A European Regulatory Spring?

Not only is it actually getting warmer outside, spring also seems to be coming to the European regulatory landscape. Emmanuel Macron’s victory in the French presidential election, the imminent Brexit negotiations and the uplift in the single market’s economic outlook have lead to a thawing of regulatory thinking in policy circles.

Several issues are currently debated:

First, where will EBA relocate to? Will its mission change? Lena has already hinted at the changed supervisory tasks facing EBA now that its most important member UK is about to leave the Union. A (modest) review and consultation process is already underway. Location-wise, rumor has it that Frankfurt and Paris are the main contenders in this race. In the wake of Brexit, the European Commission is pondering whether (and how) to force euro clearing business to the continent.

Second, serious eurozone reform is on the table again (see Martin Sandbu’s terrific series of articles in the FT). The first German reaction can basically be summed up by last week’s ridiculous SPIEGEL cover: “Expensive friend”, apparently alluding to the political idea of Eurobonds, that is, a common financing of sovereign debt of eurozone member states. Macron, however, does not call for the mutualisation of already existing debt (although leaving open the possibility of future joint debt issuance).

Likewise, Brunnermeier et al. have presented their timely and prominently discussed concept for eurozone debt mutualisation by way of issuing “European Safe Bonds“. These, they hope, will break the vicious circle of bank-sovereign debt.

Third, and related to the previous, completion of the banking union will be brought back on the table. While the first two pillars of this political project – a common European banking supervision mechanism lead by the ECB (SSM) as well as a resolution mechanism (SRM) – are in place and working, the third one is still missing: a common deposit insurance system. Although in principle agreed on, its actual establishment is still up in the air. This is due to concerns of Northern member states to be liable for the failure of Southern banks and their deposits.

As is the case for all issues regarding risk-sharing, the essential question is one of control. How do we prevent that one party enjoys cheap access to capital while another is asked to pay up in case the first defaults (moral hazard)?

To begin with, Germans and other Northerners have good reasons to be more audacious here without being foolishly naive. Instead of focusing on the moral aspects of debt mutualisation (the latter happening anyway through the ECB’s balance sheet), the debate should be centered around means to achieve the necessary control of financial institutions and member states’ refinancing methods.

The establishment of the SSM already goes a long way in this respect. In this, the presumably independent and unbiased ECB is responsible for the supervision of systemically relevant banks in the eurozone. As a consequence, member states’ access to bank financing is already (at least partly) controlled from the European level.

The real value of Banking Union, however, will only show in either a crisis or – in the long term – in the absence of crises. There are some doubts to whether the ECB will live up to expectations: The handling of the situation surrounding Monte Dei Paschi and the prospect of “precautionary recapitalisation” seems far from optimal. Also, the European Court of Auditors finds that the actual supervisory work by the ECB in the SSM still relies heavily on national banking authorities, these possibly being biased towards their own banks and government interests. To some extent, this reliance is legally required: Art. 127 s. 6 TFEU only allows the conferral of “specific supervisory tasks” on the ECB.

What concerns control, one thing is equally surprising and promising: Merkron have signalled to be ready to change the European Treaties. Potentially, this means the EU can allow for even more substantial centralized control on the European level. Summer could become very exciting.


Lukas Koehler graduated from Oxford University (MJur) and is a PhD candidate at Bucerius Law School, Hamburg.

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