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The rapid collapses of Silicon Valley Bank (SVB) and Signature Bank in the United States and Credit Suisse in Switzerland have reawakened debates on banking policy in the European Union (EU). But the absence of financial turmoil in the EU similar to what happened in the United States means that political obstacles will prevent completion any time soon of the banking union project that remains the EU’s foremost banking policy challenge. By contrast, the US banking mess could lead EU policymakers to adopt capital requirements that bring them closer to the international standards known as “Basel III Endgame” than they have been willing to consider so far.
The episode of financial volatility in the United States appears to be over for now, but the discussions about policy responses have barely started. In the United States, reports are expected from both the Federal Reserve and Federal Deposit Insurance Corporation (FDIC) on May 1. In Switzerland, the unorthodox engineering of Credit Suisse’s takeover by UBS has generated lawsuits and investigations.
In the European Union, as in the United Kingdom, there have been no visible signs of banking sector weakness. Since more than nine-tenths of EU banking assets are in the euro area under supervision led by the European Central Bank (ECB), that counts as an ostensible success for the single supervisory mechanism that is the main finished piece of the banking union project. As emphasized by ECB Supervisory Board Chair Andrea Enria, European supervisors have been focused on both interest rate risk and business model risk in recent years, two areas at the core of the SVB and Credit Suisse disasters. This attentiveness stands in sharp contrast to the pre-2012 period when banking supervisors in the EU looked unable to get anything right.
Meanwhile, the banking union remains incomplete. Its two key stumbling blocks are a European deposit insurance scheme (EDIS), for which the Commission’s ill-fated proposal of 2015 has been left unadopted, and the regulatory treatment of banks’ sovereign exposures (RTSE), which has been negotiated in parallel, outside of public view and also without concrete results. On June 16, 2022, an acrimonious meeting of euro area finance ministers in the Eurogroup format acknowledged the impasse and asked the European Commission to make proposals on a more limited reform agenda of crisis management and deposit insurance (CMDI). By this, ministers correctly recognized that the EU framework for the handling of unviable banks, which they had enshrined in 2014 in the bank recovery and resolution directive (BRRD), had not worked as intended.
This policy area is hard to grasp, and not only because of its unseemly proliferation of four-letter acronyms. In simplistic terms, the essence of the CMDI project is to move closer to the system that has been in place in the United States for decades, in which the FDIC is the single authority for both deposit insurance and the resolution of failing banks. In that system, all deposits, insured or not, have equal and preferred status to the failing bank’s other liabilities, a feature known as general depositor preference, which creates useful incentives for the FDIC to finance takeovers of failing banks by sounder peers that protect all depositors from losses in most cases. A degree of market discipline is nevertheless preserved, since uninsured depositors have incurred losses in a minority of bank failure cases in recent decades.
The irony is that US authorities may well have permanently departed from this model by invoking a systemic risk exception and extending an unlimited guarantee to all depositors of SVB and Signature Bank at precisely the time when the EU considers adopting it.
The European Commission had planned to publish its CMDI proposal on March 8, before its president delayed it. The run on SVB started the next day, and the systemic risk exception was triggered on March 12. The Commission eventually published the CMDI package on April 18. Moving towards a US-inspired system with general depositor preference, as that proposal suggests, still makes sense for the EU. But as suggested by John Berrigan, a senior Commission official, in a public conference a week after the June 2022 Eurogroup fiasco, it may be impossible without simultaneously completing the banking union, because the continued reliance on national deposit guarantee arrangements defeats the purpose of a single Europe-wide framework. In any case, time is short to wrap up CMDI before the end of the current EU legislative cycle in about a year’s time, especially as several member states appear unhappy with it. The CMDI proposal will likely end up being useful as a basis for public debate rather than actual legislation.
All is not deadlocked, however. Another legislative “banking package,” which transposes into EU law the international accord known as Basel III Endgame, was proposed in October 2021 and its adoption is expected before end-2023. The current, non-final version is not compliant with the Basel III template. Because SVB may not have failed so miserably if it had not been exempted from the Basel framework, the latter has gained renewed legitimacy from the recent turmoil. As noted by Bundesbank President Joachim Nagel in a recent speech, “it is now all the more important to implement the Basel III rules globally without any concessions.” EU policymakers should focus on achieving that outcome, even as they leave their menagerie of other acronym jobs—EDIS, RTSE and CMDI—unfinished for the time being.
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