Is the European Banking Union approaching? Great idea – with great risks

By Paul J. Davies

Mergers and acquisitions of European banks are back! Or, at least, the conversation about their possibility returns. It is easy to be fooled: the top regulators in the banking industry are thirsty for the efficiency, profitability and best service that truly pan-European banks could offer.

Last week, Deutsche Bank CEO Christian Sewing told a Bloomberg conference that he wanted to lead European integration, although he also listed the many obstacles that need to be overcome before agreements can be reached. France’s BNP Paribas, meanwhile, has hinted to the Dutch government that it may be willing to remove ABN Amro from its hands, as revealed by Bloomberg News a few days earlier.

The big deals are so absent for so long that the authorities get to cheer on even the most “loose” couples who approach or discuss such. Looking forward to seeing something happen, we run the risk of forgetting to ask why or if such agreements are a good idea. Creating European champions would be good for banks, for their ability to compete with their US bonds, and potentially good for the European economy as a whole. But it could make things worse for some countries or wider regions, exacerbating the economic downturn.

The big obstacle

The European Central Bank and its supervisory arms have been pushing for a Banking Union since 2014 – a real single financial market. The biggest obstacle is the lack of a common deposit guarantee system at European level. There was hope for a milestone, but a meeting of finance ministers at the Eurogroup this month failed again, as the eurozone “19” were unable to agree on what Andrea Enria, the ECB’s chief banking officer, said last year. week called “holy grail”. The US has had a federal deposit guarantee program since the 1930s.

However, the European venture has come a long way in gaining some of the benefits of global regulators in the Basel Committee on Banking Supervision. This month, they finalized new rules for banks lending across national borders within Europe, allowing such loans to be treated more as domestic. This is not an important issue for almost anyone except BNP, one of the few banks with pan-European operations. The new rules mean that BNP itself becomes less systemically risky and thus its capital requirements will be lower.

Cross-border lending is a big part of what the European agreements and the Banking Union are meant to promote. It collapsed after the global financial crisis of 2008 and is still struggling to recover. The ECB wants more cross-border lending, because multinational banks will logically be less prone to domestic shocks. Competition and resilience in the European banking sector could be strengthened and large, “sophisticated” banks would bring better risk management to smaller markets.

Fragmentation

The impairment of expenses since 2008 has forced many European banks to focus on domestic lending and large exposure to their national government bonds. Many of these happened because the catastrophic loop that linked the fortunes of banks and their states during the 2011-2012 eurozone crisis revealed the allergic reaction that many countries have to the idea of ​​sharing financial risks within the monetary bloc. This has led to the fragmentation within Europe that the ECB is still struggling to resolve today.

The reluctance to share the risks is also why it is so difficult to set up a single deposit guarantee system. Real banking union can never happen until there are federal European bonds, taxation and spending. It does not have to be on par with the US, but a significant level of such measures would help.

Indeed, if the Holy Grail is to have American characteristics, this mission should be pursued with zeal. But it is not without risks. Free cross-border movement of funds and credit within Europe would benefit the Union as a whole, but would potentially worsen economic performance in some areas. This is the conclusion of a recent study on the US banking sector by academics at UCLA and the University of Chicago, published in the Anderson Review.

Deviation

Financial deregulation in the United States in the 1980s allowed lending across state borders and helped banks better cope with shocks associated with changes in economic growth or the productivity of large industries in various US states.

When risks and returns worsened in the states in which they were based, banks were free to look for better borrowers elsewhere. This may have helped create the Great Depression of non-inflationary growth with the few economic catastrophes that have prevailed in the United States – and beyond – since the 1990s, academics conclude. The finding here was that overall calm came at a cost of greater variation between the fortunes of different states.

“A stronger banking union could lead to a divergence of economic growth between member states,” academics for Europe said.

Cross-border banking agreements and greater risk-sharing in Europe make a lot of sense for the banks in this region. Most likely, however, there will be political costs (and) for achieving a Banking Union.