Europe Learns New Lessons from the Financial Crisis

by Gary Litman

As the U.S. Congress lumbers through various proposals for the financial sector reform, on the other side of the Atlantic, the turmoil around Greek and other sovereign debt is spurring the European Parliament to debate policy actions on "efficient, safe and sound derivates market". What’s notable about the Resolution presented March 8, 2010 in Strasbourg is that it sends two clear messages to the outside world, mainly to the U.S.  First, Werner Langren, the rapporteur from the centrist European People’s Party, points out that "most derivatives used by firms involve no systemic risk" for financial market. In fact, any regulation that European Union may ultimately adopt should not reduce the ability of firms to hedge their risk since "such non-speculative protection helps to create stability and growth for employment and investment". And second, since new regulations are bound to come out of the political process in Europe, Langren makes it clear that however desirable international coordination may be, EU will not wait for the U.S. Congress in regulating derivatives. 

This approach is consistent with the recent spate of speeches by Michel Barnier, the new EU Commissioner for Internal Market and Services, whose jurisdiction covers financial services. In three speeches (here, here, here) delivered between mid-February and March 2, 2010 Barnier has staked out the position of support for "high performing and responsible financial sector," which is to say that EU is not going to force "utility banking," and public recognition of the positive role that hedge funds play in the economy. Specifically addressing U.S. Administration’s proposals, Barnier dismissed  a "cap on size and scope" of financial institutions as solution that would not be the right one for Europe. While such pragmatic rhetoric will be challenged by the Brussels political process, we should recognize that EU has drawn from the financial crisis a set of hard lessons.

One of them is that the politicians who are trying to restore confidence in the market should explicitly recognize the social value of various segments of the financial services rather than paint all bankers and hedge fund operators as evil. Second, that waiting for US Congress to lead and set rational rules for the capital markets is not a safe bet for Brussels,  London, Berlin or Paris, since  EU is no longer sure what and when would come out of our "sausage-making." Third, that EU has to consolidate its economic governance in the face of outside pressures, rather than loosen it; the talk about creating a European Monetary fund is not idle speculation anymore.  And finally, in the words of Commissioner Barnier, he is not going to let "our firms to be victims of free riders in the G20 process." The last point is a challenge to all the major economies to take a closer look at what EU is doing in the area of derivates and investment fund regulations, and expect that non-EU firms will have to adjust their ways of doing business in Europe regardless of how advanced financial regulations may be in their home markets. At the very least, we should be grateful to EU politicians for not mincing their words.