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3.43 Evidence to this review also considered the ECJ’s approach to cases involving capital movements between Third Countries and EU Member States. Regarding taxation, Dr Thomas Horsley (Liverpool Law School) commented that, compared to intra-EU movements, ‘the regulation of external capital movements at Union level has, in practice, had less impact on Member State autonomy’. Daniel Smit noted that if there is no binding agreement to allow the exchange of information between a Member State and a Third Country, then the need for effective fiscal supervision can justify a tax measure that would not be acceptable were it applied to another Member State.54 Dr Thomas Horsley also suggested that if the ECJ does rule that a national tax measure concerning one or more Third Countries is incompatible with TFEU, i.e. it restricts the Free Movement of Capital, TFEU also grants the Council the ability to effectively overturn this ruling by unanimous decision.55 Although this provision has not, to date, been invoked, in separate work Dr Thomas Horsley points out that its very presence is arguably enough to influence the ECJ’s rulings.56
3.44 As with capital movements between Member States, the TFEU rules for Third Countries do not prevent Member States from adopting measures on the provision of financial services by Third Country firms, which restrict the Free Movement of Capital, where there are regulatory reasons for doing so.57 The EU’s approach to Third Countries in the financial Article 63(1) TFEU.
Article 64(2) TFEU.
Article 64(3) TFEU.
Under existing EU law and the OECD codes of liberalisation.
Article 64(1) TFEU. For newer Member States, this standstill clause operates from the date of accession. For example, in respect of restrictions existing under national law in Bulgaria, Estonia and Hungary the relevant cut-off date is 31 December 1999.
Daniel Smit, submission of evidence, p6. See also Dr Thomas Horsley, Liverpool Law School, submission of evidence, p7, on the general case of effective fiscal supervision. Directive 2011/77 EU sets out a framework for mutual cooperation between national tax administrations. However, because this is an instrument of EU law, the Directive only imposes legal obligations on Member States (and not Third Countries).
Article 65(4) TFEU. See Dr Thomas Horsley, Liverpool Law School, submission of evidence, p8.
Horsley, T., Death, Taxes and (Targeted) Judicial Dynamism: The Free Movement of Capital in EU Law, in A. Arnull and D. Chalmers (Eds.), The Oxford Handbook of European Union Law (forthcoming in 2014), p. 24.
Article 65(1)(b) TFEU. The implementation of any measures on financial services in respect of Third Countries must be in line with the EU’s commitments in the WTO’s GATS. In practice, most measures taken in financial services can be justified on the basis of the ‘prudential carve out’ in the GATS Annex on financial services (see part 2 ‘Domestic Regulation’). This ‘carve out’, which permits restrictions where they are justified on prudential grounds, is generally considered to be quite wide – see TheCityUK, A Legal Assessment of the UK’s Relationship with the EU – A Financial Services Perspective (2014).
Chapter 3: Impact on the National Interest 47services context is discussed in Section B below.58 In addition, the applicability of the Free Movement of Capital to a Third Country firm’s provision of financial services may be limited by the fact that the activity can also concern the Free Movement of Services. If the principal fundamental freedom for a particular case is not the Free Movement of Capital then, because no other freedom has an external dimension, the right of free movement cannot be invoked by a Third Country entity. A good example of this is the Fidium Finanz case, which is discussed in the box below.
3.45 In addition to the TFEU provisions, the UK is a signatory to the OECD’s legally binding Code of Liberalisation of Capital Movements and Code of Liberalisation of Current Invisible Operations, which stipulates progressive, non-discriminatory liberalisation of capital movements, the right of establishment and current invisible transactions in OECD and adhering countries. The UK also has 94 Bilateral Investment Treaties which provide protections for investments and investors, and typically include provisions which prevent host Governments from restricting capital flows.59 Although the OECD Codes are the only international agreements on capital movements, they are not as wide-ranging and binding as the TFEU articles.
Fidium Finanz AG v. Bundesanstalt für Finanzdienstleistungsaufsicht1 In 2003 a Swiss firm, Fidium Finanz, argued that a German law effectively prohibiting Third Country firms from providing loans to German citizens contravened the free movement of capital.2 However, the Court decided that ‘... the restrictive effect on the free movement of capital [was] merely an unavoidable consequence of the restriction imposed as regards the provision of services’.
The ECJ decided that the activity of granting credit on a commercial basis primarily affects the Free Movement of Services, and therefore the compatibility of German law with the Free Movement of Capital was not relevant. Because Fidium Finanz was based in Switzerland – a Third Country – it was not entitled to rely on the Free Movement of Services in bringing its case and so its claim was rejected.
Fidium Finanz Case C-452/04 . See also Cvria Luxembourg, Press Release No 81/06: Judgment of the Court of Justice in Case C-452/04 (3 October 2006). Available at curia.europa.eu/jcms/upload/ docs/application/pdf/2009-02/cp060081en.pdf, accessed on 30 June 2014. Also: European Commission Legal Service, Summaries of Important Judgements, C-452/04 Fidium Finanz AG v Bundesanstalt für Finanzdienstleistungsaufsicht, judgment of 3.10.2006 (2006). Available at ec.europa.eu/dgs/legal_service/ arrets/04c452_en.pdf, accessed on 30 June 2014.
Third country firms without a central administration or branch in Germany. See Press Release No 81/06.
Impact of the Free Movement of Capital on the UK National Interest
3.46 Since the Treaty of Maastricht, the rate of cross-border investment activity involving the UK and other EU countries has increased. However, this period also saw a vast increase in global trade in goods and services, including through the substantial opening up of large parts of the world to international trade and a series of innovations in financial markets. As a result, there are challenges in determining the precise impact of EU legislation regarding the Free Movement of Capital.
See, for example, the box on Third Country access provisions in MiFID II.
HMG, Review of the Balance of Competences between the UK and the EU: Trade and Investment (2013) contains greater detail on Bilateral Investment Treaties. Following the Lisbon Treaty the responsibility for agreeing some investment provisions passed to the EU.
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The Single Market: Financial Services and the Free Movement of Capital
3.47 Globally, since the financial crisis, capital flows as a share of GDP have slumped. While part of this might represent a necessary correction from the very large positions that had built up before the crisis, an analysis by McKinsey Global Institute found that cross-border capital flows remained at 60% below their pre-crisis peak.60 From 2009 capital flows began to recover, but since 2011 they have, again, declined.
3.48 McKinsey Global Institute suggests that the weak recovery of capital flows amongst advanced economies has in part been driven by banks slimming down the number of jurisdictions in which they operate, as well as the number of business lines that they offer.61 Notably, since the start of 2007 almost half of the $722bn in assets that have been sold off by banks have been in foreign operations. McKinsey Global Institute argues that new regulations on capital and liquidity since the financial crisis, as well as pressure on banks from both shareholders and regulators to reduce risks, explains some of this activity. A 2013 Comission working paper found that the decline in international capital flows since 2011 seems to have been driven by a slowdown in private sector portfolio flows.62 The Commission notes that, in 2011, European companies exhibited a greater preference for investing in their home markets, relative to other EU countries, compared to previous years. In other words, the share of foreign assets in their portfolios decreased. Merger and acquisition activity followed a similar pattern between 2009 and 2011, possibly as the uncertain economic outlook made foreign activity appear more risky than domestic activity.63
3.49 Foreign Direct Investment (FDI) is one category of capital flow that has proved more stable.
Given FDI’s longer term nature, these flows are less susceptible to sudden reversals, and so are less volatile than other types of flows such as portfolio investment.64 Inward FDI can benefit the UK through a number of channels, such as technological innovation and diffusion. Figure Eight shows that the proportion of the UK’s FDI attributable to the rest of the EU has remained broadly stable over the last decade. Around half of the UK’s inward FDI is from the rest of the EU, and the EU has provided the destination for just over half of the UK’s outward FDI.
McKinsey Global Institute, Financial globalization: Retreat or Reset? (2013).
European Commission, Commission Staff Working Document on the Free Movement of Capital in the EU (2013), p5.
European Commission, Commission Staff Working Document on the Free Movement of Capital.
See European Commission Commission Staff Working Document on the free movement of capital in the EU
1,200 1,200 1,000 1,000
B. The Global Nature of Financial Rules and Markets
3.51 The international dimension has a significant impact on the EU’s competence in financial services with regard to both rules and market access. The increasingly global nature of financial services has resulted in an international framework of regulatory standards.
As these standards have been significantly rewritten since the crisis, this has created an important context for the EU’s own approach to regulation in the last few years. The trend towards more globalised markets in the last few decades means that the EU’s competence in defining the terms of trade in financial services for Member States with other non-EU countries is another important international dimension to the relationship between the EU and the UK.
Interaction between EU Rule-Making and the International Framework
3.52 The failure to have an adequate governance system to oversee the increasingly global nature of financial services was one cause of the financial crisis. It is, therefore, appropriate that efforts to set standards and address the weaknesses that were exposed are taken at a global level, including by the G20, FSB and the SSBs.65 See Figure Nine for a simplified Key SSBs include: the Basel Committee on Banking Supervision (BCBS), which has developed the standards on capital and liquidity requirements; the International Organization of Securities Commissions (IOSCO), which has played a leading role in taking forward steps to improve the transparency and efficiency of markets, including greater reporting of derivatives transactions; and the International Association of Insurance Supervisors (IAIS), which has helped to develop high-level standards for insurance firms.
50 Review of the Balance of Competences between the United Kingdom and the European Union:
The Single Market: Financial Services and the Free Movement of Capital and stylised diagram of how the international, EU and national dimensions of financial services policy-making interact.
3.53 Since the financial crisis, these international bodies have become ever more important and influential through the major overhaul of financial regulation and supervisory practices. New global standards focused on, among many issues, the quantity and quality of capital and liquidity, the clearing of OTC derivatives, the supervision of CRAs, market infrastructure, and bank resolution. Some stakeholders, for instance the Wholesale Markets Brokers’ Association (WMBA), considered international standard-setting to be more important to the UK than EU rule-making.66
3.54 Evidence highlighted the importance of consistency at an international level.67 For example, JP Morgan commented, ‘The complexities of implementing globally coherent rules and the resulting implications for the wider economy increasingly require strong co-operation and co-ordination across jurisdictions’. A number of respondents emphasised the key roles of the G20, FSB and SSBs in facilitating cooperation and a coordinated approach to the design and implementation of standards.68 While coordinated high-level commitments agreed at the global level should ensure that there is a degree of consistency in rule-making, tensions can arise as commitments are not strictly binding, can be interpreted differently, and can be implemented at different times.
WMBA, submission of evidence, p5.
See: Bank of America Merrill Lynch, submission of evidence, p3; Barclays, submission of evidence, p6; BBA, submission of evidence, p7; FBCC, submission of evidence, pp2, 4-5; HSBC, submission of evidence, pp2, 4-5;
and JP Morgan, submission of evidence, p2.
Please see: Bank of America Merrill Lynch, submission of evidence, p3; BBA, submission of evidence, p7;
Source: HM Treasury 52 Review of the Balance of Competences between the United Kingdom and the European Union:
The Single Market: Financial Services and the Free Movement of Capital