Cross Border Banking: Europe


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Cross Border Banking: Europe

  1. 1. Discussion Paper “Cross-border banking in Europe: what regulation and supervision?” Draft Comment by: Kumar Pallav1 Banking Regulation and Supervision Seminar Prof. Hertig1 Candidate for LLM, class of 2010, NYU School of Law. 1
  2. 2. SynopsisI. Introduction.....................................................................................................1-3II. European Supervisory Architecture- A Revised FrameworkA. Present European Supervisory Architecture (ESA) and need of proposal........5-8B. Proposed European Supervisory Architecture (ESA)...........................................9III. Potential solutionsA. European System of Banking Supervisors (ESBS).........................................9-13B. New Regulation for Financial Groups ..........................................................13-17C. Early Intervention Mechanism and Burden Sharing Issues...........................18-21IV. Conclusion .......................................................................................................22 2
  3. 3. I. Introduction Most financial institutions in the European Union (EU) are still based in onecountry, but a number of large financial institutions have systemic cross-borderexposures. Specially, Cross-border banks are a European and global reality andthey are crucial in maintaining and developing financial and economic integration.The recent crisis has shown that it is urgent to reform the European supervisoryarchitecture to recognize the international dimension of financial markets.2 It isimportant to achieve a prudential level playing field for European banks, whilehelping to remedy more rapidly problems presented by the national segmentationof Europe’s financial stability framework. This segmentation stands in the way ofbetter supervision and optimization across borders of banks’ operations. The EBAtherefore aims at leveling the playing field for cross-border banking business –which is essential to boost competition and productivity in Europe’s financialservices sector – and improving the cross-border supervision of large, complexcross-border banking institutions.3 In October 2008, de Larosiere Group submitted its report4 onimplementation of a new European supervisory architecture, particularly with the2See Peter Praet, Overview of recent policy initiatives in response to the crisis, Journal ofFinancial Stability 4, 368–375 (2008).3 See Praet, P., Herzberg, V., Market liquidity and banking liquidity: linkages, vulnerabilities andthe role of disclosure, Banque de France. Fin. Sta. Rev. 11, 95–109 (2008).4 See generally the High-Level Group on supervision on financial supervision in the EU, 3
  4. 4. view that there is an urgent need to reform and harmonize the European financialregulatory and supervisory framework. The cross- border banking perspectiveadopted in this report brings useful insights into the broader and comprehensiveapproach taken by the de Larosiere Group, whose mandate was to analyze financialmarkets overall. This report includes various proposals to reform the Europeansupervisory architecture.5 In times of stressed financial conditions, the current banking institutionalframework in EU does not give due consideration to the cross-border externalitiesand negative spillovers resulting from individual supervisory decisions. This paperexamines the implications that alternative regulatory structures may have forresolving failed banking institutions. This report gives emphasis on the EuropeanUnion (EU), which is both economically and financially large and has severalfeatures relating to cross-border banking. The present paper makes a first steptowards providing proposals for a new regulation for Multi National Banks(MNBs) to define the responsibilities and powers of the parent company andestablish neutrality with respect to the organizational structure of the cross-bordergroup (branches vs. subsidiaries). In this comment I intend to focus on the discussion paper by UniCreditGroupand how their proposals advanced by the High Level Group chaired by Mr. deLarosiere to move towards a European System of Banking Supervision whichwould operate along the same lines, in terms of independence, governance andmechanisms, as the present Eurosystem model. The goal of this comment will be to5 See Penning Och. Valutapolitik, “Cross-border financial supervision in Europe: Goals andtransition paths,” 2, 58-89(2006). 4
  5. 5. support and contrast the views of the UniCreditGroup, specifically in the issue ofrapid creation of a European supervisory architecture.II. European Supervisory Architecture- A Revised Framework This paper analyze the emergence of an increasingly integrated financial marketin the EU which is indeed a major challenge for financial supervision – a challengewhich goes to the heart of the objective of supervision: integration increasescontagion risks, and thereby jeopardizes financial stability; integration makes itmore difficult to ensure a level playing-field if rules and supervisory practicesdiffer; integration means the development of large cross-border groups, which willrequire more streamlined and cost-effective supervisory organization.6A. Present European Supervisory Architecture (ESA) and need of proposal At the current juncture, report reveal that the supervision of EU firmsremains largely based on national, home state supervision – but where cross borderfirms have set up subsidiaries under local law. These subsidiaries are regulatedfinally at host state level.7 Cross border branches of firms are regulated by thehome country, but safeguards have been provided in EU law for host state6 See Giannetti, M., and S. Ongena, Financial Integration and Firm Performance: Evidence fromForeign Bank Entry in Emerging Markets, Rev. Fin. 13, 181-223(2009).7 See Garcia, Gillian G. H., and María J. Nieto, “Banking crisis management in the EuropeanUnion: Multiple regulators and resolution authorities,” J. Banking Reg., Vol. 6, No. 3, 206-226(2005). 5
  6. 6. supervisors to act for example in emergency situations to protect depositors(Article 33 CRD).8 In the case of investment services, host state supervisors have significantareas of control - including the right to examine branch arrangements. Hostsupervisors retain control of liquidity in branches as well and should be informedof all relevant information about the group (Article 42 CRD and its recentstrengthening). This organization is a very complex one, leading to multiple reporting linesbetween supervisors and supervised entities and to complex mechanisms ofcooperation between home and host supervisors. Some argue that the presentarrangements should be preserved because, in certain cases, it could be better tohandle complex banking institutions with different supervisors holding differentviews on a number of issues. However, such a view would have to be backed by aprecise and convincing analysis.9 Given the above, report suggests that the current supervisory arrangementsare not optimal to contribute to a high degree of financial stability in the SingleMarket. Host Member States, in particular, largely depend on the effectiveness ofsupervision carried-out in the home Member States. And one supervisory mistakecan have major consequences throughout the Single Market. The appropriateness8 The Capital Requirement Directive 2006/48/EC (CRD).9 Reviews of the benefits appear in Caprio et al. (2006), Committee on the Global FinancialSystem (2004), Goldberg (2007) and Soussa (2004). Brief previous warnings about the unsettledstate of affairs in cross-border banking appear in Goodhart (2005), Eisenbeis (2005), and Mayes(2005). See in particular the analysis of the Nordea Bank, which is headquartered in Sweden butoperates in a number of other countries in the appendix to Mayes (2005). 6
  7. 7. of current arrangements also fails from an efficiency standpoint. In 2003, theSveriges Riksbank took the same observation and stated the affect due to failure ofthe current arrangement that: “… if a cross-border [branch bank] were to fail, it is improbable that either politicians or authorities in the respective countries would be willing to risk taxpayers’ money to guarantee stability in countries other than their own. This could prompt the concerned countries to try to ring-fence the bank’s assets in their own country with a view to minimizing the costs to the domestic economy, or not to intervene at all in the hope that other countries in which the bank has a bigger presence feel forced to act. The result could be a suboptimal resolution of the crisis that proves more costly or that produces greater adverse effects for all the countries involved.”Currently, banking institutions operating in different markets have to cope withdifferent national supervisory rules and practices. They have to commit extensiveresources to deal with numerous supervisors and differing supervisoryrequirements, for example in the area of reporting. This entails administrative costswithout any added value and mitigates the cross- border banking failures.10 Finally, one can question whether the current arrangements provide for alevel playing-field between banking institutions.11 Cross-border banking10 See Cerutti, Dell’ Ariccia, and Peria, “How banks go abroad: Branches or Subsidiaries?” J.Banking & Fin., vol.31, Issue 6, 1669 (2007); George Kaufman, “Banking Regulation &Foreign-Owned Banks” (2004).11 For the following discussion of the EBC see Cihak, M. and Decressin, J., ‘The case for aEuropean Banking Charter’ IMF Working Paper, 2007. 7
  8. 8. institutions have different home supervisors, depending on the Member Statewhere they have established their headquarters. These various supervisors mayhave different views on major supervisory issues.B. Proposed European Supervisory Architecture (ESA) There are a range of views on how EU banking regulation and supervisorystructures should face up to the challenges of the 21st century. What’s more, theseopinions are not static, which makes for a complex situation. The de LarosiereGroup identified the relevant Basel Committee12 standards for microfinanceactivities and develop additional guidance for micro prudential supervision.13 Theproposals advanced by the de Larosiere group provides a guidance, which is theresult of an analysis of the key issues and challenges faced by supervisors ofdeposit taking EU banking institutions engaged in microfinance. The guidance isnot a summary of best practices, nor does it constitute new principles or revisionsto the core principles. However, it is intended to highlight the key differencesbetween the application of each core principle to traditional retail banking andmicrofinance, pointing out areas that may require tailoring. Similarly, the Guidancedoes not seek to reduce or supersede the discretion of national supervisors to act ina manner that is consistent with their unique regulatory approach and their broader12 See Generally Basel Committee on Banking Supervision (BCBS), 2008. “Principles for SoundLiquidity Risk Management and Supervision”, See See L. Papademos, “Financial stability and macro-prudential supervision: objectives,instruments and the role of the ECB”, Speech of 4 September 2009. 8
  9. 9. policy goals. The analyses conducted to develop the guidance greatly benefitedfrom the findings of the range of practice described in this proposal, whichprovides background information on supervisory issues, practices and trends forthe regulation and supervision of microfinance.14 However, micro-prudentialsupervision might conflict with the European Central Banks role in monetarypolicy or expose it to excessive political pressures. Additionally, creation of twodifferent authorities could result in a loss of information for both macro- and micro-supervision. In contrast as an advantage, providing the European Authority withdirect micro-prudential supervisory powers would solve co-ordination problemsand contribute to the effectiveness of macro-prudential supervision. On the other hand of the spectrum, proposals deals with the potentialsolutions, within the ambit of European System of Banking Supervisors (ESBS).Additionally the de Larosiere group report suggest a new Regulation for FinancialGroups and also deal with Early Intervention Mechanism and Burden SharingIssues.III. Potential solutionsA. European System of Banking Supervisors (ESBS) The de Larosiere group’s recommendation proposes a new European Systemof Banking Supervisors which suggests a voluntary agreement between member14 See Jones, David S., and Kathleen Kuester King, “The implementation of prompt correctiveaction: An assessment,” J. Banking & Fin. 19, 491–510 (1995). 9
  10. 10. states. This includes that states should establish the ESBS coordinated by the EBA.Additionally this report opines that ESBS should make up of national bankingsupervisors for nationally operating banks. These national supervisors will formcolleges of supervisors for cross-border banks. Further the EBA shall coordinatenational supervisors and colleges of supervisors. However, the ESBS will operateas independent, and follow the same governance and mechanisms, as the presentEurosystem model.15 This report also suggests a significant step to provide open participation tonon-EU countries in the ESBS. The report classifies the supervision of cross-border banks in three tiers. First to the day-to-day supervision, which requiressupervisors to be close to a business, will remain to national supervisors. Second,for the decision level aspect, it suggest that strategic decisions affecting the entiregroup will be supervised by colleges of supervisors. Third, a noteworthy one, thatit provide a legally binding supervisory powers for each cross-border institution.Additionally report enhance the role of EBA by enhancing its coordination insupervision and information sharing. Report also provides a further function ofEBA, that EBA should participate within each college of supervisors and definethe issues. It shall have the final legally binding decision in the college. It alsogives the duty on EBA to coordinate early intervention mechanisms.16 Report also mandates a need for new regulation for MNBs. This is requiredin order to define the responsibilities and powers of the parent company,15 Detragiache, E., P. G. Garella, and L. Guiso, “Multiple versus Single Banking Relationships:Theory and Evidence,” J. Fin. 55, 1133-1161(2000).16 Commission Decision 2004/10/EC of 5 November 2003, “Establishing the European BankingCommittee”, O.J. L 003 of 7 January 2004, p. 0036-0037. 10
  11. 11. subsidiaries/branches. It is also required for institutional mechanisms for earlyintervention. This will allow neutrality towards the organizational structure of abanking group (branches vs. subsidiaries) and better and clearer allocation ofresponsibilities between national supervisors, colleges and the EBS.17 The mainpolicy objective of the proposal is to enhance cross-border supervisory co-operation for supervisory action to be perceived as unified by virtue of thecorresponding function of EBA within the ESBS regime. The present discussion ofthe report identifies some of the key issues that provide a potential solution by therole of ESBS and EBA in managing crises involving cross-border banks. The de Larosiere group report makes each national supervisor jointlyaccountable for the supervision of the cross-border groups operating in their ownterritory. It suggests them to participate in the appropriate colleges of supervisors.This would make all parties (participant) internalize the external effect caused by(the lack of) supervision, thus avoiding regulatory arbitrage. By virtue of that therisk of home country bias will be reduced and it will also provide the rightincentives to fully cooperate in and exchange all relevant information. Asindependent, the ESBS (including the EBA) will be accountable to politicalauthorities for financial stability and crisis prevention and management. According to the proposal, all powers not delegated to the EBA will remainin the hands of national authorities. However it will be exercised within the collegeof supervisors. College of supervisors shall take the relevant decisions relating to17 See art. 105 of the Treaty establishing the European Community, Consolidated Version O.J.C325 of 24 December 2002, p. 0001-0184 and art. 25 of the Protocol on the Statute of theEuropean System of Central Banks and of the European Central Bank, O.J.C 191 of 29 July1992, p. 0068-0079. 11
  12. 12. strategic, consolidated supervision of the group, under the coordination of theEBA. The EBA will retain legally binding final powers in the case of a disputebetween national supervisory authorities within the college.18 Regular meetings ofthe college of supervisors would take place in the Member State of the parentinstitution of the cross-border banking group (home Member State). Colleges ofsupervisors will have binding supervisory powers, performed by the nationalsupervisors within the college. In the case of dispute between national supervisors,the relevant decisions will be taken by the representatives from the EBA. Banksoperating domestically will remain under the supervision of national authorities.19 In all cases, report impose the compliance law based on the EuropeanSystem and suggest that European System of Banking Supervisors20 should actaccording to existing EU and national legislation and within the EU institutionalframework. This report also gives various alternative routes and options as asolution in case of a lack of European political consensus, proposes to theEuropean Commission for an enhanced cooperation.18 The Transformation of the European Financial System, European Central Bank, Frankfurt,2003, See Wymeersch, E. (2005), The future of financial regulation and supervision in Europe, SeeSSRN: See Dirk Schoenmaker and Sander Oosterloo, “Cross-Border Issues in European FinancialSupervision”, See nt. 4, p. 11 referring to J. Dermine, “Banking in Europe: Past, Present andFuture” in Vitor Gaspar, Philipp Hartmann and Olaf Sleijpen (eds.), The Transformation of theEuropean Financial System, European Central Bank, Frankfurt, 2003, See 12
  13. 13. B. New Regulation for Financial Groups In order to achieve full harmonization this report supports that EuropeanCommission should propose a harmonized regulation for MNBs. This regulationwill harmonize risk management rules and define the responsibilities and powersof the parent company and the branchessubsidiaries within the specific context ofthe banking sector and of a more efficient centralized supervision. It will also granta sector-specific form of protection to minorities and creditors. In addition, it will 21set out the mechanisms for early intervention and crisis management. Howeverthis new regulation on financial groups will set conditions for the recognition of theparent companys management powers over the whole group and it will includeasset transferability. As a result of this change, branch and subsidiary structureswill become relatively fungible. Furthermore new regulation will also define exante rules on deposit insurance and lender of last resort. This will provide a clearallocation of responsibilities, thus avoiding regulatory arbitrage and reducingsystemic risk. An integrated European supervisory model will support for a EuropeanBanking Group as it will set out the core regulatory framework for cross-borderbanking groups in Europe. Further rules should be adopted by the EC, which is asecond level regulation within the Lamfalussy regulatory architecture (as in the21 See Niemeyer, Jonas, “The Regulatory Framework for Banks in the EU: AnIntroduction,”Eco. Rev. 2(2006). 13
  14. 14. cases of the Market Abuse Directive and Markets in Financial InstrumentsDirective {MiFID}).22 The need of new regulation also supported as part of an effort to encouragethe development of a single economic market. Earlier in this same line the SecondBanking Directive (1988) as modified in 1995 established three principles –harmonization, mutual recognition and home country control. These principlestates as “Harmonization requires that a minimum set of uniform bankingregulations be adopted across the Union. Mutual recognition means that during thetransition to a single market, member countries would honor the regulations andpolicies of the other member states. Finally, regulation and supervision by the“home country” (country of charter) would have precedent over regulation andsupervision by a “host country.”23 Together with the concept of a single license,these three principles mean that, once a banking institution receives a charter froman EU member state, it would be permitted to establish branches anywhere withinthe EU without the necessity of review by the regulators in the host countries into 24which it expanded.” On the other hand, the proposed regulation will impose anadditional regulatory cost on subsidiary structure. This will hinder the most22 Schoenmaker, D. and Oosterloo, S., “Financial Supervision in Europe: Do we need a NewArchitecture”, ELEC, (2006).23 See David Mayes & Jukka Vesala, “On the Problems of Home Country Control” at 19–21,Bank of Finland, Studies in Economics and Finance 20/98 (1998).24 Regardless, of the form of entry, however, the Core Principles for Effective BankingSupervision (Basle Committee on Banking Supervision (1997)) clearly indicates that supervisionis to be “effective” within the EU, regardless of whether it is provided under the auspices of thehome or host county. 14
  15. 15. efficient allocation of resources through the internal capital market of the bankinggroups. Report proposed that new substantive regulations should be applicable tocross-border banks on a voluntary basis. But it can also be argued that a mandatoryregulation would be better suited for the purposes of leveling the playing field andavoiding regulatory arbitrage. There are also certain arguments which provide grounds for the proposedEuropean Commission. First argument suggests that the legal instrument of adirective is not appropriate for this purpose, as discretion is left to Member Statesin implementation. This argument further suggests that a regulation would bebetter suited, if the relevant rules would be directly applicable and uniform in allMember States. The ESBS will clearly benefit from regulatory uniformity and theEBA could further enhance it by adopting common policies, standards andinterpretations of harmonized supervisory rules which would be binding for allmembers of the supervisory network. In order to achieve full harmonization,common implementing measures could be provided by an EC regulation (in linewith what occurred in the cases of the Market Abuse Directive and MiFID).25 As per the recommendation in the report, European Banking GroupsRegulation (EBGR) should apply to banks with at least one branch or subsidiary26in a Member State different from the home Member State. No distinction should bemade between branches or subsidiaries in order to achieve neutrality with respect25 Majaha-Jartby, Julia, and Thordur Olafsson, “Regional Financial Conglomerates: A Case forImproved Supervision,” 05,124(2005) (IMF).26 See Cerutti, Dell’ Ariccia, and Peria, “How banks go abroad: Branches or Subsidiaries?”, J.Banking & Fin., vol. 31, Issue 6, 1669 (2007); George Kaufman,“Banking Regulation &Foreign-Owned Banks” (2004). 15
  16. 16. to the legal structure of the group. This regulation will guarantee an enhanced roleof coordination for the parent company towards its subsidiaries/branches. Thismeans that the group as a whole must make up a logical and economic unit.However, individual companies must retain a certain degree of independence, i.e.the parent company may not treat its subsidiaries merely as “departments”, therebycompletely, or even significantly, ignoring the interests of the subsidiaries.27 The management of the parent company should be at the centre of groupplanning and decision-making. However, there is no need for exact and immediatecompensation for the unequal burdening of an individual subsidiary. Compensationmight even occur years later and indirectly, through the benefits to the group as awhole with the individually burdened subsidiary being a part of it. The relevantinterests, in fact, shall always be assessed on a mid to long-term basis. However,even in the pursuit of the group interest as a whole, individual subsidiaries may notbe either unreasonably burdened or arbitrarily advantaged at the expense of othergroup members. In any case, the burden of individual subsidiaries may neverexceed its capacity to pay or jeopardize its soundness.28 Within this framework the parent company shall be free to enact its role ofdirection and coordination of the group as a whole, thereby enabling the effective27 Global Bank Insolvency Initiative, “Legal, Institutional, and Regulatory Framework to Dealwith Insolvent Banks”; Financial Stability Forum, “Guidance for Developing Effective DepositInsurance Systems” at 8–11 (September 2001); IMF Legal Department, “Orderly & EffectiveInsolvency Procedures” (1999).28 Degryse, H., and S. Ongena, The Impact of Competition on Bank Orientation, J. FinancialIntermediation 16, 399-424(2007). 16
  17. 17. functioning of the ICM within the MNB. This would allow group-wide, centralizedrisk management and compliance with capital requirements.29 The regulation would allow a uniform set of rules creating a level playingfield, ensuring the effective functioning of the ICM and achieving neutrality withrespect of the legal structure of an MNB. On the other hand, harmonizationproposed for the bank includes the information sharing requirement. Howeverproposed report lack the uniform application of this information sharing issue dueto the privacy laws in different countries. This report fails to provide that how toresolve this issue. As concerned by the regulators, secrecy legislation remains animpediment in certain circumstances and jurisdictions. In this case, whilerecognizing the legitimate issues and reasons for protecting consumer privacy willaffect the mechanism of information sharing requirement for harmonization,because such secrecy laws should not impede the ability of supervisors to ensurethe safety and soundness in the international banking system. Additionally, report fails to address that how will the new regulation face thechallenge of diverse regulations in different EU countries. For an example, inEngland and Wales, Financial Services Authority30 regulates and supervises all thefinancial services including banking. Likewise other EU territories have differentset of regulations. This report fails to disclose that how the uniform regulation shalltake place in this diverse regulatory region.29 See Henk Brouwer, Gerbert Hebbink & SandraWesseling, “A European Approach to BankingCrises,” in David Mayes & Aarno Liuksila, eds., Who Pays for Bank Insolvency? at 211 (2004);30 FSA, available at 17
  18. 18. C. Early Intervention Mechanism and Burden Sharing Issues The UniCreditGroup report gives stronger emphasis to trigger mechanismsfor automatic adjustment and early intervention mechanisms in order to minimizethe need to resort to public money. A reform of Deposit Guarantee Schemesfacilitates this approach.31 The current financial turmoil has shown the importanceof defining a consistent regulatory framework for crisis prevention, managementand resolution. A macro-supervision scheme, such as the one proposed by the deLarosière Group, represents from this point of view a crucial element that withrespect to micro-level, a uniform framework should be applied across countriesand developed on the assumption of an MNB being a single undertaking. Thisframework generally addresses, inter alia, the crucial issue of negative spilloversarising in the event of a branch of a foreign institution going bankrupt and theDeposit Guarantee Scheme (DGS)32 of the host country. However, it is inadequateto fulfill its obligation towards foreign depositors (the small country issue). Anyproposal relating to crisis prevention generally implies an a priori consideration onhow to deal with the trade-off between moral hazard for banks and effectivenessin crisis management. In the same line a ‘Prompt Corrective Action’ (PCA) scheme as suggested,will reduces the risk of bank failure by requiring action to be taken in the earlystages of financial distress to try to stop the problem from escalating. In the case of31 Evidence from Foreign Bank Entry in Emerging Markets, Review of Finance 13, 181-223.32 See Michael Krimminger, “Deposit Insurance and Bank Insolvency in a Changing World:Synergies & Challenges,” Current Developments in Monetary and Financial Law, IMF (2004)available at 18
  19. 19. an ailing MNB, the EBA is empowered with the authority to nominate a task forcefor corrective action.33 The task force will be formed and function to propose a plan for thereorganization and the winding-up of the banks belonging to a cross-border groupmobilizing private resources and deposit guarantee funds. This will beimplemented in order to minimize the eventual need for public money. Depositguarantee funds will have to balance the costs of early intervention with the risk ofhigher costs in the case of bankruptcy. The task force shall have powers to traceasset transfers within subsidiaries.34 The de Larosiere Report partially address theproblems like the Obstacles to asset transferability between group entities , becauseit do not allow for fully consolidated supervision, centralized compliance and riskmanagement of cross-border banking groups. However, asset transfers still faceseveral obstacles in the company, insolvency and banking laws of several MemberStates, as harmonization is still lacking. Moreover, differences are found betweenthe subsidiary and the branch structures that will affect the compliancerequirement. For more effective and timely early intervention in crisismanagement, clear-cut trigger events should be established, which should focus notonly on solvency but also on liquidity. Indeed, recent bank failures have shown thatthe borders between liquidity and solvency crisis are often blurred, as liquiditycrises might rapidly turn into solvency crisis, especially in listed banks. In order toavoid moral hazard, however, no clear ex ante rules should address the bail-out of33 See Cihàk, M. and Decressin, J. (2007), “The Case for a European Banking Charter”, IMFWorking Paper, WP/07/173.34 Nguyen, G., National Bank of Belgium, Fin. Stability Rev., 89–102(2008). 19
  20. 20. an insolvent bank with public funding, which shall remain a political issue to bedealt with at national level. Centralized supervisory system, such as the one proposed here in the report,is in itself a fundamental improvement on the status quo. However, a joint reformof national DGSs would make it more effective and credible. The debate on thereform of banking supervision generally falls short of also discussing a reform inDGSs. The possible reforms that have been investigated so far mainly concern theharmonization of DGSs across Europe.35 It should also be clear that, regardless of the type of reform, a DGS may notbe sufficient in facing systemic events, such as diffuse episodes of financialdistress or the failure of a large banking group. Both banking supervision andDGSs have implicit costs and benefits. Banking supervision helps maintainfinancial stability but it can be relatively more costly, both for banks and taxpayers.DGSs can help prevent and contain the overall costs of a crisis but they have thedownside of engendering moral hazard in normal times. A well-designed and comprehensive DGS reform in the banking sector hasnot yet been proposed, probably due the complexity of the issue. In this case, whatconcerns is the definition of clear rules of burden sharing between countries. Someburden sharing rules should have been proposed in the literature.36A feasible35 See Dr. Alan Bollard, Governor, Reserve Bank of New Zealand, in address to Trans-TasmanBusiness Circle in Sydney, Australia, August 11, 2004; See also Basel Concordat (1983); TheSupervision of Cross-Border Banking (1996); and Supervision of Financial Conglomerates(1999).36 Ongena, S., and D. C. Smith, The Duration of Bank Relationships, J. Fin. Eco. 61, 449-475(2001). 20
  21. 21. alternative is, rather, to leave the determination of burden sharing, when fiscalresources are involved, to the negotiation of national authorities. If there is nogovernment agreement on burden sharing or the common decision of the EBA andrelevant national governments is to let the group fail, national bankruptcy rulesshould be applied and the EBA should also provide information to national judicialcourts.37 Due to remarkable differences in domestic bankruptcy laws, it is highlyunlikely, at least at this stage, that harmonization in bankruptcy regulations acrossEurope will occur. Moreover, Davide Alfonsi discussed38 the various issues andproblems of this report in European parliament on Oct. 7, 2009 as: “Once more, we come back to a problem of institutional architecture, which in this case can involve also the creation of uneven playing fields between Europe and the rest of the world. Our obvious recommendation is that all international institutions entitled with designing the new financial architecture work closely together and that impact and spill-over effects of the whole set of new rules be carefully assessed before implementation.”On December 1, 2009 on the same lines, European Banking Federation givessupport with the key features39 to the European Commission proposals on thereform of the European supervisory architecture.37 Hardy, D.C. and Nieto, M.J., “Cross-Border Coordination of Prudential Supervision andDeposit Guarantees”, IMF WP/08/283.38 Davide Alfonsi, EPFSF Lunch Discussion, European Parliament, Brussels “Financialsupervisory architecture”, Oct 7, 2009.39 EBF position on the EC proposals on the reform of the ESA, Nov. 2009, available at 21
  22. 22. V. Conclusion: The focus of UniCreditGroup report has been on the structure of supervisoryand regulation for banking groups in cross-border banking through branching withparticular emphasis on the EU and the related aspects of failure resolution andcoordination when financial problems arise. The present issues reforming cross-border banking is important and deserves attention because the impact of resultingcrisis. This report has identified a number of issues and concerns about the presentsystem design that are likely to result in higher than necessary mechanism forcross-border banking. At present date, substantial progress appears to have beenmade in the EU in dealing with them. Indeed, as both cross-border branches andsubsidiaries increase in importance in host EU countries. Implementing theseproposals would go a long way towards mitigating or possibly even eliminatingmany rules of the EU regulation and related supervisory problems inherent in thecurrent multiple and confusing EU banking regime and across countries. Finally, UniCreditGroup report propose a mechanism to put such a schemeinto place quickly in the case where a cross-border banking organization seeks totake advantage of the liberal cross-border branching provisions in the singlebanking plate-form available to banks in the EU. 22