The Single Supervisory Mechanism - can the European Central Bank break the vicious cycle?

Parliament house flag post

The Single Supervisory Mechanism - can the European Central Bank break the vicious cycle?

Posted 25/09/2013 by Tarek Dale


Image sourced from: Wikimedia
Banks and sovereign nations in Europe face a ‘vicious cycle’, where higher borrowing costs and fears a government may default can make it more difficult or expensive for banks to borrow, and vice versa. On 12th September (2013) the European Parliament approved new powers for the European Central Bank (ECB) to act as a central regulator for European banks, in conjunction with national regulators. Is this a meaningful step towards a European banking union? Can it break the ‘vicious cycle’? And what does it mean for Australia?

The ‘vicious cycle’ refers to a situation where bank and government debt can influence each other, making it harder or more expensive for each to borrow money. In Spain, the government acted as a last resort for some banks (as early as 2011) – but bail-out costs strained government finances. When Spain was seen at risk of defaulting (around June 2012), fears the government couldn’t pay its debt also made it more expensive for banks to borrow from the market, because Spanish banks held a large amount of government debt. Other mechanisms can reinforce this cycle, which at various points has put pressure on bank and government borrowing costs in Spain, Italy, and other European nations.


Adapted from 'European Safe Bonds' (The euro-nomics group).

In mid-2012, the European Commission advocated a banking union to improve financial stability, and break the link between governments and banks by ensuring that regulation and crisis management were a supranational responsibility. Key components of the banking union included a single supervisory mechanism, harmonised deposit insurance and a single mechanism for dealing with failing banks (a Single Resolution Mechanism). All are required in conjunction for an effective banking union.

At a June 2012 summit, Euro area heads of government agreed that it was ‘imperative to break the vicious circle between banks and sovereigns’, and that the European Commission would create a proposal for a Single Supervisory Mechanism (SSM), the first of the three elements. The Commission’s proposal, released in September 2012, became the basis of the changes recently approved by the European Parliament. Discussions about a single resolution mechanism are ongoing.

Currently, EU banking supervision occurs primarily at the national level, despite the high level of integration in European financial markets. Under the new SSM, the ECB will act as a central regulator, operating in cooperation with national regulators. After the EU Parliament’s regulation is given effect, the ECB has a year to put in place the institutional framework. The start date is expected to be sometime in 2014.

But the ECB will not be regulating all banks – only about 130 banks are expected to be above the thresholds for regulation. Other financial sector institutions will not be covered, and the ECB will not regulate insurers, hedge funds, pension funds, and other financial sector institutions. The ECB’s regulatory activities will not be funded by member states, but will draw on an industry levy, and the European Parliament has emphasized ‘a strict separation’ between the ECB’s monetary policy and regulatory roles.

Nations funding the European Stability Mechanism (ESM) have agreed that after the ECB becomes a bank regulator, the ESM will be able to fund banks directly. This is an important step, and could enable struggling banks to access another source of emergency funding beyond their home government. On its own, however, the SSM will only involve ongoing regulation of banks. National regulators and governments will still have responsibility for dealing with banks that fail.

For Australian banks, there will be little direct impact from the SSM. Most international assets held by Australian banks are in other markets. But the SSM matters to Australia because of its implications for European financial stability. The European crisis has already resulted in lower lending by European banks in Australia, and indirectly impacts Australia’s growth through its effect on some of Australia’s major trading partners such as China and India, and international financial markets.

Earlier this year, the Reserve Bank noted that ‘the euro area still faces significant challenges to its stability from fiscal and banking sector problems’. If the SSM serves as the basis for further progress towards a banking union, it will be good news for the world economy and Australia. But future reforms may prove more contentious. Germany’s Finance Minister expressed opposition to reforms that could make taxpayers in one country liable for bank debts in another, although this may change following the German election (22nd September). On its own, the SSM is a promising step forward; but it won’t break the vicious cycle, and leaves Australia exposed to continuing risks from European financial instability.

Image sourced from: Wikimedia
Diagram adapted from: European Safe Bonds, The euro-nomics group, p. 3.


Thank you for your comment. If it does not require moderation, it will appear shortly.

Add your comment

[Click to expand]

We welcome your comments, or additional information which is relevant to a post. These can be added by clicking on the ‘Add your comment’ option above. Please note that the Parliamentary Library will moderate comments, and reserves the right not to publish comments that are inconsistent with the objectives of FlagPost. This includes spam, profanity and personal abuse, as well as comments that are factually incorrect or politically partisan. We will close comments after three months.




Captcha
Generate a new image
Type characters from the image:

Facebook LinkedIn Twitter Add | Email Print

FlagPost

Flagpost is a blog on current issues of interest to members of the Australian Parliament


Parliamentary Library Logo showing Information Analysis & Advice

Archive

Syndication

Tagcloud

Refugees asylum climate change immigration Australian foreign policy parliament social security welfare reform school education welfare policy health financing elections Australian Defence Force emissions trading women higher education private health insurance people trafficking Indigenous Australians illicit drugs gambling health reform federal election 2010 United Nations Employment Asia Middle East Medicare Australian Bureau of Statistics statistics sport health forced labour federal budget Afghanistan Industrial Relations Carbon Pricing Mechanism politics income management dental health United States aid disability child protection environment poker machines Australia in the Asian Century Australian Sports Anti-Doping Agency steroids World Anti-Doping Agency National Disability Insurance Scheme detention aged care 43rd Parliament slavery health system Fair Work Act Australian Public Service governance labour force people smuggling transport debt taxation international relations constitution New Zealand food WADA Australian Crime Commission pharmaceutical benefits scheme public service reform law enforcement children's health Aviation foreign debt gross debt net debt defence capability parliamentary procedure Senate Senators and Members ALP ASADA Australian Federal Police criminal law Newstart Parenting Payment multiculturalism Youth Allowance sea farers accountability Papua New Guinea youth paid parental leave pensions same sex relationships corruption coal seam gas customs planning federal election 2013 Australian Electoral Commission doping OECD crime health risks International Women's Day Gonski Review of Funding for Schooling sex slavery Special Rapporteur Northern Territory Emergency Response social policy terrorist groups Australian Security Intelligence Organisation carbon tax mining High Court Higher Education Loan Program HECS military history electoral reform employer employee renewable energy regional unemployment fishing European Union Federal Court family assistance skilled migration banking United Nations Security Council Australian economy forestry food labelling vocational education and training Drugs UK Parliament welfare systems Indonesia social media children federal state relations Constitutional reform local government codes of conduct terrorist financing homelessness Parliamentary remuneration money laundering Trafficking in Persons Report energy science social inclusion human rights paternalism terrorism World Trade Organization Australia public health China housing affordability bulk billing political parties water productivity health policy Governor-General US economy trade unions domestic violence export liquefied natural gas foreign bribery firearms question time speaker superannuation public housing election results by-election expertise public policy climate Intergovernmental Panel on Climate Change leadership voting Department of Agriculture Fisheries and Forestry regulation Pacific Islands reserved seats research and development new psychoactive substances synthetic drugs UNODC ASIO intelligence community carbon markets animal health middle class welfare ADRV Census Indigenous constitutional recognition of local government referendum consumer laws PISA competition policy royal commission US politics violence against women language education baby bonus Leaders of the Opposition citizen engagement policymaking Australia Greens servitude Trafficking Protocol forced marriage Population rural and regional mental health alcohol entitlements ministries Hung Parliament social citizenship maritime Iran transparency ANZUS regional students school chaplains federal budget 2011-12 salary Medicare Locals primary care Building the Education Revolution smoking plain packaging tobacco cigarettes Asia; Japan; international relations Work Health and Safety Migration; asylum seekers; regional processing China; United States; international relations fiscal policy Racial Discrimination Act; social policy; human rights; indigenous Australians Foreign policy Southeast Asia Israel Palestine asylum refugees immigration political finance donations foreign aid disability employment Economics efficiency human rights; Racial Discrimination Act employment law bullying asylum seekers Animal law; food copyright Australian Law Reform Commission industry peace keeping contracts workplace policies same-sex marriage disorderly conduct integrity retirement Parliament House Australian Secret Intelligence Service welfare standing orders prime ministers election timetable sitting days First speech defence budget submarines workers financial sector Canada Somalia United Kingdom GDP Tasmania world heritage political engagement leave loading Trade; tariffs; safeguards; Anti-dumping public interest disclosure whistleblowing Productivity Commission limitation period universities Ireland cancer gene patents genetic testing suspension of standing and sessional orders live exports infant mortality honorary citizen railways disciplinary tribunals standard of proof World Health Organisation arts international students skilled graduate visas temporary employment visas apologies roads Italy national heritage NHMRC nutrition anti-dumping Rent Assistance obesity evidence law sacrament of confession sexual abuse US presidential election international days DFAT UN General Assembly deregulation Regulation Impact Statements administrative law small business Breaker Morant regional engagement social determinants of health abortion Members suspension workplace health and safety marine reserves hearing TAFE Victoria astronomy resources sector YMCA youth parliament Korea fuel rebate Australian Greens presidential nomination Racial Discrimination Act political parties preselection solar hot water Financial Action Taskforce Horn of Africa peacekeeping piracy Great Barrier Reef Stronger futures political financing political education Social Inclusion Board early childhood National Quality Framework for Early Childhood Education and Care Murray-Darling Basin sanctions Norway hospitals republic President Barack Obama Presidential visits qantas counselling Korean peninsula Work Choices biosecurity hendra environmental law federalism federation preselection therapeutic goods Therapeutic Goods Administration plebiscites computer games pests suicide nuclear COAG Ministerial Councils floods ADHD stimulant medication advertising electricity extradition standards conscience votes poverty preventative health rural health coastal erosion Parliamentary Budget Office NATO work-life balance

Show all
Show less