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Rebuilding foreign exchange
Monday, December 19, 2011
by Lianna Brinded
Lawyers have told Euromoney that despite
most of the national leaders from the European Union (EU)
having established a working treaty to save the eurozone and
the areas currency, politicians and regulators are not
only not equipped to deal with Europes sovereign debt
crisis but are also in denial over the legal implementation of
many of the proposals.
Whilst the recent treaty and regulatory regime changes
show us that eurozone financial institutions and banks are at
least aware of the problems to a certain extent, a key issue is
that the practical legal ramifications of the crisis have not
yet been really considered, says James Campbell, partner
at law firm Pillsbury and past adviser to the Russian Federal
Securities Commission and the Uzbek Centre for the Securities
Markets. Some regulators can be characterized as being in
total denial over legal realities whilst financial institutions
are reacting very slowly. Potentially, we could be facing a
massive dislocation throughout Europe. If the damage is to be
contained then regulators will need to step in and play an
active role rather than just leaving the situation to
Earlier this month Frances president, Nicolas Sarkozy,
and Germanys chancellor, Angela Merkel, unveiled a treaty
that would affect all 27 EU member states in a bid to tackle
the eurozones sovereign debt crisis and seek to stop a
break-up of the currency.
Changes included more legal and financial powers for the EU
authorities in Brussels, harmonized tax laws, including the financial transactions tax, and a
comprehensive agreement on a new set of fiscal
rules, in a bid to save the euro.
Proposals have also included tougher budgetary measures and
moves to relax rules on the private sector taking losses on
future eurozone bailouts.
However, UK prime minister David Cameron
controversially vetoed the treaty as it was not in
Britains interests, which is a move seen to
reinforce the countrys unwillingness to accept more
powers being assigned to Brussels.
However since the outset, market participants as well as legal
experts have remarked on the lack of clarity in how the treaty would impose
fines on countries for not adhering to set deficit levels
or even if the EU decided to try to eject a country from the
I feel that its absurd to believe that you can
successfully impose a system of fines on a sovereign
basis, says Simon Smith, chief economist at FXPro.
People can be fined, but not countries. Whats the
stick? Pay up or leave the euro? That wont
be on the table because that would then leave countries open to
speculative attacks. In summary, fiscal union requires a
degree of centralized taxation, spending and political
decision-making; thats the bottom line. Sarkozy and
Merkels proposal falls short of this, which sets it up
Legal experts also claim that the combination of the lack of
preparedness from regulators and oversight, legally, has led to
a conundrum should the EU decide to
exclude certain countries from the euro.
The issue is that regulators are not equipped for this
role, and when the EU was created and the oversight bodies set
up, no one envisaged them being faced with these types of
challenges and certainly not a crisis of this magnitude,
says Pilllsburys Campbell. Crucially, when the zone
was set up, no system for member state expulsion from the euro
was introduced. A sovereign is allowed to determine its own
currency, so technically a country could make a legal argument
that it can retain the euro, despite political pressures from
other member states for expulsion. In this situation it is not
yet clear whether a motion to force a member state out of the
euro would be legally enforceable.
Ronald Bornstein, a partner at Pillsbury who was previously a
conseil juridique in France and a Ford Fellow at the Academy of
International Law at The Hague and a Visiting Fulbright
Professor at the University of Dakar, says that theory and practice are two different
With the potential break-up of the euro and the
dislocation of the eurozone, legal scholars have delivered a
vast amount of recommendations on the legality of implementing
changes, he says. However, many of these are more
theoretical than practical. While recommendations have also
been made by politicians and market participants, there is no
clear strategic direction at the moment on how these can be
executed or enforced.
The EU treaty and various new regulatory proposals have
caused concerns for market participants for some time.
If some of the proposals were to go ahead, critics say, a
number of issues would arise, ranging from competitive
disadvantages that would result from EU rules on clearing houses to
regulatory arbitrage that would ensue if
the mass of regulatory changes were to be implemented.
However, one of the overriding issues that arises is the
possibility of the
break-up of the euro.
The subject has garnered mixed reactions: some say that it is
impossible to remove sovereign states,
while others have said it is inevitable, with some banks even testing their systems in
preparation for countries such as Greece, Italy and Spain
re-adopting their original domestic currencies.
Legal experts argue that if countries such as Greece were to
leave the eurozone the knock-on effect for financial markets might be
deeper and more complicated than politicians and regulators
There are a number of practical issues that will need to
be tackled if the euro does break up, says Bornstein.
For instance, legally it could become extremely difficult
or near on impossible to designate euro deposits or portfolios
back into individual currencies. For example, on break-up, if
Greece were to reintroduce the drachma, it would probably be
heavily devalued. Any fund portfolio or deposit previously held
in euros would lose a lot of its value when converted to
drachmas, meaning that fund managers and institutions would be
using any means at their disposal to ensure those funds and
investments are pegged to stronger currencies. Unless there is
an orderly process imposed, determining which actual currency
the funds are redenominated in would likely become a nightmare
and we could see a sharp rise in legal disputes across all
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