Europe moves to banking union with blueprint for failing lenders

The European Union agreed on Thursday a blueprint to close failing banks but stopped short of a more ambitious plan for the euro zone to unite in tackling its troubled lenders.

More than five years since a financial crisis struck, Europe is on the verge of finalizing one its most ambitious reforms since the launch of the euro – an agency and fund to shut problem banks as soon as the European Central Bank starts to police them next year.

Early on Thursday morning, finance ministers from across the bloc sealed a broad agreement on this final element of banking union. European leaders, who will gather in Brussels later in the day, will sign off on it and the final touches will be made in negotiations with the European Parliament next year.

“The final pillar for the banking union has been achieved,” Germany’s Finance Minister Wolfgang Schaeuble told journalists.

The project’s aim is to prevent a repeat of the turmoil when failing banks in countries from Ireland to Cyprus brought their states to the brink of bankruptcy.

By setting up a system to shutter troubled lenders, Europe would equip the ECB with the means of dealing with teetering banks. However, the scheme that has emerged, because of efforts to accommodate skeptical countries, is unwieldy.

It requires the ECB to fire the starting shot by declaring a bank as too weak to survive. What follows, however, involves input from a new agency empowered to shut banks, the European Commission and up to 18 different euro zone countries.

Schaeuble played down concerns that this could prove cumbersome. “It has to go quickly in an emergency, over a weekend,” he said, adding that the new structure would be nimble enough to do so.

Michel Barnier, the European commissioner in charge of financial regulation, expressed frustration with the watered down deal.

“When I compare it with my original proposal I have regrets,” he said. “I would like to have seen things done otherwise.”

The ECB, which also lobbied for a simpler system, achieved limited success in its suggestion for a fast-track procedure in an emergency to decide the fate of a sick bank.

It now remains to be seen whether the European Parliament, which also has a say in the law, will approve the scheme.

Sharon Bowles, one of its most influential members, earlier warned that lawmakers would stop any scheme that allowed “politics and bully tactics”. “We do not want any more fiascoes like those witnessed with Dexia and Fortis,” she said.

Despite the progress on Thursday, central elements of the banking union are still missing. For one, Germany continues to stand firm against the use of euro zone money to back a scheme for tackling troubled banks.

Schaeuble earlier made clear that no money from the euro zone’s rescue fund, the 500-billion-euro European Stability Mechanism (ESM), would be available directly for bank clean-ups.

Instead, a government struggling to pay for a failing bank will have to ask for an ESM-paid-for bailout, a humiliating step with strict conditions attached.

That deals a blow to a central tenet of banking union as it was originally conceived, namely that weak governments should not be left to cope with banks whose problems can buckle a country.

Unlike in the United States, where the federal government can transfer funds to help weaker states, countries in the euro zone do not send such aid. Germany, which makes up more than a third of the euro zone’s economy, wants to keep it that way.

Instead, euro zone ministers agreed that banks will pay into funds for the closure of failed lenders, amassing roughly 55 billion euros ($76 billion) over 10 years.

French Finance Minister Pierre Moscovici is one of many ministers who still harbor hopes that Germany will make further concessions in talks over the coming weeks.

“We wanted a backstop,” he said. “We are working on its definition, which will evolve over time with several possibilities.”

Schaeuble, however, emphasized that new rules to impose losses “first and foremost” on a failing bank’s investors and creditors reduced the need for governments to step in.

Jeroen Dijsselbloem, the Dutch finance minister who chairs meetings of euro zone finance ministers, also said this new order had overtaken the need for any joint backstop.

“Is it national or European? My approach is is it public or private? As of today, it’s private.”

“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.”

Many in the room, including the ECB, were disappointed, officials said. There were fears that uncertainty over how failed lenders will be dealt with will compromise a clean up the financial sector after ECB health checks next year.

“Now we have, let’s call it, a compromise,” said one official, summing up the mood among many in the room. “It could be way better.”

Completing a banking union is central to keeping the euro safe in the long term, a currency bloc that is as political in its goal of deepening European integration as it is economic.

The euro lacks the workings of a normal currency union such as in the United States, which has a central finance ministry and regulators alongside a central bank. Europe’s banking union had promised to help change that. [Reuters]

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