On 14 October 2013, the European Central Bank (ECB) published a speech given by its President, Mario Draghi, on 12 October 2013 regarding the Euro area economic outlook, ECB monetary policy and current policy challenges.
The speech was wide-ranging, but touched upon progress made to date in establishing European banking union. Mr Draghi welcomed the approval of the single supervisory mechanism (SSM) by the European Parliament on 12 September and looked forward to its “urgent adoption” by the EU Council later this month, with a view to the ECB adopting its new supervisory role by November 2014. In addition, Mr Draghi supported the establishment of the single resolution mechanism (SRM), “a necessary complement to the SSM”, by the end of 2014.
The Single Resolution Mechanism (SRM) proposed by the EU Commission in July has suffered a fresh blow (see this blog for SRM background). On 7 October 2013, an opinion from the European’s legal service sheds serious doubt on the legality of giving a new agency wide discretion to close troubled banks under EU treaties, potentially undermining a key element of the resolution proposal.
The 26-page document warns of the pitfalls involved in giving a body too many powers and in particular states that “The legal service considers that the powers which would be conferred by the proposal of the board…need to be further detailed in order to exclude that a wide margin of discretion is entrusted to the board”. The legal opinion may cause the EU Commission to rethink the proposal, causing more delays. The first stage of the proposal which involves the European Central Bank directly supervising 130 top euro zone lenders has already been delayed to the end of 2014. The SRM which forms one of the building blocks of the EU Banking Union now needs backing of member states to become law.
On 12 September 2013, the European Parliament published a press release announcing the adoption of a package of legislative acts to set up a Single Supervisory Mechanism (SSM) for the Eurozone. The SSM legislation was adopted with very large majorities and will bring the EU’s largest banks under the direct oversight of the European Central Bank (ECB) from September 2014.
On 10 July 2013, the EU Commission proposed a Single Resolution Mechanism (SRM), a complement to the Single Supervisory Mechanism (SSM) and one of the building blocks of EU Banking Union. The SRM is designed to ensure that the resolution of a failing bank can be managed efficiently with minimal costs to taxpayers and the real economy.
The proposed SRM would apply the substantive rules of the Recovery and Resolution Directive (RRD). The EU’s Council of Finance Ministers reached agreement on a general approach to the RRD on 27 June and the EU Parliament’s Committee on Economic and Monetary Affairs adopted its report on 20 May. Negotiations between the Council and the European Parliament are due to start soon with the aim of reaching final agreement on the RRD in autumn 2013. At its recent meeting, the EU Council of Ministers set themselves the target of reaching agreement on the SRM by the end of 2013 so that it can be adopted before the end of the current European Parliament term in 2014. This would enable it to apply from January 2015, together with the RRD.
Under the SRM:
the European Central Bank (ECB) would signal when a bank in the euro area or established in a Member State participating in the Banking Union was in severe financial difficulties and needed to be resolved;
a Single Resolution Board, consisting of representatives from the ECB, the EU Commission and the relevant national authorities, would prepare the resolution of a bank;
a Single Bank Resolution Fund, funded by contributions from the banking sector and replacing national resolution funds, would be set up under the control of the Single Resolution Board;
on the basis of the Single Resolution Board’s recommendation, or on its own initiative, the EU Commission would decide whether and when to place a bank into resolution and would set out a framework for the use of resolution tools and the Single Bank Resolution Fund; and
under the supervision of the Single Resolution Board, national resolution authorities would be in charge of the execution of a resolution plan.
Broadly, under the new regime, the European Central Bank (ECB) will assume responsibility for the supervision of “significant” credit institutions, with “less significant” credit institutions to remain subject to regulation by national supervisors. “Significance” is to be based on the following criteria:
importance for the economy of the EU or any participating Member State; and
significance of cross-border activities.
In addition, any credit institution will be regarded as “significant” if:
it has total assets of EUR 30 billion or more; or
the ratio of its total assets to the GDP of the participating Member State of establishment exceeds 20% (unless the total value of its assets is below EUR 5 billion); or
the ECB considers it to be of significant relevance; or
it has requested or received public assistance directly from the European Financial Stability Facility or the European Stability Mechanism;
it ranks amongst the three most significant credit institutions in a participating Member State.
The ECB will assume responsibility for, inter alia:
authorisations and withdrawal of authorisations;
the administration of certain activities currently carried out by home state regulators, such as the establishment of branches in non-participating Member States;
the assessment of applications for the acquisition and disposal of “qualifying holdings” (i.e. involving 10% or more of capital or voting rights);
the regulation of own funds requirements, securitisations, large exposure limits, liquidity, leverage, and reporting and public disclosure of information on those matters;
the enforcement of governance arrangements, risk management processes, internal control mechanisms, remuneration policies and internal capital adequacy assessment processes;
conducting supervisory reviews and stress testing;
consolidated supervision where parent companies are established in participating Member States; and
supervisory tasks in relation to recovery plans, early intervention and structural changes required to prevent financial stress or failure (but excluding any resolution powers).
On 19 April 2013, pursuant to a request from the Austrian Ministry of Finance, the European Central Bank (“ECB”) published an opinion (dated 11 April 2013) on certain draft Austrian recovery and resolution planning (“RRP”) legislation – the draft Banking Intervention and Restructuring Act and associated amendments to the Federal Banking Act and the Financial Market Authority Act (the “Draft Law”).
In general, the ECB welcomed the Draft Law, but commented, amongst other things that it:
does not contain the resolution tools required by Title IV of the EU Recovery and Resolution Directive (“RRD”); and
requires credit institutions (“CIs”) to prepare and submit resolution plans to the Austrian Financial Market Authority (“FMA”), rather than make this a responsibility of the FMA itself.
On the principle of Proportionality, the ECB noted that the Draft Law provides for a complete exemption from a CI’s obligations to submit an RRP if that CI’s insolvency can be presumed not to have any material adverse impact on the financial markets, on other CIs or on funding conditions. The ECB considers that Article 4 of the RRD does not allow such a complete exclusion, providing only for simplified obligations for certain less systemically important CIs. Furthermore, the ECB itself remains of the view that it is perfectly possible to make all CI’s subject to RRP legislation, whilst merely simplifying RRP requirements for smaller CIs. Nonetheless, the ECB acknowledges the ongoing discussions within Europe on the subject of enabling Member States to waive the requirement to maintain and update RRPs in certain cases and understands the benefit in avoiding overburdening small CIs. As such, it recommends that any such exemption is granted only under “very strict conditions in accordance with the proportionality principle of the RRD”.
Not very helpful advice, given the admission that the proportionality principle of the RRD does not permit a full exemption. The net result is that there is still no answer to the question as to whether a non-systemically important bank will be able to benefit from a complete exemption from RRP legislation.
On 18 April 2013, the EU Council published a press release confirming that agreement had been reached with the EU Parliament on the establishment of the single supervisory mechanism (SSM) with respect to EU credit institutions.
The European Central Bank (ECB) will be responsible for administration of the SSM, but national supervisors will retain responsibility for takes not conferred on the ECB, such as consumer protection, money laundering, payment services and branches of third country banks. The ECB will assume its supervisory role with respect to the SSM either on 1 March 2013 or 12 months after entry into force of the legislation, whichever is later to occur.
On 4 April the European Central Bank (ECB) published a letter from Mario Draghi, President of the ECB, to Nuno Melo, MEP regarding the scope of supervisory responsibilities under the Single Supervisory Mechanism (SSM).
In the letter, the ECB makes clear that the scope of the SSM is designed to include all credit institutions in the euro area and in non-euro area Member States wishing to participate within the SSM. Furthermore, the current draft legislation regarding the SSM distinguishes between “significant” and “less significant” banks according to:
importance to the economy;
cross-border activity; and
whether or not they benefit from direct EU financial assistance.
The ECB will have full supervisory powers over significant banks, with the assistance of national supervisory authorities. However, in order to ensure that it can effectively supervise all credit institutions within participating Member States, the ECB will also have certain powers with respect to less significant banks, namely:
national supervisory authorities will need to abide by ECB regulations, guidelines and instructions; and
the ECB may, at any time, decide to exercise direct supervision over less significant banks, based on the supervisory data on such institutions to which it will have access.
The opinion of the European Central Bank (“ECB”) (dated 29 November 2012) on the proposed directive establishing a framework for recovery and resolution of credit institutions and investment firms (the “RRD”) was recently published in the Official Journal of the EU. The opinion addressed a number of issues under the RRD and suggested various amendments to the text of the directive. The extent to which the ECB’s suggestions will ultimately be adopted is as yet unknown. However, a number of elements are worthy of note.
The ECB proposals included amending the resolution objectives so as to require the protection of all deposits and not only those which benefit from the statutory EUR 100,000 protection limit. CCPs in particular will also welcome the ECB’s suggested amendments to Articles 32 and 34 of the RRD such that any bridge institution or purchaser of a failed firm must continue to meet regulatory membership criteria of relevant payment, clearing and settlement systems – an amendment which the ECB specifically notes is designed to enable the operators of such systems to assess whether the bridge institution/purchaser continues to meet relevant membership criteria. However, of most interest, were the ECB’s comments regarding the point of non-viability under the RRD.
At a principal level, the ECB believes that institutions that are failing or likely to fail should be liquidated under national insolvency proceedings if there is no public interest concern in their resolution. Bail-in powers should only be used to maintain an institution that has reached the point of non-viability as a “last resort”. Accordingly, the ECB proposes to amend the definition of “resolution” under the RRD so as only to allow restructuring of an entire institution in ‘exceptional and justified’ circumstances.
At a more practical level, the RRD currently entitles resolution authorities to take a resolution action if either the resolution authority or the competent authority determines that an institution is failing or likely to fail. However, in the opinion of the ECB, the role of the competent authority as prudential supervisor and regulator makes it best placed to determine, for example, whether an institution is in breach of its capital requirements for continuing authorisation. As such, the ECB considers that the “competent authority” alone should make the determination as to whether an institution has reached the point of non-viability and suggests amending Article 27(1)(a) of the RRD accordingly. Moreover, the decision of any competent authority as to whether an institution is actually failing or likely to fail, should be based solely on an assessment of the prudential situation of the institution in question. As such, a need for state aid should not, in itself, represent conclusive evidence that an institution is failing or likely to fail, although it would be taken into account in assessing the institution’s prudential situation.
In the main, the speech detailed the way in which the ECB could assume a banking supervisory role alongside its existing monetary policy functions whilst avoiding conflicts of interest.
Mr Cœuré believed that there were actually “desirable synergies” between the two roles. However, he recognised that the independence of the ECB must be protected and views the creation of well-functioning European bank resolution mechanism as crucial in this respect as it would:
limit residual risk to governments’ balance sheets, in particular through the timely implementation of bail-in instruments, and
ensure a strict separation between supervision and resolution.
As such, a European wide bank resolution mechanism will be implemented as the second leg of banking union, with 2013 a key year for making progress.