Annexes to COM(2021)88 - Entry into operation of the Common Provisioning Fund - Main contents
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This page contains a limited version of this dossier in the EU Monitor.
| dossier | COM(2021)88 - Entry into operation of the Common Provisioning Fund. |
|---|---|
| document | COM(2021)88  |
| date | February 26, 2021 |
1.The adoption of AMGs for the CPF in the form of a Commission Decision. The AMGs define the objectives, structure and operations of the CPF, and identify the source of the assets that shall be included in the CPF. The AMGs establish a prudent investment policy for the CPF, intended to ensure stability of the CPF’s value and to preserve the capital in difficult market conditions (to the largest extent possible), so that the CPF would to be able to honour the guarantee calls against the provisioning of the compartments on time and in full;
2.The adoption of the Commission Delegated Decision on the calculation of the EPR, including the methodology for that calculation. The objective of the EPR is to deliver efficiency gains in the use of budgetary guarantees and financial assistance, by pooling these individual provisions in the CPF and optimising the level of provisioning in view of the diversification of risks. It was expected that where the calls on the resources of the different guarantees were not closely correlated that the Union budget could afford to hold a slightly lower level of resources against the risks inherent in the guaranteed operations. The Delegated Decision was adopted by the Commission in November, 2020 and was subsequently transmitted to the European Parliament and the Council for scrutiny in accordance with Article 269(5) and (6) of the Financial Regulation. The Delegated Decision has entered into force on 25 February 2021;
3.The definition of an investment strategy and adoption of the benchmark agreed by the Accounting Officer of the Commission and the Financial Manager of the CPF;
4.The preparation of the new governance framework (see insert below);
5.The Accounting Officer has adopted the Manual of Procedures for the CPF operations. This manual provides a comprehensive, easy-to-use reference document providing an overview of the main business processes in the operation of the CPF. It covers the full lifecycle of the CPF, includes references to the governance and accountability arrangements, explains how the liquidity needs will be estimated, procedures for payment of guarantee calls and liquidity management, etc.
Focus on the governance:
The asset management governance for the CPF is based on the best practice in asset management and benchmarking with peer institutions 13 . The existing organisational framework for the management of assets by the Commission was reviewed and upgraded in early 2018. The independent asset management evaluation 14 , finalised in December 2019, endorsed the clear delegation of decision-making and lines of accountability, adequate segregation of duties, clearly defined roles and well-framed and documented procedures and processes, checks and balances at all levels of the decision making process, appropriate control and dedicated compliance function.
The governance arrangements define the roles and responsibilities of the main actors in this framework as follows:
·the Financial Manager of the CPF takes final responsibility for the decisions related to the financial management of the resources of the CPF as well as for the other portfolios managed by the Commission or outsourced to the European Investment Bank. This role has been delegated by the Commission to the Director-General of the Directorate-General for Budget (DG Budget);
·the Accounting Officer ensures that checks and balances are in place at all levels to support rigorous and independent oversight of processes and the sound financial management and accounting for the assets and liabilities of the EU budget;
·the Compliance Officer provides independent scrutiny of adherence to agreed procedures and advises on new or significant legal or procedural issues.
The decisions taken by the Financial Manager and agreed by the Accounting Officer are based on rigorous preparation, organised through an Asset Management Board, which proposes courses of action (e.g. approval or updates of investment strategy) for endorsement. The Asset Management Board and its sub-structures (risk and investment committees) together ensure that the asset management decisions are taken with due care, in a professional manner and both provide monitoring and oversight of the asset management processes. The governance considerations and risk management framework have been extended also to other Commission managed portfolios.
The articulation between the management of CPF assets and that of the contingent liabilities arising from the budgetary guarantees supported by the CPF is ensured by the Steering Committee for Contingent Liabilities. This Steering Committee 15 brings together the Financial Manager of CPF and the representatives of the Secretariat-General and of the relevant Directorates-General responsible for the budgetary guarantees, with the Accounting Officer, a member of the Cabinet of the Budget Commissioner participating as observers. The Steering Committee coordinates the risk management for the budgetary guarantees to ensure that the latter are implemented in a manner consistent with the need to protect the Union budget against the materialisation of undue risks. The Steering Committee reviews the functioning of the CPF to ensure that the provisions held by the CPF are managed in a way that serves the needs of the underlying budgetary guarantees.
4.Safe-guarding the CPF value in challenging markets
The AMGs require a prudent investment policy for the common provisioning fund, which aims, to the greatest extent possible, to preserve the value of its assets so that it can honour guarantee calls from the EU budgetary guarantees on demand and in full. This is also reflected in a conservative approach to the definition of eligible investments, which are principally confined to euro-denominated fixed income securities.
This focus on protecting the portfolio against undue volatility or fluctuations is in keeping with the need for CPF assets to provide a stable and predictable capital cushion for the budgetary guarantees, which rely on it. However, preserving capital – however modest it may seem as an investment objective – has become increasingly challenging in modern debt capital markets. Recently, the interest rates on the triple A euro-area government bonds (10 year maturity) fluctuated between -0.5% and -0.25% and occasionally reaching as low as -0.8% per annum. The graph below presents the trend decline in interest rates of triple A rated and all euro-area government bonds since 2004.
Graph 1: Nominal interest rates of euro-area government bonds since 06/09/2004 [ECB SDW 16 ]
The Fund’s investment benchmark has been rigorously modelled in light of the prevailing market environment. Its objective is to deliver the best combination of low risk and stability while maximising return (minimising losses) in this context. It was approved by the Accounting Officer in September 2020 after rigorous validation through back-testing, sensitivity analysis and stress-testing.
The optimised CPF strategic benchmark has a duration of 3.4 years based on assumptions regarding the dynamics of the underlying policy instruments, notably the time-profile of inflows and calls on the provisions in the different compartments. The level of risk was capped so that the expected maximum amount of losses of the portfolio over the annual period cannot exceed 2% of the total portfolio with a high (95%) level of confidence. The absolute expected return that the benchmark can be expected to deliver annually ranges between -0.35% to +0.05%, with a central estimate of -0.15%.
The proposed investment strategy offers the optimised level of return for a conservative portfolio with limited risk-taking opportunities that is practically achievable in prevailing market circumstances without incurring undue investment risks.
Focus on Environmental, Social and Governance (ESG) factors in CPF investment policy
The asset management guidelines give a prominent place to the ESG policy in the selection and management of assets held by the Fund. 17 First, the asset selection ESG criteria includes both a negative and a positive screening of assets to ensure consistency with Commission initiatives on the European Green Deal and related ESG objectives, such as strengthening sustainable finance and social fairness, etc. For example, the negative screening criteria excludes from the investments, activities related to the production or trade in ammunition and weaponry prohibited by the international conventions or gambling, where the income from this activity exceeds 25% of the revenues of the investee company. Second, the positive screening approach entails choosing ESG-labelled bonds over non-ESG ones, whenever such selection is compatible with the overall considerations of our investment process. As a result, the current portfolios managed by the Commission already have a very strong ESG footprint, for instance about 9% of EFSI assets as of end of 2020 have been invested in ESG-labelled-securities. Maintaining and deepening this already strong ESG complexion requires constant monitoring and analysis of the markets, assessment of market depth and volume available for trading.
5.Reporting and accountability
18 In accordance with Article 214 of the Financial Regulation, the Commission shall provide annual reports on the common provisioning fund to the European Parliament and the Council. These reports will present the overall CPF performance as well as the additional information set out in the AMGs. The Financial Manager will prepare the annual Financial Statements to accompany the annual report. Those financial statements shall be prepared in accordance with the EU accounting rules and will be consolidated into the Union provisional and final annual accounts.
Furthermore, Article 41 of the Financial Regulation envisages reporting on the individual budgetary guarantee programmes, which will also be accompanied by some information on the common provisioning fund. This includes information about the financial management, the performance and the risk at the end of the preceding year, the financial flows during the preceding year, the significant transactions and any relevant information on the financial risk exposure of the Union. The information will be attached to the draft budget in a working document.
The annual adjustment of the level of provisioning as a result of the application of the EPR also enters into the draft budget and therefore it is important to ensure the full transparency regarding the level of the EPR and the assumptions used in these calculations. However, given that the CPF will consist solely of EFSI Guarantee Fund assets for the first months of its existence, and that there will be no experience in the management of pooled liabilities at the time of calculation, the sensible approach would be to apply an EPR of 100% for 2021 and for the purposes of preparation of the draft budget 2022.
Conclusions:
With the introduction of the common provisioning fund, the asset management function of the Commission that has been in operation for over 30 years evolves to a new dimension, relying on robust governance and risk controls and proven technical expertise.
Throughout 2020, the Commission has invested heavily in preparing the legal, policy and technical framework for the management of the CPF. This work has equipped the Commission to manage effectively the transition to the CPF and the progressive activation of its constituent compartments during 2021.
(1) As laid down in Article 212 of Regulation (EU, Euratom) 2018/1046 of the European Parliament and of the Council of 18 July 2018 on the financial rules applicable to the general budget of the Union, amending Regulations (EU) No 1296/2013, (EU) No 1301/2013, (EU) No 1303/2013, (EU) No 1304/2013, (EU) No 1309/2013, (EU) No 1316/2013, (EU) No 223/2014, (EU) No 283/2014, and Decision No 541/2014/EU and repealing Regulation (EU, Euratom) No 966/2012, OJ L 193, 30.7.2018, p. 1, (the Financial Regulation).
(2) Regulation (EU) 2015/1017 of the European Parliament and of the Council of 25 June 2015 on the European Fund for Strategic Investments, the European Investment Advisory Hub and the European Investment Project Portal and amending Regulations (EU) No 1291/2013 and (EU) No 1316/2013 – the European Fund for Strategic Investments, OJ L 169, 1.7.2015, p. 1.
(3) Proposal for a Regulation of the European Parliament and of the Council establishing the InvestEU Programme, COM (2018) 439 final.
(4) Proposal for a Regulation of the European Parliament and of the Council establishing the Neighbourhood, Development and International Cooperation Instrument, COM (2018) 460 final.
(5) The framework for financial assistance to non-EU countries in the form of loans is established by Decisions of the European Parliament and/or of Council issued for that purpose.
(6) In accordance with Article 212 of the Financial Regulation, the CPF shall hold the provisions made to cover financial liabilities arising from financial instruments, budgetary guarantees or financial assistance. The initial set of the contributing instruments reflects the requirements of the relevant legal acts. The envisaged structure of the Fund allows to add further contributing instruments at any time, subject to fulfilling requirements of the CPF asset management guidelines and of the relevant legal acts.
(7) Regulation (EU) 2017/1601 of the European Parliament and of the Council of 26 September 2017 establishing the European Fund for Sustainable Development (EFSD), the EFSD Guarantee and the EFSD Guarantee Fund, OJ L 249, 27.9.2017, p. 1.
(8) Council Regulation (EC, Euratom) No 480/2009 of 25 May 2009 establishing a Guarantee Fund for external actions (Codified version), OJ L 145, 10.6.2009, p. 10.
(9) C(2020) 7684 final
(10) Under its current legal basis, the GFEA resources are considered as one pool and are thus not segregated per underlying contributing instrument. Although Regulation No 480/2009 will be repealed following the transfer of the GFEA assets into the CPF, the provisioning of the ‘legacy’ GFEA portfolio will continue to be governed by that Regulation. The GFEA will therefore form a single compartment in the CPF, holding the provisions for both: external budgetary guarantees (ELM and its predecessor guarantees) and provisioned financial assistance (MFA loans authorised prior to the post-2020 MFF and Euratom loans authorised prior to the post-2020 MFF).
(11) Council Decision of 29 March 1977 empowering the Commission to issue Euratom loans for the purpose of contributing to the financing of nuclear power stations (77/270/Euratom), OJ L 088, 06.04.1977, p. 9.
(12) Under the External Action Guarantee based on the NDICI Proposal.
(13) Following a peer review workshop with representatives of the World Bank and the European Stability Mechanism, a new governance structure was put in place for the asset management activities of Directorate General for Economic and Financial Affairs (DG ECFIN) as of 1 February 2018. Although DG ECFIN’s governance structure was already assessed by peers (notably, the World Bank in 2014) as compliant with industry standards, the changes to the governance structure applied since early 2018 brought further improvements, in light of the anticipated increase in assets under management.
(14) “Assessing the advantages and disadvantages of entrusting the financial management of the assets of the Common Provisioning Fund to the Commission, the EIB, or a combination of the two” by ICF and Keypoint Financial, December 2019.
(15) Commission decision of 24.7.2020 on establishing the Steering Committee on Contingent Liabilities arising from Budgetary Guarantees (C(2020) 5154)
(16) Statistical Data Warehouse.
(17) Art(9) and (10) of the AMGs.
(18) Article 11 requires to include the key information on the portfolio composition, performance relative to benchmark, number of calls etc.; Article 10 requires to report on the ESG profile of the CPF