EU Finance ministers agree on new banking capital rules and move closer to Banking Union

Last week, European Union finance ministers have reached an agreement on a package of measures to reform bank capital rules in the bloc. The so-called banking package, aimed at creating a sort of “Banking Union” among the Member States, is expected to be a major step towards further strengthening the resilience of the EU banking sector, and towards a deal on a backstop for the bloc’s bank-rescue fund in June. The accord came after of 18 months of harsh internal debate among the 28 EU governments on how to apply new global bank capital rules, ten years after the global financial crisis.

Background

First presented in November 2016, the package of measures on banking capital rules represents a sort of response to the 2007-08 financial crisis, to ensure that potential outstanding challenges to financial stability are correctly addressed. The package includes elements agreed by the Basel Committee on Banking Supervision and by the Financial Stability Board (FSB), and needed an official green-light by the European Council before it could be presented to the European Parliament for the official talks to start.

Last week’s agreement

Last Friday, after 18 months of heated debate among the 28 EU governments on how to apply new global bank capital rules that overhauled financial regulations, the Council of the European Union has reached a general approach on the so-called banking package. The finance ministers of the bloc asked the presidency to start negotiations with the European Parliament as soon as the Parliament is ready to negotiate.

The European Commission, through an official press release issued the same day, said the move marked an important milestone and provides the Council Presidency with the mandate to start negotiations with the European Parliament. “This package contributes significantly to further reducing risks in EU banks and it’s an essential element for the completion of Banking Union”, said the document. “It builds on existing banking rules and aims to complete the post-crisis regulatory agenda, making sure that outstanding challenges to financial stability are addressed”, the statement by the Commission also said.

Complex talks

The agreement, as said, saw the lights after one and a half year of fierce debate between Member States, on how to apply new global bank capital rules after the global crisis that changed the face of the financial markets forever. Countries have battled for months over the level of capital buffers that banks should hold against risk of failure and the powers of the EU agency for troubled banks, the Single Resolution Board, to enforce these capital requirements.

Also, until the very last minute, an agreement seemed very difficult to be found, due to Italy’s political crisis, as EU officials said. Reuters reported on Thursday that an agreement could have been postponed because Italy, the euro zone’s third largest economy, might not be able to endorse the deal, due to the country’s complex government-building process.

Final relief

On Friday morning, signs that major hurdles had been cleared became more evident at the regular Brussels EU finance ministers meeting, and Vladislav Goranov, Bulgarian Minister for Finance, could finally announce it: “Dear colleagues, we have it!”, he said, revealing an agreement had been reached during the meeting.

Commission Vice-President Valdis Dombrovskis, responsible for Financial Stability, Financial Services and Capital Markets Union, also welcomed the agreement: “I am delighted that after more than one year and a half of very complex and technical discussions, the Council has reached a general approach on this very important risk-reducing package”, he said. “Europe needs a strong and diverse banking sector to finance the economy”, he added.

Southern European concerns

Main European media outlets, including the Financial Times, reported before the weekend that Germany and France fully backed the deal, while others accepted it with some reservations. Some issues came from Italy still, and also from Greece. The two Southern European countries indeed have decided to abstain, saying the deal on capital rules should be matched by an agreement on sharing banking risk by June. The Financial Times quoted officials from Rome as arguing that the measures were lopsided in favour of creditors’ demands and “achieved little on risk sharing”.

Italy’s position, although in line with past statements, was partly dictated by the fact that the country has not formed a government yet (or at least until last Friday) after the elections in March returned a very fragmented situation. The imminent appointment of a potentially populist government by the Five Star Movement and the North League in Italy has also reportedly given renewed urgency to the negotiations, in an attempt by European governments to reach an agreement before anything else could derail negotiations. “The threat of Italy means we have to get it sewn up”, the Financial Times quoted an eurozone diplomat as saying after late-night talks between France, Germany, the Netherlands and the European Commission.

The accord

Under the deal, the euro zone’s agency for troubled banks, the Single Resolution Board, will be given a much clearer mandate to set the level of capital buffers that banks should hold against the risk of failure. According to the EU, the implementation of Friday’s measures will make European banks more resilient in case of markets shocks, as they will introduce a binding leverage ratio of 3% for all banks, to prevent them from excessively increasing leverage.

The freshly agreed accord will also set the so-called “Minimum Requirement” for own funds and Eligible Liabilities (MREL), which introduces into EU legislation the global standard known as Total Loss Absorbing Capacity (TLAC), 8% of large banks’ total liabilities and own funds. This last measure in particular is expected to ensure that banks that trade in securities and derivatives will hold sufficient assets to stand a period of market turbulences.

More favourable treatment

According to Reuters, EU’s finance ministers also agreed on a more favourable capital treatment for large banks in countries that belong to the bloc’s banking union – such as France’s BNP Paribas, Netherlands’ ING and Italy’s Unicredit -, as their exposure to other countries in the bloc will be treated as a safer domestic exposure. French Finance Minister Bruno Le Maire said that the agreement “will allow our banks to better finance households and firms in France and in Europe”. Olaf Scholz, German finance minister, said the package is “good”, and that now “the cost of bank failures, as a rule, should be borne by shareholders”.

One step closer to SFR

Friday’s accord is also expected to pave the way for another deal on risk sharing and on the bloc’s bank rescue fund, which ministers committed on Friday to equip with a backstop, known as Single Resolution Fund. According to the EU, the SRF ensures that the financial industry, as a whole, finances the stabilisation of the financial system.

The SRF will be gradually built up during the first eight years (2016-2023) and shall reach the target level of at least 1% of the amount of covered deposits of all credit institutions within the Banking Union by 31 December 2023. The SRF is composed of contributions from credit institutions and certain investment firms in the 19 participating Member States within the Banking Union. The Single Resolution Board currently collects € 6.6 billion in annual contributions, and the fund is currently at € 17 billion euros, a sum that is reportedly not considered enough to cope with a larger banking crisis.

Next steps

Friday’s agreement now must be approved by EU lawmakers before it could come into force. “We now invite the European Parliament to define its negotiation position as soon as possible in view of a swift closure of the file”, Commission Vice-President Valdis Dombrovskis commented last week. “This lays the basis for further progress on completing Banking Union”, he said.