US embassy cable - 05FRANKFURT2410

UNCLAS SECTION 01 OF 07 FRANKFURT 002410 
 
SIPDIS 
 
SENSATIVE 
 
STATE FOR EUR PDAS RIES, EB, EUR/AGS, AND EUR/ERA 
STATE PASS FEDERAL RESERVE BOARD 
STATE PASS NSC 
TREASURY FOR DAS LEE 
TREASURY ALSO FOR ICN COX, HULL 
PARIS ALSO FOR OECD 
TREASURY FOR OCC RUTLEDGE, MCMAHON 
 
E.O. 12958: N/A 
TAGS: ECON, EFIN, EUN 
SUBJECT: New Legal Payments Framework: Monetary Integration 
at Retail Level 
 
T-IA-F-05-016 
 
This cable is sensitive but unclassified.  Not/not for 
Internet distribution. 
 
1.   (SBU) Summary: The European Commission (EC) intends to 
  propose a directive for payments services in the internal 
  market by June or September. A legally consistent framework 
  for the EU payments market, providing for transparency of 
  payment services contracts, competition and consumer 
  protection, is an essential building block for a Single 
  European Payments Area (SEPA) in which banks handle all euro 
  area payments as "domestic," essentially superceding purely 
  national payments systems. The EC's goal is for citizens to 
  be able to make payments around the euro area as simply and 
  as easily as they make payments in their home national 
  markets today, if not more so.  This is monetary union 
  integration at the retail level, the next big push that 
  could help drive up efficiencies and competition to benefit 
  EU consumers and industry. 
 
2.   (SBU) Realizing the vision is easier said than done. 
  The EC has been laboring over a draft directive for several 
  years and still faces considerable difficulties.  The 
  European banking industry, after being legislatively forced 
  in 2001 to charge equally for domestic and cross-border 
  payments, created the European Payments Council (EPC) to 
  "get in front of the issue." The EPC has drawn up a roadmap 
  on how banks would voluntarily cooperate to develop 
  instruments, standards and infrastructure so national 
  payments systems could migrate into a European one, creating 
  a SEPA by 2010.  Truth be told, only a small portion of the 
  56 billion or so annual payment transactions are cross- 
  border. In other words, the business case for SEPA is not 
  compelling for individual firms. The noble SEPA project has 
  been slipping, despite the prodding of the European Central 
  Bank (ECB). 
 
3.   (SBU) In a surprise move, Commissioner McCreevy has 
  threatened to include industry standards and deadlines for 
  the SEPA into the new legal framework directive.  Member 
  states will meet in mid-April to consider the idea.  The EPC 
  has responded with a resolution underlying its commitment, 
  but the Commission is looking for firm assurances.  Banks 
  are content with the current profitable national payments 
  systems, so they have little commercial incentive to change. 
  EU policy officials, on the other hand, may want to 
  accelerate the creation of a SEPA through legislation, 
  hoping to reap its potential benefits sooner rather than 
  later.  End Summary 
 
The Vision 
---------- 
 
4.   (SBU) Walk into a bank in Austria, make a transfer from 
  your home bank in Germany to pay a contractor in Spain for 
  work on your Costa del Sol villa. Or to pay for a car 
  directly from the manufacturer in France. Done as quickly, 
  easily and as inexpensively as you would make such a 
  transfer for repairing your chalet in Kitzbeul or buying a 
  car from a Vienna dealership. That is the vision for the 
  euro area.  Even though euros are legal tender throughout 
  the euro area, cash is an expensive and inconvenient method 
  of payment.  A euro area payments system would increase 
  competition in goods and services, increasing inefficiencies 
  to benefit consumers and industry alike. 
 
5.   (SBU) To realize this vision requires legal certainty 
  and standardization of forms and processes.  Legal certainty 
  means that the users (customers) and providers of payment 
  services (banks, card companies, money remitters) operate 
  within the same legal framework of rights, obligations and 
  transparency.  Standardization means that banks use common 
  instruments, standards and infrastructure for the execution 
  of transfers among themselves on an inter-bank basis.  The 
  EC's new legal framework for payment services would cover 
  the first part; an initiative by the EPC would cover the 
  latter, creating the SEPA. 
 
Legal Framework for Payment Services 
------------------------------------ 
 
6.   (SBU) The EC launched a consultation in December 2003 
  for a new legal framework directive. Its overall objective 
  is to provide a consistent legal framework for a European 
  payments market by providing a harmonized set of rules for 
  all payment services.  This would increase legal certainty 
  and reduce compliance costs, allowing for economies of scale 
  and cost and price reductions.  The EC also wants to ensure 
  a level playing field and enhance competition between 
  payment service providers. Banks tend to be the larger 
  players, but payments via direct debit cards, payment cards, 
  money transmitters, and e-payments or m-payments are other 
  important forms of payments.  Allowing payment institutions 
  authorized in one member state to be "passported" to operate 
  throughout the EU would enhance competition, in the 
  Commission's view.  The EC also wants to have a consistent 
  level of consumer protection and improved transparency. 
 
7.   (SBU) The EC's working draft contains general rules for 
  payment service providers, requirements for being authorized 
  as a payment institution, rules on payment services 
  (transparency of conditions, provision and use of payment 
  services, authorization of a payment service transaction, 
  the execution of a payment transaction, fraud prevention, 
  out-of court redress), and harmonization and mutual 
  recognition among EU member states.  The directive would 
  establish a Payments Committee, composed of member state 
  authorities competent for payment systems, to help ensure 
  national implementation measures are harmonized and enter 
  into force at the same time.  The EC's work schedule 
  indicates the proposal should be issued in June. 
 
8.   (SBU) Commentators generally share the EC's overall 
  objective.  The EC, however, has been having a difficult 
  time committing to paper the legal obligations that would 
  make it a reality - being consistent with the reality of how 
  markets function and specific payments transactions take 
  place.    The European Payments Council, an organization of 
  European banking associations, the Payments System 
  Government Expert Group, and the Payment System Market 
  Expert Group have provided the EC comments on its drafts. 
  The fifth modified working draft was issued at the end of 
  2004 and still attracted much criticism. Two general 
  criticisms have been that the drafts have changed 
  substantially from one version to the next and have not 
  reflected many of the views offered by industry. 
 
Issues 
------ 
 
9.   (SBU) As the UK and Austria Presidencies will have the 
  lead on directing the proposed payments services directive 
  through the Council process, Finance Ministries and central 
  bankers in those countries are tracking the key issues that 
  have arisen in the drafting process.  The following are some 
  issues largely based on conversations with these experts and 
  well as comments from some industry experts. 
 
10.  (SBU) Third Country Leg:  The scope of the draft 
  directive would apply to payment services where either the 
  payer's payment service provider or the payee's payment 
  service provider is located in the EU, unless stated 
  otherwise.  A payment service provider is a natural or legal 
  person whose regular business includes the provision of 
  payment services to payment service users.  This means that 
  if the customer making the payment in Greece, using a Greek 
  bank for a payment to a person in the US, the payment 
  service in the US would be subject to the directive. Or if a 
  US person were to use its US bank to make a transfer to the 
  Greek person, that payment service would also be covered. 
11.  (SBU) While the draft would restrict the application of 
  obligations on fees and execution time to transactions 
  within the EU, other obligations, such as on the 
  availability of funds and liability for the execution of a 
  payments transaction, could be read to apply to entities in 
  third countries.  Apart from the extraterritoriality issue, 
  commentators have pointed out that EU payments providers 
  should not be held liable for transactions outside the EU 
  where such providers are subject to different rules.  The 
  EC's view is that the EU-based payment service provider's 
  experience in dealing with entities in third countries 
  should allow it to incorporate risks dealing with such 
  entities in the provision and pricing of its services. The 
  pricing of such risk is not a market price and would drive 
  up costs and likely decrease service, in the view of some 
  market experts. 
 
12.  (SBU) Second Party Transactions: Even without the third 
  country leg, there is a question of the extent to which a 
  payment service provider can be held accountable for an 
  entire transaction.  German bankers' have pointed out that a 
  payment service provider should be obliged by its contract 
  for the use of its services (i.e. a customer directing it to 
  make a payment a vendor with an account in another bank), 
  but it cannot control or be held liable for the non- 
  performance of another service provider (i.e. whether the 
  vendor's bank will transfer the funds to the vendor's 
  account).  One US bank made a similar observation, noting 
  that under the US Uniform Commercial Code, the originator's 
  bank is not liable where there has been defective execution 
  on the part of some intermediary banks or beneficiary banks. 
 
13.  (SBU) Competition: The directive would allow for the 
  authorization of payment institutions, like Western Union 
  and other providers of money remittances. Some member 
  states, like Germany, require money remitters to be 
  associated with a bank.  UK officials take the view that 
  such point-to-point remittances that do not extend credit 
  hold very low risks and authorizes them as separate 
  institutions.  ECB officials have expressed concern about 
  the prudential aspects of allowing payment institutions to 
  operate on a "lighter regime, " while banks are concerned 
  that they will be at a competitive disadvantage and deprived 
  of attracting customers to their local offices where they 
  advertise and sell other consumer services.  The EC is keen 
  on opening up competition in this area to help drive down 
  consumer costs. 
 
14.  (SBU) Liability: Several issues have arisen on 
  liability.  The draft directive would limit the loss to the 
  payment service user resulting from the lost, stolen or 
  misappropriate payment verification instrument to euro 150. 
  Some commentators have accepted this level, others question 
  why consumers should bear any loss, while others suggest 
  that the consumer should bear more financial liability. 
 
15.  (SBU) A more problematic issue is that the recent 
  working draft abolished the upper limit of euro 50,000 to 
  which the provisions of the directive would apply, meaning 
  it would apply to all transactions.  This, coupled with the 
  liability provisions on disputed transactions or 
  unauthorized transactions would open payment service 
  providers to potentially large risks, including increasing 
  the risks of fraud committed by their clients, which would 
  lead to reducing services.  This would be particularly true 
  in third country transactions mentioned above where the EU 
  service provider would have a difficult time redressing 
  potential abuses. 
 
16.  (SBU) Calling Back Transfers:  The draft directive 
  would accord the payer the right to refund a payment 
  transaction which already has been executed under certain 
  conditions, e.g. his authorization did not include the exact 
  amount of the payment transaction at the time of its 
  authorization or the amount of the executed transaction is 
  contrary to the payer's "legitimate expectations," e.g. due 
  to changes in exchange rate. The request for a refund needs 
  to be made within six weeks of the payer being informed of 
  the transaction and, in any case, before three months after 
  the execution of the transaction. German bank commentators 
  note that such a recall could be applicable to card 
  transactions but not bank transfers.  A major US card 
  payment company, however, points out that some charges are 
  not knowable in advance, such as car rentals that exceed the 
  initial contract dates, a service offered to the consumer. 
 
17.  (SBU) Application to Card Transactions:  The draft 
  seeks to have uniformity for all payment services, but 
  German bankers and a US card payment company point out that 
  many of its provisions, including the very definition of a 
  "payment transaction" (the "deposit, withdrawal, or transfer 
  of funds from a payer to the benefit of a payee), applies to 
  the payment transaction from the payer to the payee. 
  However, the scope of the obligations would apply to payment 
  services initiated by the payee at the authorization of the 
  payee, e.g. card transactions (credit card services would 
  not be covered by the directive). One solution would be to 
  re-craft provisions for different types of payment services; 
  another solution would be not to include card transactions 
  in the directive. 
 
18.  (SBU) Waiver for Micro Payments: The working draft 
  would permit member states to waive requirements for 
  authorization and supervision of payments institutions where 
  such institutions (a) have less than six million 
  transactions a year and  (b) hold a vital role in micro 
  financial intermediation, such as for underprivileged social 
  groups whose recourse to other payment services is limited; 
  and the waiver is in the public interest for law and order 
  and the effective implementation of money laundering rules. 
  This waiver would be particularly useful for the UK and 
  other member states that have large minority social groups 
  that rely on informal money remittance systems. 
 
19.  (SBU) Corporate Carve Out:  The draft directive would 
  allow payment service providers and corporate users to agree 
  to different rules, so called service level agreements. As a 
  UK expert pointed out, the directive would make little sense 
  being applied between a multinational corporation and a 
  global investment bank. Others suggest that small and medium- 
  sized enterprises also have the leverage to strike deals 
  with payment providers and the legal resources to make it 
  stick, so they too should have the option not to apply the 
  rules. 
 
20.  (SBU) Cash:  The most recent draft unexpectedly had an 
  expanded scope that included cash deposits and withdrawals. 
  Industry experts observe that they have not had time to work 
  through the implications of such a major change.  Potential 
  effects include delaying the deposits of cash, changing the 
  way providers handle cash deposits (including out of hours 
  and automated arrangements), and requiring supermarkets that 
  provide "cash back" to be authorized as a payment 
  institution. 
 
SEPA: Roadmap and Reality 
------------------------- 
 
21.  (SBU) Common standards for payment services would serve 
   as the basis for inter-bank payments systems.  In June 2002 
   the European Payments Council (EPC) was established to help 
   put into place a Single European Payments Area (SEPA) by 
   June 2010.  Working backwards implies that by January 2008 
   citizens and commercial enterprises should be able to use 
   pan-European instruments, services and standards for 
   national payments. Initially this would mean that these pan- 
   European activities would be in parallel with national ones. 
   This would allow customers to make national and cross-border 
   payments from one account. National instruments, services 
   and standards would be gradually phased out, replaced by pan- 
   European ones.  National infrastructures would be abolished 
   or transformed to a pan-European infrastructure. 
 
22.  (SBU) In December 2004 the ECB issued its third 
  progress report towards a single European payments area in 
  which it lamented that support for the "SEPA project and its 
  objective had weakened." The ECB presented its expectations 
  for the development of the necessary payments instruments, 
  standards and infrastructure. It concluded that if banks 
  were not able to get their acts together on a voluntary 
  basis, then the ECB might adopt regulation.  An Austrian 
  central bank expert confirmed that, in his assessment, the 
  project had slipped by two years. 
 
23.  (SBU) With respect to instruments, in November 2002 the 
  EPC adopted the Credeuro Convention for cross-border 
  straight through processing (STP).  STP instructions include 
  International Bank Account Number (IBAN), the beneficiary 
  customer, and Bank Identifier Code (BIC) of the 
  beneficiary's banks. Crederuo covers credit transfers of up 
  to 12,500 euros, and guarantees a bank customer charges at 
  the level of a domestic transfer and a maximum execution 
  time of three days. In April 2003 the EPC adopted the Inter- 
  bank Convention on Payments (ICP) to support Credeuro and 
  harmonize inter-bank charging practices. Four countries 
  (Germany, France, the Netherlands and Sweden) have 
  transposed the ICP into national banking industry 
  agreements. The ECB would like to see Credeuro and the 
  supporting inter-bank charging convention become the 
  compulsory minimum standard for all retail cross-border 
  credit transfers by January 2006. 
 
24.  (SBU) To compete with national systems, by January 2008 
  the ECB wants to have same day value payments at the euro 
  area level (called "Prieuro") and Credeuro as options for 
  national credit transfers.  Also by the same date the ECB 
  wants to have pan-European direct debit (PEDD) as an 
  optional standard available for all euro area customers' 
  national direct debits.  This would help ensure that PEDD 
  would be used on a euro-wide basis by 2010. 
 
25.  (SBU) Uniform standards are essential to realize smooth 
  straight through processing for payment transactions.  For 
  credit transfers the ECB suggests that the EPC implement a 
  common account identifier (IBAN) for both national and cross- 
  border credit transfers and direct debits in SEPA.  The ECB 
  also encouraged the EPC to define and implement standards 
  for straight through processing, including a unique standard 
  for electronic payment initiation and automated 
  reconciliation. 
 
26.  (SBU) On infrastructure the EPC adopted a model for the 
  European retail infrastructure, the pan-European automated 
  clearing house (PEACH).  The European Banking Association 
  Clearing Company established the first and, to date, the 
  only PEACH.  The PEACH only handles transactions up to 
  12,500 euros, provides for 3-day execution time, and is 
  limited to credit transfers.  This is an expensive, narrower 
  and slower system compared to national systems that realize 
  lower costs through economies of scale, execute transactions 
  in one day, and cover direct debits. The ECB wants national 
  strategies for the migration of national infrastructure 
  systems to handle pan-European transfers.  This could entail 
  transforming efficient national systems into PEACH compliant 
  systems or setting up completely new infrastructure. 
 
Progress on SEPA: Public Policy Choices 
--------------------------------------- 
 
27.  (SBU) The ECB's disappointment with the speed of banks' 
  voluntarily working toward SEPA is understandable.  The ECB 
  holds the vision of an integrated euro market for retail 
  payments as an important step for consumers and industry to 
  reap more benefits of monetary union. Bankers' lack of drive 
  is also understandable, since the SEPA requires a commitment 
  of time and resources whose commercial pay-off is uncertain 
  as long as efficient national payment systems exist.  Cross 
  border payments account for less than 5% of the 56 billion 
  annual payment transactions.  There are little economies of 
  scale to be realized from such business. 
 
28.  (SBU) From a public policy perspective, the 
  externalities of a SEPA appear to be large, promoting 
  competition in goods and services on the European level to 
  the benefit of consumers and industry.  Individual banks may 
  not find the business case for setting up cross-border 
  payments systems, but together they could all benefit by 
  have one payment system for the euro area rather than the 
  present 25. 
 
29.  (SBU) According to UK officials these considerations 
  motivated Commissioner McCreevy to get involved.  In a March 
  10 speech McCreevy stated that banks need a "clear political 
  signal," opining that he was convinced of "huge benefits" in 
  making the investment for a SEPA, delivering "significant 
  savings for banks, industry and consumers." Musing that "we 
  cannot sit on our hands forever," McCreevy declared, "We 
  will do what is needed to ensure that industry delivers a 
  single payments area.  If necessary, the Commission will 
  make some agreed industry standards mandatory and include 
  the roadmap for the SEPA in our draft legal text."  One way 
  that the Commission could spur faster action, in the view of 
  UK experts, would be to require transactions be executed 
  within one day - essentially the norm for domestic 
  transactions. 
 
30.  (SBU) The Commission will meet with member state 
  experts on April 12 to discuss how to proceed.  If there is 
  agreement to include SEPA issues in the proposed directive, 
  the Commission is likely to delay launching the directive 
  until September and would open up any new working draft to 
  another round of public consultation.  Meanwhile, the EPC 
  has adopted a resolution that underscores its resolve to 
  create the SEPA and has explained its work with banks on 
  plans to migrate national systems to euro area systems. 
  Whether this and other promises are enough to dissuade 
  Commissioner McCreevy from proceeding with  legislation on 
  SEPA is a matter of on-going discussion. 
 
Observations 
---------------- 
 
31.  (SBU) SEPA is an important goal for the European 
  Monetary Union and the EU internal market.  Having a common 
  payments framework is an essential block of the SEPA. 
  However, including all forms of payments beyond just the 
  banking payments that would be processed in SEPA, has 
  complicated the EC's task.  With such an ambitious 
  undertaking, incorporating expert comments is important to 
  get the draft legislation close to right the first time. 
  After a few false starts, such as with the Prospectus 
  Directive which needed to be totally re-written, the 
  Commission has used informal consultation to good effect. 
  That practice should continue in the new legal framework 
  directive on payment services. 
 
32.  (SBU) As much as industry may resent being forced to 
  act in an area it had promised action, experience suggests 
  that such prodding may be necessary.  In the run up to the 
  introduction of the cash euro, survey after survey revealed 
  how banks had charged significantly more for cross-border 
  transfers than domestic ones.  Time after time, banks 
  promised to take action at the urging of the ECB, but failed 
  to do so. Frustrated, on the eve of the introduction of the 
  euro, Finance Ministers and the Parliament adopted a 
  regulation requiring equal charges on cross-border transfers 
  to those on domestic transfers.    Despite cries of anguish, 
  banks have complied.  The EPC was created, in part, so banks 
  wouldn't be forced to action again, allowing them to get 
  ahead of the issue and help shape the debate.  The EPC has 
  gotten a wake up call. 
 
33.  (SBU) Keeping true to its own "impact assessment" 
  approach to new regulations, the Commission should make a 
  credible case for the externalities of proceeding with 
  legislation for an SEPA.  No doubt it could do so, but 
  reports from those who have seen the impact assessment are 
  not convinced.  Avoiding being pre-empted by the ECB may 
  also motivate the Commission to adopt legislation.  The 
  ECB's threat of adopting regulations to spur the development 
  of a SEPA is a direct challenge to the Commission's right of 
  initiative for legislation.  The ECB already crossed into 
  the Commission's territory by elaborating standards on 
  clearing and settlement.  Proposing legislation would allow 
  the Commission to control the issue and give a political 
  signal that banks should get their act together. 
 
34.  (SBU) The mismatch between SEPA, applying to the euro 
  area, and the draft proposed directive, applying to the EU, 
  could raise the question whether the new framework is 
  important for those countries that have not (or may not) 
  adopt the euro in the foreseeable future.  That is, why 
  burden the market with standards on payment services if the 
  market will not benefit from the efficiencies of the SEPA? 
  The issue could be a real one as the UK will have the EU 
  Presidency and be charged with steering the issue through 
  the Council.  UK officials, however, believe they have more 
  to gain if they advance issues that are in the interest of 
  the many even if they themselves might have other views. 
  The UK will likely push the work program giving the 
  Austrians a good basis to continue the Council's work next 
  year. 
 
35.  (U) This message has been coordinated with US Embassies 
  Berlin, London, and Vienna and USEU. 
 
36.  (U) POC: James Wallar, Treasury Representative, e-mail 
  wallarjg2@state.gov; tel. 49-(69)-7535-2431, fax 49-(69)- 
  7535-2238 
 
Pasi