VZCZCXRO2356
PP RUEHAG RUEHDF RUEHIK RUEHLZ RUEHPOD RUEHROV
DE RUEHBS #0070/01 0151235
ZNR UUUUU ZZH
P 151235Z JAN 08 ZFF4
FM USEU BRUSSELS
TO RUEHC/SECSTATE WASHDC PRIORITY
RHEHNSC/NSC WASHDC PRIORITY
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
INFO RUCNMEU/EU INTEREST COLLECTIVE
RUCNMEM/EU MEMBER STATES COLLECTIVE

UNCLAS SECTION 01 OF 03 BRUSSELS 000070 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
TREASURY FOR A/S LOWERY, MARK SOBEL, BILL MURDEN, ERIC MEYER 
STATE FOR EUR/ERA, EEB/OMA, EEB/OIA 
SENSITIVE 
 
E.O. 12958: N/A 
TAGS: EFIN ECON EINV EUN
SUBJECT: TREASURY AND COMMISSION ASSESS FINANCIAL MARKET 
TURMOIL 
 
¶1. (SBU) 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. (SBU) 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, xamine 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. (SBU) 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 cnsumer 
and commercial confidence. 
 
¶4. (SBU) 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 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. (SBU) Sobel responded by underscoring messages from 
Treasury Secretary 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. (SBU) Berrigan of ECFIN noted that the crisis has damaged 
the "originate and distribute" model of securitization. 
(Note: This model has produced new complex financial 
 
BRUSSELS 00000070  002 OF 003 
 
 
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. (SBU) 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. (SBU) 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 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. (SBU) 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. (SBU) 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. (SBU) 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. (SBU) 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. (SBU) DG MARKT officials said their short term goal is to 
prepare a package of proposals for approval by the Economic 
 
BRUSSELS 00000070  003 OF 003 
 
 
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. (SBU) 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 proposal in December to tighten 
underwriting standards and address predatory lending 
practices. 
 
SEEKING PRIVATE SECTOR VIEWS ON FINANCIAL TURMOIL 
--------------------------------------------- ---- 
 
¶15. (SBU) 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. (SBU) 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 
.