Interview with Aripaev

Danièle Nouy, Chair of the Supervisory Board of the Single Supervisory Mechanism (SSM),
conducted by Sirje Rank on 26 August 2014 and published on 3 September

How will the SSM operate in practice in Estonia where more than 80% of the banking system is owned by banks from Sweden and Denmark, countries that will stay out of the banking union for the time being?

The only significant change is that, instead of having the Estonian national supervisors as the host supervisors, it will be the SSM. I believe that the SSM, representing 18 countries (19 with the accession of Lithuania in 2015), will be stronger in this role. We will be implementing the rules set by the European Banking Authority (EBA) for cooperation within colleges comprising home supervisors and host supervisors that draw on experience in Scandinavia. Estonia and the Scandinavian countries are quite familiar with such cooperation, and we want to build the SSM by grounding it on best national or regional practices. Cooperation between the Nordic supervisors is definitely one of the best national practices.

There are concerns that more central supervision might mean more lax supervision ...

After the crisis, everybody understands that supervision has to be tough and intrusive. We think that with the SSM, we have the best of both worlds: the expertise of national supervisors and also some distance in the decision-making process that will allow us to avoid national bias.

How can the SSM prevent lending-fuelled bubbles in the future, like those that emerged during the first euro decade in Ireland and Spain, but also in the Baltics and now in Sweden?

Part of the response to this question is a matter for monetary policy and another part relates to macro-prudential supervision. We have macro-prudential tools that come from new banking regulation in Europe (the Capital Requirements Directive IV – CRD IV). It is not an easy domain because there is a role both for national supervisors and for European authorities. To a certain extent, we will be learning by doing, but we now have better rules, better tools and are better equipped for dealing with that.

Banks were in the epicentre of the euro area crisis and the failure to sort them out and regain confidence is considered one of the reasons for Europe’s sluggish recovery. What kind of picture is emerging from the asset quality review and stress tests – what is the state of health of European and Estonian banks at the start of the SSM?

We do not have the outcome of the comprehensive assessment yet; we will have it in October. Personally, I believe that European banks are in a better situation than markets believe. The comprehensive assessment will deliver transparency. We believe that the banks will then have more opportunities to raise equity and funding from investors, if they need it, and will be better able to do their job – which is lending to the economy.

A number of banks have already started to address possible capital shortfalls. I think that is a good idea. It is better to go to the market before the outcome of the comprehensive assessment is available than to do so when all banks do together at the end of October. And if they are hesitant as to how much funding to raise, then it is better to take up more, rather than less.

Are the stress tests strict enough this time? Do they also take into account the deflation risk in the euro area?

Deflation was not an important part of the scenarios, I must say. There were lots of people from the European Commission and the European Systemic Risk Board working on those scenarios and we supervisors took them over from the specialists. We think that they are as tough and realistic as they should be. The baseline and adverse scenarios are extremely realistic, and – together with the other procedures envisaged – ensure the reliability of the exercise.

Will zombie banks be closed? Might politics interfere?

I don't think that politics can interfere. Again, I think we are much better equipped in this field. Some banks might have capital shortfalls, which they are supposed to cover with private money. If capital cannot be obtained from private sources, state aid can be provided under certain circumstances. If there is no private money available, we have asked countries to have public backstop for the banks, because even if we close a bank, some funding is necessary in order for it to be resolved in an orderly fashion.

For meaningful oversight, you need tools and money to solve the problems you detect. Do you feel that the necessary system is in place?

If the system is not in place, if there is no national resolution authority, for example, as is the case now at the end of the comprehensive assessment, it is the Ministry of Finance that will have to take over. So there is a fall-back solution. Very soon after the start of the SSM, the implementation of the single resolution mechanism (SRM) will begin. The SRM will start in 2015, and will have been fully implemented in 2016. So, yes, I believe that we have the tools we need.

Recently a Portuguese bank had again to borrow from the state and taxpayers since the resolution fund was not yet endowed with capital.

In the future, the role of the SSM will be to say that a bank is failing, or likely to fail, so Mr X or Ms Y, as the official in charge of resolution, this is your file now. Do whatever has to be done. And this is done under the control of DG Competition for the state aid rules. Starting in 2015, with the implementation of the Directive on recovery and resolution, a bank which is receiving public support is considered almost automatically to be failing. There are only very limited exceptions for precautionary recapitalisation.

SSM has also legal challenges – a group of academics in Germany has filed a case at Germany's constitutional court. How concerned are you about such cases?

Not too concerned. It is good that citizens in Europe have a chance to challenge the new framework if they are not fully comfortable with it: it is called democracy. But I believe we have a very strong and sound framework.

Are you worried about the euro area banks’ exposures in Russia and Ukraine?

This one of the risks that we are following, but I am not all that worried. The exposures there are quite limited and manageable.

SSM deals mainly with avoiding the risks in the future …

I will not say that we want to avoid risks because taking risk is the job of banks. But we have to make sure that the risks are not excessive and, even more importantly, that these risks are properly covered. We need enough capital, enough provisions and good internal controls. But if the banks don't take risks, they are of no use to an economy.

... but what about the mistakes made in the past? Will the members of the banking union be held responsible for each other’s legacy debts from the first decade of the euro?

Regarding the legacy assets of the crisis, we are going through them in the course of the comprehensive assessment. In most of the cases, they are well provisioned, which is not a surprise, as the banks have had a lot of time for that. But sometimes they keep them in their books because they believe they may have an upside. We tell the banks to move on, not to wait for a possible upside. They have to make room in their balance sheets to do their job, which is extending new loans to the economy.

Will single banking supervision treat all euro area government bonds as risk-free assets in banks’ balance sheets even though we have seen in the crisis that they are not risk-free, at least not all of them? If yes, why?

There are no risk-free assets – this is one of the lessons of the crisis. Even sovereign bonds are not risk-free. So we have to draw the consequences of this in European regulation, in my view, as soon as possible. But this concerns mainly small or medium-sized banks using the standardised approach that there is a risk weight of 0% for sovereign exposures. For bigger banks that use models for all their exposures, they do not carry a zero weight. In my view, there should also be rules for large exposures, meaning that no bank should invest only in one single sovereign bond, in general of its own country.

… which is what has been happening.

Yes, which is what has been happening. And I can tell you that in certain countries, supervisors use Pillar 2 for limiting such large exposures. Something will have to be done in the regulation for sovereign exposures.

How big and expensive is the new SSM? Will there be additional costs for consumers that arise from this Single Supervisory Mechanism?

Not for the consumers, but for the banks that will pay for the supervision. The cost is not excessive, however, especially for the big banks because as investors will gain more confidence from European supervision without national bias, the cost of funding may be reduced. The only thing to be careful about is to make sure that the bill is split fairly between large and small banks. And also for the small banks, the cost will not be excessive – it will be divided up between thousands of small banks in the euro area.

The aim of the banking union was to break the vicious circle between banks and sovereigns. Is that aim being fulfilled?

We will succeed once we have at least the SSM and the SRM in place. The banking union has three pillars: supervision, resolution and deposit guarantees. The SSM is the first and most important part, but we also need to have single resolution mechanism with a single resolution fund at the euro area country level. This means that if there is a need to recapitalise a bank, it will not put pressure on the public finances of countries. A single system for guaranteeing deposits will come later. Once we have this, we will have a full banking union.

How can a Tallinn municipal bank get a licence?

It is a joint task of the national supervisors and the SSM, with a stronger emphasis on the national supervisor. The final decision will be taken by the Supervisory Board in Frankfurt.

When a person in Estonia is found unfit to head a bank, will he or she automatically be deemed unfit in the other SSM countries?

If a person is considered unfit on grounds of bad reputation, this will hold in all countries. If it is a matter of circumstances – required competences, for example – it may depend on the specifics.