The negotiations that started in mid-2013 between the US and the European Union (EU) to set up the world's largest bilateral free trade agreement (the Transatlantic Trade and Investment Partnership or TTIP) have the major aim of eliminating tariffs and reducing non-tariff barriers on goods and services. As in other free trade agreements, financial services are also covered in the TTIP given their global, interconnected nature and also because of their importance for financial stability. What is the current status of the negotiations regarding financial services and exactly which issues are likely to be covered? This article analyses the role of capital markets and the banking sector within the TTIP and, in more detail for the banking sector, the advantages and difficulties in fostering greater integration and the provision of cross border services. It also looks at the proposals for greater market access, in which there are currently several areas of disagreement, especially those related to sector regulation.
First of all, it is difficult to predict whether the TTIP negotiations will help to achieve greater integration of capital markets on both sides of the Atlantic. At present there are considerable differences between the capital market of Europe and of the United States, the latter being considerably more developed (see the first graph). These differences are partly due to the lack of a common regulatory and legislative framework within the EU. To make progress in this direction in the medium and long term, the European Commission has started preparations to create European Capital Market Union that reduces barriers to market access and which, among other goals, improves market liquidity, reduces obstacles to developing collective financing platforms (i.e. crowdfunding) and standardises the fiscal treatment of different types of financing between Member states.1
On the other hand, a priori the TTIP also offers greater potential for integrating the banking industry. To put the size of this sector into perspective we must first note that the transaction costs of providing cross border financial services are relatively small in comparison with, for instance, other sectors such as food, chemicals or automobiles (see the second graph). It is estimated that costs due to non-tariff barriers (differences in regulations and industry standards) in financial services totalled around 6 billion dollars in 2011, less than half the costs of the other three sectors mentioned. In spite of these lower costs, the banking industry is very important in the TTIP negotiations as greater bilateral collaboration would not only help to reduce these barriers but would also facilitate coordination between different regulators and consequently improve financial stability.
Both partners believe it is necessary to reduce barriers and transaction costs to ensure more efficient banking services and provide consumers with the best services and more alternative financing solutions. Moreover, this agreement could also benefit those financial service providers that operate online at a cross border level, such as PayPal, which are usually less subject to prudential requirements and more affected by arbitrary rules (limits on commissions charged for payments, etc.). In this respect, the reduction in non-tariff barriers within the TTIP could particularly benefit SMEs,2 especially already internationalised medium-sized companies that do not have sufficient scale or resources to secure the best financing prices related particularly to comex services (financing exports and imports and other foreign trade transactions such as exchange rate insurance, letters of credit and FX options), as well as those SMEs on the brink of internationalisation since lower costs could encourage them to make the jump.
In spite of the advantages that could be offered by the TTIP both for the banking industry and its customers, there are significant differences in the regulatory framework of both partners which hinder greater market access. For example, as a result of the financial crisis the US passed ambitious legislation for the financial sector known as the Dodd-Frank Act in an attempt to avoid future crises. Among other prudential requirements the Dodd-Frank forces banks to pass demanding stress tests based on qualitative and quantitative variables, prohibits proprietary trading, limits investment in hedge funds and private equity funds (also known as the Volcker rule) and requires subsidiaries of foreign banks in the US (with assets in excess of 50 billion dollars) to comply with this legislation. Some of these measures are now being designed or implemented in the EU.
Given this situation, the positions of the US and EU regarding the banking industry's role in the TTIP are quite clear and do not tend to agree. The EU's position goes a step further than in previous trade agreements in the area of financial regulation, proposing the creation of a framework for regulatory cooperation that helps to avoid future financial crises.3 This framework essentially consists of establishing a formal structure for mutual consultation before any new regulatory measures are started, as well as ensuring maximum coherence in implementing the agreed regulatory and supervisory standards to foster a level playing field internationally.
The fear in the EU is that the prudential requirements approved in the Dodd-Frank Act may make this level playing field difficult in practice, as well as market access at a cross border level. For example, the fact that subsidiaries of foreign banks in the US are subject to American regulations means that they must meet capital requirements (leverage ratio) of 5%, a higher level than the 3% minimum established by the international Basel III standards and adopted in European regulations. Similarly, under the Volcker rule proprietary trading is allowed with US Treasury debt (without representing a service for third parties) but is prohibited in the case of foreign public debt. These differences in how public debt is regulated cause concern in Europe because they could adversely affect European public debt markets, reducing their liquidity and increasing financing costs.
For its part the US government opposes, for the moment, the proposal for greater cooperation regarding financial regulation as it wants to maintain total discretion in regulating its financial sector. Its view is that the EU's proposal could be used to stir up debate about the suitability of the more controversial measures in the Dodd-Frank Act such as the leverage ratio. The US argues that reducing domestic standards to improve international consistency would hinder the process towards a more secure global financial system.4 Moreover the US believes there are already sufficient international financial forums and bodies to coordinate financial regulation, such as the G-20, the Financial Stability Board, the International Monetary Fund, the Basel Committee on Banking Supervision and the Financial Markets Regulatory Dialogue, among others.
In short, a truly satisfactory agreement on financial services for both parties appears difficult to achieve unless aspects related to prudential regulation are previously excluded from the negotiations. In any case the TTIP can and should serve to complement the efforts already being made by existing international forums to encourage more transparent regulatory policies and also to share more information on regulatory initiatives that are underway or planned.
Gerard Arqué Castells and Carlos Martínez Sarnago
Strategic Planning and Financial Markets Unit, Strategic Planning and Research Department, CaixaBank
1. See Verón, N. and Wolff, G. (2015), «Capital Markets Union: a Vision for the Long Term», Policy Contribution 2015/05, Bruegel.
2. See the European Commission survey on SMEs (2015), «Small and Medium Sized Enterprises and the Transatlantic Trade and Investment Partnership».
3. See the European Commission document (2014), «TTIP - Cooperation on financial services regulation».
4. See Johnson, S. and Schott, J. «Financial Services in the Transatlantic Trade and Investment Partnership», Policy Brief number PB13-26, Peterson Institute for International Economics.