2  Holthausen, C. and T. Ronde (2004): “Cooperation in international banking supervision”, ECB Working Paper 245. 3  On financial stability as a public good, see for instance Beck et al (2010): Bailing out the Banks: Reconciling Stability and Competition An analysis of state-supported schemes for financial institutions. 4  Banking union and the future of banking, speech by Vítor Constâncio, Vice-President of the ECB, at the IIEA Conference on “The Future of Banking in Europe”, Dublin, 2 December 2013; Towards the Banking Union, speech by Vítor Constâncio, Vice-President of the ECB, at the 2nd FIN-FSA Conference on EU Regulation and Supervision “Banking and Supervision under Transformation” organised by the Financial Supervisory  BIS central bankers’ speeches  1  developed before the crisis. Without unified supervision, it was impossible to contain the build-up of such imbalances in the pre-crisis period. National supervisors had to respect the single market rules and lacked the macro-prudential tools to offset the effects of large capital inflows. As I have often underlined, private debt intermediated by the banks, more than public indebtedness, was at the heart of developments in peripheral countries.5 By introducing supervision at the European level, the Banking Union now offers a possibility to better pre-empt such developments in the future – and therefore to better protect the real economy and financial stability in the whole area. A third objective of the Banking Union is the contribution it can provide to financial integration, by separating banks’ robustness from sovereigns and consequently reduce markets’ fragmentation.

It was only later that the concept of a fully-fledged Banking Union emerged, which would contain a SRM and a possible Deposit Guarantee Scheme, which has meanwhile been postponed. Rationale and objectives of Monetary Union The absence of European supervision and resolution had however already been identified by many analysts as an initial design flaw of monetary union. As the crisis developed, this became clear. The high degree of interconnectedness, in the euro area in particular, implies that the impact of supervision affects not only the domestic banking sector but also, as an externality, other countries. This has been captured by the so-called “financial trilemma”. The concept of the trilemma illustrates the impossibility of achieving simultaneously three objectives in an environment with linked financial markets. These objectives are financial stability and financial integration while preserving supervision at national level.1 The reasoning behind this is the following: with increasing financial integration, pursuing national financial policies will generally not lead to financial stability, because national policies seek to benefit national welfare, while not taking into account externalities of national supervisory practices in other countries.2 This leads to an under-provision of financial stability as a public good.3 A correction of this flaw addresses the first objective of Banking Union. A second objective for Banking Union4 stems from the evidence that keeping supervision at national level in both creditor and debtor countries contributed to the large imbalances that  1  Schoenmaker, D. (2011): “The Financial Trilemma”, forthcoming in Economics Letters.