Q&A: European banking union

Amid the political debate about how to draw eurozone members closer together in an attempt to fix the deepening debt crisis, a 'banking union' has been proposed. ??

What is a European banking union?

A banking union has been proposed by the European commission and could come into effect as soon as 2013. It would mean one regulator would oversee banks across European countries.

Plans also include a bank bailout fund financed by a tax on financial institutions and an EU-wide deposit guarantee scheme to protect savers from failing banks. ?

Things are very much in the early stages at the moment, and it?s unclear whether the union would bring together the 27 member states, only the 17 eurozone countries, or if it would exist in its loosest form as an intergovernmental banking union.

This in turn would determine whether the union is run at a commission level, possibly by the European Banking Authority across the EU, or though the European Central Bank (ECB) overseeing eurozone states only.

Why would we need one?

Governments are under pressure to solve the crisis and, as the eurozone becomes more unstable,?bailouts from?the?European Financial Stability Fund (EFSF) and ECB liquidity injections through?long-term refinancing operation (LTRO) are becoming less effective.

The union is intended to reduce banks? risk from lending to indebted governments by providing a bailout fund. It would mean that governments could borrow from banks at cheap rates, with guarantees from unified banking system and stronger countries such as Germany.

It is a step towards a more integrated fiscal union, rather than a purely monetary union with a common currency. Spyros Andreopoulos, analyst at Morgan Stanley, says: ?A banking union is a necessary condition for a viable fiscal union, which in turn is required for a viable monetary union.

?In fact, we view a banking union as a halfway house between pure monetary union and fiscal union. The structure of the banking union must mirror the structure of the fiscal union: the insurance element arising from the pooling of resources requires a discipline element to prevent moral hazard.?

Is it going to cause more controversy in the European Union?

Controversy, in the EU? Surely not! The biggest issue could be an EU-wide deposit guarantee scheme, which could see national governments give up large amounts of money to insure savers against any potential bank collapse. As usual, Germany will probably have to dig the deepest to find the funds for the scheme.

It would also mean governments could borrow from banks at cheap rates, which would in turn be supported by a bailout fund. However, it doesn?t impose any obligation on countries to address the more serious underlying economic problems, as a greater fiscal union is required for that to happen.

Germany has stressed that it would require eurozone states to reduce their debts before it?is willing to give guarantees for one country?s banks. Chancellor Angela Merkel has also attempted to shake off pressure to underwrite bank deposits, stating that?the proposals would be ?counterproductive? and violate the German constitution.

Also, the German Bundesbank has said the plans can only work if they are used together with more guarantees to reduce national debt and improve banking supervision. Vice-president of the?Bundesbank Sabine Lautenschlaeger, said it would require ?comprehensive changes to EU treaties? to go ahead.

However, EU treaties already?allow the ECB to become a banking supervisor, and if all eurozone states agree it can step in to monitor banks and wind down failing institutions.

Is it just a bailout guarantee for eurozone banks?

Current plans would see a bank rescue fund created from levies on financial institutions across the union. The idea is that this would be used to prop up failing banks and provide more security for them to lend to governments.

What is the UK?s likely involvement in such a project?

So far the UK has said it won?t sign up to a banking union. Instead, the view is that the union should apply to banks in the 17 eurozone countries, to provide stability for the single currency. Downing Street says it will protect the country?s lucrative banking industry in the City from the proposed union and any potential fallout.

Divisions around the UK?s role in the EU erupted last December?when prime minister David Cameron?vetoed treaty change allowing for greater?fiscal union as it didn?t protect the country?s financial services industry.

The proposals come amid the news that the British government will implement recommendations from the Independent Commission on Banking (ICB).?The reforms?will see UK retail banking operations ring-fenced from investment banking.

Is it likely to happen?

Manuel Barroso, president of the European commission, is in support of the union, and says a rapid?agreement on some of the plans needed to set up the union could see it up and running as early as 2013.

The commission also insists that treaty change would not be necessary; however, setting up a common bailout fund would require a unanimous vote, as it?s a taxation issue. It could also require a constitutional vote in some countries.

Germany has also been slow to endorse the plans, stressing that a banking union could only work if more fiscal integration and mandatory deficit reductions in peripheral states are in place. ?

Plans are due to be put forward at a European council meeting on the 28 and 29 June, and given the uncertainty around the proposals a start date of 2013, though necessary to provide greater stability, seems unlikely.

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