Reform of the EU Banking Sector
Hearing by Vítor Constâncio, Vice-President of the ECB before
The Select Committee on EU Economic and Financial Affairs of the House of Lords
London, 22 October 2012
Lord Harrison (Chairman)
Lord Hamilton of Epsom
Lord Vallance of Tummel
Examination of Witnesses
Vitor Constâncio, Vice-President, European Central Bank
The Chairman: Good afternoon or bom dia, Vice-President Constâncio. My name is Lyndon Harrison and I chair this Committee on economic and financial matters in the European Union. We are doing this report on the banking union and the recovery and resolution directive. We are most grateful for your coming before us today to explore some of the items that we have already alighted upon when we visited Brussels and met President Herman Van Rompuy, President Andrea Enria of the EBA (European Banking Authority) and Michel Barnier (European Commissioner on Internal Markets and Services). We are taking witnesses here in London and you are most a welcome addition to that cause. When we have finished today’s deliberations, we will send you a transcript of what we have discussed. We would be very grateful if you could check that and send to the Committee any additional information that you have. We hope to report in about in a month’s time for the European Council. I wondered whether you wanted to say any opening words and to introduce yourself. As an opening question, are you able to define what you think banking union means in practical terms for the ECB?
Vitor Constâncio: First, let me say that it is a pleasure for me to be here. I thank you for inviting me and for having this idea of hearing many opinions before you finalise your report. Of course, the concept of banking union is something for which different people can have different definitions. Nevertheless it is now more or less official, because it is already stated in documents that it comprises three main elements: first, supervision, then resolution of financial institutions and then deposit insurance. One could add some other elements to a full concept. For instance, one could have it that in talking about supervision we should include not only what is considered microsupervision but macrosupervision. We could also have it so that a fully fledged banking union in Europe would include direct capitalisation of banks, in some cases from European funds. In the present context that would be an instrument fully to separate banks from sovereigns which, as you know, is a reason for concern and one of the motivations to start the whole project—this new chapter of European integration.
The Chairman: That ability to fund banks directly may come about when the ESM is in place but we have a few steps to go before that happens.
Vitor Constâncio: Yes, I am just talking in general terms about the components of what will presumably be the full banking union concept in the future.
The Chairman: From where you are sitting, if these three items are put in place are you able to make a judgment on whether that will bring some stability and confidence back to the banking system?
Vitor Constâncio: Yes, I should say so, and even if they are implemented gradually and not immediately—those three together—the decision of the summit was to start with putting supervision in place, because in any case that would be an absolute condition for starting, for instance, the direct capitalisation of banks by European funds. I presume that after that resolution, later there would be deposit insurance. My own opinion about this is that deposit insurance can wait some more time; it can come at the end. What is important to ensure financial stability is effective supervision that can detect early on what problems are emerging in different banking sectors, which, as we know, prior to the crisis created a lot of imbalances in several countries, putting into jeopardy the stability of the euro area as a whole. So for that purpose, effective supervision is necessary and, as we all know, there is normally a local and national bias in conducting supervision. Even in the US, a recent study showed that there is such a bias when it compared supervision by regional and federal authorities. To eliminate this local bias, it is important to ensure stability in the euro area and to have a solid banking sector that cannot create problems for the sovereigns but can also resist if the sovereign is weak in its public finance.
The second element to ensure this, after supervision, is of course resolution because in many cases—in particular, regarding cross-border banks—it is important to be able to resolve banks that attain a point of non-viability. Indeed, I think personally that what is most necessary in the steps towards banking union is to have resolution for the big cross-border banks in Europe. Most of the banks can continue to be resolved at national level, so not all have to be transferred to the European level. The same is also true for supervision, which I am sure we will talk about later on.
The Chairman: Yes. Between whiles, do you think that this package of proposals and what we are intending to do in making changes to Basel III and CRD4 will overcome the problem of moral hazard or having banks which are “too big to fail”?
Vitor Constâncio: If you include in that the approval of the directive on resolution and crisis management, because that is the central piece for the purpose of dealing with the so-called “too big to fail” banks. Yes, we have welcomed the draft proposal of the Commission on the resolution of financial institutions and the attempt to harmonise the national laws in that matter, which is of course the purpose of the directive. By the way, the directive follows very closely the so-called key attributes of resolution regimes that have been approved by the G20 in Cannes, and by the Financial Stability Board before that. This is an international effort that goes beyond the EU. The key attributes that were approved in that context were respected in the Commission’s draft. We see that as an important step but it is of course not enough for banking union, because for big cross-border banks we really need the European level to be there.
Lord Hamilton of Epsom: Mr Vice-President, I would very much like to ask about the timescale. As you know, the initial timescale proposed was extremely tight for the end of the year. To what degree was that related to Spain? If Spain asked for a bailout tomorrow, do you have sufficient powers for the ECB to go in and buy Spanish bonds on the secondary market and is there enough ability to recapitalise Spanish banks if these proposals have not gone through?
Vitor Constâncio: As regards our own programme of authorised monetary transactions, yes, we have the powers to decide that on the conditions that we have defined very clearly and strictly. On those conditions, it was a decision of the governing council of the ECB. That is totally separate from any question about banking union in all its elements. Regarding direct capitalisation, as was already decided in June, that was linked by the summit with effective European supervision being in place for direct capitalisation to happen. It was clear that it would not be ready at the beginning of next year, as desirable as that would be.
Now, as you know, as a result of the very recent summit there is an agreement, which we have also welcomed, that the regulation activating Article 127(6) of the treaty will be approved at the beginning of the year and will enter into force more or less immediately after its approval, so that the start of effective supervision in the field will happen only at the beginning of 2014. The entering into force is important because it will allow the single supervisory mechanism to prepare itself to discharge the mandate and to improve guidelines and manuals for supervision for all the national supervisors, which will have their own important role in the system, and so on. Then it will start in January 2014; at the same time, the CRD4 and the associated regulation will also start to be operational, which is a good coincidence. This timetable clearly resulted from the recent summit and it is a reasonable timetable. Of course, it delays until the beginning of 2014 any operation to directly capitalise banks in any country, which means that Spain or any other country that has to capitalise banks meanwhile has to do that with their own contribution—even if, as is the case with Spain and other countries, there are funds that are granted to the country as a loan to be able to buy itself those capitalisations.
Lord Flight: Mr Vice-President, what is the ECB’s position on the Commission's rather broad proposals for a single European banking supervisory framework? What do you think is required for the concept to succeed? Do you feel that TFEU Article 127(6) provides an adequate legal basis for the supervisory tasks proposed? More practically, I think you have referred to the ECB being largely responsible for the larger banks as a systemic risk, but the Commission’s proposals are for the ECB to become responsible for supervising all banks within the banking system. The point has been made that small banks have sometimes started banking crises. Is the ECB going to open supervisory offices all over the eurozone? How is its role going to interact with central banks’ responsibilities?
Vitor Constâncio: Thank you for the question. I referred to the large, systemic cross-border banks in connection with resolution. Now, on supervision we broadly agree with the proposal of the Commission. We think that it respects the main principles that we have defined for the ECB to fulfil that role. Those were: first, that the mechanisms should be strongly and clearly defined as the intention of going in the direction of a banking union; also, that it should be effective in the sense of giving to the ECB the powers to do the job without compromising in any way its own reputation. That is achieved because from the start we have been in favour, from a legal point of view, of the ECB being given legal authority over all the banks. Although this is a system that one could say will in many ways be federal—meaning applying and very much using the principle of subsidiarity, which of course belongs to a federal concept—the centre will directly supervise the more significant banks. Mostly, that is those which are big enough and have cross-border activity in Europe. For the others, there will be decentralisation to national supervisors.
However, the fact that the ECB will have authority over all the banks implies two very important things. First, the national supervisors will act in accordance with guidelines and manuals for supervisory practices that will be approved at the centre. The centre will have the right to monitor how these are applied and implemented and to organise peer reviews and so on. That concept is very important. The second crucial consequence of having authority over all the banks is that it will allow the ECB—the centre—to call in banks, either individually or in groups, that require more direct and close attention for the precise reason that you mentioned: that we have seen in the crisis that some groups of banks, and in some cases small banks, have been responsible for creating the financial instability. If the national supervisor does not deal adequately with those cases then, by having the legal authority, we can interfere and start directly supervising those banks to take the appropriate measures. To have that authority over all the banks is essential to try to eliminate or at least mitigate the national bias in conducting supervision. That is crucial; it is one reason to have this new step into deeper integration.
However, it will be very decentralised in its day-to-day operation because, as I said, initially we will deal directly only with the big banks. This can evolve in the future but having the legal responsibility means that, at the same time, we will have to follow all the banking sectors to detect any early signs of potential problems. We will also follow many individual banks that are of importance at national level. We will do that from a distance just by looking at the indicators, but we will do it to detect any potential problems. That will be our responsibility and that is why it is important to have these... (inaudible).
The Chairman: We missed the last bit but I am going to invite Baroness Hooper to ask the next question.
Q154 Baroness Hooper: Good afternoon. My interest is in the relationship with the national supervisors but first I would like to ask for your views on the proposed package of powers for the ECB. You have already touched on this to some extent, but do you think that the proposals go far enough from the ECB's point of view?
Vitor Constâncio: Yes, we think they do. As you know, the article of the treaty says that the ECB can be given specific tasks on supervision, so it is not just in the broad concept that it is approved and given to the ECB. Article 4 of the proposal presented by the Commission lists the powers that would be given to the ECB, and we think they are indeed enough for us to ensure effective supervision.
Baroness Hooper: Thank you, but obviously we wish from a national point of view to be as helpful as possible—as helpful as necessary. I would be very interested to know the rationale for the proposed division of responsibilities between the ECB and national supervisory authorities. and how you feel that the relationship under the proposed regulation will work in practice.
Vitor Constâncio: First, the main division of labour is, let us say, between the banks that the centre directly supervises and all the other banks, which will in practice be supervised day-to-day by national supervisors. That means, for instance, that if we take just the big banking groups which have significant cross-border activity, we are talking about something between 25 and 30 banks—no more. There are about 6,000 banks in the euro area alone and almost 8,000 in the EU as a whole, so you can see that the main division is then that the centre will directly supervise the 25-odd banks or banking groups and that all the rest will be done by the national supervisors under the guidance, umbrella monitoring and definition of practices by the centre.
The second point is the following: the centre is not an abstract concept. At the centre, there will be the advisory board created by the resolution—and the supervisory board is composed precisely of the heads of supervision in each country that participates in the mechanism. All those heads of supervision will be seated around the table, preparing and taking the decisions that are given to the centre, so the centre is not an abstraction. The heads of supervision are national authorities, which will be there at the table approving the harmonisation of practices, standards of supervision and so on. That is another element in the division of functions that you referred to.
The relationship will then be very much influenced by this joint work being done by the supervisory board, which has all the heads of supervision. But of course, in order to be able in an effective way to discharge its responsibility the ECB—the centre—can have the power, to which the proposal refers, to give instructions to national supervisors in certain cases.
There is, I would say, no ambiguity in the system but a very extensive use of decentralisation and subsidiarity. It could not be otherwise; we could not have here in Frankfurt thousands of supervisors or open delegations from each country that will participate in the mechanism. That is not the concept.
The Chairman: Before we go back to the supervisory board, I invite Baroness Maddock to ask a question.
Baroness Maddock: Good afternoon. The Commission has asserted: “The creation of the banking union must not compromise the unity and integrity of the single market”. I wonder whether you think that this goal is compatible with the Commission’s argument that the single market and banking union are in fact mutually reinforcing processes.
Vitor Constâncio: Yes, I agree with that view, for the following reason: the single market is basically about rules and the implementation of those rules in all 27 member countries. That process is not touched by the creation of a single supervisory mechanism—not at all—because all the European legislation will come from the Commission to the 27. Meanwhile the EBA, as the banking authority, will be fully in its role as the approving authority for technical standards and secondary legislation, which will have to be applied in the 27 countries by all supervisors. In that respect, the single supervisory mechanism will just be another supervisor—the same as any other that exists—in the sense that it has to comply fully with European legislation emanating either from the Commission or from the EBA. The EBA will retain its role as the entity responsible for ensuring that all the European legislation is applied in the same way in all member countries and by all supervisors. That role of the EBA is maintained and has to be respected by all supervisors. The emergence or appearance of a new supervisor that in some ways substitutes for several supervisors does not change at all the concept of the single market or the entities that have a legal responsibility to ensure that all the principles of the single market are respected.
Lord Vallance of Tummel: Mr Vice-President, I would like to come to the way in which this new role of supervision will be handled within the bank itself. As you mentioned earlier, the proposal is that there will be a supervisory board to deal with these new tasks, although ultimate responsibility for decision-making would apparently remain with the governing council. There is an article in the Financial Times suggesting that the EU Council’s top legal adviser has advised that under the existing treaties, at any rate, it would be impossible to give a bank supervision board within the ECB any formal decision-making powers. Is that the reason for this two-tier approach within the ECB—in other words, with the first tier being a supervisory board that would be no more than advisory and with the governing council taking decisions?
Vitor Constâncio: I am not sure that this will be the solution that emerged from the recent summit. Nothing much was said in public about the compromise that was reached. I am not undermining the version that was published by the media about this question, as it was discussed among lawyers. There was certainly debate and some different views—as is normal among lawyers and economists, of course—but that does not matter. In the end, that is just a process and in the summit last week there was the approval of a compromise to overcome those problems. The exact terms of the compromise now have to be translated by the lawyers, which means that the proposal presented by the Commission will be amended in that part. That is because the idea is to reinforce as much as possible the separation between monetary policy and supervision within the ECB, which means going to the extreme possible in reducing the role of the governing council as regards supervision.
The treaty, of course, talks about the ECB and the governing council is the deciding body of the ECB. But the supervisory board will have to have a very important role in taking the decisions, in particular if the decision of member states is to make possible a more balanced participation of countries that do not belong to the euro area by joining the supervisory mechanism. The summit itself found the guidelines and the orientation; it is for the lawyers now to draft the final version, allowing that all these problems can indeed be solved.
Lord Vallance of Tummel: Vice-President, from your own professional point of view, given your experience would you not prefer to have supervision completely independent from monetary policy?
Vitor Constâncio: Not really, no. The governing council of the ECB approved in 2001 a document about the advantages of giving the responsibilities of supervision to central banks, so it is not a new position. I was then already a member of the governing council, although that was then in my capacity as a national governor, but that document was approved in 2001. We have remained faithful to that view that central banks have many very important reasons to be involved in supervision.
If anything, the recent crisis reinforced all those arguments. It is not by chance but as the result of the lessons learnt in the crisis that there is now a sort of global tendency to shift supervision again towards central banks. Apparently, this is going to happen in the UK. As you know, it was announced and decided by the Government. It has happened in the US, where the Fed received under Dodd-Frank many more competencies regarding supervision, in particular over significant institutions. It is happening everywhere, the reason being that nowadays it is no longer really possible to distinguish the microsupervision of individual institutions from what is going on in the financial sector as a whole. It may be the case—as it was in many ways during the crisis—that when looking at individual institutions everything seems to be all right, yet the system as a whole is creating the source of huge imbalances. This overall view about the financial sector is something that the central banks really have the vocation to be very much aware of. There is a big gain in joining these two views of prudential supervision and central banks are better prepared to do so than other institutions. There are, clearly, very important synergies in this respect; I would say that that is the main reason why we see this trend in the world. Central banks have information directly from what is going on in the money markets and financial markets in a way that other institutions do not.
Of course, there are risks; there are no perfect solutions anywhere on anything. There are two main risks for central banks resulting from taking the responsibilities also for supervision. The main one, as I see it, is in potential reputation risks. Supervision is a very delicate thing and supervisors cannot see everything that is going on in an institution; that is impossible. By definition, we live in a system where significant margins of decision-making are fully decentralised to the private sector so, yes, there are risks of reputation. There are also some underlying potential conflicts between the objectives of monetary policy and those of supervision. I think this second potential problem is very much exaggerated, for two reasons.
First, it is clear that in many cases central banks have as their mandate in monetary policy a clearly defined mandate in the law—this is so in our case—in the sense of a hierarchical mandate. Price stability comes first; that is clear, and the main reputation of the institution is dependent on achieving that priority goal. Then, of course, whatever its mandate no central bank would compromise on monetary policy because it is told that one or two institutions required some treatment. No central bank would do that and if we are then talking about a general problem of the banking sector as a whole, since the 19th century no central bank ignores its role of providing liquidity in a financial crisis. It has been done in the UK, in particular since the 19th century. That happens in a financial crisis, regardless of the central bank having supervision or not. It happened in this crisis. All central banks did it because at that moment of financial crisis and the lack of liquidity in the system as a whole, there is no risk of inflation. Precisely, the financial crisis creates the recessionary conditions implying that there is no inflation risk. This conflict, which is mentioned many times, is really exaggerated as no central banks will compromise the main role that they have in our economies: to care for price stability.
Lord Vallance of Tummel: Thank you, Vice-President. Can I bring you back to a point that you made earlier, regarding how the new mechanism works for member states that wish to participate in it but are, at least to date, not members of the eurozone? Although non-euro member states will be able to opt in to the new arrangements, they will not enjoy voting rights in the new supervisory arrangement. Does this make sense to you?
Vitor Constâncio: As I hinted before, that is something that will be changed after the recent summit. I cannot tell you exactly how it will be done because it is not yet drafted but the political decision was taken at the summit to change it, so I think that we will very soon have details of the new arrangements for the governance of the single supervisory mechanism. The particular situation that you mentioned will certainly be changed.
The Chairman: We hope that that new arrangement will afford the greatest transparency for decision-making. Baroness Prosser?
Baroness Prosser: Thank you very much and good afternoon. This brings us neatly on to the question of accountability. You have talked about the decision-making structures within the European Banking Authority and the European Central Bank, but the Commission itself has asserted that the ECB “will be subject to strong accountability provisions”, including to the European Parliament and the Council. In its words, it has introduced that “to ensure that it uses its supervisory powers in the most effective and proportionate way”. How will you respond to those who will argue that if the ECB is to take on such significant new supervisory responsibilities, its accountability mechanisms must be made more robust? What do you think the ECB will do to ensure that it provides the public accountability that is expected of bank supervisors?
Vitor Constâncio: The type of accountability that the ECB will have to respect in its role as a supervisor in the single supervisory mechanism will be of the same type that national supervisors have nowadays in their own countries. It will not be very much different in that respect, which means that the appearances, reports and explanations given to the European Parliament and the European Council will have to happen more regularly and openly than has been the case with monetary policy. That is stronger accountability than was mentioned in the Commission’s proposal in that respect.
In monetary policy, the central bank is fully independent. We issue explanations and have a press conference on the day that we take decisions, so the President of the ECB goes at least quarterly to the European Parliament. All that exists, but being totally independent in that matter of monetary policy of course implies that, legally, the degree of explanation can be more condensed than in the case of supervision, where accountability in terms of regular meetings and testimonies to the Parliament and the European Council means that we will have to be totally open about the decisions that are taken. This will be the same type of accountability that already exists in member countries regarding their national supervisors.
Baroness Prosser: You talked earlier about conflicts between the objectives of supervision and monetary policy. I think you were arguing that you did not think there was such a conflict, but this is a whole new process and much more detailed. You just implied that reporting may be as detailed or may be a little less, depending on who is reporting, if I understood you correctly.
Vitor Constâncio: No, the separation of monetary policy from supervision entails many aspects. One has to do with governance, which I already talked about, but there are more. Also, internally we will have different business areas dealing with monetary policy and supervision. We will have different meetings and bodies because the supervisory board will deal only with supervisory matters, while the governing council deals with monetary policy. The firewalls that will exist inside the institution will be respected on separation and the separation will also exist in terms of external accountability, in the sense that different sessions, reports and hearings will deal with monetary policy on one side and supervision on the other. There will be that total separation.
On the possible conflict that some mention, I tried to explain my view: that in the end, in practice, no central bank will compromise its role in monetary policy because of a supervisory role. As I have said, if there is a general problem of financial instability and collapse—or the possibility of a collapse of the banking sector—then the central bank, even if it does not supervise, will have to deal with that situation. That has been the rule since, historically, there were central banks. Historically, the main reason they were created was to deal with this sort of financial stability. At the time, there was no concept of monetary policy being an instrument to control inflation but the central bank has to do that in a crisis, without risking inflation, because in such a crisis the economy becomes weaker and there are no inflationary pressures. I tried to explain why these things are compatible—in particular, as is the case with the ECB, when there is a clear legal and hierarchical mandate. The division and separation go through many aspects and the lines of accountability will then be very clear and separated.
The Chairman: Do you ever learn anything from the European Parliament, when you and Mr Mario Draghi go before it, about the work that you are doing. Do they inform you? Do you see things differently as a result of your engagement with the European Parliament?
Vitor Constâncio: Yes, that engagement has been very extensive over the years. As you know, the President in particular goes there regularly. This interaction has consequences, as for instance was the case in the discussion of all this European legislation regarding the creation of the EBA and the European Systemic Risk Board. On all that, this interaction with the Parliament led to new compromises and understandings. I think that the same will happen in this case. It has not yet started in full because there is still no proposal by the Council but it will happen during the trialogue and, yes, we already have contacts with the European Parliament and the Commission about all this.
Viscount Brookeborough: Good afternoon, Mr Vice-President. Before I ask our question, can I ask you just a little about what you have described comfortably as the staged response to a crisis developing, of seeing the early signs of it and the supervisors therefore being able to do something at that stage and going on to resolution? Do you really think, taking the current crisis and its origins, that you will see the early signs?
Vitor Constâncio: Yes.
Viscount Brookeborough: Secondly, at one stage you mentioned monitoring. Supervisors, by nature of their definition, are bound to want to interfere to a greater extent than an observer. Do you not think that there would be an inclination for them to interfere at too early a stage, if indeed they can see the early signs? Can we see those anyway?
Vitor Constâncio: Yes, I think everyone has learnt lessons from the last crisis. It was already clear from other crises in history that financial crises are normally associated with a big increase in credit growth and in the leveraging of financial institutions. Those signs were clear for quite a while, although part of those increases in leveraging and credit growth were not fully seen because they were done in what has been called the shadow banking part of the financial sector. It is true that, all over the world, regulators were not fully aware of what was going on in this shadow banking sector. It added a lot to the increase in financing and leverage in the system. Those lessons have been learned and all the effort that has since been developed internationally by the Financial Stability Board and the G20 is to devise regulations that will deal with all these aspects of the financial sector, including the shadow banking sector. That is a work stream of the Financial Stability Board, which will present proposals to the G20 next year.
The Basel committee also introduced the new concept of imposing not only a capital ratio but a leverage ratio on banks—considering not risk-weighted assets but assets as such. There are new prudential ratios and methods, and lessons have been learned so that everyone is much better equipped to detect signs of financial imbalances being built into the system. The other element being developed is the lesson that the interconnectedness of financial institutions has increased enormously. Pure contagion effects can really accelerate and aggravate a financial crisis, so methods to detect this interconnectedness and analyse its consequences—and the measures to mitigate it—are also being developed. These aspects have improved a lot.
We know from history that authorities have tried many times to fight the previous battle and then new elements appear. We are all aware of that but with the broad view of monitoring and controlling the overall leverage of the system we can be more effective, even if new instruments are developed by the financial institutions. I think we can do that. There is always the question you raised, of whether one might intervene too early. It is a judgment call; internationally, authorities—in particular the Bank for International Settlements in Basel—started to talk about the risks very early on: in 2002, 2003 and 2004.
Other institutions also issued some warnings, perhaps not strongly enough, but there was a reluctance to interfere because the idea at the time was that the financial sector was very efficient, so that risk was being disseminated and the system was more robust. In the end, we saw that that was not the case and we learned a lesson about that. The financial sector is not totally self-correcting, as some thought before. It can generate crises that have real effects and are very significant. It can be a source of real fluctuations in the economy but now I think we will be much more aware of those possibilities. So there is a judgment call but we are better prepared to intervene in time, and the limits on capital and leverage will deal with some of the main risks.
Lord Vallance of Tummel: We come to the roles of and relationships between the ECB and the EBA, which need to be absolutely clear and workable if all these arrangements are to go. The Commission has published a proposal to amend the regulation establishing the EBA with that in mind. These relationships are inherently asymmetrical in that the EBA covers the whole of the European Union, whereas the ECB does not. Do you believe that the Commission’s proposals will achieve clarity and effectiveness, or do you believe that the EBA’s role needs to be strengthened further for that to come about? If so, how?
Vitor Constâncio: As I mentioned, the Commission’s proposal fully respects the division of responsibilities between the EBA and any supervisor, including the ECB, in that it is clear that it is for the EBA to approve secondary regulation. No supervisor can change what has been called the single rulebook for the single market for the 27—the single supervisory mechanism. The ECB cannot pass new regulations; it is clear that it is for the Commission and the EBA to do that. That line is very well defined. It is for the EBA to monitor that all supervisors implement correctly the European legislation on supervision. We, as one supervisor among many, will have to be as much subject to that monitoring as any other. That is also very clear in the proposals. Therefore, in terms of the respective roles, there is no ambiguity in the proposals of the Commission—none whatever.
The EBA retains its powers, which are already stated in legislation, in its role as a mediator in case of conflict between two different supervisors. This includes the possibility of having a binding mediation between two supervisors. We should be subject to the same procedure of mediation as any other supervisor. As a conclusion, the Commission proposals fully respect the roles of both entities with regard to the single market for the 27 and the implementation of the single rulebook.
Lord Vallance of Tummel: The UK Government have pointed out that, as the ECB is an EU institution, it cannot legally be bound by EBA decisions on such aspects as binding mediation. Perhaps the new arrangements are not ambiguous but is it not a strange asymmetry that other national authorities and supervisory bodies are bound by the EBA but the ECB is not?
Vitor Constâncio: We accept that we will be bound in the same way as any other supervisor. We make a distinction between our role in monetary policy, where we are fully independent according to the treaty, and this new role of banking supervision.
The regulation is approved unanimously by the 27 under the terms of Article 127 and defines the specific tasks and role of the ECB in the matter of supervision. That is not to be confused with monetary policy and our full independence there. These are two separate things because Article 127 refers precisely to the fact that these new responsibilities can be given by a Council regulation. This means that in the treaty itself the role of supervision is not defined as an objective within the role of the ECB. It must be given by a new regulation and this new regulation can legally define the terms that give those supervisory tasks to the ECB.
Lord Vallance of Tummel: Can we move on to voting procedures, where there is another element of asymmetry? The UK Government have argued that, since the ECB regulation specifies that the ECB shall now “coordinate and express a common position of representatives from competent authorities of the participating Member States”, that effectively means that participating member states will be required to caucus. If that is the case, it risks ECB domination of EBA decision-making. No matter what the de jure position may be, de facto you may very well find that the ECB dominates the setting of the regulations as well as the application for the supervision.
Vitor Constâncio: I agree that the second question that you now raise is different from the first. On the first, as I said, I see no asymmetry and no problem in overcoming any ambiguity that could exist in the draft that was presented. I am sure that, if there is any ambiguity, it will be corrected in the final version. That is the first possible asymmetry that you mentioned.
The second is the concern that it is more justified. If one were to be totally formal, one would say that given that a monetary union of 17 member countries already exists, the logic of monetary union by itself should, in principle, on many occasions lead the 17 countries to hold the same views about what the EBA does. This sort of convergence of views or interests could very well happen now when there is no supervisory mechanism. That problem is a general consequence of there being a monetary union inside the 27. However, it is not really a problem that we, as the ECB, feel that we have to take a position on, make recommendations on or whatever. We see that it is not our role to do so in respect of the problem that was raised by the UK in particular. It is something that we expect to be solved. I understand the concern, so if some reinforcement of the protection for minorities were to be introduced into the voting procedures of the EBA, we would have no objection. As I said, it is not something with which we have engaged with great interest because we feel that this is a problem for the member states to address and, we hope, to solve in the appropriate way.
Lord Vallance of Tummel: May I ask you about another relationship? How do you foresee the relationship between the ECB, with its macroprudential supervisory role, and the European Systemic Risk Board, the ESRB? How will that work?
Vitor Constâncio: As you know, the ESRB is for the 27 and can issue only warnings and recommendations. Legislation gave no instruments to the ESRB. It will continue to do its job in analysing financial stability in the 27 and to issue warnings and recommendations. Presumably it will issue—it has done so—recommendations to any particular supervisor or group of supervisors. So it can issue recommendations for the single supervisory mechanism in the same way as to any other supervisor. As it was conceived—it is now in legislation—the ESRB can continue to have a role in the system of European supervision.
As you know, it is also foreseen in the legislation itself that in 2014 there will be a review of any revision that was approved to the legislation. We will see how this will happen. I should also say that this reflection could be influenced by the number of countries that, in the end, will join the single supervisory mechanism.
Lord Vallance of Tummel: Given your unique perspective on what is going on in most of the banking system, do you see there being strong communication between you and the ESRB in future?
Vitor Constâncio: Yes, that already exists, as you know. According to the present legislation, the ECB was given the role of providing the ESRB with all analytical, statistical and logistical support, and we have done so. We have the whole business area of financial stability, in which we have already worked a lot on all aspects of macroprudential policies, developing the instruments to analyse risks in the financial sector and individual institutions of all 27 countries. We collaborated closely with the EBA when it conducted stress tests on the banks of the EU. We have also provided analytical support to the EBA and the ESRB. We will continue to do so in the future for the interest of that interaction and because it is in the legislation of the ESRB itself.
Lord Dear: Thank you for your continued time this afternoon. It would help us to turn our attention to the RRD, the recovery and resolution directive. In particular, we would like to get a feel for your assessment of that. For the record, the Commission has brought forward a proposed directive, COM 280, to establish a framework for the recovery and resolution of credit institutions that are in trouble, particularly a proposed bail-in tool and some more minimum resolution tools. It would help us if you could give a view on the purpose of those tools and how they will be effective, and a comment on the fact that our Government have expressed concern that the special manager tool might result in a significant risk, in that it would speed up an institution’s failure. I do not know whether you would agree with that. Could you give us a view on it?
Vitor Constâncio: My view will be based on the early opinion that the ECB issued when the Commission published so-called communications about the issue. We are yet to approve our formal opinion on the draft directive. We are about to approve it but it is still not fully done. So what I say here will be more an expression of my own opinion than an institutional view, although I will be careful enough. I assume that the views that we have developed in the ECB will in the end be approved by the governing council.
We broadly welcome and agree with the approach taken by the Commission. We think it is necessary to harmonise more national legislation on the resolution of financial institutions. Europe is bound to do so as a result of the international commitments that were made in the G20. The FSB (Financial Stability Board) and the G20 in Cannes approved the key attributes of resolution laws and the intention of the G20 is precisely to harmonise national laws internationally in a better way to facilitate the process of resolving international, cross-border institutions. By presenting this draft directive, the Commission is mostly fulfilling the European commitment to having this approach approved within the G20. That includes bail-in tools. They are part of the key attributes of a good resolution regime.
In our opinion we expressed the view that besides the general bail-in tool that is in the draft directive, for big banks we could also have bail-in instruments that could be issued as such to the market, and even impose a minimum of such instruments that the big institutions would have to have. That would facilitate the process of dealing with “too big to fail” institutions. However, what is in the directive is just a general approach to bail-in tools, as they are generally mentioned in the key attributes approved by the G20. It is an important tool and I do not think it will create the problem that you mention.
We just have to compare with a sort of role model in the area of the resolution of banks—that is, the US institutions, particularly the FDIC (Federal Deposit Insurance Corporation). The FDIC, the deposit, insurance and resolution authority in the United States, has been given by law the same type of powers as are contemplated in the Commission’s draft directive. It has early intervention powers and can immediately take over a financial institution that has triggered the indicators that show that it is about to have problems or has attained the point of non-viability. When the FDIC decides to do that, it has full powers to resolve the institution totally by creating bridge banks, separating a good bank from a bad bank, appointing managers to the institution and selling or merging the institution. All that has happened in the US during a weekend. Since 2008, the FDIC has resolved more than 400 banks without any great turbulence. It was a smooth process. In the US, the FDIC has very wide powers of overruling normal rights, including those of shareholders, as they exist in law, in the name of needing to deal with the potential failure of a financial institution. That has economic and social externalities which imply that the failure of a financial institution bears no comparison whatever with the failure of any type of non-financial institution. This is fully recognised in American legislation.
Many in Europe would like, if possible, a sort of European FDIC. That is not on the table right now. What is on the table is a draft directive of the Commission that intends to harmonise national laws. These are principles for national laws, national resolution authorities and national entities to implement. It is not yet the creation of any sort of European resolution.
We think that, because of the specific nature of financial institutions, the way to deal with those that are in trouble must be different from that for any other firms. It is important that the authorities have these wide powers to resolve institutions. The principle of dealing with “too big to fail” institutions is the same. The crisis has shown that, when there is a crisis, the taxpayer can be called on to put forward money in a big way. The way to avoid that is to have resolution regimes that allow the burdening of the interests of shareholders and creditors to reduce the amount of taxpayers’ money needed to resolve financial institutions. Resolution must be very clearly distinguished from the bail-out of institutions. The draft directive and the possible future European resolution authorities are for resolution—to protect taxpayers as far as possible from having to save banks.
Bail-out is about saving banks. If countries and Governments want to save banks, that is their own responsibility, which is different from resolution. They will have to find the capital to recapitalise their banks. These are the sort of instruments that are necessary to mitigate—to reduce as much as possible—the resolution of financial institutions in a crisis.
The Chairman: Mr Vice-President, you have given us an hour and 20 minutes of your time. My concluding question is simply: if the United Kingdom abstains or stays on the sidelines when this is happening, how much more difficult will it be for you and your colleagues at the ECB to perform the tasks that you have been charged with?
Vitor Constâncio: The difference is not really significant. What do we have now? We already have many UK financial institutions that have a significant presence in other EU member countries, either with branches or subsidiaries. Nowadays, that is dealt with by the national supervisors. Some UK banks have very sizeable subsidiaries in other member countries. When it is a subsidiary, it is supervised by the national supervisor.
In principle, there is at least one such subsidiary that is so important that it may fulfil the conditions to be one of the institutions that will be supervised directly by the ECB. There will be no change. Nowadays, it is supervised by a national supervisor.
Then, for the institutions that have branches, colleges of supervisors have already been created. These meet regularly with the management of such institutions to discuss the problems of such institutions and the group as a whole, and to try to co-ordinate, understand and exchange information about the situation of the institution in all the countries where it has a presence. These colleges of supervisors are important instruments. The EBA also has an important role in these colleges of supervisors—all that will continue. One more supervisor will join these colleges and that will be the ECB. That is the difference. These entities are already very important instruments for co-ordinating intervention and the exchange of information among the relevant supervisors.
The Chairman: As promised, I will conclude the matter there. I apologise to some of my colleagues for not having been able to reach the questions about the credit guarantee scheme, the Liikanen report and some other aspects of the United Kingdom’s role in all this.
Vitor Constâncio: I could be very brief.
The Chairman: If you are able to talk about the deposit guarantee scheme, I would be very grateful.
Vitor Constâncio: As I said, I think that the deposit insurance scheme will come later, not in the very near future. There are of course concerns that, in the present crisis situation, it could entail significant potential commitments by member states, so it will have to wait. As I said, it is not as vital as having the main elements of banking union, which are supervision and resolution. I accept the notion that deposit insurance will come when other elements of fiscal integration have progressed.
Regarding the Liikanen group, I think it is an intelligent compromise between the so-called Vickers proposals and the Volcker rule. It is somewhere between both approaches to some of the problems of institutions that, although funded by depositors from the general public, have embarked on proprietary trading and other, riskier activities that put deposits at risk and force the authorities to intervene. It is an intelligent compromise. I do not know whether the Commission will pick it up and transform it into a proposal; we will have to wait. So the ECB does not yet have an opinion on the issue. We have broadly welcomed the proposal but have not yet expressed a view. Personally, I think it is a good basis on which to deal with the problem of proprietary trading.
The Chairman: Vice-President Constâncio, I will send you a transcript of our exchange this morning and ask you to correct that. If you have further ideas, please communicate them to us, especially on some of those items that we did not tackle in depth. We are most grateful that you found time for an hour and a half’s conversation with the Committee. Not only do we thank you, but any time that you are in London and would like to see us formally or informally, we would be very pleased to receive you here in the House of Lords. In the mean time, obrigado and thank you very much.