REPORT FROM THE COMMISSION on the operation of the "topping-up" provision, Article 4, paragraphs 2-5 of the Directive on Deposit Guarantee Schemes (94/19/EC)

1. introduction

The Directive on deposit guarantee schemes (94/19/EC) lays out a minimum level of harmonisation for deposit guarantees in EU Member States. Its main objective is to increase the stability of the banking system and to protect depositors.

The principles of home country control and mutual recognition are cornerstones in this directive as it is generally in the EU financial legislation. The guarantee of the parent institution is therefore also valid for its branches in other Member States. The result is that a branch of an EU credit institution, which is established in another Member State, may well offer a guarantee that is higher or lower compared to the level stipulated by the national law of the host Member State.

Generally, only the stipulated minimum requirements are subject to Community legislation. However, in the area of deposit guarantees, the directive actually goes a step further. In Article 4, paragraph 2, the Directive stipulates that host Member States having a guarantee above the minimum, must ensure that their guarantee schemes can offer a supplementary guarantee to those foreign EU-branches that would request it. This enables a foreign branch that has a lower guarantee than the one prevailing in its host state to complement its home guarantee to the level and scope of its host state. This paragraph is often called the "topping-up" clause.

The Directive stipulates that the Commission should report on the operation of paragraphs 2, 3 and 4, which draw up the provision for the supplementary cover. The Commission is also requested, if appropriate, to propose amendments to these paragraphs. The 13th recital of the preamble of the Directive gives further guidance on the purpose of the requested report. It states that the Commission should report on the extent to which branches have made use of this option and the difficulties they have encountered in implementing these provisions. Furthermore, it should not be ruled out that home Member State schemes should themselves offer such a complementary cover, subject to the conditions such schemes may lay down.

The objective of this report is to respond to the request in the Directive as regards the Commission's obligation to report on the operation of the topping-up paragraphs.

2. the requirement to offer supplementary cover

Article 4(2) of Directive 94/19/EC stipulates that

"Where the level and/or scope, including the percentage, of cover offered by the host Member State guarantee scheme exceeds the level and/or the scope of cover provided in the Member State in which a credit institution is authorised, the host Member State shall ensure that there is an officially recognised deposit guarantee scheme within its territory which a branch may join voluntarily in order to supplement the guarantee which its depositors already enjoy by virtue of its membership of its home Member State scheme."

Consequently, as soon as a Member State has a deposit guarantee exceeding the minimum requirements stipulated by the Directive, it is required to ensure that a supplementary guarantee can be offered to those foreign branches that would wish to improve their cover. The minimum requirements are given by the directive as follows:

- deposits are guaranteed up to an amount of EUR20,000 from the beginning of the year 2000,

- the minimum percentage cover amounts to 90% of deposits - up to the minimum guarantee level of EUR20,000,

- the minimum scope is defined by a list of possible exemptions in Annex I to the Directive.

Several Member States apply the minimum level and the minimum percentage cover. However, none of these Member States limits its deposit guarantee to the minimum scope, using all the exemptions in Annex I of the Directive. In practice, therefore, all Member States are obliged to offer a supplementary deposit guarantee for branches from other Member States. According to their reports, all Member States have formally transposed a provision in their legislation which oblige them to offer topping-up facilities to those foreign branches that would request to supplement their cover.

3. present use of the topping-up provisions within the european union

A topping up agreement is a contract between two parties; a credit institution with a branch in another Member State and a deposit guarantee scheme established in the host country of that branch. The contract stipulates the agreed conditions whereby the host country guarantee scheme undertakes to deliver a supplementary deposit guarantee to the foreign branch that would supplement its home country deposit guarantee.

As shown in the table in the annex of this report, only the Danish and the British deposit guarantee schemes have so far concluded topping up agreements with EEA-branches operating within their territory. No Member State has made any pay-outs under topping up agreements.

The topping up provision is a derogation of the general principle of home country control. The low interest by credit institutions to use it should therefore not come as a surprise. There are also other explanations for the low interest in topping up. One such factor, which has been mentioned by several Member States, is that there now exists a minimum guarantee level and scope for deposit guarantees in all Member States implying that deposit guarantee conditions have converged within the EU. This has reduced the need for supplementary cover. Presently a majority of Member States have compulsory deposit guarantees amounting to between EUR20 000 - EUR25 000. Only three Member States offer higher levels: Denmark (EUR40,000), France (EUR70,000) and Italy (EUR104,000). In addition, the German voluntary schemes also offer supplementary cover. Among the EEA-countries which are not Member States, Norway offers a substantially higher guarantee than the minimum, amounting to EUR250,000.

The fact that most retail banking business is conducted by locally authorised subsidiaries of EU credit institutions is also important. It means that the number of branches doing retail business in other Member States is relatively low which also reduces the need for topping up.

It is also evident that credit institutions do not consider the guarantee as important for their competitiveness. At least not important enough to outweigh its additional cost. Low public awareness about the differences among deposit guarantees and the fact that the market has been characterised by financial stability have also been mentioned by Member States as factors explaining why competitiveness is not at stake. Moreover it is argued that some of the major banks rely on their reputation to attract business in the host state and therefore their branches do not need to use the topping up facility to attract deposits in other Member States. Finally, in a few cases additional information requirements from host countries or confidentiality concerns may have reduced the demand for topping up.

4. bilateral agreements between deposit guarantee schemes

Annex II of the Directive stipulates that the home and the host deposit guarantee schemes shall conclude a bilateral agreement as soon as a branch from another Member State has applied for topping up. The aim of such an agreement is to establish appropriate rules and procedures between the schemes for paying compensation to depositors since both schemes would be responsible for pay-outs in the event of an insured institution's inability to fulfil its obligations towards its depositors.

So far only three bilateral agreements have been concluded between deposit guarantee schemes. One of these agreements was concluded even if it did not exist any topping up agreement between the countries. The parties of the three existing agreements are the deposit guarantee schemes in Ireland and UK, Denmark and Sweden, and Luxembourg and Sweden respectively. All these agreements are rather general in nature and basically follow the guiding principles stipulated by the Directive, e.g. they set out principles for mutual information exchange and limit the responsibility of each scheme to the basic (home-country) or complementary (host-country) deposit insurance respectively.

The opinion of the importance of concluding bilateral agreements between deposit guarantee schemes vary among Member States. Those that are most proactive argue that agreements between schemes should be concluded as soon as a Member State credit institution has established a branch in another EU country, even if this branch has not asked for any topping up agreement with its host country scheme. According to this view such an agreement should set out the principles for co-operation between the two schemes also in a situation when the branch was only to use its home-based guarantee for pay-outs to depositors of the host-country. However, a majority of Member States supports the current provision in the Directive implying that there is only a need to set up a bilateral agreement once a topping up agreement has been concluded. They argue that such an agreement is likely to facilitate a prompt pay-out from the schemes. Finally, there are also Member States which hold the view that each situation of pay-out is so specific and that a generally stated bilateral agreement does not make any substantial difference for facilitating crisis management.

Member States have also been asked to consider whether the guiding principles in Annex II of the Directive should be revised. Clearly a majority of Member States prefer that the guiding nature of the principles is maintained. They do not see any need to elaborate the principles into a EU model topping up agreement, because every pay-out situation differs substantially, not at least as a result of the different guarantee systems involved. On the other hand some Member States mention areas to which the guiding principles could be extended e.g. to clarify that it is the host-country that should take the initiative to conclude an agreement, to specify whether the gross or net remuneration principle should be applied, to specify rules and procedures governing the exchange of information between the schemes, to determine the contributions to be paid by the foreign branches as well as to determine the cost attributable to each fund. However, as long as the demand for and experience of topping up are so limited, a major revision of the principles for bilateral agreements is not considered as a priority.

5. objective conditions

Article 4(3) of the Deposit Guarantee Scheme directive stipulates that Member States shall ensure that objective and generally applied conditions are established for branches' membership of a host Member State's scheme. Hitherto Member States have not mentioned that the branches of their credit institutions have experienced any discrimination in this respect.

It might be worth noting that the existence of "equal conditions" is problematic to verify. The reason is that in several Member States topping up agreements have never been concluded nor have the theoretical topping up conditions been defined. The topping up clause has thus only been transposed into national legislation. The specific conditions have not been drafted since there has never been any topping up request. Several Member States also judge it as unlikely that they will ever receive such a request since both the scope and the level of their national deposit guarantee are similar to the Directive's minimum requirements.

6. possible concerns

Generally, Member States regard the topping up as a facility offered to them by the host-state of their branch. The only concern that has been expressed by some Member States in relation to topping up is that information requirements which have been imposed by the host state scheme have actually, in a few cases, negatively affected the interest for topping up by foreign branches. Such additional information requirements have not only been perceived as a burden or an additional cost. Since the requested information do not solely relate to the foreign branch, but also to its parent institution, the concerns have also included confidentiality aspects.

7. changing conditions affecting topping up

The topping up provision was introduced to make it possible for foreign branches to offer an identical guarantee to those offered by domestic institutions in the host market. The possibility to top up was considered important for competitive reasons at the time of the introduction of the directive, since the level and scope of the deposit guarantees then differed substantially among countries. Since then, several changes in the market have occurred. They may have affected the need for and the functioning of the topping up provision.

Among the most important changes affecting the need for topping up are the convergence of guarantee levels within Member States, the planned enlargement of the EU (which, during a transitional period, is likely result in a divergence of EU guarantee levels) and the expiry of the export prohibition [1] clause. The expiry of the latter provision implies that the national guarantee no longer necessarily represents the best guarantee within a single country. A branch from another Member State may offer better conditions. As a result, the topping up instrument cannot any longer be used as an instrument to achieve a homogeneous degree of protection within a single Member State. It can only match the conditions of the legally stipulated national deposit guarantee.

[1] The export prohibition clause refers to Art. 4(1) of Directive 94/19/EC which expired at the end of 1999. See also Commission report COM(1999)722 on the export prohibition clause.

8. is there a need for a supplementary guarantee-

The preface of the Directive requests the Commission to, if appropriate, propose amendments as regards the topping up clause. In particular it states that it should not be ruled out that home Member State schemes should themselves offer a complementary cover. The Commission considers that the major options are the following:

* to maintain the present host based topping up provision,

* to change the responsibilities for topping up to rest with the home Member State,

* to repeal the existing topping up provision.

8.1. Maintain the present host country topping up provision

The present topping up provision in the Directive is based on a responsibility for the host Member State guarantee system to offer a supplementary guarantee up to the level of the host country guarantee as stipulated in national law.

A general argument for keeping the topping up provision in the years to come is that such a provision might be especially important during the enlargement process of the European Union. After accession it is possible that some of the present candidate countries will be allowed, during a transitory period, to offer lower national deposit guarantee levels than what is stipulated in the directive. In that event, it seems particularly important for credit institutions from these candidate countries, which might be interested in setting up branches in the present EU-area, to have the possibility/obligation to at least fulfil the minimum requirements of the Member States. A host-based scheme seems to be the only viable alternative that could fulfil this objective.

It is also clear that regardless of the requirements stipulated by an EU Directive, host-based schemes will continue to exist in most Member States since third country branches, which want to start operating in Member States, normally are required to supplement their cover to the national level. A host-based scheme also seems to be the logical way of organising supplementary cover when the need to top up is concentrated to a few host Member States. Finally, at this point in time, there might not be an interest to undertake a major revision of the topping up provision, which may cause more administrative work than its current use justifies.

On the negative side of the balance the present topping up provision has gradually become less efficient as a competitive instrument. As has been mentioned before, the previous uniform national guarantee is now challenged by the existence of a wider variety of guarantees existing side-by-side within the same country. A host-based topping up system, which is linked to the national guarantee level, can never match the maximum level offered in the market but is limited to match the stipulated level according to national provisions.

8.2. Change the responsibility for topping up to rest with the home Member State

One option to the present host-based approach for topping up, as indicated in the preamble to the Directive, is to replace it with a home-based supplementary guarantee.

One attractive feature of a home-based system is that credit institutions would not be obliged to hand over any sensitive information to a foreign deposit guarantee scheme if they requested topping up. A home-based scheme would mean that the supplementary guarantee of the branch would rest within the same scheme as their basic guarantee and this scheme would therefore already have access to all relevant information. Such an organisation could therefore have economical benefits and could also reduce potential concerns regarding confidentiality.

As regards the possible arguments against a home based scheme, this option is more demanding than the host-based option for new Member States wanting to establish their foreign branches within the present EU Member States. Lastly, it seems that the present low demand for complementary cover makes it doubtful whether a major revision of the topping up clause is worthwhile. There is no clear evidence that a home-based guarantee would be more attractive than the present, host-based system. Indeed, most credit institutions seem to consider that they do not need any complementary deposit insurance at all for their foreign branches.

8.3. Repeal the topping up provision

The third option is to repeal the topping up provision in the Directive. However, needless to say, there would still exist a possibility to set up supplementary deposit guarantee schemes on a voluntary basis.

The low interest among EU credit institutions for subscribing to complementary deposit guarantees might indicate that there is no need for maintaining a topping up provision in the Directive. For those institutions that would wish to subscribe to a complementary cover one might argue that a privately organised, home-based guarantee would suffice. Indeed, to repeal the existing topping up provision is the option that would be most consistent with the principles of home country control and mutual recognition applied in other areas of the Single Market.

It seems that the major disadvantage of repealing the topping up provision is that the clause might be useful during the enlargement process. The possibility to top up might be requested by foreign branches to credit institutions originating from new Member States. It might also be in the interest of the existing Member States to ensure that such a possibility exists, especially if some of the new Member States would have lower national guarantee levels during a transitional period than what is stipulated by the Directive.

Another reason to keep topping up in the form of a legal provision is that its importance may increase considerably in times of financial market instability implying increasing public awareness of the differences between guarantees. If a situation of financial disturbance materialised it would be vital that an accepted guarantee is available in the market.

9. summary and conclusions

The demand for topping up has so far been very limited within the Union. Member States have never made any pay-outs under such an agreement. However, one cannot therefore draw the conclusion that the topping up provision in the Directive is not useful and that it should be abolished.

The demand for topping up may very well change. If a situation of financial instability would develop resulting in pay-outs under the deposit guarantee schemes, the demand for topping up can be expected to increase.

It is also likely that the topping up provision will be a useful instrument during the transitory period of the EU enlargement process. The topping up instrument, which offers branches to supplement their guarantee up to the host country level, could then be essential for offering all accession countries the possibility to establish branches within the traditional EU area, i.e. even those countries that may be allowed to apply a lower guarantee than the EU minimum in their home market during the transition. At this point in time it therefore seems premature to propose an abolishment of the EU topping-up provision.

Regarding the organisation of the scheme, the balance of argument is clearly in favour of keeping the current regime of host-country responsibility. An important argument is that the availability of topping up in host countries facilitates the possible cross-border establishment of bank branches by accession countries during the transitory period. Furthermore it is not reasonable to propose a major revision of the topping up clause as long as there is no clear evidence that a home-based system would be more attractive for credit institutions than the present host-based system. Indeed, if credit institutions would find a home based system more attractive there is nothing that prevents them from organising such a system on a voluntary basis.

ANNEX

Table 1: Member States' use of the topping-up provision, Art 4(2-5) in the Directive on Deposit Guarantee Schemes (94/19/EC) as of 2000-12-31.

1 2 3 4 5

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