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Completing Europe's banking union is the dominant task facing the European Commission in the financial services area for the next five years. In the short term, the Commission should affirm its leadership by pushing for the creation of a credible EU anti–money laundering supervisory agency.
The time is right because Valdis Dombrovskis, a former prime minister of Latvia, will ascend in November as the commission's executive vice president, with a designated portfolio that includes creating "an economy that works for people." That portfolio covers many issues, including economic and monetary affairs and trade, jobs, and cohesion policies. But the Commission's allocation of supporting services gives him direct and sole authority over the DG FISMA (the Commission's Directorate-General for Financial Services, Financial Services and Capital Markets Union), and his mission letter from President-elect Ursula von der Leyen confirms that this area has special status within his portfolio.
As a my recent memo for a Bruegel series makes clear, the unfinished banking union dominates the reform agenda. Von der Leyen highlights it both in her political guidelines and in Dombrovskis's mission letter. Dombrovskis should not aim at upgrading the current halfway house of banking union to an incrementally better halfway house but at genuinely finishing the job—i.e. breaking the notorious vicious circle between banks and sovereigns, identified correctly by policymakers as the true engine of the euro crisis in 2011–12.
Breaking this cycle is a difficult task that will require dedication: If it is not granted clear priority, it will fail. Fortunately, it is far from impossible. Completing the banking union (which entails only decorrelating banking credit from sovereign credit, rather than eliminating all structural differences among member states in terms of banking services) can be achieving without treaty change and without any major steps towards fiscal union.
In comparison, the "capital markets union" is a valuable vision, but it should not be a diversion from the main task of banking union. A true capital markets union can only be viewed as a very long-term project and is also dependent on completing the banking union.
An exception to this order of priorities, however, could and should be made for the fight against money laundering, given the issue's recent salience and its resonance with von der Leyen's ambition of a "geopolitical Commission." This makes a strong case for an early initiative. Members of the European Parliament might ask Dombrovskis the following questions during his forthcoming hearing:
1. Will you create a credible EU Anti–Money Laundering (AML) supervisory capability?
The current AML supervisory system in the EU is failing for structural reasons, as the Commission's own analysis has compellingly established. This is not the time for another incremental tweak of the existing system, as was done a year ago, but for a structural solution. The priority is the architecture for AML supervision, namely making sure that banks and other obliged entities have the right systems in place and operate them properly. The creation of a European AML Supervisory Authority is the simplest and most compelling answer to this challenge and should be undertaken without delay.
2. What is your strategy to complete the banking union?
Even though the Juncker Commission has not achieved major legislative steps towards a more complete banking union, there has been progress in the past five years. The initial banking union package of the Single Supervisory Mechanism (SSM) and Single Resolution Mechanism (SRM) have entered into force, with early successes and failures that help better identify the missing bits. There has also been a lot of debate that has brought further analytical clarity. The agenda can thus be distilled around three sub-questions:
2.1 How will you address the challenge of concentrated sovereign exposures?
The home bias in banks' sovereign exposures is well-known, but in recent years there has been a reluctance to tackle the problem head-on as the euro-area-specific challenge that it is. If governments can still persuade "domestic" banks to grant them preferential credit, there can be no political consensus on further euro-area-wide risk-sharing. To lift this roadblock, the Commission may consider introducing sovereign concentration charges. By specifically targeting sovereign concentration risk, these charges would address the bank-sovereign vicious circle while avoiding the difficulties associated with an explicit regulatory recognition of sovereign credit risk, an issue that unlike the home bias is not specific to the euro area.
2.2 How will you build a credible European-level safety net, so that national public guarantees on banks can be effectively dismantled?
One lesson of the Great Financial Crisis is that a public safety net for the banking system is vital. The safety net should be kept to the minimum necessary and set the right incentives. It needs to exist at the European (essentially, euro-area) level in order to complete the banking union. That entails having not only a genuine European Deposit Insurance Scheme—i.e. one that does not make insuring deposits up to €100,000 conditional on national decisions—but also instruments to manage systemic crises, such as liquidity guarantees for sound banks. Correspondingly, the regime for nonviable banks, which includes the resolution framework but also national bank insolvency proceedings and the state aid control regime, must be reformed holistically to become more consistent and predictable.
2.3 How does the reformed framework remove the current disincentives against cross-border banking integration?
The persistence of a national mandate for deposit insurance and bank crisis management is the key regulatory block to banks adopting a seamless banking-union-wide management of their capital and liquidity.
3. Will you reform the governance and funding of ESMA?
The European Securities and Markets Authority (ESMA) could catalyze a capital markets union, but it was not initially designed to directly supervise financial markets and entities such as financial infrastructures, a role it is playing increasingly and should play even more in the future. Building on the experiences of the SSM and SRM, its governance and funding must be comprehensively reformed, so that it becomes a genuinely independent agency overseeing Europe's capital markets. By contrast, reforming its sister agencies the EBA (European Banking Authority) and EIOPA (European Insurance and Occupational Pensions Authority) is less urgent.
4. Will you honor the EU's commitments to global financial standards?
In line with the vision of the "geopolitical commission," the EU should bolster its leadership as the "guardian of multilateralism," again quoting von der Leyen. It should fully adopt the Basel Accord on banking regulation, including its latest developments, and phase out the remaining "carve-outs" from its adoption of International Financial Reporting Standards. It should also streamline its representation in international bodies such as the Financial Stability Board and the Basel Committee, reflecting the institutional changes generated by the pooling of bank supervisory policymaking within the SSM.
