“Europe’s banking trilemma” – Finance Watch releases report on Banking Union and bank structure reform

Brussels,  5 September 2013 – Finance Watch, the public interest association that works to make finance serve society, has today published a report on Banking Union and bank reform in the EU, called “Europe’s banking trilemma”

Despite its intention, in the absence of meaningful structural and capital reforms to Europe’s largest banks, Banking Union will fail to prevent European citizens from bearing the losses of failed banks in the event of a systemic banking crisis, the report concludes.

Using simple language and clear diagrams, the paper analyses the policy trade-offs between today’s arrangement of large systemically important banks with little constraint on their activities, and the public policy goals of protecting depositors and avoiding taxpayer-funded bailouts.

Finance Watch public affairs officer, Katarzyna Hanula-Bobbitt, said:

“Either the structure of large banks is reformed or citizens – as depositors or as taxpayers – will suffer losses in the next systemic banking crisis. The recovery and resolution mechanisms proposed under Banking Union are welcome progress but, on their own, will simply not cope with today’s large banks. Reforms to structure and capital are also needed.” 

Finance Watch Secretary General, Thierry Philipponnat, said:

“We are releasing this report now, as policymakers start to negotiate the many welcome and positive aspects of Banking Union, to underline the absolute necessity that this work be supported by structural and capital reforms. In the long term, Banking Union will be judged by what happens in a systemic banking crisis. If citizens have to bear the cost of bank failures, it will damage the credibility of Banking Union and the Eurozone”. 

Key points from the report include:

  • Bank deposits and payment systems are the lifeblood of our economies. Society relies on bank credit for economic and social order and governments will always step in to protect it.
  • The expectation of bail-out means that banks receive a funding subsidy via government guarantees.
  • There is no reason to subsidise trading activities, in fact this increases systemic risk.
  • In the last 25 years, our largest banks have evolved into “flow monsters” with balance sheets dominated by subsidised trading assets and inter-connected via the derivatives markets.
  • In today’s environment, it is difficult for highly inter-connected banks to undergo “creditor bail-in” without spreading danger throughout the financial system, which undermines the credibility of the bail-in mechanisms proposed.
  • The proposed Resolution Fund and the European Stability Mechanism are too small to withstand a systemic banking crisis on their own.
  • The activities that make banks too-big, too-complex and too-connected-to-fail also make them too-big, too-complex and too-connected-to-resolve in the normal way.
  • When resolution mechanisms are not credible, investors charge a lower risk premium, encouraging the very activities that make resolution difficult.
  • Without structural reforms and credible loss-absorbency mechanisms on banks’ liabilities, Banking Union risks becoming a paper tiger: a mechanism that appears to help but which delays meaningful bank reform and lacks teeth when the next systemic crisis strikes.

Policy recommendations in the report include:

  • A strong legislative proposal in the current European Commission mandate to separate commercial banking from investment banking and trading activities, including market making, as recommended by the High-level Expert Group led by Erkki Liikanen.
  • Significantly higher loss-absorbing capacity for banks, including equity requirements through the adoption of strict leverage caps by 2015.
  • Stronger powers for supervisors to intervene to ensure that recovery and resolution plans are realistic.


For media requests or to interview one of our experts on Banking Union and banking reform, please contact:

Greg Ford, head of communications, on +322.401.8707 or +44 7703 219 222 or greg.ford@finance-watch.org



Banking Union:

The Commission proposed a Single Resolution Mechanism for the Banking Union on 10 July 2013. The SRM would establish a Single Resolution Board to carry out the resolution of any bank in a Member State participating in the Banking Union, and a Single Bank Resolution Fund to ensure that a bank in resolution can continue operating while it is being restructured.  The Council aims to agree on the mechanism by the end of 2013 so that it can be adopted before the end of the current European Parliament term in 2014 and apply from January 2015, with the Bank Recovery and Resolution Directive, which would constitute its rulebook.

EU finance ministers reached agreement on the Bank Recovery and Resolution Directive on 27 June 2013, establishing a framework for the recovery and resolution of failing banks. This opens the way for trilogue negotiations between the Council, the Commission and the Parliament with the aim of finalising the directive at first reading before the end of 2013.

The Parliament and the Council agreed a Single Supervisory Mechanism package on 19 March 2013, bringing common deposit protection and a single bank resolution mechanism under the supervision of the European Central Bank (ECB).

Structural reform:

In February 2012, the Commission established a High-level Expert Group (HLEG), chaired by Erkki Liikanen, to examine whether possible reforms to the structure of the EU’s banking sector would strengthen financial stability and improve efficiency and consumer protection, and, if so, to make proposals as appropriate.

The HLEG presented its final report on 2 October 2012, recommending the functional separation of proprietary trading and market making activities from normal deposit banking. The Commission is now examining possible reform options with a view to prepare a follow-up later in 2013.

Loss-absorbing capital:

The EU’s new rules on capital requirements for banks (CRD IV, which phases in from 1 January 2014) failed to introduce a binding leverage ratio as foreseen in Basel III. CRD IV introduces the leverage ratio as a non-binding Pillar 2 measure with public disclosure required from 2015, data gathering and a Commission report by the end of 2016, and the possibility of separate legislation for a binding leverage ratio as of 2018.

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