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Tuesday, December 10, 2013

Eurozone inches towards banking union but may need to resort to intergovernmental treaties

Eurozone finance ministers yesterday took a belated step towards the key part of the banking union, the single resolution mechanism (SRM), with many reports suggesting that the broad outlines of an agreement have emerged.

We’ve written about the background to this extensively, see here and here for example. As a recap, a deal was expected to be completed by the end of the year so that the framework is in place for after next year’s ECB Asset Quality Review and EBA bank stress test. This now looks unlikely, with technical details being ironed out into next year, but there is still hope for a political agreement at the EU Council on 19 December.

What are the key points of the latest agreement?
  • The latest official draft of the plans was published early last week and things don’t seem to have changed massively.
  • A board of national resolution authorities will make recommendations on how to resolve banks (after the ECB as supervisor recommends the need for action). The Commission then decides whether the plans are adequate or not.
  • There will not be a centralised fund, at least not immediately. As in previous plans, one will be built up over the course of a decade to €55bn, through undefined levies on the financial system.
  • A network will be set up between national funds allowing them to lend to each other and take action when there is a crisis. This may be governed by a separate intergovernmental treaty, to assuage German concerns over its legality.
  • Taxpayer-backed funds remain a last resort, in particular European funds (either through the network or the ESM, the eurozone’s bailout fund), with bail-ins being the initial response. The plans for bail-ins, under the EU’s Bank Recovery and Resolution Directive, could be moved forward from 2018 to 2016 to help appease Germany further.
What is still yet to be agreed?
  • Numerous points remain unclear, not least, who has the final say if the Commission and national authorities disagree. If it involves national funds, it is almost certain to be national authorities.
  • The exact process for triggering the use of funds remains unclear, particularly in a situation where the resolution process involves a large cross border bank.
  • More importantly, if a new treaty is needed, the details of this need to be thrashed out – as we saw with the fiscal compact, this can take time and will itself require a tricky negotiation. It also needs to be decided whether this will be incorporated into EU treaties, as is planned for the fiscal compact.
  • There continues to be talk of the SRM and its rules applying only to larger banks, similar to the setup of the ECB’s single supervisor.
Has Germany really moved that far?
  • Reports suggest a shift in the German position is the key factor behind the compromise. While Germany has clearly shifted a bit, it has also got plenty of things it wanted.
  • Looking back at the proposal laid out by German Finance Minister Wolfgang Schauble in the FT in May, Germany has secured the following – significant national power, increased role for a board and less for the Commission as well as limited use of taxpayer funds, with no central fund. It could also potentially secure an SRM focused on larger banks and a quicker introduction of bail-in rules.
  • It has of course compromised on its view that the treaties need to be adapted, after its position took a blow somewhat from the recent legal opinion on the issue. It has found a halfway house with the intergovernmental treaty, giving it some further legal protection.
What would this deal mean for the eurozone?
  • As we have said before, progress towards a deal is positive. But the deal still suffers from some key short comings namely: the system will not be in place for the immediate aftermath of next year’s stress tests, the system is still reliant on national authorities and ad-hoc measures as well as suffering from constraints in terms of reaction time in a crisis. 
  • Any funds, be they national or European or ESM, remain short of what is likely needed to help backstop and resolve any large failing banks in the circa €33 trillion eurozone banking sector.
  • We remain unconvinced that this will be sufficient to break the sovereign-banking loop which has intensified during the crisis (breaking it remains the stated goal of the banking union) – national politics and money still has a huge role to play in this system.
  • An important point to consider is that, given the current setup of the eurozone banking system, bank bail-ins remain, for the large part, national affairs. While this is separate to the sovereign-bank loop, it does highlight the tight feedback loops within many eurozone economies and could intensify the problem of nationally systemically important banks. This may change over time but is not guaranteed.
What would it mean for non-euro countries?
  • The use of an intergovernmental treaty is interesting and could have ramifications. While it is far from ideal for the eurozone, it does side-line the potential influence and control of non-eurozone countries.
  • One potential upside is that the eurozone will not be able to force through its own institutions under the single market article (Article 114) which does highlight the limits to how far they can stretch this.
  • The ad-hoc part of the agreement does fragment the process and fails to provide a systematic blueprint for how future institutional changes will address the EU/eurozone conundrum.


Jim Kemeny said...

As a Brit living in Sweden I am glad to learn this. Surely the EU will now have to revert to being a loose conglomeration of independent states. And I mean independent...

Rollo said...

I think we will find a huge liking for common funding, from those who cannot provide any funding, except of course by more borrowing; and a huge reluctance from those that could provide funding, but do not want to work to pay for other people's profligacy. So we will not inch towards, or even millimetre towards: we will skirt round it.

Anonymous said...

Welcome to the Mananazone where everyday since 2008 has been the same.

We all know that they are going to hit the UK's Financial Services segment with something new out of the blue at some point soon to try to get us to pay for their mess.

Or else they will just make a straight grab for some of the UK's Financial services business.

What a 'Union'. What great friends and what a great deal for the UK!


Anonymous said...

is this the bad news being buried by msm with blanket coverage of mandela?

Anonymous said...

Open Europe's perception of developments, and of the UK's power to influence them, has parted company almost completely with reality.

As this document helps illustrate, the countries of the Euro Area are pushing ahead with the necessary changes. The UK can throw the odd bottle on to the pitch but is not actually on it in any meaningful way.


Rik said...

Fully agree with Rollo.
This looks like Banking Union and ECB test effectively (stress effectively) being postponed to 2015.
Combined with starting a bail in in 2016, limited rescue funds and paying up by national states first before that time.

Problem being that the bill for the restructuring of the Southern banking sector this way is likely to end up with Northern banks. Who are happy to be alive themselves seen the size of their own problems. And very likely that way indirectly via ECB or otherwise again with the Northern countries.
The South's banks need a major clean up one way or another and they donot have the cash for that (not even remotely).

As said earlier looks like a huge strategic mistake to tie yourself tighter and tighter to countries that in the near future are nearly guaranteed to end up in severe trouble. Directly via transfers or indirectly via the ECB or even more indirectly via your own bankingsector that is hardly in good shape doesnot matter that much in this respect.