A few new rules for financial market supervision, a potentially bigger role for the European Central Bank, but no single European regulator. That, in a nutshell, is the message of today’s long-awaited report on how the European Union should reform the regulation of its financial sector.
The report was prepared by a committee of experts led by Jacques de Larosière, the former French central bank governor and International Monetary Fund managing director. It’s likely to set the framework for Europe’s stance at the April 2 G20 talks in London on reshaping the world financial system.
In my view, the most useful proposal is that of creating a European Systemic Risk Council to “pool and analyse all information relevant for financial stability”. This council would be chaired by the European Central Bank’s president, going some way to meeting the ECB’s long-standing wish to be more closely involved in supervising the financial sector.
How effective would such a council be? Obviously, it’s too early to say. But the creation of such a council would address one of the fundamental weaknesses of Europe’s financial sector, a weakness that’s been brutally exposed over the past six months. This concerns systemic risk.
Europe was exceptionally vulnerable to the financial sector instability generated in the US, because national regulators in EU member-states had allowed many large banks on their patches to pile up excessive leverage. That didn’t cause any trouble when the price of risk was low. But when risk aversion returned with a vengeance to the markets, many of Europe’s banks came under intolerable pressure.
By early October, the complete collapse of the European banking system was a distinct possibility – not only because of “contamination” from the US, but because financial sector regulation in the EU just hadn’t been strict enough. Only a last-minute rescue plan devised by leaders of the eurozone and the UK at an emergency summit in Paris saved the day.
The irony is that, now the prospect of total collapse has faded, the EU’s national governments feel less pressure to act as one and come up with a bold vision of regulatory reform. So we won’t have a single pan-European supervisor. Instead, as the de Larosière report puts it, we’ll have “enhanced, pragmatic, sensible European co-operation for the benefit of all”.
Well, it might work. But if there is one lesson for Europe from the financial crisis, it is that national authorities cannot be trusted to perform effective oversight of systemic risk in their banking systems.
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