Chapter 3

Would a eurozone-based banking union be good for emerging Europe?

The analysis so far has two main implications. First, in order to give supervisors and resolution authorities the incentives to avoid banking system losses, supervision, resolution and fiscal responsibility should all be exercised at the same level of political authority and within a remit that is responsive to the interests of taxpayers. Second, to minimise the negative externalities and ensuing coordination failures identified in the previous section, institutional integration should approximate the actual level of financial integration as closely as possible. It follows that if it is not feasible to formulate a banking union for the pan-European financially integrated area – because there is no institutional structure at that level that could be held accountable, directly or indirectly, to taxpayer interests – then it should be defined at the EU level, where such structures already exist in the form of the European Parliament and European Council.

Most of the key proposals for a European banking union that have been put forward by researchers and policy organisations in the previous two years are consistent with this conclusion, as is the roadmap articulated by the European Commission on 12 September 2012.³⁷ However, the actual proposal presented by the Commission in response to the eurozone governments' June 2012 request is more limited. Although the proposed single supervisory mechanism would be open to EU members outside the eurozone, they would not benefit from the possibility of direct bank recapitalisation by the ESM.³⁸ Furthermore, while the proposal would give the ECB responsibility for all banking supervision (including early intervention), bank resolution would for now remain at the national level, although within a common EU bank framework.

This scenario falls short of an ideal banking union in several respects. First, coordination problems in bank resolution will likely continue, even among eurozone members. Second, by leaving some financially integrated European countries out of the arrangement, coordination problems between the banking union authorities and the "outs" will also persist. Third, the lack of congruence between the three layers of the banking union – supervision, resolution and ultimate fiscal responsibility – could create an incentive problem. In particular, maintaining resolution authority at the national level while raising ultimate fiscal responsibility to the supranational level could be a source of moral hazard, as a national resolution authority may not be as robust in, for example, imposing losses on creditors of failing banks as they would be if fiscal losses were borne at the national level. Furthermore, the proposed system does not give the supervisory authority a fiscal incentive, even indirectly. Although these are not insurmountable difficulties, they create significant challenges and may be one of the reasons why the banking union proposal has not met with universal support in Europe.

The remainder of this chapter examines ideas that could improve the design of the current proposal within the basic framework proposed – in particular, maintaining the assumption that there will not be a common European resolution and deposit insurance authority in the foreseeable future for political and practical reasons.³⁹ Particular attention is paid to the perspective of emerging European countries, which tend to be host countries of eurozone-based multinational banks. The discussion focuses first on how the proposed banking union could be made more attractive for these countries and then explores options for extending the umbrella of the banking union – either wholly or partly – to host countries of eurozone banks that either could not or would not want to be part of the single supervisory mechanism under the current plan.

³⁷ European Commission (2012); see in particular section 3.2. Related proposals or discussions of proposals include Allen et al. (2011), Fonteyne et al. (2010), Schoenmaker and Gros (2012) and Pisany-Ferry et al. (2012).

³⁸ Article 6 of the proposed regulation would allow EU countries outside the eurozone to enter into "close supervisory cooperation" with the ECB, giving the ECB the same supervisory powers in these countries as within the eurozone. In return, there would be some form of participation of these non-eurozone countries in the ECB's decision-making structure with respect to supervision.

³⁹ As of October 2012, the debate on a eurozone-based banking union was very much in flux. The discussions that follow use the European Commission's September 2012 proposal as a benchmark for discussion, but the observations and suggestions that follow would also apply to other variants being proposed, so long as the banking union remains focused on the eurozone and does not encompass a resolution authority.