Banking Union: An unfinished project
The banking union is an ambitious project.
It aims to build a resilient banking system that is capable of serving the European economy and to end the absurd vicious circle in which banks finance Member States but depend on the very same Member States to bail them out in times of hardship, notably when Member States cannot repay their debts.
It is also an ambitious project from a technical point of view. In this respect, it involves three parallel processes being put in place.
- First, a Single Supervisory Framework for all Eurozone banks.
- Then, a Single Banking Resolution Framework so that public authorities can intervene in the management of banks that get into difficulty, before they become bankrupt. This is to avoid bank customers, especially depositors, as well as taxpayers being asked to contribute to the rescue of banks that are presumed too big to fail.
- Finally, it is meant to establish a single fund that should guarantee deposits of up to EUR 100,000 per depositor, without taxpayer contribution. It should be recalled that since 2008, European Member States have given EUR 1,600 billion in guaranties and paid out EUR 400 billion to save their banking systems.
Banking Union is also an ambitious project from a political perspective. It involves building a system of mutualized deposit insurance and a European framework to preserve the continuity of the banking system irrespective of the nationality of the distressed banks. The project builds on the Directive on Bank Recovery and Resolution, which focusses mainly on the attribution of bank losses to shareholders and creditors instead of taxpayers. This directive is excellent in principle and, notwithstanding its defects, it does represent a step forward. Regrettably, following the imponderables of the Brussels negotiation process, it has been deprived of some of the technical measures that would have ensured the protection of the taxpayer in all possible scenarios.
The difficulty in establishing a banking union can be understood when one ties together its different components.
- The system that has been adopted to ensure that the creditors of a bank and not the taxpayers foot the bill in case of a failure is very imperfect because of the pressure exerted by Member States, which tend to protect the interests of their own national banking industry. There are therefore still scenarios where a bank failure could require the use of public money.
- While negotiating the single resolution framework in December 2013 certain states with Germany at the forefront insisted on a framework in which they would have the final say, as they were conscious of the fact that the rules concerning the attribution of bank losses could lead to situations where national taxpayers would once more be called on to contribute. This reflects the fact that the compromise reached empowers the Council on this matter, contrary to what the European Commission had originally proposed.
A banking resolution framework should not be solely left in the hands of politicians, and even less of national interests. The resolution of a bank is a difficult moment; it is a moment of crisis when multiple and considerable pressures are in play. A politician cannot realistically handle these technical and arduous questions in a very short timeframe, while resisting outside pressures.
Regrettably, the compromise reached at the December summit resulted in a system that is too complex and which is driven by the Council, a political institution driven by national interests. It is a safe bet that this system will not work if it is one day put to the test by a major banking crisis.
Additionally, giving the final say to national politicians will encourage banks to hold sovereign debt issued by the state upon which they depend. Not only will this result in a failure to break the vicious circle between banks and states, which is the primary objective of the banking union, it will also lead to more fragmentation in Europe’s financial markets.
Is the glass, then, half full or half empty?
Half full, if we consider the agreement on single supervision and the directive on banking resolution which, however imperfect, constitute significant progress. It should be acknowledged that filling this half of the glass has been a major achievement for the initiators of the reforms. But the glass is half empty if we consider the weakness of the resolution framework that results from the compromise and, more importantly, the lack to date of a genuine reform of the structure of European banks whose size, complexity and level of interconnectedness deprive the resolution framework of its credibility.
"Credibility" is the key word in banking resolution and, beyond the necessary improvement of the resolution framework, as long as the question of banking structure and interconnectedness is not resolved, it will be illusory to think that a banking union would be able to protect our societies from the effects of a major banking crisis.