Introduction

In the previous chapter I argued that banks providing online services across borders are exposed to unacceptable risks of legal uncertainty and overregulation because the institutional model of ‘mutual recognition’ and ‘home country’ control in its imperfect current form has not quite eradicated the residual regulatory and enforcement role of the administrative and judicial authorities of the ‘host country’. I also argued that the benefits generated by cross-border electronic commerce in financial services justify bold institutional reforms with the overarching objective to achieve legal certainty, less but more efficient regulation and regulatory competition. In this chapter, I examine the benefits and disadvantages of several competing models of financial market integration in Europe and note my strong preference for a model of perfect mutual recognition and ‘managed’ regulatory competition based on sufficient harmonization of prudential and consumer protection standards and enforcement practices across Europe.

The most common liberalization policies and institutional reforms towards the integration of financial markets are de-regulatory and, often, re-regulatory in character. They are de-regulatory, because the reforms entail the elimination of legal and institutional barriers to trade in financial services and movements of capital. Existing ‘de-regulating’ mechanisms amount essentially to an allocation of regulatory responsibility among different countries, whatever the details of the various models. In other words, participating countries in areas of financial integration must decide whether the country of origin of financial activities may alone regulate, the recipient state may alone regulate, they may both regulate subject to limitations or a central supranational authority may alone regulate.

The rather poor contribution of electronic commerce to further liberalization of financial services in Europe, especially at the retail level, is neither surprising nor incidental. It is yet another instance of gaps in the legal and institutional framework of the single European market and symptomatic of the ongoing antagonism between legal and regulatory control – which is inherently national and local – and the provision of financial services across national borders.

The causes of incomplete European integration in online financial services

Although physical barriers at the border and tariffs do not obstruct the cross-border flow of capital and financial services, certain types of laws and regulations raise significant obstacles to international finance.

Legal barriers and international banking

Legal barriers to international economic integration can be express and intentional (direct or discriminatory barriers) or indirect and inadvertent (non-discriminatory or indirect barriers). Direct or discriminatory measures draw an explicit distinction between resident and non-resident financial institutions, investors or borrowers to the disadvantage of the non-residents (overt discrimination) or result in disadvantageous treatment of non-residents without stating so explicitly (covert discrimination). At one extreme, direct barriers can take the form of complete prohibition of cross-border capital flows and international banking by way of branches and subsidiaries. In practice, more common are less draconian operating restrictions such as exchange controls on movements of capital, limiting the presence of foreign firms to a single city or region or limiting their assets and market share to a fixed percentage of the total value of the local market.

The liberalization of international trade in financial services is a significant component of global and regional economic cooperation. Modern economies depend on well-functioning financial markets and financial markets benefit from the flow of financial services across borders. Financial institutions may engage in transactions with non-residents either directly from their headquarters or by establishing branches and subsidiaries overseas. This book focuses on services provided via the Internet by commercial banks (or ‘credit institutions’ in the EC terminology) and explores the potential contribution of electronic finance to meeting the objectives of financial integration in the single European market.

The notion of ‘financial services’ essentially refers to the full array of functions performed by financial institutions, including but not limited to the acceptance of deposits, lending, payment services, securities underwriting and trading, asset management, financial advice, settlement and clearing services. In conducting these activities with non-residents, a financial institution engages in international trade in financial services. The modes of providing financial services across borders are basically four: first, the financial institution remains outside the territory of the client and the client remains inside his territory of residence and the service is supplied with the help of information and telecommunications technology (cross-border services). Second, the client physically moves from his country and receives the service in the location of the financial institution (consumption abroad). Third, the financial institution supplies the service to non-residents through a foreign affiliate, branch or subsidiary located in the country of the client (commercial presence).

For financial services provided by electronic means, the principle of country of origin of the E-Commerce Directive, also known as the ‘internal market’ clause, was advertised as a decisive contribution to legal certainty and one-stop home country control. The Directive established the mutual recognition of the law relating to electronic commerce in the hope to eliminate legal obstacles arising from divergences in legislation and from the legal uncertainty as to which national rules apply to online services.

Article 3 of the E-Commerce Directive introduces the ‘country of origin’ rule in the following terms:

Scope of application of the ‘country of origin’ rule

The ‘country of origin’ rule has been drafted in carefully chosen terms of art. It applies to information society services (ISS) and only within the scope of the ‘coordinated field’ as defined by the Directive. Its outer limits are also dictated by the general scope of application of the Directive, the applicable exceptions and the general derogations from the ‘country of origin’ rule as set out in the Annex to the Directive.

Introduction

From the early development of the single market programme, the principle of ‘home country’ control was intended to operate as one of the three pillars of the single European market in financial services. More specifically, the harmonization of substantive rules on such matters as initial authorization, prudential supervision and internal organization of banks and other credit institutions was thought to offer a strong basis of mutual recognition of national laws and the attribution of the primary task of supervising the internationally active financial institution to the competent authorities of the Member State of its origin (‘home country’ control). It was also implicit that the authorities of the country of destination of financial services, while not deprived of all power, would assume a complementary role.

The fourth and last part of the book will examine the extent to which cross-border electronic banking activities in the single European market are subject to the legal and supervisory control of the ‘home country’ of the bank and whether Member States in their capacity as recipient countries may impose their own legal requirements to online services originating in another EU state. This chapter will outline the normative content of the principle of ‘home country’ control of the Banking Consolidation Directive and how this institutional arrangement influences the allocation of legislative and supervisory jurisdiction for prudential matters between the ‘home’ and ‘host’ state in the case of cross-border banking services.

The technological advances in information and communication technology over recent decades have transformed the way businesses are operating, and have resulted in changes in the patterns of global trade in goods and services. The increased use of processed digital information, computer processing capacity and innovative software, telecommunications and computer networks are rapidly shaping a real knowledge-driven and information-based global economy. Many types of economic activities and transactions, from online reservations to financial services, music downloads, education, professional services and medical advice, consist almost exclusively of digital data circulating over computer networks to which access is affordable, instant and independent of the location of the recipient or the provider of content.

In this global economic landscape, financial institutions and markets are ripe to increase their productivity, lower their costs, enhance customer convenience and develop new products and services. The suitability of financial claims and commitments for being accounted, administered, transferred, performed and settled in the form of digital information elevates network technology into a potential stimulator of beneficial structural reforms in the business of banking and finance. Organized markets, firms, depositors, borrowers, investors and regulators are potential peripheral components of global or regional integrated markets where market entry, sources of funding and opportunities for investment are not disturbed by distance, lack of personal contact and national boundaries.

This book examined the legal aspects of financial integration in Europe and the role of electronic finance in enabling European credit institutions to reach and serve businesses and consumers in other Member States.

Following the discussion on the level of convergence of prudential regulatory standards, this chapter turns on the legal convergence of non-prudential national laws and regulations relating to electronic banking activities. The discussion begins with laws of general application to online financial services such as the E-Commerce and Distance Marketing Directives and subsequently turns to rules governing specific types of electronic banking activities such as rules relating to consumer credit, electronic funds transfers and online securities activities.

E-commerce and distance marketing of financial services

The provision of banking and financial services via the Internet is subject to national laws implementing the E-Commerce and Distance Marketing Directives. By establishing consumer protection requirements and facilitating the formation of financial contracts electronically, the two Directives are the basic components of the institutional framework for online financial services in the single European market.

The E-Commerce Directive

The aim of the Directive is to approximate the laws of the Member States to the extent necessary for ensuring the free movement of ‘information society services’ in the European internal market. It applies only to ‘information society services’ which are defined as any service normally provided for remuneration, at a distance, by means of electronic equipment for the processing and storage of data, and at the individual request of a recipient of service. It suffices to note here that the Directive applies to a wide range of services provided via the Internet, including services which are not remunerated by those who receive them, such as the availability of online information, commercial communications, access to and retrieval of data.

This book is the culmination of a five-year long research project, which was carried out initially at the Centre for Commercial Law Studies, Queen Mary, University of London, then at Harvard Law School and, at the final stages, during my sparse spare time as an attorney at the London office of Shearman and Sterling (London) LLP. The book encapsulates my fascination with the Internet and my interest in how the powers of electronic networks, information technology, advanced telecommunications and financial innovation are transforming national and international financial markets in Europe and elsewhere. It is also a book about international financial integration and cross-border trade in financial services and how the Internet can facilitate consumers' access to financial services and firms' access to markets across national borders.

Artificial legal and structural barriers to cross-border financial services seem so unreasonable when one realizes the human and economic cost of policies and actions which purport to eliminate physical barriers. At the time when we spend astronomical amounts of money to improve our communications and systems of transportation by air, land or sea – thus diminishing time and distance in the circulation of goods and services – at the same time we are keen to maintain (or at least we tolerate) artificial barriers which are no less effective than distance and rough terrain in disturbing trade in goods and services, particularly financial services.

The final chapter of this book will discuss the conflict of laws and questions of jurisdiction in contractual matters relating to cross-border electronic banking activities in the single European market. It will be recalled that the single market Directives in the field of financial services and electronic commerce do not regulate the question of which law governs international banking and financial contracts and which court decides international banking and financial contractual disputes in Europe.

The legal and institutional principles of mutual recognition and ‘home country’ control established in the field of financial services by measures such as the Banking Consolidation Directive, the E-Commerce Directive and the Directive on Markets in Financial Instruments (MiFiD) harmonize important aspects of economic regulatory law without affecting the conflict of national laws in contractual matters. The scope of application of the Banking Directive and the MiFiD extends almost exclusively to matters of prudential and investor protection regulation and supervision, whereas the E-Commerce Directive expressly exempts the contractual choice of applicable law and contractual matters relating to consumer contracts from the normative impact of the principle of country of origin. Put simply, the contractual aspect of cross-border electronic banking activities, at least with regard to governing law and jurisdiction, remains unaffected by EU policies in the field of financial services and electronic commerce and subject to the general law relating to the conflict of laws and jurisdiction, primarily the Rome Convention on the Law Applicable to Contractual Obligations and the Brussels Regulation.