In November, the European Central Bank will take over the task of supervising Europe’s biggest banks, relegating national banking supervisors in the euro zone to a supporting role. Not all German banks are happy.
The move marks a key step in a European “banking union” that has been heralded as the biggest move towards integration since the creation of the common currency. Before it takes over responsibility, the ECB is in the final stages of a stress test of European banks, a thorough examination of their balance sheets that will for the first time compare banks across Europe on a level playing field.
But the test has drawn fire from some German banks. They feel the ECB is not comparing like-for-like, thus creating unfair discrepancies in the data by treating assets from Greece to Germany in the same way.
In an interview with Handlesblatt, Andreas Dombret, who is in charge of banking supervision at Germany’s central bank, the Bundesbank, defended the process. He said banks will have a chance to air their concerns in talks with the ECB this month.
Mr. Dombret warned that many banks still have risks on their balance sheet and need “uniform and strict” supervision to be kept in line. Mr. Dombret also acknowledged that taxpayers are still at risk from bank failures, and was critical of the lack of progress on ending the problem of “too-big-to-fail” banks.
But he said progress has been made since the 2008 financial crisis by creating plans for how to wind down major banks that could bring the financial system to its knees. He also urged the ECB to keep its eye on the ball when it comes to monetary policy – don’t let financial stability concerns override the primary goal of keeping prices stable.
Handelsblatt: The European Central Bank is due to begin its work as Europe’s banking supervisor at the start of November. Can it really be ready by then?
Andreas Dombret: Prior to the FIFA World Cup in Brazil, many were wondering whether the stadiums were going to be completed on schedule. In the end, the stadiums were finished on time – and Germany even came away with the World Cup. Things will be much the same with the European banking supervisory authority – I am convinced that it will start its work on 4 November, as planned. The asset quality review and the stress tests being run on the banks are the last major steps.
Clearly there are still risks on a number of banks’ balance sheets. That is why I believe we urgently need uniform and strict supervisory standards in Europe.
German banks are nervous about the ECB’s stress test of its balance sheets. Is this a good or bad sign?
Neither. Uncertainty is only to be expected. In the asset quality review, the banks were given a certain latitude to make an appraisal of where they stood. This is much more difficult with the stress test. The ECB is drawing a comparison across national borders and can use this comparison, among other factors, as a basis for retrospectively adjusting banks’ estimates. This is a source of uncertainty to banks.
The results of the stress test will be released in the second half of October. There is talk of a Friday night or a weekend. What would be better?
The exact day has not yet been made public. The Bundesbank and [Germany’s financial regulator] BaFin would prefer the release to take place on the weekend, when all markets are closed.
How stable are Europe’s banks? Following the crisis at the Portuguese bank Espirito Santo, one gets the impression that supervisors are still pretty much flying blind.
I consider that too sweeping a statement, and I do not share your impression. Clearly there are still risks on a number of banks’ balance sheets that concern supervisors. That is why I believe we urgently need uniform and strict supervisory standards in Europe. And that is exactly the goal of the banking union.
The ECB wants to start supervising banks with a clean slate, whereas national supervisors do not want any past mistakes to be exposed. How can this conflict of interest be resolved?
At the doctor’s office, the doctor has only a limited amount of time to see you. He cannot test every patient for each and every malady, but will instead focus on those areas where the patient has a past history of problems, where there are causes for concern or where the consequences are especially severe.
I am not yet fully satisfied with how this “too-big-to-fail” problem is being dealt with at the international level. We’ve taken a lot of small steps but not yet managed the great leap.
And yet no doctor will be pleased if a colleague diagnoses a tumor that the first doctor missed?
I stand by my point. Banking supervisors and stress tests cannot expose each and every risk or mistake. If you tested everything 100 percent, it would involve a disproportionate amount of time and effort.
Elke König, the president of Germany’s banking regulator BaFin, has criticised the ECB for making too many generalisations in the stress test. Did the ECB prevail here?
A consistent quality assurance process is indispensable in order to ensure a level playing field for all banks. This could also include common ECB guidelines. If the banks’ own appraisals differ from those of the ECB, however, the banks will need to have a fair chance to explain these discrepancies. We are quite insistent on this point.
What will change once the ECB assumes responsibility for supervision?
Quantitative analyses and checks will play a greater role in future because, if for no other reason, cross-country comparisons are being conducted. As national supervisors, we have never seen matters from this perspective before. Such comparisons and benchmark analyses will therefore become more important. This also means that banks will have to make more data available in future than before.
It is a fact that, even recently, banks have required taxpayer-funded support. When will governments stop being open to blackmail?
We have made progress. Prior to the crisis, our only choice was between normal corporate bankruptcy, with unforeseeable consequences, or government rescue using taxpayers’ money. Special resolution regimes for banks have been developed in the meantime.
In the United States, at least, they still appear to need some work. U.S. authorities recently criticised the banks over the quality of their “living wills”.
These “living wills” are not entirely comparable with resolution mechanisms here in Europe. The major difference is that these wills in the United States are developed by the banks themselves. Resolution authorities in Europe are developing their own plan, using the restructuring plans of the banks as a basis.
How satisfied are you with the plans presented by German banks?
The quality varies considerably. Not every resolution plan has the unqualified blessing of BaFin and the Bundesbank. Some banks have submitted plans of a thousand pages, while others have interpreted the task more qualitatively and kept it short. But all have one thing in common: these plans are not static. They will have to be reviewed every year, and we will ask questions regularly. However, we should be under no illusions: resolving a large bank is still a highly complex issue.
I can only envisage euro bonds in connection with fiscal union, where we would have joint control over budgets alongside joint liability.
So governments can still be blackmailed if an important bank gets into trouble?
This is how the markets, at least, see it. I have to admit that I, too, am not yet fully satisfied with how this “too-big-to-fail” problem is being dealt with at the international level. We’ve taken a lot of small steps but not yet managed the great leap.
Still, we’re moving in the right direction. Let us take the example of progress in what is called “bail-in”: if a bank runs into distress, in future not just the bank’s owners but also its creditors will be on the hook for part of the recovery costs. The legal framework for this will already be implemented in Germany in 2015, a year earlier than elsewhere.
But there are still no regulations governing the exact amount of capital each bank has to hold back for such a bail-in.
This is indeed still a problem. For this idea to work, a bank needs enough high-quality capital, not just equity but also debt. But, for instance, take a bank that funds itself entirely from customer deposits which are below the legally protected level of €100,000 per customer. In this case, only the regulatory capital would be held liable.
That is not necessarily a bad thing; however, the bank would then need to hold an accordingly large amount of equity capital in reserve. This is where we are missing the final mosaic pieces for adequate regulatory guidelines. I hope that the G20 will move forward on this issue at its autumn summit.
If the additional liable capital is acquired mainly from other banks, this will mean precious little gain in terms of the stability of the financial system.
This is why we need non-banking-industry investors who are willing to invest in this market, along with rules for supervisors on how to deal with the issue of other banks holding bail-in capital. Basel III has created rules for investing in other banks’ regulatory capital; we need to take these rules to the next level.
The banking union is currently Europe’s largest integration project. When will the monetary union be ready for the introduction of common government bonds, so-called “euro bonds,” as recently proposed by Commerzbank CEO Martin Blessing?
Joint liability requires deeper integration in Europe than currently exists. I can only envisage euro bonds in connection with fiscal union, where we would have joint control over budgets alongside joint liability. However, this does not appear to be very realistic at present, and as long as such a fiscal union does not exist, euro bonds would create the wrong fiscal policy incentives. For that reason, I am very sceptical of euro bonds.
The low yields on government bonds are the outcome of the ECB’s expansionary monetary policy. Experts such as the Bank for International Settlements (BIS) and UBS chief executive Axel Weber have warned that the monetary policy stance is gradually threatening financial stability. Do we have to pay more attention to this?
The ECB’s mandate is price stability, and we have to stick to this mandate. Financial stability is important and should not be overlooked. However, there are non-monetary policy instruments with which to deal with that issue. Those instruments, known as “macro-prudential instruments”, can be applied in a more targeted manner to confront exaggerations in individual market segments.
This does not mean, however, that monetary policy should stand idly by while financial imbalances are being created. If these imbalances begin to pose risks to price stability, such risks need to be confronted using monetary policy means.