pentti hakkarainen : banking union – where do we stand in the single supervisory mechanism? key talking points by mr pentti hakkarainen, deputy governor of the bank of finland, at the working luncheon of the eu ambassadors, bank of finland, helsinki, 12 december 2013. * * * accompanying slides can be found on the bank of finlands ’ website : slides ( pdf ). we have experienced a series of different types of crises since 2008. each of them has had devastating effects on the real economy. what have we learnt? the crises have made it very clear that a highly interconnected financial sector requires a stronger institutional framework than what we currently have. a problem at one bank can quickly spread to other ones both at home and beyond national borders with damaging effects on the real economy and taxpayers. the financial crisis led to a sudden stop of capital flows within europe, as banks withdrew from foreign operations and financial integration took serious setbacks. by 2010, it became desperately evident that the bank and sovereign risks are tightly interconnected with two - way causality. the key lesson we have learnt is that financial crises have devastating effects on the real economy, taxpayers and the whole society. recovery from a crisis is always painfully slow and long - lasting. financial trilemma all in all, the mismatch between the scope of international bank operations and the national supervisory framework made the situation extremely challenging. with the overarching objective of financial stability in mind, the situation can be described as “ financial trilemma ”, as dirk schoenmaker has proposed. 1 in principle, you can envisage three solutions to the financial trilemma. first of all, we could re - nationalize the financial markets. in such a solution, the single market as well as the single currency and single monetary policy would be lost. second, we could just accept the risk of financial instability. or finally, we could work to create a banking union, with single supervision and resolution. only the last one of these is acceptable. institutional arrangements for supervision and resolution need to match the integrated structures of banking business in the real world. banking union in june 2012, eu leaders agreed to deepen economic and monetary union as a remedy for the crisis, including creating a true banking union. the single rulebook provides a foundation for the banking union. it is based on the idea of identical regulatory requirements, such as capital adequacy rules for banks. these are achieved through european

period. the insights of schumpeter pioneered the understanding of the role of a well developed financial system for fostering technological innovations and ultimately economic growth. 1 the approach was taken in recent times by the endogenous growth literature, in particular through theoretical contributions by aghion and howitt ( 2005 and 2009 ) and empirical work by rajan and zingales ( 1998 and 2003 ). nonetheless, the knowledge gap remains very wide the banker [ … ] stands between those who wish to form new combinations and the possessors of productive means. he is essentially a phenomenon of development, though only when no central authority directs the social process. he makes possible the carrying out of new combinations, authorizes people, in the name of society as it were, to form them ”. schumpeter ( 1934 ). more generally, see aghion and howitt ( 2009 ) for an overview of many aspects regarding the finance - growth nexus. bis central bankers ’ speeches and the recent crisis has underlined the importance – in social welfare terms – of filling this gap sooner rather than later and drawing from it more powerful policy designs. turning to the facts and figures of all this, let me first stress the important caveat of measurement issues when speaking about the link between finance and growth. even the size of the financial sector in a given country is not easy to characterise, let alone to measure. while many indicators can be invoked, none is immune from criticism. 2 also the perimeter of the financial sector is typically not easy to pin down. it shifts over time, pushed by financial innovations, and institutional3 and structural specificities at country level make international comparisons a daunting task. the periphery of the financial sector is particularly opaque and hard to apprehend. comprised of otc products, complex derivatives and investment vehicles, its lack of transparency is commensurate to the systemic risks it has posed to the rest of the economy, as we painfully witnessed in 2008 and 2009 after the lehman demise. let me now take you through a shortened and unavoidably oversimplified account of what we know about growth - finance interactions. 4 i will focus in particular on three results, broadly defined. firstly, looking at the available empirical evidence on the relation between the financial sector and potential growth, most studies do not point to the role of size of the financial sector per se, but rather to the degree of development of the financial sector as the key variable ( see in particular