Conventional wisdom has it that the euro zone needs a banking union to solve its crisis. This is wrong. Not only are there alternatives to an integrated regulatory structure for the zone’s 6,000 banks; centralisation will undermine national sovereignty.
“Create a banking union” became a rallying cry earlier in the year when it looked like the euro was going to explode. Advocates of a single banking authority said it would break the “doom loop” which tied troubled banks to troubled governments. European Union governments will this week continue their attempt to agree on a single supervisor, the first stage of a banking union.
There are two parts to the doom loop: when banks go bust, their governments bail them out, adding to their own debts; and when governments become over-indebted, the nation’s banks are usually big lenders, so the banks get sucked into the sovereign debt vortex.
A full banking union would break the first part of this loop. There would be a central mechanism which would either recapitalise troubled banks or close them down. There would also be a single euro zone-wide deposit guarantee scheme. The cost of dealing with banking crises would, therefore, be borne by the whole euro zone rather than national governments.
The other half of the loop – the way that sick governments infect banks – would be left intact. This is worrying; banks in peripheral countries have doubled lending to their own governments to 700 billion euros over the past five years, according to the Bruegel think-tank.