regulatory transformation or deregulation? · European Law Blog – Go Health Pro

The Draghi report is explicit in identifying regulation as an obstacle to European Union’s innovation potential, highlighting the poor commercialisation of innovation and the barriers preventing innovative companies from scaling up in the EU due to ‘inconsistent and restrictive regulations’. The report’s passages relative to ‘regulatory burden’ – highlighting it as a key factor hinderingcompetitiveness, innovation, and growth – have attracted most attention to date. The proposed ‘simplification effort’ and the Commission’s omnibus slashing reporting obligations prompted some commentators to suggest that the EU executive pivoted to a deregulation agenda.

However, with a closer look at the parts of the report that focus on closing ‘the innovation gap’, one can distinguish another aspect of the role of regulation. This role consists in establishing the (regulatory) frameworks for reform, whether by removing barriers to innovation – particularly fragmentation – or, in some instances, addressing the absence of ‘a true Single Market’. Lack of scale-up financing and slow diffusion and adoption of advanced technologies stems, at least in part, from high costs of heterogenous national regulation (‘regulatory fragmentation’). Closing the innovation gap would thus require not only simplification of existing rules, but also continuous work towards reducing regulatory and market fragmentation.

These two roles for regulation might appear to be at odds with each other. While reducing the burden suggests less regulation, addressing fragmentation often requires new regulation to enhance harmonisation and foster the Single Market for innovation. In this contribution, I discuss the way the role of regulation is dealt with in the Draghi report and the Commission’s response to it (Competitiveness Compass). I conclude that framing the Commission’s policy as deregulation is premature, and that instead the policy shift prompted by the Draghi report is more nuanced and calls for a regulatory transformation.

Regulation in the Draghi report: a tool to bridge the innovation gap and a burden

The report, first, sees regulation as a tool for bridging the innovation gap by addressing regulatory fragmentation. According to the report, EU companies ‘fall victim to multiple regulatory, legal, and bureaucratic barriers’. The report cites numerous regulatory, but also fiscal and legal differences that prevent EU companies from scaling up and leveraging the advantages of the Single Market. It suggests that ‘extensive and stringent regulation’ may have a constraining effect on innovation, in particular in winner-takes-most innovative sectors where additional (regulatory) costs put EU companies in a disadvantaged position.  

The above highlights the twofold role of regulation beyond mere red tape. On one hand, regulation can help further integrate the Single Market where EU-level efforts are currently lacking. On the other, regulation can eliminate regulatory barriers across the national borders, where inconsistent implementation and enforcement lead to additional regulatory costs. To this end, the report contains a number of short-term proposals to create ‘[a] more favourable and simpler regulatory ecosystem for innovative companies’. These include efforts directed at enhancing commercialisation of academic research (e.g. revision of royalty sharing and licensing arrangements), reducing patent application costs (competing the Unitary Patent System) and streamlining support for start-ups by EU-level coordination (consolidating information and aligning national level and EU-level instruments). In addition, the report proposes to institute a uniform legal statute – an ‘Innovative European Company’ (IEC), to be adopted by Member States under enhanced cooperation or intergovernmental agreements. The report lists several criteria for start-ups to qualify as ‘innovative’ and to be able to benefit from harmonised corporate, insolvency, labour and tax rules across EU Member States. Moreover, the proposal foresees a portability regime for certifi­cations and passporting for IECs to exploit the benefits of the Single Market.

The report, then, turns to the simplification effort, that is to pursue four objectives: (i) to simplify the EU acquis and ‘filter’ new regulatory proposals; (ii) to improve enforcement of Single Market legislation; (iii) to ensure proportionality of regulation towards SMEs; and (iv) to promote innovation.

The report cites three examples of regulatory obstacles in EU regulation: the sustainability reporting and due diligence framework, the General Data Protection Regulation (GDPR), and the EU’s waste and packaging waste legislation. The report then highlights the main challenges that these pose to the companies across the EU: first, regulatory overlap and inconsistency due to accumulation and frequent changes in regulatory frameworks; additional burden due to inconsistent national transposition and enforcement; and finally, a disproportionately high regulatory burden falling on SMEs and innovative small mid-caps in comparison to the burden on larger companies. Based on quantitative evidence, the report underscores sustainability reporting and due diligence frameworks as ‘a major source of regulatory burden’, combined with a lack of guidance in applying complex rules. Besides, the report emphasises the issue of excessive ‘regulatory flow’ – ‘a large number of new provisions passed in a dedicated time period’ – as one of the factors that has a negative impact on conducting business (and innovating) in the EU.

The report offers three guiding principles to achieve the set objectives. First, to balance the precautionary principle and the innovation principle in the context of specific regulatory objectives (e.g. in defining whether a minimum or full harmonisation is required). Second, to choose the most suitable legislative instrument (e.g. regulation or directive) based on the considerations of the regulatory rationale, compliance, transposition and reporting costs. And third, to ensure effective management of the acquis incl. by enhancing regulatory quality through early and systematic stakeholder consultations, by withdrawing ‘obsolete’ legislation, removing overlaps and contradictions, and enhancing implementation and enforcement across Member States (e.g. addressing inconsistent implementation, such as ‘gold-plating’).

The report makes proposals for achieving the objectives of the simplification framework in line with the above principles. As such, the proposals focus on upgrading the Commission’s toolbox for ‘streamlining’ the EU acquis. The ‘evaluation bank’ for the systematic assessment and ‘stress-testing’ of existing regulation across all sectors of economic activity would aim to simplify and remove overlapping and inconsistent elements within the EU ‘legislative chain’. The core of the proposals focuses on equipping the Commission and the national authorities with better data analysis tools, improving cost-calculating methodologies and enforcement action, with the ultimate aim of reducing compliance burden stemming from EU regulation across all sectors of economic activity.

The Commission’s response – tackling the innovation gap while reducing regulatory burden

Regarding the Draghi report’s considerations on the innovation gap, the Commission’s response focused on tackling scaling up challenges caused by ‘regulatory and legal fragmentation’. In this context, the Commission highlighted two main sets of actions: one aimed at providing innovators with harmonised EU-wide rules to better leverage the Single Market, and the other addressing the critical need for ‘state-of-the-art digital infrastructure’.

The harmonisation effort focuses on removing the obstacles for innovative SMEs to emerge and scale up. As part of its EU Start-up and Scale-up Strategy, the Commission aims at consolidating efforts to enhance commercialisation of research (patents), improving accessibility of risk capital, mobility of skilled workforce and talent, and better targeted support for innovation. To this end, the European Innovation Act will aim at promoting access to research and tech infrastructure by innovative companies to increase patenting, and ‘regulatory sandboxes’ for developing and testing new ideas. Without referring to the idea of IECs, the Commission commits to proposing a ‘28^th legal regime’ to harmonise corporate, insolvency and tax law rules and to reduce the costs of failure.

In what concerns digital infrastructure, the Commission refers to AI Continent strategy and AI factory initiatives to leverage on aggregating and network effects at EU level, as well as EU Cloud and AI Development Act to mobilise public as well as private initiatives to set-up AI Gigafactories that would enable the advancement of AI ecosystems in the EU. The Commission also refers to the critical role of fibre networks, wireless and satellite solutions, 6G and cloud computing, and quantum technologies, as parts of digital infrastructure. It highlights a Digital Networks Act to set market incentives for investing in infrastructures, reducing compliance costs, and expanding the Single Market to connectivity and EU spectrum policy. Moreover, a Quantum Strategy and a Quantum Act (building on existing Chips Act) would help to address regulatory fragmentation and consolidate EU and Member States’ programmes and investment.

‘Simpler, lighter, faster’ – this was the Commission’s response to addressing the regulatory burden as an obstacle to innovation and EU competitiveness. Framed as one of the five ‘horizontal enablers of competitiveness’, the simplification effort is a key pillar of the Commission’s Competitiveness Compass. It sits alongside initiatives to remove barriers and expand the Single Market, mobilise financing (including Strategy on a Savings and Investment Union), enhance labour market and social fairness, and introduce a Competitiveness Coordination Tool.

The simplification effort already took off with the first ‘Omnibus’, targeting administrative burdens (‘costs of all administrative burdens, and not only reporting requirements’) based on its quantified targets and focusing on sustainable finance reporting, sustainability due diligence and EU taxonomy. The two proposals in the first Omnibus concern amending the Audit Directive, Accounting Directive, as well as Corporate Sustainability Reporting Directive (CSRD) and Corporate Sustainability Due Diligence Directive (CSDDD), as well as postponing the application of some reporting requirements under CSRD and CSDDD. The Commission has also published a Draft Delegated act amending the Taxonomy Disclosures Delegated Act, as well as the Taxonomy Climate and Environmental Delegated Acts. Proportionality considerations appear to be the guiding principle of this effort, as the Commission highlights its focus on proportionality of requirements to the scale of activities and role of smaller actors within supply chains. 

Regulatory transformation, not deregulation

Despite the focus of the Draghi report and the Commission’s Competitiveness Compass on removing regulatory obstacles to innovation, I argue that the task undertaken by the Commission is that of regulatory transformation and should not be perceived as deregulation.

First, the simplification effort is not and should not be seen as, or reduced to, deregulation. This suggestion misses the point in a number of ways, and drives attention away from the more nuanced aspects of the Commission’s efforts. As one of the ‘horizontal enablers of competitiveness’, simplification effort indeed focuses on cutting the red tape, yet at the same time pursues a number of other objectives such as streamlining the legislative process, digitalisation and efforts to speed up administrative procedures. Moreover, the practical implications of the effort so far, as exemplified by the first Omnibus, primarily aim to reduce regulatory burden by clarifying requirements, lowering compliance costs, ensuring consistent implementation, and addressing the issue of ‘regulatory flow’ highlighted in the Draghi report.

In addition, simplification exercise should be viewed in the context of other horizontal enablers, in particular the Commission’s ambition to reinstate the momentum for the integration of the Single Market. The Commission highlights that enhancing competitiveness requires continuous efforts for ‘removing remaining barriers and expanding the Single Market’. To this end, the Commission suggests a number of measures, including Horizontal Single Market Strategy to modernise the governance of the Single Market, measures aimed at improving implementation and enforcement of EU legislation and, crucially, launching additional harmonisation measures that would eradicate legal fragmentation (including the 28^th legal regime) ‘in the twin interests of deepening the Single Market and simplification’.

The latter clearly points at the dual role of regulation (put simply: more regulation to reduce fragmentation in the Single Market but less regulation to reduce regulatory burden) that makes Commission’s task more nuanced than framing it as deregulation would suggest, and instead should redirect the discussion towards the questions of regulatory transformation that the Commission is tasked with. One such question is whether the Commission will manage to effectively ‘reduce regulatory burdens with one hand and add new ones with the other’. Focus on digitalisation and improving the cost calculating methodologies paired with regular screening, streamlining impact assessment and stress-testing, offer a solid basis to ensure new rules do not result in disproportionate regulatory and compliance costs.

Another question concerns the preparedness of the Commission to transform its regulatory efforts to ensure these go hand in hand with technological developments and the need for regulatory framework to simultaneously cater for the needs of innovative businesses while ensuring safety and security of European citizens and consumers, as well as integrity of the Single Market.

This question eventually boils down not to whether or why to regulate, but how. Draghi report offers only one paragraph dedicated to ‘innovation-prone regulatory framework’. The report proposes to create ‘EU innovation hubs’ and the use of a range of ‘flexibility instruments’. The innovation hubs would aim at coordinating and promoting the use of regulatory sandboxes at Member State level, by providing centralised information to businesses, with emphasis on ‘key economic sectors for EU competitiveness, such as digital technologies’. As regards the flexibility instruments, sandboxes appear to be one idea that transcending the report lands in the Commission’s Compass (no wonder considering the recent introduction of sandboxes in the EU’s AI Act and their use in digital finance). Additionally, the report emphasises the importance of a systematic use of ‘experimentation clauses’ for agile regulation, including sunset clauses. Ensuring regulatory flexibility and adaptability to technological change appears to be another equally important component of the regulation aimed at stepping up EU’s game in breakthrough and disruptive innovation, emphasised in the Draghi report.

The answer to the above questions, I argue, is that regulatory transformation (and not deregulation) is key to effectively address the innovation gap and enhance European competitiveness. In ensuring that such transformation takes place, it is important that the Commission’s effort is consistent and spans across three dimensions: a) simplification of existing rules, including improvements in their implementation and enforcement in Member States; b) systematic filtering of new initiatives in line with the innovation and competitiveness objectives, notably the need to regain momentum for further integration of the Single Market; and, finally, c) deploying innovative and flexible regulatory instruments to ensure EU’s regulatory frameworks facilitate and promote innovation.

Nikita Divissenko is Assistant Professor at the International and European Law Department of the Utrecht School of Law. Nikita obtained his PhD from the European University Institute (EUI) in 2022, and prior to joining Utrecht University he was a research associate at the Florence School of Banking & Finance (Robert Schuman Centre for Advanced Studies). His research focuses on the intersection of digital innovation and regulation.