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The most important signal sent by the unilateral legislation in France and Germany is the lack of political will to sort out the banking mess, which is at the heart of the eurozone crisis. Instead, governments are seeking refuge in symbolic gestures.
In the wake of the immediate crisis, the priority should have been the recapitalisation of the banks with public money, the closure and merger of weak banks, and to ensure that banks are not trying to adjust their balance sheets by running down loans to companies. This is what is happening in southern Europe now. My estimate is that the eurozone’s banking system is undercapitalised to the tune of €500 billion to €1 trillion. The problem is not only Spanish banks, but also German and French ones, which have been more skilful at hiding their losses. If the recovery turns out to be as shallow as I expect, these losses will show up not too long from now.
The priority now should be to end the continuing fragmentation. The ECB’s Outright Monetary Transactions programme was officially justified as an effort to unclog the eurozone’s transmission of monetary policy. After six months, we know that it brought down government bond yields, but did absolutely nothing to improve the transition mechanisms. Companies in northern Italy continue to suffer from higher interest rates on bank loans than their Austrian neighbours. Only a fully-fledged banking union could end such discrimination. But that would require common deposit insurance and effective bank resolution policies. Neither is going to happen.
The other priority should be to do what the Franco-German legislation purports to do, but on a grander scale: provide adequate insurance that banks do not bring down the economy and hold taxpayers at ransom. A combination of full separation of investment and commercial banking, bail-in rules, and transparency requirements would be a useful, yet possibly still incomplete, series of steps.
None of this is happening – and yet a lot of people have become more optimistic about the eurozone, in some cases even euphoric. Hardly a day passes by without someone declaring the end of the crisis. But its two most dangerous aspects are unresolved – zombie banks and macro-economic adjustment. OMT has actually contributed to making the banking crisis worse, by taking away the political pressure to create a genuine banking union. The pressure was clearly present in July last year, but had evaporated by September.
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