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Banking supervision

Danhong Zhang /aiAugust 24, 2012

The European Central Bank is in charge of the eurozone's financial policy. In future, the ECB is to also provide banking supervision. But is it necessary and realistic to supervise and regulate all of the EU's banks?

European Central Bank (Photo:Arne Dedert/dpa)
Image: picture-alliance/dpa

There's no doubt that Europe needs some sort of common banking supervision. The crisis in Spain has once again highlighted that the ailing banks of a country cannot only shake the country's finances but also affect other country's financial institutions.

This is what pushed the EU at its last summit in June to call on the Europen Central Bank to be that supervisor. Many see this, however, as a conflict of interest. What is the ECB to do when it believes taxes have to be raised, but is concerned about banks getting into trouble. Can the ECB shut down banks while, at the same time, it is printing money and flooding the market with cash?

A good combination?

Monetary policy and banking supervision should not be thrown together, argues Martin Faust, professor at the Frankfurt School of Finance. After all, there is already banking supersivion at the European level, known as the European Banking Authority (EBA). "This institution has so far only very little sway because national politicians have been reluctant to surrender power."

ECB President Mario Draghi (Photo: REUTERS/Alex Domanski)
Mario Draghi's ECB could soon be in charge of EU-wide banking supervisionImage: Reuters

This has changed, however, as a result of the crisis. Partly because it is understaffed, the EBA has drawn a lot of criticism, says Faust. There still is another aspect that speaks against a supervision by the ECB. "A European banking supervision only makes sense when actually all the countries take part," he told DW.

But, as the ECB is only in charge of the eurozone, such supervision would exclude Britain – the most important financial hub in Europe.

Yet it seems there is no way past ECB supervision. Sascha Mölls, economics professor at Marburg University, does not see this as a fundamental problem. What he is concerned about is common supervision that would not take into account national differences. "In Germany we have a lot of small banks," he says. They provide the local economy with money, doing the traditional job of a bank. "Those banks normally will not need supervision along the lines of the American model," Mölls told DW.

25 or 8,400?

But that is exactly what the EU Commission is planning. In September, the commission plans to present a concept which would subject all 8,400 eurozone banks to the same supervision rules. This, however, would overstrain the supervision authority, says Faust. "I think it makes sense to first concentrate on the systemically significant banks - in other words: the large ones," he told DW

Berlin also would prefer to have only the 25 largest banks being supervised by the ECB. "For savings banks and mutual savings and loan institutions there is no need for additional supervision," Justice Minister Sabine Leutheusser-Schnarrenberger told the German Handelsblatt business daily.

Frankfurt skyline (Photo: Frank Rumpenhorst dpa)
It's only the big banks that need more supervision, experts sayImage: picture-alliance /dpa

Small companies could suffer

In fact, small local banks in Germany have so far not needed a single cent in state aid. On the contrary, they kept lending money when the bigger private banks did not. Savings banks, private banks and mutual savings and loans institutions are the so-called three pillars of the German banking system. Faust is concerned that a uniform supervision would be a disadvantage to small banks, requiring, for example, a higher capitalization.

"Especially important is the core capital, consisting of shareholder equity and capital reserves," notes Faust. Savings banks, however, have no shareholder equity. The same is true for mutal savings and loans. "These banks have members, who cover the bank's liabilities with their equity. If this equity is no longer recognized as core capital, then a bank's capital resources might not be enough to cover liabilities," says Faust.

In this case, the banks either would have to find more equity or reduce their transaction volume, which would mean issuing fewer loans. This, however, would have drastic consequences for German businesses, since most of them get loans precisely from these small banks, and not from the capital markets, warns Sasha Mölls. "We simply do not have the economic environment for such a general and anonymous regulation to really help us. In the end, this can hurt our small and mid-sized companies."