sectoral rules these asset management companies will have to be included in group-wide supervision, and that the Commission will make a report on Member States' practices and propose further harmonisation of EU legislation if necessary.

Article 31 of the Common Position provides that within three years after implementation of the Directive the Commission will report on a number of issues and on the need for further harmonisation if necessary.

Other new provisions of the Common Position, which are of a more technical nature, deal with, among other things, the identification of the entity responsible for reporting risk concentration and intra-group transactions (Articles 7 and 8), the introduction of an explicit threshold for identifying significant intra-group transactions (Article 8), a further specification of items that could be covered by the co-ordination agreement (Article 11), and a further clarification on which authorities may take enforcement measures (grouped in a new Article 16).

4- CONCLUSION

The Commission considers that the Common Position adopted by the Council on 12 September 2002 is faithful to the objectives and the spirit of the Commission proposal of 24 April 2001. The Commission also considers that the Common Position meets the main concerns of the European Parliament and follows the key elements of Parliament's amendments. The Commission believes that the Common Position achieves a good balance. The Commission hopes that the Directive can be approved by the end of the year, in line with the FSPG deadline, addressing a major loophole in EU financial regulation.

The Commission therefore recommends this Common Position to the European Parliament.