European Banking Supervision: Levelling the playing field

Speech by Danièle Nouy, Chair of the Supervisory Board of the Single Supervisory Mechanism,
at Corporate Program Roundtable organised by the Council on Foreign Relations,
New York, 11 September 2015

Good morning ladies and gentlemen,

I am pleased to speak to you today about the changing regulatory and supervisory landscape in Europe and I look forward to a good discussion. Considering the significance of this day for the United States and in particular for New York City, I am honoured that you are attending this event.

As you know, almost one year ago, the European Central Bank (ECB) took on the responsibility of supervising the 123 most significant banking groups in the euro area as a direct result of the global financial crisis. The crisis exposed shortcomings and systemic weaknesses in regulation and supervision of the financial sector. While the United States has many supervisory authorities with different specific responsibilities, but within the same jurisdictions, Europe had many supervisory authorities with similar responsibilities, but in different national jurisdictions. This was problematic: supervisory authority stopped at national borders, but the operations of a bank would not. This structural weakness was exacerbated by the sovereign debt crisis. Banks were operating in a monetary union, but not in a banking union under unified supervision, resolution and deposit insurance rules. The cost of any failure in this incongruent system was ultimately borne by taxpayers via the governments. This bank-sovereign nexus was unsustainable and threatened our financial system and our economies, so it was clear that it needed to be eliminated. As a result, European policy-makers agreed to the creation of the banking union, the rationale being to achieve a consistent euro area banking system, independent from national bias. European banks should be judged on their own strengths and weaknesses and they should provide their own backstops for failure – and the same rules should apply. We are convinced that this will lead to banks being stronger and more resilient to crisis situations.

The Single Supervisory Mechanism (SSM) was the first pillar of the banking union which will be completed by the Single Resolution Mechanism, effective in 2016, and the harmonisation of deposit guarantee schemes. European banking supervision offers the unique opportunity to ensure that banking in a single-currency area operates on a level playing field and plays a reliable and stable role in the economy. Of course, only one year in, this undertaking is to a certain extent still work in progress, but I would say it is already working very well. Let me give you some specific examples.

Supervision underway

When the ECB’s supervision became operational last November within the framework of the SSM, we had just completed the comprehensive assessment of 130 of the most significant banks in the euro area – most of which we then began to supervise directly. This gave us a head start for our subsequent work.

Following the comprehensive assessment, we closely monitored the implementation of remedial actions of the 25 banks with capital shortfalls, and we completed the annual supervisory assessments of the banks, the so-called “Supervisory Review and Evaluation Process”, which results in the determination of individual capital levels to be met by banks. Because we were only about two months into operations, this first assessment round performed by the ECB in 2014 was still mostly based on the methodology formerly applied by the national supervisors. But I am pleased to say that the 2015 round is done under a unified methodology that was developed by us at the ECB in close cooperation with the 19 national supervisors. This exercise is already showing the impact of a more harmonised approach to banking supervision: consistency has been improved with respect to the level of capital requirements. In the long run, the unified methodology will enhance the effectiveness of supervision, as a common language between supervisors and banks is developed, and supervisory actions and capital trajectories are better anticipated.

Of course, we did not start from scratch, and we are not reinventing the wheel regarding supervision. We pinpointed best practices on which we then modelled our final outcome. And we employ this approach for many of the issues we are facing to achieve our ultimate objective of a level playing field for banking across Europe.

What helps immensely in this harmonisation task is the whole set-up of the SSM: at the ECB, we have about 800 supervisors with expertise and experience in the field of regulation and supervision from the public and private sector. We work hand-in-glove with the national supervisors, who directly supervise the remaining 3,500 banks and implement the supervisory guidance and best practices that we agree to on the European level. That means that, in addition to our staff in Frankfurt, we draw on another 2,000 supervisory staff in the 19 euro area countries. We therefore benefit from the national experience and expertise of the local supervisors; at the same time, the fact that supervisory policy decisions are made at the European level guarantees the absence of political influence and national capture.

We are devoted to tough supervision, we strive to be fair and even-handed in our actions, while avoiding a one-size-fits-all supervision approach. By balancing uniform supervisory anchor points with constrained supervisory judgement, we ensure both consistency across institutions and tailored supervision to banks’ specific circumstances.

Challenges remain

One of the major assets of European banking supervision is this capacity to compare banks’ situations across countries through benchmarking, peer reviews and horizontal functions. But challenges remain. One important impediment is the insufficient harmonisation of the regulatory framework.

Don’t get me wrong: the current regulatory framework is definitely an improvement on the previous regime. We now have a single European rulebook and technical standards applicable all over Europe. However, there is still room for progress. For example, too many national options and discretions still exist. We identified more than 150 of them in the regulation which transposes the Basel III framework, including on the timely implementation of the fully phased-in Basel III definitions. We have undertaken tremendous work to make a difference on this front and have proposed solutions to those national options that fall under the discretion of the national supervisors; and I’m pleased to say that, in the SSM, we agreed on a single implementation of these national options for the whole euro area. Unfortunately, in a few cases, harmonisation was not possible with the level of rigour that I would have liked to see, so the dialogue with legislators is ongoing. Nevertheless, this is a unique and necessary achievement, which could not have been achieved in any other European forum.

In promoting the rigorous harmonisation of the SSM regulatory framework we are aligning it with global standards or, when there is no such standard, adopting the most conservative approach. This is what the SSM is about: progressing towards more consistency, more comparability and eventually more trust in the European banking system. In this respect, we are a game-changer.

Global cooperation

There is no doubt that we have all learned important lessons from the global financial crisis, and I think the experience on both sides of the Atlantic has been very similar. The United States and Europe worked together on Basel III, which was a major step forward compared with its predecessor. It included better and tighter definitions of capital, and it raised the minimum amount of the highest quality capital from 2% to 4.5%, and even 7% with the conservation buffer. It introduced the leverage ratio, a new tool to measure capital adequacy. Another good example is the counter-cyclical capital buffer for banks. In other words, Basel III introduced a macroeconomic perspective in the global regulatory framework to mitigate systemic risks.

Basel III provided a good basis for the United States and Europe to improve their own regulatory frameworks. Of course, there are some differences, but the main point here is that we all have the same goal: to construct a regulatory framework that will help prevent another crisis like the last one.

We actually believe that good regulation and vigilant supervision will help the banks be sounder, safer and, yes, more successful. To accomplish this on a global level, international cooperation and coordination is absolutely necessary. This is also a lesson I learned during my time at the Basel Committee. With Basel III, we defined a global response to a global crisis. We can be proud of this achievement, but we are not finished.

We work together in the Financial Stability Board and the Basel Committee on specific regulatory issues and in supervisory colleges on the supervision of global banking groups. These forums provide ample opportunities to share experiences, information and knowledge. But, of course, we can still improve the way in which we share information and learn from each other’s best practices.

Ladies and gentlemen,

With the creation of the single European supervisor, we have put one of the key lessons we learned from the financial crisis into practice. Harmonised financial regulation and supervision will help ensure the soundness of banks, prevent crises and support economic stability. As I noted, the SSM is still “work in progress”, but we are here to stay.

“Every crisis is an opportunity”, as the saying goes, and the opportunity for Europe was to create the banking union to complement monetary union. The opportunity for the world is to strengthen cooperation at the international level and, from my vantage point, I would say that we are on the right track. My fruitful exchanges here this week with the US authorities and with the International Monetary Fund (IMF) also attest to the broad view that good regulation and supervision is key to preventing the next crisis and that international cooperation between supervisory authorities is invaluable.

Thank you for your attention.

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