European Community liberalizes financial services market to become more competitive

Business America, Feb 8, 1993 by Bob Straetz

The European Community single market in banking went into effect on Jan. 1, and major reforms in insurance and investment services have been adopted or are near final approval. Key insurance and investment services directives are scheduled for implementation in 1994 or 1995. These liberalizations will benefit both business and consumers, who will have a wider range of financial services made available at lower prices and with better service. U.S. banks have identified opportunities in the new EC market in investment and merchant banking.

The Cecchini Report on the "Costs of Non-Europe," prepared for the European Commission, estimated that the gains expected from real integration of the European financial services market would be about Ecu 22 billion, or $26.4 billion. According to this report, the deregulation of financial services should lead to an average price reduction of 1.4 percent and add 1.5 percent to the EC's gross domestic product over a three-to-five year period.

The second banking directive is the central feature of the EC's new rules in banking. The second banking directive pertains to "credit institutions" which the EC defines as "an understanding whose business is to receive deposits or other payable funds from the public and to grant credits for its own account." The main benefit of the second banking directive is the introduction of the single license which enables a bank to establish branches and sell a wide range of services throughout the Community, including securities.

A credit institution receives a single license once it is licensed by the EC member state in which it is based. An EC bank gaining a "home" country authorization will not have to meet separate legal requirements to set up a branch in an EC "host" country.

The EC's insurance and investment services reforms enable a firm, once authorized by an EC home country, to establish branches and sell services throughout the EC without having to meet separate member state legal requirements. The "framework" directives in both non-life and life insurance which call for the use of the single license have been adopted and are scheduled to be implemented in mid-1994. The EC hopes to adopt the investment services directive by the middle of 1993 with implementation set for sometime in 1994 or 1995.

In some respects, the EC banking and insurance markets will become more liberal than the U.S. market. U.S. federal laws limit banks from selling securities and from branching across state borders. U.S. insurance laws require a firm to be chartered in every state in which it writes policies.

It is noteworthy that the seven European Free Trade Association (EFTA) countries will be covered by the EC's financial service laws as soon as the European Economic Area (EEA) treaty goes into effect, scheduled later this year. The EFTA countries are Austria, Finland, Iceland, Norway, Sweden, Switzerland, and Liechtenstein. The EC and EFTA have a total population of 380 million and a combined gross domestic product of roughly $6.9 trillion. When the EEA goes into effect, a bank, insurance company, or investment services firm gaining a single license in the EC will be able to sell products and establish branches in the seven EFTA countries without needing separate authorizations.

Similarly, a bank, insurance firm, or investment services company registered in an EFTA country will be able to gain a single license and branch freely and sell its services throughout the 19-nation EEA.

The EC views the creation of the "single market" in financial services as a necessary step for its plans to form an Economic and Monetary Union (EMU) leading to use of a single currency by the end of the decade.

The foundation for the single market in financial services is the freedom of capital movements directive, implemented in July 1990. This directive enables businesses and consumers to move capital in and out of EC countries which have implemented the directive to take advantage of the most profitable investment opportunities without being restricted by member state controls. The directive is to be fully implemented by the end of 1995. Spain, Portugal, Greece, and Ireland were granted exemptions from certain parts of the directive when it was originally implemented in 1990 in order to give their economies a time to adjust.

The main feature of the single market in financial services is the "passport license" (or single license) allowing a firm, once authorized by the EC country where it is legally established, to sell its services and establish branches freely throughout the Community. Banks, insurance companies, and investment services firms are eligible to receive this license. Here are some major features of the single license:

* The single license is based on the principles of mutual recognition and home country control;

* Mutual recognition means an EC host country must recognize a branch authorized in an EC home country. The host country cannot make the bank comply with separate legal requirements; and