Is it impossible to place the banks under control?

Michel Barnier, Member of the EC in charge of Internal Market and Services (on the right), and Erkki Liikanen, Governor of the Bank of Finland, Member of the Governing Council of the European Central Bank and Chairman of the High-level Expert Group on structural aspects of the EU banking sector, gave a joint press conference to present the main findings of the Group. Here the Commissioner looks like trying to overshadow the central banker. (EC Audiovisual services, 02/10/2012).

Michel Barnier, Member of the EC in charge of Internal Market and Services (on the right), and Erkki Liikanen, Governor of the Bank of Finland, Member of the Governing Council of the European Central Bank and Chairman of the High-level Expert Group on structural aspects of the EU banking sector, gave a joint press conference to present the main findings of the Group. Here the Commissioner looks like trying to overshadow the central banker. (EC Audiovisual services, 02/10/2012).

Within the next few weeks the European Commission is expected to announce a proposal for a structural reform in the banking sector. The declared target is to make sure “that banks do not remain or become too-big, too-complex or too-interconnected to fail”. In announcing its intentions on this grandiose plan, the EU’s executive arm states that the base of this new initiative is the famous ‘Erkki Liikanen High-level Expert Group’ report. The Liikanen committee recommended the breaking up of banks in two, one high risk investment company and a retail banking services firm.

This is a far reaching proposal and in view of the magnitude of the whole affair the Commission seems to be very timid in front of this herculean project. The announced issued yesterday doesn’t state clearly what was the core proposal of the Liikanen Group report nor it sets a day for the presentation of this new Commission initiative. To grasp the size of this proposal it suffices to say that the EU banks have accumulated assets 3.5 times the GDP, while their American peers’ balance sheet is only 1.8 times the GDP. If the EU banks are to reduce their exposure to US levels they have to shed assets of €22.1 trillion, given that today their assets are €42.9 trillion.

Outsized lenders

Of course this abatement of EU banks will be realised over a long period of time. However the crucial point is that this procedure has to be tabled down in a concrete manner, with a clearly set target in time to ban the use of other peoples’ money for banks’ proprietary trading. This is exactly what the Liikanen Group concluded and proposed a break up of banks in two. The high risk part would be able to continue in this line but without using depositors’ money. In this way the high risk financial entities wouldn’t require taxpayers’ bailout.

To this effect the Commission sets clearly the targets of its new initiative. They will include measures on the structure of the EU banking sector, which aim at:
*Ensuring that banks do not remain or become too-big, too-complex or too-interconnected to fail;
*Reducing excessive intra-group complexity and conflicts of interest, thus facilitating management, regulation, supervision, and resolution of banks;
*Guaranteeing that the banks can be resolvable and do not require taxpayer bailout when facing difficulties;
*Ensuring that banks will no longer be allowed to use public safety nets to artificially expand in risky activities that are not linked to core banking activities.

Perfect targets, poor results

Those targets are very clearly set and would entail a revolution in the banking industry. What the Commission doesn’t say is how effectively the banking industry plans to react to this major reshuffle of its business. The banks which led the western economy to its gravest crisis in 2008 are now accustomed to use not only other peoples’ money but also the public safety net which guarantees that they ‘cannot fail’. Is it possible to change all that with one Commission’s proposal?

This question may be partially answered by what happened this week in the MiFID II affair. Last Tuesday an agreement in principle was reached by the European Parliament and the Council on the updated rules for markets in financial instruments, in the context of the renowned MiFID II draft directive. This new law is aimed at making the financial system safer and more responsible. The MiFID II reform means that organised trading of financial instruments must shift to multilateral and well-regulated trading platforms. Was this achieved? Of course not!

Do it as in MiFID II

The largest part of the financial instruments universe, like the interest rate and bond derivatives and other unknown to us mortals trade instruments, will continue to rotate freely in the vast uncharted areas of the outer financial space. Michel Barnier, the responsible Commissioner for the internal market, indirectly recognised that. He said “Although I regret that the Commission’s proposed ambitious transparency regime for non-equity instruments, such as bonds and derivatives, has not been fully achieved, MiFID II represents an important step in the right direction towards greater transparency in this area”.

The banks managed to keep a door open, through which they can continue their unholy games of cartel forming and risky betting. A good part of the responsibility for that, weighs on the legislators. Probably the lenders will also manage to avoid the full consequences of the Liikanen group’s recommendations.

 

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