ecb, november. 3 see constancio, v. ( 2017 ), “ challenges faced by the european banking sector ”, speech at the risk & supervision 2017 conference organised by associazione bancaria italiana, rome, 14 june. 4 see klaus, b. and sotomayor, b. ( 2018 ), “ bond funding of euro area banks : progress in the issuance of loss - absorbing instruments ”, financial stability review, ecb, november, box 7. 5 see huljak, i., mikkonen, k., more, c. and perales, c. ( 2018 ), “ digitalisation and its impact on banks ’ costs and profitability ”, financial stability review, ecb, november, box a. 6 see ecb ( 2017 ), financial integration in europe, may. the report also provides an in - depth review of the literature studying the costs and benefits of bank consolidation. 7 see andersson et al. ( 2018 ), op. cit. 4 / 4 bis central bankers'speeches

deepened, it was anticipated that the stabilising effects would overall be more important than the destabilising ones – that is, the welfare benefits of better diversification and improved allocative efficiency would offset the welfare costs of occasionally higher risk - taking and contagion effects. 9 so why were the costs of the european crisis so high? there are many reasons for this, but in my view one important factor was the incomplete nature of financial integration in the euro area. price convergence in many asset classes created an appearance of financial integration, but it was in fact relatively shallow, in particular in the banking sector. according to the ecb ’ s financial integration indicators, while euro area interbank markets became almost completely integrated, retail banking integration remained largely fragmented. 10 this mismatch had at least three consequences. the first was on the asset side of banks ’ balance sheets. a main channel through which retail banking integration is expected to improve allocative efficiency is by increasing the distance between the main shareholders and management of a bank and the vested interests in the country where the bank operates, i. e. by reducing so - called “ related lending ”. but without meaningful foreign competition, these gains did not materialise in the euro area. in fact, the ability to borrow freely in interbank markets allowed local banks to increase lending towards favoured domestic sectors such as real estate. this is essentially what we saw in spain and ireland. in the process, financial integration concentrated rather than diversified risk. 11 demyanyk, y., c. ostergaard, and bent e. sørensen, 2008. “ risk sharing and portfolio allocation in emu ”, economic papers 334, european commission. bekaert, g., c. harvey, and c. lundblad, 2006. “ growth volatility and financial liberalization. ” journal of international money and finance 25, 370 – 403. giannetti, m., and s. ongena, 2009. “ financial integration and firm performance : evidence from foreign bank entry in emerging markets. ” review of finance 13, 181 – 223. caballero, r., and a. krishnamurthy, 2009. “ global imbalances and financial fragility. ” american economic review 99, 584 – 588. popov, a., and g. udell, 2012. “ cross - border banking, credit access, and the financial crisis. ” journal of international economics