EUROPE - A report assessing the shortcoming of European financial services regulation has advised the European Commission to replace the existing regulatory supervision system and improve monitoring by splitting the regulatory regime into banking, insurance and securities sectors.

Highly critical findings of a high-level investigation on EU supervision were published yesterday by the Larosière committee, chaired by Jacques de Larosière and including former UK FSA chairman Callum McCarthy, which claimed much of the European Union's regulatory framework is fragmented and open to interpretation by member states, while financial regulation and supervision have either been too weak or provided the wrong incentives to companies to comply.

What is not clear at this stage, however, is whether the review committee has considered where pensions under a new regime as it proposed the current supervision regime under CEBS, CEIOPS and CESR should be replaced with three new European-wide supervisory authorities: The European Banking Authority, the European Insurance Authority and the European Securities Authority.

The study makes almost no reference at all to pensions - occupational or otherwise - in its investigation as the issues raised by the committee focused largely on the role of EU supervision and regulation on banking during the recent crisis, accounting practices, the role of credit ratings agencies as well as questioning the focus on macro and microeconomic developments, to assess whether the EU framework is robust enough.

That said, the committee appeared to have an eye on pensions at some stage in the four-month review - created in part through 11 full day meetings with officials from the key European macro and microeconomic supervisors, as well as financial services representative bodies and large insurance companies - as it noted when raising inconsistencies of current regulation:

"There are different accounting practices for provisions related to pensions. These differences create serious distortions in the calculation of prudential own funds in different nations."

In an early comment on the report, Chris Verhaegen said the pensions industry should not be overly concerned about the lack of focus on pensions at this stage, as this was an analysis of supervisory strength on behalf of the European Commission.

That said, some of the executives within this committee are members of the Commission secretariat and the study is the first stage of a wide-scale review, noted Verhaegen.

"In the whole report, there is only reference to pensions, so at first approach it was not relevant to pensions or occupational pensions,"said Verhaegen.

"But I think this has not been discussed in depth so much remains as potential. The example of ‘excessive diversity' in accounting of pensions is worrying because it means this is harmful. So it deserves closer study. It is not clear what impact these proposals could have and it is feeding into a process where many of the Commission's ideas are already in this report," she added.

Elsewhere within the report, the committee said Solvency II should be adopted "urgently" as this would remedy some of the fragmentation of insurance regulation in Europe.

On a different tack, the report's author's questioned current accounting standards practice, and queried whether mark-to-market pricing is necessary in all circumstances.

While the authors looked mainly at banking practice, it was argued "there may be specific conditions where this principle should not apply because it can mislead investors and distort managers' policies".

Moreover, it said within its recommendations: "Accounting standards should not bias business models, promote prop-cyclical behaviour or discourage long-term investment."

At the same time, however, the EC group appears to attack the International Accounting Standards Board's existing practices, as it recommended:

"It should be the role of the International Accounting Standards Board (IASB) to foster the emergence of a consensus as to where and how the mark-to-market principle should apply - and where it should not. The IASB must…open itself up more to the views of the regulatory, supervisory and business communities. This should be more coupled with developing a far more responsive, open, accountable and balanced governance structure."

Elsewhere within the report, the committee criticised the activity of some money market funds which saw liquidity dry up through the investments selected, and argued this demonstrated level 3 supervisory committees need more teeth as they were unable to "take common decisions" which might have facilitated management of the recent crisis.

"The basic reason for this problem is that the level 3 committees do not have the legal powers to take decisions," said the committee, and it has proposed there is a need for "a common definition of money market funds, and a stricter codification of the assets in which they can invest in order to limit exposure to credit, market and liquidity risks.

It also recommended the funding model of credit rating agencies be shifted away from "issuer pays" to a "buyer pays" model to remove any conflicts of interest in the ratings given and the robustness of both borrowers and products.

If you have any comments you would like to add to this or any other story, contact Julie Henderson on + 44 (0)20 7261 4602 or email julie.henderson@ipe.com

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