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Europe's half-hearted bid to protect its banks

European Central Bank (ECB) President Mario Draghi (l) speaks with Dutch Finance Minister and Eurogroup President Jeroen Dijsselbloem before a Eurogroup Council meeting at EU Headquarters in Brussels on December 17.

By John O'Donnell

Europe's efforts to form a united front behind euro zone banks are reaching a climax, but many fear they will fail to restore confidence and prove flimsy should another crisis strike.

After more than a year of talks, ministers from across the European Union agreed early on Thursday a scheme to close failing banks, but the process will be complex and politicized. They also stopped short of an ambitious plan for euro zone countries to help each other in tackling problem lenders.

An agency and fund to wind down bad banks, working in tandem with the European Central Bank as the new watchdog, is an important step towards banking union, but the loose ends could lead to the complete unraveling of the project.

Although hailed as a "historic" moment by France's Finance Minister Pierre Moscovici, many who emerged from the meeting into the Brussels rain were disappointed by the result.

"It's really a farce," said one senior official involved, who asked not to be named. "We're patting other on the shoulder and congratulating each other, but really what has been achieved is a far cry from what was needed."

After the agreement among countries, talks now begin with the European Parliament to finalize the law.

With no immediate banking crisis in sight, the new structure is likely to go untested for now, but it could buckle if one were to happen.

Furthermore, promises to pool euro zone resources to deal with bad banks are so distant - only after 10 years if at all - that they will do little to shore up confidence.

In the meantime, banks will pay into a fund that will grow to 55 billion euros ($75 billion), but only by around 2026, and that amount would have been entirely eaten up by the Irish banking bailout alone. New rules would, however, push more of the burden onto bank creditors.

Some officials fear missing elements in the scheme could restrain the European Central Bank from revealing the true extent of banks' problems in health checks next year if this would overburden weak countries with a costly bill for their repair.

For Alan Ahearne, an economist who advised the Irish government when it was sunk by its banking collapse in 2010, the deal does not amount to much.

"The sovereign is still the backstop for its own banking system," he said. "That's not a proper banking union. That means that funding costs for banks in peripheral countries remain high and sovereign borrowing costs will remain high."

What has been achieved in Europe is a pale shadow of the United States, where the federal government can transfer funds to help weaker states. Strong countries in the euro zone such as Germany do not send aid to weaker states such as Portugal or Greece. Instead, they lend them money.

"The state of Pennsylvania does not have to issue bank guarantees. That's done by federal agencies," said Ahearne. "That's true banking union."

German deal

Compounding this problem, the procedure that will be used to shut a bank in the euro zone will be heavily politicized, involving as many as all 18 countries in the currency bloc, each fighting to protect its own interests.

This process, described as "laughable" by one economist, will also involve officials from the European Commission as well as a new agency tasked with closing banks. Although ministers agreed a fast-track procedure, even lawyers in the room were perplexed by how it should work.

The European Central Bank, whose representative in the meeting Vitor Constancio was highly critical throughout negotiations, is not satisfied. But there is little the ECB, which wants to stay outside the political wrangle, can do.

Instead, it and others hope the deal can be toughened up in negotiations with the European Parliament.

Sharon Bowles, an influential lawmaker who will play a key role in these negotiations said the system proposed was too political. "We don't trust the countries on this," she said.

But it seems unlikely that they will be able to persuade Germany, which continues to stand firm against the use of euro zone money to back a scheme for tackling troubled banks, to soften its position. Throughout negotiations Berlin has determined much of the agenda.

It succeeded in winning an early introduction of EU rules that allow the imposition of losses from early 2016 on the bondholders and even large depositors of failing banks, as happened in Cyprus.

Yet the quid pro quo that many of its peers expected, namely that Germany would sanction pan-euro-zone backing for a fund to cover the clean-up costs, never materialized.

"It's a very German deal," said one official, who attended the negotiations. "There is not much there for the others."

Germany's finance minister trumpeted the agreement as a route to impose losses on investors.

One ally, Dutch Finance Minister Jeroen Dijsselbloem, was even more forthright. "Everyone is always very interested in the backstop. I'm interested in pre-stops," he said.

"Banks ... can take the first blow. The second blow will have to be carried by the investors, shareholders, bondholders in the banks. And the third blow ... will be carried by the fund, but the fund is also paid by the sector itself."

But Sven Giegold, a German member of the European Parliament, said Germany's dismantling of much of the deal may come back to haunt it. "I find it shocking that one country is able to push through so much," he said. "When one country has too much power, this can backfire." [Reuters] , Friday December 20, 2013 (10:15)  
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