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Thursday, December 19, 2013

The German banking union

A deal emerges. It seems that the negotiations are finally coming to a conclusion on the issue of banking union – after just a year.

There has already been lots of coverage of the details of the deal, see in particular the excellent summaries from the WSJ and the continued coverage from the FT Brussels blog, so we won’t bother rehashing all the specifics here. Instead we’ll provide some analysis of the deal and flag up what we think are the most important implications.

First point to make to those who are frustrated about this deal not going far enough: what did you think realistically could happen? 

The deal is not that different from the previous version which we laid out here, although a few (if not all) of the unanswered questions have been cleared up.

What’s new?
  • Earlier this week an agreement was reached on the structure of the funds. It was, as expected, decidedly German. A €55bn fund will be built up from levies on the financial sector between 2016 and 2026. In the meantime, any funding required to aid banks above bail-ins will come from national coffers or ESM loans to sovereigns. Only after 2026 will a centralised fund be created and while there may be some mutualisation, it is yet to be defined and will be subject to future negotiations. There is also scope for national funds to lend to each other but this is to be defined in an intergovernmental treaty.
  • The decision making process will be thus: as supervisor the ECB recommends a bank be resolved, the board of national resolution authorities devises a plan and votes on it ( any release of funds will require approval  two-thirds of voting countries contributing at least 50% of the common fund). This will then have to be approved by the Commission. If there is a dispute at any stage of this process the Council of EU finance ministers will decide on simple majority (if not then it will approve through a ‘silent procedure’).
What does this mean for the eurozone?
  • Well, we’re seriously at risk of repeating ourselves here, but here we go. A deal is positive and necessary. That said, the process remains incredibly complex and still seems highly national or intergovernmental. If there was a serious failure of a large cross border bank, such as we saw with Dexia, would the process really be any smoother or simpler than last time around?
  • The funding remains minimal and only enough to cover the resolution of one or two medium sized banks. It will also not be available for some time and certainly will have little role in helping to deal with any recapitalisation costs outlined by next year’s stress tests.
  • Taking a broad view, it’s easy to question how cross border this ultimate banking union is. The single supervisor under the ECB will only cover the largest 130 banks. The resolution mechanism will cover the same banks, plus another 200 or so which are cross border. However, there are around 6000 banks in the eurozone, and the very large majority of these remain under national purview.
  • Generally, this also raises questions about how effectively the ECB can do its job as national supervisor. While the cracks in the system could push it to be harsher to ensure there is not a systemic crisis, it also poses problems given the current issues on bank balance sheets. It is crucial that next year’s stress tests are credible, if the ECB shows signs of insecurity about the ability to deal with a large bank recapitalisation it could raise questions about the process.
  • Clearly, given the intergovernmental nature and the prevalence of national governments it is likely to be insufficient to break the loop between sovereigns and banks in the eurozone.
How about for non-euro countries?
  • Again we have outlined these points before. It seems that they managed to secure specific protections to ensure they will never be on the hook for eurozone banks, which is good but also the absolute minimum that should be expected.
  • The use of an intergovernmental treaty is tricky. It side-lines these countries somewhat but also shows the limits of what the eurozone can do within the EU treaties.
  • The creation of the resolution board as a new agency within the Commission does raise some concerns. It is clear it should be its own separate institution for the eurozone only, however, the lack of willingness to open the treaties has created this system. If the eurozone continues to push new institutions into older ones and distort the structures of the EU for eurozone use, it could become problematic. It also creates a complex and ineffective decision making procedure for the eurozone as is clear above.
Winners and losers
  • Germany. Plain and simple. For all the talk of a compromise earlier this week, it was incredibly minimal compared to how closely the plans as a whole match the German desires.  Think back to the original Commission plan, which was incredibly centralised. We said then it wouldn’t fly with Germany and it hasn’t.
  • The structure is intergovernmental, has minimal pooling of funds, is built up overtime, excludes smaller banks, does not include direct bank recapitalisation from the ESM and has a large bail-in element. All key German demands. They have made a vague promise to have some sharing of funds in a decades time, the details of which need to be negotiated over and may be limited to an intergovernmental treaty.
  • If there are any losers, then it is likely to be France and the Mediterranean bloc. They were pushing for significantly more pooling of funds and a more centralised process. That said, France did previous publish a joint vision of the banking union with Germany, which is not a million miles from the current structure. The deal also allows them some more scope to use bailouts rather than bail-ins if needed – something else they were keen on. 
As we have noted recently, 2014 is likely to be another year where governments come to the fore in eurozone. 2012 and 2013 were the ECB's years, where its actions held the euro together. With the focus now on growth, more emphasis will fall on the governments of the eurozone to develop a new structure and strategy to put the bloc back on a sustainable footing and a path to prosperity. 


Anonymous said...

As I have commented before, this 'deal' is only positive in that it is better than what was in place before (which was nothing anyway).

So they may (or more-than-likely may not) have some funds in place between 2016 and 2025! Who is this going to kid?!

The markets will soon turn to the Eurozone again next year and show this to be yet another inadequate European fudge.

I wish that I could get paid as much as these EU officials do for producing and delivering absolutely nothing other than problems.

We are watching the slow death of the continent of Europe.


NK said...

> With the focus now on growth, more emphasis will fall on the governments of the eurozone to develop a new structure and strategy to put the bloc back on a sustainable footing and a path to prosperity.

The ECB "solved" the crisis and now it's back to those who created it.
Amazingly, the very same group of people knows the best how to develop a growth strategy. How lucky we are!

Rik said...

It is like the FTT a shot in the foot.

1. What it basically does is taxing (a levy) on Northern banks to pay for a future restructuring of the Southern banking sector.

In the South more than half the banks are not sufficiently capitalised and likely much more.
In no way it will be possible especially seen the procedure that has to be followed to close say 3/4 of the Spanish banks.
At the same time the stresstest 3.0 will never really show the capitalgap which is probably for the whole zone Tn.ish. You could close the Euro.

Simply meaning the Southern restructuring will be postponed and is completely underfunded anyway when it will surface.
So the North banks will be paying for the South banks.

Hard to see GS and likes voluntering to pay 0.8% annually for the privilege to have their executives taxed at 75% in Paris.

2. Anyway Draghi was completely right of course that this is garbage. If you want to wind down banks especially several in one country (it is either that or living for 1 probably 2 decades with a dysfunctional eg Spanish bankingsector), you need to do that with an as low as possible profile.
Basically a CB who forces undercapitalised banks to reduce their BS and/or merge, but behind closed doors.
You donot want this in the open.
Especially not when de facto the country involved remains largely liable and is overindebted (so crap as a guarantor).
The ECB has already lost 5 years now in which effectively nothing has happened re cleaning up the mess. See how long this can be kept in the closet?

Imho we will see a major correction within a year on the stockmarket and then hell will break loose, likely EZ crisis will start to play up again directly after that.
Just extrapolate the present trendline there in one year it will be out of every proportion. Simply completely completely unrealistic. And if things donot go up again in a heavily overpriced market it is tanking time. With SC: hard to see how this will hold the fort.

Rik said...

People especially in the UK will have to rethink thow they look at these sorts of negotiations.
Yes, seen from the starting points of both sides Germany and Co won. However the endresult is still more Europe and more costs for the Germans (only less than with a say 50/50 deal).

This is the way you get more and more Europe. New stuff negotiations with end result only say 50% of what was proposed is adopted.
But this simply means the from the starting point there is till more Europe.

In other words countries will have to learn to say: 'enough is enough', no way Jose, get lost and alike. Or the end result is permantly increasing Europe.

Same btw with the Judiciary. has to stop one way or another with their standard EUexpansionist ways. Looks less like a kangaroo court than now as well if they do.

Jesper said...

The bank-union as envisaged by some would share out the responsibility of dealing with bank-failures to all tax-payers in the EU - hundreds of millions of people.
Shared responsibility tend to lead to no accountability therefore it makes sense not to share responsibility for dealing with bank failures.
The bank-union as agreed will reduce the number of people who'd be roped in to pay for high paid bank executives incompetence/corruption.

The introduction of malus for senior executives and members of bank boards would lead to reduced risk-taking by same. Imagine that, people who ask for high pay for their massive responsibilities would actually be held accountable when they fail in their responsibilities.

Structural reforms needed? Introduce malus for bank executives and members of bank boards. Behavioural change can be had by carrot or stick. The carrot has been tried and we've seen the result, time to introduce the stick.

Anonymous said...


How about malus for politicians too? They are paid out of the public purse and should be even more directly accountable than bankers.

Top of my list would the EU politicians and officials who have turned an opportunity into a disaster.

Malus for one. Malus for all.


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