Blog Post

Banking union or financial repression? Europe has not chosen yet

European policymakers, particularly on the continent, have long appeared to be in denial of the centrality of systemic banking fragility in the place’s problems. They have first denied a homegrown banking problem existed, by shifting all the blame to Anglo-Saxons in 2007-09; then by engaging in timid, less-than-credible stress tests while redirecting the blame at […]

By: Date: April 6, 2012 Topic: Finance & Financial Regulation

European policymakers, particularly on the continent, have long appeared to be in denial of the centrality of systemic banking fragility in the place’s problems. They have first denied a homegrown banking problem existed, by shifting all the blame to Anglo-Saxons in 2007-09; then by engaging in timid, less-than-credible stress tests while redirecting the blame at the Greek government and other lousy fiscal managers in the European South. The October 2011 “recapitalization plan” was in effect another episode of denial, for various reasons: it was based on an unreliable capital assessment; it went full fair value on sovereign debt, in violation of any prudential principles; and it relied on overly volatile debt prices, a dubious basis for capital assessments even at amortized cost, given the huge uncertainties about the Eurozone’s future fiscal framework. The ECB then had little choice than to place Europe’s entire banking system under a shower of long-dated liquidity, as it deed in December to great effect with the three-year LTRO.

In this sorry context, it is good news that a more lively debate seems to emerge these days about the need for a European Banking Union as a necessary complement to Eurozone Fiscal Union, as the FT recently reported. My Peterson Institute colleague Jacob Kirkegaard has a highly optimistic take on this and sees the emergence of an integrated European banking policy in the making.

I believe this view is overly bullish. There is widespread agreement among economists, and European and international technocrats, that Europe’s single financial market and monetary union cannot survive long-term without a banking union. Many observers had defended this view since before the crisis started (me included), and the International Monetary Fund articulated it more specifically in a landmark contribution in April 2010, which the then Managing Director endorsed in a speech in Brussels. But the obstacles are political, not analytical, and they have not disappeared at all.

Put simply, Europe’s leaders are not ready to create a truly meaningful federal framework for banking policy because a critical mass of countries see banks as a core instrument of national policy. Financial repression is back from history books, arguably even more so in the Eurozone than in other so-called advanced economies. The catch is that a true banking union – which I define as the creation of a federal framework for banking policy, including not only regulation but also deposit insurance, supervision and resolution at least for transnational banks – would deprive national governments of many of their levers for financial repression. Therefore the two propositions are to a large extent mutually exclusive – and this is without mentioning other political considerations, from strong local links between banking and political establishments (e.g. Germany or Spain) to economic nationalism (e.g. France), that create huge political resistances against the very notion of a banking union.

An additional obstacle, not to be underestimated, is the discrepancy between the Eurozone and the 27-member European Union. A Eurozone-only banking union would be very difficult to square with the vision of a single EU market for financial services. Meanwhile, the European Banking Authority, created in 2011, happens to be located in London. But the UK is not ready to federalize decisions on banking supervision and resolution, partly because its big banks’ international activities are outside Europe rather than on the continent (see Figure 5 of this). There is no easy answer to this challenge, particularly as nobody knows what direction the UK will take vis-à-vis the EU on a medium-term basis. Even policymakers who forcefully advocate the vision of a banking union, as the ECB’s Benoit Coeuré did in a recent speech, stop short of specifying whether they have a Eurozone or EU27 framework in mind. Senior policymakers acknowledge in private that this is a huge practical obstacle to progress on the way to banking union, and it is not likely to be resolved any time soon.

Ultimately, monetary union cannot be sustainable without fiscal union and banking union, and these will not themselves be sustainable without a form of political union (I tried to articulate this interdependency in my testimony to the US Senate last September). But my hunch is that there is a sequence here: we had monetary union first, we’ll (possibly) have fiscal union next, and (if at all) banking union last. Contrary to many people’s intuitive perception, it is politically easier for a nation to renounce its own currency and even its fiscal sovereignty than its control on banks. The US history is not directly comparable but suggests the same sequence, as a truly integrated national banking market did not emerge there until the second half of the 20th century. The apparent new emphasis on banking union in Europe’s policy debate must be welcomed, but we’re still a very, very long way from the endgame.


Republishing and referencing

Bruegel considers itself a public good and takes no institutional standpoint. Anyone is free to republish and/or quote this post without prior consent. Please provide a full reference, clearly stating Bruegel and the relevant author as the source, and include a prominent hyperlink to the original post.

Read about event
 

Upcoming Event

Sep
2
13:00

European banks: under global competitive pressure?

Bruegel Annual Meetings, Day 2 - European banks have lost stature and remain generally low-profitability, low-valuation in comparison to their global peers. Is that a problem? If so, what can EU policymakers do to address it?

Speakers: José Antonio Álvarez Álvarez, Mairead McGuinness and Nicolas Véron Topic: European Macroeconomics & Governance, Finance & Financial Regulation Location: Palais des Academies, Rue Ducale 1
Read about event More on this topic
 

Upcoming Event

Sep
2
14:15

Monetary and macroeconomic policies at the crossroads

Bruegel Annual Meetings, Day 2- In this session we would like to discuss monetary and macroeconomic policies after Covid-19.

Speakers: Grégory Claeys, Per Callesen, Gita Gopinath, Jorge Sicilia Serrano and Lawrence H. Summers Topic: Finance & Financial Regulation Location: PALAIS DES ACADEMIES, RUE DUCALE 1
Read about event
 

Upcoming Event

Sep
3
10:15

Sustainable finance

Bruegel Annual Meetings, Day 3 - In this session on the final day of the Meetings, our panelists will discuss the future of finance and its sustainability.

Speakers: Maria Demertzis, Alberto De Paoli, Pierre Heilbronn and Alexandra Jour-Schroeder Topic: Energy & Climate, Finance & Financial Regulation Location: Palais des Académies, Rue Ducale 1, Brussels
Read about event
 

Past Event

Past Event

Financing for Pandemic Preparedness and Response

How can we better prepare for future pandemics? In this event, co-hosted by the Center for Global Development and Bruegel think tanks, speakers will present "A Global Deal for Our Pandemic Age", a report of the G20 High Level Independent Panel on Financing the Global Commons for Pandemic Preparedness and Response.

Speakers: Masood Ahmed, Victor J. Dzau, Amanda Glassman and Lawrence H. Summers Topic: Finance & Financial Regulation, Global Economics & Governance Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: July 14, 2021
Read article More by this author
 

Blog Post

SPACs in the gap

Special-purpose acquisition vehicles could fill a gap in European equity markets and lure risk-averse investors off the sidelines.

By: Rebecca Christie Topic: European Macroeconomics & Governance, Finance & Financial Regulation Date: July 13, 2021
Read article More on this topic More by this author
 

Blog Post

The EU green bond standard: sensible implementation could define a new asset class

The proposed EU green bond standard will be less prone to ‘greenwashing’, and the widest possible set of issuers and jurisdictions should be encouraged to use the standard.

By: Alexander Lehmann Topic: Finance & Financial Regulation Date: July 13, 2021
Read article More on this topic More by this author
 

Blog Post

Banks post-Brexit: regulatory divergence or parallel tracks?

Post-Brexit UK bank regulation is not likely to compromise on international standards, but will place greater emphasis on competition, making close UK-EU dialogue essential.

By: Alexander Lehmann Topic: Finance & Financial Regulation Date: July 6, 2021
Read article Download PDF More by this author
 

External Publication

European Parliament

UK banks in international markets

Implications of UK-euro area divergence in regulation and supervisory practice

By: Alexander Lehmann Topic: European Parliament, Finance & Financial Regulation, Testimonies Date: June 25, 2021
Read about event More on this topic
 

Past Event

Past Event

Multilateralism in banking regulation and supervision

This members-only event welcomes Carolyn Rogers Secretary General of the Basel Committee on Banking Supervision.

Speakers: Carolyn Rogers and Nicolas Véron Topic: Finance & Financial Regulation Location: Bruegel, Rue de la Charité 33, 1210 Brussels Date: June 24, 2021
Read article Download PDF More by this author
 

External Publication

European Parliament

What Are the Effects of the ECB’s Negative Interest Rate Policy?

This paper explores the potential effects (and side effects) of negative rates in theory and examines the evidence to determine what these effects have been in practice in the euro area.

By: Grégory Claeys Topic: European Parliament, Finance & Financial Regulation, Testimonies Date: June 9, 2021
Read article Download PDF More on this topic
 

Policy Contribution

Europe should not neglect its capital markets union

The European Union’s capital markets remain very underdeveloped compared to the United States. The market for equity, as measured as the size of the total market capitalisation of listed domestic firms relative to GDP, is much larger in the US and in Japan than in Europe.

By: Maria Demertzis, Marta Domínguez-Jiménez and Lionel Guetta-Jeanrenaud Topic: Finance & Financial Regulation Date: June 7, 2021
Read article More by this author
 

Blog Post

Banks in a net-zero Europe

A net-zero emissions target is a powerful incentive for the low-carbon transition, but for bank supervisors, climate-related risks, not climate outcomes, should remain the focus.

By: Alexander Lehmann Topic: Energy & Climate, Finance & Financial Regulation Date: June 1, 2021
Load more posts