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Euro-Area Bank Plan Stumbles Under German-Led Challenge

German Finance Minister Wolfgang Schaeuble
German Finance Minister Wolfgang Schaeuble said the European Commission’s proposal for a Single Resolution Mechanism must be overhauled because it’s on shaky legal ground and could endanger national control of budgets. Photographer: Krisztian Bocsi/Bloomberg

European Union attempts to centralize control of failing banks stumbled under a German-led attack that may imperil efforts to restore confidence in the euro zone’s financial system.

If the plan doesn’t move forward quickly, the European Central Bank won’t be able to count on cross-border backstops if it encounters problems at euro-area banks. The ECB is scheduled to begin supervising lenders in the currency zone as soon as October 2014, forcing the EU to grapple with who should decide when to close a bank and who will pay for it.

“There’s quite a lot to do,” German Finance Minister Wolfgang Schaeuble told reporters on Sept. 14 after two days of talks with his EU colleagues in Vilnius, Lithuania. “The path that the commission has proposed toward a resolution mechanism is a rocky one. There can be no doubt about it: we need to be on a legally certain foundation.”

Schaeuble said the European Commission’s proposal for a Single Resolution Mechanism must be overhauled because it’s on shaky legal ground and could endanger national control of budgets. In Vilnius, the German was joined by critics from Sweden to Slovakia.

At the same time, finance ministers renewed pledges to strive for an agreement quickly so financial markets won’t lose confidence that the currency zone is overcoming its crisis. Dutch Finance Minister Jeroen Dijsselbloem, who chairs meetings of euro-area finance chiefs, said a deal on the resolution mechanism is needed by year-end.

‘Cannon Shots’

“So far there have been cannon shots going back and forth, but there hasn’t actually been a debate on how it could be solved,” he said.

The authority “needs to be independent in such a way that when a bank is in trouble one can act quickly, and that is what the Germans also want,” he said. “They only say that it can’t be done legally. But for now I have no reason to assume that we end up with something weak and strange.”

The new resolution authority, along with ECB oversight, form the core of an effort to create a euro-area banking union that would sever the link between bank and sovereign debt. In the coming months, the ECB will assess the balance sheets of banks it will later supervise.

Objections to the commission’s strategy, proposed by EU financial-services chief Michel Barnier, included resistance to a planned common resolution fund and the scope of the system. Nations also voiced skepticism about expanded powers for the Brussels-based commission.

‘Cross-Border Banks’

Governments won a concession from Barnier in Vilnius on which banks the resolution system would cover. Facing calls to exempt smaller banks, Barnier said he could see limiting the new authority to lenders, big or small, that have cross-border operations.

“What is at stake here is mostly possible resolution of cross-border banks, which if they are done in a national context have proved to be more difficult,” said Vitor Constancio, vice president of the ECB, a consistent backer of the commission’s proposal.

“We do want a European resolution mechanism to be put in place to accompany the first leg of the banking union,” Constancio said. The new mechanism needn’t be operational for central-bank oversight to start, because banks aren’t under as much strain as they were at the height of the financial crisis, he said.

National Budgets

Opposition grew after a Sept. 11 opinion from the legal service of the Council of the European Union, which represents the executives of the bloc’s 28 member states. The lawyers said the plan needs more safeguards to protect national budgets. Germany said the ruling confirmed its misgivings.

Barnier defended the core of his Single Resolution Mechanism, which would involve a 55 billion-euro ($73 billion) resolution fund and give the commission the power to close banks.

Sweden’s finance minister, Anders Borg, echoed the concerns of a number of his colleagues when he said handing the commission the power to shut down banks alongside its existing role as the bloc’s state-aid enforcer is a “conflict of interest.” This is a problem for Sweden even though it won’t join the banking union in “any foreseeable future,” he said.

Barnier said the commission isn’t wedded to being chief decision-maker in the resolution system and would welcome a discussion on alternatives. The commission put itself forward for the role because of its reading of the bloc’s treaties, he said.

‘Weaker Countries’

Borg emphasized the necessity for euro countries to band together to prevent a resurgence of the sovereign debt crisis, now in its fourth year.

“It is necessary that the stronger countries are supporting the weaker countries,” he said. “I strongly back the idea that you need a fiscal backstop for a banking union among the euro countries.”

Germany has spearheaded calls to drop the common fund and centralized authority in favor of a network of national resources, a stance Barnier said would leave the euro area vulnerable in future crises. Borg said similar arguments were made by the U.K., Sweden and the Czech Republic.

The Germans object to the legal foundation of Barnier’s proposal, currently based on Article 114 of the Treaty on the Functioning of the European Union, which requires approval by the European Parliament and a weighted majority of nations.

‘Legal Foundation’

The process could be enhanced in Germany’s view by relying instead on a different provision, Article 352, which is intended for actions not specifically foreseen under the bloc’s basic laws. This would require unanimous approval of legislation setting up the resolution system, meaning all nations would have to sign off.

“It’s clear that the proposal the way it was presented is impossible to implement,” said Bundesbank President Jens Weidmann. “Is the legal foundation even suited for such a mechanism to be built on? Then there is the question to which extent distorting effects in national resolution funds are avoided.”

Estonian Finance Minister Juergen Ligi said the resolution mechanism shouldn’t be built in a way that makes national finances vulnerable when problems emerge in other countries.

“I’m most troubled by the thought that somewhere, someone decides something that would suddenly affect budgets,” Ligi said in an interview. “We definitely also have constitutional justification to protect this.”

The need to adopt resolution plans quickly may ease if the ECB’s asset-quality reviews don’t turn up major capital shortfalls at euro-area banks. The assessments, which will involve third-party experts, are unlikely to uncover terminal problems at a major European bank, Constancio said.

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