Plans for a European banking union may address a perceived missing pillar of monetary union, but they are a very long-term project that threaten to cut across other measures to stabilise the system.

What is happening?

In September 2012, the European Commission proposed giving powers to the European Central Bank (ECB) to act as a single banking supervisor for the eurozone. This is the first step to a full banking union that would also include a single European rulebook drafted by the European Banking Authority (EBA), a European resolution authority and a harmonised deposit guarantee scheme.

In October, the European Council requested that the commission produce a 'roadmap' in time for its next meeting in December 2012, with a view to agreeing a legislative framework for banking union by the start of 2013.

Right bank for the job?

The ECB would be one of many central banks to carry out bank supervision, including the US Federal Reserve. And banking union would respond to the recommendations made by Alexandre Lamfalussy's review a decade ago that urged closer eurozone institutional co-operation, says Gertrude Tumpel-Gugerell. A member of the ECB executive board until 2011, she believes banking union is essential to supervise banks that are too large for their national governments to bail out.

“Experience shows that all regulatory and supervisory forces must be better grouped to overcome a crisis. It will be a challenge for the institution, which must extend its skills and resources. The ECB already has information on its bank counterparties for their access to liquidity facilities, and is already involved in discussions on bank restructuring at a national level, on regulation at the G-20 and on financial stability at the International Monetary Fund,” she says.

What does the market say?

Eurozone banks understandably hope that the banking union can help knock the region’s persistent financial crisis on the head. It should also make matters easier for large cross-border banking groups that currently have to navigate between multiple eurozone supervisors.

“I personally believe that the project of banking union should remove the link between sovereign and banking sector risks and make supervision more credible. The supervision of all banks by the ECB makes sense in the long term, and will transform the financial landscape in Europe for the better,” says Frédéric Janbon, a member of the group executive committee at the largest eurozone bank, BNP Paribas.

However, there is also the risk of confusion from the sheer volume of sometimes conflicting EU legislative initiatives. The single supervisor proposal states that the ECB should carry out “early intervention where a credit institution does not meet or is likely to breach the applicable prudential requirements”. But this seems to cut across the Crisis Management Directive, which the commission just published in June 2012.

“The single supervisor proposal seems to blur the distinction between early intervention under banks’ recovery plans and the triggers for exercising resolution powers. The proposal also blurs the line between the roles of supervisory and resolution authorities, which the commission had stated should be separate to avoid conflicts of interest,” says James Modrall, a partner in EU law at Cleary Gottlieb in Brussels.

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Who’s in, who’s out?

Perhaps the thorniest question will be the relationship between the ECB, as single eurozone supervisor, and the authorities in the 10 EU countries that are still outside monetary union – the UK in particular. At present, rule-making proposals at the EBA must be agreed unanimously among the 27 EU members. But this creates complications if the banking union constitutes a voting bloc of 17 or more countries, says Graham Bishop, a consultant on EU financial legislation and former adviser to the European Commission.

“The commission may well make concessions to the 'euro-outs' on the finer points of the relationship between the ECB and national supervisors to entice as many non-euro countries as possible to join up. But it is inconceivable that the current UK government would join a banking union, which could give the UK effectively an individual veto in the EBA unless voting rights are changed,” he says.

Will it happen?

No one believes that the ECB will assume full, single supervision in early 2013, although it may be given authority over systemically important institutions sometime next year. Barbara Matthews, an independent regulatory consultant who was previously US treasury attaché to the EU, is sceptical about whether the ECB will ever receive significant powers.

“It is difficult to imagine Germany allowing the ECB to take major decisions on the future of the landesbanken or sparkassen. One of the compromises being floated is that the ECB will delegate authority back to national supervisors, so the day-to-day supervision will still occur at a national level, even if the flow of authority has been reversed,” she says.

Mr Bishop says the banking union concept is a relatively small step if seen in the context of draft proposals for closer fiscal and political union. But full discussion of a new treaty to enable that is unlikely to take place until 2015. A solution to the euro crisis will not wait until then. 

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