Europe’s Banking Union: ‘Game Changing’ ECB Oversight Starts November 4 (10/24)     Print Email

By James David Spellman, Principal, Strategic Communications LLC

Envisioned as a bulwark against another “systemic” banking crisis, the European Central Bank will become the Eurozone’s single banking supervisor on November 4.  This framework gives ECB wide-ranging powers, including direct supervision of the 120 largest banks in 18 countries that together hold most of the Eurozone banking assets.[1]

Driving implementation is the still-contested belief that the European Union is now better armed with clout and tools ─ working collectively ─ should another financial implosion topple newly erected safeguards.  

Fragmentation of banking regulation was seen as an obstruction to rapidly responding to the Euro crisis.  A single monetary policy for the EU was undermined by differences in credit access among member- states for identical borrowers.  And, perhaps most important for EU policymakers, “policy and financial interdependencies between individual member-states and the banks headquartered in them created a sharp correlation between their respective funding conditions, or a ‘doom loop,’ ” as explained by Nicolas Véron, a senior fellow at the think tank Bruegel.[2]    In deciding to move forward on banking union in 2012, the Euro Area Summit Statement began with its motivation:  “We affirm that it is imperative to break the vicious circle between banks and sovereigns.”[3]

Strengthening and deepening common regulation for banks across the Eurozone involves three components:  the single supervisory mechanism (SSM), oversight and regulation by a single rulebook for the Eurozone; a Single Resolution Mechanism (SRM), the tools, powers and authority to help banks shore up their finances (the “backstop”) so they can continue operating or be shut down; and a Common Deposit Guarantee Fund (CDGF), harmonizing national deposit schemes to protect account holders’ savings.[4]

This structure’s foundation was laid mid-year 2012 when the European Council called for an “integrated financial framework.”[5]    More detailed plans followed in December that year.  National regulators would cede their authority to the ECB for the most important banks.  The ECB would establish operations to replenish the capital of those banks near collapse, thereby averting panic among investors.[6]    Further, a new mechanism would help “resolve” failed institutions, injecting capital to sustain operations or both liquidating and distributing remaining assets while addressing liabilities.  “Since the original commitment in 2012, deadlines have slipped and resolve on some issues, for example the creation of a common deposit guarantee scheme for the Eurozone, has weakened,” as a Deloitte report observed.[7]



Source:  Deloitte, The Single Supervisory Mechanism.  October 2013.

Before the ECB assumes control, it will have completed its risk assessment of the banks it will oversee, releasing the results publicly on October 26.[8]    Critics have challenged recent ECB maneuvers to “fudge” the “Tier One” equity calculation, the pool of capital a bank would have available to weather a financial crisis.  Banks in Portugal, Italy, Spain, and Greece are allowed to convert “deferred tax assets,” essentially money that governments owe the banks in overpaid taxes, into capital.  A “pass” grade will be easier with these changes, critics say.

Until these results are available, other research indicates that “the countries with the highest levels of systemic risk are France and the UK.”  According to professors at New York University and Lausanne University, these countries account for “approximately 55% of the total exposure of European financial institutions” for the study period ending July 31.  Their research shows the “five riskiest institutions” to be Deutsche Bank, BNP Paribas, Barclays, Crédit Agricole, and Société Générale.  “Together, they bear almost 314 billion euros, i.e. 39% of the total expected shortfall in the case of a new financial crisis.”[9]  

spellman201410chart3 spellman201410chart4 

Source:  Robert Engle, Eric Jondeau, Michael Rockinger, “How vulnerable is Europe to another financial crisis?”  World Economic Forum blog, September 24, 2014.  Available at:  .

Cleared by the EU Council in mid-July, the SRM took effect in mid-August and will be applied January 1, 2016.  The SRM includes early resolution actions and instruments, including the “bail-in” of shareholders and creditors.  “If the institution is ‘failing or likely to fail’ (Article 32), four resolution tools are at the disposal of the resolution authority and may be applied individually or in any combination: the forced sale of business tool, the bridge institution tool, the asset separation tool and the bail-in tool.”[10]    The mechanism avoids recourse to public financial support, with the costs borne by shareholders and unsecured creditors.  

The €55 billion common-resolution fund (to be built up over eight years through levies on banks), outgoing Internal Market and Services Commissioner Michel Barnier says, is nearly completed, with the plan’s release likely before he leaves this month.  The initiative includes bank guarantees on deposits under €100,000.  

Small banks engaged in low-risk financial services have protested their shouldering the burden of large, high-risk banks.  Allowing banks to “net” out their positions in derivatives, using only outstanding balances, will mean they will pay less to the fund, another concern. "We will try to strike the right balance between the requirement for all banks to contribute to the funds, as we have always said, and the need to limit the administrative burden and financial burden for the smallest banks," Barnier told a EU Parliament committee.[11]

Balancing two roles – that of a regulator insisting on tough capital standards and that of a central bank pushing banks to lend more to stimulate economic growth – will perhaps be the ECB’s most difficult challenge.  Resolving differences among member-states is a close second.   The results will influence how deeply EU integration will go.

Single Supervisory Mechanism Structure


Source:  Deloitte, The Single Supervisory Mechanism.  October 2013.


[1]ECB press release announcing list of banks to be supervised.  September 4, 2014.  Available at: .
  [2]Nicolas Véron, “A Realistic Bridge towards European Banking Union.”  Breugel Policy Institute. Issue 2013/09   June 27, 2013.  Available at: .   Also, see:   Guido A. Ferrarini and Luigi Chiarella, “Common Banking Supervision in the Eurozone: Strengths and Weaknesses.”  August 1, 2013.  ECGI - Law Working Paper No. 223/2013.  Available at: .  “Our central thesis is that supervisory fragmentation is a cause of systemic risk, as cooperation amongst national authorities is bound to fail in crisis situations, while the absence of common resolution mechanisms and common deposit guarantee schemes aggravates the costs of a banking crisis and increases the chances of a bailout.”
  [3]Euro Area Summit Statement, June 29, 2012.  Available at: .
  [4]“The basic criteria for being considered significant are holding assets worth more than 30 billion euros ($41 billion), holding assets exceeding 20 percent of the gross domestic product of the home country, or being one of the three largest lenders in the participating member state.” Bloomberg.  Available at:  .
  [5]Council Regulation (EU) No 1024/2013 of 15 October 2013 conferring specific tasks on the European Central Bank concerning policies relating to the prudential supervision of credit institutions.   Available at: .
  [6]“Towards a Genuine Economic and Monetary Union.”  Report by the President of the European Council.  December 5, 2012.  Available at: .
  [7]Deloitte, The Single Supervisory Mechanism.  October 2013.  Available at: .
  [8]See: “ECB publishes Comprehensive Assessment Stress Test Manual.”  ECB Press Release.  August 8, 2014.  Available at: .
  [9]Robert Engle, Eric Jondeau, Michael Rockinger, “How vulnerable is Europe to another financial crisis?”  World Economic Forum blog, September 24, 2014.  Available at: .
  [10]Eubelius,“EU Bank Recovery and Resolution Directive.” September 2014.  
Available at: .
  [11]“MEPs insist banks should finance their own rescue fund,” Euractiv. September 23, 2014.  
Available at: .