European supervision in the global village
Speech by Danièle Nouy, Chair of the Supervisory Board of the ECB, 9th FMA Supervisory Conference, "The Financial Market as a Global Village: integrated, innovative, international", Vienna, 4 October 2018
The Canadian philosopher Marshall McLuhan was both an original and visionary thinker. In the early 1960s, he coined a term which has become very popular. In fact, it’s even in the title of this conference: the global village. And remember that in the early 1960s, the world wide web, mobile phones and Twitter were still decades away. But even then, McLuhan foresaw how technology would reshape our communications and redefine our idea of community.
I am sure that many would see the financial market as a prime example of the global village. It is indeed one of the most integrated markets, with capital flowing all around the globe in an instant. This is a strength, but it is also a weakness – because if a crisis breaks out in one corner of our global village, it might quickly spread to all the other corners. The financial crisis of 2008 is a case in point. Policymakers realised that, in isolation, their crisis-fighting powers were limited. International cooperation was no longer just an option; it was a must.
The Single Supervisory Mechanism and its special role in connecting regional and global dimensions
Europe is no exception here. If anything, it is even more of a village than the rest of the world. And legislators did embark on an impressive reform to foster cooperation. They set up European banking supervision, a historic step for Europe. With this step, the continent’s leaders recognised that joint efforts were needed to make banks safer and sounder.
And in a sense, European banking supervision has become the node between the regional and the global dimension. At regional level, it is a large and vital network. It connects 26 national supervisory authorities from 19 countries to each other, and to the ECB. You could call it a federal system with the ECB at its centre. And at global level, it has become the largest banking supervisor in the world. In that role, it contributes to shaping the global supervisory framework and safeguarding global financial stability.
Being the link between the regional and global levels creates expectations and brings responsibilities. Our starting point is to adhere to European ideas and ideals. And we not only adhere to them, we also promote them – across Europe and around the world. Beyond that, we seek to implement the best supervisory practices, wherever they may come from.
And there’s more. If we need to cooperate across borders, we also need to cooperate across policy functions. So, we continually engage and collaborate with other European and global institutions. It is part of our day-to-day business to interact with the European Banking Authority and the Single Resolution Board, and with the International Monetary Fund and the Basel Committee on Banking Supervision.
The Single Supervisory Mechanism in practice
All this may sound very abstract, but it is easily translated into concrete actions. At European level, it means working to make Europe’s banks more resilient. This in turn means making each of them subject to the same European rules and the same European supervisory standards.
And over the past four years, a lot has been done in this respect. European banking supervision has helped greatly to reduce risks in the banking sector.
Banks now hold much more capital than prior to the crisis. In fact, they hold much more capital than ever before. The CET1 capital ratio of a constant sample of significant institutions reached 13.8% at the end of the second quarter of 2018. At the end of the second quarter of 2015, it stood at 11.9%.
But capital is not everything. Even a well-capitalised bank can get into trouble if it lacks liquidity. It is true, of course, that liquidity has been cheap and abundant in recent years. But even so, there have been some crises situations for certain banks. And our regular supervisory analyses revealed several instances where banks’ self-assessments of their liquidity did not meet our expectations. So, we will pay even more attention to this issue. Notably, in 2019, we will launch LiST, a liquidity stress test. Our aim is to make sure that banks are ready to handle any potential liquidity crisis. Together with them, we would like to focus on their liquidity risk management, for example on their ability to handle any impediments to collateral flows.
Capital and liquidity are important to keep banks safe and sound. That, however, is not enough: banks also need to be profitable. And they are indeed becoming more profitable, even though they are not yet where we would like them to be.
These are all great achievements. But for the European banking sector, true progress also requires a more harmonised rulebook. And here, more needs to be done. But supervisors are not the ones who write the rules of the game. So to do more, we will need the support of European legislators. To build on the achievements of the past four years, we need to start by acknowledging that the single rulebook is not as harmonised as we would like it to be.
For a start, it would be beneficial to further reduce the discretion given to national supervisors when they apply European law. This leeway is enshrined in the 167 options and national discretions (ONDs) provided for in the CRR, CRD IV and delegated acts. Some of these ONDs lie in the hands of the supervisors themselves. Thus, we have agreed to exercise them in the same manner across the euro area. Other ONDs lie in the hands of national legislators, though. So it is up to them to harmonise the remaining ones and thus create a more European rulebook for banks.
On top of that, there are important tasks which are still carried out under national law. Fit and proper assessments for bank managers are one example. Regulating such things at European level would take us another step towards a truly European banking sector.
In the future, we should also strive for a harmonised legal framework right from the start. European legislators should rely more on regulations and less on directives, for one reason: directives need to be transposed into national law, a process which most of the time results in uneven outcomes. Regulations, on the other hand, apply directly. They can bring us closer to our shared goal of achieving a level playing field for all European banks.
But we have to look beyond the borders of Europe, given our role as a node between the regional and global level. And at global level, we bring the European perspective to international bodies, from the Financial Stability Board to the Basel Committee on Banking Supervision. We can make regional issues heard globally. We make sure the voices of all our members, even the smaller ones, are heard in the international fora.
But to keep on doing so, we must also show that Europe is ready to uphold the commitments it has made on the global stage. It must aim to fully and faithfully transpose international agreements into European legislation – ideally through regulations, as I just mentioned. This includes Basel III. We must be wary of any watering-down of key Basel III commitments. I am wary.
Take the fundamental review of the trading book as an example. This review is a crucial attempt to address the shortcomings of the previous Basel market risk framework. As the trilogues on the banking package proceed, we must keep this in mind. If the Council proposal were to prevail in the negotiations with the Parliament, the new market risk framework would only be used as a basis for reporting requirements, not as a basis for capital requirements, as foreseen in the Basel agreement.
And this is not the only example. Another one concerns the net stable funding ratio. Current proposals would lower the required stable funding for short-term secured lending to financial customers, as well as for assets used as collateral to issue covered bonds.
These deviations are a problem. But in the end, the problem goes beyond individual measures. The more our memory of the crisis fades, the greater the temptation will be to de-regulate once again. I urge legislators to resist such temptations and continue on the path of reform. Backtracking will only take us back to where we came from – a devastating financial crisis.
The road ahead: what remains to be done and key priorities for the near future
Of course, supervisors will not stand idly by, either. Our work must, and will, move forward on several fronts. Just to mention a few, among other priorities, we will continue our work on profitability, non-performing loans, the targeted review of internal models, governance and liquidity. We will also be ready to help ensure a smooth Brexit, no matter the outcome of the political negotiations. And we will prepare for newcomers; this means banks that may choose to relocate to the banking union, or countries that may want to join through close cooperation.
But one thing should be clear: crises cannot be ruled out. Thus, we need to further enhance our crisis management framework. We can start with early intervention measures. Here, we have to deal with an overlap between the early intervention measures provided for in the BRRD and supervisory measures provided for in the CRD IV and the SSM Regulation. This overlap hampers the use of these measures; it should be removed.
Further, we should align the EU crisis management framework and national insolvency laws. Currently, a bank that is declared failing or likely to fail under the BRRD and the SRM Regulation does not always meet the conditions that would make it subject to national insolvency proceedings. In fact, under national legislation present and actual illiquidity is usually required if insolvency proceedings are to get under way. At European level, not only actual but even likely illiquidity can be grounds for declaring a bank failing or likely to fail.
So, in cases where the Single Resolution Board decides that resolving a bank declared failing or likely to fail by the SSM is not in the public interest and thus hands it over to the national level, this gap between EU and national laws could put banks in a limbo.
And then, the last item on my list is that, we should continue to work towards completing the banking union.
Making the European Stability Mechanism the backstop for the Single Resolution Fund will help to further ensure the safety of the banking system in times of crisis. And of course, completing the banking union also means continuing to work towards a European deposit insurance scheme as its third pillar.
Ladies and gentlemen, the global village is a common term today. But what many forget is that McLuhan not only coined this term – he also issued a warning. In an interview, he said “the world is now like a continually sounding tribal drum, where everybody gets the message all the time”. He believed that being exposed to such vast amounts of information would not necessarily make us more united. The global village, he warned, could also have a dark side: heightened social tensions.
This could be too negative an interpretation, of course. But the writer Tom Wolfe asked a relevant question here: what if McLuhan was right? Well, it’s up to us to prove McLuhan’s prediction wrong. And in my view, this is the only option – in finance and all other parts of life. If we are to make this age of greater financial integration a success, all participants must commit to working together. From national capitals to Frankfurt and to the global stage, let’s remember that cooperation is not only welcome, but essential.
Thank you for your attention.
- The analysis is based on a sample of 95 significant banks that reported RWA and total assets in all time periods
- Interview with CBC Canada, 18 May 1960