Three new judgments by the General Court of the European Union (the General Court)¹ may indicate an increasing grip by EU courts on how the ECB exercises its supervisory role at the head of the Single Supervisory Mechanism (SSM) in the Banking Union. 

The three judgments relate to three supervisory decisions of the ECB-SSM and the pecuniary penalties imposed for breaches by the Crédit Agricole entities of applicable prudential regulator rules and the classification of capital instruments as Common Equity Tier (CET 1) instruments without obtaining prior authorization.  CET 1 requirements state the quality and quantity of regulatory capital a Banking Union supervised institution (BUSI) must maintain so that they are able to absorb losses individually and reduce their systemic risk to the Banking Union and the EU’s wider financial system. The ECB-SSM published its supervisory decisions and penalties for breach on July 16, 2018. 

The General Court in its 2020 ruling confirmed the breach. However, it annulled the ECB-SSM’s penalties because the decision did not sufficiently satisfy essential procedural requirements. This latter ruling is important not only in that it will likely drive the SSM to apply more scrutiny and justification when communicating penalties to BUSIs, but it also provides clearer principles on whether, how and when BUSIs may seek to appeal SSM supervisory decisions. 

The judgment is the first decision by an EU court on such a penalty since the SSM entered into force in 2014. In its decision the judges require the ECB-SSM to develop a transparent mechanism for a reasoned decision. In a broader context, the judgment confirms a general trend to tighten procedural requirements in EU administrative law. 

Crédit Agricole’s violation of prudential requirements

Crédit Agricole breached Article 26 (3) of EU Regulation 575/2013 (the Capital Requirements Regulation - CRR). It classified certain capital instruments as common equity tier instruments (CET 1) without first obtaining the necessary supervisory approval. 

EU lawmakers adopted CRR as a response to the 2008 financial crisis. The CRR tightened the rules on capital adequacy to safeguard the resilience of capital institutions. Article 26 (3), sets out that a capital instrument may only be classified as a CET 1 instrument “after permission is granted by the competent authorities, which may consult the EBA.” The Crédit Agricole entities had discussed the application and interpretation of such permission, and assessed that their issued capital instruments qualified as CET1 in compliance with an EBA list and thus had concluded that inclusion in the list equated to permission form the competent authorities i.e., the ECB-SSM. 

The General Court confirmed that the provision means what it says: A capital institution must obtain permission before it can classify a capital instrument as a CET 1 instrument. (The French version of the Regulation is less clear, as it distinguishes between prior authorization and the granting of permission (autorisation préalable and accord). This distinction, however, does not exist in all linguistic versions of the Regulation and is apparently irrelevant). The inclusion of capital instruments as CET 1 on the EBA’s list is not sufficient to consider the CET1 instruments’ classification lawful.

The ECB-SSM found that Crédit Agricole had failed to obtain such prior permission. It imposed pecuniary penalties on three credit institutions that are part of the Crédit Agricole group. 

The General Court annulled the penalties for a lack of reasoning

The ECB-SSM had imposed a penalty of €4.3m (corresponding to 0.015 % of the annual turnover) on Crédit Agricole SA and a further €500,000 in penalties on two subsidiaries. The General Court annulled the penalties for a lack of proper methodology. 

In its decision, the ECB-SSM had only relied on:

• the seriousness of the breach;
• the duration of the breach; 
• the seriousness of the failure by Crédit Agricole; and
• a general assurance that it took attenuating circumstances into account.

The ECB did not consider the size of Crédit Agricole. At the hearing, the ECB-SSM tried to justify its decision by referencing Crédit Agricole’s size but had wrongly calculated it (the General Court found that the ECB-SSM referenced the whole Crédit Agricole group and not the particular entities at fault). Also, the ECB-SSM did not explicitly mention the fact that Crédit Agricole meanwhile had obtained the necessary permission. 

While EU authorities tend to enjoy a significant margin of respect on administrative penalties, the General Court stepped in and reminded the ECB-SSM about fundamental procedural rights. As it concluded, the obligation for EU institutions, and thus the ECB-SSM, to state proper reasoning stems from the Treaties (Article 296 TFEU). 

This is all the more important, as the ECB-SSM can impose significant penalties. Under Article 18 of the SSM Regulation (i.e., in addition to the SSM Framework Regulation, setting out the ECB’s mandate and powers in the SSM), such a penalty can reach:

• up to twice the amount of the profits gained or losses avoided because of the breach where those can be determined; or 
• up to 10% of the total annual turnover of a legal person in the preceding business year; or
• other pecuniary penalties as may be provided for in relevant EU law.

However, the General Court held that this discretion must be accompanied by a sufficient statement of reasons, and the ECB-SSM should have provided details of the methodology applied when calculating the level the penalties imposed, instead of merely putting forward a number of considerations relating to the seriousness of the breach, its duration, the seriousness of the failure of which the applicant was accused, as well as an assurance that one or more attenuating circumstances had been taken into account. The ECB-SSM argued that its lack of explaining the methodology was intentional: If the reasons were transparent, BUSIs could simply anticipate and factor in supposed penalties. 

The General Court rejected such arguments outright. It concluded that if an EU institution does not give proper reasons for its decision this violates fundamental rights. Lastly, the General Court noted that, by not indicating in the decisions at issue the size of the credit institution that committed the breach in question, the ECB-SSM had failed to mention a factor particularly relevant to the determination of the amount of the penalty or to review whether the penalties applied are effective, proportionate and dissuasive.

A growing trend of taking procedural rights seriously

The judgments fall into a general trend that has gathered pace during 2020 to tighten procedural rights in EU administrative law. At the European level, the administrations tends to enjoy wide discretion and defeats of the ECB-SSM in court are rather rare. Only serious errors in the assessment of facts, improper considerations or grave procedural errors give rise to effective grounds for appeal.

One of the hallmarks of the administrative process, however, is the right to a reasoned decision. The decision fits into a history of taking reasoned explanation seriously. 

In 2019, the General Court annulled penalties by the European Commission against HSBC for an antitrust violation (HSBC Holdings and Others v Commission (T-105/17). According to the Commission, HSBC took part in the EURIBOR manipulations. The Commission imposed a fine of €33.6 million. The General Court largely confirmed the Commission's decision on the merits. However, it annulled the fine on the grounds of a lack of reasoning: The Commission based its decision on a discount factor, which it did not explain. 

Outlook

Both parties may appeal the judgment before the CJEU. The trend, however, seems clear: Proper reasoning serves an important function in administrative law. Many factors may have a significant impact on an administrative fine. Without proper explanation, the General Court is not able to exercise effective control and may annul the fine altogether. 

It is conceivable that this judgment may also cause the ECB-SSM to consider, whether in its internal (non-public) or in the external version of the supervisory manual, and building on existing drafting, providing further specifications on the standards and methodology applicable and the power to be exercised when determining (pecuniary) penalties. Such an approach would provide a general reference framework, as is the case in other areas of EU law, such as competition law, and thus avoid the need for each supervisory decision to require extensive justification and thus possible avenues for contentious disputes. In any event the judgment marks a turning point for the SSM as it heads from infancy to a more intrusive supervisor with an expanding set of supervisory priorities. 

We hope the above provides some further insight into this landmark decision. If you would like to discuss any of its outcomes, including how they fit into the wider plans of the ECB-SSM and how they may affect your business more generally, please contact our Eurozone Hub. 

1. The General Court, which is also informally known as the European General Court (EGC), is a constituent court of the Court of Justice of the European Union (CJEU or also known as the ECJ). It hears actions taken against the institutions of the European Union by individuals and Member States, although certain matters are reserved for the CJEU. Decisions of the General Court can be appealed to the CJEU, but only on a point of law. Prior to the coming into force of the Lisbon Treaty on December 1, 2009, the General Court was referred to as the Court of First Instance.↩