The Banking Union: Flawed by Design

Abstract

Banking supervision in the European Union (EU) has traditionally been the prerogative of Member State authorities. The financial crisis that started in 2008 exposed the limitations of this regime. These included, most notably, a tendency of national supervisors to be overly generous towards domestic banks, and the difficulty of supervising transnationally operating banks in an effective manner. To address these problems, the EU created the Single Supervisory Mechanism (SSM), which assigns the European Central Bank (ECB) a central role in supervising European banks. This reform represents substantial progress over the status quo ante. However, this Article argues that the SSM is nonetheless deeply flawed. One shortcoming is that banking supervision is placed in the hands of an institution, the ECB, which already has a different and potentially conflicting mission, namely the pursuit of price stability. In addition, the scope of authority bestowed on the ECB in the domain of banking supervision is woefully inadequate. The ECB has no supervisory authority over banks in countries outside of the Eurozone, unless the relevant Member States choose to cooperate voluntarily. Moreover, even within the Eurozone, only the largest banks are directly supervised by the ECB whereas less significant institutions continue to be supervised by Member State authorities. Finally, in supervising the largest banks, the ECB must cooperate with national authorities in a relationship that is unlikely to function well. In light of constitutional and political constraints, these limitations may seem understandable. As a matter of policy, however, they threaten to undermine the effectiveness of banking supervision in Europe.