Friday 22. October 2021
#151 - July-August 2012


Managing banks that cannot manage themselves


The European Commission seeks to limit the impact of banking crises and to coordinate governmental regulation.


The term ‘banking union’ is so far unofficial. The measure unveiled by Commissioner Barnier, on June 6th bore the more cumbersome title ‘Proposal for a Directive establishing a framework for the recovery and resolution of credit institutions and investment firms’. It is seen as a preliminary step towards a possible later banking union. The full technical proposal is of 246 abstruse pages, but this executive summary achieves a force and lucidity unusual in a bureaucratic instrument.


Banks have recently fallen into in serious trouble in (at least) the USA, the UK, Ireland, Greece, Iceland, Portugal, Spain, Italy and Belgium: in other countries, banks are at risk through heavy exposure to one another’s debts (as, for example, French banks in Greece)


The Commission document is forthright. Even though some sort of financial crisis has occurred just about every decade since the early nineteenth century, the crisis of 2008-09 showed that ‘neither authorities nor banks were suitably prepared. Contingency planning for scenarios of financial distress was insufficient. Since the failure of large, interdependent banks could have caused significant systemic damage, authorities were left with no choice but to use taxpayers’ money to rescue them. In other words, several banks, prestigious pillars of the immense finance sector, were either technically incompetent or morally rash - or, of course, both. As for regulation, ‘Although the banking sector is highly integrated within the EU, systems to deal with bank crises remain nationally based and insufficient to deal with cross-border institutions in difficulty.’ The enduring fetish of national sovereignty disallows regulatory regimes capable of controlling interconnected globally active institutions.


The proposed crisis management framework at EU level is intended ‘to further enable financial stability, reduce moral hazard, protect depositors and critical banking services and save taxpayers money’. To this end three types of measures are proposed: more centralisation, more mutual supervision, and, where necessary, more mutualisation of debts. It is the combination of these three that could later define a ‘banking union’.


The provocative word ‘centralisation’ is avoided. The Commission text notes, however, that the principle of subsidiarity is here limited because ‘only EU action can ensure that, in times of crisis, credit institutions are subject to coherent intervention that ensures a level playing field and promotes further integration within the Internal Market’. The EU will set a minimum framework. National regulators may choose to take additional steps to protect themselves.


Mutual supervision’ is an anodyne phrase, since it does not necessarily entail the right to intervene. In this case ‘resolution authorities’ may ‘require changes to banks’ operational and business structures and to limit the banks’ exposure and activities and ‘to force banks to operate more prudently’: for example by ‘requiring divestment of certain activities’. Bank shareholders are to become the primary risk-bearers, as they have first claim on profits.


Mutualisation of debts’ is given a specific and limited interpretation. It will be voluntary, and will apply only to institutions within the same group, ‘to stop the financial problems of parts of a group becoming too serious’.


The present banking paralysis is caused largely by ‘risk aversion’ - that they do not trust each other’s soundness. That being so, it is unsurprising that they enjoy even less trust from the public. These measures are intended to forcibly reduce risk and therefore to rebuild trust. They presuppose an important trade-off between ‘free enterprise’ and the public good. But the crisis has shown that public good requires the close control of those ‘free enterprises’ that rely on public rescue when things go wrong since they are too strategic, ‘too big to fail’.


The proposal has been examined at the June summit of the European Council. It is not yet a ‘banking union’: it aspires at least to be something no less revolutionary: a ‘bank regulators’ union’.


Frank Turner SJ


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