Europe's Banking Union Solution (Portfolio)

MIN READJun 7, 2012 | 13:44 GMT

Video Transcript

The creation of a banking union is the latest rage amongst European leaders looking for respite from the region’s ongoing crisis. However, the degree of political integration required by such a solution would take years to put in place and does little to mitigate Europe’s more immediate problems, like Spain’s banking troubles or widespread unemployment.

The concept of a banking union is not new but has gained traction in the past few weeks as Spain is struggling desperately to find enough cash to recapitalize the country’s failing banking sector.  A banking union would collectively insure deposits held by all member states’ banks up to a certain level and provide a fund that could be used to recapitalize banks. Put simply, Berlin would share liability with Madrid for deposits held by Spanish banks and provide capital for a joint bank bailout fund. The European Union (EU) envisions that in exchange for this collective guarantee, member states would move closer to establishing integrated supervision of a financial sector regulated by a central authority. Certainly, the devil will in the details, but this is the gist.

A banking union would almost certainly take more than a year to finalize and likely not include all EU countries. It is only one part of a greater political process. The dilemma for Europe’s many stakeholders is that they have very different needs regarding how and at what pace this process occurs. The Europeans are not all facing the same constraints, which means that they are not operating with the same timeframes in mind.

Germany’s export economy arguably benefits the most from the common currency. Berlin has two primary goals — keeping the eurozone together in the immediate while over time institutionalizing stricter fiscal discipline and control mechanisms before agreeing to essentially a fiscal transfer union. Berlin cannot appear too eager to rescue the most egregious offenders. Germany wants to make sure the rest of the eurozone truly understands the need for fiscal discipline. Germany is facing little pressure from the markets and can afford to be patient. As such, Germany’s primary concern is focused on reforms that will take years before they bear any significant fruit.

Countries like Spain and Italy, on the other hand, are under immediate pressure from the bond markets and the cost of financing their debt is becoming increasingly unsustainable. While the EU has the tools to deal with this in the immediate term, it is not a comfortable position for Madrid or Rome. The institutional changes proposed by Germany will take years and they need immediate relief now, which means they will do everything they can to pressure Germany in making concessions sooner rather than later. Contagion from the crises threatening their own countries is the best leverage they have over Germany.

The struggle that is taking place between Spain and Germany offers a glimpse of what we can expect to see more frequently as the politicians try to implement the centralization of authority without giving too much control to an outside party. Spain wants its banks to be bailed out by EU funds directly — a process that is technically not allowed. This is to ensure that the government is not tied to any conditions. Germany, on the other hand, wants the bailout to run through the Spanish government so that Madrid is held accountable for the bank bailout.

Critically, the debates going on between Europe’s leaders over future political integration and bank recapitalizations does very little to help the individual struggling under the financial burdens of the crisis. While cleaning up the banks is a necessary step, the debates currently taking place amongst Europe’s political elite have no immediate impact on the growing rate of unemployment and economic contraction that is affecting their constituencies immediately. Thus, the question remains: how long can Europe’s political elite focus on long-term solutions concerned with sovereign debt and banking bailouts before a genuine social crisis emerges?

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