04 Europe


Banking union developments

Xavier Freixas

The financial crisis has been an important lesson for Europe and its institutional and legal structures. The good news is that a European banking union has been created due to the crisis. Although the creation of the European banking union seemed dubious initially as it involved the transfer of fiscal resources between countries, the founding text has been agreed stressing that such transfers will not take place. We should be happy about this important step towards building a single market and wait to see if such transfers are needed.
The banking union is based on three pieces of legislation, adopted on 15 April 2014: the single resolution mechanism, the bank recovery and resolution directive and the deposit scheme directive. These texts have enabled a breakthrough in the uniformity of banking systems.
The deposit scheme directive was absolutely necessary after the deposit guarantee scheme mechanism was queried, first due to the failure of the deposit guarantee fund in Iceland and the possibility, which lasted a few days, of implementing a 15% tax on deposits in Cyprus. It is therefore a major step towards financial stability for Europe and increasing the confidence of depositors in the banking system.

The other two mechanisms give regulators the tools to help troubled banks. Up to now regulators did not have many tools to credibly threaten shareholders in a bank as the disorderly collapse of the bank was possibly more costly for the regulator in order to gain financial stability than for the bank itself. Shareholders could present a legal battle to protect their rights leaving the situation in limbo; in the end the best solution was to use public funds to restructure the bank. The power of the regulator is now underpinned by these newly adopted texts; it is now clear that the shareholders and bearers of subordinated debt and junior debt will bear the brunt of any losses incurred. We hope that this will end the practice of bank bailouts where taxpayers have to finance bank (or savings bank) losses, something Spain has witnessed only too well. The new texts aim for greater efficiency and fully integrated European banking; we should congratulate ourselves for this. However, there are some aspects that we are still worried about.

Firstly, the texts apply to the 28 members of the European Union, and therefore does not apply to Iceland and the Icelandic crisis could happen again despite the banking union having been created.

Secondly, the banking resolution mechanism, which aims to re-establish banks that were too big to collapse, includes a fund of 55 billion. When we think about the Spanish banking crisis, which led to 100 billion of European funds being made available in a context when the large Spanish banks were perfectly solvent, the fund seems meagre.

Thirdly, and perhaps this is the most worrying point, we have to ask ourselves if transfers of fiscal resources between countries will actually take place or not. On paper it will not happen. However, if HSBC collapses for example, this would increase risk premiums on insured deposits for years across Europe. In this case, Spain and France would be paying higher banking costs because HSBC miscalculated their risks in Hong Kong. Of course, this is not a transfer of fiscal resources between countries, but it is somewhat similar.

In short, it is a step towards European integration but the devil is in the details; we need to look at how the texts are implemented in all of the countries.

Xavier Freixas

Xavier Freixas

Director of Banking and Finance programmes, UPF Barcelona School of Management

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