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Completing the banking and capital market union under new circumstances

Impulse by Pentti Hakkarainen, Member of the Supervisory Board of the ECB, Frankfurt Finance Summit

Frankfurt am Main, 22 June 2020

The banking union was forged out of the sovereign debt crisis of 2012. In the face of an existential threat to Economic and Monetary Union, European leaders found the collective will to strengthen our institutional architecture.

These reforms are a game changer for the European banking sector. They deliver huge benefits to banks’ customers and to the economy at large. I will begin today with a reminder of the benefits that the first two pillars of the banking union – the single supervisor and the single resolution mechanism – are delivering.

The current crisis provides a clear example of the banking union in action. I will use this opportunity to outline how the banking union has responded to this challenge, and how this will help to smooth the way for economic recovery.

To finish, I will touch upon the capital markets union, the complementary project to the banking union.

The funding that the economy needs would ideally come from diverse sources – from both banks and capital markets. Deep and well-functioning capital markets improve the banking system’s capacity to raise capital and strengthen its balance sheets. Capital market funding also complements bank lending by channelling investment to riskier areas, such as young and innovative firms.

For these reasons, I strongly support action on the capital markets union as an additional means of obtaining the funding Europe needs today and of strengthening the private risk-sharing channel within the euro area.

The banking union is providing huge benefits

As some of you may know, earlier in my career I myself was a banker. Back when I was active in the industry, banks were already allowed to run their businesses across the entire European single market. This should have been easy, but it wasn’t. There was a patchwork of national regulatory frameworks, and this made it very difficult for banks to offer their services across borders efficiently.

I was always frustrated by these barriers as, in my eyes, banking services look fundamentally alike from one country to the next. Customers need the same basic services from a bank, no matter whether they live in Helsinki, Lisbon or Athens. The interests of bank customers are therefore best served by an internationally harmonised approach to supervision and regulation.

The banking union and the single rulebook have delivered what I was looking for. The same rules now exist from one European country to the next, and the euro area bank supervisory framework – the Single Supervisory Mechanism (SSM) – applies identical treatment when enforcing those rules.

This means that when banks operate across borders, they do not need to adapt to 19 completely different forms of supervision. For example, there is a single approach to determining Pillar II capital add-ons thanks to the harmonised methodology for the Supervisory Review and Evaluation Process (SREP).

Never before have banks benefited from such a level playing field. This provides an excellent basis for competition to thrive and service standards to rise. Good banks can offer their services abroad more easily, which enhances the options available to customers and drives efficiency and innovation across the industry.

The increasingly digital nature of banking services also helps to cultivate a healthily competitive environment. The more consumers use digital interfaces to interact with banks, the easier it becomes for cross-border competitors to enter domestic markets. Moreover, exporting digital services across borders requires less fixed cost investment than was needed to develop traditional branch networks. This all means that the costs of entering broader European markets are falling, strengthening competitive forces even further.

Of course, our banking union is not only good for competition – it also improves how risks are supervised.

As the SSM covers such a broad set of countries, we benefit from an enhanced ability to understand risks. We are able to compare and benchmark banks across the continent. This means that we can learn more about each bank and, as a result, we can spot common problems, shared vulnerabilities and contagion links.

The size of the SSM also means economies of scale in terms of our ability to employ specialists for certain topics. When you supervise as many banks as we do, specialist knowledge in a wide range of areas is an efficient investment. This means that we enjoy greater access to expertise than in the nationally fragmented system of the past.

The second pillar of the banking union – the Single Resolution Mechanism – adds further stability to the system by providing tools for managing bank failures in an orderly way.

For example, to increase the system’s capacity to handle bank failures, the minimum requirements for own funds and eligible liabilities (MREL) framework has been added to EU regulations. The Single Resolution Board has so far set MREL targets for banks that together cover 90% of the total assets in the sector. In response, banks have substantially increased their total loss-absorbing capacity, meaning that future resolution cases can be handled in an orderly fashion.

Practical steps like these protect society and the wider financial system from the risks caused by bank failures, which reduces the pressure on governments to intervene with bailouts. In turn, this preserves the proper functioning of market forces – meaning that banks and investors have incentives to manage risks effectively.

The banking union in action – the response to the coronavirus (COVID-19) crisis

Unlike the Great Recession of 2008-09, the current crisis is not a result of excesses, mismanagement or structural flaws in the banking industry. Nonetheless, the exogenous COVID-19 shock may have significant negative economic and financial consequences. During difficult times like these, our societies are particularly reliant on a well-functioning financial system. If the system is not robust enough, it can end up making negative developments even worse.

With this in mind, ECB Banking Supervision responded quickly and decisively with actions to reinforce the banking industry’s capacity to help society absorb the COVID-19 shock.

Soon after lockdowns were announced, we took measures to help banks play their role in supporting the real economy through the crisis.

Compared with the last crisis, our institutional set-up is much more capable of providing a cohesive response. Back then, cross-border cooperation between supervisory authorities required complicated arrangements and, as a result, national solutions were the default option. This time, heads of banking supervision in 19 euro area countries and the ECB exchanged information on a regular basis and were able to take common decisions.

In this regard, we have decided to allow banks to temporarily operate below the level of capital defined by the Pillar 2 guidance, the capital conservation buffer and the liquidity coverage ratio. Here, I would like to stress the following: capital and liquidity buffers have been designed to allow banks to withstand stressed situations like the COVID-19 crisis. Markets should not penalise banks for using the flexibility we have provided.

To stabilise the impact of increased market volatility on capital requirements for market risks, we have temporarily reduced the qualitative market risk multiplier. We have recommended that banks avoid procyclical assumptions in their provisioning models and apply the IFRS 9 transitional rules in full. We have introduced supervisory flexibility regarding the treatment of non-performing loans, in particular by allowing banks to fully benefit from guarantees and moratoria put in place by public authorities. We have recommended that banks refrain from dividend payments and share buy-backs aimed at maintaining healthy balance sheets. Finally, we have provided banks with significant operational relief by taking a pragmatic approach to this year’s SREP. This has involved delaying discretionary supervisory work where possible, including certain analyses by Joint Supervisory Teams, deep dives, data requests and deadlines for remedial actions imposed in the context of on-site inspections and internal model investigations. Flexibility is also being used in discussions with banks on the implementation of strategies to reduce non-performing loans.

I am confident that this quick and decisive response will help the banking sector to play its part in softening the impact of the COVID-19 shock on the real economy. Our actions thereby support those of other authorities that are more directly responsible for protecting citizens during this challenging period.

Further improvements – European deposit insurance scheme and capital markets union

At the time of its inception, the need for further steps to complete the banking union was already clear. I will touch upon two important areas for further progress: the European deposit insurance scheme and the capital markets union.

A European deposit insurance scheme (EDIS) would be a beneficial third pillar to the banking union, and one that would naturally complement the supervisory and resolution foundations.

Although national schemes already currently provide depositor confidence, EDIS would help to level the playing field even further. The key benefit would be to strengthen banks’ ability to provide services on an equal footing across the entire European market. In particular, it would ease some of the fears that are holding back national authorities from eliminating the remaining regulations that trap capital and liquidity within national boundaries. Together, these elements could help to foster cross-border consolidation among banks.

Worries persist that a fully-fledged EDIS would result in some countries subsidising the banking systems of others. In my view, these fears are unfounded. An ECB simulation of a severe banking crisis showed that an EDIS with risk-based contributions would lead to negligible levels of cross-border subsidisation.[1]

Completing the capital markets union is equally important for the future economic success of Europe. It would channel funding to companies and infrastructure projects in an efficient way. It could offer new opportunities for savers and investors, thereby increasing the euro’s international attractiveness.

Well-functioning capital markets are also important for the success of the banking union. More integrated and efficient markets support financial integration by allowing banks to broaden and diversify their cross-border asset holdings. Deeper, integrated capital markets can also support private risk-sharing by taking risks out of the banking sector and transferring them to other investor categories.

Looking more closely at today’s challenges, we also need innovative markets to enhance private solutions for non-performing loans. Larger and more integrated capital markets could help banks to sell such exposures to a broader range of investors, thereby increasing transparency and pricing conditions for those loans.

Given these potential benefits, I welcome initiatives to make progress on the capital markets union. For instance, a valuable set of targeted proposals was recently put forward by the High-Level Forum on capital markets union[2], which the ECB took part in as an observer.

The Forum’s proposal to harmonise core elements of national insolvency regimes would improve comparability and predictability for investors. For similar reasons, I support their call for a European Single Access Point for corporate data. Likewise, I agree with the emphasis in the Forum’s final report on the importance of improving supervisory convergence in the area of capital markets. This would justify developing the powers of the European Securities and Markets Authority (ESMA) and European Insurance and Occupational Pensions Authority further, and adding a strong European component to their governance.

I look forward to seeing positive developments in each of these crucial areas in the near future.


Let me conclude.

The banking union is already a game changer that has vastly improved the framework for the banking industry across the euro area. It has enhanced banks’ ability to compete across borders. Over time, competitive forces drive efficiencies that result in consumers and companies gaining access to more attractive financial services in terms of quality, customer convenience and pricing. Banking union also helps to ensure that monetary policy is transmitted smoothly, and that prices for borrowing do not diverge excessively from one euro area country to another.

This is an important moment: we must ensure that the benefits of the banking union are preserved and that we come out of the COVID-19 crisis even stronger and more united.

The EU’s goal should be to complete the banking union within the current institutional cycle, by 2024, for the sake of a prosperous and sustainable Europe. This work cannot stop.

Thank you for your attention.

  1. Carmassi, J., Dobkowitz, S., Evrard, J., Parisi, L., Silva, A. and Wedow, M., “Completing the Banking Union with a European Deposit Insurance Scheme: who is afraid of cross-subsidisation?” Occasional Paper Series, No 208, ECB, April 2018.
  2. Final report by the High-Level Forum on capital markets union.

European Central Bank

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