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After a 16-hour marathon negotiating session ending on 20 March, politicians, technocrats, and journalists were all keen to declare the deal on the final piece of Europe’s Banking Union a success. But appearances are deceptive. While the "Banking Union" may soon exist on paper, in practice the eurozone banking system is likely to remain fragmented along national lines and divided between a northern "core", where governments continue to stand behind local banks, and a southern "periphery", where governments have run out of money.
Back in June 2012, Spain’s busted banks threatened to drag down the Spanish state, as Ireland’s had done to the Irish state 18 months earlier, while panic tore through the eurozone. European Union leaders resolved to break the link between weak banks and cash-strapped governments. A European Banking Union would move responsibility for dealing with bank failures to the eurozone level. But, a month later, the European Central Bank finally intervened to quell the panic. That saved the euro, but it also relieved the pressure on Germany to cede control of its oft-distressed banks. Since then, the German government has used its clout to eviscerate the proposed Banking Union; all that remains is a shell to keep up appearances.
For starters, it will not apply to the huge losses incurred during the current crisis. The ECB will directly supervise bigger eurozone banks starting in November (the first step of the Banking Union), and now it is assessing the strength of their balance sheets. If this exercise is conducted properly – a big if – undercapitalised banks that are viable would be forced to raise additional equity, from bondholders if necessary, while unviable ones would be wound down.
But EU rules on national bank resolution will not yet be in force, while the eurozone’s single resolution mechanism will be initiated only in 2015. So banks in northern Europe that are still backed by creditworthy governments would be treated differently than those in cash-strapped southern Europe: Germany can afford to bail out its banks; Italy cannot.
One argument for making the ECB the watchdog for eurozone banks was that it was less captured by the banks than national supervisors were. But its behavior throughout the crisis suggests otherwise. It has repeatedly prioritised the interests of banks in “core” countries and proved more pliable to political pressure from Berlin and Paris than from Madrid or Rome, let alone Dublin or Athens.
Even after the new Banking Union framework is fully in place, it will be full of holes. At Germany’s insistence, the ECB will supervise only the eurozone’s 130 or so biggest banks. That will leave the smaller Landesbanken (state-owned regional banks), many of which made spectacularly bad lending decisions in the bubble years, and Sparkassen (smaller savings banks) in the hands of local politicians and Germany’s pliable financial supervisor. The argument that smaller lenders are not a systemic threat is spurious: consider Spain’s cajas. In any case, there will not be a level playing field.
Above all, the single resolution mechanism is a mirage, because national governments retain a veto over closing down any bank. The mechanism is deliberately complex to the point of being unworkable; it is inconceivable that a bank could be wound down over a weekend to avert market panic. And the collective funds that eventually will be at its disposal are meager: a mere €55 billion.
In practice, then, rescuing banks will remain in the hands of national governments, all of which are captured by “their” banks but whose capacity to bail them out varies.