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Frederic Jenny Chair OECD Committee Professor of Economics ESSEC. Financial crisis , Regulation and Antitrust. CIRC Conference on Revisiting the Global Experience with Economic Regulation, New Delhi, April 19th and 20th 2011. Issues. Measures adopted by governments in a period of crisis
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Frederic Jenny Chair OECD Committee Professor of Economics ESSEC Financial crisis , Regulation and Antitrust CIRC Conference on Revisiting the Global Experience with Economic Regulation, New Delhi, April 19th and 20th 2011
Issues Measures adopted by governments in a period of crisis 1) Measures aimed at restoring confidence in financial markets and ensuring the stability of financial markets. 2) Extending the reach of regulation in the financial sector 3) Measures aimed at preventing the extension or the deepening of the economic crisis in the real sector. 4) Protectionist measures The role of competition authorities in a time of crisis 1) Interventions of competition authorities in the regulatory process 2) Possible enforcement adjustments in a time of crisis 3) Possible agenda for the post-recovery period Conclusion
Short run and long run consequences of the financial and real crisis for antitrust: Two different questions: 1) How is antitrust going to be affected during the crisis (a period of retrenchement) 2) What is the antitrust world going to look like after the crisis (a return to business as ususal ? The emergence of a new paradigm ?)
Measures adopted by governments in a period of crisis • Measures aimed at restoring confidence in financial markets and ensuring the stability of financial markets. • -Injections of liquidity into financial markets by central banks; • -Issuances of short and medium-term debt to assist banks, credit • institutions, pension funds or insurance companies to overcome a • temporary liquidity shortage; • -Government guarantee of financial institutions’ liabilities; • -Regulatory capital forbearance, • -Recapitalization of banks and insurance companies. • -Carving-out of insolvent banks’ bad loan portfolios (usually • accompanied by organizational restructuring of the banks); • -Restructuring of the banking and financial sector in order to • increase the stability of these sectors.
Preventing an outright collapse of the financial system After September 2008 EU Member State governments, together with the Commission, spelled out the principles and objectives for a coordinated approach to tackle the crisis. Rescue packages for national banking sectors were rapidly set up, in line with the guidance swiftly provided by the Commission on the design and implementation of State aid in favour of banks. Between October 2008 and July 2009 , the Commission has approved a total of over 3½ trillion (almost one-third of the GDP) of State aid measures to financial institutions. So far, EUR 1½ trillion (13% of GDP) have been effectively used under the four main headings of debt guarantees, recapitalisation, liquidity support, and treatment of impaired assets. The main rationale is to ensure that rescue measures can fully attain the objectives of financial stability and maintenance of credit flows, while minimising competition distortions and negative spillovers of public interventions between beneficiaries of aid in different Member States, between beneficiaries with different risk profiles and between aid beneficiaries and banks that do not benefit from aid. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
State guarantees on bank liabilities They represent the largest budgetary commitment among the aid instruments, with EUR 2.9 trillion (25% of EU GDP) of approved measures, out of which EUR 1 trillion (8% of GDP) have been effectively granted. Set up as an immediate response to the drying up of liquidity in the interbank market in the early days of the crisis, their aim was to provide a timely solution to the lack of confidence and remedy the liquidity squeeze and its wider consequences. Member States have typically chosen to provide such guarantees in national schemes, with a time limited window during which banks could make use of them. The main potential source of negative spillovers of such measures, which could also jeopardise their effectiveness, was the danger of large flows of funds between Member States in search for the highest level of protection. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
State guarantees on bank liabilities In order to avoid such arbitrage, the Banking Communication of 13 October 2008, together with the ECB recommendations on pricing of government guarantees, provided conditions with which any national guarantee on banks liabilities would have to comply. - They need to be open to all banks, including subsidiaries of foreign banks established in a Member State without any discrimination; -they can cover liabilities longer than 3 months lasting up to three years (subsequently prolonged. Some Member States also chose to provide other liquidity and bank funding support, totalling over EUR 300 billion (3% of EU GDP) of approved measures, of which the bulk has been used. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Example: the Irish bank guarantee scheme On 2 October 2008, following a crash in the value of bank stocks on the Irish stock exchange, the Irish Government decides to grant an unlimited guarantee on all bank deposits at its six main banks for the next two years, to maintain financial stability. The Irish guarantee scheme does not underwrite the non-Irish banks which were competing with the Irish Banks, thus creating a potential domestic competition problem. It triggered a cross-border flow of cash from British businesses to Irish banks making the British banks more fragile The British Government denounced the discriminatory and anti-competitive nature of the Irish scheme. The European Commission forced the Irish Governement to amend its scheme and to provide coverage of banks with systemic relevance to the Irish economy (not just “Irish” banks).
Recapitalisation of banks in the EU . The Commission published the Recapitalisation Communication of 5 December 2008 (European Commission 2008c) guiding the design of recapitalisation of banks by Member States. The main principles that limit the competition distortion of these structural and lasting interventions are • (i) the price that the beneficiary has to pay for State capital, which depends on the risk profile of the bank and the seniority of the instrument used, and • (ii) the follow up required from the bank, which can go from an exit strategy from reliance on State capital for fundamentally sound banks to in-depth restructuring or liquidation for distressed banks. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Example: the recapitalization of Northern Rock In August 2007, the British Government announces various public support mechanisms to support Northern Rock Plc bank and the bank is taken into temporary public ownership (TPO) in February 2008. The Office of Fair Trading points out that in the personal current account, savings and investment product markets, consumers concerned about the stability of banks might choose Northern Rock because it was the only bank with a 100 per cent deposit guarantee. The OFT also worries that Northern Rock might be able to take advantage of a lower cost of capital in money markets to offer lower rates on its mortgages. “This could lead to an adverse impact on competition that may in turn lead to consumer harm”. The Northern Rock Restructuring Plan issued in March 2008 includes commitments by Northern Rock to minimise risk of competitive distortions. It will not promote its offering on the basis of Government guarantee arrangements, nor will to sustain a prolonged market leadership in any product category and to maintain market shares at well below historic levels.
Treatment of impaired assets On 25 February 2009,the Commission (European Commission 2009g) provided guidance for the treatment of impaired assets. Irrespective of the design of the asset relief measures, be it as purchase, guarantee, or a hybrid, it requires full transparency and disclosure from beneficiary banks, adequate burden sharing between the State and the beneficiary, and prudent valuation of impaired assets based on their real economic value both in the base and stress Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Other measures: the merger between LLoyds TSB and HBOS In September 2008 the UK government engineers acquisition of HBOS Plc by Lloyds TSB. The Office of Fair Trading reports that Lloyds TSB would then have a share of 33% on the market for personal accounts and 28 % of the U.K. home-loan market and that the collective share of the big four UK banks would rise from 67 to 80%. It states that: “there is a realistic prospect that the anticipated merger will result in a substantial lessening of competition in relation to personal current accounts, banking services for small and medium sized enterprises and mortgages.” On 24 October 2008, an amendment to the UK’s merger control rules introduced a new public interest consideration to be weighed against the consideration of effect on competition: “maintaining the stability of the UK financial system” and the merger is approved on 31 October 2008
Importance of competition in the financial sector in a time of crisis • Complement of stimulus packages (distribution of credit) • Passing on of decrease in refinancing rates ( cheaper credit) • Financial innovation ( allowing savings to be directed into the most productive capital investments). Those objectives are unlikely to be achieved unless there is a sufficient degree of competition between financial institutions
Independent Commission on Banking in the UK: Interim Report (…) UK retail banking needs to be more competitive. The damage to competition done by the crisis will not be remedied by the divestitures of RBS and Lloyds assets required by the European Commission. But now there are opportunities to make competition work better for customers. First, the Lloyds divestiture could be strengthened to create a more effective challenger to the incumbent banks. Second, the ability of customers confidently to switch between banks could be greatly improved. Together with better conditions for customer choice, this would make banks compete more effectively to deliver what customers want. Third, current reform of UK regulatory institutions must ensure that effective competition can at last be a central force in UK financial regulation. The Commission’s current view is that all three opportunities to promote competition should be seized. 1) Sir John Vickers, April 11 2011
Possible toxic effects of direct interventions in the financial sector • Distorsion of incentive leading operators to deviate from profit maximizing behaviour • Distortion of competition (aided financial institutions can prevail over possibly more efficient unaided competitors) - Unnecessary lessening of competition ( particularly in the area of mergers)
Conclusion Measures aimed at restoring confidence in financial markets and ensuring the stability of financial markets are often discriminatory and anticompetitive and they may also impact competition in the real sector (ex Farm Equipemnt in the US). In some cases the NCA is not consulted ( ex Irish Bank Guarantee Scheme, Farm Equipment in the US) ; in other cases the NCA is consulted either successfully (ex: Northern Rock bail out) or unsuccessfully (ex Lloyds Plc/ HBOS merger) The EC Commission has some power to force Member States which take discriminatory or anticompetitive measures but is powerless to intervene in some other cases ( ex:the Lloyds Plc/ HBOS merger).
Measures adopted by governments in a period of crisis • 2) Extending the reach of regulation in the financial sector • - Strengthening of prudential regulation of financial institutions • - Regulation to limit the growth or the diversification of banks • - Regulation of new players on financial markets ( hedge funds , for example) • - Regulation of new financial instruments ( CDOs, for example) • - Regulation of incentives for executives in the financial sector (bonuses, golden parachutes, stock options) • Regulation of Credit Rating Agencies • Modifying accounting rules ( mark to market) • Extending the reach of regulators ( international cooperation)
Independent Commission on Banking in the UK: Interim Report First, we estimate that systemically important banks should have an equity ratio of at least 10% provided that they also have genuinely loss-absorbing debt. We believe this should be agreed internationally. But whether or not it is, we believe that it should apply to UK retail banking. Then international standards would apply to the wholesale and investment banking activities of UK banks, so long as the taxpayer is not on the hook if they fail. Second, and in structural support of that approach to capital, the Commission sees merit in a UK retail ‘ring-fence’. This would require universal banks to maintain the UK retail capital ratio – that is, not to run down the capital supporting UK retail activities below the required level in order to shift it, say, to global wholesale and investment banking. Our current view is that such a limit on banks’ freedom to deplete capital would be proportionate and in the public interest, and would preserve benefits of universal banking while reducing risks. Without it, capital requirements higher than 10% across the board might well be called for. 1) Sir John Vickers, April 11 2011
Example : regulating the credit rating agencies (CRAs) Ensuring that CRAs give accurate assessments of the risk quality of assets is crucially important for investors, firms seeking financing, regulated firms such as banks which are constrained in the kind of risky assets they can hold and regulators who rely on CRAS assessments. Reasons to doubt that competition is strong and that it will eliminate CRAs giving poor quality credit rating (high concentration, necessity for regulated firms or other firms to get credit rated leading to low price elasticity of demand, possible conflicts of interest when CRAs also sell other services, possible collusion between CRAs and clients). Alternative solutions with different competitive impacts include self-regulation, transparency requirements and best practices, regulation, modification of regulatory agencies reliance on assesments of the Big Three, creation of public rating agencies etc.. 19
Possible toxic effects of regulations • Ineffective regulations (loopholes, electricity regulation and Enron, financial regulation) • Regulations which distort incentives in unexpected ways • Regulations which unnecessarily restrict/ distort competition (telecom regulation after the breakup of ATT) -Regulations which impair innovation ( see Greenspan) Hence necessary cooperation between sectoral regulators and competition authorities for the design of appropriate regulations
Conclusion II Regulatory proposals for the financial sector can have serious implications for competition. There is a large number of such proposals being considered now following the G-20 meeting of A lot of these proposals are drafted by financial authorities or rgulators without input from competition authorities and it is far from sure that competition issues are even considered to be relevant by the drafters
Measures adopted by governments in a period of crisis • 3) Measures aimed at preventing the extension or the deepening of the economic crisis in the real sector. • Stimulus packages including: • Direct aid to ailing business firms or small and medium size firms which are collateral victims of the credit crisis; • -Subsidized interest rate for certain types of firms; • -Sectoral aid designed to boost demand in specific sectors.
Fiscal stimulus: The European Economic Recovery Plan (EERP) Stimulus package Endorsed by the European Council in December 2008. The Plan aimed to provide a framework for a coordinated crisis control policy, while also laying down guidance on principles governing the measures taken at national level. Size: The Plan originally totalled €200 billion, or 1.5 per cent of EU GDP in 2009, to boost demand while respecting the Stability and Growth Pact. It was made up of a budgetary expansion by the Member States of €170 billion and EU funding to support immediate actions of about €30 billion. Total spending has been greater than initially foreseen, however, with outlays amounting to 1.4 per cent of GDP in 2010 in addition to the 2009 stimulus. In line with the principles set out in the Plan, many Member States have adopted or announced significant fiscal stimulus packages to promote investment, support households’ purchasing power, help enterprises and sustain labour markets. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Supporting viable businesses: The European Economic Recovery Plan (EERP) Stimulus package The EERP recognised the need for public intervention to support viable businesses during the crisis to ease financing constraints facing and to support specific credit services (e.g. export credit insurance) which markets were temporarily unable to provide, at least at economically viable conditions and prices. Beyond the aggregate demand support provided by macroeconomic instruments, there may also be a case for temporary government support targeted at sectors where demand has been disproportionately affected by the crisis and could cause important dislocations. Temporary public support could help prevent unnecessary and wasteful labour shedding and the destruction of otherwise viable and sound companies. These measures will help contain the negative effects of the crisis on potential output by preventing a permanent loss of knowledge and skills and a reduction of productive capacity far beyond what would be expected during a normal cyclical slowdown. Finally, there may be instances, where government support on the supply side is warranted for sectors and business where there are technological or other spillovers benefits to the economy. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Supporting viable businesses: The European Economic Recovery Plan (EERP) Stimulus package The March 2009 Commission Communication "Driving European Recovery" set out a number of guiding principles for actions to be taken by Member States in support of businesses, among which were the following: -Maintaining openness within the internal market, continuing to remove barriers and avoid creating new ones. -Ensuring non-discrimination by treating goods and services from other Member States in accordance with EU rules and Treaty principles. -Targeting interventions towards longer-term policy goals: facilitating structural change, enhancing competitiveness in the long term and addressing key challenges such as building a low carbon economy. -Sharing information and best practice. -Pooling efforts and designing measures so that they generate synergies with those taken by other member states. Stronger co-operation at European level is key in this respect. - Keeping the Single Market open to trading partners and respect international commitments, in particular those made in the WTO. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Assessing support for businesses measures in The European Economic Recovery Plan (EERP) Stimulus package Support for businesses sectors under the EERP has been provided both on the demand and the supply side (state aid). Most Member States have put in place horizontal frameworks that allow policy support to be given to sectors that are most affected by the crisis (e.g. cars, tourism, construction), and, as a general rule, these seem temporary, targeted and timely. However, there is considerable variation across Member States in terms of the support actually provided. Also, the effectiveness of national schemes for industries operating across the entire internal market could be somewhat limited. Should schemes need to be maintained beyond the year end then there would be a clear case for more coordination at the European level. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
The European Economic Recovery Plan (EERP) Stimulus package The national plans have generally been targeted on policy areas identified in the Plan: - about 39 per cent of the stimulus has been directed towards supporting households’ purchasing power (including vulnerable groups), • 16 per cent to supporting labour markets, • 20 per cent to investment activities, and • 25 per cent as support to businesses. • About two thirds of support measures are temporary. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Example: the introduction of discriminatory provision in the US stimulus package The American Recovery and Reinvestment Act (ARRA) adopted in February 2009 included a provision which required the use of US produced steel, iron and manufactured goods in public works funded by the ARRA, subject to certain exceptions (public interest, non-availability or unreasonable cost). A second provision required the Department of Homeland Security to procure US manufactured textile and apparel goods. Following President Obama’s intervention, the ARRA requires that these provisions be applied in a manner consistent with US obligations under international agreements. Further, Congress has indicated that the "buy American" provision for iron, steel and manufactured goods is not intended to apply to LDCs. However, US state and municipal governments will be able to impose restrictions on the origin of steel and manufactured goods in procurement markets.
Example:the introduction of discriminatory provision in the Chinese stimulus package China also adopted a large stimulus package ( worth US$ 586 billion) at the end of November 2008. A notice issued by several central state agencies including the powerful National Development and Reform Commission on May 26 2009 asserted that purchasing by local governments had actually been biased in favour of foreign suppliers . The notice requires that for the future Chinese companies should receive contracts for government stimulus projects unless Chinese companies can’t deliver certain technical goods at a reasonable price or time frame.
Ex : The auto bailout plan in France A controversy erupted in February 2009 as to whether the French auto bailout plan was compatible with EU competition rules. On 5 February 2009, President Sarkozy had indicated that he wished that: “the movement toward relocating plants outside France be stopped and that, if possible, jobs be repatriated to France” He added: “If financial aid is given to the automobile sector for restructuring, it is on the condition that no new plant will be moved to the Czech Republic or elsewhere”. On 10 February 2009, the EC Competition Commissioner’s suggested that such aid would be illegal under EU competition rules. That same day, the EU presidency (exercised under the rotation system by the President of the Czech Republic) denounced the “ protectionism” of the French Government. So did the German Government. On on 27 February 2009 the Commission finally approved the aid measures.
Conclusion III • -Stimulus packages may have discriminatory and/or anticompetitive effects by design (cf Buy American Act); • It is often because governments fearing that ( economic) leaks may benefit foreigners, insert discriminatory conditions into their fiscal programs to prevent such seepage when they consider using budgetary deficits as a means to support demand ( ex French automobile industry bail out) • -Adoption of discriminatory and anticompetitive rules leads to retorsions ( cf China Buy Chinese Act) • - International pressure is in some cases sufficient to eliminate some discriminatory and anticompetitive aspects of stimulus packages but not in other cases ( see the difference between US and China)
Measures adopted by governments in a period of crisis • 4) Protectionist measures • Direct protectionist border measures • Imposition of antidumping duties • Tariff increases • Non tariff barriers
Risks of protectionist measures as a response to the crisis Stimulus package At this juncture, European businesses also face the additional risk of an increase in the recent resurgence of protectionist tendencies globally which are reflected in various types of measures, often below the threshold of being actionable but with the potential of triggering an avalanche of "tit for tat" responses. Ensuring that measures supporting the business environment through the crisis do not contribute to such developments will be crucial. Preventing that remains an important task for monitoring and coordination going forward. Economic Crisis in Europe: Causes, Consequences and Responses EUROPEAN ECONOMY 7|2009
Protectionist measures We commit to fight all forms of protectionism and maintain open trade and investment Communiqué following the G-20 meeting in the U.K., Sunday March 15 2009 But - Early in 2009, the US congress adopted a Buy American provision in the economic stimulus package • The US is preparing to impose antidumping duties on Chinese steel imports • In 2008 India imposed safeguard measures on steel imports • In early 2009 France adopted measures to subsidize potential buyers of Airbus planes ( 5 billion euros) etc….. • In early 2009 France considered conditioning state aid to the automobile industry on repatriation of plants on French territory.
The trade coverage of crisis-era protectionism Of the beggar-thy-neighbour state measures taken since the first crisis-related G-20 summit in November 2008, nearly 650 have yet to be reversed. (…) A total of 22 so-called jumbo measures were identified here and then analysed. (…) The trade coverage of these jumbo measures is equivalent to more than ten percent of world imports. This level of trade coverage makes crisis-era protectionism a trillion-dollar phenomenon worthy of greater attention from policymakers Simon J. Evenett and Johannes Fritz: "Jumbo" discriminatory measures and the trade coverage of crisis-era protectionism, 21 June 2010
Table 1. The list of jumbo discriminatory measures, presented in descending order of trade covered.
Possible enforcement strategies for competition authorities in the near future 1) Denial: Nothing has happened which should lead competition authorities to do anything differently ( the crisis happened because we did not rely enough on unregulated competitive market mechanisms) (Business as usual) 2) Panic: The exclusive focus on consumer welfare is untenable in a period characterized by a deep financial and economic crisis calls for more regulation and protectionist policies. We have to go back to the antitrust goals of the 1960’s which were more concerned with distributional issues 3) Adjustment: We should keep the same goals and standards but acknowledge that the macroeconomic context in which we are enforcing competition is different from the past and acknowledge that this is going to influence antitrust enforcement.
Role of competition authorities in crisis 1) Help design adequate regulations 2) Help design and/or control rescue packages ( particularly: conditions of aids, sunset clauses, rendez vous clauses, evaluation, etc….) 3) Control of protectionist measures ( are US and EU competition authorities right to abstain from intervening in antidumping proceedings?) 4) Merger control 5) Control of anticompetitive practices by firms 6) Take up new issues
1) Interventions of competition authorities in the regulatory process • Consultation/Advocacy Ex: US Banking mergers ( DOJ and FED simultaneous competition assessments) But US lack of consultation of FTC on automobile bailout package • Participation in governmental decision making process • Ex: Status of Korean KFTC chairman; is there a trade off between independence and influence • Control of impact of government interventions on competition • Ex EC State Aid Control, France (binding opinions of competition authority in some cases).
2) Possible enforcement adjustments in a time of crisis • Case selection (more pressure to take up socially relevant cases in a time of economic depression • Procedural flexibility ( ex week end reviews of bznke mergers or bail out plans) • Interim measures/ preliminary injonctions ( increased fragility of some firms) • Cartel enforcement ( likelihood of increased frequency of cartels but increased instability of cartels) • Potential competition ( decrease in the fluidity of reallocation of resources, lower intensity of potential or actual competition due to sharp decline in international trade)
Possible enforcement adjustments in a time of crisis • Abuse of dominance/monopolization ( more concern about ensuring that dominant position do not impair entry, toward a revision of Trinko?) • Mergers (more frequent use of the failing firm doctrine) • Merger remedies (possible difficulties to impose divestitures because of paucity of potential buyers hence either longer delays granted for divestiture or shift toward behavioural remedies)
3) Possible agenda for the post-recovery period 1) Renewed attention to the way in which constraints/rewards shape performance at the micro level (incentive structures) 2) Renewed focus on principal-agent relationship in corporate structures (board governance) 3) Risk as a dimension of economic performance ( possible developments toward behavioural economics) 4) Issue of social responsibility of firms (employement, compensation, environment, climate etc…..) 5) Relationship between regulation and competition
Conclusion Competition is not part of the problem but it is definitely part of the solution. What we have learned from the crisis is that short run profit maximization ( by bankers) combined with excessive risk taking without consideration for long term economic development can have catastrophic results. This lesson also applies to the remedies used in a period of crisis. Competition authorities have an important role to play in the coming years.