Navigating the EU regulatory landscape in 2023

Former Prudential Regulation Authority (PRA) and the Financial Conduct Authority (FCA) Senior Supervisor and Regulatory Consultant, Mete Feridun, draws insights from his supervisory and consulting experience.

The European financial services industry continues to face difficult operating conditions due to macroeconomic challenges and geopolitical uncertainties. To combat those challenges, policy-making efforts are gaining momentum on multiple fronts. Regulators remain particularly focused on four important areas in 2023:

• Transposition of Basel III into European (EU) law through the EU Banking Package
• Finalisation of the Markets in Crypto Assets (MiCA) regulation
• Review of the European Payment Services Directive (PSD2)
• Legislative progress on the sustainable finance agenda

Ongoing and concurrent regulatory developments in these areas require financial institutions to remain vigilant, monitor the progress of legislative processes and be ready to proactively address any compliance challenges.

Prudential Regulation and the EU Banking Package

2023 is expected to be a pivotal year for the finalisation of the prudential framework in the EU. The Package, which includes amendments to the EU Capital Requirements Regulation and Capital Requirements Directive (CRD6/CRR3), aims to strengthen banks’ resilience to future economic shocks while contributing to Europe´s recovery from the COVID-19 pandemic and the transition to climate neutrality.

The EU is currently in the process of adopting the package, with some areas requiring further refinements such as the application of the standardised output floor, risk weights for certain object finance exposures and the requirement for third-country banks to establish a branch or a subsidiary in an EU Member State.

While trialogues for a legislative package of this complexity and significance can be a prolonged process, a final agreement is expected by the fourth quarter of 2023, with the revised CRD6 and CRR3 texts entering EU law before the end of 2023, allowing for a one-year implementation period. Therefore, most provisions, including the capital element of the Fundamental Review of the Trading Book (FRTB), are expected to take effect from January 2025, in line with the Basel standards.

Regardless of the progress on the legislative front, proposed changes will have important implications on the financial services sector and beyond, as the final shape of the legislation is likely to have a significant impact on some banks’ business models, capital structures and operations, requiring them to revisit their company processes and to enhance their regulatory compliance and risk management practices.

Crypto assets and MiCA regulation

The turbulence in the crypto markets throughout 2022 has once again highlighted the need for greater regulatory clarity and supervision. In 2023, the finalisation of the MiCA remains a major regulatory priority and is the first-ever common licensing regime for the crypto market to apply across the EU.

Following the political agreement for the relevant legislation in 2022, the EU has already tentatively approved the MiCA proposal. The legislation currently remains close to completion, awaiting approval by the European Parliament in the first half of 2023. The final MiCA text is expected to become law in the coming months with provisions taking effect in the first half of 2024 after a one-year implementation period.

H3: How will MiCA affect the financial services sector?

The framework proposes to set forth regulations for specified activities involving crypto-assets that are not already covered by EU law such as issuance of crypto-assets, custody and administration of crypto-assets, and operation of crypto-asset trading platforms and exchanges. As it will apply to the issuance of crypto assets as well as the activities of crypto asset service providers, MiCA regulation will primarily affect these firms, but it will also have broader implications for the sector.

Open finance: a review of PSD2

Open finance has come a long way since PSD2 its enforcement in 2016. While the PSD2 has created new possibilities with new players entering the financial services industry, with it, grey areas and gaps particularly with respect to data protection and API standards have become more apparent.

PSD2 is expected to undergo a review by the EU authorities in 2023 to improve the existing framework and ensure new payment methods are sufficiently regulated. While it remains unclear what the new PSD3 framework may entail at this stage, numerous recommendations have been put forth through the EC’s Targeted Consultation on PSD2 in 2022.

Proposed changes generally aim to address certain shortcomings within the PDS2 regime. For instance, the scope of the PSD2 framework is likely to be expanded to capture currently unregulated activities such as digital wallet services, payment transactions using crypto assets, operating payment systems or payment schemes, Buy Now Pay Later services and payment processing services. There are many other areas that are also likely to be covered ranging from strong customer authentication requirements to specification of application programming interface (API) standards.

Therefore, PSD3 would be expected not only to have implications for the entire banking and payments ecosystem that heavily relies on APIs but also to foster further technological innovation across the EU financial services sector.

Sustainable finance agenda

The sustainable finance framework, comprising the EU Taxonomy, the Corporate Sustainability Reporting Directive (CSRD), the Sustainable Finance Disclosure Regulation (SFDR) and the European Green Bond Standard (EU GBS), remains another priority for the EU regulators in 2023. While regulatory efforts on finalising most of these frameworks are ongoing, some important regulatory developments have already begun to emerge.

On the EU Taxonomy front, the EU policymakers have approved the inclusion of certain natural gas and nuclear activities as transitional activities in the Taxonomy framework after long negotiations. These changes have taken effect from January 2023. The Taxonomy regulation aims to boost green investments and prevent “greenwashing”, so these developments are relevant for the whole financial services sector. However, they are also expected to have broader effects going as far as affecting the energy and climate policies across Europe.

The EU also continues to lead the way in implementing mandatory sustainability and climate disclosures. Adopted by the EC in late 2022, the CSRD is replacing the Non-Financial Reporting Directive (NFRD) during 2023 by expanding its scope and introducing more detailed reporting requirements. Larger companies will be required to start reporting shortly after 2023, whereas smaller companies will be given more time. On the other hand, the SFDR has also been finalised and specific disclosure requirements including product-level disclosures around principal adverse impacts (PAIs) and Taxonomy alignment have already come into force in January 2023.

In parallel to these developments, the EU is also finalising proposals for the EU GBS which will set specific requirements for issuers that use the “European green bond” label. While the timing, extent and nature of the disclosure requirements will depend on the legislative progress on the proposed regulation during 2023, the new framework is likely to introduce operational and legal complexities for bond issuers across the EU.

Final thoughts

The EU regulatory landscape in 2023 and beyond is set to see significant developments that will affect the entire financial services sector. In particular, the ongoing and concurrent regulatory changes will likely impact the business models, capital structures, and operations of financial institutions, as well as require them to enhance their reporting, disclosure and risk management capabilities. As regulatory developments continue to intensify in these areas, it is crucial for financial institutions to stay informed and prepared to remain compliant and avoid regulatory action.

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