Tuesday

17th Oct 2017

Opinion

Banking union's major omission: debt mutualisation

  • Germany has opposed debt mutualisation and watered down the banking union (Photo: EnvironmentBlog)

Should we fear another banking crisis in Europe? European leaders would have you think that this is not possible anymore.

Indeed, after intensely caffeinated negotiations that ran late into the night, the leaders of the eurozone emerged with a deal in hand and smiles on their faces, proclaiming that the long awaited compromise on a banking union has been reached.

Thank you for reading EUobserver!

Subscribe now for a 30 day free trial.

  1. €150 per year
  2. or €15 per month
  3. Cancel anytime

EUobserver is an independent, not-for-profit news organization that publishes daily news reports, analysis, and investigations from Brussels and the EU member states. We are an indispensable news source for anyone who wants to know what is going on in the EU.

We are mainly funded by advertising and subscription revenues. As advertising revenues are falling fast, we depend on subscription revenues to support our journalism.

For group, corporate or student subscriptions, please contact us. See also our full Terms of Use.

If you already have an account click here to login.

Michel Barnier, the EU’s internal market commissioner quickly declared that the deal “will put an end to the era of massive bailouts”.

But will it?

The convoluted history behind Europe’s latest effort of achieving “an ever-closer union” can be traced back to the dark times of the financial crisis that rocked international markets half a decade ago. After the dust settled and some 110 banks caved under the weight of outstanding debts, the Union had already spent €1.6 trillion just to bail out its financial institutions.

With “never again” on their lips, Europe embarked on a grand project, conventionally called “the banking union”. In reality, it indicates a system of four major elements: a single rulebook for the financial market coupled a single supervisory and resolution mechanism, backed by an emergency fund.

The overarching idea was to preserve the European single market and break the noxious relationship between banks and its sovereigns.

Soon thereafter, tensions rose between major political stakeholders over how this new union should be achieved. Should it be a first step towards greater federalism or should it be simply a safety mechanism, controlled by national governments, meant only to address the single issue of banks’ solvency? On 20 March, the second option prevailed.

The compromise was clinched only after the German Finance Minister was woken up at 5am in order to sign off on key aspects. Under the deal, the Single Resolution Mechanism as it has been agreed will be responsible for supervising and/or shutting the 130 biggest eurozone banks as well as 200 cross-border banks and 6000 eurozone lenders.

The ECB, alongside a specialised agency, will undertake the regulatory supervision and will come to the rescue of troubled institutions by drawing from a €55 billion fund. Banks themselves will fill the funds’ coffers, through annual levies imposed by national governments. Under this deal, eurozone governments no longer have the final say whether a bank is too big to fail. It is up to the ECB to decide if funds are to be released.

Every country for itself

Fact: Italian banks have an estimated €150 billion worth of shaky, non-performing loans, while Europe prides itself with almost €1trillion. These figures are enough to give the shakes to any bank wanting to expand its lending business.

Fortunately, the European countries coming together under the banking union scheme can now act decisively and prevent another collapse of the system, right? Well, not quite. And I’m not referring just to the roughly 100 eurocrats that have to cast a formal vote on the closure of a bank.

The major fault of the system stems from German reluctance to accept debt mutualisation across the continent. This means that each country has to shoulder its banks using its own taxpayer money in case of a financial shock that overpowers the rescue fund’s existing capacity. And since the fund only has a few billions at its disposal, if major bank failures were to happen, the burden would once again fall back on individual countries. It doesn’t sound like a true banking union, does it?

The banking union was meant to reverse one of the most resilient financial laws, the so-called “financial trilemma”. In a nutshell, this triple dilemma is defined by three impossibilities: achieving financial stability, integration while maintaining national financial policies in an integrated market. Since the financial system is a dense web made up of streams of capital flows going from one node to the other, a faulty circuit can affect the entire market, threatening financial stability.

The watered down variant of the Single Resolution Mechanism that emerged in the wee hours of the morning of 20 March has severely weakened its initial purpose.

Investors are unsure about the health of banks’ balance sheets, the rigour of supervision and the capacity of cash-strapped European countries to provide the safety net needed to challenge the financial trilemma.

Although this is clearly a political victory for the European Parliament, which managed to force Germany’s hand into accepting a compromise, it is still a far cry from what Europe truly needed to turn around its wobbly banking sector. Like most rules coming from Brussels, the banking union is simply a jack-of-all-trades-master-of-none deal.

Robert Merton, an American sociologist, would have found the banking union a worthy inspiration for his studies. To illustrate how a false understanding of a given situation becomes an integral part of it and affects its outcome – otherwise known as a “self-fulfilling prophecy” – Merton used the parable of a fictitious bank run.

In his example, The Last National Bank, a profitable and stable institution, is suddenly affected by a false rumour that it was on the verge of insolvency. Panicked, its customers immediately flocked to take out their savings, overrunning the bank and forcing its default. The originally false definition of the situation – that the bank was insolvent – had become true, transforming into a self-fulfilling prophecy.

Like in Merton’s case, the EU’s banking union is geared in such a way that it automatically assumes that banks, maybe even big banks, will fail in the future. Unfortunately, the intricate decision-making mechanism and the limited scope of the fund are simply insufficient to reassure the market. Therefore, this is not a mechanism meant to help the banks that are now starving for cash, but a paradoxical way of instilling the idea, in both consumers and bankers, that a future liquidity crisis will happen.

This is a dangerous notion, which has the potential to act as an accelerant for future defaults.

Let’s just hope this will not turn into a self-fulfilling prophecy.

The writer is a Geneva-based economist.

Who pays the bills in a banking union?

The European Commission published the most important and eagerly awaited piece of the banking union puzzle on Wednesday but the backlash was predictable.

EU parliament gives final nod to banking union

MEPs on Tuesday signed off on the creation of a new authority and fund for failing banks – a missing element to the so-called banking union aimed at minimising the public cost of future financial crises.

Batteries set to 'charge' our economy

By 2025, the European battery sector will be worth €250 billion annually - the decisions we take now will decide where the jobs to serve it are created, says EU commissioner Maros Sefcovic.

Left flirting with antisemitism in EU parliament

It is outrageous that Leila Khaled, a member of a group listed by the EU as a terrorist organisation, was given a platform in the EU parliament, a body representing democracy and peaceful cooperation.

Stakeholders' Highlights

  1. International Partnership for Human RightsEU Should Seek Concrete Commitments From Azerbaijan at Human Rights Dialogue
  2. European Jewish CongressEJC Calls for New Austrian Government to Exclude Extremist Freedom Party
  3. CES - Silicones EuropeIn Healthcare, Silicones Are the Frontrunner. And That's a Good Thing!
  4. EU2017EEEuropean Space Week 2017 in Tallinn from November 3-9. Register Now!
  5. European Entrepreneurs CEA-PMEMobiliseSME Exchange Programme Open Doors for 400 Companies Across Europe
  6. CECEE-Privacy Regulation – Hands off M2M Communication!
  7. ILGA-EuropeHealth4LGBTI: Reducing Health Inequalities Experienced by LGBTI People
  8. EU2017EEEHealth: A Tool for More Equal Health
  9. Mission of China to the EUChina-EU Tourism a Key Driver for Job Creation and Enhanced Competitiveness
  10. CECENon-Harmonised Homologation of Mobile Machinery Costs € 90 Million per Year
  11. ILGA-EuropeMass Detention of Azeri LGBTI People - the LGBTI Community Urgently Needs Your Support
  12. European Free AllianceCatalans Have Won the Right to Have an Independent State

Latest News

  1. Malta shocked after car bomb kills crusading journalist
  2. Spanish and Catalan leaders continue stand-off
  3. May pleads for more as EU makes Brexit gesture
  4. EU united in backing Iran deal, after Trump criticisms
  5. 'Think of the patients!' cry warring EMA-host cities
  6. In Iceland: Europe woos Arctic allies
  7. Austrian voters reject liberal pro-EU status quo
  8. Turkey urges EU not to break off ties

Stakeholders' Highlights

  1. ECR GroupBrexit: Delaying the Start of Negotiations Is Not a Solution
  2. EU2017EEPM Ratas in Poland: "We Enjoy the Fruits of European Cooperation Thanks to Solidarity"
  3. Mission of China to the EUChina and UK Discuss Deepening of Global Comprehensive Strategic Partnership
  4. European Healthy Lifestyle AllianceEHLA Joins Commissioners Navracsics, Andriukaitis and Hogan at EU Week of Sport
  5. Nordic Council of MinistersNordic Council Representative Office Opens in Brussels to Foster Better Cooperation
  6. UNICEFSocial Protection in the Contexts of Fragility & Forced Displacement
  7. CESIJoin CESI@Noon on October 18 and Debate On: 'European Defence Union: What Next?'
  8. Nordic Council of MinistersNordic Innovation House Opens in New York to Support Start-Ups
  9. ILGA EuropeInternational Attention Must Focus on LGBTI People in Azerbaijan After Police Raids
  10. European Jewish CongressStrong Results of Far Right AfD Party a Great Concern for Germans and European Jews
  11. EU2017EEEU Finance Ministers Agreed to Develop New Digital Taxation Rules
  12. Mission of China to the EUGermany Stands Ready to Deepen Cooperation With China