Monday, June 02, 2008

Europe wants to regulate hedge funds and private equity

The European Parliament recently published a draft report on hedge funds and private equity. We blogged on some of the core principles not so long ago, arguing that "the whole process is subsidised by our tax systems – and this is one of the keys to their profits.

The European Parliament seems to agree with us. As their report says:

"There is at present insufficient EU regulation of hedge funds and private equity . . . excessive debt required by much of the activities of hedge funds and private equity threatens financial stability, prejudices the realisation of the long-term investment, growth and jobs agenda and is, moreover, unfairly favoured in national tax regimes."

This comes at a time when some of the more irresponsible members of the offshore world seek to escape democratic constraints: witness this move by a Jersey-based company, Mourant du Feu & Jeune, to introduce an entirely unregulated fund. They use the kinds of weasel words favoured by those who would skip their responsibilities to the societies that enable them to thrive:

"The new regime has a lightness of touch and flexibility which is similar, and in some aspects superior to, the equivalent regimes offered by Caribbean and other offshore jurisdictions."

The EU draft document goes further on the problems associated with private equity, using an argument that we have argued penetrates to the heart of the matter:

"Loading their balance sheet with debt is an implicit tax subsidy resulting in companies of poor financial health and in reduction in public revenue at the same time"

And the EU talks about transparency:

In order to promote a well-functioning single European financial market, the Commission should ensure that management firms disclose the following: the name and domicile of funds they control; the identity of managers; corporate earnings and bonuses; remuneration of directors, senior executives and other staff with investment responsibilities, and relationships with prime brokers.

We might add two further suggestions for improved transparency and regulation:

Firstly, investors, credit rating agencies and regulators are unduly hampered by the lack of published information about the risk profiles of different hedge funds. This asymmetric access to data is harmful and would be mitigated by a requirement that fund managers should publish regular operational and financial reviews for each of their funds in which potential risks are clearly identified and appraised.

Secondly, we suggest a requirement for Country-by-Country Reporting. There is another interesting element in their proposal on debt and taxation: the Commission should amend one of its Directives to introduce rules to

"specify the appropriate level of debt at any given time in relation to the target company bearing in mind the legitimate rights of important stakeholders (including employees);" and "introduce taxation consequences for private equity funds in cases of excessive debt; such taxation consequences could include eliminating or reducing the tax deductibility of interest payments on the debt concerned."

This would indeed go a fair way towards recognising the concerns of taxpayers, which is partly what TJN is about: we support it, and we will be watching how the process evolves.


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