Risks for European of a possible financial de-regulation in the US

Since the US election, in Europe we have been on our guard because of a possible financial deregulation: a risk or a much ado about nothing?

During the last US election campaign, President Trump expressed a desire, among other things, to reshape regulatory bodies in a more market-friendly way. The announced nomination of Elon Musk at a key function with the objective of fighting red tape is a clear and obvious message for all of us. Some of Trump objectives are aligned, inspired or echoed in the recent Draghi report was aimed at giving us back competitiveness, efficiency, and to invest in technologies and in reducing red tape. It seems we are all aligned with what we should do in Europe. Nevertheless, it seems that American are moving when we are rather motionless.

What we learned from the Trump first mandate?

During its first term in office, Donald Trump eased the regulatory burden on banks and financial institutions, by among other things, revisiting Dood-Franck Act. With his incredible come-back, EU authorities fear a race to the bottom. We know the gulf separating Europe (in general) from the USA in this respect. It's a safe bet, then, that the new, faster and more agile administration will widen this gap rather than narrow it, or more precisely, give us time to potentially narrow it. We seem to have the recipe, but not the chef in a crowded kitchen to execute it. Chef Musk, on the other hand, is not going to let that stop him.

Potential huge impact of deregulation

We all know that any deregulation in the US and in the banking regulation more specifically could have a huge impact on Europe and major consequences. American banks are among the largest in the world but also the more systemic. Trump could impose a race to the bottom in terms of regulation threatening the solidity of the financial system. If you remember, during his first mandate, Trump implemented a policy of deregulating the financial sector, by recalibrating thresholds defining systemic banks, modifying stress test requirements, easing Volcker’s rules governing proprietary trading, etc.… We also must notice that the Biden administration did not reset these measures. The risk may be to go step further in deregulating rules.

Basel 3 rules could be challenging if applied differently by stakeholders

The Basel rules could be challenged, and it gives banks wings and hope. One of the most important issues on the list of expectations is the so-called “Basel 3 endgame rules”. Nevertheless, they also listed the repeal of a few rules on predatory lending and credit card fees, as well as easier mergers. BIS rules are aimed at strengthening the resilience of the banking sector following 2008 GFC. The reform from 2017 should restore credibility in the calculation of risk-weighted assets (RWA) and improve comparability of banks’ capital ratios. EU plans to implement many of these rules from 2025 until 2028. However, delays are still possible. Here again, competitiveness, one of the objectives of the new EU Commission, is at stake. American want to apply a greater proportionality to adjust B3 rules. Again, if the rules applied are different in terms of timing and thresholds, US banks could have significant competitive advantages on European’s.

Differences in bank valuations

Eventually these divergences in rules create differences in terms of market capitalization and valuation. For Globally important Systemic Institutions (G-SIBs) they are subject to the same rules in the US and in Europe. We must handle this argument with caution. The valuation differences may be explained by a profound regional disparity between US and EU (e.g. different economic cycles, monetary policies, economic structures, …). In the USA, economies of scale are fostered by an advanced securitization market (what Vonder Leyen commission would like to develop further in EU) and in Europe, economic and financial integrations remain poor because of heterogeneous regulations between countries and fragmented markets. Europe would be well advised to keep applying solid rules to protect its financial system.

Does financial deregulation impact the competitiveness of actors?

Therefore, specialists think that the competitiveness gap between EU and US is not caused by financial regulation. The Capital Market Union (CMU) completion could conversely help Europe to reduce the gap with American. Moratorium on B3 would not send a good signal to the market according to European stability bodies. Economists consider that EU resilience during covid crisis was also explained by stricter rules. It means the EU must continue to apply these solid and stricter rules to protect the whole financial system, irrespective of the choice made by others more audacious. Even if it costs Europe and its banks, being virtuous can be beneficial and one must remain faithful to one's roadmap and convictions, even if other countries act differently. Staying in the race in the storm is never easy, but the crossing depends on it.

Fran?ois Masquelier, CEO of Simply Treasury – Luxembourg – January 2025