The banking union is an important – indeed
indispensable – complement of Economic and Monetary
Union. However, like any major institutional reform, the
success of the banking union will rest upon its design, its
implementation and the transitional arrangements.
This is where a major cause for concern emerges.
While the Single Supervisory Mechanism (SSM), the banking
union's supervisory pillar, was successfully set up in record
time, the resolution pillar (SRM) is still unfinished and a
common deposit guarantee scheme remains a mirage.
Also, not enough attention has been paid to the path of
transition from where we are to a new steady state.
The legacy assets problem is a European systemic problem
that calls for a European approach. The high levels of
non-performing loans (NPLs) pose risks of cross-border
spill-overs, impair banks' profitability and jeopardise their
ability to support the economic recovery in the European Union.
Addressing the currently high stock of NPLs in a sustainable
and effective way is thus a prerequisite towards the deepening
of the Economic and Monetary Union.
In normal times, banks lacking sufficient capital would be
considering, and able to, raise it in the markets to cover the
losses associated with the carving out of NPLs and improve
their profitability and price-to-book ratio. In the current
context of low profitability, supervisory and regulatory
requirements for capital and other loss absorption instruments,
these banks will need a public backstop to do it. However, the
harsh conditions for any state intervention imposed by the Bank
Recovery and Resolution Directive (BRRD) and state aid rules
deter them from resorting to any public support in light of the
ensuing losses to be absorbed by the relevant stakeholders and
the restructuring commitments they would be subject to.
This status quo is an obstacle likely to generate
significant transfers of wealth with the destruction of
economic value that risks undermining investors and depositors'
trust, putting financial stability at risk. This is happening
at a time when financial stability is still mostly a national
responsibility, despite the much more limited ability for the
use of national tools to safeguard it.
All of this speaks in favour of carefully but urgently
fine-tuning the current EU regulatory framework together with
the setting up of a public backstop by the European Stability
Mechanism (ESM) to provide capital for banks' carving out of
NPLs under a temporary exemption from current BRRD and state
aid rules. Additionally, some complementary measures are highly
desirable to reward banks that are actively reducing their NPLs
stock, namely the immediate revision of their regulatory
capital through a swifter decrease in Pillar 2 requirements.
Moreover, in order to preserve economically viable firms,
adequate restructuring of their liabilities is needed and
access to fresh money should be facilitated. The channeling of
public funds (including those of the Juncker plan) in the form
of equity, quasi-equity and subordinated instruments should be
made possible in order to promote firms' capacity to attain a
sustainable financial position.
A subsequent step will necessarily be the completion of the
banking union by setting up a backstop for the Single
Resolution Fund and a European deposit insurance scheme.