Exclusive: EU watchdogs could hold sway over London in Europe markets union - document

By Huw Jones

LONDON (Reuters) - Proposals to create a U.S.-style capital market across Europe to increase companies' financing options could give European regulators more powers at the expense of the City of London, a European Union document showed.

The plan aims to create a so-called capital markets union by 2019 from Europe's fragmented bond and stock markets. It outlines possible reforms to allow markets, rather than banks, to become the main source of cash for the region's companies to help to boost growth and create jobs.

The aim is to build a capital market more on par with the United States where public equity markets are almost twice the size of EU markets.

The 23-page document or "green paper", a draft of which was seen by Reuters on Thursday, is due to be approved by the EU's executive European Commission on Feb. 18.

"European businesses remain heavily reliant on banks, which makes the economy vulnerable to a tightening of bank lending," the document said.

"Building a capital markets union is a long-term project. We will support market-driven solutions where we can and regulatory changes only where they are necessary."

But in a step that could raise hackles in London, the plan raises the possibility of giving EU watchdogs, such as the European Securities and Markets Authority (ESMA) in Paris, stronger powers.

"In the context of capital markets becoming increasingly integrated, further consideration could be given to the role played by the European supervisory authorities (ESA)," the paper said.

"To the extent the national supervisory regimes may result in differing investor protection standards ... there may be a further role for the ESAs to play in increasing convergence."

The Bank of England said last week that no institutional changes were needed to the existing system of EU markets supervision in a capital markets union.

The plan would also need to overcome the big political hurdle of persuading the 28 EU member states to harmonise their tax and insolvency laws.

A pan-European capital market could be created by easing regulatory burdens on smaller companies to make it faster and cheaper to list on the stock market, the document said.

"The development of a more integrated European covered bond market could contribute to cost effective funding of credit institutions and provide investors with safe and liquid investment opportunities," it also said.

The paper said greater standardisation of corporate debt issuances could allow for a more liquid secondary market for corporate bonds to develop.

New "green bonds" could also raise funds exclusively for climate and environmental projects.

Brussels also wants to tap the 12 trillion euros ($13.57 trillion) held by pensions and insurers in the EU for investment in infrastructure projects like roads.

Further work is needed to identify lower-risk infrastructure debt and equity investments that could allow insurers and banks to benefit from lower capital charges, the document said.

The European Commission will consult on its paper and publish an action plan in the summer.

The document said one of the EU's basic legal tenets, the free movement of capital, should be used to tackle unjustified barriers to a capital markets union.

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(Editing by Carolyn Cohn and Jane Merriman)