Cicero Policy Briefer

Issue 27, August 2008

Financial supervision—Opportunity in the crisis

By Piia-Noora Kauppi, MEP for the National Coalition Party (Kokoomus) of Finland

The past year's financial turmoil that started with US sub-prime mortgages and brought financial markets worldwide to a near standstill revealed a number of weaknesses in the financial system. Among other things, it has alerted decision- makers to the inadequacy of current levels of supervisory cooperation in markets, which are interlinked to the extent that crises cannot be contained within a single continent, let alone a single state.

Fortunately, none of the banks that were hit the hardest by the crisis were truly pan-European actors. Had they been, the blame game for supervisory responsibility would have been endless. Worse, nobody would have known who should take the responsibility for bailing them out. These issues must be resolved before a truly European bank run materialises. While solutions must eventually be sought at the global level, realistically this won't happen in the near future. However, at the European level, we have the decision-making structures to develop a strong common supervisory framework already in the short to medium term.

The Ecofin Council's Roadmap of last December has set the ball rolling in the right direction. Strengthening the Level 3 Committees of supervisors, establishing clear guidelines for the functioning of the supervisory colleges for cross-border institutions and reinforcing the European mandates of national supervisors are all necessary steps towards more supervisory convergence. Many of these changes are to be engraved in EU legislation by the Commission during this year. However, to a large extent, the ethos of the roadmap is still one of national cooperation with no real enforceability.

There is a fair amount of pressure in the European Parliament to push for a little more than the Council seems willing to concede. A two-level structure, where the genuinely cross-border financial institutions would fall under a European system and the purely national ones would remain under national supervision, is considered a viable option. This does not mean setting up another agency, at this point.

However, the European system of prudential supervision and financial stability oversight would consist of a mediation college built inside the present Lamfalussy structures and working closely together with the European Central Bank (ECB). This kind of structure could bring benefits in levelling the playing field for the cross-border groups and solve problems deriving from group-specific colleges. The financial stability oversight arrangements should be developed between the ECB and the L3 committees. Maybe the functions and the role of the present Banking Supervision Committee in the ECB should be rethought. There is a need to follow systemic trends—such as potentially destabilising accumulation of assets like CDOs—to recognise upcoming crises before it is too late. The ECB may be best placed to carry out this task, given that effective information-sharing towards it by the colleges and the Level 3 committees is guaranteed.

Obviously, there are issues to be resolved with this model, such as the division of labour between the national supervisors and the L3 committees and involvement of third country supervisors and non-Eurozone central banks. These are nevertheless insufficient arguments for discarding the model.

The EU has regulation that works, but supervision and enforcement that lag behind. Some say the Americans have it vice versa. We must get our act together in this respect in order to have a say globally—which we deserve. Despite initial doubts, the Euro system is working very well—to the extent of the Euro now threatening the dollar as the leading global currency. Why shouldn’t our financial supervision?

Piia-Noora Kauppi is MEP for the National Coalition Party (Kokoomus) of Finland and can be contacted here.