22 by joseph heller, in which a “ catch - 22 ” is an intolerable situation where every apparent alternative only draws the protagonists ever closer towards their fate. in heller ’ s novel, it ’ s the contradictory rules that put the american soldiers into an absurd situation. in the euro area, it was primarily the lack of rules regarding this dilemma that was pivotal : there was no rule which stated that, if the worst comes to the worst, it was mainly up to the investors and creditors to shoulder banks ’ losses, and not taxpayers. this is also precisely what makes the new european regime for bank resolution, and its rigorous application, so very important. because these are the rules which stipulate that if a bank needs to be wound up, investors and creditors will be first in line to bear the ensuing losses. only after that does a resolution fund financed by banks step in. add to that the close - knit sovereign - bank nexus in the euro area, as evidenced by the huge stocks of government bonds which banks hold on their balance sheets. this is why it is not enough to just focus on bank resolution. 4. 3 abolish preferential treatment of sovereign bonds it would be enough to curb banks ’ appetite for government bonds to force them to treat sovereign exposures on their books in exactly the same way as private ones. because, unlike in the case of corporate bonds, banks are not required to back government bonds denominated in domestic currency with capital, nor do they have to comply with any ceilings or caps. this is the case irrespective of the issuing sovereign ’ s credit rating quality – and even though the euro area debt crisis made it quite plain that government bonds are by no means risk - free. only when banks hold sufficient capital against government bonds and limits are placed on the size of individual exposures will banks be able to cushion a restructuring of sovereign debt. and only then will there probably be the political will needed to take this step. the bundesbank has put the topic of abolishing the preferential treatment of government bonds on the agendas of international committees. but the talks, particularly on the basel committee on banking supervision, are not straightforward. that ’ s why it ’ s now vital that we give the issue greater prominence on the european committees and make headway there. ladies and gentlemen, toughening the fiscal rules, abolishing the preferential treatment afforded to government bonds, and automatically extending the maturity of sovereign debt are three important

stands a more realistic chance of restoring the balance between actions and liability. it essentially means bolstering the principle of independent national responsibility. only when public finances are put on a sound footing and countries stop drifting apart economically will the eurosystem ultimately be relieved of the pressure to constantly intervene as a firefighter. and only then will the financial markets do their job of taking adequate account of risks in their lending activities. but what would have to change for monetary union ’ s regulatory framework to function better than it has done in the past? to paraphrase johann wolfgang von goethe : “ easier said than done. ” goethe was not just a poet, but also finance minister for the duchy of saxe - weimar - eisenach. whether or not this bon mot summed up his experiences in fiscal policy is unclear, however. in any case, his remark holds true for the fiscal rules in the euro area : established with the best intentions, but rarely adhered to consistently. the european union ’ s budgetary and debt rules have been reformed over and over again. but that did not make them any stricter, to put it mildly. i have already mentioned that not even germany set a shining example in the early days. the latest reform of the stability and growth pact originally set out to strengthen the binding force of the rules on debt. as it turned out, that reform created considerable discretionary scope, mainly for the european commission. we also drew attention to this in our june monthly report. 6 the commission has already exploited this leeway on several occasions and invariably interpreted the rules very liberally in doing so. the commission ’ s dual role as the guardian of the eu treaty on the one hand and as a political institution on the other is undoubtedly a factor in the repeated compromises made at the expense of budgetary discipline. after all, as a political institution, the commission must always strive to strike a balance between the various political interests of the member states. the outcome is that individual euro area countries have breached the budgetary rules ever since the financial crisis erupted. austrian comic werner schneyder once accurately characterised the situation as follows : europe, he quipped, is made up of countries that do not want to be told to do what they have decided to do themselves. 4. 1 reinforce the binding effect of fiscal rules what is needed to reinforce the binding effect of the fiscal rules is a straightforward and transparent design and implementation of the rules. an independent institution taking over responsibility for fiscal