28 June 2012

CNBC Analysis: EBA bank watchdog faces own stress test from euro crisis

This time last year the European Banking Authority was fighting a losing battle with Germany's financial regulator, just seven months after it started work as the EU's new supranational watchdog. A year later and the EBA's very survival is in question.

A year later and the EBA's very survival is in question, as the eurozone's leaders debate whether nothing short of a banking union will break the death spiral that links the weak euro debtor nations with the banks whose debt they hold. At the heart of the debate lies the issue of how far will national governments, whose supervisors sit on the EBA, give up regulatory sovereignty to centralised EU decision-making.

A union would need a single banking regulator. But the EBA, made up of supervisors and central bankers from all 27 EU States, has shown in its short life that it lacks the power to be effective in that role without changes.

Losing the backing of Europe's strongest country showed the difficulties the EBA has faced, and now the European Central Bank (ECB) is being promoted by Germany and France as the possible main regulator for banks in the 17-country eurozone, if not the wider EU. But the European Commission is lobbying to get a separate body for the role, such as a beefed-up EBA. The ECB could provide a clear link between supervision and monetary policy, while the EBA could focus on rulemaking in the wider single market, [ECON chair Sharon Bowles] said.

The first steps to forging a banking union would be to integrate supervision, consolidate the power to intervene in banks to safeguard investors and create a single Europe-wide deposit guarantee.

The ECB is seen as having a head start in the race to become the main banking regulator since it has the firepower to step in as a lender of last resort. It has already lent €1 trillion in cheap three-year loans to help banks through a funding drought. The ECB would be turned into Europe's equivalent of the powerful Federal Reserve, in charge of monetary policy, banking supervision and payments systems. That would leave the EBA with a narrower focus on routine supervisory tasks and updating technical standards.

This sharing of roles would not be new and is known as a "twin peaks" system such as the one being introduced in Britain where the Bank of England will become the main regulator from next year while a junior body will supervise the conduct of the nation's banks.

Whether the ECB or a beefed-up EBA, it would need more power to stand up to member governments, who in the original stress test refused to entertain the idea that banks' sovereign debt holdings might be at risk, arguing that a Member State could not default.

But ultimately the EBA's future will be determined by how far and how fast politicians can push ahead with moves to get a banking, or even fiscal union in the eurozone.

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