Euro-Zone Banking Union: Coverage and Pace of Implementation

This post considers the present debate about the coverage of the Banking Union to be created in the Euro-Zone as well as the pace of its implementation. This coverage is contentious because it affects many established interests while attempting to homogenise disparate national banking sectors under a single rule book implemented by a single supervisor. Moreover, other important crisis tools (ESM banking bailout and by association OMTs) were made conditional on this reform and as such the repercussions of the duration of negotiations are wide. Finally, the expedited pace at which the European Commission announced it intended to create the banking union put a lot of pressure on the ECB and on the Council. Interestingly, all this discussion hasn’t even begun to consider a pan-European deposit guarantee scheme…

This post focuses on some brief comments made recently and offers a reminder of the fact that while reform must be carried out well, the optimum mustn’t be made to be the enemy of the good.

The Germans Want to Take it Slow

Regarding the introduction of a banking union, in particular of a Single Supervisory Mechanism (SSM), and the prospect of full coverage eventually extending to all 6000 banks operating in the Euro-Zone, Chancellor Merkel was recently reported to have argued that

It is not a matter of coming up with something as soon as possible which will also end up not working, but of winning back credibility

Prior to this, Schäuble, Germany’s Finance Minister, was reported to have forecast that

“It would “not be possible” for the ECB to assume its new duties by the new year as planned.

Moreover, because banking sectors in the Euro-Zone are rather diverse, German officials and representatives of savings banks  (“Sparkassen“) have also argued for a more limited remit to the upcoming ECB supervisiory mandate, limited to large banks with systemic cross border operation. As the Economist reminds us,

“German savings banks and mutual banks are used to the idea of mutualised guarantees: they have formed joint-liability groupings, which vouch for the solvency of each bank in their group. They are far less keen on having to vouch for banks outside Germany.”

However, while no one would disagree that the ECB must be prepared and duly equipped before it can takeover its newfound responsibilities, urgency and organization might be better thought of as complements than as substitutes in this case.

In its proposals, the European Commission did not miss this. While the ECB will probably need to hire new staff to pursue these new tasks, the truth is that the main reform is in the organigram of financial supervision in Europe. National authorities will remain responsible for most of the job. However, power and authority will flow from Frankfurt.

France and the Periphery are More Pressed For Time

The periphery, who depends on the creation of a banking union and the SSM to allow the ESM to bailout its banks directly, is slightly more concerned with hurrying the creation of a banking union.

The French Finance Minister, Moscovici, offered the most recent reminder of the importance of a speedy implementation of the banking union. According to an article by MNI, he was reported to have stated that “the banking union talks had to move fast for the sake of those smaller banks which were more weakly capitalised, he said”. On the same topic, Bloomberg offers a video of him under the heading Europe Must Deliver on Bank Union, Moscovici Says.

The Governor of the Bank of Cyprus, Panicos Demetriades, joined his voice to the French Minister and reminded an audience in Nicosia,

every effort should be made to move ahead as quickly as possible based on a phasing-in approach due to the urgency of the matter, especially as the set-up of the [single supervisory mechanism] has been made a precondition for the possible direct recapitalisation of banks by the ESM,”

The oldest and most prominent voice in favour of this institutional shift is of course Italy’s Mario Monti, who was the main driving force for it before the June Council meeting, reportedly saying that “leaders must take steps towards ‘a greater banking union with more common oversight’ “.

Coverage: Different Banking Systems, But Also Conflicting Interest

In part, some of these disagreements spring from the fact that different European countries do indeed have different banking systems. Ownership and regulation vary widely, leading to a more liberalised financial system in France than say in Germany and other dichotomies between Western and Easter European systems. These systems differ, not just in how they operate but also in the underlying supervisory tools that oversee them which despite some homogenising efforts are still struggling to converge.

However, while these differences cannot be underestimated, it should be noticed that there is an underlying conflict of interest that sheds some doubt over the genuinely economic arguments against the extension of the oversight to all banks. While Deutsche Bank and other large banks are happy to support the extension of the regulatory oversight across all Euro-Zone financial entities, the main opposition to this move inside Germany comes from the suspiciously bailed out Sparkassen and Landesbank. Of course I’m not claiming anything illegal is happening. I’m just highlighting the conflict of interest behind banks such as West LB and  Hypo Real Estate demanding less overarching supervision. After all, it was they who at the peak of the crisis ran into sub-prime problems that forced them to father the EAA and FMW Wertmanagement bad banks. Most recently, these “small, mostly national entities” also turned out to be extremely exposed to Greece.

Pace of Reform: Quantifying the Benefits(/Costs) of a European Banking Union

For those of us who have been keeping an eye on the Euro-Zone, the announcement of the banking union in the early hours of June 29th and subsequent rally in Spanish and Italian government bonds is not so distant that we have already forgotten it…

Moreover, the memory of how the rally following the banking union announcement was eventually broken by the defecting comments of Finland and the Netherlands, and the hyperbolic tone of their demands for punitive conditionality, is also not forgotten.

The rise in yields that followed the uncertainty created by these public views clearly shows that the creation of a banking union soothes market by clearing some uncertainties about the upcoming feasibility of direct banking intervention by the ESM in Spain, as well as in Ireland. Therefore, I cannot agree with Mrs Merkel. As the post OMT rally fades in Spain, the urgency of the banking union cannot be overstated.

Conclusion: Loud Public Debate But No Big Bazooka

The debate about the future of the Euro-Zone Banking Union offers another one of those fertile grounds for disconcertingly public disagreement between European leaders that so easily fuels financial market volatility.

This post has sided with the argument that the Banking Union should be implemented in a speedy and encompassing manner, even if progressively so, while questioning the motivations behind German opposition.

Most interestingly, however, is the fact that this is a discussion about the rules. Ultimately, the most appealing feature of a banking union is that it provides a pooled source of depositor (and creditor?) insurance schemes, which can be tapped to protect the stability of the market. Interestingly, this is nowhere to be seen at the moment. For now, the discussion is not even about the creation of this big bazooka fund, which would be able to exploit economies of scale to protect depositors. If banks make this much noise about the rules, just imagine what it will be like when the this shared deposit guarantee scheme is propose.

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1 Response to Euro-Zone Banking Union: Coverage and Pace of Implementation

  1. FDSkywalker says:

    Thank you for this very detailed article on European banking union. But what hat are the possible impacts for companies? How will they be affected? I tried to search for some information on the internet. Nobody seams to deal with this aspect of the European banking union. Till now, this is the only opinion I have found:

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