U.K. Challenge to Short-Selling Regulation Dismissed

The European Court of Justice (ECJ) has rejected the U.K.’s challenge to short-selling regulation.
By Janet Du Chenne(59204)
The European Court of Justice (ECJ) has rejected the U.K.’s challenge to short-selling regulation.

The U.K. was challenging the power of European Securities and Markets Authority (ESMA) to adopt emergency measures under the regulation (SSR), which in their view went against general EU principles. The ECJ rejected the plea finding that the SSR and the powers given to ESMA are compatible with EU law.

The regulation adopted by the EU in 2012 aimed at harmonizing short selling, against the background of the financial crisis. In the event of disturbance on the financial markets, it sought to prevent an uncontrolled fall in the price of financial instruments as a result of the effect of short selling. The regulation was adopted on the basis of Article 114 TFEU, which permits the adoption of harmonization measures necessary for the establishment and functioning of the internal market.

Specifically, Article 28 of the regulation vests ESMA with certain powers of intervention. Accordingly, ESMA may adopt measures that are legally binding on the EU Member States’ financial markets where there is a threat to the orderly functioning and integrity of financial markets or to the stability of the whole or part of the financial system in the EU.

The U.K.’s subsequent legal action to the regulation brought before the Court of Justice sought annulment of Article 28 of the regulation. It contended that ESMA has been given a very large measure of discretion of a political nature which is at odds with EU principles relating to the delegation of powers. The U.K. also submitted that Article 114 TFEU is not the correct legal basis for the adoption of the rules laid down in Article 28 of the regulation.
In its judgement yesterday, the court found that Article 28 of the regulation does not confer any autonomous power on ESMA that goes beyond the powers granted to that authority when it was created.

A news release on the court’s website said ESMA can adopt measures under the provision in question only if such measures address a threat to the financial markets or the stability of the EU’s financial system and there are cross-border implications. Moreover, all ESMA measures are subject to the condition that no competent national authority has taken measures to address the threat or one or more of those authorities have taken measures which have proven not to address the threat adequately.

Second, ESMA is required to take into account the extent to which such measures address the threat to the financial markets or the stability of the financial system of the EU or significantly improve the ability of the competent national authorities to monitor the threat. ESMA must also ensure that such measures do not create a risk of regulatory arbitrage and do not have a detrimental effect on the efficiency of financial markets, including by reducing liquidity in those
markets or creating uncertainty for market participants which is disproportionate to the benefits of the measure.

In those circumstances, the court finds that the powers available to ESMA are precisely delineated and amenable to judicial review in the light of the objectives established by the authority which delegated those powers to it. The Court concludes that those powers are compatible with the EU Treaty.
Second, the Court states that, as the FEU Treaty expressly permits EU bodies, offices and agencies to adopt acts of general application, ESMA is also entitled to adopt such acts.

Third, the Court finds that Article 28 of the regulation does not undermine the rules governing the delegation of powers laid down by the FEU Treaty. The Court observes that that provision, which vest ESMA with certain decision-making powers in an area which requires specific technical and professional expertise, cannot be considered in isolation. “On the contrary, it must be perceived as forming part of a series of rules designed to endow the competent national authorities and ESMA with powers of intervention to cope with adverse developments which threaten financial stability within the EU and market confidence,” it said. “To that end, those authorities must be in a position to impose temporary restrictions on the short selling of certain stocks and credit default swaps in order to maintain financial stability within the EU.”

In that context, the court states that, by the adoption of Article 28 of the regulation, the EU legislature sought to provide an appropriate mechanism to enable ESMA to adopt, as a last resort and in very specific circumstances, measures applicable throughout the EU, it being understood that those measures may take the form of decisions directed at certain participants in the financial markets. Moreover, Article 28 of the regulation is in fact directed, in keeping with the spirit of Article 114 TFEU, at the harmonization of the Member States’ laws, regulations and administrative provisions relating to the supervision of a number of stocks and the monitoring, in specific situations, of certain commercial transactions concerning those stocks.

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