Letter: The four steps that clear a political path to EU banking union

Paschal Donohoe, president of the eurogroup, the informal club of eurozone finance ministers, argued back in March for a phased, sequenced approach to achieving a banking union (Opinion, March 15).

But there is no need for such a delay. If the euro area acts now, it can implement banking union by the end of next year (Report, FT.com, May 31).

It is high time that deposit insurance in the euro area did what people expect: guarantee that a euro in covered deposits remains a euro, even if the bank holding that deposit fails, regardless of the euro-area member state where the failed bank is located.

To do so the euro area should take four steps. First, end forbearance. Make the European Central Bank the single lender of last resort and require that any request for emergency liquidity assistance trigger a determination of whether the bank is “failing or likely to fail”. This will help ensure that a bank enters resolution when it is supposed to do so, namely when it reaches the point of non-viability and before its net worth is exhausted.

Second, make exit the single presumptive path for resolution. Have the EU’s Single Resolution Board use bail-in to conduct the orderly liquidation of the failed bank under a solvent wind-down strategy. This limits the loss from the resolution process itself and makes it likely that losses will be imposed on investors only, rather than on counterparties and depositors.

Third, make national deposit guarantee schemes investors of last resort in a bank’s “gone-concern” capital. This ensures that the single presumptive path can be applied to all banks.

Fourth, have the Single Resolution Fund function as the Single Deposit Guarantee Scheme (SDGS). Drop the proposal that national deposit guarantee schemes reinsure one another. The backstop to the SDGS would come from the European Stability Mechanism, not other banks. Provided the authorities end forbearance, such a guarantee would pose little or no incremental risk to the ESM, given the super-senior ranking of covered deposits.

Together, these four steps would help clear the political path to banking union, promote market discipline, limit recourse to taxpayers and enhance financial stability.

Thomas F Huertas
Senior Policy Fellow
Leibniz Institute for Financial Research
Goethe University, Frankfurt, Germany