The Cyprus fiasco sets a high bar for the euro zone’s new banking union. The new superregulator might not have been able to stop the blowup, or to avoid losses for insured depositors. The clear lesson from the mess is the need for a procedure to wind down failing banks.
Whether Cyprus’ decision to force losses on uninsured depositors is really a one-off depends on how much faith can be put in the euro zone’s future single supervisory mechanism, overseen by the European Central Bank. It needs to be able to stop banks from accumulating shaky sovereign debt, as happened in Cyprus with Greek government bonds, and to check their excessive reliance on offshore money.
Having a single supervisor should be a step forward. The assumption is that it will be less influenced by national politics, hence capble of making tough decisions. However, there are weaknesses in the system. The centralized regulator will directly oversee only the largest banks. It can bring other banks under its supervision, but this could prove to be difficult. Furthermore, much of the work will be delegated to the local regulators, who have a patchy record in spotting problems and enforcing rules. Lastly, the regulator has its legal limits. It can’t, for example, change a country’s tax system, or ask for a country’s offshore financial services sector to be dismantled, without facing political opposition.
The Cyprus crisis also highlights the lack of a common deposit insurance regime. Cyprus’ banks were so big that its national deposit insurance scheme was inadequate to protect insured depositors. This could have been handled through a single euro-zone-wide deposit guarantee fund with a common public-sector backstop. However, at the moment that isn’t on the cards.
Finally, the Cypriot mess highlights the n! eed for a clear resolution regime that allows banks to be wound down easily, and losses to be allocated to bondholders and uninsured depositors. That would give some confidence to insured depositors that their money is really safe when their bank goes bust. The euro zone is working on a resolution framework, but the ability to force losses on senior creditors and uninsured depositors may be delayed until 2018. Cyprus shows it must come sooner.
Neil Unmack is a columnist at Reuters Breakingviews. For more independent commentary and analysis, visit breakingviews.com.
