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Central banking and banking supervision in today’s financial markets

Speech by Pentti Hakkarainen, Member of the Supervisory Board of the ECB, at Sveriges Riksbank, Stockholm, 27 March 2019

Let me start by thanking you for the invitation to come and speak today.

For many years I have enjoyed a relationship of close cooperation with Riksbank colleagues, not least during my two decades working at the neighbouring central bank and supervisor in Finland. Not all of those times were easy, notably during financial crises. Throughout these challenging times, the strong personal ties that exist between Swedish and Finnish institutions played a crucial role in helping our countries to weather storms and find solutions to problems.

You are officials of the oldest central bank in the world. This historical setting has inspired the first section of my remarks today, with its focus on how finance has evolved over time. I will argue that, as banking has developed, the differences between banks have gradually diminished. This has now reached the point where banks have become almost identical, no matter where they are located.

This trend has supported a common policy approach to managing the financial sector. Independent of location, supervisors’ core tasks, like those of central banks, are identical and the rulebook for banking has, to a large extent, become globally harmonised.

On this basis, I will address which supervisory structures are best suited to managing the risks arising from today’s banking sector. This will touch on the importance of effective coordination across supervisors and central banks. I will also explain how such coordination works in the integrated ECB model and what benefits this set-up has brought.

All in all, I will set out five of my most strongly held personal views on these issues. These are not scientific findings. They are practical observations on the way I see things, based on the experiences I have had. I have developed these views over 35 years of close proximity to the banking sector: as an industrialist who used banking services intensively, as a banker, as a central banker, and now as a banking supervisor.

Once I have described how I arrived at these conclusions, I’d be glad to hear your own comments about my propositions, and to answer your questions. Be warned though. I’m quite convinced about these points, so I won’t give in easily if you challenge me on them!

A bank is a bank, no matter where it is located

In the early stages of banking, the services that banks provided were locally specific. These services were provided to well-known local people, according to local rules. This initial local specificity happened despite the fact that, as far as I can see, clients’ needs were always roughly the same in Luleå as they were in Stockholm.

Banking is not unique in this respect. A similar pattern also exists in the history of electrical voltages and recipes for medicines, does it not? It was thought in many areas of life that it was better to have services provided by local craftsmen. Further, locally specific services were supported by the influence of local guilds, who sought to prevent non-local firms from entering the market.

Yes, the need for banks’ services has always been about the same, irrespective of location. Thus, market forces have caused banking services to evolve to the verge of becoming identical. First, the provision of locally differentiated services began to look the same across regions. Then, these regionally specific products became increasingly alike across countries. Now, finally we have reached a point where banks can, and indeed do, provide all of their services across many countries, using the same product palette wherever they are.

This reflects the fact that, fundamentally, customers demand similar things from their banks, wherever they live. Banks need to be trusted and they therefore must be seen as credible managers of the risks they take. Their services must facilitate saving and borrowing, and these services must be offered in an accessible way, at a good price.

As these demands are rather stable, when a bank innovates to enhance a product in an efficient way, it is relatively easy to “export” this innovation to the surrounding area. Thus, banking has evolved in a way where positive innovations have gradually been adopted universally across the industry.

In this respect, the banking industry is much like the pharmaceutical or energy industry. An aspirin is an aspirin, wherever you are. Likewise petrol. And electricity is electricity. Similarly, a banking business with deposits and loans is the same in Stockholm as it is in Sofia, Singapore or Salt Lake City.

Similar banks require similar rules and supervision

So, what do these developments in the banking industry mean for the design of supervision? In short, banks that are alike should be supervised in the same way.

In the past, when the services that banks provided were somewhat differentiated from one country to the next, the case for having a nationally specific approach to banking supervision was perhaps justified. However, as banking services now look extremely similar from one country to the next, the rationale for having country-specific approaches to banking has weakened substantially.

Indeed, in a banking system such as the one we see today in Europe, the need for a harmonised approach to banking supervision is even more clear. Not only do we have banking services that are similar from one country to the next, we also have cross-border banks whose activity spans many national borders. Some elementary banking systems are shared globally, like SWIFT. Similarly, many external service providers – such as IT firms – provide banks with the very same systems across many different countries.

In such a situation, harmonised supervision is highly beneficial. This is necessary to assess and to coherently mitigate the risks from cross-border banks, whose business models are global in reach. At the same time, it also still allows locally oriented banks to be treated in a customised way, where this is justified.

To deliver internationally coherent supervision, it is advantageous for supervisory decision-making to be unified under a single decision-making structure. It is not helpful to focus supervisory decision-making on the geographical territory of the nation state when banks’ risk-taking activity extends far beyond those limits. This is why the rationale for a supranational approach to banking supervision has become increasingly strong over time.

International interdependency of central banking

This trend towards international interdependency is also applicable to the world of central banking and monetary policy. Over time, as the channels through which monetary policy impacts the economy have become more internationalised, central bankers have had to take more of an international perspective on their tasks.

To some extent, this is a product of the increasing interconnectedness of the global economy. Global capital flows have become more important to the fortunes of domestic economies. This has meant that monetary policy conditions abroad have become more relevant for borrowers’ access to finance at home.

Similarly, in the case of large jurisdictions, monetary decisions at home might have very big spillover effects on the economies of interconnected countries. These effects should, to some extent, be internalised within the monetary policy decision-making at home, at least insofar as the impacts abroad create second-round effects at home.

For the successful implementation of monetary policy, one must increasingly be on top of these complex international interactions. The monetary policy decision-makers need to pay attention to potential spillovers and also to the “spillbacks” of the spillovers.

A global outlook for central bankers is also relevant when one considers that monetary transmission is channelled through an increasingly internationally interdependent banking system. The bank lending channel is fundamental to how monetary policy is transmitted to the real economy, and this only works if there is a well-functioning banking sector in place. Therefore, if the domestic economy relies heavily on the activity of foreign banks, monetary policymakers must be on top of relevant dynamics across the global banking market.

Seamless cooperation between central banks and supervisors is imperative

There are a number of important interactions between central banking and supervision, each of which requires very close coordination and cooperation.

Monetary policymakers, macroprudential policy makers, and supervisors all benefit from high-quality technical analysis. Developing the best technical analysis requires all relevant data to be used, and all relevant expertise to be deployed on the question at hand.

As I have explained, given the role that banks play in transmitting monetary policy to the economy, monetary policy analysis requires an understanding of the detailed situation of the banking sector. Close proximity to the supervisor helps central banks to develop this understanding.

Likewise, macroprudential policy improves when it includes sound analysis on the health and soundness of individual banks. It therefore makes sense for macroprudential policymakers to draw on the expert input of microprudential supervisors.

Similarly, good microprudential supervision requires the application of macroeconomic analysis. Such macroeconomic outputs are core to the work of central banks, and microprudential supervisors can use these outputs, for example to enrich business model sustainability analysis. Central banks also have access to valuable online data, for example on payment traffic volumes and the provision of liquidity to banks, even broken down on a bank-by-bank basis. These are elementary inputs that help microprudential supervisors to assess a supervised entity.

So, seamless cooperation across supervisory and central banking functions is essential for the successful management of global banking risks.

None of us is smart enough to understand these risks if we work alone, so we need to work closely together to get our heads around the complex global landscape we face.

In any event, even if each of us was smart enough to understand the risks, we need coordinated approaches to mitigate them in a sufficiently broad and comprehensive manner.

The Single Supervisory Mechanism – a structure that suits modern banking

The structure of the Single Supervisory Mechanism is particularly suited to provide oversight that is well-coordinated across international borders. After all, within the euro area, the ECB has exclusive competence to supervise the banking sector.

Having a single supervisor for the euro area banking sector ensures that the same risks result in the same supervisory response across the entire jurisdiction. This structure also provides an excellent basis to support swift internal information sharing and to ensure that risk analysis is sufficiently broadly based. Whether it was decided deliberately, as I assume it was, or whether it was simply chosen to avoid the need for difficult Treaty changes, we are lucky to have this optimal set-up.

In banking supervision, there are clear economies of scale. As the banking union has such broad coverage, it naturally offers certain benefits in terms of efficiency and effectiveness. ECB Banking Supervision supervises 117 significant institutions directly, covering over 80% of the €21 trillion of banking assets held across the euro area. This scale allows the ECB to invest significantly in the specialist skills needed to undertake intrusive supervision. That investment goes above and beyond what can be afforded under a purely national supervisory structure.

Moreover, ECB Banking Supervision benefits particularly from the ability to benchmark bank performance using a very long list of relevant comparator banks.

The unified structure of the banking system also neatly ensures that any risk that spills over across international borders is not missed. All risks created by banks in our large jurisdiction are relevant for us, as it no longer has any home and host authorities.

I have already explained how important it is for central banks and supervisors to cooperate smoothly. As the ECB is both the monetary authority and the banking supervisor for the euro area, the structure naturally supports this necessary smooth cooperation.


To conclude, in my remarks today I have sought to explain how banking has evolved in recent times and how the relevant institutional structures should adapt along with this evolution.

As banking services have moved towards becoming identical internationally, there is less of a need for nationally specific approaches to banking supervision.

Similarly, as the global economy and the global financial markets have become increasingly interconnected, monetary policy has had to take a more global perspective.

In addition, it is also crucial for central banks and supervisors to collaborate. This allows technical analysis on both sides to be optimised by allowing each side to learn from the expertise of the other.

As policymakers contemplate how to design institutional structures for the future, I feel strongly that these practical elements need to be taken into consideration.

As I see it, these practical considerations should carry more weight than hypothetical discussions on how the different functions can theoretically come into conflict. In the end, even if such conflicts do arise, it is easiest for those to be reconciled when all the relevant players work in the same organisation.

I look forward to hearing your reactions on these propositions of mine, and I am happy to answer your questions on the issues raised.


Evropská centrální banka

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