European Regulation

Get Your Banking Act Together

Canary Wharf DISTORTED banking district London Source Bloomberg 40618009_effect
Too big to fail or not, that's the question.
  • Why it matters

    Why it matters

    Without new E.U. regulations on big banks, the risk is larger that a bank failure endangers the entire financial system.

  • Facts

    Facts

    • The European Parliament has not been able to agree on how large banks can best be kept on a leash.
    • Large banks pose a risk to financial stability if they collapse.
    • The failure of U.S. bank Lehman Brothers in 2008 led to a number of bank bailouts in the United States and Europe.
  • Audio

    Audio

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It is nothing new that in the European Union, arguments are as fierce as in a dysfunctional family. It is seldom, however, that a controversy becomes as severe as in the case of the law separating commercial and investment banking.

In spite of long and vociferous deliberations, the finance committee of the European Parliament has not been able to agree on how large banks can best be kept on a leash. The second legislative power in the European Union, the Council of Ministers, appears to be light-years away from a unanimous standpoint.

This is not surprising, because the complex regulation of finances has become even a little bit more complex. Good and evil can no longer be distinguished from each other as easily as immediately after the financial crisis in 2008 and 2009.

The E.U. now has the thankless task of sorting out which reservations are legitimate and which ones are being blown out of proportion.

The basic issue continues to be how to make large banks so secure that their collapse doesn’t endanger the entire financial system. Separating risky commercial transactions from the savings of ordinary customers is supposed to contribute to reaching this noble goal.

The question is how strictly one should proceed here, and there is ample room for strife. Because in the meantime, it has become clear that the tightened prescriptions of the regulators are having unintentional side-effects.

The reforms have indeed strengthened the banks, but that has made capital markets more susceptible to shocks. In view of the higher requirements for maintaining capital reserves, it is no longer profitable for many banks, for example, to function as intermediaries for securities. There is accordingly a loss of valuable liquidity that serves as the grease for a frictionless functioning of the markets.

The consequences were apparent when recently there were severe dislocations even in what are actually highly efficient markets, such as those for United States Treasury bonds and German government securities.

It is clear that the banks make use of such arguments and direct them against the unpopular Brussels draft legislation regarding the separation of commercial and investment banking. The European Union now has the thankless task of sorting out which reservations are legitimate and which ones are being blown out of proportion by the banks’ lobbyists as a bugaboo.

An extremely complex challenge for the European Union, but one that has to be responded to and as fully as possible. Otherwise, there is the danger of a hopeless tangle of divergent laws on the national level. That would distort competition throughout the European Union and bring random advantages in some countries and disadvantages in others.

 

To contact the author: maisch@handelsblatt.com

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