The Eurozone crisis has gone through its fair share of buzz words — fiscal compact, growth compact, Big Bazooka. The latest kid on the block is the banking union [discussed by economists since even before the 2007 crisis]. But what kind of banking union? For whom? Financed how? And managed by whom?
A new collection of short essays by leading economists on both sides of the Atlantic — including Josh Aizenman, Franklin Allen, Viral Acharya, Luis Garicano, and Charles Goodhart — takes a closer look at the concept of a banking union for Europe, including the macroeconomic perspective in the context of the current crisis, institutional details, and political economy. The authors do not necessarily agree and point to lots of tradeoffs. However, several consistent messages come out of this collection.
- No piecemeal approach. Centralizing supervision alone at the supra-national level, while leaving bank resolution and recapitalization at the national level, is not only unhelpful but might make things worse.
- A banking union is part of a larger reform package that has to address sovereign fragility and the entanglement of banks with sovereigns.
- Immediate crisis resolution vs. long-term reforms. There is an urgent need to address banking and sovereign fragility to resolve the Eurozone crisis. Transitional solutions that deal with legacy problems, both at the bank and at the sovereign level, are urgently needed and can buy sufficient time to implement the many long-term institutional reforms that cannot be introduced immediately.
Banking union for whom?
One critical question is whether the banking union should be “just” for the Eurozone or for the whole European Union. In my contribution, I argue that the need for a banking union is stronger within a currency union, as it is here where the close link between monetary and financial stability plays out strongest.
The institutional details
Should the responsibilities for running the banking union be concentrated in the ECB? There is certainly a strong argument for centralizing responsibility on the supra-national level. There are clear arguments to separate bank resolution and deposit insurance in an institution outside the ECB, to avoid conflicts between monetary and micro-stability goals and introduce additional monitoring (Dirk Schoenmaker). One argument for a supra-national supervisor is that it would help reduce the political capture of regulators that has been observed across Europe over the past years and became obvious during the current crisis. This lesson can also be learned from Spain, as Luis Garicano points out: “the supervisor must be able and willing to stand up to politicians.” In addition, there is a supervisory tendency to be too lenient toward national champions, while bailing them out is too costly, [and] Andrew Gimber argue, however, that the ECB might not necessarily be a tougher supervisor than national supervisors. It might actually be more lenient, because it is concerned about contagion across the Eurozone and it has more resources available. Tying its hands by rules might therefore be necessary.
Looking west across the Atlantic
This time is not different. Studying history can be insightful, for both economists and policymakers. Accordingly, several observers have looked for comparisons in economic history for clues on how to solve the Eurozone crisis. Joshua Aizenman argues that the history of the United States suggests large gains from buffering currency unions with union-wide deposit insurance and partial debt mutualization. It is important to note, however, that it took the United States a long time to get to where it is now, and quite a lot of institutional experimentation and several national banking crises. And, as is currently being discussed in Europe, the United States had to address both banking fragility and state over-indebtedness. Fiscal and banking unions go hand in hand.
It’s the politics, stupid!
In addition to a banking, sovereign, macroeconomic, and currency crisis, the Eurozone faces a governance crisis. Diverse interests have hampered the efficient and prompt resolution of the crisis. And as financial support for several peripheral Eurozone countries has involved political conflicts both between and within Eurozone countries, so the discussion on the banking union has an important political economy aspect, Geoffrey Underhill points out. More importantly, there is an increasing lack of political legitimacy and sustainability of the Eurozone and for the move toward closer fiscal and banking integration. “Citizens in both creditor and debtor countries increasingly perceive rightly or wrongly that the common currency and perhaps European integration tout court have intensified economic risks.” A banking union can therefore only succeed with the necessary electoral support.