Edgar Meister: European financial supervision - next steps
Lecture by Mr Edgar Meister, Member of the Executive Board of the Deutsche Bundesbank, at the
"Kangaroo group breakfast debate", European Parliament, Brussels, 29 March 2007.
* * *
I
Ladies and gentlemen
I wish to begin by thanking the hosts for inviting me to today's "working breakfast". It is a particular
pleasure for me to share with you some of my thoughts on the future of financial supervision in
Europe.
The prime objective for financial supervisors is to maintain the efficiency and stability of the financial
system. This is already a challenge at the national level and is increasingly becoming one in a
European context as well. The key question is "What should be the optimum design of financial market
regulation and supervision?" There is no easy answer to this question. However, there are some
criteria we can list.
1. Supervision should be risk-oriented.
2. Priority should be given to principle-based rules over detailed regulations for every specific
case.
3. Supervisors and their rules should place as minor a burden as possible on institutions - but
still be effective to achieve the objectives pursued.
4.
When developing prudential rules, supervisors should consult with credit institutions at an
early stage in order to incorporate market expertise and to define rules which are consistent
with market conditions.
5. Given open banking markets, prudential rules should be applicable throughout Europe and
worldwide.
II
It is, of course, difficult to put these criteria into practice perfectly at all times. However, we have
already achieved much in Europe. Let me cite some examples.
One is introduction of the Lamfalussy procedure: a precondition for speeding up and enhancing the
efficiency of the legislative process in Europe by involving supervisory experts and the financial
industry.
Measures aiming at "better regulation" recently tackled by the Commission are another important and
proper step. These measures cover improving the legislative process, open and transparent
consultations, impact assessments which include financial stability aspects, improved monitoring of
implementation, better enforcement of Community law and ex post evaluations. This approach is
widely supported by supervisors and the industry alike.
"Better regulation", in my opinion, needs to include granting a "regulatory pause". Considerable efforts
have been made in recent years to create the regulatory environment for an integrated European
capital and financial services market. However, these measures - especially the implementation of
Basel II and the CRD - have placed, and are still placing, a substantial burden on the financial
industry. Now, complaints are beginning to be heard from the industry about what it sees as a
bureaucratic overreaction.
Therefore, only absolutely necessary regulatory projects should be launched. We should focus on
implementing and consolidating the existing provisions. In doing so, we should ensure that this is done
prudently and, as far as possible, in a "market-friendly" manner in order to avoid any unnecessary
administrative burdens.
The new German Liquidity Regulation, which came into effect on 1 January 2007, is one example of
such "market-friendly" regulation. This gives credit institutions, for the first time, the option of using
their own internal liquidity risk measurement and management systems in order to limit liquidity risk for
prudential purposes. Such internal procedures need to meet certain requirements, compliance with
which is assessed by supervisors in an approval examination. Approval for institutions to use their own
procedures eases the administrative workload of dual counting for the purposes of internal
management and the purposes of supervision. This is a new approach - in an international context,
too - and could well inject new life into the debate: both within the EU and among international
standard-setters.
Another key issue is enhancing convergence in supervisory practice and cooperation between
supervisory authorities in Europe. In banking supervision, this is one of the key tasks of the
"Committee of European Banking Supervisors (CEBS). And CEBS has already made some progress
and set things in motion in this area.
• Supervisory Disclosure: Publication of national rules, in other words: acts and
implementing provisions, options and national discretions, criteria and methodologies of the
Supervisory Review Process, and so on, on the CEBS website since the beginning of 2007.
• this working group has been dealing with the
Task Force "New Tools for Convergence":
development of new instruments to promote supervisory convergence, especially a
mediation procedure for resolving potential disputes between supervisory authorities. Other
aims include staff exchanges and training programmes designed to foster the emergence of
a "common European supervisory culture".
•
Operational Networks consisting of the line supervisors from authorities involved in
supervision through a cross-border group of banks. The aim is to improve the flow of
information exchange and cooperation, thereby reducing the supervisory workload for these
institutions.
Close cooperation has also emerged in the area of stability analysis. Examples that come to mind are
the work of the ESCB's "Banking Supervision Committee" (BSC) with its focus on analysing financial
stability and structural developments, as well as the regular discussions at the "EFC Stability Table".
However, supervisors and central banks in the EU have also taken precautions for the event of a
crisis. In 2003, for instance, the BSC reached an agreement on cross-border cooperation and on the
exchange of information between supervisory authorities and central banks. In 2005, the finance
ministries joined this agreement. To avoid any misunderstanding: we are not talking here about
guaranteed financial assistance for individual institutions. All the institutions involved agree that
responsibility for solving problems rests first and foremost with the market players themselves.
Nevertheless, a framework for the better handling of systemic risks has been put in place.
III
Despite all this progress, there are still many items left on the agenda. Let me pick out three of them.
Europe's supervisory structures are under non-stop scrutiny. Just recently, the "Inter-Institutional
Monitoring Group" presented its 2007 interim report on the Lamfalussy procedure. The report calls for
greater efforts in making progress with level 3 supervisory cooperation - which, for banking
supervision, means within CEBS. I rate this, first of all, as an endorsement of the cooperative model of
supervision in Europe. That further efforts are needed is beyond dispute, and this is something of
which all the responsible national supervisors are aware. What is important, however, is that these
structures - which were created only a few years ago - are given the necessary time to achieve the
consistent progress.
Even so, there are occasionally calls from some banks to move European supervisory structures in the
direction of a "lead supervisor" or even a centralised European supervisory authority to supervise large
institutions active throughout Europe. Most European banking supervisors1, including the
Bundesbank, have tended to be critical of this idea in their initial analyses. In its White Paper, the
Commission, too, has advocated stepping up cooperation within the established structures and
pressing ahead with the convergence of supervisory rules.
Still, please allow me to make some remarks on the concept of a "lead supervisor". In this supervisory
model, the home-country supervisor responsible for the parent of a financial group would take on the
function of a lead supervisor for all of the group's subsidiaries and branches as well as in all
subsectors of ongoing supervision throughout Europe. Large European banks have repeatedly
advocated this model recently. From the point of view of regulators, however, there are some
implications that need to be borne in mind.
•
Supervisors in the host countries of cross-border banking groups would sacrifice much of
their competency and sovereignty, even though these banks are systemically relevant in
their respective markets. This primarily affects the new EU member states.
•
"Level playing field" issues would arise if large banks supervised by the home-country
supervisor - for example, in the reference market - were governed by rules which differ from
those applying to banks that are not active across borders.
On the issue of a "centralised European supervisory authority"2: this would be predicated on the
existence of a number of conditions in order to enable effective and efficient supervisory activity. The
most important - and especially problematic - aspects include
•
Creating the conditions under European law to establish a centralised European supervisor,
including amending the EC Treaties;
• Creating a single material supervisory (procedural) law;
• The absence of uniform insolvency legislation in the EU;
•
The issue of creating a "two-class society" of financial institutions regulated by a European
supervisor and those which are regulated by national supervisors yet simultaneously active
in the same market.
We must not forget the far-reaching political implications, either. After all, national supervisors in
Europe would have to hand over a large chunk of their political sovereignty. This also raises the issue
of the democratic legitimacy of such a centralised structure. I believe that, so far, there has been too
little or no discussion at all, of these aspects, which at the end of the day affect the question of a
political union of European countries. Here, politicians have to achieve results before banking
supervisors can work on designing a European supervisory framework.
IV
While talking about work in CEBS, I mentioned the concept of "mediation". This procedure originated
in the securities field; in certain cases, mediation is governed by directives. The Market Abuse
Directive, for instance, envisages mediation by the "Committee of European Securities Regulators
(CESR)" in the event that, in a case of suspected cross-border market manipulation, one of the
responsible securities supervisors refuses to turn over the necessary information. MiFID calls for using
mediation in disputes concerning determining the most liquid market for a given financial instrument.
At the initiative of politicians (Financial Services Committee, FSC), work is now under way on
establishing mediation within CEBS as well.
Transferring a procedure that was designed for securities trading raises a number of questions. Unlike
in the securities sector, in the banking field mediation does not have a legal foundation. Although
mediation is voluntary, and its results legally non-binding, considerable "moral" pressure to abide by
the results is likely to be created. Moreover, it is not just specific "cases" or "products" which are at
issue in CEBS to become subject to mediation but large sections of supervision. It must also be noted
that the competencies of the potential mediation parties differ in the field of banking, depending on
whether they are home or host supervisors.
At the same time, the question of need for a mediation also arises in some areas. Thus, for instance, it
is an option for approving group-wide risk-measurement procedures pursuant to Article 129 (2) of the
CRD. However, CEBS has already developed "Guidelines on Validation" with the aim of reaching a
common decision within the six-month period. Seen in that light, the use of meditation might be
criticised as an example of excessive bureaucracy.
Mediation cannot - and must not be allowed to - undermine the European or national legal
framework. Although areas such as "legal proceedings" and "national legislation" are not being
envisaged as objects of mediation, the possibility of subjecting national discretion - and, thus, national
legislation - to mediation has not been clearly ruled out, either.
Conclusion: careful thought should be given to the areas to which such a procedure is to be applied.
Although mediation may help, it could also cause harm if the legal framework were abandoned entirely
or interpreted too broadly. Mediation is not a new "Lamfalussy procedure" for adopting legislation but
merely a tool for resolving disputes within the framework of supervisory cooperation.
V
Now, a few words on how to act in a crisis. Each crisis is different and therefore calls for flexibility in
action. What is at stake is safeguarding the stability and efficiency of a financial system and, in some
cases, also the use of taxpayers' money. The existing agreements take account of these factors. More
extensive initiatives, going as far as to prescribe courses of action or even automatic mechanisms in
the use of supervisory instruments, would miss the mark altogether.
ex ante
A critical view should also be taken of "burden sharing" agreements in the event of a
crossborder crisis. These are ideas of a more theoretical nature whose practical implementation would pose
severe problems. Cost allocation rules would also involve setting certain steps in the decision-making
process. Such ex ante agreements could lead to a far-reaching loss of political sovereignty and to
interference in national budgetary sovereignty. In addition, the costs of crisis management are largely
the result of discretionary decisions taken during the crisis itself, such as on whether to save or
ex ex post
liquidate a company. It is therefore not possible to calculate the costs ante, and even an
calculation would pose problems.
VI
The conclusion we may draw is that the European cooperation-based supervisory system is currently
a politically optimum structure under the existing conditions, by which I mean the absence of a political
union. Supervision in Europe is well set up, cooperation is working efficiently and will be stepped up
further.
Cooperation is the key! Cooperation between supervisory authorities, in other words: the supervisory
colleges for the major banking groups, but also through common training, bears considerable potential
for enhancing supervisory practice and reducing the costs of supervision to institutions. In a world of
increasingly integrated markets, the institutions rightly expect this from us.
However, the integration of markets and the harmonisation of supervisory rules and practices are not
goals in themselves. Integration should not be equated with uniform products and terms. Variety in the
players' behaviour, products and markets is the way to address customer needs which are
characterised by differences in cultures. It can also contribute to financial stability. Everyone doing the
same thing or providing exactly the same products would increase the risk of "herding behaviour",
which would potentially have undesirable effects for stability. Also, the process of financial market
integration should be driven by the markets and not by regulators.
As I see it, excessive harmonisation or even complete standardisation of supervisory rules and
practices would go beyond the current reality of market structures in Europe, especially in retail
banking. Completely harmonised products in the mortgage lending sector, for instance, would be the
wrong approach. In Germany, fixed-rate mortgage loans combined with prepayment penalties are an
established practice for which there is a demand. It gives customers the certainty to make plans even
beyond an interest rate cycle. The problems currently afflicting the US property market show the
impact that variable rates in this segment can have on customers and, ultimately, also on financial
stability. Stability should always be an additional consideration when devising regulatory measures.
The limits of regulatory integration and harmonisation lie at the point where stability is put at risk!
Thank you for your attention.