European Union leaders have spent the last two years promising to make the banking industry pay for its own failures. The bloc’s regulatory arm intends to help them follow through.
The case of Dexia SA, the Brussels-based lender being wound down at the expense of Belgian and French taxpayers, shows how public money has too often been granted to banks too weak to survive, said Gert-Jan Koopman, a European Commission official responsible for state aid.
“The lesson I draw from this experience is that in case of doubt, err on the side of caution, which means err on the side of rigor,” Koopman said in an interview in his Brussels office. “Because you seldom overshoot; if anything you undershoot.”
After years of turmoil caused by a cascade of sovereign-debt struggles and bank crises, the EU is rebuilding its financial architecture. The European Central Bank assumes oversight of euro-area lenders in November, and a resolution agency will follow, backed by a 55 billion-euro ($75 billion) common fund. Rules have been toughened on everything from capital requirements to bankers’ bonuses.
The commission, which polices government aid to companies, will have to sign off on public money used to prop up or recapitalize banks, including funds drawn from the joint resolution fund that will be raised by imposing a levy on lenders. State-aid overseers will also scrutinize resolution-related spending by non-euro nations like the U.K. and Sweden, which aren’t covered by ECB oversight or the Single Resolution Mechanism.
When Brussels-based Dexia ran into trouble in 2008, its management and governing authorities received “the benefit of the doubt” in “a very close call” to approve a three-nation state aid deal, Koopman said. EU Competition Commissioner Joaquin Almunia called it the region’s biggest bad bank.
The EU faces a “huge challenge” of setting up new agencies with power and resources to do things right, Koopman said. Authorities also will have to brace themselves against political pressure.
“These are extremely pressurized cases, with a lot of views being communicated at a very senior level,” he said. To guard against national urges to seek leeway for ailing firms, the commission has “very robust methodologies and processes that eventually are hard to brush off the table.”
European state-aid rules are designed to make sure governments don’t boost their national-champion industries at the expense of other nations. Additional requirements apply to banks, who must impose losses on some investors as a baseline condition of receiving aid, even if new bank-resolution rules, which will require deeper investor losses, aren’t triggered.
Nations and regulators will be the resolution system’s primary guardians. The commission’s competition department will act as a further brake against any aid programs that attempt to skirt the rules, or that give banks in euro-zone nations an unwarranted advantage over banks in non-euro countries.
This gives the EU “a check and balance” on other regulators to make sure banks in every country are treated fairly, Koopman said. “We need to make sure that differences between the legal qualifications do not lead to differences in economic reality.”
ECB supervisors and EU state aid authorities must still set rules for who acts when and how those decisions are communicated when banks run into trouble. The commission is working with the ECB to have them in place by Nov. 1, Koopman said. In the past, the state-aid department had the power to review a struggling bank’s books, yet couldn’t intervene until after a government rescue package was already in the works.
“We saw some crises coming in banks, but we had no means of intervening,” Koopman said. In the past, “we were the de facto resolution authority, but our powers were limited. And to do resolution properly you need to be able to go in proactively at an early stage.”
Koopman said the EU can afford to take a hard line without putting the economy in danger.
“We have been very tough in a number of difficult cases, but I think we have never contributed to financial instability in our decisions,” he said.
Spain’s experience shows that the rules do work when everyone cooperates, according to Koopman. State-aid overseers played a key role in the Iberian nation’s financial-sector bailout, which tapped junior bondholders and required a range of restructuring moves.
Bankia SA, the nationalized bank that Spain’s government is now selling back to investors, required an entirely new management team of non-political professional bankers. The bank needed extensive changes that authorities were able to put in place quickly.
“This was a basket, basket, basket case,” Koopman said. “For such a big case, it was surprisingly easy to arrive at an agreement, and the agreement was massively radical in terms of downsizing of the bank -- recentering on its core business, reducing the number of staff by 40 percent -- people signed up to laying off more than 10,000 people over a weekend.”
The commission is now working with Spain to make sure further banking-sector measures don’t violate the EU rules. For example, it’s studying a proposed move on deferred tax assets to make sure banks won’t benefit unfairly.
“The fundamental issue for us is whether this is a general measure or it’s selective,” Koopman said.
“If a state changes its tax code for all its companies, then it’s not state aid,” he said. “We are in touch with the authorities and we are confident that they will set it up in such a way that is not state aid.”