Restructuring the EU banking system

Transcription

1 Restructuring the EU banking system Memorandum 9 April 2013, Brussels

2 Arlene McCarthy Member of the European Parliament, rapporteur on reforming the structure of the EU banking sector The culture has not changed. We continue to see crises and scandals like Libor and misselling. We have not gotten away from banking bailouts. We have seen situations in the Netherlands in which a bank had to be bailed out very recently and we have seen the emergence of a banking crisis in Cyprus. Ms McCarthy is reluctant to take anything definitive from that crisis because the Cypriot case is a unique one. Nevertheless, a conclusion to be drawn is that banks are still too big to fail. The EU banking sector amounts to 375 per cent of the EU s GDP. So this is a very important sector. That is why we have to get it to function well and efficiently and have the necessary stability. Ms McCarthy sees the structural reform of the banking system as complementary to all other new regulations coming up. It is much more fundamental than simply changing the rules of operation. She believes that they are in a g r e e m e n t i n t h e E C O N committee on a number of core issues and that is that we have to make sure that in any reform we undertake a first line of protection that must be put in place to protect depositors and savers. There is nothing wrong with taking risks, that is what generates profits and returns, but excessive risk is not good and it has led to some of the problems in the recent crisis and the taxpayers are still paying for that. Another issue on which ECON members seem to agree is that it is wrong that depositors and savers should bear the cost for banks failing due to reckless activities. ECON members wish to put in place measures that prevent banks from being too big to fail. They also want to look at the long-term sustainability and health of the sector. Some members do not believe that there should be a

3 distortion in the banking sector, unlike in other industries where there is an implicit guarantee and funding subsidy. Of course they also want to reduce to probability of bank failures and the likelihood a n d c o s t o f g o v e r n m e n t interventions. One of the arguments used by the banking industry as to why we should not have a separation or ring-fencing between retail and investment activities is that the cost would be too high, but Ms McCarthy would say that those banks do not seem to have a problem with the cost taxpayers have to bear when things go wrong. One of the reasons why we need a structural reform is that we have a fundamental problem with public trust and confidence, which does not go away. What do we want our banking system to do? What structure do we need so that the banking system can do that? We want a more stable and competitive banking system that can contribute to growth. W e n e e d t o r e d u c e t h e interconnectivity between the risky elements of banks and the shadow banking system. Of course there are many questions. Do we need a separation or should we have a ring-fence? To we need a full separation or should we be banning certain activities? In any case, this will happen. We will get a proposal from the Commission and there will be a reform. What we now are seeing is that in the absence of such a reform, the individual member states are taking actions on their own. If the industry does not want help find a constructive approach, it is going to happen in any case. So the way to lobby is not to lobby against it. Mario Nava Directorate H Financial Institutions, DG MARKT, European Commission Mr Nava started by underlining what Ms McCarthy had said will happen, that there will be a

4 r e f o r m. H e g a v e t h r e e bureaucratic reasons showing how serious the Commission is about this. First, they have put together a high-level expert group, i.e. the one led by Erkki Liikanen. Second, they have set up a new unit, which always should be taken as an important sign. The third sign is that the European Parliament is putting forward an own-initiative report. The co-legislators have to prove the complementarity of this reform to all other measures being taken. T h e re a re t h re e t y p e s o f measures. First, there are prudential rules and regulations such as CRD IV. Second, a lot has been done in the area of supervision. Finally, there are resolution measures, where there is a proposal out on crisis management. However, as stated in the Liikanen report, the current reform agenda does not fully correct incentives for excessive risk taking, complexity and intragroup subsidies. Hence, we need to make sure that we create the right incentives for banks to go back to basic and start serving the real economy. The second point concerns financial stability and the probability and the cost of a default. Here, the new capital requirement rules do part of the job. However, the fact that there are intragroup subsidies and at the same time as there are basic banking activities with deposits and other riskier activities does not create the right incentives. There is a third reason which should not be underestimated, and that is that a number of countries both within and outside the EU have already taken actions towards a structural reform of the banking system. Most of the banks are international and hence it does not make sense to have several different national rules. Those jurisdictions that already have taken action have chosen different approaches. First of all, does one put the fence around the retail activities or does one put the fence around the investment activities? The second question is what type of fence we should use. Should we have a high fence, i.e. full separation? Or should we have a lower fence meaning just functional separation but not strict legal separation? Finally there is the issue of defining investment activities and trading.

5 Iain Cummings Partner, Financial Services, KPMG, UK Mr Cummings started with the first discussion point on the agenda: are the proposals in the Liikanen report the right way forward? If the aim is to make banks smaller, if the aim is to support ex-ante resolution measures and if the aim is to prevent banks from using guaranteed retail deposits to fund risky trading activities, then the answer probably has to be yes. It is by no means the only option, or indeed, the best. It is also one that has been tried at least twice in history before and subsequently there have been periods of stability. However, if we go down this route we have to accept all of the consequences. It is by no means a nirvana. In general, when Mr Cummings looks at banking organisations he supports the idea that diversification is in itself a risk mitigant. A separation will lead to narrower business models. Banks may be smaller by definition, but not necessarily less risky, neither individually, nor collectively. Furthermore, having separated them, we may actually encourage what is perceived to be low-risk businesses to take more risk. Another dynamic that we see within the financial sector is progressive localisation. Arguably there are moves to address this, because it fundamentally comes from a lack of cross-border resolution measures. This has led politicians and regulators to take action in order to protect their own reputation by dealing with what they actually can deal with within their own local system. Mr Cummings fears, however, that by moving trading businesses that are inherently more international away from the business perceived be more domestic, we have further incentive towards this dynamic. The 1930s trade wars it were driven by a failure to realise that what looks sensible on a country by country basis was not actually for a greater good.

6 Having said all of this, one of the most compelling arguments for Liikanen actually goes against localisation. We have proposals from the US, from the UK, from France and last week from Germany. Having different kinds of rules in different countries can only lead to huge inefficiencies. We need to have clarity about where the dividing lines are. Liikanen has the advantage of s e t t i n g c l a r i t y a c ro s s t h e marketplace within the EU about what the rules are. There should also be clarity about the definition and the application of those rules to ensure that we have a level playing field. Banks have realised that the culture that permeated them, and still does after the crisis, needs to change. Most financial services organisations that Mr Cummings talks with are going through that. C u l t u r e, h o w e v e r, i s n o t something you can change by a flick of a switch. We are talking about changing behaviours in very large organisation, which may take a decade. Mr Cummings does not believe that it is only investment banking culture that can pose problems here. Looking at some of the banks that got themselves into problems, retail distribution and sales culture without focus on risk was actually the issue. There is a need for enhanced risk governance in most organisations. It is a process that most financial services businesses are going through. This is included as one of the recommendations in the Liikanen report. We should not lose sight of this, regardless of whether we choose separation or not. Whatever the size and shape of banks, it is essential that it be clear to all stakeholders the risk that those organisations are taking. Poor governance and the tone from the top have contributed to all failures. As Citigroup s Chuck Prince said, as long as the music is playing, you ve got to get up and dance. We do however need to become better at understanding when the music might stop, and ensuring that, when it does, there are sufficient chairs for everybody.

7 Monique Goyens Director General, BEUC and Member of the European Commission's High-level Expert Group on reforming the structure of the EU banking sector Bank resolution rules are currently a priority for BEUC. Banks are the only example in which the clients, i.e. the depositors, have to pay when a company fails. The money in your bank account is your money and you are told that it should be safe there. It is not reasonable that you should lose y o u r m o n e y j u s t b e c a u s e someone has mismanaged risk. Depositors do not have any possibility to influence the bank s risk taking. We need consumer trust and we need depositor s money in order to invest. Therefore, how the Cyprus crisis has been handled sends out entirely wrong signals. Deposits are protected up to euros. Imagine that you just have sold your house and have just received the money on your account money that you plan to use to buy a new home. If the bank goes bankrupt at that m o m e n t y o u l o s e a l m o s t e v e r y t h i n g. T h i s e x a m p l e demonstrates that it is not only rich consumers who are affected. Therefore, if you wish to restore consumer trust and if you wish to prevent a bank run you need to send out better signals and you need to deliver a safer system. Structural separation is one of the tools that can be used in order to provide consumers and tax payers with a safer system. Over the years the banking system has grown too complex and too opaque. As a consumer organisation, BEUC welcomes the Liikanen report. We would even like to go further. The deposit-taking bank should only take very limited risk while the risk-taking bank may

8 take risks; there is no problem with that, but they will also be the ones to bear the risk. The risktaking bank should be allowed to fail. That is a consequence of the separation. The deposit-taking bank is the one that should be saved but as there are no risky activities there should not be any bailout needed. The risk-taking activities are the responsibility of those engaging in risk-taking, not the bank s client. T h e r e a r e fi v e s e t s o f recommendations in the Liikanen report but only two are about separation. Another issue is about risk governance. Remuneration and incentive schemes should be much more linked to the risktaking through for example d e f e r r e d b o n u s e s b a i l - i n instruments and clawbacks. There was also a recommendation regarding banks mortgage lending, which must be more r e s p o n s i b l e. T h e fi f t h recommendation also includes the issue of sanctions for excessive risk taking. Paul Chisnall Executive Director, BBA - British Bankers' Association Mr Chisnall has no in-principle objections to the own-initiative report because what it largely sets out is rather consistent with the Vickers ring-fencing approach in the UK. What usually happens when the EU is looking for a blueprint for a new regulation is that representatives around the European policy table usually find that for very good reasons they decide to support their own national approaches. Mr Chisnall does not necessarily advocate that Vickers should be mandated across the entire EU but it arguably makes it easier to sort out both the ring-fenced and non ring-fenced part of a bank in the event that they get into difficulty without taxpayers funded support.

9 It certainly insulates vital banking services on which SMEs and others are dependent and can be said to curtail the implicit government guarantee through which large too-big-too-fail organisations benefit from cheap funding. What Mr Chisnall is unsure about though, is whether ring fencing is necessarily appropriate as an EU-wide measure to be mandatory across all 27 member states. There is a q u e s t i o n w h e t h e r o t h e r s necessarily view the implicit guarantee in the same cultural way that they do in the UK. Mr Chisnall s doubt concerns both diagnosis and purpose. First of all in terms of diagnosis, the political debate in the UK which is taking place against the backdrop that we must protect ourselves against casino banking. Yet in the UK the financial crisis was not even about investment banking. The same is true for other EU member states where the root was not investment banking, it was bad retail and commercial banking decisions, principally real estate. Mr Chisnall is unaware of any evidence that the universal banking model contributed to the financial crisis. Certainly that was the view when the ECB looked at it back in Looking at structural separation in terms of purpose, the question is what does it give us that other measures if finalised and applied consistently across the EU will not give us. The answer to what was needed lies in measures already taken and in some of the measures that are on the way. T h e r e a r e n e w c a p i t a l requirements and strengthened supervision. Most important according to Mr Chisnall is the resolution regime, which is on the way. If we achieve all this, the question is whether a mandatory structural separation really adds a great deal. The Commission should consider whether the

10 perceived added benefit from a structural reform outweighs any n e g a t i v e o r u n i n t e n d e d consequences for long-term economic growth. If however, we do conclude that there is something to be gained from structural separation, then we should look at Vickers, but in the process learn from detailed discussions they have had in the UK on issues which have proven more complex than they first appeared. For instance, how do we make sure that ring-fenced banks can actually deliver what SMEs need in the support of their important exports? The US Volker rule on the other hand is not as easy to put in place as one first might think.