28 November 2016

ECB's Praet: The importance of a genuine banking union for monetary policy

The main point Peter Praet made during his speech at the EMU Forum 2016 is that we need a more integrated banking sector in the euro area to achieve greater macroeconomic stability.

Completing the banking union

It would be unfair not to acknowledge the progress that we have made towards the banking union. My main point is that we have to be more ambitious. Completing the union is not a long-term project. If the aim is to foster cross-border integration of banks, finalising the union has to be done within a timeframe that banks can work with when they make their strategic decisions on how to adjust their business models.

In the political debate, completing the banking union is sometimes framed in terms of a trade-off between risk sharing and risk reduction. In the banking sector, however, risk sharing and risk reduction are often closely linked. A lack of risk sharing can trigger panic and contagion, which has in the past led to the establishment of fiscal backstops and deposit insurance arrangements. Well- functioning risk-sharing arrangements are based on controlling the degree of risk in the banking system. I believe both routes need to be followed and to move forward in parallel – and they need to be pursued ambitiously. I am convinced that leaving the banking union unfinished would be the opposite of risk reduction.

A European Deposit Insurance Scheme would enhance overall depositor confidence by protecting deposits in a uniform manner wherever they are in the EU. It would thus reduce the probability of depositor payouts or the probability of resorting to other risk-sharing mechanisms, such as the European Stability Mechanism. This is the very foundation of insurance: by pooling resources and risks across a larger and more diverse group, the overall shock-absorbing capacity of the system increases. In this sense, risk sharing turns into risk reduction. Take another example: tackling legacy issues by cleaning up banks’ balance sheets will increase trust between banks and facilitate cross-border lending, possibly even cross-border mergers, thereby fostering private risk sharing, independently of the discussion on how to progress with public risk sharing.

On the risk-reduction side, we still have important elements of the international regulatory agenda to implement in the EU, including the binding leverage ratio requirement, the net stable funding ratio or the Financial Stability Board’s total loss-absorbing capacity. With this in mind, I am looking forward to the discussions on the risk-reduction package that the Commission adopted very recently.

Completing the banking union requires a comprehensive approach: a symmetric institutional architecture, where liability and control are aligned, harmonisation of the rules, strengthening of the regulatory framework where needed to control the escalation of risks, and also a certain level of public risk sharing to underpin confidence in the area-wide financial system. The Single Resolution Fund was created in 2016, with national compartments and a mutualised compartment available to fund capital and liquidity needs. Currently, the backstop for national compartments consists of national credit lines. Looking ahead, it will be essential to establish a common fiscal backstop in the Single Resolution Mechanism to ensure that the SRF has sufficient resources to support any necessary resolution measures.

Conclusion

15 years ago the topic of this conference was the Single Financial Market – and by the way, the keynote speaker back then was Wim Duisenberg. As he noted, “The gradual dismantling of regulatory obstacles to remaining market integration in Europe will contribute to enhancing its depth and efficiency, in turn contributing to an improved allocation of funds to the most profitable investment opportunities, and thus supporting economic growth.” This vision is still relevant today. But to take it forward, it is crucial to be more ambitious and thus to ensure a better balance between risk reduction through implementation of the regulatory agenda and supervisory priorities, and risk sharing through the establishment of a common fiscal backstop in the banking union.

Full speech

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