Ringe, G. & Gordon, N. J. (2015) “Bank resolution in Europe: The unfinished agenda of structural reform“, VoxEU Organisation, 28 January.
Bank resolution is a key pillar of the European Banking Union. This column argues that the current structure of large EU banks is not conducive to an effective and unbiased resolution procedure. The authors would require systemically important banks to reorganise into a ‘holding company’ structure, where the parent company holds unsecured term debt sufficient to cover losses at its operating financial subsidiaries. This would facilitate a ‘single point of entry’ resolution procedure, minimising the risk of creditor runs and destructive ring-fencing by national regulators.
The project of creating a European Banking Union is arguably one of the most important steps on the post-Crisis regulatory agenda. The goal is, inter alia, to provide a sound and unbiased legal framework for resolving global banks, so that the threat of a rescue with taxpayer’s money can be mitigated.
The legal instruments that have been adopted so far are insufficient in many ways (see, for example, Fox 2013 and Ruparel 2013). One aspect which has been largely overlooked in the current debate is that the structure of EU banks does not sit easily with those regulatory goals – on the contrary, the myriad of structures of European banking groups jeopardises the effectiveness of a resolution process. The risk is that resolution of cross-border banks will fragment along national borders, undermining the goal of providing an effective pan-European system. This has dramatic consequences for the preservation of systemic stability:
- First, short-term credit claims will be insufficiently protected, meaning that financial distress could easily lead to an exacerbating spiral of runs, fire sale asset dispositions, and credit market freezes.
- Second, financial distress may have uneven impact along national dimensions, which will lead to national ring-fencing ex ante and ex post.
The consequence will be an unacceptable risk of a disorderly resolution that will, in prospect, produce regulatory forbearance and may well lead to a more calamitous failure later, a bail-out, or some other form of taxpayer rescue.
Relevant posts:
- Wolff, Β. G., Fratzscher, M. & Hüther, M. (2015) “The ECB’s bond-purchase dilemma – German opposition to government-bond purchases by the European Central Bank is solidifying ahead of the programme’s likely announcement“, Bruegel Institute, 21 January.
- Mitchell, B. (2014) “The sham of central bank independence“, Bill Mitchell Blog: Modern Monetary Theory – Macroeconomic Reality, 23 December.
- Bordo, M. & Siklos, P. (2014) “Central-bank credibility, reputation and inflation targeting in historical perspective“, VoxEU Organisation, 12 December.