Panagiotis Thomopoulos: Banking regulation in Europe - a brief overview of
current developments
Speech by Mr Panagiotis Thomopoulos, Deputy Governor of the Bank of Greece, at an event
organised by the European Bank Training Network and the Hellenic Bank Association, Athens,
4 May 2006.
* * *
Good evening, Ladies and Gentlemen.
Allow me to begin by welcoming you to Athens and wishing you a pleasant stay. It is a great pleasure
and honour for me to address such a distinguished audience. I would also like to seize this opportunity
to thank the European Bank Training Network and the Hellenic Bank Association for organising this
event and all of you for your participation.
My objective here today is to provide you with a brief overview of the current developments in banking
regulation that are taking shape in the European "arena", and to outline the main challenges that
European regulators and supervisors face, as the degree of integration in the European financial
market increases.
Before presenting you with some of my thoughts on this subject - a subject which, I am sure, all of you
know well - I should like to say a few words about Greece, where I have a comparative advantage.
Disciplined by the requirements of euro area candidacy and membership, Greece succeeded in
lowering its inflation rate from over 16% in the fifteen years until almost the mid-1990s to just above
3% from 2000 onwards. At the same time, GDP growth rose from less than 1% in the first period to
almost 4% over the last ten years. The Greek economic scene has also been transformed thanks to
the advantages derived from euro area membership, including the stable macroeconomic environment
and low interest rates. The Olympic Games hosted in Athens in 2004 contributed, in turn, to creating a
favourable environment for growth. However, liberalisation and privatisations, as well as a
reinvigorated private entrepreneurial spirit, have been the principal growth-driving forces.
This spirit has manifested itself in Greece's re-orientation from an inward- to an outward-looking
economy. We now see ourselves as a dynamic part of South-East Europe, where large Greek
communities, numbering hundreds of thousands, after taking root in the distant past, continued over
the centuries to play an important role in the economic and social life of their respective countries. The
story of these communities goes back a long way, beginning in ancient Greece, followed by 5
centuries under the Roman Empire, then continuing for 1,000 years during Byzantium. Then came
nearly 600 years of Ottoman rule and, more recently, the communist take-over of these countries,
which resulted in an expulsion of all non-communist Greeks. After an interlude of some 50 years, the
historic forces are back at work. More than 5,000 Greek companies now operate in the neighbouring
Balkan countries and are among the main foreign investors in Bulgaria, Fyrom, Romania, Albania and,
more recently, Serbia. This development has resulted in a delocalisation of Greek industry to our
neighbouring countries and a steady inflow of migrant workers to Greece.
The Greek banking sector has also undergone a radical transformation, evolving from the highly
regulated sector it was 15 years ago, when the Bank of Greece set over 150 different levels of interest
rates to become a free, competitive and dynamic sector and a key pillar in Greece's successful
economic performance. Despite their relatively small size by European standards, the Greek banks '
high profitability has enabled them to build sound foundations. Just like other sectors, the Greek
banking sector has also expanded to South-East Europe. This offers Greek banks the opportunity to
benefit from the growth potential of a rapidly developing region with low levels of financial
intermediation, to increase their size and efficiency, and to continue to flourish in the very competitive
international financial environment. The market penetration of Greek banks, based on their total assets
in the neighbouring countries, ranges from 11% to over 30%. Moreover, the foreign claims of Greek
commercial banks on the Balkan region countries have reached almost €11 billion, which represents
25% of Greek banks' total foreign claims and 58% of their own funds.
Unfortunately, the state of the Greek economy is far from rosy and many challenges still lie ahead.
After euro area entry, fiscal discipline was relaxed and during the last five years the fiscal deficit has,
in fact, worsened. Only this year has it been budgeted to fall below 3% of GDP, while continuous
efforts will have to be maintained to reach a balanced position, as required by the EU.
Moreover, the euphoria after euro area entry prompted a '' money illusion '' with labour unions
demanding and obtaining high nominal wage increases, regardless of the impact on real incomes and
unemployment, as a result of the the loss of external competitiveness. This makes it even more urgent
and imperative to raise productivity growth further and develop high value- added activities. We,
therefore, need to intensify our structural adjustment efforts in the labour and product markets,
promote innovation and technology, and ease bureaucratic restrictions, as recommended in the
Lisbon agenda. My personal opinion is that the morass of bureaucracy is the main impediment to a
faster rate of growth. The Greek banking sector thus faces a double challenge: it has to apply all of the
new regulations, control mechanisms and risk-based methods (Basel II), while expanding rapidly both
in Greece and abroad, and, at the same time, from a risk management and internal control point of
view, it has to rapidly integrate its subsidiaries and branches in South-East Europe, where the
environment still differs from that of the average euro area country. Expansion toward potentially much
larger markets - Turkey, Poland and Egypt today and Ukraine tomorrow - calls for even better internal
risk exposure-monitoring systems. This is a parameter which the new capital adequacy framework, in
combination with the recently established regulatory framework on internal control, deals with.
The Bank of Greece, as the supervisory authority, has indeed been adapting its regulatory and
supervision apparatus to deal with the new challenges, and has encouraged the banking sector to
maintain a high Capital Adequacy Ratio (13% at the end of last year). This provides a more than
adequate buffer against the fact that uncovered non-performing loans are still slightly higher in Greece
than on average in the euro area and the fact that Greek banks are still benefiting from a favourable
cyclical phase and, therefore, have not yet experienced the adverse effects of a slowdown. In parallel,
given the specificities of Greece ' s banking system and economy, the Bank of Greece has imposed
stricter measures on some banks (e.g. a CAR much higher than 8%). Likewise, given the rapid growth
of lending to households (30% on average since 2001), the Bank of Greece has instructed banks that
debt-servicing burdens on households should not exceed 30-40% of disposable household income.
While adhering to the risk-based approach, which gives individual banks more freedom to estimate
their possible losses and manage their own risks, the Bank of Greece considers that the supervisory
authorities should always be alert (not to say, vigilant) and, when necessary, not only adjust the capital
requirements of individual banks, but also periodically test the internal control mechanisms and risk
management systems, in the context of Pillar III. Only as a last resort should other more direct
measures be applied.
Current developments
Now, getting back to the subject of today ' s conference: During most of the 1990s, efforts in the
financial services sector were focused on achieving a smooth changeover to the single European
currency. However, once the euro was successfully introduced, attention shifted to improving the
functioning of the single European financial market. The late 1990s saw the launching of an ambitious
plan - the Financial Services Action Plan - , which contained a series of legislative and other measures
that would allow the European financial services sector to gradually realise its full potential.
Since then, major changes have taken and are still taking place in the financial regulation landscape.
The most outstanding of them, in the banking sector, is the forthcoming new capital requirements
framework, which is one of the final measures of the EU Financial Services Action Plan.
The new capital requirements framework
The new Directive - or CRD as it is called - will make the existing banking supervision framework more
risk-sensitive and will promote enhanced risk management among financial institutions. This should
improve the effectiveness of the framework in ensuring financial stability, maintaining confidence in
financial institutions and supporting the macroeconomic environment in general. Improved
risksensitivity in capital requirements should facilitate a more effective allocation of capital, thus
contributing to boosting the competitiveness of the EU economy. There has, however, been some
discordance of opinion about certain aspects of the CRD, which has fortunately been largely resolved.
The new Directive is, in fact, a new supervisory framework of a rather revolutionary nature, adapted to
the globalised world we live in. Apart from introducing new approaches for the calculation of capital
requirements, the CRD provides for the establishment of intensive cooperation and information
exchange mechanisms among supervisors, the option of delegating tasks among supervisors,
information exchange requirements among banking supervisors, central banks and finance ministries
in emergency situations, and - a completely new element - disclosure requirements both for banks and
for supervisors.
Of the above-mentioned elements, one issue that has sparked much debate and, to some extent,
controversy, is the allocation of supervisory tasks or responsibilities between the home and the host
supervisor, i.e.:
(i) the authority that supervises the parent bank (i.e. the consolidating supervisor) and the
authority that supervises a ''significant'' subsidiary bank or
(ii) the supervisor of the bank located in the country of origin and the supervisor located in the
country where a ''systemically relevant'' branch is established.
The main concern in this debate is finding the right balance, so as to enhance the efficiency of the
supervisory arrangements, while ensuring their effectiveness and respecting the existing accountability
arrangements at the national level.
The Bank of Greece has a strong interest in the outcome of this debate, in which it actively
participates, in the hope that an optimum balance will be reached. Needless to say, this interest also
reflects the fact that the Bank of Greece is both the host supervisor for incoming EU banks and the
home supervisor for outgoing Greek banks, which are expanding mostly to the neighbouring Balkan
countries, some of which are preparing to implement the EU framework. In performing its roles, as
mentioned above, the Bank of Greece consistently follows policies that encourage the European
integration process and refrains from creating unnecessary administrative burdens or erecting other
obstacles, without, of course, putting the effectiveness of its supervisory tasks at risk.
Other regulatory initiatives
•
In parallel with the preparation for the new supervisory framework ' s implementation,
discussions are under way regarding the revision of the Directive on Deposit Guarantee
Schemes and the Electronic Money Directive.
• Another major issue that has sparked considerable controversy concerns the so-called
supervisory approval process. The debate was initially triggered by certain market
participants, who fear it to be an obstacle to cross-border mergers and acquisitions. The
Bank of Greece and the central banks of many other countries have repeatedly stated that
isolated cases, in which a misuse of supervisory powers may have occurred, should not be
generalised. In Greece, as it is the case in the EU as a whole, the supervisory authorities
base their decisions regarding the merger or acquisition by a foreign institution of a domestic
bank strictly on supervisory criteria.
The new decision-making structure for financial services
Apart from the introduction of the new capital adequacy framework, another radical change that has
been introduced involves the decision-making process at the EU level for the financial sector, also
known as the Lamfalussy process. A new financial services committee architecture has been
established.
The Lamfalussy approach, which was originally elaborated for the securities sector, now extends to
the banking and insurance sector, as well. Given the time constraint, an extensive presentation of the
Lamfalussy framework would probably be inappropriate. However, there is reason to underline some
of its main objectives, which are:
•
to develop regulation that can adapt quickly to new market developments and practices,
support integration and enhance EU competitiveness, and
•
to strengthen cross-border and cross-sector cooperation among supervisory authorities and
the convergence of day-to-day supervisory practices and implementation.
It is worth mentioning that the new decision-making structure has not yet reached its full potential. On
the one hand, there is a some concern about the potential proliferation of work among the various
committees and working groups and the consequent risk of confusion and wasted resources. On the
other hand, the process has started to yield significant benefits, especially in the field of supervisory
convergence, which should overcompensate for few negative aspects.
The Committee of European Banking Supervisors (CEBS)
The CEBS, as part of the Lamfalussy framework, is the institutional committee that brings together all
the banking supervisors of the EU countries and the central banks, including the ECB, as observers.
The CEBS has three main tasks:
•
to provide advice to the Commission;
•
to ensure the consistent implementation of Community legislation in the banking sector and
the convergence of supervisory practices; and
•
to promote supervisory cooperation and exchanges of information.
The CEBS has an advisory role within the EU legislative procedure. The CEBS's other focus is to
promote a consistent approach to banking supervision through increased convergence of standards
and practices and enhanced cooperation and information sharing. The ultimate goal is to build a
common supervisory culture and a practical operational network of banking supervisors within the
established EU legal framework. This is of particular importance for the efficient supervision of
crossborder banking groups, as the appropriate dissemination of information relating to risks and the
elimination (if possible) of work duplication are expected to reduce the administrative burden and costs
for the supervised institutions, while reducing the strain on supervisory resources. This does not mean
that there are no benefits for smaller institutions, with a predominantly domestic or even local focus, as
convergence will imply the establishment of a level playing field across the EU.
Next steps
Changes in the regulatory framework and the organisational structure of the decision-making process
are necessary but not sufficient conditions for the realisation of the EU financial market ' s strong
growth potential. This can be more easily achieved if financial integration is accelerated. This belief is
the driving force behind the new EU financial services strategy for the next 5 years, which is currently
under discussion among the EU institutions, while, at the same time, market participants are being
consulted.
Up to now, the elements that seem to be part of this strategy and are closely related to the banking
sector are the completion of certain ongoing projects (i.e. mortgage credit, consumer credit, the New
Legal Framework for Payments, etc.) and the undertaking of new legislative initiatives (i.e. investment
funds, bank accounts, credit intermediaries).
One of the legislative initiatives that requires special attention is the proposal for a Directive on
payment services. The proposed Directive, which is part of the wider Single European Payments Area
Project, aims to establish a modern and harmonised legal and operational framework necessary for
the creation of an integrated retail payments market, which would enable payments to be made more
quickly and easily throughout the EU. The proposal also aims to introduce more competition in
payment systems and facilitate the realisation of economies of scale. This will improve efficiency and
reduce the cost of payment systems for the economy as a whole, an issue of high importance to the
Bank of Greece, as electronic payments systems are not very much in demand in Greece.
Future challenges
Supervisory architecture within the EU
Lately, several discussions have revolved around the issue of the EU supervisory architecture, one of
the arguments being that the complexity of supervisory arrangements increases in parallel with the
growth of a banking group ' s cross-border activity. Without dismissing these concerns, we do not
share the view that the conduct of cross-border activities is connected with a significant supervisory
burden. On the contrary, the most important obstacles to the expansion of cross-border activity in the
banking sector are the differences in the tax treatment of banking products among different states,
cultural differences and the lack of proximity (except in the case of branches).
Different views on the supervisory architecture advocate alternative models of supervision, ranging
from complete centralisation to total decentralisation. Each approach has its own merits, but also
raises a number of complicated strategic and operational issues that need to be addressed.
I believe that in no way should extreme solutions be adopted and instead implement the Lamfalussy
approach, which though is not a panacea, has the definite advantage of allowing for a lot of flexibility.
First of all, it provides for a range of different degrees of centralisation in the regulatory process, which
would entail a more or less harmonised set of rules depending on the issues that need to be
addressed. In this way, it facilitates the swift adaptation of community legislation to new developments
in the financial markets, which in many cases have cross-sectoral dimensions. Moreover, it boosts
regulatory and supervisory convergence while at the same time allowing for the efficient handling of
differences arising from the fact that the vast majority of the 8,000 credit institutions in the EU operate
domestically and sometimes even locally, in markets with diverse characteristics and which can better
be assessed by local supervisors, as the history of the last 50 years has taught us.
In this context, I think that we can go a long way with the Lamfalussy framework. And I do not think we
are anywhere near the stage where we can say that we have fully exploited all the possibilities it has
to offer, at least in the banking sector. In addition, the Lamfalussy framework and the way it is applied
will evolve over time in response to the evolution of markets.
The Eurosystem's perspective
I would like to conclude my speech with a specific reference to the Eurosystem's perspective of the
above-mentioned regulatory developments. It is worth noting that the Eurosystem's primary relevant
concern stems from the fact that it is responsible for monitoring financial stability in the euro area, and
at the same time recognises that a smooth-functioning financial system is a vital transmission
mechanism for ECB monetary policy.
Within this context, the forthcoming implementation of the new capital requirements framework, as well
as the strengthening of supervisory cooperation within the EU, are seen as particularly encouraging
developments, as they considerably enhance the existing financial stability framework.
Of course, as the financial market landscape changes and the degree of European financial
integration increases, new concerns are likely to arise, regarding, for instance, the ability of the system
as a whole to respond to a possible emergency situation in a timely and effective manner.
The Bank of Greece, as a member of the Eurosystem, keeps a close eye on developments, while
participating actively in the respective discussions within the EU institutions for the establishment of
common arrangements.