Don’t bank on an integrated Europe yet

Last week I mentioned that Jose Barroso’s proposal for an integrated banking union was unlikely to meet a tight deadline of January 2013 due to political hold-ups. It didn’t take long for that to become apparent:

Ministers were meeting in Cyprus to discuss the European Commission’s proposals for the European Central Bank (ECB) to be given the role of supervisor, with extensive powers to regulate banks.

The appointment of a single bank supervisor is a crucial step toward a wider European banking union, which could see the European bailout fund offer direct help to troubled banks. However, ministers disagree over the detail of the proposals.

German Finance Minister Wolfgang Schäuble said it would “not be possible” for the ECB to assume its new duties by the new year as planned.

The Commission proposals say all 6,000 banks in the eurozone should be monitored by the new supervisor but Germany has warned it will take time to create the “sizeable apparatus” to do so, and that the supervisor should begin by monitoring only the largest banks that pose the greatest risks.

Michel Barnier, the European internal market commissioner who designed the proposals, admitted the timetable was “tight and ambitious” but insisted it was “realistic” and “necessary”.

Necessary yes, realistic? Probably not. Making this issue worse is news overnight on what appears to be the official German position:

Lawmakers from Germany’s ruling coalition want the European Central Bank’s (ECB) planned new powers of cross-European bank supervision to apply only to systemically-relevant or cross- border institutions, according to a copy of their proposals.

Members of parliament from Chancellor Angela Merkel’s conservatives and their Free Democrat (FDP) allies also reject proposals for cross-border bank deposit insurance, which they want to remain the responsibility of individual states.

The proposals for discussion in the Bundestag (lower house of parliament) were laid out in a document obtained by Reuters on Wednesday and reflect Merkel’s own clearly-stated views on what supervisory powers the ECB should assume.

I’m not surprised by the hesitation of national parliaments to give up supervisor rights to the banking system but I don’t consider that to be the most important part of the banking union proposal. In my opinion the most important component is that of the supra-Eurozone banking insurer because it potentially mitigates one of the major issues the European periphery face today:

A total of 326 billion euros ($425 billion) was pulled from banks in Spain, Portugal, Ireland and Greece in the 12 months ended July 31, according to data compiled by Bloomberg. The plight of Irish and Greek lenders, which were bleeding cash in 2010, spread to Spain and Portugal last year.

The flight of deposits from the four countries coincides with an increase of about 300 billion euros at lenders in seven nations considered the core of the euro zone, including Germany and France, almost matching the outflow. That’s leading to a fragmentation of credit and a two-tiered banking system blocking economic recovery and blunting European Central Bank policy in the third year of a sovereign-debt crisis.

The erosion of deposits is forcing banks in those countries to pay more to retain them — as much as 5 percent in Greece. The higher funding costs are reflected in lending rates to companies and consumers. The average rate for new loans to non- financial corporations in July was above 7 percent in Greece, 6.5 percent in Spain and 6.2 percent in Italy, according to ECB data. It was 4 percent in Germany, France and the Netherlands.

And a further breakdown of the figures by Goldman Sachs highlights where the stresses are, remembering GDP has shrunk across the periphery since 2009:

With respect to the household deposits in the banking system in July 2009: These were 83% of GDP for Greece, 59% for Ireland, 49% for Italy, 69% for Portugal and 64% for Spain.

According to the latest available data, these numbers are now 61.7% for Greece (down 3.6 percentage points of GDP from January), 56.8% for Ireland (down only 0.3 percentage points from January), 51.3% for Italy (up 1.5 percentage points from January), 78.5% for Portugal (up 1.6 points from January) and 65.7% for Spain (down 0.3 percentage points since January).

With respect to the non-financial corporate deposits in July 2009: These were 15.4% of GDP for Greece, 23.9% for Ireland, 11.4% for Italy, 17.6% for Portugal and 19.3% for Spain.

The latest available data have these numbers at 8.5% of GDP for Greece (0.8 percentage points lower than January), 19.0% for Ireland (up 0.4 percentage points since January), 10.9% for Italy (up 0.9 percentage points from January),17.7% for Portugal (down 1.3% from January) and 16.5% for Spain (also down 1.3 percentage points since January).

I’ve discussed previously in terms of TARGET2 that the outflow of deposits from the periphery were causing additional stress on periphery banks because of the additional high rates they must pay to recoup lost reserves. In Greece banks have been increasingly using the ELA facility and these types of operations have been the major cause of TARGET2 claims and liability rises over recent years which is also causing undue political stress.

The whole point of having a supra-Eurozone backed insurer is that deposit holders in any participating country know that their savings are backed not just by their own national government, which may be struggling, but by all participating governments. In practice this should significantly reduce the outflow of deposits because, although probably not perfect, periphery banks will be seen as being considerably safer than they do today. Of course, as the article above says, deposits have been flowing towards the EZ’s stronger countries shoring up their banks so there is little incentive for France and German, especially, to support such a program.

But to be fair, German lawmakers aren’t the only ones with concerns about the new program. The head of the European Banking Authority thinks the proposal will create a two-tier banking system in Europe with rules applied differently in euro and non-euro countries:

Speaking to lawmakers in the European Parliament, Andrea Enria, the chairman of the European Banking Authority, warned that the union, forming a united front among euro zone countries to protect their lenders, risked seeing one set of rules applied to banks under the ECB’s watch and another to those outside.

“We risk a polarisation … between the euro area, with single rules and supervisory practices, and the rest of the (European) Union, which would operate with a still wide degree of national discretion in … applying the single rulebook.”

In his first public remarks since the announcement of the proposal, the Italian economist said that although banking union was something that “needs to be done now”, the challenge would be “finding the right glue to keep the single market together”.

His remarks reflect a concern shared by many countries that rules such as those on capital, that dictate how much banks must hold in reserve for losses, could be applied differently.

I have to admit, given the EBA’s dismal record on European banking stress tests, I’m not sure Mr Enria has the credibility to be discussing regulatory oversight, but that point aside it is obvious the banking union discussions have a long way to go. Expect to hear much more about it in the coming months.

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  1. Integration is destined to fail unless and until the living standards of the people in the likes of Greece, Portugal, etc., become comparable to those in Germany and northern Europe. How long can the taxpayers of, say, Germany keep paying to lift those in the periphery countries up? Realistically, it will be a committment of decades, not years. Given the complaints already coming out of these countries, I just don’t see this happen.

    • Is the living standard in Louisiana the same as it is in LA or NY? To expect the same standard everywhere is utopia.

      At least the Germans are still paying to the periphery.

  2. I might add, West Germany did just that to the old East Germany, so Germans do have some track record to show for. Still, it is difficult to envision the same for the whole continent.

    • exactly. ala they still call themselves Germans, Greeks, Italians, etc, not replaced by “Europeans”, it’s not gonna work.

  3. Just a heads up that the “free daily email” pop up notification is causing a bit of grief on smartphones. The website becomes shaded and you cannot click on any links until the notification is closed. However, it is perpetually out of screen (you can always just see the edge of it) so essentially you cannot use the website at all. Sorry, wasn’t sure where else to post about this. My phone is an android, a Samsung Galaxy S3, I’ve tried accessing the site multiple times but the same thing happens.

    • same here, but a Samsung Google Nexus S with Android 4.0.4.

      macrae23, expand the screen and hit the x and that kills it however. in the unexpanded screen it won’t minimise that’s all.