European banking ‘in generally poor shape’

The eurozone has still not agreed on a banking resolution regime that will solve the looming crisis in the region, according to economist Colm McCarthy.

So far the focus of a eurozone banking union has been on designing a single supervisory mechanism, but this on its own is inadequate to deal with problems in the financial sector.

Speaking at the Conference on Irish Economic Policy held in Dublin yesterday, Mr McCarthy said the European banking system “was in generally poor shape.” Banks across the eurozone had a collective balance sheet of €33.9 trillion, which was 357% of GDP. In the US, banks had a balance sheet of €8.6trn, which was 78% of GDP, and in Japan the corresponding figures were €7.1trn, which was 174% of GDP.

The average sovereign debt level across the eurozone was 90%, with five member states at over 100% of GDP, including Ireland.

This meant that in future governments were very limited in their ability to bailout the banking system. “Even in Germany, debt-to-GDP is 82%, but Deutsche Bank is 60% of GDP, so if the German government had to bail it out, it would easily add another 15% onto sovereign debt,” said Mr McCarthy.

A comprehensive resolution regime was needed that enabled the bail-in of senior bondholders if the link between sovereign and bank debt was to be broken in the future.

“The idea of a banking union with a weak resolution regime flies in the face of reality,” he added.

Moreover, if banks were forced to carry 10% in equity and another 10% in subordinated bonds to give them 20% in ‘at-risk’ assets, then it would decrease the cost of deposit insurance, which is the third pillar of a banking union.

Speaking at the same conference, Trinity College Dublin economics lecturer, Frank Barry, said that unless the eurozone moved towards fiscal federalism, then the euro would collapse.