VZCZCXRO2263
PP RUEHAG RUEHDF RUEHIK RUEHLZ RUEHPOD RUEHROV
DE RUEHBS #0064/01 0151048
ZNR UUUUU ZZH
P 151048Z JAN 08
FM USEU BRUSSELS
TO RHEHNSC/NSC WASHDC PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
RUEHC/SECSTATE WASHDC PRIORITY
INFO RUCNMEU/EU INTEREST COLLECTIVE
RUCNMEM/EU MEMBER STATES COLLECTIVE

UNCLAS SECTION 01 OF 04 BRUSSELS 000064 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
TREASURY FO A/S LOWERY, MARK SOBEL, BILL MURDEN, ERIC MEYER 
SENSITIVE BUT UNCLASSIFIED - ENTIRE TEXT 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV EUN
SUBJECT: TREASURY AND COMMISSION ASSESS FINANCIAL MARKET 
TURMOIL 
 
 
¶1.  SUMMARY.  A Treasury team led by DAS Mark Sobel met on 
January 8 
in Brussels with European Commission officials and private 
sector 
representatives separately to discuss global financial market 
turmoil, including the impact on the real economy and 
regulatory 
policy implications.  The officials told Treasury they expect 
repricing of risk and credit tightening to continue for some 
time as 
banks continue to disclose subprime mortgage-related losses. 
The 
officials' worst case EU forecast from 2007 has become their 
baseline, but they believe they have incorporated most 
downside 
risks, noting that much of the EU economy remains strong and 
that 
they expect EU growth to slow only slightly.  High oil prices 
may 
have a greater economic impact than financial turmoil due to 
its 
quick pass-through to consumers.  They believe the U.S. will 
enter a 
low-growth "soft spot" for several quarters.  Both sides 
thought 
securitization activity may pull back in the future.  The 
Commission 
is working to fulfill October 2007 Council mandates to review 
transparency, asset valuation and the prudential financial 
supervision framework in considering long-term responses to 
the 
crisis.  The goal is to deliver a package or proposals to the 
spring 
European Council meeting on March 13-14.  The Treasury team 
also 
exchanged views with private sector representatives on the 
turmoil. 
END SUMMARY. 
 
ASSESSING GLOBAL FINANCIAL MARKET TURMOIL 
----------------------------------------- 
 
¶2.  Mark Sobel, Treasury DAS for International Financial 
Issues, and 
Bill Murden, Director of Treasury's Office on International 
Banking 
and Securities Markets, met with officials from the European 
Commission's Internal Markets (DG MARKT) and Economic and 
Monetary 
Affairs (DG ECFIN) Directorates January 8 to assess global 
financial 
market turmoil, examine its real economy impacts and discuss 
its 
regulatory implications.  They were accompanied by Barbara C. 
Matthews, USEU Treasury Financial Attach, Lukas Kohler from 
Treasury's Europe Office and Econoff.  The Commission fielded 
a team 
of 10, led by Elemer Tertak, DG MARKT Director for Financial 
Institutions, Pierre Delsaux, DG MARKT Director for Free 
Movement of 
Capital, Company Law and Corporate Governance, and Servaas 
DeRoose, 
DG ECFIN Director for Macroeconomy of the Euro Area and EMU. 
 
COMMISSION: FINANCIAL MARKET TURMOIL, AND ITS 
REAL ECONOMY IMPACTS, LIKELY TO CONTINUE 
--------------------------------------------- 
 
¶3.  Sobel opened by seeking EU views on the subprime 
mortgage-related financial market situation.  DeRoose 
explained that 
the turmoil will continue to affect EU economies through three 
channels: a) impact on the U.S. economy (slow growth expected 
for 
the first quarters this year); b) decreased bank lending; and 
c) 
decreased consumer and commercial confidence. 
 
¶4.  The recent oil price shock, DeRoose continued, may hurt EU 
economies more than the financial markets crisis.  The 
Commission 
still projects EU growth above two percent for 2008, although 
if oil 
prices stay near the current $95/barrel growth will drop. 
John 
 
BRUSSELS 00000064  002 OF 004 
 
 
Berrigan of ECFIN explained that the Commission's 2007 worst 
case 
forecast has now become the baseline scenario for 2008. 
Repricing 
of risk and tightening of credit will continue well into the 
year, 
he added, with less lending overall.  Tertak of DG MARKT 
noted that 
the housing and construction slowdown in some Member States 
(e.g. 
Spain) could adversely impact consumer behavior and GDP.  The 
officials said they project an EU recovery to near potential 
growth 
(e.g. 2.2 percent/year) in 2009. 
 
¶5.  Sobel responded by underscoring messages from Treasury 
Secretary 
 
SIPDIS 
Paulson's recent speeches.  On the negative side, the U.S. 
housing 
situation will impose a penalty on U.S. growth, and it is 
unclear 
how long this will last; recent job growth numbers were low; 
consumption and other consumer data are mixed.  On the plus 
side, 
the current account is adjusting, the fiscal deficit has 
dropped to 
1.2 percent of GDP, and banks are mobilizing capital.  In 
sum, Sobel 
said, the U.S. prognosis appears to be for very slow growth 
in the 
first half of 2008. 
 
¶6.  Berrigan of ECFIN noted that the crisis has damaged the 
"originate and distribute" model of securitization.  (Note: 
This 
model has produced new complex financial products, including 
repackaged and resold mortgages, which disperse risk.  Many 
of these 
assets are held "off-balance-sheet" by financial 
institutions.  In 
the U.S., defaults on securitized subprime loans have been a 
prime 
factor in the current crisis, producing losses for banks which 
bought the loans.  End note).  Sobel said that upcoming 
Financial 
Stability Forum (FSF) consideration of these issues should be 
useful. 
 
SOVEREIGN WEALTH DEVELOPMENTS 
----------------------------- 
 
¶7.  Tertak asked about current U.S. sentiment toward Sovereign 
Wealth Fund (SWF) investment.  Sobel noted that the USG is 
actively 
engaged on CFIUS.  He said that the G7 has asked the IMF to 
develop 
best practices on SWFs, looking at issues such as SWF 
transparency 
and governance. The USG had also encouraged the OECD to 
examine best 
practices for recipients on investment.  This was all part of 
an 
effort to promote the openness of global financial flows. 
He added 
that observers recognized that recent high-profile SWF 
investments 
in Citibank and Morgan Stanley provided these institutions 
with 
needed capital.  He recommended that EC officials look at the 
article Deputy Secretary Kimmitt had recently published in 
Foreign 
Affairs discussing related policy issues.  Tertak responded 
that he 
had seen the article already. 
 
EU REGULATORY POLICY RESPONSE BEING FORMULATED 
--------------------------------------------- 
 
¶8.  Sobel and Murden asked the Commission to provide insight 
into 
the EU's plan for addressing the regulatory issues raised by 
the 
financial market crisis.  Delsaux of DG MARKT emphasized that 
since 
the "crisis" is still underway, it is too early to draw firm 
 
BRUSSELS 00000064  003 OF 004 
 
 
conclusions, particularly on asset valuation.  The Commission 
is 
examining potential regulatory steps, he said, for action 
later.  He 
noted that the Commission supports the FSF's work on valuation 
currently underway. 
 
¶9.  Giuseppi Siani, of DG MARKT, offered more details.  He 
noted 
that the Commission is working to fulfill October 2007 
European 
Council mandates to review transparency, asset valuation and 
the 
prudential financial supervision framework in response to the 
crisis.  The Commission, Siani said, seeks to enhance 
transparency 
by developing a common database or portal for securitized and 
other 
assets.  They are working with the European industry 
(particularly 
the European Securitization Forum) to design the portal and 
the 
categorization of counterparties and assets at an 
appropriately 
aggregated level.  Their goal is to increase transparency to 
market 
participants as well as to provide greater insight into risk 
exposures across a broad range of counterparties in the 
financial 
system. 
 
¶10.  Commission officials asked whether U.S. regulatory 
agencies 
(e.g., the SEC or the Federal Reserve) have or seek access to 
similar data.  Murden responded that if anyone had the data 
it would 
be the Federal Reserve and recommended that the Commission 
speak 
with them. 
 
¶11.  In addition, the Commission wants to ensure consistent 
application of valuation standards, although the officials 
did not 
specify which particular projects are aimed at achieving this 
goal. 
Finally, they are working with the Basel Committee to consider 
potential revisions to the Basel II regulatory framework in 
light of 
the crisis. 
 
¶12.  DG MARKT officials emphasized that many streams of work 
underway predate the emergence of the crisis.  They noted 
that there 
are 33 total initiatives in three general areas: a) credit 
markets; 
b) a general financial crisis management inside the EU; and c) 
reviewing the Lamfalussy framework to assess whether further 
adjustments in authorities and working arrangements among EU 
regulatory officials are needed.  Treasury Financial Attach 
asked 
about the mood in the European Parliament toward these 
initiatives. 
Delsaux said the Parliament has been relatively silent on many 
questions, including the accounting and asset valuation work 
streams. 
 
¶13.  DG MARKT officials said their short term goal is to 
prepare a 
package of proposals for approval by the Economic and 
Financial 
Council of finance ministers (ECOFIN) in February and then 
presented 
to the Spring European Council (of EU heads of state) March 
13-14. 
Tertak noted that the Commission wants quick progress, he 
said, but 
not at any price, and seeks to proceed at a measured pace in 
developing responses. 
 
¶14.  Murden explained that the US President's Working Group 
is also 
assessing potential responses to the crisis.  He noted, for 
example, 
that the SEC is reviewing the role of credit rating agencies. 
Murden also mentioned that the Federal Reserve issued a 
 
BRUSSELS 00000064  004 OF 004 
 
 
proposal in 
December to tighten underwriting standards and address 
predatory 
lending practices. 
 
SEEKING PRIVATE SECTOR VIEWS ON FINANCIAL TURMOIL 
--------------------------------------------- ---- 
 
¶15.  The Treasury team concluded its short visit to Brussels 
with a 
private industry roundtable on EU regulatory and financial 
policy 
coordination.  DAS Sobel and Murden heard from several banks 
that 
implementation of the Markets in Financial Instruments 
Directive 
(MIFID) is going well across the EU, that the EU banking 
system has 
shown resilience during the financial crisis, and that banks 
hope 
regulatory responses to the crisis do not restrain financial 
sector 
development. 
 
¶16.  Banks from Spain and Germany expressed contradictory 
views on 
the treatment of asset valuation issues in the context of the 
crisis.  Some expressed concern with the activist nature of 
the 
European Commission's efforts, but many also expressed relief 
that 
the Commission was working with the industry rather than 
trying to 
address the issues by itself.  One participant expressed 
interest in 
the U.S.-EU Transatlantic Economic Council (TEC), but did not 
make 
specific recommendations. 
 
¶17. Treasury DAS Sobel has cleared this cable. 
 
MURRAY