knowledge 29 June 2020 |

Reform of the ESAs – the “No-Action Letter”

Background to the ESAs’ No-Action Letter

The European system of financial supervision (“ESFS”), constituted by the ESAs and the European Systemic Risk Board, commenced operations in January 2011. The underlying rationale for setting up the ESAs was to ensure closer cooperation and exchange of information among national supervisors, facilitate the adoption of EU solutions to cross-border problems, and advance the coherent interpretation and application of rules.

While from the beginning the ESAs were conferred with substantial powers, these did not include a formal power to disapply directly applicable EU legal text or, in particular, any power to issue a no-action letter. Nevertheless, in 2017, all three ESAs issued a statement in response to industry concerns that smaller counterparties would not be able to meet the March 2017 deadline for the application of certain margin requirements under the European Market Infrastructure Regulation 648/2012 (the “Statement”). While noting their lack of formal powers to issue a non-action letter, the ESAs nevertheless stated that they expected “Competent Authorities to generally apply their risk-based supervisory powers in their day-to-day enforcement of applicable legislation”.  

Since that Statement, the ESAs have issued a number of additional regulatory forbearance statements.

Origins of the ESAs’ No-Action Letter

In August 2014, the European Commission (the “Commission”) published a general report on the operation of the ESAs and the ESFS as a whole.  It subsequently consulted on potential reforms to the ESAs, including in 2017. In their responses to the 2017 consultation many stakeholders, primarily from industry but also including ESMA, suggested exploring affording to the ESAs the power to issue documents similar to no-action letters used by other supervisors (e.g. in the US), to remove or temporarily suspend certain obligations. This, they argued, could provide necessary flexibility in the process of applying new regulations in certain cases or facilitate the maintenance of orderly markets and financial stability.

Notwithstanding the broad-based support for the introduction of a power to issue no-action letters the Commission’s proposal for a regulation amending the ESAs’ founding regulations did not include such a power. However, the European Parliament (the “Parliament”) subsequently proposed an amendment to the Commission’s proposal, providing for a time limited no- action letter, comprising “a temporary commitment by the Authority and all relevant competent authorities not to enforce financial institution’s non-compliance with specific provisions of Union law” where those institutions were unable to comply with such provisions for specified reasons.

This amendment enjoyed broad-based industry support, as evidenced by a letter written to the Commission, in February 2019, by a group of European Trade Associations representing asset managers, the banking sector, insurers, pension funds, private equity funds and market infrastructures (see here). According to the letter, “time-limited no-action letters” would give market participants legal certainty in those areas where significant operational challenges with respect to implementation are identified.

Framework for ESAs’ No-Action Letters

Regulation 2019/2175¹ introduced a new Article entitled “No-Action Letters” (the “Article”) into each of the ESA’s founding regulations².  In contrast to the Parliament’s proposal, the Article does not give the ESAs the power to reform or suspend EU legislation unilaterally.  Instead, it limits them to issuing non-binding recommendations, including suggestions for amendments to EU law for consideration by the Commission.

The Articles provide the ESAs with two related powers. First, in exceptional circumstances, where the relevant ESA considers that the application of in scope legislative acts is liable to raise significant issues for specified reasons, it must, without delay, send a detailed account in writing to the National Competent Authorities (“NCAs”) and the Commission of the issues which it considers to exist. The specified reasons are:

1. the Authority considers that provisions contained in such act may directly conflict with another relevant act;
2. in the case of specified legislative acts, the absence of delegated or implementing acts raises “legitimate doubts concerning the legal consequences flowing from the legislative act or its proper application”; or
3. the absence of guidelines and recommendations would raise practical difficulties concerning the application of the relevant act.

In cases referred to under (a) and (b) above, the relevant authority must also provide the Commission with an opinion on any action it considers appropriate in the form of a new legislative proposal or a proposal for a new or implementing act, as well as advise on the urgency of the issue.

Moreover, where necessary and pending the adoption and application of new measures, the relevant Authority must issue opinions regarding specific provisions of the relevant acts with a view to furthering consistent, efficient and effective supervisory and enforcement practices and the common, uniform and consistent application of EU law.

Second, where the relevant ESA considers, on the basis of information received (in particular from competent authorities) that any of the relevant legislative acts raises significant exceptional issues pertaining to certain matters, it must without delay send a detailed account in writing to the competent authorities and the Commission of the issues it considers to exist. The relevant ESA may also provide the Commission with an opinion on any action, it considers appropriate, in the form of a new legislative proposal or a proposal for a new delegated or implementing act, and on the urgency of the issue.

The relevant matters are:

• market confidence,
• consumer, customer or investor protection,
• the orderly functioning and integrity of financial markets or commodity markets, or
• the stability of the whole or part of the EU’s financial system.

First ESA No-Action Letter

ESMA issued its first no-action letter to NCAs on 29 April 2020, in advance of new Environmental, Social and Governance (ESG) - related disclosure requirements applicable from 30 April 2020 under the Benchmarks Regulation 2016/1011.   ESMA stated that the absence of the delegated acts necessary to supplement the new disclosure requirements means there are “legitimate doubts concerning the legal consequences of the Benchmarks Regulation” and that until the delegated acts apply, competent authorities “should not prioritise any supervisory or enforcement action” in relation to the disclosure requirements.  

On the same day, ESMA issued an opinion to the Commission giving a detailed account of the issues it considers to exist due to the absence of the delegated acts and concluded that “the Commission should adopt the delegated acts without delay.”

Comment

The ESAs’ new power to issue no-action letters differs quite substantially from the type of measure envisaged in the Parliament’s proposed amendment.  In particular, apart from the title, the relevant Articles do not refer to the issue of letters, or of any commitment to suspend the operation of a provision of EU law. 

It is also worth noting that the new power has not obviated the use of traditional forbearance statements. In April 2020, in light of the disruption caused by COVID-19, ESMA made a forbearance statement with regard to upcoming reporting deadlines applicable to fund managers (see here).  ESMA did not use the “no-action letter” and instead relied on Article 31 of Regulation 1095/2010, ESMA’s founding Regulation, which obliges it to promote a coordinated Union response among NCAs when events jeopardise the functioning of financial markets.  This choice was likely informed by the fact that the market disruption was caused by external factors i.e. the global pandemic, rather than a problem with the underlying legislation itself.  Only when a relevant act raises ‘significant issues’, is ESMA empowered to issue the new form of “no-action letter”.

From the perspective of a regulated financial institution, there is little to differentiate a no-action letter issued by an ESA from the traditional forbearance statements that were issued by the ESAs prior to the amendment of the ESAs’ founding regulations and which continue to be issued. In particular, because of the non-binding nature of a no-action letter, there is no guarantee that NCAs will act in a harmonised way,  NCAs are not relieved of their obligation to enforce EU law and market participants are not relieved of their obligation to comply with directly applicable EU law.

While no-action letters are different from the traditional forbearance statements, this difference relates to the relevant ESA’s ability, or obligation, to provide an opinion to the Commission in specified circumstances. While ESMA has always been empowered to make opinions³ it can in this context submit a new legislative proposal or a proposal for a new or implementing act.

It is not clear why the Parliament’s proposal regarding no-action letters was so comprehensively amended during the course of the trilogue negotiations between the Parliament, the Council and the Commission.  However, the degree of discretion conferred by a power to suspend either delegated legislation or administrative rules would be significant.  While the 2014 judgment of United Kingdom v European Parliament and Council⁴ confirmed that EU agencies may exercise their delegated powers with discretion if the delegation is sufficiently prescriptive, it is also clear that EU institutions may not delegate powers without limitation or a prescribed basis in legislation. Consequently, in the case of “no-action letters”, legislators may have been seeking to walk a line between the regulatory competence sought by ESMA and the constraints on the delegation of discretionary powers by EU institutions.