EU: SRM Deal and Banking Union, (in Plain German-English)

Published on March 19, 2014

ECB Executive Board Member Yves Mersch warned last week that a failure by EU political leaders to reach an agreement on the long-debated bank backstop facilities – the SRM (Single Resolution Mechanism) and SRF (Single Resolution Fund) – would be inconceivable, because failure would be tantamount to committing economic “suicide.”

That statement may have represented just a bit of “Luxembourgish” hyperbole and flair, but the EU is nevertheless stumbling towards an agreement, which will indeed be a positive development, albeit as is often the case with such negotiations, one that will leave most parties, including the ECB, somewhat unsatisfied.

*** The Parliament is working along three lines: (1) trying to exclude the European Council (the finance ministers) from the decision-making process, (2) shortening the transition to both the build-up of money and the mutualization between member states of the Resolution Fund, and (3) allowing the fund to have a line of credit with the ESM. ***

*** The Council (read Germany) will, from what we understand, be prepared to compromise on the funding and money elements, the transition towards the build-up and – perhaps – pace of mutualization of the fund, but not on any of the other Parliament’s requests, namely the ultimate decision making power, nor, at least for now, on utilizing the ESM as a credit line backstop. ***

Substantial differences therefore remain in the approaches of the two legislative bodies – the European Council and European Parliament – and the Parliament has repeatedly stated its unwillingness to even start negotiations on the basis of the December 20 Council proposal.

In order to turn things around before the May European elections, EP President Martin Schulz has quietly asked a more senior Social-Democrat MEP to help with the negotiations. This seems to have worked given that, as things stand, it appears there are very strong chances that a compromise will be reached today – or at worst after the European Council this weekend if the Parliament decides to put pressure on Member States to commit before it does so itself.

Timing, Money, and Decision-Making

Representatives from the Greek semester Presidency, Members of the European Parliament’s ECON Committee and European Commission officials are meeting today (in a “trialogue”) to fine-tune the SRM Regulation in order to find agreement on the next leg of the banking union.

Once a text is agreed, both the Council and the Parliament will need to approve the legislation, but time is running out as the May 22-25 European Parliamentary elections approach. This weekend is the last Council meeting before the elections (although there could be an extraordinary one called just in case) and the last Parliamentary plenary of this legislature will be in less than a month’s time, April 14 to 17.

As it currently stands, a Bank Resolution is triggered by a decision of the new ECB SSM (Single Supervisory Mechanism). The ball then goes to the “Single Resolution Board’s” court, which will consist of the finance ministers of the Eurozone countries (plus other countries that want to participate). The Board proposes a resolution path, which includes the (in)famous bail-in and then, possibly, money from the Resolution Fund.

The main issues are fundamentally twofold: first, the power of the European Council to amend resolution decisions and second, the referral to the Single Resolution Board plenary of all decisions to activate the Single Resolution Fund above certain thresholds. On the other hand, it is now accepted and uncontroversial that the SRF will be created using levies from banks, and its statute will be included in a separate inter-governmental agreement between Member States (since taxation is a competence that is exercised for the most part at a national level).

For a resolution plan to work, the Parliament – and the ECB, which has strongly lobbied in that direction, both behind the scenes and in numerous public speeches – argue that it should be capable of resolving a bank in a weekend, with a clear, simple path along the lines of the recently approved BRRD (a compulsory private sector 8% bail-in, with a precise creditor list order) and with the final participation, if needed, of the Single Resolution Fund (finally severing the ties between banks and sovereign).

According to the EP, if it took weeks to “resolve” Fortis in 2007, and there were only three countries involved, there is no guarantee that an even more politically charged environment would not come up with a decision needing to be made “over a weekend” once the SRM is in place.

Moreover, to activate the fund above certain thresholds, the Council proposal currently requires that the Resolution Board plenary meet, opening the daunting prospect of having slow decisions on very urgent matters. Germany has nevertheless said by no means can the Council be excluded. We believe there is slim to no chance of a compromise here, and Germany will prevail.

As to the negotiations over the funding of the war chest, the Resolution Fund build-up period is currently slated to be over 10 years according to the Council plan, and 3 years according to the Parliament’s proposal. It is very possible that a compromise will be found here somewhere between 6 and 8 years.

On the pace of mutualization of the funds (the funds are first put in national “compartments,” then over time mutualized for common use) the Parliament’s proposal is to go in the direction of allowing a “de-exponential” merger of the funds (i.e. instead of building by 10%, 10%, 10% for each of 10 years, starting from 40% of the funds mutualized for common use the first year, for instance, and then reducing the pace).

That is in order to address concerns that the biggest danger to markets may be at the very beginning.  There could be some sort of compromise agreement here on the pace of mutualization too.

Finally, the European Parliament would like the Resolution Fund to have a credit line from the ESM in the first few years of existence – when it will not be well funded yet. But the Council (and Germany) has no intention to letting go of this, and potentially opening the door to direct bank recapitalization from the ESM, at least for now.

We therefore believe there is little chance, at least for now, of a compromise on allowing the ESM to extend a line of credit to the SRF.

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