by Don Alexander, MBA
Associate, RSD Solutions Inc.
There is increasing agreement between policymakers and academics that a banking union, along with some form of fiscal union, is necessary if Europe is to emerge from the crisis and stabilize. Currently, politicians tend to focus on a short-term fix and avoid making hard decisions. Nicholas Veron, addresses some of these issues in a recent VOXEU communique dated May 23rd, Is Europe ready for a banking union?
As the global financial system has become more complex, concentrated and interconnected, Europe’s vulnerability to systemic risk has increased. The fragility of the European banking system was revealed in the subprime/Lehman shock of 2007-2008 and has never been properly addressed since then – despite several stress tests.
Policymakers now agree a banking union (federal framework) is required in order to break the feedback loop between sovereigns and banks, essentially through risk sharing across borders in the banking system. The monetary union needs to be supported by stronger financial integration in the form of unified supervision, a single bank resolution authority with a common backstop and a single deposit insurance fund.
Policymakers now agree that a banking union, together with a fiscal union, is a necessary condition for a sustainable Eurozone monetary union and a resolution of the current crisis. The action taken to date is modest. Veron notes there are certain impediments to banking integration:
1. the UK, Europe’s largest financial hub, is a non-euro member and resists encroachment on supervisory authority
2. a number of euro-member states continue to resist any encroachment on local banks closely linked to local politicians
3. EU member states continue to resist risk-sharing agreements or cross-border transfers. These constraints prevent Europe from a first step toward establishing a consistent architecture for its banking union.
Certain reforms should be urgent priorities:
1. banks must share risks as widely as possible
2. Europe also needs the ability to restructure banks without national politicians or regulators
3. A cross-national guarantee is needed for national deposit insurance systems to prevent a retail bank run.
European-level supervisory structures should eventually be established to prevent moral hazard.
European authorities would like to have time to fine-tune complex legal and financial issues to combine with different pieces into a consistent banking policy framework. However, the current moment calls for less fine-tuning and more swift and bold action to contain systemic risk.
What is your exposure to European banks?
For more on this, follow the link: www.voxeu.org/index.php?q=node/8027
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