The Palgrave Handbook of European Banking Union Law [1st ed.] 978-3-030-13474-7;978-3-030-13475-4

Table of contents :
Front Matter ....Pages i-xxix
Front Matter ....Pages 1-1
Multilevel Governance in Banking Regulation (Rosa M. Lastra)....Pages 3-17
European Banking Union Within the System of European Banking and Monetary Law (Christos V. Gortsos)....Pages 19-40
European Banking Union and Its Relation with European Union Institutions (Alexander H. Türk)....Pages 41-64
Proportionality in the Single Rule Book (Bart Joosen, Matthias Lehmann)....Pages 65-90
The System of Administrative and Jurisdictional Guarantees Concerning the Decisions of the European Central Bank (Marcello Clarich)....Pages 91-103
The European Banking Union in the Case Law of the Court of Justice of the European Union (Mario P. Chiti)....Pages 105-134
The Future of the European Banking Union: Risk-Sharing and Democratic Legitimacy (Pedro Gustavo Teixeira)....Pages 135-154
Front Matter ....Pages 155-155
Single Supervision Mechanism: Organs and Procedures (Raffaele D’Ambrosio)....Pages 157-182
The Concept of Systemic Importance in European Banking Union Law (Pablo Iglesias-Rodríguez)....Pages 183-211
Non-Performing Loans and the European Union Legal Framework (Elisabetta Montanaro)....Pages 213-246
The Single Resolution Mechanism: Authorities and Proceedings (Olina Capolino)....Pages 247-270
Recovery and Resolution Planning (Marilena Rispoli Farina, Luigi Scipione)....Pages 271-298
The Relevance of the Resolution Tools Within the Single Resolution Mechanism (Jens-Hinrich Binder)....Pages 299-320
Minimum Requirement for Own Capital and Eligible Liabilities (Marco Lamandini, David Ramos Muñoz)....Pages 321-348
Write-down and Conversion of Capital Instruments (Vittorio Santoro, Irene Mecatti)....Pages 349-370
Lessons from the First Resolution Experiences in the Context of Banking Recovery and Resolution Directive (Luís Silva Morais)....Pages 371-391
The Third Pillar of the Banking Union and Its Troubled Implementation (Concetta Brescia Morra)....Pages 393-407
Back Matter ....Pages 409-415

Citation preview

The Palgrave Handbook of European Banking Union Law Edited by  Mario P. Chiti · Vittorio Santoro

The Palgrave Handbook of European Banking Union Law

Mario P. Chiti  •  Vittorio Santoro Editors

The Palgrave Handbook of European Banking Union Law

Editors Mario P. Chiti Emeritus Professor of Administrative Law University of Florence, Firenze, Italy

Vittorio Santoro Professor of Business Law, University of Siena Siena, Italy

Jean Monnet Chair ad personam of European Administrative Law, University of Florence Firenze, Italy

ISBN 978-3-030-13474-7    ISBN 978-3-030-13475-4 (eBook) https://doi.org/10.1007/978-3-030-13475-4 Library of Congress Control Number: 2019934131 © The Editor(s) (if applicable) and The Author(s), under exclusive licence to Springer Nature Switzerland AG 2019 This work is subject to copyright. All rights are solely and exclusively licensed by the Publisher, whether the whole or part of the material is concerned, specifically the rights of translation, reprinting, reuse of illustrations, recitation, broadcasting, reproduction on microfilms or in any other physical way, and transmission or information storage and retrieval, electronic adaptation, computer software, or by similar or dissimilar ­ ­methodology now known or hereafter developed. The use of general descriptive names, registered names, trademarks, service marks, etc. in this publication does not imply, even in the absence of a specific statement, that such names are exempt from the relevant protective laws and regulations and therefore free for general use. The publisher, the authors and the editors are safe to assume that the advice and information in this book are believed to be true and accurate at the date of publication. Neither the publisher nor the authors or the editors give a warranty, express or implied, with respect to the material contained herein or for any errors or omissions that may have been made. The publisher remains neutral with regard to jurisdictional claims in published maps and institutional affiliations. Cover illustration: © Gianluca D. Muscelli/shutterstock.com This Palgrave Macmillan imprint is published by the registered company Springer Nature Switzerland AG. The registered company address is: Gewerbestrasse 11, 6330 Cham, Switzerland

Preface

The establishment of the European Banking Union (EBU) represents the most important achievement of the European Union (EU) in the last decade, one which goes well beyond the boundaries of the banking area and the Eurozone. Before the explosion of a multidimensional crisis in autumn 2008, the creation of the EBU was not considered by the European institutions as an urgent policy issue. Some preliminary measures were approved according to the calm pace of ordinary times. But just after the break of the financial and economic crisis, the EU shaped a rather original legal framework, composed of new rules, such as the Single Rulebook, new administrative bodies, exemplified by the three European Supervisory Agencies established in 2010, procedures aimed at preventing and managing systemic risks, new relations between the European Central Bank (ECB) and the national central banks forming the European System of Central Banks (ESCB). In a few years, two of the three planned “pillars” of the EBU were created. Moreover, a great number of regulations, directives, decisions and acts of diverse legal nature were adopted. While the EBU is mainly based within the context of the Eurozone, its rules have a wider scope. On the one hand, they are open to the adherence of Member States whose currency is not the Euro. On the other, they are partly applicable also outside the Eurozone. Some of the principles elaborated in its context or in connection with the EBU, such as financial stability, are now part of the general principles of the EU legal order. The EBU is a sectional legal order having its own organisation, composed by the ECB, “mechanisms” such as the Single Supervisory Mechanism (SSM) and the Single Resolution Mechanism (SRM), new bodies such as the Single v

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Resolution Board. The new organisation operates through specific procedures, sometimes involving only EU institutions and administrative bodies and on other occasions involving both EU and national authorities according to the model of “composite procedures”. The EBU also relies on a set of original administrative remedies, having a quasi-judicial nature. Nevertheless, the EBU is not a legal order separated from the EU. The ECB is an institution of the EU at large, rather than an institution of the EBU or the Eurozone. All the bodies operating within the context of the EBU are called to act under the Rule of Law and must respect EU law. Moreover, their acts are subject to judicial review, without any derogation. The concrete functioning of the EBU confirms how ample and deep is the impact of the new set of rules and measures. After a decade since the explosion of the crisis, it can be stated that the main goals of the EBU have been achieved: the major bank crises of this difficult period are over, the financial stability has been preserved, the systemic risks have been avoided. However, not all that glitters is gold. The “third pillar” of the EBU—the common deposit guarantee assuring a uniform level of protection—is still missing. The EBU is therefore an incomplete construction. Further efforts by European political actors would be necessary. But the current circumstances and the difficulties to agree on the establishment of the third pillar of the EBU reflects a lack of a sincere mutual confidence among the Member States, even in the restricted “Euro Club”. Moreover, EBU law is highly complex and difficult to implement by all the actors involved, both public and private. The basic rules, as the SSM and SRM regulations, are extremely “heavy” and detailed. They also require continuous adjustments through executive regulations and other specific measures. These features run against some basic exigencies of the legal order, such as legal certainty, effective protection and transparency. They also raise obvious concerns of legitimacy. In addition to this, some of the new principles have resulted incoherent, if not in contrast, with the constitutional principles of the Member States. An example is provided by the tension between the resolution procedure and the principle of “bail-in”, on the one hand, and a beset of national and EU principles, such as the guarantee for savings, the right to property, legitimate expectation, financial stability, on the other. So far, the European Court of Justice (ECJ) has been able to make order in this legal mess, with a clear favour for the European prerogatives and the ECB. However, it is far from clear that national courts will continue to accept the ECJ case law in the future, when fundamental rights are at stake. Supremacy of EU law is under discussion not only in Germany but in many other States.

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Rather unexpectedly, the first years of functioning of the EBU show the peculiarity of the many bank cases of European relevance. The two “mechanisms” (SSM and SRM) had been thought as competent in relation to almost all the possible bank events. Yet, the real experience is now demonstrating that the European supervision does not match adequately the position of several banks, even if they have the rank of European “significant banks”. Then, the resolution procedure shows that almost every bank crisis is a case on its own and that a single and uniform therapy would not be appropriate. In general terms, the real working of the two “mechanisms” reveals an excess of rigidity that requires to be adjusted in the very next future and accompanied by some flexibility. Even if EBU law presents a number of shortcomings, we should acknowledge that the EBU is irreversible. The process can only go in the direction of further integration. The ECJ has certainly given a bold and wise support to such process, thus confirming its role of “master of EU law”. What is still lacking, however, is a genuine and fresh commitment by the EU and national political institutions. It is now well known that the financial stability, the primary objective of the Bank Recovery and Resolution Directive (BRRD), is pursued through important exceptions to the rules and principles of Insolvency Law, for example, the role of shareholders and mostly of debt holders in an insolvency procedure has been significantly changed. This choice is ensured by the level playing field in the competition among banks. For this purpose, the BRRD excludes State aid at least until investors (shareholders, hybrid capital holders and subordinated debt holders) have contributed to the banks’ rescue. There is probably less awareness about the fact that both the BRRD Directive and some rules of Insolvency Law are moving within the same general framework, complying with the proposals expressed internationally by the UNCITRAL and by the World Bank. In fact, the theoretical premises are found in the economic studies which demonstrate that “speeding up the resolution of debt disputes may increase the probability of timely repayment; that increasing the protection of creditors and their participation in bankruptcy proceedings may lead to a lower cost of debt and a higher aggregate level of credit; and that introducing reorganization proceedings may reduce the rate of business failure” (World Bank). Consequently, the European legislator is oriented towards favouring the going concern of business, but by adequately safeguarding the interests of creditors. There is a new cultural climate. Regarding the Insolvency Law, the Recommendation of 12 March 2014 (2014/135/EU) sets the goal to ensure that “viable enterprises in financial difficulties … have access to national

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insolvency frameworks which enable them to restructure at an early stage with a view to preventing their insolvency, and therefore maximise the total value to creditors, employees, owners and the economy as a whole” (Recital 1). Recital 10) of Regulation on insolvency proceedings (2015/848/EU) goes along the same line. Finally, the Proposal for a Directive (2016/0359, COD), more punctually, alights the need for restructuring early and also proposes to guarantee that “viable enterprises in financial difficulties have access to effective national preventive restructuring frameworks which enable them to continue operating…” (Recital 1). This Proposal is not intended to be applied to banks, since they are already regulated by the BRRD. However, one point unites the Proposal n. 2016/0359(COD) and the BRRD: both are concerned with intervening at the very beginning of an institution’s crisis, in order to guarantee the business going concern. Recital 5) of the BRRD underlines the need “to intervene sufficiently early and quickly in an unsound or failing institution so as to ensure the continuity of the institution’s critical financial and economic functions, while minimising the impact of an institution’s failure on the economy and financial system”. But some important differences deserve attention: first of all, the Proposal n. 2016/0359 (COD), as a part of the early warning tools to alert debtors to the urgency to act, suggests to “include accounting and monitoring duties for the debtor or the debtor’s management as well as reporting duties under loan agreements” and to charge “third parties with relevant information such as accountants, tax and social security authorities … to flag a negative development” (Recital 16). Instead, the BRRD entrusts the alert to the same authorities of banking supervision: in fact, the Recital 40) of the BRRD states that, in order to remedy the deterioration of the financial and economic situation of a bank, “the competent authorities should have early intervention powers, including the power to appoint a temporary administrator to replace the body administration and the senior management of the institution”. In other words, in the case of banks, the European legislator considers the legal system self-sufficient. In fact, there is no obligation for creditors, social security institutions, tax offices and so on to flag potential crisis situations. Of course, the task of the banking supervisory authorities is certainly strategic, but it would be appropriate to use other early warning tools, given the recent history of banking crises, which occurred despite the oversight of public control. In conclusion, the bank resolution system should have more homogeneous rules than those of the insolvency of other companies. Finally, the chapters published in this book have been written by a group of distinguished academics and lawyers, world-renowned specialists in the field of the EBU law. They have accepted our invitation and taken our common

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engagement as an occasion to contribute to the gradual building of EBU law. Our gratitude to all of them is great. We also thank Palgrave Macmillan, which has accepted our proposal for publishing the book and demonstrated a great far-sightedness. A special recognition to Mrs Tula Weiss and Ruth Noble for their invaluable work in editing and finalising the book. Firenze, Italy Siena, Italy 

Mario P. Chiti Vittorio Santoro

Table of Cases

Judgements of the European Court of Justice Case C-219/17, Berlusconi, Fininvest/Banca d’Italia, 19.12.2018 Case C-493/17, Weiss and Others, 11.12.2018 Case C-52/17, VTB Bank/Finanzmarktaufsichthoerde, 7.8.2018 Case C-41/15, Dowling/Minister for Finance of the Republic of Ireland, 8.11.2016 Case C-105/15 to C-109/15, Mallis/European Commission and ECB, 20.9.2016 Case C-8/15 to 10/15, Ledra Advertising Ltd/European Commission, 20.9.2016 Case C-526/14, Kotnik/Dravni zbor Republike Slovenije, 19.7.2016 Case 362/2014, Schrems/Data Protection Commission, 6.10.2015 Case 62/14, Gauweiler/Deutscher Bundestag (the “OMT” case), 16.6.2015 Case C-270/12, UK/Council of the European Union and European Parliament (the “ESMA” case), 22.1.2014 Case C-370/12, Pringle/Government of Ireland, 27.11.2012 Case C-604/11, Genil 48 SL and Comercial Hostelera de Grandes Vinos SL/ Bankinter SA and Banco Bilbao Vizcaya Argentaria SA, 30.5.2013 Case C-415/11, Mohamed Aziz/Caixa d´Estalvis de Catalunya, Tarragona i Manresa, 14.3.2013 Case C-301/02, Carmine Salvatore Tralli/ECB, 26.5.2005 Case C-210/03, Swedish Match AB/Secretary of the State for Health, 14.12.2004 Case C-434/02, Arnold Andre’ GmbH & Co. KG/Landrat des Kreises Herford, 14.12.2004 Case C-5/85, AKZO Chemie/European Commission, 23.9.1986 Case 98/80, Romano/Institut National d’Assurance Maladie-­Invalidité, 14.5.1981 Case 9/56, Meroni/High Authority, 13.6.1958 xi

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Table of Cases

Judgements and orders of the General Court Case T-786/14, Bourdouvali/Council of the European Union, 13.7.2018 Case T-680/13, Chrysostomides/Council and Others, 13.7.2018 Case T-733/16, Banque Postal/ECB, 13.7.2018 Cases T-133/16 to T-136/16, Caisse régionale de crédit agricole mutuel Alpes Provence/ECB, 13.7.2018 Case T-712/15, Crédit mutuel Arkéa/ECB, 13.12.2017; on appeal before the Court of Justice in Case C-152/18 Case T-247/16, Trasta Kommercbanka/ECB, [order] 12.9.2017 Case T-122/15, Landeskreditbank Baden-Württemberg/ECB, 16.5.2017; on appeal before the Court of Justice in Case C-450/17 Case T-191/99, David Petrie and others/European Commission, 11.12.2001 Case T-132/96 and T-143/96, Freistaat Sachsen and Others/Commission, 15.12.1999 European Court of Human Rights Decision 9.4.2015, Adorisio/The Netherlands, no. 47315/13, 48490/13 and 49016/13 Decision 10.7.2012, Grainger/United Kingdom, no. 34940/10 Decision 24.11.2005, Capital Bank AD/Bulgaria, no. 49429/99 Decision 21.10.2003, Credit and Industrial Bank/the Czech Republic, no. 29010/95 Austria Verfassungsgerichtshof, 3.7.2015, G 239/2014 ua, G 98/2015-27 Germany Bundesverfassungsgericht, 2 BvR 1685/14, 2BvR 2631/14 (Bankenunion) [pending] Landesgericht (LG) München I, 8.5.2015, 32 O 26502/12, Bayern LB/Hypo Alpe Adria, 32 O 26502/12 Bundesgerichtshof (BGH), 1.7.2014, II ZR 381/13 Spain Tribunal Supremo, Sala de lo Civil, 20.1.2014, Caixa d’Estalvis del Penedés (hoy la entidad Mare Nostrum, S.A.)/Marbres Togi S.L. Tribunal Supremo, Sala de lo Civil, 9.5.2013, Asociación de Usuarios de los Servicios Bancarios/Banco Bilbao Vizcaya Argentaria, SA Tribunal Supremo, Sala de lo Civil, 21.11.2012, 2012:11052 United Kingdom UK Supreme Court, 24.11.2016, Goldman Sachs International/Novo Banco SA, [2016] EWCA Civ 1092 UK High Court of Justice, Commercial Court, 7.8.2015, Goldman Sachs International/Novo Banco SA, [2015] EWHC 2371 (Comm)

Contents

Part I The European Banking Union and the European Union Architecture

   1

1 Multilevel Governance in Banking Regulation  3 Rosa M. Lastra 1 Introduction   3 2 The Rationale for Regulation   3 3 Historical Developments   6 4 Regulatory Responses   8 5 The Impact of the Global Financial Crisis upon Global and EU Developments  12 6 Concluding Observations  15 References 17 2 European Banking Union Within the System of European Banking and Monetary Law 19 Christos V. Gortsos 1 A Definition of EU Banking Law and Its Evolution  19 2 On the Establishment of the Banking Union  21 3 The Legal Acts Establishing the Two First Main Pillars of the Banking Union and the Related Single Rulebook  24 3.1 The First Pillar: The Single Supervisory Mechanism (SSM) 24 3.2 The Second Pillar: The Single Resolution Mechanism and the Single Resolution Fund  25 3.3 The Underlying Single Rulebook  27 xiii

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4 The Sources of EU Banking Law After the Establishment of the Banking Union  31 5 The Links Between EU Monetary Law and the Banking Union 32 5.1 The Sources of EU Monetary Law  32 5.2 The Main Links  34 6 Concluding Remarks: ‘European Central Banking Law’ or ‘ECB Law’ as the Result of a (Partial) Synthesis  36 References 38 3 European Banking Union and Its Relation with European Union Institutions 41 Alexander H. Türk 1 Introduction  41 2 The Single Supervisory Mechanism: Centralisation, Fragmentation and the Quest for a New Institutional Balance  42 3 What Kind of Accountability for the European Central Bank Within the Single Supervisory Mechanism?  49 4 Single Resolution Mechanism: Complexity, Agency Empowerment and an Attempt for a Paradigm Shift  53 5 The CJEU and Institutional Balance: The Silent Influencer  58 6 Conclusion  61 References 63 4 Proportionality in the Single Rule Book 65 Bart Joosen and Matthias Lehmann 1 The Need for Proportional Regulation and Supervision  65 1.1 A Diversified Banking Landscape  65 1.2 Proportionality and Financial Stability  66 1.3 Proportionality and Regulatory Competition  69 2 Legal Aspects of Proportionality  70 2.1 Proportionality as a Principle of Primary Law  70 2.2 Is Proportionality Incompatible with the Single Rule Book? 71 2.3 The Requirements of Proportionality  73 3 The Current Approach of the EU to Proportionality  74 3.1 Proportionality with Regard to the Banking and Insurance Sector  74 3.2 Elements of Substantive Proportionality in Banking Regulation 75 3.3 Procedural Proportionality  77

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3.4 Proportionality in the Context of Better Regulation and Regulatory Fitness and Performance (REFIT) Programme 78 3.5 Proposals for Reform: CRR2 and CRDIV  80 3.6 Net Stable Funding Ratio for Small Non-­Complex Institutions 83 3.7 State of Play as Regards Proportionality in the Single Rule Book  84 4 An Outlook: A Differentiated Approach to EU Bank Regulation and Supervision  86 References 88 5 The System of Administrative and Jurisdictional Guarantees Concerning the Decisions of the European Central Bank 91 Marcello Clarich 1 Introduction  91 2 The General Features of the New Administrative Remedy  92 3 The Internal Character of the Review  95 4 Other Procedural Profiles  98 5 Concluding Remarks 101 References103 6 The European Banking Union in the Case Law of the Court of Justice of the European Union105 Mario P. Chiti 1 Introduction. The Role of the European Union Judges: The Judicial Building of the Banking Union 105 2 Judicial Review and Administrative Appeals 108 3 The Workload of Case Law 109 4 The Main Themes of the Case Law of EU Judges 111 5 The Founding Jurisprudence of the ECJ. The Pringle Case 112 6 The Esma Case 116 7 The ECB Powers and Their Justiciability. The Gauweiler Case120 8 The Principle of Financial Stability and the Protection of Fundamental Rights 123 9 The SSM and SRM in Action. The Case Law of the General Court127 10 Conclusions 132 References133

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7 The Future of the European Banking Union: Risk-Sharing and Democratic Legitimacy135 Pedro Gustavo Teixeira 1 Introduction 135 2 The Legal History of Risk-Sharing and Democratic Accountability in the Single Financial Market 136 2.1 Beginnings 136 2.2 Multilevel Governance 137 2.3 The Financial Crisis 138 3 Risk-Sharing in the Banking Union 140 3.1 The Direct Recapitalisation of Banks by the ESM 140 3.2 The Prohibition of Bail-Outs and the Introduction of Bail-In141 3.3 The Single Resolution Fund 142 3.4 The Privatisation of Risk-Sharing 143 4 The Democratic Legitimacy of the Banking Union 144 4.1 Legal Safeguards for Decision-Making 144 4.2 Institutional Independence 145 4.3 Multilevel Accountability 146 4.4 Achieving Legitimacy 148 5 The Future Sustainability of the Banking Union 148 5.1 A Future Without Risk-Sharing? 148 5.2 A Future Without Democratic Legitimacy? 151 5.3 Conclusion 152 References152 Part II The Three Pillars of the European Banking Union

 155

8 Single Supervision Mechanism: Organs and Procedures157 Raffaele D’Ambrosio 1 Outlook 157 2 The Incomplete Separation of the Monetary Policy From the Supervisory Functions and Its Side Effects on the ECB Organization and Decision-Making Process 158 3 The Uncertain Allocation of Some Supervisory Tasks and Powers to the ECB and to the NCAs 160 3.1 Tasks Conferred on the ECB and Tasks Remaining in the Remit of NCAs 160

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3.2 Uncertainties About the Scope of Some of the ECB’s Prudential Tasks 162 3.3 Cases of Misallocation Between the ECB’s Tasks and the NCAs’ Powers 164 4 What are Referred to as National Powers and the Heightened Uncertainty About the Allocation of Supervisory Powers Within the SSM 165 4.1 The ECB’s View on Article 9 SSMR 165 4.2 The Author’s Criticism of the ECB’s and the Commission’s Views 167 5 The ECB’s Remedy to the Unintended Side Effects of the Increase of its Supervisory Powers: Delegation to the ECB’s Internal Divisions 169 5.1 The ECB’s Delegation Framework 169 5.2 Advantages and Disadvantages of the ECB’s Delegation Framework 171 6 The Other Ways Round: The Two Distinct Delegations by the Supervisory Board and the Governing Council of the Powers They Respectively Enjoy Under the SSMR or the NCAs’ Responsibility for Assisting the ECB in the Performance of its Supervisory Tasks 174 7 What Is the Most Appropriate Form of NCAs’ Assistance to ECB?179 References182 9 The Concept of Systemic Importance in European Banking Union Law183 Pablo Iglesias-Rodríguez 1 Introduction 183 2 Systemic Importance in EBU Supervision 185 3 Systemic Importance in EBU Resolution 192 3.1 Systemic Importance in the SRM Pre-­Resolution Stages194 3.2 Systemic Importance in the SRM Resolution Stages 196 4 An Inconsistent Regime in Action: The Failure and Nonresolution of Banca Popolare di Vicenza and Veneto Banca200 4.1 BPV and VB Were Deemed Systemically Important Banks for Supervisory Purposes… 200

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4.2 …But Nonsystemically Important Banks for Resolution Purposes… 202 4.3 …And Yet Systemically Important Banks for State Aid Purposes 204 5 Conclusions 207 References208 10 Non-Performing Loans and the European Union Legal Framework213 Elisabetta Montanaro 1 Introduction 213 2 NPL Crises in Euro Area Countries 215 3 Country-Specific Constraints Upon Solutions for the NPL Legacy220 4 Regulatory and Supervisory Aspects of NPLs: Divergences and Loopholes in the EU Rules 226 5 Towards a European Strategy on NPLs 232 6 Conclusions 239 References240 11 The Single Resolution Mechanism: Authorities and Proceedings247 Olina Capolino 1 Introduction 247 2 SRM: A Brief Description of the Framework and of Critical Aspects248 3 The Division of Tasks Within the SRM 252 4 Relationship Between the SRM and the SSM 254 5 Financing Banking Crisis Solutions 255 6 Resolution vs National Insolvency Proceedings 257 7 SRM: Initial Experience 260 8 Public Interest in Resolution: Just One of the Many 264 9 Conclusion 268 References269 12 Recovery and Resolution Planning271 Marilena Rispoli Farina and Luigi Scipione 1 Introductory Notes 271 2 The Living will Approach in US Law. An Outline 273 3 Recovery and Resolution Plans. The Regulatory Framework 274

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4 Recovery Plans: Their Structural Characteristics and Strategic Aims 276 4.1 The EBA Regulatory Technical Standards 277 4.2 Drawing up a Recovery Plan. From Theory to Practice 278 4.3 Integrating the Recovery Plan into a Bank’s Corporate Governance280 4.4 Scenarios and Trigger Events in the Recovery Plan 283 4.5 Recovery Measures (Options) and Recovery Plan Assessment284 5 Resolution Plans. Systematic Profiles 288 5.1 Content and Evaluation of Resolution Plans 289 6 Planning and Coordination at Group Level 291 7 Responsibility for Resolution Plans 293 8 Conclusions 295 References297 13 The Relevance of the Resolution Tools Within the Single Resolution Mechanism299 Jens-Hinrich Binder 1 Introduction 299 2 The Toolbox and First Cases––Overview 301 2.1 The Elements of the Toolbox and the Framework for Its Application 301 2.2 The First Cases 303 3 The Relevance of the Toolbox Within the SRM: Functional Characteristics and Limitations 304 3.1 Overview 304 3.2 Delineating the Lower Threshold: The Function and Implications of the ‘Public Interest Test’ 305 3.3 Redefining the Relevance of the Resolution Tools: Functional Characteristics, Strengths and Weaknesses 310 3.4 Delineating the Upper Threshold: Limitations in Large-scale Insolvencies and Systemic Crises 315 4 Conclusions 316 References317 14 Minimum Requirement for Own Capital and Eligible Liabilities321 Marco Lamandini and David Ramos Muñoz 1 Introduction 321

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2 Burden-Sharing and Its Implications: Bail-in and Fundamental Rights 322 2.1 Bail-in of Financial Instruments and Its Difficulties 323 2.2 Bail-in, Burden-Sharing and Their Fundamental Rights Implications 325 2.3 Preliminary Conclusions 331 3 MREL in the Context of Bank Resolution Planning 333 4 MREL, Financial Stability and Investor Protection 341 4.1 Spain: The Pendular Movement from Pro-bank to Anti-bank Stance, and Its Implications 342 4.2 Italy: A Long Tradition of Bail-outs, a Perceived Equivalence Between Deposits and Bonds (What Could Possibly Go Wrong?) and the Long, Winding Road Towards Clear Transparency Requirements 345 References347 15 Write-down and Conversion of Capital Instruments349 Vittorio Santoro and Irene Mecatti 1 Rationale and Functioning of Write-down and Conversion Powers349 2 Preliminary Remarks 352 3 The Objectives of the Bank Resolution 353 4 The Problem of the Infringement of Property Rights 356 5 Write-down and Mis-selling of Financial Products 359 6 Ex Ante Remedies to Prevent Mis-selling: The New MiFID Framework362 7 Ex Post Remedies to Prevent Mis-selling 364 References368 16 Lessons from the First Resolution Experiences in the Context of Banking Recovery and Resolution Directive371 Luís Silva Morais 1 Introduction 371 2 First Resolution Experiences Within a BRRD Paradigm— Why National Cases Matter 374 2.1 National Regimes of Resolution in EU Member States and the Emergence of a BRRD Paradigm of Banking Resolution374 2.2 Inherent Complexities of the BRRD Paradigm of Banking Resolution and Why Lessons Arising from National Experiences of Its Implementation Matter 378

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3 First Resolution Experiences: The BES Case in Portugal, An Overall View 379 3.1 The BES Precedent in Context 379 3.2 The BES Precedent: Key Issues at Stake 381 4 BES Case: Other Recent Developments with Supranational Corollaries and Relevant for Post-resolution Stages 385 4.1 Recent Developments with Supranational Corollaries 385 4.2 BES Case: Other Recent Developments Relevant for Post-­resolution Stages 387 5 Enforcement of EU Resolution Regime and Public Interest Test: Recent Cases of Banks in Financial Distress Dealt with at National Level 388 5.1 Relevant Precedents 388 5.2 Final Considerations 389 References390 17 The Third Pillar of the Banking Union and Its Troubled Implementation393 Concetta Brescia Morra 1 The Rational for Deposit Insurance Schemes 393 2 The Evolution of the European Regulation of DGSs 394 3 The Main Features of the Current DGSD 395 4 The Proposal for an EDIS 396 5 The Obstacles for Establishing a Fully-­Fledged EDIS 398 5.1 Different Banking Systems in Europe 398 5.2 The Discussion on the Legal Basis 401 6 The Limited Mandate of the EDIS Under the Current Commission’s Proposal 405 References407 I ndex409

Notes on Contributors

Jens-Hinrich  Binder  is Professor  at the Universität Tübingen Juristische Fakultät. Concetta  Brescia  Morra  is Professor of EU Financial Law, University of Roma Tre, and the vice-chair of the Administrative Board of Review set up by the European Central Bank. Olina Capolino  is Head of the Banca d’Italia’s Legal Services Directorate. Mario P. Chiti  is Emeritus Professor of Administrative Law at the University of Florence and Jean Monnet Chair ad personam of European Administrative Law. Marcello  Clarich  is Professor of Administrative Law at the La Sapienza University of Rome. Raffaele D’Ambrosio  is a Senior Lawyer at the Bank of Italy. Marilena Rispoli Farina  is Emeritus of Business Law at the University of Naples. She is a member of the ACF—ADR for Financial Disputes of the Italian Market Authority, CONSOB. Christos V. Gortsos  is Professor of Public Economic Law at Law School of National and Kapodistrian University of Athens. Pablo Iglesias-Rodríguez  is Senior Lecturer in International Finance Law at the Sussex Law School, University of Sussex. Bart Joosen  is Professor of Financial Law at VU University Amsterdam and associated with the ZIFO Institute for Financial and Corporate Law Amsterdam. He is President of the Academic Board of the European Banking Institute. xxiii

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Notes on Contributors

Marco Lamandini  is Professor of Business Law at the University of Bologna. Rosa M. Lastra  is Professor of Banking Law, Sir John Lubbock Chair, Centre for Commercial Law Studies, Queen Mary University of London. Matthias Lehmann  is Professor of Civil Law, Private International Law and International Business Law at the University of Bonn, Director of the Institute for Private International and Comparative Law. He is member of the Academic Board of the European Banking Institute. Irene Mecatti  is Senior Lecturer in Business Law at the University of Siena. Elisabetta Montanaro  is Emeritus of Banking and Finance at the University of Siena. Luís Silva Morais  is tenured Professor of EU Law and Financial Regulation— Lisbon Law University (UL), Jean Monnet Chair of EU economic regulation, Chair of CIRSF (Research Centre on Regulation and Supervision of the Financial Sector), Vice Chair of the Appeal Panel of Single Resolution Board. David Ramos Muñoz  is Senior Lecturer in Business Law of the Universidad Carlos III Madrid and the University of Bologna. He is also a member of the Academic Board of the European Banking Institute. Vittorio Santoro  is Professor of Business Law at the University of Siena and Coordinator of PhD in Jurisprudence of the Universities of Siena and Foggia. Luigi Scipione  is Lecturer in Business and Banking Law at the University of Naples. Pedro Gustavo Teixeira  is Director-General of the Secretariat of the European Central Bank. He is a lecturer in European Financial Regulation at the Institute for Law and Finance of the Goethe-Universität, Frankfurt am Main. Alexander H. Türk  is Professor of Law, Dickson Poon School of Law, King’s College London, United Kingdom.

Abbreviations

AQR BC BCBS BES BIS BPV BRRD CAL CEBS CESR CET1 CJEU CRDIV CRR DG COMP DG FISMA DGS DGSD DIS DTA EBA EBF EBU EC ECB ECB RoP ECtHR

Asset Quality Review Banking Communication Basel Committee on Banking Supervision Banco Espirito Santo Bank for International Settlements Banca Popolare di Vicenza Bank Recovery and Resolution Directive, 2014/59/EU Compulsory Administrative Liquidation Committee of European Banking Supervisors Committee of European Securities Regulators Common Equity Tier 1 capital Court of Justice of the European Union Capital Requirement Directive 4, 2013/36/EU Capital Requirement Regulation, 575/2013/EU Directorate-General for Competition Directorate-General for Financial Stability, Financial Services and Capital Markets Union Deposit Guarantee Schemes Deposit Guarantee Scheme Directive, 2014/49/EU Deposit Insurance Scheme Deferred Tax Asset European Banking Authority European Banking Federation European Banking Union European Commission European Central Bank ECB Rules of Procedure European Court of the Human Rights xxv

xxvi Abbreviations

EDIS European Deposit Insurance Scheme EFSF European Financial Stability Facility EIOPA European Insurance and Occupational Pensions Authority EMU Economic and Monetary Union ESAs European Supervision Authorities ESFS European System of Financial Supervision ESM European Stability Mechanism ESMA European Securities and Markets Authority ESRB European Systemic Risk Board EU European Union FDIC Federal Deposit Insurance Corporation FICOD Financial Conglomerate Directive 2002/87/EC FOLTF Failing or Like to Fail FROB Fondo de Restructuración Ordenada Bancaria FSB Financial Stability Board FSF Financial Stability Forum GAAP General Accepted Accounting Principles GC General Court GDLs Guidelines GDP Gross Domestic Product G-SIB Global—Systemically Important Bank G-SII Global—Systemically Important Institution IAS International Accounting Standard ICAAP Internal Capital Adequacy Assessment Process IFRS International Financial Reporting Standard ILAAP Internal Liquidity Adequacy Assessment Process IMF International Monetary Fund IPO Initial public offer IRB Internal Ratings-Based (approach) ITS Implementing Technical Standard LGD Loss Given Default MiFID II Markets in Financial Instruments Directive 2014/65/EU MiFIR Markets in Financial Instruments Regulation 600/2014/EU MPoE Multi Point of Entry MREL Minimum Requirement of Eligible Liabilities NCAs National Competent Authorities NCWO No Creditor Worse Off (Principle) NPL Non-performing Loan NRA National Resolution Authority NRF National Resolution Fund PONV Point of Non-viability RA Resolution Authority RAF Risk Appetite Framework

 Abbreviations 

ROA RTS RWA SIFIs SPoE SRB SREP SRF SRM SRMR SSM SSMFR SSMR TFEU TLAC TLOF VB WD

Return on Assets Regulatory Technical Standards Risk-Weighted Assets Systemically Important Financial Institutions Single Point of Entry Single Resolution Board Supervisory Review and Evaluation Process Single Resolution Fund Single Resolution Mechanism SRM Regulation Single Supervisory Mechanism SSM Framework Regulation SSM Regulation Treaty on the Functioning of the European Union Total Loss-Absorbing Capacity Total Liabilities Including Own Funds Veneto Banca Write-down and conversion power

xxvii

List of Figures

Fig. 10.1 NPLs in the EU and in the euro area. Sources: For NPLs: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches. For GDP: ECB, Macroprudential Database216 Fig. 10.2 NPL ratio evolution in the euro area by size of banks, 2014– 2017. Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches 216 Fig. 10.3 NPL ratio in high NPL countries before the SSM. Source: IMF, Financial Soundness Indicators 218 Fig. 10.4 Bank solvency and capital vulnerability of high NPL countries (2017). Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches 221 Fig. 10.5 Average annual rate of change of NPL ratio (2014–2017). Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches 223 Fig. 10.6 Breakdown of NPLs by economic sectors (2017), %. Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches 224 Fig. 10.7 Efficiency of insolvency proceedings by countries (2017). Source: World Bank, Doing Business, Resolving Insolvency, data at June 2017. Countries are ordered by increasing rate of recovery and decreasing length of proceedings 225 Fig. 10.8 Average ROA of banks (2014–2017), %. Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches 225 Fig. 10.9 NPLs with forbearance measures, % (2017). Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches 232 xxix

Part I The European Banking Union and the European Union Architecture

1 Multilevel Governance in Banking Regulation Rosa M. Lastra

1

Introduction

This chapter is divided into five sections. Section 2 deals with the rationale for regulation. Section 3 deals with historical developments. Section 4 deals with regulatory responses. Section 5 deals with the specific impact of the global financial crisis upon global and European Union (EU) developments. Section 6 provides some concluding observations.

2

The Rationale for Regulation

Why do we regulate banks? There are essentially three key reasons. Firstly, there is the prudential rationale. Banks are inherently risky due to their role in the maturity and liquidity transformation of short-term liquid liabilities into long-term illiquid assets. Banks accept deposits that are repayable either on demand or within a relatively short timeframe while making loans that

My thanks to Tolek Petch for his extensive contribution to this chapter and excellent research assistance. Tolek Petch is a lawyer at Slaughter and May and a PhD candidate at Queen Mary University of London.

R. M. Lastra (*) Centre for Commercial Law Studies, Queen Mary University of London, London, UK e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_1

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have much longer tenors. This is essential if banks are to perform their social ­function of financing investment in the real economy, including mortgages and other longer-term finance. Banks are by definition prone to bank runs. The very nature of commercial banking is the source of their vulnerability. Trust and confidence are the preconditions of a functioning banking market. The financial crisis and its aftermath constituted a stark reminder that such confidence is fragile. Northern Rock in the UK and Banco Popular in Spain are some of the most recent examples. As Alan Greenspan made clear to the House Committee on Oversight and Government Reform at the height of the financial crisis “Those of us who have looked to the self-interest of lending institutions to protect shareholder’s equity are in a state of shocked disbelief ”. There are many reasons for this, although many come back to the design of incentives within banking organisations. The low level of equity traditionally held coupled with informational asymmetries between managers and depositors, the prevailing short-termism of banks’ management and availability of limited liability mean that senior managers and directors have incentives to take risks that maximise often personal returns without adequate regard to the losses that a bank’s failure may place on depositors or society at large. Regulation seeks to change incentives through the imposition of mandatory prudential standards. In most cases, it is accompanied by measures to directly protect consumers usually through the provision of information and depositor protection (protective regulation). More recently, a consensus has emerged in many jurisdictions that retail depositors need to be protected through insolvency law and resolution procedures ranking as preferred creditors in a winding up of a bank (Article 108 of Directive 2014/59/EU, the “BRRD”). Secondly, regulation may be justified by monetary policy concerns, since central banks issue money and since bank deposits are the largest component of the money supply. Independent central banks with a price stability mandate require some effective control over the money supply. Even if one does not subscribe to Friedman’s dictum that “inflation is always and everywhere a monetary phenomenon”, there is a clear historical and empirical connection between rapid rises in the money supply and inflation (Friedman 1963). A second monetary policy objective brought into focus in the Eurozone crisis is the monetary transmission mechanism under which policy rates set by the central bank in the implementation of monetary policy are translated into real lending rates for businesses and consumers. Where the banking system is perceived as fragile or risky, then concerns over bank credit risk will prevent monetary policy decisions being passed on to the real economy with adverse effects for growth and employment.

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A third rationale for regulation is addressing systemic risk and arises from the interconnectedness of the financial (including the banking) system. This is the risk that the insolvency or illiquidity of an individual bank could have consequences for the wider financial system as evidenced in the period after the collapse of Lehman Brothers in September 2008 when inter-bank liquidity became frozen necessitating the massive emergency provision of liquidity by central banks. Essentially banks lost confidence in their counterparties’ solvency or liquidity. Because of their precrisis dependence on the inter-bank market, banks responded by cutting back lending to the real economy, triggering what has been named the Great Recession of 2008–2009. But the issue of systemic risk goes wider and deeper, demonstrating a more general failing in banking regulation and supervision: the absence of any agreed principles or rules on recovery and resolution, the inadequacy of general insolvency law to address the problems of banks (or systemic investment firms) in financial difficulties and the need for a macro-prudential policy to complement the traditional micro-prudential to supervision. Bank failures impose wider costs on the rest of society, that go beyond their impact on shareholders and other capital providers (externalities). Given the traditional high level of reliance on bank funding in the EU, the problem is particularly acute in Europe. The position is less severe in the US, where capital markets have provided diversified sources of funding. The difference between the availability of equity financing between the two markets (US/EU) has been one of the drivers behind the EU project of capital markets union. Moreover, recessions associated with a banking crisis historically last longer and impose greater economic costs than other recession (Reinhart and Rogoff 2009). There are other rationales that have been advanced for banking regulation including an alleged public interest in banking, the promotion of efficiency and competition. It should be recognised that regulation is not the only solution to the problems outlined above and other instruments exist to promote a sounder and more resilient banking system including tax policy (the different tax treatment of debt and equity being notorious), laws and principles on corporate governance, disclosure, requirements in respect of market integrity and fiduciary law. However, no jurisdiction has been able to dispense with regulation—and its attendant, supervision—as the key means to promote a stable banking system. However, as banking regulation has evolved in an essentially responsive fashion, a brief historical review of the developments in banking and regulation is therefore appropriate when considering the balance between national and international standards and the role of soft and hard law.

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3

Historical Developments

Historically, a national corpus of specific banking regulation developed first in the US in response to the banking panic of 1907 (in many European countries, banking regulation was embedded within the general administrative taw framework). The Federal Reserve Act 1913 established the Federal Reserve System (the Fed) as the central bank of the US and required all nationally chartered banks to become members of the Fed and introduced reserve requirements inter alia. State-chartered banks were subject to applicable state law. However, the system came under great pressure as a result of the Great Depression. In total more than 10,000 banks—out of nearly 25,000 previously active banks—closed by 1933, and while the stock market crash was not the proximate cause of banking failures, there was considerable political pressure for reform (Calomiris 2010). The Banking Act 1933—or Glass–Steagall Act—separated commercial and investment banking activities and introduced federal deposit insurance, with the establishment of the Federal Deposit Insurance Corporation, FDIC (Lastra 1996). Regulation Q limited the paying of interest on bank accounts, while existing state laws placed restrictions on out-of-state branching for state banks. The result was a banking system essentially fragmented on state lines that prevailed until the 1980s. Supervision was divided between the Federal Reserve System, the Office of the Comptroller of the Currency, or OCC (for national banks), the FDIC and state regulators and remained essentially discretionary. It was not until 1983 that US regulators were given powers to issue capital requirements. In Britain, which did not face any major banking insolvencies during the Great Depression, banking regulation remained non-statutory, informally applied by the Bank of England. In 1946, the Bank of England was nationalised but with very little effect on the informal method of regulation applied by the Bank and the Treasury despite the 1946 Act conferring certain statutory powers. Of course, the degree of control over the economy exercised by post-War governments, periodic capital controls, exchange controls and the Bretton Woods fixed but adjustable exchange rate system acted as inhibitors to innovation and competition in the banking market. This did not mean that banks remained still, and commencing in the later 1950s, UK banks began to diversify, investing in finance subsidiaries to profit from the Eurocurrency market, as well as by amalgamations amongst clearing banks. However, the real trigger to the introduction of statutory prudential supervision by the Bank of England was the Secondary Banking Crisis and the UK’s accession to the European Economic Community (EEC) necessitating implementation of

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the First Banking Directive of 1977 that resulted in enactment of the Banking Act 1979 which “represented the first legal codification of the regulatory and supervisory authority of the Bank of England” (Norton 1995). Initially, the 1979 Act did not change the Bank’s informal, non-legalistic and flexible approach to supervision. The 1980s were to see fundamental changes to the banking market under the twin pressures of financial innovation and deregulation which reflected the political Zeitgeist of the time. Exchange controls in the UK were abolished in 1979, and the securities markets deregulated through Big Bang in 1986 turning London into a financial centre to rival New York with restrictions on foreign ownership abolished. LIFFE started operations in 1982. A parallel process of deregulation in the 1980s and 1990s took place in the US with the phasing out of restrictions on interest on deposit accounts, the elimination of restrictions on inter-state branching, and the relaxation and eventually repeal of the Glass–Steagall Act restrictions on combining commercial and investment banking. In 2000, Congress decided not to regulate the growing over the counter (OTC) derivatives market. Deregulation of the savings and loans industry proved less successful necessitating a federal bailout in 1989. However, perhaps the most significant and successful phase of deregulation occurred in the European Union/Community under the aegis of its 1992 initiative. Announced by the Commission in its White Paper on Completing the Internal Market (1985) and endorsed by the Member States through the Single European Act (1987), the aim was to create an internal market for goods and many services (including banking) by 1992. The Single European Act introduced majority voting in the Council for most internal market measures and was based on a paradigm of minimum harmonisation through the use of directives coupled with mutual recognition. The use of directives was characteristic as it preserved the autonomy of each Member state, within the limits set by minimum standards, to make its own regulatory and supervisory choices. This was translated to the banking sector through the Second Banking Directive (1989) that enshrined the right of a bank, under home-state supervision, to establish a branch anywhere else in the European Community (EC), or to provide services on a cross-border basis. Host states were effectively restricted to enforcing conduct of business rules, rules on market integrity and statistical reporting, in 1994, the Single Market—including banking—was extended to the European Free Trade Association (EFTA) states (minus Switzerland) through the European Economic Area (EEA) Agreement and the EU itself expanded through successive enlargements in 1995, 2004, 2007 and 2013 to form the world’s largest and most integrated market. At the same

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time, the EU pursued the elimination of exchange controls as well as most impediments to take-overs through a market-based competition policy. ­ However, the greatest contribution to financial integration in Europe prior to the financial crisis was the introduction of the euro as the single currency of now 19 Member States under the Maastricht Treaty (1992). The euro eliminated foreign exchange risk and acted as a considerable stimulus to financial market integration in Europe. At the same time, the adoption of the universal banking model by the Second Banking Directive saw an increasing blurring of the activities of commercial and investment banks.

4

Regulatory Responses

The developments outlined in the preceding paragraphs had their counterpart in the elaboration of a new structure of regulation which moved from the informal to more detailed and rules-based. This raises a seeming paradox as why should deregulation and innovation require more detailed policymaking. The answer is provided by the factors set out in the first section of this paper: the need for sound prudential controls, monetary policy management and the mitigation of systemic risk. Deregulation without an appropriate legal framework to address the externalities of private risk-taking behaviour risks creating a systemic crisis as was seen in the savings and loans debacle in the US. The collapse of the Bretton Woods System and first oil price shock triggered significant exchange rate volatility and risk leading in 1974 to the failure of Bankhaus Herstatt and other banks exposing the risks to the global payments system of applying national insolvency laws to banks trading across different markets and time zones (Lastra and Olivares Caminal 2009). The G10 responded by setting up the Committee on Banking Regulations and Supervisory Practices (now the Basel Committee on Banking Supervision) under the auspices of the bank for International Settlements (BIS). The mandate of the Basel Committee has changed overtime and is currently stated according to its website to be “the primary global standard setter for the prudential regulation of banks” and “a forum for cooperation on banking supervisory matters”. It seeks to do this, inter alia, through “establishing and promoting global standards for the regulation and supervision of banks”. Four key features of the work of the Basel Committee may be noted. Firstly, the “BCBS expects full implementation of its standards by BCBS members”. However, no mechanism is provided for enforcement, and the authority of the Basel Committee’s standards is dependent on the willingness of participating

  Multilevel Governance in Banking Regulation 

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regulators to implement them. Indeed, the Charter states “The BCBS does not possess any formal supranational authority. Its decisions do not have legal force”. Secondly, membership is restricted to central banks and (where different) banking supervisory authorities in major banking jurisdictions. It follows that there is no direct linkage into the political processes that may impact on the development of regulations at the national level. Indeed, there is no democratic or other accountability provided for the Committee’s work which is seen as purely technical. However, given the potential effects of banking regulation on the real economy, the lack of accountability to governments and parliaments, as well as its limited membership, may be seen as a real problem as well as a potential impediment to implementation of standards. Thirdly, the Basel Committee’s work represents soft law at an international level par excellence (Lichtenstein 2001). Lastly, the Basel standards are expressed to be applicable to internationally active banks opening a potential gap in regulatory standards for major and less significant institutions. A similar issue arises in an attenuated form with the EU Banking Union. These limitations have not prevented the Basel Committee’s standards from being accepted as applicable global standards for international banking regulation well beyond the Committee’s current 27 members. The Basel Committee has adopted standards in a wide variety of areas including banks’ foreign branches, core principles for banking supervision, core principles for effective deposit insurance, internal controls, supervision of cross-border electronic banking and risk management guidelines for derivatives. However, in recent years the main focus of the work of the Basel Committee has been on prudential supervision and, in particular, bank capital. The initial response of the Basel Committee to the decline in banking capital in the 1970s and 1980s was the 1988 Basel Capital Accord (Basel 1) that sought to impose a minimum capitalisation of banks to ensure their prudential soundness. Basel 1 was based on three key elements that have persisted (with refinements) up to the present day: firstly, a definition of capital; secondly, a measurement of banks’ assets based on the perceived degree of risk and thirdly, a minimum ratio between the two which was set at 8%. Basel 1 was seen at the time as a success and was implemented by more than 100 countries globally. Basel 1 was applied in the EC through a variety of directives of which the most important were the Own Funds Directive, the Solvency Ratio Directive and the Second Consolidated Supervision Directive which complemented the Second Banking Directive as part of the internal market in banking. Significantly, the EU directives applied to all EU banks owing to concerns about a level playing field between institutions. When Basel developed

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prudential standards for banks’ trading activities, these were applied to banks and EU investment firms within scope without differentiation. All these directives were minimum harmonisation measures allowing national governments and regulators considerable latitude in adopting stricter requirements (as the Bank of England was to do in a number of areas). Essentially, the structure of regulation adopted by the EEC was one of decentralised regulation and supervision based on the primacy of national competence. It should be noted that this is wholly consistent with the Basel Charter which states that “BCBS standards constitute minimum requirements and BCBS members may decide to go beyond them”. Perhaps less recognised is that the minimum harmonisation approach gave national regulators considerable discretion in the interpretation of regulatory requirements which while subject to the ultimate interpretative control of courts conferred considerable agency autonomy in setting prudential requirements. For the regulated community, this could enable rapid responses to interpretative questions, and a deliberately nonlawyerly approach to questions of regulation and supervision was fostered by the UK’s Financial Services Authority and its successor, the Prudential Regulation Authority. In 1999, the Basel Committee decided to reformulate and make Basel 1 more risk sensitive. This was a direct response to the crude risk weights applied by Basel 1 as well as a failure to keep pace with developments in banks’ own internal measurement of capital. Basically, having aimed at improving the capitalisation of the banking system, Basel 1 actually encouraged risk-taking behaviours that improved profitability at the expense of growing systemic risk. Basel 2, which was eventually agreed in 2004, had the salutary effect of improving risk sensitivity but unfortunately placed excessive reliance on banks’ internal models which were allowed to be used to calculate credit risk for the first time. Essentially, Basel 2 presented banks with a menu of alternatives for calculating credit risk with a standardised approach with supervisory risk weights based on external credit ratings, a foundation internal ratings-­ based approach and an advanced internal ratings-based approach. The latter two approaches were only available subject to supervisory consent and were premised on the view that banks could better model credit risk than regulators, while the standardised approach assumed that credit rating agencies could be relied on to accurately monitor and evaluate risk. One of the key features of Basel 2 was its extensive reliance on national options and discretions. This may have been inevitable in the drive to achieve consensus within the Basel Committee but paved the way for widely different national implementation and hence variation in application of supervisory standards between banks.

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The EC adopted Basel 2 again extending it to all banks operating in the single market (Directives 2006/48/EC and 2006/49/EC). Little effort was made to co-ordinate the national options and discretions as a decentralised mode! prevailed. Basel 2 came into force in January 2007 with the more advanced measures becoming available in January 2008, by which time the financial crisis had already arrived. Because of the timeframe for implementation, it is impossible to know whether earlier implementation of Basel 2 would have helped mitigate the crisis, although this seems unlikely for a number of reasons. Firstly, Basel 2 was pro-cyclical (Repullo and Suarez 2008). Secondly, the main drivers of losses in the financial crisis (arising from banks’ securitisation and trading activities) were not effectively reformed and the problem of short-term incentives in financial institutions unaddressed. Finally, Basel 2 was about micro-prudential supervision and did not address macro-­ prudential risks, the unexpressed assumption being that if financial institutions are individually sound, then the financial system as a whole will be sound. Meanwhile, the EU had started to restructure its system of financial services regulation, partly in response to the Lamfalussy report on the Regulation of European Securities Market (February 2001). The report, which was confined to the securities sector, noted that “an almost consensual view has emerged that the European union’s current regulatory framework is too slow, too rigid, complex and ill-adapted to the pace of global financial market change. Moreover, almost everyone agrees that the existing rules and regulations are implemented differently and that therefore inconsistencies occur in the treatment of the same type of business, which threatens to violate the prerequisite of the competitive neutrality of supervision”. The report proposed a four-level approach consisting of a directive/regulation (level 1), technical implementing measures adopted by the Commission based on advice from a European Securities Regulators Committee (level 2), joint interpretation recommendations, consistent guidelines and common standards developed by the Committee (level 3) and enhanced enforcement by the Commission (level 4). Many of the recommendations of the Lamfalussy Committee were adopted and generalised to banking (and insurance) resulting in the creation of the Committee of European Banking Supervisors (CEBS) as the relevant level 2 and 3 committee for the banking sector. The creation of CEBS represented a compromise between hard and soft regulation. The level 1 text would determine policy choices and was set out in legislation adopted by the Council and the European Parliament. Level 2 was meant to be more technical and could not go beyond or contradict the level 1 text. Implementing measures are delegated legislation informed by expert

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input. Level 3 corresponds to soft law developed by consensus amongst national regulators. From a staffing point of view, CEBS was almost wholly dependent on its constituent national regulators.

5

 he Impact of the Global Financial Crisis T upon Global and EU Developments

At the global level, the G20 was established as the premier forum for the discussion and (in some cases) formulation of responses to the crisis, while the Financial Stability Forum was reconstituted as the Financial Stability Board (“FSB”) and acquired a new policymaking and co-ordination mandate over, inter alia, the Basel Committee. As the crisis demonstrated serious flaws in the structure and content of banking regulation, much of the efforts were concentrated in that arena with work taken forward by both the FSB and the Basel Committee. Amongst the principal global responses to the crisis were the reformulation of Basel 2 (through Basel 3), international efforts on the recovery and resolution of banks and other global systemically important financial institutions, and the greater regulation of OTC derivatives. There was also more focus on macro-prudential supervision through the establishment of new institutions at national or regional level as well as an intensification of global monitoring of financial stability. Basel 3 addressed initially the inadequate capitalisation of many banks as well as the quality of capital. The work has expanded and now encompasses reviews of the standardised and internal models-based approaches to credit risk, banks’ trading activities, securitisation and is for the most part due for implementation by 2022, some 13 years after the end of the global crisis, demonstrating how momentum can be lost in standard setting once the immediate crisis has passed. Within Europe, the response took the form initially of the establishment by the Commission of an expert committee (the de Larosière group) which reported in February 2009. The aim of the de Larosière group was to provide a report on the establishment of “a more efficient, integrated and sustainable system of supervision”. These recommendations called for the creation of a EU-level body to oversee risk in the financial system as a whole; a stronger system in place to reduce the risk and severity of future crises; convergence of technical rules across Member States; a mechanism for ensuring agreement and co-ordination amongst supervisors of cross-border financial institutions; a rapid and effective mechanism to ensure the consistent application of EU rules; and co-ordinated decision-making in emergency situations. Following

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the recommendations of the de Larosière report, a European System of Financial Supervision was established in 2010 which came into force on 1 January 2011. This involved the establishment of the European Systemic Risk Board (ESRB) as well, in the banking sector, of the European Banking Authority (EBA). The ESRB is responsible for the macro-prudential oversight of the EU financial system in order to contribute to the prevention or mitigation of systemic risks in financial stability (Lastra and Louis 2013). The EBA replaced CEBS and has wider tasks and more powers, including the power to make binding decisions in relation to specific firms and individual supervisors. The establishment of the EBA went alongside the reform of European banking regulation through Regulation 575/2013 (the “Capital Requirements Regulation”) and Directive 2013/36/EU (the “CRD IV Directive”) which considerably reduced the scope of national options and discretions and established a single rulebook. The introduction of detailed prudential requirements in an EU regulation (which unlike directives is directly applicable and does not require to be mediated through national implementing measures) represents an important step in the federalisation of EU banking law and the replacement of softer by harder law (EU directives are not strictly soft law instruments as they are binding “as to the results to be achieved … but shall leave to the national authorities the choice of form and methods”, Article 288 TFEU). This reflected the consensus that at a regional level, harder instruments and a more harmonised enforcement process were required to achieve greater convergence in outcomes given that the existing regulatory architecture had failed to prevent the crisis. The single rule book is not complete and there remain national options and discretions. Moreover, the legal text in CRR and Commission-delegated legislation made under it has been supplemented by non-binding “questions and answers” published by the Commission and the EBA. These have no formal legal value and do not bind the Court of Justice of the European Union (which alone has power to issue authoritative legal rulings on the interpretation of CRR). However, they provide practical guidance to firms and national regulators as to the relevant requirements and are in practice relied on in the absence of relevant legal rulings. The global financial crisis quickly mutated into a sovereign debt crisis in the Eurozone with Greece, Ireland, Portugal, Spain and Cyprus requiring financial assistance from the International Monetary Fund (IMF) and other Eurozone Member States. This exacerbated the “doom loop” between banks and sovereigns whereby a sovereign was exposed to the risk of recapitalising its banking sector with potential disastrous consequences for sovereign solvency

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while (unlike the position in the US) EU banks were substantial holders of their home state’s sovereign bonds exposing themselves to the risk of sovereign default. This “doom loop” exacerbated the spreads on sovereign bonds and bank borrowing costs in 2011–2012 and resulted in determined action through the creation of a banking union amongst Eurozone member states (although open to other EU member states that establish close co-operation with the ECB). Banking union is based upon three pillars. The first pillar is “single supervision” with the establishment of the Single Supervisory Mechanism (SSM), which is discussed elsewhere in this volume. The second pillar is “single resolution”, with a Single Resolution Mechanism (SRM) and a Single Resolution Fund. The third pillar is to be common deposit insurance and represents work in progress. The rationale of banking union in general and of the SSM in particular can be explained by the confluence of a number of factors: a flawed institutional design combining a strong monetary pillar with weak economic and supervisory pillars in the design of Economic and Monetary Union, the relevance of the so-called financial “trilemma” (which also justifies the federalisation of EU-wide supervision further), as well as the case for international regulation and supervision, the “vicious link” between banking debt and sovereign debt, and the need for independent supervision and adequate conditionality. We have examined the weak economic and supervisory pillars elsewhere (Lastra 2015) as well as the “vicious link” so we will discuss briefly the financial trilemma and the need for independent supervision. Niels Thygessen has argued that it is difficult to achieve simultaneously a single financial market while preserving a high degree of nationally based supervision (Thygesen 2003). Schoenmaker referred to these inconsistent objectives as the “trilemma in financial supervision”: a stable financial system, an integrated financial market and a national financial supervision (Schoenmaker 2003). The trilemma is an argument used to justify the need for EU-wide supervisory arrangements as well as international solution (Schoenmaker 2013). The dichotomy between national laws and policies and international or supranational institutions and markets remains a daunting challenge. European supervision was identified as a necessary precondition for access to European Stability Mechanism (“ESM”) funding. In June 2012, the Euro Area Summit decided that the ESM should get an instrument to recapitalise banks directly in order to relieve troubled Eurozone member states from the substantial rise of their national indebtedness due to the need to restructure their banks. This was adopted in December 2014. The instrument allows the ESM to recapitalise a systemic and viable euro area financial institution

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directly as a last resort measure. The ESM can recapitalise banks directly only if private investors have been bailed-in, in accordance with the EU Bank Recovery and Resolution Directive (BRRD). In addition, the national resolution funds or, from 2016 onwards, the Single Resolution Fund must contribute. In order to preserve the ESM’s high creditworthiness and lending capacity for other instruments, the total amount of ESM resources available for the new instrument is limited to €60 billion. These restrictive conditions have left the direct recapitalisation instrument a dead letter in practice. European supervision can distance itself from purely domestic or national concerns, and banking union should help prevent that the financial consequences of improper or delayed national supervisory measures be transferred to the European level and therefore to the taxpayers of other member states. European supervisors can provide a more independent and objective assessment of the problems identified in the course of the supervisory process than national supervisors. In the US, the main response to the crisis was the Dodd–Frank Wall Street Reform and Consumer Protection Act 2010. This provides greater coherence to the fragmented regulatory structure prevalent in the US as well as establishing important new bodies including the Financial Stability Oversight Council (“FSOC”) with specified regulatory powers. Further discussion of the Dodd– Frank Act is outside the scope of this chapter.

6

Concluding Observations

In this section, we shall try to draw together some conclusions from the developments considered in this chapter. Firstly, international financial institutions operate globally and need global rules. These may be of the hard or soft law kind. However, a more proportionate approach may be appropriate for less significant institutions. This can be seen in the FSB’s concern with systematically important financial institutions, the Basel Committee’s focus on internationally active banks and the division of tasks between significant and less significant institutions under the SSM Regulation in the context of banking union. Secondly, the more integrated a financial market is, there may be a greater need for binding or hard law instruments. This is demonstrated in the EU through the move from decentralised regulation based on national competence to a federalised system based on a single rule book founded on EU regulations, common standards for recovery and resolution (the BRRD) and, within the Eurozone, but potentially more widely, a banking union with

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c­ ommon supervision led by the ECB, the SRM and a federal approach to deposit protection. Indeed, the ECB has considered it necessary to adopt a common approach to national options and discretions within the context of the banking union. What, however, remains missing from banking union is a clear lender of last resort, which should be the ECB (or, possibly, the ESM, as recently proposed by the Commission, which would be transformed into a European Monetary Fund). Thirdly, soft law standards may be more effective in generating international agreement as they can be promulgated by technocratic or informal bodies such as the Basel Committee and the FSB without the legal difficulties attendant to the negotiation of international treaties between states. However, as such soft law then needs to be translated into binding national regulations, it is not the case that soft law is necessarily more appropriate for global standards. Indeed, as international financial institutions (especially, systemically important ones) operate globally, there is a need for global common standards effectively and consistently enforced to avoid gaps and potentially damaging regulatory arbitrage. This suggests a variable geometry with hard law backed up by common standards for certain institutions, whereas less significant institutions can safely be left to soft law standards and national implementation. Indeed, the existence of national differences in standards and their application may be beneficial in encouraging regulatory competition and trialling new approaches for less significant institutions before they are ready to be adopted as global standards. Fourthly, soft and hard law approaches may be appropriate at all levels of multilateral governance in the international financial system depending on the nature and importance of the policy area under consideration. In the field of prudential supervision (especially capital adequacy) where common standards are needed, then this can be achieved either through soft law or hard law provided there is an adequate degree of specificity as to its content and how it is to be applied. This has arguably been the case with successive iterations of the Basel Capital Accord and its EU implementation. However, high-level standards— whether hard or soft—may be more appropriate to resolution of non-systemic institutions, or for principles for banking supervision (which are backed by an agreed methodology), and have been published by the Basel Committee. Finally, differential approaches may be necessary for emerging or smaller markets that do not pose systemic risks to the global financial system. An analogy can perhaps be drawn with the special and differential treatment of developing countries under international trade law. Both hard and soft laws have a role to play at all levels of multilevel governance in the international regulation of banks. There is not a binary choice to

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be made between the two. However, there is a need for greater specificity and convergence in the international regulation of global banks which can most effectively be done through the adoption of binding legal instruments at the global level. For smaller institutions, national regulation based on global standards, but allowing discretion suggests greater reliance on soft law at the international level that can be translated into domestic law suitable for the specifics of the jurisdiction concerned. Finally, there is the question of whether there is a need for systemically important institutions for the certainty and consistency of approach that could be provided by a World Financial Institution. That, however, is a question for another day (Lastra 2014).

References Calomiris Ch. (2010), The Political Lessons of Depression-era Banking Reform, 26 Oxford Review of Economic Policy, 540 Friedman M. (1963), Inflation Causes and Consequences, Asian Publishing House Lastra R. (1996), Central Banking and Banking Regulation, Financial Markets Group, London School of Economics Lastra R. (2014), Do We Need a World Financial Organization?, 17 Journal of International Economic Law, 787 Lastra R. (2015), International Law in Financial Regulation and Monetary Affairs, Oxford University Press Lastra R. and Olivares Caminal R. (2009), Cross-border Insolvency: the Case of Financial Conglomerates 275, Labrosse J. et al. (eds), Financial Crisis Management and Bank Resolution, Informa Lastra R. and Louis J.-V. (2013), European Economic and Monetary Union: History, Trends and Prospects, 32(1) Yearbook of European Law, 85 Lichtenstein C. (2001), Hard Law v. Soft Law: Unnecessary Dichotomy, 35 International Lawyer, 1433 Norton J.  (1995), Devising International Bank Supervisory Standards, Martinus Nijhoff Publishers Reinhart C. and Rogoff K. (2009), This Time is Different: Eight Centuries of Financial Folly, Princeton University Press Repullo R. and Suarez J. (2008), The Procyclical Effects of Basel II, London, CEPR, Discussion Paper No. 6862 Schoenmaker D. (2003), Financial Supervision: from National to European?, 22(1) Financial and Monetary Studies Schoenmaker D. (2013), Governance of International Banking. The Financial Trilemma, Oxford University Press Thygesen N. (2003), The Political Economy of Financial Harmonisation in Europe, Kremers J. et al. (eds), Financial Supervision in Europe, Edward Elgar

2 European Banking Union Within the System of European Banking and Monetary Law Christos V. Gortsos

1

 Definition of EU Banking Law and Its A Evolution

(1) The author defines European Union (‘EU’) banking law as the set of provisions of European financial law aimed at two objectives. The first is to materialise the two basic freedoms laid down in the Treaty on the Functioning of the European Union (the ‘TFEU’, OJ C 202 (Consolidated version), 7.6.2016, pp. 47–200), that is, the freedoms of EU credit institutions (the term used consistently in EU banking law since 1977 to denote ‘banks’) to establish (by setting up branches) and provide financial services without establishment in other Member States as part of the process of negative financial integration. The second objective is to ensure the stability of the European banking system, which may be disrupted due to the occurrence of contagious credit institutions’ failures as part of the process of positive financial integration. For the achievement of the latter objective, EU banking law contains rules on the authorisation of credit institutions, the micro-prudential and macro-prudential regulation of credit institutions, the micro-prudential supervision of credit institutions, the macro-prudential oversight of the banking (and more generally the financial) system, the reorganisation, resolution and winding-up of credit institutions, and deposit guarantee. On the contrary, there are no rules on the functioning of the other element of the ‘bank safety net’, namely last-resort lending by central banks, since this C. V. Gortsos (*) Law School of National and Kapodistrian University of Athens, Athens, Greece © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_2

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function is carried out in an environment of ‘constructive ambiguity’ (on the term ‘bank safety net’, which refers to all measures taken in order to prevent and manage crises in the banking system with a view to preserving its stability, see Gortsos (2012), pp.  90–106). Last-resort lending to credit institutions established in euro area member states is governed by a mechanism called ‘Emergency Liquidity Assistance’ (the ‘ELA’), which is activated by the national central banks (the ‘NCBs’), which are members of the Eurosystem. The procedural arrangements governing the provision of such liquidity were laid down on 1 January 1999, although they were not made public. On 17 October 2013, however, the Governing Council (the ‘GC’) of the European Central Bank (the ‘ECB’) decided to make them public by issuing a relevant Communication. On 19 February 2014, the ECB’s GC approved certain, technical, specifications on these procedures, the content of which were included in its new Communication. Then, since May 2017, these procedural arrangements are laid down in the ECB ‘Agreement on emergency liquidity assistance’ (the ‘ECB Agreement (2017)’, analysed in Gortsos (2018b, pp. 71–78). (2) The provisions of EU banking law mainly apply to EU credit institutions, but (partially) also to the establishment and operation of branches of non-EU credit institutions in Member States, as well as to EU ‘financial institutions’, such as finance, leasing and factoring companies. It is also noted that this definition of EU banking law, which—like all other branches of EU financial law—is a branch of European economic law, does not cover EU rules governing banking contractual relations, the protection of consumers of services provided by EU credit institutions, as well as horizontal rules which apply to other providers of services in the EU, such as rules on anti-money laundering or on competition (on the concept and content of European economic law, see indicatively Kellerhals 2006; Schwarze 2007; on the branches of EU financial law, see Gortsos 2016b). (3) The content of EU banking law is being shaped gradually, within the context of political conditions prevailing in each given period. It is also influenced by the work of international standard-setting bodies, such as the Financial Stability Board (the ‘FSB’), the Basel Committee on Banking Supervision (the ‘Basel Committee’) and the International Association of Deposit Insurers (the ‘IADI’) (on these international fora, see Giovanoli 2010, pp. 19–25 and Thiele 2014, pp. 541–545 (on the FSB), Gortsos 2017 (on the Basel Committee) and Gortsos 2016a, pp. 8–15 (on the IADI)). In the context of a short overview of the evolution of EU banking law, the following four periods can be identified: the period from the beginning of the functioning of the European Economic Community until 1988, the period of

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the establishment of the single financial area (1989–1998), the period of consolidation of the single financial area (1999–2007), which extends from the beginning of the functioning of the Economic and Monetary Union (EMU) until the onset of the recent (2007–2009) international financial crisis, and the current fourth period since 2008 (see details in Gortsos 2016b). In the author’s opinion, the current period in the evolution of European financial law contains two phases, linked to the two major crises which erupted since 2007 and definitely affected, inter alia, the stability of the European financial system and public confidence therein. In particular, apart from the regulatory developments which have taken place, the first phase of the current period was marked by the publication on 25 February 2009 of the Report of the ‘de Larosière Group’ (see indicatively Ferrarini and Chiodini (2009)). This Report examined the causes of the recent (2007–2009) international financial crisis and laid down the foundations for reshaping (and further deepening the institutionalisation of ) arrangements at European level with regard to the financial system’s micro-prudential supervision and for establishing for the first time a European framework for the financial system’s macro-prudential oversight. The second phase contains the legal acts adopted as a reaction to the ongoing fiscal crisis in the euro area, which became manifest in 2010. The main by-product of this response, as regards financial law, was the establishment of the European Banking Union (the ‘BU’).

2

On the Establishment of the Banking Union

(1) The creation of the BU was tabled at the Euro Area Summit of 29 June 2012, amidst the ongoing fiscal crisis in the euro area. The main rationale behind this initiative is summarised in the following sentence of the Summit’s Statement: “We affirm that it is imperative to break the vicious circle between banks and sovereigns” (Euro Area Summit Statement, first paragraph, first sentence). The European Summit which was held concurrently on 28–29 June decided to invite the President of the European Council to develop, in close collaboration with the Presidents of the European Commission, the Eurogroup and the ECB, a specific and time-bound roadmap for the achievement of a genuine EMU (in accordance with the so-called ‘Van Rompuy Report’ ‘Towards a Genuine Economic and Monetary Union’) submitted on 26 June by the President of the European Council. One of the four elements of this Report was the creation of the BU.

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Under this political agenda, the establishment of the BU should create a ‘Europeanised bank safety net’ consisting of three pillars: a Single Supervisory Mechanism (the ‘SSM’) exclusively for the banking sector (i.e. not for the insurance and securities sectors) and mainly for credit institutions legally incorporated in euro area Member States, with regard to their micro-­prudential supervision (the ‘first pillar’), a Single Resolution Mechanism (the ‘SRM’) for unviable credit institutions (also mainly incorporated in euro area Member States) and a Single Resolution Fund (the ‘SRF’) to cover any resulting funding gaps, provided that a decision is made on the resolution of such credit institutions (the ‘second pillar’) and a European Deposit Insurance Scheme (the ‘EDIS’, the ‘third pillar’). The institutional and regulatory initiatives towards establishing the first two pillars of the BU took place in the course of 2013 and 2014 (see below, under 3.1 and 3.2). In addition, on 24 November 2015, the Commission submitted a Proposal for a Regulation of the European Parliament and of the Council in order to establish the EDIS gradually, in three stages. The process of the adoption of this legal is still halted; nevertheless, the Euro Summit meeting of 29 June 2018 came to the conclusion that work on a roadmap for beginning political negotiations on the EDIS should start immediately after the adoption of the (still pending) risk reduction measures (see below, under “The Rules Relating to the Authorisation, (Micro- and Macro-) Prudential Regulation and Micro-­ Prudential Supervision of Credit Institutions” (3)). (2) These pillars should be coupled with a ‘single rulebook’ containing substantive rules on all the previous aspects as part of the single market for financial services [on the link between the BU and the single market, see Lastra (2013), Binder (2016), pp. 13–15, and Alexander (2016), pp. 258–260]. The legislative acts (legislative acts in accordance with Article 289 TFEU) which constitute the main corpus of the single rulebook were already in place, since they are ‘children’ of the recent (2007–2009) international financial crisis. In particular, those on the prudential regulation and supervision of credit institutions and on the deposit guarantee schemes (DGSs) repealed pre-existing legislation in those two issue areas, while that on the resolution of credit institutions introduced for the first time such a regime. All these legislative acts that have been adopted under the opinion-giving influence of the ECB (TFEU, Article 127(4)) are complemented by numerous delegated and implementing acts (in accordance with Articles 290–291 TFEU), and their content is influenced, to a greater or lesser extent, by developments in public international banking law in the wake of the recent international financial crisis. It is also worth noting that, even though the three main pillars of the BU are designed to apply mainly (but not exclusively) to the euro area Member States, the single rulebook is applicable across all EU Member States (see below, under 3.3).

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(3) The creation and entry into operation (gradually, since November 2014) of the BU constitutes a major institutional development with regard to safeguarding banking and generally financial stability in the EU.  Since the establishment of the European Economic Communities, the micro-­prudential supervision of credit institutions was always an exclusive competence of national authorities (referred to as ‘national competent authorities’). Despite the significant initiatives taken since the late 1980s to establish a single banking market, in terms of both negative and positive integration, this aspect has remained unchanged. The conditions for the authorisation and micro-­ prudential supervision of credit institutions were, at a minimum level, harmonised across the (then) European Community, but it was the national competent authorities which were responsible to authorise credit institutions and supervise compliance of the latter with micro-prudential regulations, which were harmonised as well. Padoa-Schioppa (2004, p. 121) referred to this state of affairs as “European regulation with national supervision”. In the same vein, Lastra (2006, p. 298) characteristically notes: “There is an inevitable tension in the current EU structure: a national mandate in prudential supervision, combined with a single European currency and a European mandate in the completion of the single market in financial services”. This same ‘principle of decentralised management’ with regard to the institutions competent for the preservation of banking stability also applied to deposit guarantee. The operation of deposit guarantee schemes (the ‘DGSs’) was harmonised as well at a minimum level, but in case of activation of the pay-out procedure, it was (and still is) national DGSs which are called upon to compensate depositors for their covered deposits. The launch of the Economic and Monetary Union (the ‘EMU’) on 1 January 1999 did not bring about any changes to the regime on the authorisation and micro-prudential supervision of credit institutions incorporated in any Member State. Contrary to the definition and implementation of the single monetary and foreign exchange policy, for which competences became supranational, the ECB had not been assigned any supervisory powers for the EU financial system. Rather, the relevant competence remained with the Member States. It is also noteworthy that three other aspects of the ‘bank safety net’, which are currently included in the system of EU banking law, namely macro-­ prudential regulation and oversight as well as banking resolution, were at hand only after 2010.

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3

 he Legal Acts Establishing the Two First T Main Pillars of the Banking Union and the Related Single Rulebook

3.1

 he First Pillar: The Single Supervisory Mechanism T (SSM)

(1) The legal basis of the SSM is Council Regulation (EU) No 1024/2013 of 15 October 2013 “conferring specific tasks on the European Central Bank concerning policies relating to the (micro-) prudential supervision of credit institutions” (the ‘SSMR’, OJ L 287, 29.10.2013, pp.  63–89), which was adopted on the basis of Article 127(6) TFEU (on this Article, see Smits 1997, pp. 355–360, Hadjiemmanuil 2006, pp. 824–825, Louis 2009, pp. 166–168, and Lastra and Louis 2013, pp.  82–94). The SSM became operative on 4 November 2014 (SSMR, Article 33(2), first sub-paragraph). The institutional framework pertaining to the SSM is further specified in several legal acts of the ECB, containing provisions on the detailed operational arrangements for the implementation of the tasks conferred upon it by the SSMR. The most important of these ECB legal acts is Regulation (EU) No 468/2014 of 16 April 2014 “establishing the framework for cooperation within the SSM between the [ECB] and national competent authorities and with national designated authorities (‘SSM Framework Regulation’) (ECB/2014/17)” (OJ L 141, 14.5.2014, pp. 1–50), which further specifies certain SSMR provisions. (2) The SSMR mainly applies to the ‘participating Member States’. These are defined (SSMR, Article 2, point (1)) as meaning both the Member States whose currency is the euro (in the SSM Framework Regulation also called ‘euro area participating Member States’) and the Member States with a derogation (including the Member States which opted out of the EMU, i.e. the United Kingdom and Denmark), which have established a close cooperation in accordance with Article 7 SSMR. The SSMR is based on four main elements, which reflect the compromise achieved between the EU institutions and Member States during its elaboration. The first is the conferral of ‘specific tasks’ on the ECB for the ­micro-­prudential supervision of certain types of financial firms, in transfer from national competent (supervisory) authorities, which are exercised within the SSM (SSMR, Articles 4(1) and 5(2)). The second element is the designation of the financial firms, mainly credit institutions with regard to which these specific tasks have been conferred on

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the ECB. In that respect, Article 6 SSMR established, in principle, a ‘two-tier system’ with regard to the distribution of powers within the SSM, distinguishing between ‘significant’ and ‘less significant’ credit institutions, financial holding companies or mixed financial holding companies (the ‘supervised entities’). Nevertheless, in accordance with Article 4(1), points (a) and (c)— which make further reference to Articles 14–15, the granting and withdrawal of authorisation of credit institutions, as well as acquisition and disposal of qualifying holdings therein—is the competence of the ECB for all credit institutions. In addition, if necessary in order to ensure consistent application of ‘high supervisory standards’, the ECB may, at any time, decide to exercise directly the supervision of a less significant supervised entity or a less significant supervised group (SSMR, Article 6(5), point (b)). The incorporation of the SSM within the ‘European System of Financial Supervision’ (the ‘ESFS’) without in principle touching upon the tasks of the European Banking Authority (the ‘ΕΒA’) and the other ESFS components constitutes the third element of the SSMR (SSMR, Article 3). Finally, the last main element is the creation of ‘Chinese walls’ within the ECB in order to ensure the effective separation of its monetary policy and other tasks from its supervisory tasks (SSMR, Article 25(1)–(4); on the analysis of the provisions of the SSMR, see the various contributions in Binder et al. 2019).

3.2

 he Second Pillar: The Single Resolution Mechanism T and the Single Resolution Fund

(1) In 2014, a Single Resolution Mechanism (the ‘SRM’) and a Single Resolution Fund (the ‘SRF’) were established on the basis of Regulation (EU) No 806/2014 of the European Parliament and of the Council of 15 July 2014 “establishing uniform rules and a uniform procedure for the resolution of credit institutions and certain investment firms in the framework of a Single Resolution Mechanism and a Single Resolution Fund (…)” (the ‘SRMR’, OJ L 225, 30.7.2014, pp.  1–90), and the Intergovernmental Agreement (No 8457/14) “on the transfer and mutualisation of contributions to the Single Resolution Fund” (the ‘SRF Agreement’). (2) The SRMR was adopted on the basis of Article 114 TFEU and (with some exceptions) is applicable from 1 January 2016 (SRMR, Article 99(2)). Its objective is to establish uniform rules and a uniform procedure for the (orderly) resolution of credit institutions (as well as parent institutions, investment firms and financial institutions, if they are subject to consolidated supervision carried out by the ECB in accordance with Article 4(1), point (g)

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SSMR), established in the euro area Member States and in the Member States which have entered into a ‘close cooperation’ with the ECB without recourse to taxpayers’ money (including public financial assistance by EU facilities) for their recapitalisation (SRMR, Article 1). Those uniform rules and that uniform procedure must be applied by the Single Resolution Board (the ‘Board’ or the ‘SRB’), which was established in accordance with Article 42 SRMR, together with the Council, the Commission and the national resolution authorities (also referred to as ‘NRAs’) within the framework of the SRM established by the Regulation. Its adoption was a necessary complement to the SSMR, as it would constitute a paradox if credit institutions were directly supervised (by the ECB) at European level, but, in the event of a need for resolution, the relevant decisions were to be made at national level (the provisions of the SSMR are analysed as well in the various contributions in Binder et al. 2019). (3) The SRF Agreement is an instrument of public international law and, as such, the rights and obligations laid down therein are subject to the principle of reciprocity, that is, the equivalent performance of those rights and obligations by all Parties. It is applicable also from 1 January 2016 and complements and supports the SRMR which established the SRF (SRMR, Articles 1 (second sub-paragraph, second sentence) and 67–69). The only Member States which are not Contracting Parties to the SRF Agreement are Sweden and the United Kingdom. Under the SRF Agreement, which applies to the Contracting Parties whose institutions are subject to the SSM and the SRM, these parties must transfer the contributions raised at national level to the SRF in accordance with the Bank Recovery and Resolution Directive (BRRD) and the SRMR. In addition, they must allocate these contributions to the SRF ‘compartments’, which correspond to each of them, during an initial period of eight years in accordance with a specific procedure. The use of these compartments is subject to a ‘progressive mutualisation’, meaning that they will cease to exist at the end of the initial period with a view to securing the effectiveness of the operations and functioning of the SRF. The SRF should reach a target level of at least 1% of the amount of covered deposits of all credit institutions authorised in all participating Member States (about 55 billion euros, SRF Agreement, Article 1). In principle, the SRF is mainly being financed by the participating institutions’ ex-ante contributions, while the EU budget or the national budgets may not be held liable for expenses or losses incurred by the SRF (SRMR, Articles 70 and 67(2), respectively). The ex-post financing is governed by Articles 71–74 SRMR.  Article 74 SRMR (entitled ‘access to financial facility’)

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­ rovides, in particular, that the SRB can contract for the SRF public financial p arrangements regarding the immediate availability of ‘additional financial means’ to be used (in accordance with Article 76 on the SRF’s mission) if the contributions raised or available are not sufficient to meet the SRF’s obligations. The provision of credit lines or setting guarantees in support of the SRB is also referred to as ‘common backstop’ (on the case for establishing a common backstop, see indicatively Schoenmaker (2014, 2017); Schlosser (2017)). In the above-mentioned Euro Summit meeting of 29 June 2018, agreement was reached that the common backstop should be activated and be provided by a more strengthened European Stability Mechanism (the ‘ESM’) and that the Eurogroup should prepare the terms of reference of the common backstop and agree on a term sheet for the further development of the ESM by December 2018.

3.3

The Underlying Single Rulebook

 e Rules Relating to the Authorisation, (Micro- and Macro-) Th Prudential Regulation and Micro-Prudential Supervision of Credit Institutions (1) The authorisation, (micro- and macro-) prudential regulation and micro-­ prudential supervision of credit institutions in the EU (and not only in the euro area) are governed by two legal acts of the European Parliament and of the Council of 26 June 2013: Regulation (EU) No 575/2013 “on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012” (‘Capital Requirements Regulation’ or ‘CRR’, OJ L 176, 27.6.2013, pp.  1–337) and Directive 2013/36/EU “on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms (…)” (‘Capital Requirements Directive IV’ or ‘CRD IV’, OJ L 176, 27.6.2013, pp. 338–436). Adopted on the basis of Articles 114 and 53(1) TFEU, respectively, in force since 1 January 2014 and applying equally to investment firms as well (commonly referred to therein as ‘institutions’), these legal acts (along with the delegated and implementing acts of the Commission adopted on their basis) set the framework governing the following aspects: access to activity of the business of credit institutions (granting and withdrawal of authorisation, as well as acquisition and disposal of qualifying holdings), the exercise of the right of establishment and the freedom to provide services in the single market, relations to third countries, micro-prudential supervision of credit institutions, both on a solo

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and on a consolidated basis, including the supervisory review and evaluation process (the ‘SREP’), and micro- and (for the first time) macro-prudential regulation of credit institutions. (2) These rules reflect to a large extent the framework developed in 2010 (immediately after the recent (2007–2009) international financial crisis) by the Basel Committee on this field (the ‘Basel III regulatory framework’; on this framework, in its original version of 2010, see Gortsos 2012, pp. 254–281). (3) It is noted that on 23 November 2016, the Commission tabled, on the basis of its Communication of 24 November 2015 ‘Towards the completion of the Banking Union’ (COM(2015) 587 final), a legislative “banking package” concerning the amendment of several aspects of the SRMR, the BRRD, the CRR and the CRD IV with a view to reducing risks in the financial system and further strengthening the resilience of EU credit institutions (usually referred to as ‘risk reduction measures’). The amendments to the CRR refer to various aspects, such as the leverage ratio, the net stable funding ratio, requirements for own funds and eligible liabilities, counterparty credit risk, market risk and exposures to central counterparties, and to collective investment undertakings, large exposures, as well as reporting and disclosure requirements (COM(2016) 850 final). On the other hand, those to the CRD IV refer to exempted entities, financial holding companies and mixed financial holding companies, remuneration, supervisory measures and powers, as well as capital conservation measures (COM(2016) 854 final).

 e Rules Relating to the Preparation for Resolution of, Early Th Intervention in and Resolution of Credit Institutions (1) The single rulebook on banking resolution is governed by Directive 2014/59/EU of the European Parliament and the Council of 15 May 2014 “establishing a framework for the recovery and resolution of credit institutions and investment firms” (the ‘Bank Recovery and Resolution Directive’ or ‘BRRD’, OJ L 173, 12.6.2014, pp. 190–348). The BRRD, which like the CRR and the CRD IV also applies to investment firms (also commonly referred to therein as ‘institutions’), was adopted on the basis of Article 114 TFEU and is applicable (with some exceptions) from 1 January 2015 to all Member States (BRRD, Article 130(1), second sub-paragraph). It contains provisions pertaining to three main aspects, which constitute its pillars: the ‘preparatory measures’, including recovery and resolution planning (also called ‘living wills’) and intra-group financial support agreements (Articles 4–26), the ‘early intervention measures’, including the appointment of a

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special administrator (Articles 27–30) and the ‘resolution tools and powers’ (the most extensively regulated aspect, Articles 31–86). All these measures are divided into two categories: ‘crisis prevention’ and ‘crisis management measures’ (Article 2(1), points (101) and (102)). The resolution tools under the BRRD (and the SRMR) are four: the sale of business tool, the bridge institution tool, the asset separation tool and the bail-in tool (BRRD, Articles 37–55 and SRMR, Article 22(2)). The three conditions for resolution are laid down in Article 32 BRRD and in substance (even though not in procedural terms) are identical to those laid down in Article 18(1) SRMR (on the BRRD, see Haentjens 2017, and the various contributions in World Bank 2017). (2) As in the case of the CRR and the CRD IV, the impact of public international law on the BRRD was considerable as well. Its content was heavily influenced by the 2011 Report of the FSB entitled ‘Key Attributes of Effective Resolution Regimes for Financial Institutions’, which laid down the core elements considered to be necessary for an effective regime governing the resolution of any type of financial institutions that could be systemic in failure (for an overview, see Grünewald 2014, pp. 79–80; Kleftouri 2015, pp. 160–165). An update of the 2011 Report was published in October 2014, which is currently into force. In October 2016, the FSB also adopted the ‘Key Attributes Assessment Methodology for the Banking Sector’, which lays down essential criteria guiding the assessment of national bank resolution frameworks’ compliance with the key attributes. (3) The above-mentioned (under “The Rules Relating to the Authorisation, (Micro- and Macro-) Prudential Regulation and Micro-Prudential Supervision of Credit Institutions” (3)) legislative “banking package” also contains a combined legislative proposal referring to the amendment of both the SRMR and the BRRD. The objectives of the Proposals for a Regulation of the European Parliament and of the Council “amending the SRMR as regards loss-­absorbing and recapitalisation capacity for credit institutions and investment firms” and for a Directive of the same institutions amending the BRRD “on loss-­ absorbing and recapitalisation capacity of credit institutions and investment firms (…)” (COM(2016) 851/2 final and 0853/2, respectively) are to review the minimum requirement for eligible liabilities (the ‘MREL’) rules of the resolution framework and implement in the EU legal framework the total loss-absorbing capacity (the ‘TLAC’) standard of the FSB. In the same context, these institutions adopted on 12 December 2017 Directive (EU) 2017/2399 “amending [Article 108 the BRRD] as regards the ranking of unsecured debt instruments in insolvency hierarchy” (OJ L 345, 27.1.2.2017, pp. 96–101).

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The Rules on Deposit Guarantee (1) The operation of national DGSs is governed by Directive 2014/49/EU of the European Parliament and of the Council of 16 April 2014 “on deposit guarantee schemes” (the ‘DGSD’, OJ L 173, 12.6.2014, pp. 149–178), which repealed Directive 94/19/EC of the same EU institutions as of 3 July 2015 [DGSD, Article 21; for a brief overview of the 1994 legal act, see Kleftouri (2015), pp. 64–75]. Its legal basis being Article 53(1) TFEU, it lays down rules and procedures on the establishment and functioning of national DGSs (DGSD, Article 1(1)). The DGSD substantially modified certain aspects of Directive 94/19/EC, while concurrently containing several innovative elements. As to the elements of continuity, Member States are not liable for the funding adequacy of their DGSs, their responsibility being confined to the establishment and official recognition of at least one DGS in their territory, the ‘mandatory membership rule’ for credit institutions has been retained and DGSs are activated when a credit institution’s deposits become ‘unavailable’. In addition, the main function of DGSs, the ‘paybox function’, has also been retained, but ranks first among four functions that DGSs may serve, including the contribution to the financing of the resolution of unviable credit institutions. On the other hand, elements of change include (inter alia) the rules adopted on the supervision of DGSs by designated authorities with regard to their operation, the introduction of provisions pertaining to the financing of DGSs (ex-ante financing exclusively by contributions of participating credit institutions being the rule, while ex-post financing arrangements are also prescribed), the fixing of the coverage level at 100,000 euros per depositor per credit institution (minimum and maximum) and the gradual reduction of the repayment period from twenty to seven working days at the latest by the end of 2023 (this legal act is analysed in Gortsos 2014). (2) The impact of public international financial law on the content of the DGSD is less important than in the case of the CRR, the CRD IV and the BRRD, since the majority of the principles contained in the ‘IADI Core Principles for Effective Deposit Insurance Systems’ of 1 November 2014 were already incorporated into EU law. These core principles, adopted by the IADI, are also a by-product of the recent (2007–2009) international financial crisis and reflect the need for effective deposit insurance in preserving financial stability.

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31

 he Sources of EU Banking Law T After the Establishment of the Banking Union

(1) All the above-mentioned legal acts relating to the establishment of the BU and the related single rulebook constitute the main sources of EU banking law. Another source is Directive 2001/24/EC of the European Parliament and of the Council of 4 April 2001 “on the reorganisation and winding-up of credit institutions” (OJ L 125, 5.5.2001, pp. 15–23, as in force after its amendment, inter alia, by Article 117 of the BRRD). This legal act does not provide for a minimum harmonisation of national reorganisation measures and winding-up proceedings. It mainly introduced the principle of mutual recognition, whereby (as applied to winding-up proceedings) the administrative or judicial authorities of the home Member State, which are responsible for winding-up, are solely competent to decide on the opening of winding-up proceedings concerning a credit institution, including its branches established in other Member States [on this Directive, see Peters (2011) and Wessels (2017)]. Of relevance to EU banking law are also three legal acts of institutional nature, which are the sources of the two elements of the ESFS, shaped on the basis of the proposals made in 2009 by the High-Level Group on Financial Supervision in the EU in the so-called ‘de Larosière Report’ of 25 February 2009. (2) With regard to the first ESFS element, the three so-called ‘European Supervisory Authorities’ (the ‘ESAs’), relevant is Regulation (EU) No 1093/2010 of the European Parliament and of the Council of 24 November 2010 (adopted on the basis of Article 114 TFEU, OJ L 331, 15.12.2010, pp. 12–47) establishing the EBA. The EBA is mainly a regulatory authority composed of national competent supervisory authorities in the banking sector, and, according to Article 8 of its founding Regulation, its main task is the contribution to the “establishment of high-quality common regulatory and supervisory standards and practices” (further specified in Articles 10–16 and 34), that is, contribution to the development of the ‘single rulebook’ (on Articles 10–16 EBA Regulation, see indicatively Wymeersch 2012, pp.  249–255 and 276–277 and in detail Schemmel 2018, pp.  64–285). Nevertheless, it has also been endowed with some specifically designated supervisory powers, laid down in Articles 17–19 of its founding Regulation (action in case of breach of EU law, action in emergency situations and

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s­ettlement of disagreements (‘mediation’) between competent authorities in cross-­border situations; see Wymeersch 2012, pp. 255–271). The EBA Regulation has already been substantially amended by Regulation (EU) No 1022/2013 of 22 October 2013 in the prospect of conferring specific supervisory tasks to the ECB within the SSM (OJ L 287, 29.10.2013, pp. 5–14; on this legal act, see Schammo 2014; Wymeersch 2014; Gortsos 2015, pp. 64–71). It also worth mentioning that the Regulations governing the ESAs are currently under amendment, mainly in view of the need to further enhance and (in certain cases) clarify their powers, improve their governance and enhance their funding base (COM(2017) 536 final (20.9.2017)). (3) In addition, with the creation of the ‘European Systemic Risk Board’ (the ‘ESRB’), which was established by virtue of Regulation (EU) No 1092/2010 of the European Parliament and of the Council of 24 November 2010 “on European Union macro-prudential oversight of the financial system and establishing a European Systemic Risk Board” (OJ L 331, 15.12.2010, pp.  1–11) and constitutes the second ESFS element, the macro-prudential oversight of the European financial system became the first—and single until 2014—component of the Europeanised ‘bank safety net’. This Regulation is currently under amendment as well (COM(2017) 538 final (20.9.2017)). Furthermore, in relation to the functioning of the ESRB, specific tasks have been conferred on the ECB pursuant to Council Regulation (EU) No 1096/2010 of 17 November 2010 (adopted on the basis of Article 127(6) TFEU, which was activated for the first time in this case). (4) On the basis of the above-mentioned, Regulations (EU) No 1092/2010 (despite its horizontal application throughout the financial system), 1093/2010 and 1096/2010 are sources of EU banking law as well.

5

 he Links Between EU Monetary Law T and the Banking Union

5.1

The Sources of EU Monetary Law

(1) EU banking (and in general financial) law must be distinguished from European monetary law. The author defines ‘EU monetary law’ as the set of EU primary and secondary law provisions which govern the monetary pillar (the ‘M’) of the EMU. Contrary to EU banking law, the sources of EU monetary law, which is another branch of European economic law, are found both in primary European law and in legal acts of secondary European law.

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(2) The fundamental source of EU monetary law is the Treaty on European Union (the ‘TEU’, consolidated version, OJ C 202, 7.6.2016, pp.  13–45) and, in particular, Article 3(4), which, by referring to the EU objectives, stipulates that “the Union shall establish an economic and monetary union whose currency is the euro”. Moreover, the 2007 Treaty of Lisbon amending the TEU brought about a significant breakthrough in the institutional framework of the EU, with the explicit institutionalisation of the ECB, reflected in Article 13 TEU. (3) Nevertheless, the provisions in relation to the objectives, the tasks and the operation of the ECB and of the European System of Central Banks (the ‘ESCB’) (and mainly its sub-system, the Eurosystem, which consists of the ECB and the NCBs of the Member States whose currency is the euro) are included in the TFEU and not in the TEU. This is in contrast to the corresponding regime of the European Parliament, the European Council, the Council, the Commission and the European Court of Justice (the ‘CJEU’), the fundamental provisions of which are set out in the TEU (Articles 14–17 and 19). The TFEU specifies that the field of monetary policy for the Member States whose currency is the euro falls within the exclusive EU competences (Article 3(1), point (c)). This is further elaborated in Article 119, which lays down the definition of both the economic and the monetary union and underscores the fundamental differences in their design. Furthermore, in the “critical mass” of provisions on the monetary union (Articles 127–133), it is stipulated that the primary objective of the Eurosystem is the maintenance of price stability (Article 127(1), first sentence; see indicatively Smits (1997), pp.  184–187, Papathanassiou (2001), pp. 13–15 and Louis (2009), pp. 150–151). In addition, Article 127(2) enumerates the basic tasks conferred upon the ECB within the Eurosystem, including the definition and implementation of monetary policy (see indicatively Smits 1997, pp. 193–202; Papathanassiou 2001, pp. 15–28; Louis 2009, pp. 152–162; Lastra and Louis 2013, pp. 79–81). Other relevant TFEU provisions refer, inter alia, to the power conferred upon the European Parliament and the Council in order to adopt measures necessary for the use of the euro as the single currency (Article 133), the main institutional aspects of the ECB (Articles 282–284), the review of the legality of ECB’s acts by the CJEU (Articles 263, 265–267 and 277), disputes which concern the ESCB and are subject to the CJEU’s jurisdiction (Article 271), to the non-contractual liability of the ECB and its servants (Article 340, third sub-paragraph) and the privileges and immunities of the ECB (Article 343, second sub-paragraph).

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The organisation and functioning of the ESCB are also governed by the Statute of the ESCB and of the ECB, which is contained in Protocol (No 4) annexed to the Treaties (the ‘ESCB/ECB Statute’, OJ C 202 (Consolidated version), 7.6.2016, pp. 230–250). (4) EU monetary law is also shaped through the legal acts that the ECB has the power to issue: Regulations, Decisions, Recommendations and Opinions, by virtue of Article 132(1) TFEU, and Guidelines, Instructions and internal Decisions, by virtue of the ESCB/ECB Statute.

5.2

The Main Links

(1) The legal acts which constitute the sources of the legal framework governing the BU are not considered to be EU monetary law. Their main objective is the preservation of specific aspects of banking (and generally financial) stability and by no means the preservation of price stability (despite the undisputed interaction between those two forms of stability). In addition, the inclusion of Article 127(6) TFEU (which constitutes the legal basis of the first pillar of the BU) in a TFEU Chapter entitled “monetary policy” must be attributed to reasons relating to the architecture of the Treaty and cannot, under any line of argumentation, lead to the conclusion that the supervisory tasks conferred upon the ECB are related to its monetary tasks. The strict separation of monetary and supervisory functions required by Article 25 SSMR fully corroborates this argument. (2) Nevertheless, the completion of the BU is considered to be part of the deepening of the EMU. Indicatively, the Commission Communication of 11 October 2017 “on completing the Banking Union” (COM(2017) 592 final) is broadly based on the conclusions of the Commission Reflection Paper “on the deepening of the [EMU]” of 31 May 2017 (the ‘EMU reflection paper’) (as well as in previous documents submitted by the Council and by the Commission). This was further reinforced in the Commission Communication of 6 December 2017 ‘Further steps towards completing Europe’s [EMU]: A roadmap’ (COM(2017) 821 final, 6.12.1017), which outlines a comprehensive package of six proposals to strengthen the EMU—including the BU and the Capital Markets Union, which constitute the two pillars of the ‘Financial Union’ (see details in Gortsos (2018a), pp. 46–52). (3) The predominant role of the ECB within these two sets of rules also dictates a closer look: Firstly, in relation to the functioning of the ESRB, specific tasks have been conferred, as already mentioned (see above, under 4 (3)) on the ECB p ­ ursuant

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to Council Regulation (EU) No 1096/2010. Hence, the ECB became a part of the ESFS from the time of its establishment. In this respect, the ECB President is chairing the General Board of the ESRB, and the Vice-President is one of its members (Regulation (EU) No 1092/2010, Articles 5–6 and Regulation (EU) No 1096/2010, Article 1). In addition, the ECB must ensure a Secretariat and thereby provide analytical, statistical, logistical and administrative support to the ESRB, and provide sufficient human and financial resources for the fulfilment of its tasks. In addition, the ECB is since 2014 not only a monetary authority in the euro area, exercising within the Eurosystem the basic tasks conferred upon it by virtue of Article 127(2) TFEU; it has also therein specific banking supervisory tasks in accordance with the provisions of the SSMR. In that respect, and on the basis of the SSMR and (its twin) Regulation (EU) No 1022/2013 (which amended the EBA Regulation), the ECB has also become a part of the ESFS with regard to the tasks conferred upon it by the SSMR [EBA Regulation, Article 2(2), point (f )]. Furthermore, the role of the ECB is also important in the resolution framework of the SRM, since the determination of whether a credit institution is ‘failing or likely to fail’, which constitutes the first resolution condition, is made in principle by the ECB (SRMR, Article 18(1), second sub-paragraph; on the conditions for resolution under the SRMR and the relevant cases dealt with by the Single Resolution Board (the ‘SRB’) in 2017 and 2018, see Gortsos 2018a, pp. 140–152)). It is also noted in this respect that, if the SRB (under the SRMR) or the national resolution authorities (under the BRRD) were to apply the sale of business or bridge institution resolution tools, the withdrawal of authorisation of the credit institution under resolution is always a task of the ECB (SSMR, Article 4(1), point (a), with reference to Article 14). Finally, it is noted that, on the basis of the (doubtful in the author’s opinion) premise that there is no sufficient legal basis for the ECB to exercise such a power, last-resort lending to credit institutions exposed to illiquidity is not granted by the ECB but by NCBs—members of the Eurosystem. Nevertheless, in accordance with Article 14.4 of the ESCB/ECB Statute, NCBs are entrusted with last-resort lending, unless the ECB GC finds that this would interfere with the objectives and tasks of the ESCB. The above-mentioned (under 1 (1)) ECB Agreement (2017) presents a definition of emergency liquidity assistance (ELA) and describes the allocation of responsibilities, costs and risks for ELA operations, as well as a framework for the provision and exchange of information, as well as the control of liquidity effects to prevent any provision of ELA from interfering with the objectives and tasks of the ESCB

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(Section 1.1, first sentence). In addition, the Agreement acknowledges that ELA must comply with the prohibition of monetary financing laid down in Article 123 TFEU (Section 1.1, second sentence). It is noteworthy that the provision of ELA is not considered to be part of the single monetary policy in the euro area. In both cases, the central bank provides liquidity to the banking system. However, in the case of ECB monetary policy actions, the objective is not to ensure the stability of the financial system, but rather to maintain price stability, the liquidity granted is not of an emergency nature, but rather permanent, and the liquidity is provided to the banking system as a whole, rather than to individual credit institutions. (4) On the basis of the above [under (3)], the conclusion can be drawn that the main link between EU banking and monetary law after the establishment of the BU is the pivotal role of the ECB as part of both the European System of Central Banks (ESCB)/Eurosystem, which is of relevance to EU monetary law, and the European System of Financial Supervision (ESFS), which is of relevance to EU banking law (for further details on this, see Gortsos 2018b).

6

 oncluding Remarks: ‘European Central C Banking Law’ or ‘ECB Law’ as the Result of a (Partial) Synthesis

(1) Before the entry into force of the Banking Union (BU), on 4 November 2014, European banking law consisted of five legislative acts: the Capital Requirements Regulation (CRR), the Capital Requirements Directive No IV (CRD IV), the Bank Recovery and Resolution Directive (BRRD), the Deposit Guarantee Schemes Directive (DGSD) and the Credit Institutions’ Winding-Up Directive. These legislative acts, as in force and as complemented by numerous delegated and implementing acts of the Commission or of the Council, as well as by a significant number of EBA Guidelines, apply to all Member States as part of the single market in banking services. In addition, sources of EU banking law also were (and still are) the Regulations governing the EBA, the ESRB and the role of the ECB within the latter. The legal acts in force which constitute the legal basis of the two main pillars of the BU—that is, the Single Supervisory Mechanism Regulation (SSMR), the related legal acts of the ECB, the Single Resolution Mechanism Regulation (SRMR), the related delegated and implementing acts, the Intergovernmental Agreement of the Single Resolution Fund (SRF) and some interinstitutional agreements—are also sources of European banking law,

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which nevertheless apply only to the Member States whose currency is the euro (under reservation of the ‘close cooperation’ procedure laid down in Article 7 SSMR, which nevertheless has not been activated). As a matter of fact, the application of the SSMR is based on the CRR and the CRD IV, while the application of the SRMR is based on the BRRD. It is well known that the third main pillar, the European Deposit Insurance System (the EDIS), is still not in place. (2) On the other hand, the legal acts which constitute the legal basis of the SSM and the SRM are not considered to be European monetary law, since (as already mentioned) their main objective is the preservation of specific aspects of banking (and generally financial) stability and in no case the preservation of price stability. Nevertheless, the predominant role of the ECB within the SSM, its limited but important role in the resolution framework of the SRM, as well as its involvement in financial macro-prudential oversight justify the assessment that, on the basis of a ‘synthetic approach’, a distinct branch of European economic law can be identified, that of ‘European central banking law’ or ‘ECB law’. This can be defined as comprising three sets of legal sources. The first set consists of the provisions of EU primary law and the legal acts of secondary law governing the monetary and other basic tasks of the ECB (within the Eurosystem), as well as the other tasks conferred on it by virtue of the TFEU (Article 128 on the issuance of euro-denominated banknotes and coins) and the ESCB/ECB Statute (Article 5 on the collection of statistical information), that is, EU monetary law. The second set of sources consists of the legal acts governing the specific tasks conferred on the ECB by virtue of the SSMR and its (limited) powers under the SRMR, that is, a sub-set of the rules of EU banking law which are relevant to the BU.  Finally, the third set consists of Regulation (EU) No 1096/2010 concerning the specific tasks conferred upon the ECB in relation to the functioning of the ESRB. Inter alia, this synthetic approach allows an in-depth study of the ECB as part (as already mentioned) of both the European System of Central Banks (ESCB)/Eurosystem, which is of relevance to EU monetary law, and the European System of Financial Supervision (ESFS), which is of relevance to EU banking law.

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References Alexander K. (2016), The ECB and Banking Supervision: Does Single Supervisory Mechanism Provide an Effective Regulatory Framework?, Andenas. M. and Deipenbrock G., editors, Regulating and Supervising European Financial Markets – More Risks than Achievements, Springer International Publishing, pp. 253–276 Binder J.-H. (2016), The European Banking Union – Rationale and Key Policy Issues, Binder J.-H. and Gortsos Ch. V., editors (2016), Banking Union. A Compendium, C.H. Beck – Hart Publishing – Nomos, pp. 1–16 Binder J.-H., Gortsos Ch.V., Lackhoff K. and Ohler Ch., editors (2019), Brussels Commentary on the Banking Union, C.H. Beck – Hart Publishing – Nomos Ferrarini G. and Chiodini F.(2009), Regulating cross-border banks in Europe: a comment on the de Larosière report and a modest proposal, Capital Markets Law Journal, Vol. 4, Oxford University Press, pp. 123–140 Giovanoli M. (2010), The International Financial Architecture and its Reform after the Global Crisis, Giovanoli, M. and Devos D., editors (2010), International Monetary and Financial Law: The global crisis, Oxford University Press, Chapter 1, pp. 3–39 Gortsos Ch.V. (2018a), The Single Resolution Mechanism (SRM) and the Single Resolution Fund (SRF): Legal aspects of the second main pillar of the European Banking Union (2018), e-book, Fourth edition, available at: https://ssrn.com/ abstract=2668653 Gortsos Ch.V. (2018b), Legal Aspects of the European Central Bank (ECB) – The ECB within the European System of Central Banks (ESCB) and the European System of Financial Supervision (ESFS)(2018), e-book (University notes), Second edition, available at: https://ssrn.com/abstract=3162024 Gortsos Ch.V. (2017), The Basel Committee on Banking Supervision through the Lens of Its 2013 Charter, available at: https://ssrn.com/abstract=2900107 Gortsos Ch.V. (2016a), Deposit Guarantee Schemes: General Aspects and Recent Institutional and Regulatory Developments at International and EU Level, Lecture at the IZMIR University of Economics, Izmir, 29 March, available at: https://ssrn. com/abstract=2758635 Gortsos Ch.V. (2016b), The evolution of European Banking Law, in Commemorative Volume for Leonidas Georgakopoulos, Bank of Greece, Centre for Culture, Research and Documentation, Athens, Volume II, pp. 259–292 (also available at: https:// ssrn.com/abstract=2668561) Gortsos Ch.V. (2015), The Single Supervisory Mechanism (SSM): Legal aspects of the first pillar of the European Banking Union, NomikiBibliothiki – European Public Law Organisation (EPLO), Athens Gortsos Ch.V. (2014), The new EU Directive (2014/49/EU) on deposit guarantee schemes: an element of the European Banking Union, NomikiBibliothiki Gortsos Ch.V. (2012), Fundamentals of Public International Financial Law: International Banking Law within the System of Public International Financial Law,

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Schriften des Europa-Instituts der Universität des Saarlandes – Rechtswissenschaft, Nomos Verlag Grünewald S.N. (2014), The Resolution of Cross-Border Banking Crises in the European Union – A Legal Study from the Perspective of Burden Sharing, International Banking and Finance Law Series, Volume 23, Wolters Kluwer Law & Business, Kluwer Law International Hadjiemmanuil Ch. (2006), Financial Services, Chalmers D., Hadjiemmanuil Ch., Monti G. and Tomkins A., editors (2006), European Union Law, Cambridge University Press, Chapter 18, pp. 781–829 Haentjens M. (2017), Selected Commentary on the Bank Recovery and Resolution Directive, Moss G., Wessels B. and Haentjens M., editors (2017), EU Banking and Insurance Insolvency, Chapter IV, Second edition, Oxford University Press, pp. 177–318 Kellerhals A. (2006), Wirtschaftrecht and europäische Integration, Wirtschaftsrecht und Wirtschaftspolitik, Band 200, Nomos– Schulthess Kleftouri N. (2015), Deposit Protection and Bank Resolution, Oxford University Press Lastra R.M. (2013), Banking Union and Single Market: Conflict or Companionship?, Fordham International Law Journal, Vol. 36, pp. 1189–1223 Lastra R.M. (2006), Legal foundations of international monetary stability, Oxford University Press Lastra R.M. and J.V. Louis (2013), European Economic and Monetary Union: History, Trends, and Prospects, Yearbook of Economic Law, pp. 1–150 Louis J.-V. (2009), L’Union européenne et sa monnaie, Commentaire J.  Megret, Integration des marchés financiers, 3eédition, Institut d’ Etudes Européennes, Editions de l’ Université de Bruxelles Padoa-Schioppa T. (2004), Regulating Finance, Oxford University Press Papathanassiou Ch. (2001), Das Europäische System der Zentralbanken und die Europäische Zentralbank, Schimansky H., Bunte H.-J. und Lwowski H.-J., Herausgeber (2001), Bankrechts-Handbuch, C.H. Beck, Band III, 24. Kapitel, § 134, S. 4529–4554 Peters G. (2011), Developments in the EU, Lastra, R.M., editor (2011), Cross-Border Bank Insolvency, Oxford University Press, Chapter 6, pp. 128–160 Schammo P. (2014), Differentiated Integration and the Single Supervisory Mechanism: which way forward for the European Banking Authority?, Working Paper Version October 2014 Schemmel J. (2018), Europäische Finanzmarktverwaltung: Dogmatik und Legitimation der Handlungsinstrumente von EBA, EIOPA und ESMA, Studien zum Regulierungsrecht, Mohr Siebeck Schlosser, P. (2017), Still Looking for the Banking Union’s Fiscal Backstop, in Allen, F., Carletti, E., Gray, J. and Gulati, M. editors (2017), The Changing Geography of Finance and Regulation in Europe, European University Institute (EUI), pp. 163–178

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Schoenmaker, D. (2014), On the Need for a Fiscal Backstop to the Banking System, Duisenberg School of Finance, DSF Policy Paper, No 44, July, available at: https:// www.dsf.nl/wp-content/uploads/2014/10/DSF-Policy-Paper-No-44-On-theneed-for-a-fiscal-backstop-to-the-banking-system.pdf Schoenmaker, D. (2017), A Macro Approach to International Bank Resolution, Bruegel, Policy Contribution, Issue no 20, July, available at: https://bruegel.org/ wp-content/uploads/2017/07/PC-20-2017-100717.pdf Thiele A. (2014), Finanzaufsicht, Jus Publicum 229, Mohr Siebeck Schwarze J. (2007), Europäisches Wirtschaftsrecht, Nomos Smits R. (1997), The European Central Bank  – Institutional Aspects, Kluwer Law International Wessels B. (2017), Commentary on Directive 2001/24/EC on the Reorganisation and Winding-up of Credit Institutions, Moss G., Wessels B. and Haentjens M., editors (2017), EU Banking and Insurance Insolvency, Chapter II, Second edition, Oxford University Press, pp. 61–117 World Bank Group (2017), Understanding Bank Recovery and Resolution in the EU: A Guidebook to the BRRD, World Bank Group, Finance & Markets, Financial Sector Advisory Center (FinSAC), available at: https://pubdocs.worldbank.org/ en/609571482207234996/FinSAC-BRRD-Guidebook.pdf Wymeersch Ed. (2012), The European Financial Supervisory Authorities or ESAs, Wymeersch, Ed., Hopt, K.J. and Ferrarini G., editors (2012), Financial Regulation and Supervision  – A Post-Crisis Analysis, Oxford University Press, Chapter 9, pp. 232–317 Wymeersch, Ed. (2014), The Single Supervisory Mechanism or “SSM”, Part One of the Banking Union, Working Paper Research No 255, National Bank of Belgium, Brussels

3 European Banking Union and Its Relation with European Union Institutions Alexander H. Türk

1

Introduction

European Banking Union (EBU) can perhaps be described as a normative and institutional space that adds an important layer of federalisation in the field of financial regulation. If one characteristic could be regarded as dominant in the EBU’s architectural design, that would be hybridity. From an institutional perspective, it relies on European Union (EU) institutions as well as intergovernmental arrangements that fall outside the Union’s legal order. At the same time, it involves both formal institutions and agencies. Its regulatory design includes legislative instruments that provide for different levels of discretion to Member States. It is founded on several types of legal acts that vary from secondary legislation to a wide range of soft law instruments, such as ­guidelines and recommendations. The absence of a fully harmonised framework not only retains a level of fragmentation in the applicable rules but also gives rise to a new kind of hybridity; EU institutions can interpret and apply national law in certain circumstances.

I am extremely grateful for the immeasurable assistance for this contribution by Napoleon Xanthoulis. The usual disclaimer applies.

A. H. Türk (*) King’s College London, London, UK e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_3

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This chapter discusses the role of EU institutions in the European Banking Union (EBU). It attempts to answer two interrelated questions: First, what is the function of the EU institutions within the EBU’s normative and institutional framework? Second, what impact does the EBU have (if any) on the EU’s institutions? The chapter focuses primarily on the European Central Bank (ECB), the Council and the European Commission (Commission); the discussion also engages with the Court of Justice of the EU (CJEU) and the European Parliament (EP) with respect to their responsibilities of ensuring legal and political accountability in the EBU. The chapter places the EU institutions within the EBU’s architecture, which introduces a complex tripartite relationship between formal Union institutions, agencies and national competent authorities (NCAs). The impact on EU institutions is assessed with respect to two considerations: institutional balance and accountability. The chapter is structured as follows: it examines in greater detail the specific functions of the relevant EU institutions in the Single Supervisory Mechanism (SSM) in Sect. 2, reflects in particular  on the appropriate accountability regime for the ECB within the SSM in Sect. 3, and assesses the institutional arrangements  in the Single Resolution Mechanism (SRM) in Sect. 4. The chapter concludes after a short survey of the (potential) impact of the CJEU on the institutional balance in the SSM and the SRM in Sect. 5.

2

 he Single Supervisory Mechanism: T Centralisation, Fragmentation and the Quest for a New Institutional Balance

In November 2014, the ECB became the main prudential supervisor of the Eurozone’s credit institutions. The need to reach an immediate solution that would restore the stability of the Eurozone’s financial system and absorb the adverse effects of the crisis meant that any arrangements would have to be realised within the existing Treaty framework. As a result, the reform was based on Article 127(6) TFEU, which granted the power to the Council to confer on the ECB specific tasks related to the prudential supervision of credit institutions. Two EU Regulations now govern the function of the SSM (the SSM Regulation and the SSM Framework Regulation). The ECB holds the central role in the SSM’s governance structure. All decisions pertaining to the supervision of credit institutions are formally adopted by the ECB’s Governing Council. Although supervisory acts are legally attributed to the Governing Council, the drafting and execution of those acts are,

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however, carried out by the Supervisory Board, a newly established internal body within the ECB. Given that the Supervisory Board is required to handle thousands of decisions, it is inevitable that the Governing Council would not be able to scrutinise every detail and therefore has to trust the Board’s conclusion to some extent. In practice, this moderates the decision-making power granted to the Governing Council and renders the Supervisory Board’s draft decisions highly influential. The composition of the Supervisory Board mirrors the organisation of the ECB Governing Council. It is composed of six ECB representatives and one representative from each NCA. Whilst its Chair and Vice-Chair are appointed by the Council, after the approval of the EP, they are proposed by the ECB and must be chosen from amongst its Executive Board members. The rationale for setting up the Supervisory Board is what is known as ‘the separation principle’, the proposition that the exercise of prudential supervisory tasks should remain separate from the monetary policy function. By keeping these functions separate, in theory, the ECB will avoid conflicts of interest. The separation principle not only dictates the organisational structure of the SSM and provides for strict rules on information exchange between ECB officials but also influences its decision-making. In many circumstances, the process leading to the adoption of a binding decision vis-à-vis private parties entails the Supervisory Board preparing a draft decision, which is deemed to be adopted by the ECB Governing Council, unless the latter decides to object to it within a strict deadline. Where an objection leads to a dispute between the Governing Council and the Supervisory Board, provision is made for a Mediation Panel to be involved. Whether the administrative arrangements that are in place and aim to isolate the two functions would suffice to disprove the concerns that have been raised by legal scholars and other Union institutions, such as the European Court of Auditors (ECA), remains to be seen. Notwithstanding the dominant role of the ECB within the SSM, the performance of prudential supervisory tasks is a multi-level function. Attempting to mirror the organisational model that applies in the field of monetary policy, the ECB formulates the main supervisory policy and retains the power to intervene when necessary, whilst the operational framework is partly decentralised and requires the active involvement of national authorities. By design, the SSM demands the continuous and close cooperation between the ECB and the national supervisors of the participating Member States (Articles 20–22 Framework Regulation). This is reflected in the distribution of supervisory competences. The ECB would normally rely on the NCAs for the direct supervision of approximately 3000 ‘less  significant’ or non-systemic credit institutions. A large part of the cooperation between ECB and NCAs

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entails the obligations of the latter to share information with the former regarding those institutions. Conversely, the ECB currently supervises directly some 117 ‘significant’ banking groups. The daily tasks are performed by Joint Supervisory Teams, an institutional novelty composed of both ECB and NCA representatives. Yet, underneath the basic distinction between ‘significant’ and ‘less significant’ banks, the distribution of supervisory tasks is far more complex. First, the ECB has the power to take over the direct supervision of ‘less significant’ banks. The wide discretion awarded to the ECB in influencing or taking over the supervision of less significant banks can have opposing effects. On the one hand, it enhances the flexibility of the supervisory practice, but on the other hand, it generates uncertainty for the supervised institutions as they cannot predict whether their supervision will be carried out at the national or supranational level. Second, the NCAs retain a role in the oversight of ‘significant’ institutions. In fact, the NCAs assist the ECB in preparing, implementing and enforcing supervisory acts. Their involvement varies from performing data checks based on the information submitted by ‘significant’ institutions (Articles 140 and 141 SSM Framework Regulation) to submitting draft decisions to the ECB, either on their own initiative or upon the ECB’s request (Articles 90 and 91 SSM Framework Regulation). Third, the significant/less  significant dichotomy has fragmented the decentralised operational model in prudential supervision. It has led to a mosaic of complex administrative processes, where the initiative starts at the national level and is concluded at the Union level. Such decision-making mechanisms apply to several instances including the granting and withdrawal of licences (Article 14 SSM Regulation), the approval of the composition of credit institutions’ management boards (Articles 93 and 94 SSM Framework Regulation), the acquisition of a qualifying holding in a credit institution (Article 15 SSM Regulation) and the authorisation of branches in other Member States (Articles 11 and 12 SSM Framework Regulation). Composite procedures are not a novelty in EU administrative practice, but they raise significant legal issues, inter alia, about the attribution of executive power and the allocation of judicial review competences, which are yet to be settled by the Court in the field of prudential supervision. The NCAs perform their tasks under the general guidance and specific instructions of the ECB. The degree of control that the ECB exercises over the conduct of the NCAs may, however, differ. This is significant in more than one respect. First, whether the NCAs’ conduct reflects the exercise of genuine discretion on their part or strictly follows ECB instructions is relevant for judicial protection purposes. For example, it may determine whether a person affected by a national measure implementing an ECB act meets the direct

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concern threshold required to challenge such an ECB act via an annulment action under Article 263 TFEU or whether the ECB may be held liable for non-contractual liability under Articles 340 and 268 TFEU. Second, it is relevant for assessing whether the SSM has preserved the prior balance of power or introduced a new equilibrium. The demand for an urgent reform in the field of supervision of credit institutions and the lack of any established resources at Union level naturally pointed towards the setting up of a decentralised model that would benefit from the NCA’s expertise, proximity to the supervised entities and long operational experience. As a result, with respect to less significant banks, NCAs carry out several tasks, including performing risk analyses and conducting inspections. They are also responsible for granting authorisation for the appointment of board members of supervised entities and the opening of new branches in other Member States. The ECB for its part maintains a high-level monitoring function in order to guarantee consistency and uniformity of supervisory practices. At the same time, it has the right to intervene and take over supervisory control under certain circumstances, a power that is exercised with a noticeable level of discretion.  For other important tasks, however, the NCAs closely interact with the ECB, which takes the final decision. Inevitably, the decentralised character of the supervisory architecture entails some risk of national favouritism by NCAs. As the ECB gains experience in this field, adopts detailed practices and increases the recruitment of expert officials, it would not be surprising to see an increase of centralised intervention. For instance, the ECB might extend its involvement in the supervision of less significant credit institutions beyond high-level monitoring to circumstances where there is no apparent systemic risk by relying on the need to ensure consistency in the applicable supervisory standards across Member States (Article 67 Framework Regulation). Furthermore, the ECB could expand its guidelines and instructions to the NCAs both qualitatively and quantitatively, effectively limiting the discretion of NCAs. To some extent, the ECB’s control over the national supervisory domains is counterbalanced by the strong representation of national interests within the Supervisory Board. The composition of the Supervisory Board entails a representative from each Member State. Unlike the case of the ECB Governing Council, however, no arrangements have been made to set up a rotating system giving voting rights to a limited number of members, that would reduce the influence of the national component. On the other hand, an attempt to enhance the European interest is made at a lower level, by reducing the number of national supervisors on the Steering Committee, the body preparing the work of the Supervisory Board.

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The above considerations reflect the allocation of powers between the ECB and NCAs in micro-prudential supervision. With respect to macro-­prudential supervision, where the objective is to protect the stability of the financial sector as a whole and to ensure that any failings would not contaminate the wider economy, the picture is rather different. In macro-prudential supervision, NCAs play the main role, although two Union bodies, that is the ECB and the European Systemic Risk Board (ESRB), remain involved but at a secondary level. The interaction between the ECB and ESRB consists mainly in information sharing and coordination for the avoidance of work duplication. The ESRB, whose composition is dominated by the members of the ECB Governing Council, is empowered to monitor systemic risks and issue warnings and recommendations for action. The national authorities are not bound to implement these actions. By contrast, when they intend to take action in macro-prudential supervision, national authorities are required to notify the ECB. If the ECB poses an objection, the national authority must consider the reasons provided by the ECB before proceeding to implement its intended actions. A slightly diverse but not substantially different procedure applies when the macro-prudential conduct is initiated by the ECB, which can only occur in limited cases, specifically to apply higher requirements for capital buffers than the ones applied by national authorities. In such cases, it is the ECB that must consult the relevant national authority, and in case of the latter’s objection, the ECB can proceed provided that it considers the NCA’s concerns. National authorities are considered to be generally less able to identify and assess the cross-border effects of national measures. At the same time, the macro-prudential regulatory environment across Europe lacks uniformity. If these assumptions are correct, then the allocation of powers in macro-­ prudential supervision in the EBU may appear somewhat paradoxical. Given that macro-prudential policy focuses on preventing and managing systemic risks and both objectives entail by nature a cross-border dimension, one would imagine that the institutional design would be more centralised. By granting shared competences to NCAs and ECB in macro-prudential policy and empowering the former rather than the latter, the Union legislator allows for a strong national influence in this policy area. The asymmetry in power-­ sharing between the involved institutional actors in micro and macro policy levels fragments the system of prudential supervision. The effectiveness of macro-prudential policy would continue to require good coordination between the ECB and ESRB, on the one hand, and between the Union authorities and NCAs, on the other hand, to avoid overlap and regulatory asymmetry.

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Having discussed some areas of tension with respect to the vertical division of powers within the supervisory pillar, it is important also to highlight the significance of the interinstitutional interaction at Union level. The ECB does not stand alone in regulating and supervising financial institutions. It rather coexists alongside a wider institutional network composed of three European Supervisory Authorities (ESAs) whose main objective is to ensure that the applicable rules can maintain the stability of the financial sector. Furthermore, as we shall see below, it maintains strong links with the resolution pillar, specifically, the Single Resolution Board (SRB). Whilst it is not possible to elaborate on each of these aspects, a few remarks about the relationship between ECB and European Banking Authority (EBA) are necessary. The EBA is an EU regulatory agency responsible for completing and managing the Single Rulebook of the wider EU; it is also empowered to take actions to ensure its consistent application. In an attempt to ease the concerns that euro area Member States would form a voting bloc in the EBA’s decision-making bodies, special arrangements have been put in place. On the EBA’s Board of Supervisors, a double majority of participating and non-­participating Member States is required, whilst on the EBA’s Management Board, there must be at least two representatives of non-participating Member States. From one perspective, the relationship between the ECB and the EBA appears somewhat hierarchical; the former must comply with the rules adopted by the latter. At the same time, however, there appears to be some practical overlap in their regulatory powers. This is because, in addition to adopting its own decisions and instructions, the ECB implements EBA rules by issuing separate instruments, which often make no reference to the corresponding EBA rules. Due to a lack of coordination between the two Union bodies, such normative overlaps increase the risk of inconsistent interpretation of applicable rules. Another issue that has raised some controversy pertains to how the powers of ESAs, specifically the EBA, to issue binding decisions may affect the position of the ECB in the Union’s institutional framework. Requiring a formal EU institution under Article 13(1) TEU to comply with acts of an EU agency that has been set up by secondary EU law raises profound institutional balance-related concerns. Since the SSM centralises substantial powers that were previously held by national authorities, the Europeanisation of prudential supervision is realised at the expense of competences enjoyed by national authorities. At Union level, however, the issue is not as clear. The wording of the supervisory pillar’s legal basis, that is Article 127(6) TFEU, provides that the ECB is the sole assignee of the supervisory tasks by the Council. From one point of view, this

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could be read as entailing no disturbance of the Union’s institutional balance, since the conferral of supervisory tasks is provided expressly and exclusively for the benefit of the ECB by EU primary law. Seen from another perspective, placing the ECB in the centre of this reform appears to come at the expense of a more comprehensive institutional and regulatory solution as a result of a reform of EU primary law. Admittedly, this approach encounters two practical difficulties. On the one hand, there is no uniformity in the institutional design of prudential supervision amongst Member States; some assign that role to the national central bank whilst others to a separate authority. In fact, the troubling wording of Article 127(6) TFEU is primarily the result of the inability of Member States to reach a consensus on this matter. Second, even if Member States were to agree on the main features of a Union prudential supervisor, the urgency for establishing a new regulatory and institutional reform that would safeguard the financial stability in the euro area in the aftermath of the global crisis could not easily go hand-in-hand with the rather lengthy Treaty reform process. Finally, it is worth noting that whether the legal restrictions that follow the delegation of executive power under EU law are applicable in the SSM is a question that has received diverse answers in the literature. On the one hand, it can be argued that, unlike the case of the SRM, which is discussed below, the SSM Regulation enjoys a solid legal basis in EU primary law, Article 127(6) TFEU, which provides for the transfer of ‘specific tasks’ on the ECB regarding banking supervision. Here, the conferred substantial powers are exercised by a formal Union institution, that is the ECB, rather than an EU agency. Consequently, a case can be made that the limitations of the Meroni doctrine do not apply in this instance. This view has been strongly disputed by other scholars (see e.g. the discussion in Weismann 2017). The latter put forward a narrower interpretation of the wording of Article 127(6) TFEU, which provides for the conferral of ‘specific tasks upon the ECB concerning policies relating to the prudential supervision of credit institutions and other financial institutions’. They argue that the ECB’s exclusive supervisory competence over ‘significant’ credit institutions under the SSM Regulation exceeds the permissible delegation of tasks on the basis of Article 127(6) TFEU. Moreover, even if one were to accept that the discretionary tasks granted to the ECB are within the limits of Article 127(6) TFEU, they suggest that whether the conferral of new powers to a new EU body, the Supervisory Board, is Meroni proof remains an open question.

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 hat Kind of Accountability for the W European Central Bank Within the Single Supervisory Mechanism?

Given that the exercise of public power must go hand-in-hand with an appropriate accountability regime, any transfer of power triggers the need to ensure that accountability arrangements are in place that mirror the new status quo. We have seen that the SSM has granted new powers to supranational authorities; the ECB has now been assigned important decision-making competences in a wholly new policy area. The question, therefore, arises whether the existing accountability arrangements suffice to balance the new distribution of executive authority. The ECB’s independence is enshrined in Articles 130 TFEU and 7 ESCB Statute and clarified in Article 282(3) TFEU. These provisions guarantee that the ECB enjoys institutional, functional and financial independence. The independent status of the ECB is not a good that is pursued for its own value. Instead, it has functional value, in the sense that it enables the ECB to effectively purse the objectives and carry out the tasks conferred on it by  the Treaties. The balance between independence and accountability of the ECB has remained in the centre of academic debate. Whilst this discussion originally unfolded in connection with the ECB’s exclusive monetary policy mandate, it now extends to its newly assumed powers in prudential supervision. Article 19 SSM Regulation provides that the ECB remains independent when it carries out supervisory-related tasks. However, the independent status of the ECB is not absolute but qualified in the light of the accountability obligations provided under Articles 20–21 SSM Regulation. To begin with, one may ask whether the level of independence that the ECB enjoys under Article 130 TFEU is inherently linked to its monetary policy function and the primary objective of price stability or can extend to other functions, such as the activities carried out in its capacity as prudential supervisor. Article 130 TFEU states the following: ‘When exercising the powers and carrying out the tasks and duties conferred upon them by the Treaties and the Statute of the ESCB and of the ECB, neither the European Central Bank, […], nor any member of their decision-making bodies shall seek or take instructions from Union institutions, bodies, offices or agencies, from any government of a Member State or from any other body’. How the matter is resolved depends partly on whether one adopts a wide or strict interpretation of the material scope of Article 130 TFEU. On the one hand, despite the controversies surrounding its appropriateness, Article 127(6) TFEU remains the legal basis for

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the SSM. This can be argued to suffice for classifying prudential supervision as involving tasks and duties conferred by the Treaties and the ESCB Statute in the meaning of Article 130 TFEU. On the other hand, it is not easy to disregard that, unlike what applies in respect of monetary policy, the powers and tasks of the ECB in prudential supervision have strictly speaking been granted by the Union legislator and not by the Treaties. Another way of approaching this question is by looking at the relationship between Article 130 TFEU and Articles 19–21 SSM Regulation. Zilioli (2016) argues that, if Article 130 TFEU is read as providing for the same level of independence to the ECB in respect of all Union law tasks, then Article 19 SSM Regulation should be read as having a ‘declaratory function’, that is, re-­ affirming the normative component of Article 130 TFEU in the field of prudential supervision. In this sense, the accountability mechanisms outlined in Articles 20–21 SSM Regulation are not to be interpreted as introducing additional limitations to the ECB’s independent status or, put differently, a derogation from the level of independence granted under Article 130 TFEU. In Zilioli’s view, endorsing a single and equal level of independence is imperative also in light of the principle of the hierarchy of norms, according to which the provisions of the SSM Regulation should be interpreted in compliance with primary EU law. Yet, there appear to be counterarguments with some merit in favour of reading Article 130 TFEU as not prohibiting the recognition of more than one level of independence of the ECB on the basis of the respective functions exercised. Ferran and Babis suggest that Article 130 TFEU can be interpreted as providing for a minimum guarantee of independence; the scope of ‘independence’ enjoyed by the ECB under Article 130 TFEU to be further specified in connection with the objectives and rationale of the relevant tasks under consideration. In this view, Articles 19–21 SSM Regulation can be read as lex specialis vis-à-vis Article 130 TFEU, in the meaning that they determine the scope of the ECB’s independence in a specific policy area. Irrespective of how one reads Article 130 TFEU, it is worth examining whether there are other reasons of substance that can justify recognising a level of independence to the ECB when acting within the SSM that is equal to the one that it enjoys in the performance of its monetary policy mandate. The rationale for the ECB’s independence has generally been perceived to be the need of shielding the ECB from national political pressure. The main hypothesis—at least in relation to the ECB’s monetary policy mandate—has consistently been that vulnerability to political pressures would pose risks for the ECB’s ability to maintain a stable currency, the primary monetary objective enshrined in the Treaties. This line of reasoning does not seem to apply automatically to the ECB’s involvement in prudential supervision, because

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the objectives and rationale of the latter policy field differ. Rather than aiming to guarantee the stability of the single currency, the SSM’s primary objective is to secure the stability of the euro area’s financial system. Notwithstanding the arguable interdependence between monetary and financial stability, their differential treatment under Union law renders the claim to retain the same level of independence for the ECB in its capacity as prudential supervisor far from being obvious. Consequently, it appears that determining the level of independence that the ECB must enjoy in its supervisory function invites an independent inquiry. This is also essential if we consider that, unlike the case of central banks, the need to retain accountability mechanisms for prudential supervisors has not been widely accepted in the literature (Lastra 2006). Some scholars have identified certain risks that may arise where supervisors do not enjoy a sufficient level of independence, including potential influence from political authorities, regulatory capture by the industry, even financial instability (Zilioli 2016, 158 and the works cited therein). By contrast, others suggest that, when compared to monetary policy, the supervisory function is more political in nature, and the payoffs for granting a high level of independence to supervisors remain unclear (Westrup 2007). The executive and quasi-legislative tasks that are carried out by supervisory authorities, including the ECB, may be seen as further strengthening the case for a more enhanced accountability of the ECB in this field. More importantly, the differences between the monetary policy function and the mandate of supervisors, in terms of objectives, types of instruments, decision-making process and institutional actors involved at national and Union level could justify a different model of accountability. This becomes apparent in light of the opposite effects that transparency may have in the different functions of the ECB. There is consensus today that more transparency in monetary policy may inter alia enhance the effectiveness of monetary operations and by extension the monetary policy transmission mechanism as well as increase the integrity of the ECB. Conversely, unmoderated transparency in the field of prudential supervision, particularly regarding the financial status of supervised credit institutions, may produce adverse effects both on the latter and their customers as well as the ECB’s regulatory performance. Irrespective of how one answers the normative question pertaining to the level of independence that the ECB should enjoy in exercising its supervisory competence, it is clear that the new legal framework on prudential supervision provides for a stronger accountability regime for the ECB when acting in this policy area. In particular, Article 20 SSM Regulation sets out detailed reporting requirements that the ECB must follow vis-à-vis other Union institutions, including the EP, the Eurogroup and the Council. The judicial and

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political oversight of the ECB in the supervisory pillar is complemented at Union level by certain additional administrative arrangements, which aim to balance the ECB’s dominance. The Commission, the European Court of Auditors (ECA), the EBA and the European Ombudsman have at their disposal a variety of processes and instruments to influence the work of the ECB. In turn, the ECB has a duty to take into consideration the feedback of those institutions and bodies but retains the right to exercise its supervisory function in full independence and free from political influence and industry interference. When comparing the new accountability regime with the one in place that focuses on the ECB’s monetary policy mandate, it is obvious that the differences are both quantitative and qualitative. From a quantitative perspective, it is clear that the ECB must now comply with more intense reporting requirements and engage in frequent dialogue with other Union institutions, mainly the EP and, for the first time, the Eurogroup. If the greater intensity does not suffice to bring a qualitative change, then the involvement of national parliaments in holding the ECB politically accountable for its prudential supervision-­related conduct under Article 21 SSM Regulation certain does. It is not unprecedented for representatives of Union institutions to address national parliaments and enter into a dialogue with their elected members. However, it appears to be the first time that a Union institution is required to explain and justify its policies and their implementation directly to a national institution. The involvement of national parliaments is not a legislative accident. In the absence of a robust EU fiscal backstop in the EBU, Member States and their taxpayers remain ultimately financially responsible for their own credit institutions. As a result, supervisory decisions adopted at Union level may have an impact on national public finances. Such decisions cannot be made purely at a technocratic level but have to be subject to deliberations with national parliaments and the democratic process. Whilst there is a good argument for involving national parliaments in the accountability of the ECB, this may give rise to certain risks. For example, the ECB’s obligation to serve the Union’s interest may come into tension with national parliaments’ primary desire to further their own national interests (Zilioli 2016), which may not necessarily be aligned. The above discussion shows that the conferral on the ECB of new powers in the field of prudential supervision has generated a fragmented accountability process, in a dual manner. In the first place, different accountability requirements apply depending on whether the ECB acts in the field of monetary policy or under the SSM. On the other hand, the accountability of a Union institution is not exercised exclusively at Union level but with the

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­ articipation of national actors. Moreover, the reasonable demand to hold the p ECB responsible in the field of prudential supervision produces multiple kinds of tensions. The first pertains to the difficulty in striking the right balance between the principle of accountability, the objective of financial stability and safeguarding the ECB’s independent status under the Treaties. The second arises from the need to maintain a coherent accountability regime on the one hand, without excluding the participation of national actors who may be directly affected by decisions adopted by the ECB at Union level, on the other hand. Despite the practical difficulties that come with national and Union actors sharing the right to hold the ECB accountable, retaining a Union-only accountability regime would not necessarily make it immune to similar tensions. Whilst the Eurogroup is deemed to represent the interests of the euro area, other Union institutions involved in the ECB’s accountability process, such as the Council and the EP, represent also the interests of Member States that do not participate in the euro area or the Banking Union. In other respects, the ECA’s attempt to expand its audit mandate to the supervisory pillar has met with some resistance on the part of the ECB and generated a heated interinstitutional debate, which is yet to be settled.

4

 ingle Resolution Mechanism: Complexity, S Agency Empowerment and an Attempt for a Paradigm Shift

The SSM is complemented by the SRM, the second pillar of the EBU. The SRM brings about a fundamental regulatory and institutional reform in the resolution of credit institutions across Europe. It signalises the Union’s priority to break the vicious circle between financial and sovereign debt crises, which has posed an existential threat to the euro area and its single currency during the recent crisis. It aims to provide a framework of uniform tools and processes that would preserve the orderly resolution of failing banks without taxpayers carrying the financial burden, which is the inevitable result when a bank is bailed out by the state. At the same time, the resolution design aims to insulate the failures of certain banks and avoid contagion to other banks and financial markets. The chosen solution is that the costs of failure of credit institutions would be primarily absorbed internally by their stakeholders, mainly shareholders, bondholders and non-protected depositors, the bail-in tool being perhaps the most intrusive mechanism in this context. To facilitate

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this process, a system is put in place that would ensure that the credit institution facing difficulties would remain operative until its restructuring has been concluded to minimise the adverse effects on third parties, including protected depositors and taxpayers. The SRM’s normative framework is based on two Union instruments, namely an EU Directive (the Bank Recovery and Resolution Directive— ‘BRRD’) and the SRM Regulation. At Union level, it sets up the Single Resolution Board, a new EU resolution authority with centralised decision-­ making powers with respect to resolution. The main function of the SRB is to deal with circumstances where the two prior operative phases, namely the recovery phase and thereafter the early intervention phase, have proven to be inadequate for addressing the financial difficulties of a credit institution. It is only then that the SRB’s role becomes crucial, as it must assess the possibility of commencing a resolution process. The significance of the powers conferred on the SRB cannot be underestimated. Based on the information received by each credit institution, the SRB drafts resolution plans that outline the specific actions to be taken by the national resolution authorities under different scenarios of bank failures. More importantly, as we shall see below, it holds the exclusive power to activate the resolution process. The SRB is accompanied by the Single Resolution Fund (SRF), a pool of funds consisting of contributions made by financial institutions in the euro area that fall within the scope of the SSM. The establishment of the SRF aims to prevent contagion of banking crises by mutualising the risks and losses arising from the SRM’s resolution activities. From a functional perspective, the SRF provides a fiscal backstop that enables credit institutions to operate until the implementation of the relevant resolution tools. The choice of an EU Directive as means for coordinating national resolution frameworks results in some regulatory fragmentation, since the Member States enjoy a considerable margin of discretion not only when implementing the BRRD into the national legal framework but also in selecting the appropriate resolution tools in each case. This can be better illustrated if we consider the distribution of tasks between Union and national authorities in the field of bank resolution. The establishment of the SRM draws on the BRRD’s normative blueprint and provides for enhanced convergence in the resolution of euro area credit institutions. At first sight, the vertical allocation of powers in the SRM seems to mirror the one that applies under the SSM. The SRB is primarily responsible for significant banks which fall within the direct supervision of the ECB; in respect of these banks, it draws up resolution plans and is responsible for choosing and applying the resolution tools in each case. The same tasks are carried out by the NRAs regarding the less significant banks, with the exception where

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recourse must be made to the SRF, in which case the resolution competence is then transferred to the SRB. As is the case with micro-­prudential supervision, the supranational authority, here the SRB, can decide to intervene and exercise directly the resolution powers vis-à-vis a less significant credit institution. In all other instances, the SRB maintains a coordinating role, which is sustained via a system of information exchange between the NRAs and the SRB and the duty of the former to submit their resolution plans to the latter. Irrespective of whether the resolution decisions are taken at Union or national level, their implementation is carried out by the NRAs. Where the SRB considers that the conduct of NRAs is not in compliance with the regulatory framework or the SRB’s instructions, the latter has the power to issue warnings and orders vis-àvis the relevant NRA.  The SRB has decided to establish internal resolution teams for the resolution of all banking groups under its scope to enhance coordination and cooperation. Yet, in its 2017 report on the SRM, the European Court of Auditors concluded that the division of tasks between SRB and NRAs is still unclear and that the former lacks information about the ongoing work within the latter. The complexity that characterises the governance and decision-making process in the SSM is also present in the resolution pillar. It has already been mentioned that the SRB is the main supranational decision-maker in this policy area. It entails two compositions, namely the executive session and the plenary session. The former consists of the SRB chair, four permanent members which are appointed by the Council and representatives of the Member States where a bank operates, the latter only when the agenda includes a discussion on specific credit institutions. Furthermore, the ECB and the Commission attend the meetings as observers. The plenary session includes members of all NRAs of participating Member States, besides the chair and the four permanent members. The SRB would normally convene in its executive session unless a request is made by one of its members or recourse needs to be made to the SRF for an amount that exceeds €5 billion (or where the liquidity support exceeds €10 billion); in these cases, the SRB would meet in plenary session. It was mentioned above that the relationship between the supervisory and resolution pillars of the Banking Union is complementary. Indeed, the ­financial stability objective requires that the SSM and the SRB maintain a close cooperation. The provision of information by the former is essential for the latter to effectively exercise its resolution powers. This is particularly necessary where the ECB plans to adopt early intervention measures with respect to credit institutions which also fall under the scope of the SRB, so that the latter ensures that it is better prepared in the event a resolution process must be triggered. In its 2017 report on the SRM, the ECA took the view that the

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information exchange between the ECB and SRB is not carried out in a comprehensive enough manner, particularly with respect to less significant banks with a cross-border dimension. The Union legislator has introduced three cumulative conditions which need to be satisfied before any resolution procedure is triggered, whether by the SRB or NRAs. First, a credit institution must be regarded as ‘failing or likely to fail’ by the supervising entity. Second, there must be no reasonable prospect of any other measure by the private sector or the supervisory authorities preventing the failure of the credit institution in question. In other words, the resolution process must be the only available means for addressing the situation. Finally, the implementation of the resolution procedure must serve the public interest, in the sense that it is necessary to achieve the resolution objectives under the BRRD. Here is where things get complicated. We have already seen that the supervision of significant banks falls within the exclusive competence of the ECB. Since the ECB is the most competent institution to know the financial status of such banks, the SRB would normally rely on the ECB’s assessment on whether an institution is ‘failing or likely to fail’, the first condition for commencing the resolution process. This, however, comes with an exception. The SRB may decide to carry out this assessment on its own. To this effect, it must inform the ECB of its intention to do so but can only proceed if the ECB does not conclude the said assessment by itself within three days (Article 18 SRM Regulation). In assessing the second condition, the SRB must cooperate with the ECB, since the latter is the prudential supervisor for the relevant credit institution(s). The final condition, that is the public interest requirement, entails a far more complex decision-making process involving other entities, which is briefly outlined here. Once the SRB adopts a resolution scheme, it immediately forwards it to the Commission; the latter has 24 hours to decide whether to endorse the said plan or to object to it. If the Commission intends to raise an objection, two possibilities are available: on the one hand, the Commission may pose an objection that relates to the discretionary aspects of the resolution scheme. On the other hand, within 12 hours, the Commission may propose to the Council to request a modification of the resolution scheme or to object to the same on the following two grounds: (1) the resolution scheme does not satisfy the public interest criterion, or (2) the Commission suggests a modification of the level of the SRF funds to be used by the resolution scheme. If the Council accepts to object to the resolution scheme on the basis that it does not meet the public interest condition, the bank in question is wound up under the applicable national insolvency laws. In all other instances, the SRB has eight hours to modify its resolution scheme so as to comply with the objections raised by the Commission or the Council.

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Two main features characterise this complex administrative process. First, the decision-making system involves numerous institutional actors, namely the SRB, ECB, Commission and Council. Second, the actors are required to make decisions of high importance within very short timeframes, often not exceeding a quarter of a day. The rationale underlying this institutional design can be found in both legal and political considerations. The restrictions imposed by the Meroni doctrine often limit the available options under EU law, therefore leading to the birth of hybrid institutional arrangements. As an EU agency, the SRB cannot exercise its discretionary powers alone but has to act in cooperation with EU institutions that enjoy direct authority under the EU Treaties. In theory, the involvement of the ECB and the Commission would suffice to overcome these legal constraints. It follows that Meroni cannot alone justify the Council’s participation in this regard. The Council’s presence rather reflects the desire of Member States to retain a level of control over the resolution decisions that apply in the euro area. There are strong arguments in favour of this model. As the situation stands, the SRF cannot be regarded as credible fiscal backstop for bank resolution, and the risk of Member States being required to use public funds for financing the resolution of banks is real, particularly, where there is a cross-border element. Furthermore, the Council can be argued to infuse some democratic legitimacy in a resolution process, which is otherwise operated primarily by technocrats. Yet, this solution also comes with certain risks. It was mentioned previously that the creation of a new EU agency reflected an intention to isolate bank resolution from the political domain, where the national interest plays a dominant role. By assigning to the Council the power to modify or object to resolution schemes issued by the SRB, the Union legislator partially departs from this goal and introduces a hybrid politicised decision-making process. The distribution of power appears to be carefully assigned to the relevant actors. The SRB is given the exclusive competence to initiate the process and draft the resolution schemes. Yet, the SRB does not act entirely alone, at this stage, as it must receive the green light by the ECB that an institution is failing or likely to fail before proceeding. Once the resolution scheme is prepared, the Commission (and in certain circumstances the Council) holds the power to veto a resolution scheme or impose modifications thereon. It is worth noting that the Council is not permitted to intervene on its own initiative but only upon the Commission’s request. This means that the Commission can essentially determine in each case whether the resolution process would be finalised at technocratic level by institutions with strong supranational features or influenced by the political considerations of an intergovernmental body.

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 he CJEU and Institutional Balance: T The Silent Influencer

It is often said that the primary objective of the judiciary is to safeguard the rule of law and guarantee effective judicial protection to persons affected by the exercise of public power. Whilst this may be true, it does not prevent courts from using their powers to achieve additional aims. Scholars (see e.g. Craig (2011); Schmidt (2018)) have rightly noted that Union courts have consistently used judicial proceedings as means for shaping Union policy so as to best attain what—in their view—are regarded as its underlying objectives. Where Union courts introduce new general principles of law or the outcome of the case has a large-scale impact, the policy effects normally become more apparent. In most other circumstances, however, such an effect would not be easily detectable, at least not immediately. For example, by rejecting or upholding the legality of a Union act, the Union courts adopt an interpretation of the relevant Union norms, which would slightly tip the balance of power in one direction or another. The first studies that conducted an assessment of the emerging institutional balance in the EBU paid little attention to the role of the CJEU. Five years on, the Court’s work has produced certain jurisprudential fragments, which provide the basis for a preliminary analysis. The importance of courts in shaping the balance of power in the EU cannot be underestimated. By filling legislative gaps, clarifying the meaning of rules and setting the scope and limits of their reviewing powers, Union courts can have an impact on the distribution of power amongst Union institutions or between them and national authorities, which can be as significant as the one that is introduced via legislative reforms. A closer look at the case law reveals that the EBU is not an exception to this norm. The General Court engaged for the first time with the EBU’s regulatory framework and specifically the SSM Regulation in the so-called L-Bank case, which involved an annulment action against an ECB decision pursuant to Articles 256(1) and 263(4) TFEU.  Besides signalling the General Court’s approach with respect to actions challenging the validity of ECB supervisory acts, L-Bank indicates how the case law of Union courts plays its own distinct role in sculpting the institutional balance in this policy field. The main issue in this case concerned the scope of the ECB’s direct supervisory powers over significant credit institutions and the delineation of the responsibilities of the ECB and the NCAs. The disputed ECB decision classified a credit institution as a ‘significant entity’ and on that basis, placed it under the ECB’s direct

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supervision rather than the jurisdiction of the German national authorities. The General Court upheld the lawfulness of the ECB decision and dismissed the applicant’s action, which claimed an infringement of the principles of subsidiarity and proportionality. From one point of view, the outcome in L-Bank can be seen as empowering the ECB. By endorsing a wide interpretation of the centralised responsibilities conferred on the ECB under the SSM’s normative framework, the General Court recognised that the ECB’s exclusive supervisory competence also extends to less significant institutions. In the General Court’s view, when acting under the SSM, national authorities are not exercising national competence but are ‘acting within the scope of decentralised implementation of an exclusive competence of the Union’ (L-Bank, paragraph 72). Yet, from a strict point of view, this judgment does not materially change the substance of power distribution in the SSM. The SSM rules had already made it clear that the ECB was the dominant actor in prudential supervision and that national authorities were under a duty to comply with its decisions, instructions and guidelines. As a bare minimum, the General Court affirmed this institutional hierarchy and emphasised the subordinate position of NCAs. In other cases, the General Court’s approach appears as an attempt to refine the tool of judicial review to impose different levels of scrutiny on the ECB’s supervisory conduct. When the subject matter involves complex assessments, this seems to work in favour of the ECB. In the case of Crédit mutuel, the General Court was asked to determine the legality of two ECB decisions by which it placed a banking group under its direct supervision and required that it held additional equity capital. Having considered that the relevant tasks involve complex assessments, the General Court acknowledged that the ECB enjoys broad discretion in the exercise of its supervisory powers. On this basis, it confined itself to carrying out a procedural rather than an intense review of the ECB’s conduct, which led to the dismissal of the applicant’s claim. The General Court’s reasoning in this case is in line with the deferential approach applied by the Court of Justice in Gauweiler with respect to the ECB’s monetary policy conduct, which is now extended to its supervisory role. By contrast, a more rigorous scrutiny was applied by the General Court in other circumstances In Caisse régionale, the applicants claimed that the ECB had interpreted incorrectly the notion of ‘effective director’ of a credit institution in the meaning of Article 13 CRD IV. What is interesting here is that the General Court decided to carry out an extensive assessment in determining whether the ECB’s interpretation of the ‘effective director’ was correct. In fact, it employed multiple hermeneutic tools, including a textual, historical, teleological as well as contextual analysis of the term in question.

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This seems to suggest that the General Court considered this matter as an interpretation of a legal norm that fell within the judicial preserve. Overall, the Union case law in the field of prudential supervision has so far indicated that the emerging institutional balance would often work in the ECB’s favour. It remains to be seen, however, whether the Court of Justice on appeal will affirm the General Court’s approach in these cases. The plethora of pending legal actions before Union courts is partly related to the complexity surrounding the decision-making processes and allocation of powers within the supervisory pillar. This has a twofold significance. To begin with, for the first time since its establishment, the ECB becomes a regular litigant in Luxembourg. In the past, the ECB’s monetary policy-related conduct rarely became the subject matter of judicial disputes. The adoption of non-standard monetary policy measures and the expansion of ECB powers in the field of economic policy increasingly place the ECB’s conduct within the scope of the judicial domain. The new tasks of the ECB in the field of prudential supervision follow a similar fate. The capacity of ECB supervisory decisions to directly affect the legal position of third parties enables the latter to contest the legality of these acts at Union level via direct actions or indirectly via the preliminary reference procedure. As a result, the Union courts are now offered the opportunity to determine legal issues of fundamental importance, including but not limited to the scope and limits of the ECB’s responsibilities under the SSM, as well as the degree of judicial scrutiny and the justiciability of acts adopted by the ECB in this policy area. Second, the EBU introduces a new administrative space that can provide a fertile ground for further developing EU administrative law. This would not be a first. In the past, litigation in several policy areas, such as antitrust and state-aid, became a catalyst for Union courts shaping general principles of EU administrative law. The SRM also falls within the jurisdiction of Union courts. At the time of writing, Union courts have not yet ruled on the substantive EU rules on bank resolution, although several important cases are still pending. Elsewhere, the German Constitutional Court has accepted to examine the merits of a legal action (Bankenunion) involving a claim that the main legal framework governing the two fundamental pillars of the EBU, the SSM Regulation and the SRM Regulation, are ultra vires acts and also violated the German constitution in other respects. It would be interesting to see whether the German Constitutional Court will treat this case as an opportunity for another bras de fer with the Court of Justice. Having already made two preliminary ruling requests, where it effectively raised concerns on the compatibility of two ECB non-standard monetary policy measures with the German constitution, such a development would not be surprising (see Gauweiler; Weiss).

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Notwithstanding the above, some jurisprudential fragments may already hint at how the Union courts may approach the new bank resolution framework. In Kotnik, the Court of Justice was asked by the Slovenian constitutional court to interpret a ‘Banking Communication’ adopted by the Commission, by virtue of which a burden-sharing requirement must be satisfied prior to the Commission authorising state aid to banks. In plain words, a bail-in must apply to shareholders and bondholders of banks where the latter are to receive public funds for restructuring purposes. The Court concluded that the Banking Communication was not capable of imposing independent obligations on Member States but rather put some restrictions on the Commission’s wide discretion when it assesses the compatibility of state aid with EU rules by requiring it to take them into consideration. In terms of substance, the Court upheld the compatibility of the burden-sharing requirement with EU primary law, specifically the right to property and the principle of protection of legitimate expectations. By doing so, it effectively affirmed the lawfulness of the bail-in tool, the most powerful resolution tool under the SRM. Following Kotnik, Union courts have consistently found that the application of the bail-in tool—although under different normative settings—did not violate EU law (Ledra Advertising; Chrysostomides). On the assumption that such resolution measures are in compliance with EU primary law in abstracto, the focus increasingly turns to whether the actual application of the bail-in tool in each case is in line with EU rules in concreto. This judicial reasoning would often unfold via an ex post proportionality assessment. The Court has, so far, signalled that affected persons would be confronted with a high threshold in their attempt to prove that a bail-in did not respect the proportionality principle. This clearly empowers the Union’s decision-makers and enhances the use of executive discretion in the field of bank resolution.

6

Conclusion

The Europeanisation of banking regulation has led to the empowerment of certain EU institutions. For example, the ECB now drives the supervisory pillar of the Banking Union as its main decision-maker and enforcer. This has knock-on effects on the Commission and the Council, which have only limited influence in this field. However, by endorsing a broader perspective, it is possible to argue that the centralisation of power at the Union level has somewhat disempowered the role of Union institutions in terms of rule-making, decision-making and enforcement. Within the supervisory pillar, the ECB

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and EBA share the rule-making function. Furthermore, given the need to separate the monetary policy from the supervisory function, the content of the supervisory decisions is largely formulated by a newly created internal body, that is the Supervisory Board. Whilst supervisory acts are officially adopted by the ECB’s Governing Council, the Supervisory Board may be regarded as their true author. As regards banking resolution, here the influence of EU institutions has been substantially diminished. The main decision-­ making power is conferred on the Single Resolution Board. Whilst the Commission and the Council retain an oversight of the SRB’s conduct, this is kept to a minimum, mainly for the purpose of compliance with the modernised version of the Meroni doctrine. As a result, the applicable procedural arrangements raise the question as to whether the Commission’s and the Council’s involvement in this context will have a meaningful impact. An important feature in the EBU’s governance consists in the fragmentation of executive power. This arises in a threefold manner: in the first place, executive power is shared amongst the ‘big’ institutional actors, namely the ECB, the Commission and the Council. The ECB dominates the supervisory pillar, whilst the latter two are confined in their involvement to the resolution decision-making process. The enforcement function is divided between the ECB and the Commission in banking supervision and banking resolution, respectively. The second aspect of fragmentation pertains to the power-­sharing between formal EU institutions and agencies, which constitute now an integral component of the EBU’s design in respect of both of its main pillars. Finally, the performance of banking supervision and resolution functions under the EBU requires the cooperation between Union bodies and national authorities, thus giving rise to a third kind of fragmentation. NCAs retain the power to supervise the less significant banks and maintain the responsibility to carry out Emergency Liquidity Operations. At the same time, the resolution of credit institutions is conducted by the relevant NRAs, which rely also on national rules. It follows that the inevitable concentration of power within certain institutional actors has, to some extent, been counterweighted by  a differentiated governance model, marked by a variety of actors. This design integrates representatives of national and Union interests and infuses the EBU’s governance with both intergovernmental and supranational components. Finally, EBU represents another illustration of the increasing ‘agencification’ of the EU’s executive power. More importantly, it manifests the need to enrich the traditional understanding of the principle of institutional balance to capture the complex institutional and regulatory reforms in the EMU.

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References Bauer M. and Becker S. (2014), The unexpected winner of the crisis: the European Commission’s strengthened role in economic governance, 36(3) Journal of European Integration, pp. 213–229 Brescia Morra C. (2014), From the Single Supervisory Mechanism to the Banking Union. The Role of the ECB and the EBA, 2 LUISS Academy Working Paper 5 Busch D. (2015), Governance of the European Banking Union’s Single Resolution Mechanism, D. Busch and G. Ferrarini (eds.), European Banking Union, OUP Cappiello S. (2015), The interplay between the EBA and the Banking Union, Robert Schuman Centre for Advanced Studies, RSCAS 2015/77 Craig P. (2011), Institutions, Power and Institutional Balance, P. Craig and G. de Burca (eds.), The Evolution of EU Law, OUP De Rynck S. (2016), Banking on a union: the politics of changing Eurozone banking supervision, 23(1) Journal of European Public Policy, pp. 119–135 Epstein R. and Rhodes M. (2016), The political dynamics behind Europe’s new banking union, 39(3) West European Politics, pp. 415–437 European Court of Auditors (2016), Single Supervisory Mechanism – Good start but further improvements needed, Special Report No. 29 European Court of Auditors (2017), Single Resolution Board: Work on a challenging Banking Union task started, but still a long way to go, Special Report No. 23 European Commission Report to the European Parliament and the Council on the Single Supervisory Mechanism (11 October 2017), COM(2017) 591, Brussels Ferran E. and Babis V. (2013), The European Single Supervisory Mechanism, 13(2) Journal of Corporate Law Studies, pp. 255–285 Glöckler G., Lindner J., Salines M. (2017), Explaining the sudden creation of a banking supervisor for the euro area, 24(8) Journal of European Public Policy, pp. 1135–1153 Goldoni M. (2017), The Limits of Legal Accountability of the European Central Bank, 24 Geo. Mason L. Rev., pp. 595–616 Goodhart Ch. and Lastra R. M. (May 2018), Central Bank Accountability and Judicial Review, SUERF Policy Note, Issue No. 32 Hofmann H., Rowe G. and Türk A. (2011), Administrative Law and Policy of the European Union, OUP Howarth D. and Quaglia L. (2014), The Steep Road to European Banking Union: Constructing the Single Resolution Mechanism, 52 Journal of Common Market Studies, pp. 125–140 Kern A. (2015), European Banking Union: a Legal and institutional analysis of the Single Supervisory Mechanism and the Single Resolution Mechanism, 40(2) European Law Review, pp. 154–187 Lastra R.M. (2006), Legal Foundations of International Monetary Stability, OUP Lo Schiavo G. and Türk A. (2016), The Institutional Architecture of EU Financial Regulation: The Case of the European Supervisory Authorities in the Aftermath of the

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European Crisis, L. S. Talani (ed.), Europe in Crisis: A Structural Analysis, Palgrave Macmillan, pp. 89–121 Lo Schiavo G. (2015), The Single Supervisory Mechanism: Building the New Top-Down Cooperative Supervisory Governance in Europe, F. Fabbrini, E. Hirsch Ballin and H.  Somsen (eds.), What Form of Government for the European Union and the Eurozone?, Hart Publishing Markakis M. (2017), Political and Legal Accountability in the European Banking Union: A First Assessment, M. Szabó et al. (eds.), Hungarian Yearbook of International Law and European Law 2016, Eleven Publishing ch. 32 Moloney N. (2014), European Banking Union: Assessing its Risks and Resilience, 51 Common Market Law Review, pp. 1609–1670 Monti G. and Petit Ch. A. (2016), The Single Supervisory Mechanism: legal fragilities and possible solutions, ADEMU Working Paper Series, WP 2016/06 Nielsen B. and Smeets S. (2018), The role of the EU institutions in establishing the banking union. Collaborative leadership in the EMU reform process, 25(9) Journal of European Public Policy, pp. 1233–1256 Schmidt S. (2018), The European Court of Justice and the Policy Process: The Shadow of Case Law, OUP Tridimas T. (2016), General Report, G. Bándi et al. (eds.), European Banking Union, Congress Proceedings Vol. 1. The XXVII FIDE Congress in Budapest, 2016 Ter Kuilem G., Wissink L., Bovenschen W. (2015), Tailor-made accountability within the Single Supervisory Mechanism, 55 Common Market Law Review, pp. 155–190 Tuominen T. (2017), The European Banking Union: A shift in the internal market paradigm?, 54 Common Market Law Review, pp. 1359–1380 Weismann P. (2018), The European Central Bank under the Single Supervisory Mechanism Cooperation, Delegation, and Reverse Majority Voting, 24(1) European Journal of Current Legal Issues Weismann P. (March 2017), The European Central Bank (ECB) Under the Single Supervisory Mechanism (SSM): Its Functioning and Its Limits, TARN 1/2017 Westrup J.  (2007), Independence and Accountability: Why Politics Matters, D.  Masciandaro and M.  Quintyn (eds.), Designing Financial Supervision Institutions – Independence, Accountability and Governance, Elgar, 117 Wojcik K.-Ph. (2016), Bail-in in the Banking Union, 53 Common Market Law Review, pp. 91–138 Wolfers B. and Voland T. (2014), Level the Playing Field: The New Supervision of Credit Institutions by the European Central Bank, 51 Common Market Law Review, pp. 1463–1496 Xanthoulis N. (2019), Single Resolution Fund and Emergency Liquidity Assistance: Status quo and reform perspectives on emergency financial support in the banking union, G.  Lo Schiavo (ed.), The European Banking Union and the Role of Law, Elgar financial law series, forthcoming Zilioli Ch. (2016), The Independence of the European Central Bank and Its New Banking Supervisory Competences, D. Ritleng (ed.), Independence and Legitimacy in the Institutional System of the European Union, OUP, pp. 125–179

4 Proportionality in the Single Rule Book Bart Joosen and Matthias Lehmann

1

 he Need for Proportional Regulation T and Supervision

1.1

A Diversified Banking Landscape

The European banking sector is characterised by great diversity. It is difficult to find common features of banks’ organisational and business models that are valid for the entire European Union (EU). Nevertheless, some similarities may be found in sub-groups of member states if compared to other member states. Italy, Germany and Austria, for instance, feature large numbers of nationally active smaller banks with fairly small balance sheets. These member states, however, are also home to some of the largest internationally active European banks. France and the Netherlands, on the other hand, have a concentrated banking sector, characterised by a relatively small number of banks with a balance sheet that is on average more significant than in other member states. France and the Netherlands are also the headquarters of some of the largest internationally active European banks. Spain tends to develop as a jurisdiction

B. Joosen (*) VU University Amsterdam, Amsterdam, Netherlands e-mail: [email protected] M. Lehmann (*) University of Bonn, Bonn, Germany e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_4

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with a largely concentrated banking sector and as the home of Europe’s largest banks with a very significant footprint on a global scale. Concentration in this member state and the disappearance of smaller banks is a result of the attempts to improve the health of the sector after the global financial crisis. The differences between the member states make the discussion on proportionality of European banking law complex, as there will be very different drivers across the European Union to set the scope of proportional application of banking law. Countries with a concentrated sector with internationally active larger banks will be less motivated to apply banking law in a differentiated way. Member states with large numbers of smaller banks will be more inclined to question the need to apply the full framework of European banking law to all banks established within their jurisdiction and to invoke the principle of proportionality. Absent a common denominator regarding the rationale and objectives for applying the principle of proportionality to banking law, any framework at the European level dealing with proportionality risks being full of ambiguities. What is more, any discussion of a differentiated application of capital requirements and other regulatory requirements seems moot because of the standards developed by the Basel Committee on Banking Supervision (BCBS), also known as the Basel standards. The EU has made the fundamental decision to apply these standards to all banks established in the Union. The main rationale, besides competitive aspects of a level playing field which will be addressed below (2.2), was financial stability. This raises the more basic question of the relation of this goal and the principle of proportionality.

1.2

Proportionality and Financial Stability

Proportionality and financial stability are often presented as antithetical. One thesis is that proportionality is necessary to avoid excessive burdens on the industry. In particular, small and medium-sized banks often use “proportionality” as a catchphrase to underline that the current framework exceeds what is necessary to reach the goals of protecting depositors and the functioning of the financial markets. The thrust of the argument is that the wave of new regulations introduced after the financial crisis would respond to problems primarily created by large or “systemically significant” institutions. While these institutions would be able to weather the regulatory storm, it would fall much harder on smaller banks, which do lack the staff, the expertise and the financial means to keep abreast of every new detailed regulatory requirement. In essence, this thesis is that small institutions get punished for problems

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caused by the big players. Proportionality is invoked as a plea for a quick reform of this lopsided situation. The antithesis, which tends to coincide with the views of regulators and supervisors, is that proportionality may produce dangers for financial markets. In particular, it is highlighted that the application of diverging sets of rules to banks operating in the same market may undermine its stability (e.g. Lautenschläger 2017). It is also true that small banks are not per se less risky (cf. Boss et al. 2018). Indeed, the last crisis was by no means restricted to large and interconnected institutions, but also involved smaller institutions such as savings banks, which had distributed complex and opaque products to their clients without properly advising them about the risks entailed. Moreover, one must remember that many small institutions pursue the same business model and form mutual liability arrangements via institutional protection schemes, as a result of which they may together become systemically relevant (e.g. Lautenschläger 2017). Besides, critics point to the (negative) implications of proportionality for competition (e.g. Lautenschläger 2017). Particularly one can often hear the complaint that any exceptions for smaller institutions could damage the competitive level playing field for all institutions in the Union and the idea of a Single Rule Book (see on this point: below 2.2). In short, the antithesis is that the maintenance of the stability of the financial system, understood in a holistic sense, would not allow for any different treatment of large and small banks. In this debate, mainly conducted between small enterprises and regulators, it is often forgotten that the thesis and the antithesis can be combined to a synthesis. Proportionality must not necessarily be considered as an antagonism to stability, but can actually contribute to the latter. To see why, one must take into account the negative effects that inadequate and overly burdensome regulation can have on a diversified banking landscape (see Lautenschläger 2017; Dombret 2017). Legal requirements that are practically or economically burdensome to fulfil threaten the business model of smalland medium-sized institutions, which is focused on simple transactions and local markets (Dombret 2017). These institutions cannot rely on large economies of scale that would provide the financial means to deal with complex regulatory or supervisory requirements. Sooner or later, such requirements will have the effect of diminishing their relative importance or driving them out of business altogether. The reduction or elimination of small and medium-sized institutions from the market would deal a considerable blow to financial stability. A diversified banking landscape is one of the most efficient guarantors against financial crises. It impedes the concentration of risk in a few institutions that threaten

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to become systemically important. It thus acts as a bulwark against the “too big to fail” problem, which has loomed large during the financial crisis and allowed big banks to take the states and the taxpayers as hostages to secure their own survival. The more a state can rely on small and medium-sized banks for the provision of capital to the economy and households, the lesser it will be subject to a quasi-form of extortion by large institutions. Furthermore, a diversified banking landscape also spurs healthy competition and avoids overpricing and exploitation of consumers as well the creation of bubbles (see: Dutch Central Bank 2018). Such bubbles often arise through the failed judgement or fraudulent practices of a handful of players that are not subject to control or competition by other institutions. The existence of small and medium-sized banks ensures that in the event of—in the long run—inevitable miscalculations and malpractices, there will be a variety of different institutions with independent decision-making processes that have the potential of not succumbing to the same vices. In sum, it is wrong to think that one would have to make “trade-offs” between proportionality and financial stability. Quite to the contrary, proportional regulation and supervision has a healthy effect on financial stability. It provides the fertile ground without which a diversified banking landscape cannot exist. Regulators should therefore be wary of pushing the regulatory requirements to the limits by imposing them on institutions that are unable to competitively comply with them. Such a strategy is counterproductive: Rather than reducing stability risks, it is bound to increase them. Overregulation and excessively bureaucratic supervision feed the run for size and the elimination of smaller banks. One must also bear in mind that unnecessary and inadequate regulation and supervision create costs for the taxpayer and draw away staff, time and resources from the supervision of those institutions that pose the gravest risks. Though it is undeniable that risks may arise from institutional linkages between small institutions, these risks are macro- and not microeconomic in nature. They are thus best dealt with by macroprudential supervisors, such as the European Systemic Risk Board (ESRB), and not by imposing an overly stringent microprudential regulation and supervision. By adopting “a one size fits all approach” and submitting small institutions to the same rules as the larger ones, the regulator paradoxically adds to ­financial instability itself by annihilating the diversified banking landscape. In its restless quest to avoid any risks resulting from individual institutions, it creates new ones that are structural in nature and hence much more difficult to combat. Proportionality counsels instead to strive for a balanced approach: Act against risks wherever they may arise, but in proportion to their likelihood and the extent of the effects that they may have. This does not mean that

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small and medium-sized institutions should be absolved from legal requirements and supervision. But their regulation and control should be measured to their size, business model and the risks they pose.

1.3

Proportionality and Regulatory Competition

Regulators and supervisors do not act in a vacuum. They are surrounded by other jurisdictions, whether “offshore” or “onshore”, in which financial firms can be established. Given the incorporeal nature of financial services, they can easily be rendered cross-border. The low costs of moving a financial firm give an additional incentive for firms to select the most convenient jurisdiction and engage in “regulatory arbitrage” (see Riles 2014; Ringe 2016; Zetzsche 2016). “Exit” plays a double role as “voice”. Therefore, states vie for keeping existing firms and attracting new ones to their territory, whether it is with a view of generating additional tax revenues and creating high paid jobs or simply with the aim of improving their financial sector as a stable source of funding for their economy. In this way, regulatory arbitrage produces regulatory competition (Ringe 2016). While burdensome regulation is not the only parameter on which states compete with each other, it is certainly one of them. In this competitive context, the principle of proportionality is of the essence. A state that would enforce regulatory standards without consideration of whether they are necessary and appropriate will not only forgo the opportunity to become a financial hub. It will also eradicate the domestic industry and, as a consequence, lose its clout on the regulation and supervision of financial firms. The latter will for the most part establish their seat abroad and serve the market of the state from there. Accordingly, the state will become an importer of financial services or “distribution country” (Zetzsche 2016). On the other hand, a state with standards that are too lax may at the beginning attract some firms to its territory, until the point when clients become aware of the lack of regulatory oversight and scandals break out. This state is missing proportionality in an opposite, but equally damaging way. The goal must therefore be to strike a balance between providing efficient supervision that is tailored to the needs of a highly sophisticated industry and ­stringently enforcing the standards of financial regulation to sort out those bad players that endanger the protection of clients and thereby damage the reputation of the state as a financial centre (Zetzsche 2016). Finding the golden equilibrium in financial regulation and supervision is not an easy task. It is even more complicated by the fact that the environment in which financial firms operate is constantly changing. This requires a dynamic

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approach to regulation and supervision: The requirements must constantly be assessed in terms of the necessity and adequacy of the cost they entail for firms with respect to the goals pursued by the regulator. In this context, at no time must a state lose sight of what the other states do. Like a private entrepreneur, it cannot afford to be complacent by failing to observe the moves of its competitors. This is true even for the EU with its immense internal market, given that many of the financial services it consumes are provided by firms operating in third countries, such as the United States and—soon—the United Kingdom. When one of these financial centres relaxes its rules, the EU is faced with the unenviable choice of having to cut itself off from foreign liquidity or seeing its own firms being overrun by third-country competitors. Restricting market access for third-country firms may not pose many problems from a legal perspective, but is economically difficult where the domestic firms are not (yet) capable of providing enough liquidity for domestic businesses. The best option is therefore for the Union to critically reassess its own regulation in light of the deregulatory efforts in the third countries. Every rule that other regulators dispense with should be again put on the table and its necessity reappraised. That does not mean that all regulations should be tagged with a sunset clause. But over time, the regulatory rulebook has the tendency to accumulate slack that is no longer indispensable. Whoever leaves it in force risks losing out to its competitors. Proportional regulation is thus not only necessary from a stability perspective. It is also inevitable if a state does not want to fall behind others in its attractiveness as a financial centre and precipitate an exodus of its domestic financial industry to other parts of the world. Given the many linkages between the financial industry and the manufacturing or service industry, this would ultimately have a backlash on its “real” economy. A strong economy without an equally strong financial industry is hard to imagine, unless one is ready to accept that credit and liquidity is provided by third countries over which one has little or no control. If, on the contrary and one wants to create and preserve a strong domestic financial industry, the adoption of proportional regulation is essential.

2

Legal Aspects of Proportionality

2.1

Proportionality as a Principle of Primary Law

Proportionality features prominently in a treaty that is of fundamental importance for the EU, namely in Article 5(4) of the Treaty on the Functioning of the European Union (TFEU). This position is important since primary law binds the legislative, the executive and the judiciary. As a consequence, not only the

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supervisory authorities European Banking Authority (EBA), European Securities and Markets Authority (ESMA), European Insurance and Occupational Pensions Authority (EIOPA) and the European Central Bank (ECB) must comply with the principle, but the Commission, the European Parliament, the Council and the Court of Justice of the European Union (CJEU) as well. The latter has recognised the importance of the principle of proportionality for financial services for decades (see e.g. ECJ 10 May 1995, C-384/93, Alpine Investments). According to Article 5(4) TFEU, the principle of proportionality means that “the content and form of Union action shall not exceed what is necessary to achieve the objectives of the Treaties”. Although this provision directly concerns only the relation between the Union and the Member States, as opposed to that between the Union and individuals, one may glean that proportionality must be respected on two different levels: content (i.e. substantive requirements) and form (i.e. procedural requirements). If one transposes this dichotomy to finance, it becomes clear that both the regulation and the supervision of financial firms have to be proportional. The words “all Union action” indicates that Level 1, 2 and 3 acts alike have to comply with the principle. In addition to EU measures, the proportionality principle also extends to national measures in two circumstances: First, where they interfere with fundamental rights, and second, where they implement EU law. In both instances, national measures must not go beyond what is necessary to achieve their objective, which must be in line with the Treaties.

2.2

Is Proportionality Incompatible with the Single Rule Book?

This chapter will briefly discuss the background of the Single Rule Book and the closely related establishment of the European System of Financial Supervision (ESFS), particularly with respect to the role of the European Banking Authority in connection with the Binding Technical Standards underpinning the Single Rule Book (see also: Moloney 2014; Singh 2015; Howarth and Quaglia 2016; Burns et al. 2018). We will focus on the question of whether the Single Rule Book leaves sufficient room to a proportional application of the regulatory framework. The Single Rule Book aims at the establishment of uniform requirements for all financial firms in the EU. This aim seems to imply a one-size-fits-all approach that does not distinguish conceptually between small and large firms but in principle submits them to the same rules. The rationale of the Single Rule Book can thus clash with the principle proportionality. This is best explained by Dombret (2017):

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The motivation for this one-size-fits-all-regulation was to have a single set of rules for the single market. The EU’s primary goal of a common, single market meant that one single set of rules was preferred over differentiated sets of rules. Proportionality—the principle that rules must be proportionate to the issue they address—played only a secondary role.

The author goes on to highlight that there were good political reasons to do so, but that this had serious “side effects” for smaller institutions. A more fundamental issue, however, remains open: Is proportionality indeed incompatible with having a single set of rules for the single market? To answer this question, it is necessary to clarify the concept of the Single Rule Book. The concept was first promoted by  the De Larosière Report (2009). The Council took it up in the context of the creation of the European System of Financial Supervision (ESFS) with three new European Supervisory Agencies, EBA, ESMA and EIOPA. One of the reasons that the Council cited for the ESFS was “establishing a European single rule book applicable to all financial institutions in the Single Market” (Council of the European Union 2009). This statement is not as unambiguous as it seems. One possible interpretation is that the Council wanted the same rules to govern all financial institutions. But one can also imagine that the idea was to enact the same rules throughout the EU, with the possibility of differentiating between diverging categories of institutions. Such an understanding is not entirely implausible given that the Council did not question the diverging rules that still apply today to banks and investment firms on the one hand and insurers on the other, despite the fact that all three have been made subject to the newly created European System of Financial Supervision. If such fundamental distinctions are possible, it could also be envisaged that the Single Rule Book will draw additional lines between small and large financial institutions. Which of these interpretations is correct depends on the Single Rule Book’s purpose. If its goal was to eliminate legislative differences between the Member States, then it would have sufficed to harmonise banking law in the EU, leaving open the possibility of providing different rules for different institutions. If the goal was to level the competitive playing field for banks across the EU, then it may seem to require at first sight the imposition of a uniform set of rules. However, one should not forget that the same rules have very different effects on small and on large firms (see: above 1.2). Thus, imposing uniform requirements on all types of institutions does not in reality level the playing field, but tilts it in favour of large institutions, which are most likely to emerge from the once diversified banking landscape.

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These points make it unlikely that the Council intended to impose uniform rules across the board regardless of the type of institution. The term “Single Rule Book” must be conceptualised differently: Its goal is to strengthen supervision and regulation in the EU by eliminating differences between the Member States and between supervisory agencies, thus combatting regulatory arbitrage in the EU. This does not in any way exclude the possibility of distinguishing between different types of institutions as long as all institutions are treated the same regardless of their origin. The Single Rule Book can therefore have several chapters, each of which addresses different types of institutions.

2.3

The Requirements of Proportionality

At a theoretical level, the proportionality analysis can be divided in three steps (Alexy 2014). On the first step one verifies whether a measure is appropriate or suitable to achieve the objective intended, that is, whether it can reach its goal. At the next level, the necessity of a measure is subjected to a “least restrictive measure” test by controlling whether the measure is necessary to achieve the objective or whether there is a less restrictive measure with which the same objective can be achieved. Finally, there is the balancing test: the measure must not be excessive or disproportionate to the objectives sought. The CJEU does not follow these three steps consistently. Measures by the Union are mainly subjected to the balancing test, while acts by national legislators and regulators tend to be submitted to the “least restrictive measure” test. Overall, the guiding principle is that the test applied will be stricter as the impact imposed by the measure increases (De Búrca 1993; Jans 2000). It follows, for instance, that the withdrawal of a banking licence will be subject to a much more scrupulous proportionality control than a mere request for information. Within the balancing test, the weight of the objectives pursued by the regulator becomes relevant. In the current times, the objective of maintaining financial stability is of paramount importance. Yet this alone does not justify the imposition of any type of administrative burden or restriction on a financial institution. Proportionality also requires looking at the risk posed to financial stability by the institution. The rules must be tailored so that the burden and restrictions are not disproportionate to the risk caused. There is widespread agreement that the risk posed by an institution cannot simply be determined by looking at its size. Other factors must be included as well, such as the complexity of its business model, its connection to other institutions and its risk profile (Boss et al. 2018; Lautenschläger 2017). All of these factors should be looked at from a holistic perspective rather than in the abstract.

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A crucial question is whether the complexity of regulation itself can be disproportionate. The regulatory wave following the financial crisis has produced myriads of rules on three different EU levels and at least as many levels of national law. A firm has to concurrently read these rules to know what is actually demanded from it, a task that can, for all practical purposes, only be managed by hiring expensive legal counsels. On an empirical level, more complex regulation leads to additional administrative burdens because it requires more time, staff and expertise to manage. Therefore, overly complex regulation is not only economically inefficient, but also contravenes the law because it violates the proportionality principle. Whether regulation is too complex cannot be determined in the abstract but depends on the complexity of the phenomenon regulated. As a yardstick, one can use the rule that a simple business model should lead to lighter regulatory and supervisory compliance burdens, provided that a certain level of minimal capital and liquidity requirements are maintained at all times. Large, sophisticated banks with a variety of offerings justify more complex regulation.

3

 he Current Approach of the EU T to Proportionality

3.1

 roportionality with Regard to the Banking P and Insurance Sector

The most important reason to develop the Capital Requirements Regulation (CRR) and Capital Requirements Directive IV (CRDIV) legislative framework has been the need to adopt the standards as laid out in the Basel III accord on capital and liquidity of 2010 (BCBS 2010a Capital; BCBS 2010b Liquidity) as well as the standards of the Financial Stability Board for a framework for supervision of systemically important institutions (FSB 2010). With these important main standards, the lessons from the financial crisis have been incorporated in a much more stringent prudential regime for banks and other financial companies in Europe applicable from 1 January 2014. Many other policy considerations are the foundation of the turnaround of banking legislation in the last decade. The establishment of the ESFS in 2010 is to be mentioned as an important cornerstone of the completely reshaped regulatory landscape for the European banking industry. Amongst others, the establishment of EBA and the delegation of powers to the European Commission in framework legislation have contributed to the establishment of a massive body of substantive banking law comprised in the Single Rule Book that

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applies, in principle, to any business in the Union that meets the definition of a “credit institution”. CRR and CRDIV, together with all binding technical standards adopted by the European Commission based on mandates included in the Level 1 framework legislation, are significant constituent parts of the Single Rule Book for banks. The substantive rules contained in these legislative instruments are, in principle, to be applied by each bank established or active in the EU. The current bank substantive law, generally, does not differentiate between types of banks nor does the law uphold thresholds that reduce the scope of applicability. The insurance sector provides a counter-example. There, thresholds operate to reduce the scope of applicability of the European prudential framework to the larger insurers established or active in the EU. The Solvency II Directive (Directive 2009/138/EU) defines the scope of applicability by looking at the volume of revenue (premium income) and size of the risks (technical provisions). Member states are obliged to incorporate such thresholds in their national legislation, which therefore means that national laws in the EU should embed the principle of proportionality by making only the larger insurance companies subject to the harmonised European prudential framework. This concept of differentiation in the scope of applicability of European prudential rules is not a feature of banking regulations.

3.2

 lements of Substantive Proportionality E in Banking Regulation

The absence of a generic operator to define the scope of applicability of bank prudential rules in the CRR and the CRDIV does not mean, however, that application of the rules is required in each case. An important feature of the prudential rules enshrining proportionality is embedded in the modular approach of the capital requirements imposed on banks. This modular approach is in its nature a translation of the principle that rules imposed on banks are not going beyond what is necessary in order to achieve the objective of prudential supervision. The modular approach is based on a number of concepts that are included in the legislative framework. Firstly, quantitative capital requirements apply for banks aligned with the type of risk taken by banks. From the outset, Article 92 CRR, which is the core provision dealing with capital requirements, defines capital requirements in accordance with the various risk exposures that are identifiable by a bank in view of the type of activities undertaken and services offered by banks. For instance, a bank that does not deal on own account in financial instruments

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shall not be subject to the rules addressing market risk in trading portfolios. Such a bank shall not be required to apply the CRR provisions that define the quantification of market risk and the capital requirements following from such quantified risk. A bank that is not offering mortgages to corporate businesses shall not be dealing with the various rules concerning the definition of the risk exposures in the commercial mortgage financing sections of the CRR. Secondly, and importantly, the current framework for prudential rules for banks is based on the foundations of the different approaches towards quantification of risk as developed by the Basel Committee and which were launched in 2004 following the adoption of the Basel II accord. Such different approaches permit the application of rules following the standardised approaches or quantification methods based on internal models. Standardised approaches provide for supervisory methods to quantify the risk exposures in the main risk families, that is, credit risk, market risk and operational risk. Within these three risk families, detailed methodologies may be applied for sub-sections of the risk exposure categories. For instance, differentiated approaches may be applied within the credit risk family for the assessment of securitisation exposures, applied financial collateral in the context of credit risk mitigation and other sub-segments of this risk family. A comparable framework exists for the other risk families, which allow banks to choose between either applying a standardised method or their own modelled risk quantification methods. Thirdly, in certain instances, competent authorities may exercise discretion to exempt banks from the application of prudential rules set out in the CRR and CRDIV. For instance, the liquidity management rules set out in Part Six CRR apply to each credit institution on an individual basis. Based on Article 8 CRR, the competent authorities may waive in full or in part the application of Part Six to a bank (and all or some of its subsidiaries) if the liquidity supervision is exercised on consolidated basis. Such a waiver will provide relief from reporting requirements in a significant way for the individual institution concerned. In other cases, this exemption follows from the provisions of the CRR and may be applied without the need for the exercise of discretion by the competent authority. For instance, the provision of Article 84(6) CRR exempts credit institutions affiliated in a network or a central body and institutions established within an institutional protection scheme from the required deductions from capital of cross-guarantees. Such an exemption, therefore, facilitates the manner of capitalisation of such groups of credit institutions and provides relief from the stringent effects of CRR that aim to reduce the dependency on interbank funding.

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77

Procedural Proportionality

Notwithstanding these “indirect” manners of applying proportionality with regard to substantive requirements, in the area of procedure, there is a more explicit reference to proportionality. This concerns, in particular, the application of the rules on the engagement of the supervisory authorities with the individual institution in the context of the review and evaluation process to be conducted by the competent authorities, the so-called SREP.  Pursuant to Article 97(4) CRDIV, proportionality must be taken into account when applying the SREP. The provision reads as follows: Competent authorities shall establish the frequency and intensity of the review and evaluation referred to in paragraph 1 having regard to the size, systemic importance, nature, scale and complexity of the activities of the institution concerned and taking into account the principle of proportionality.

This provision may be seen as an implementation of the proportionality principle in the sense of primary EU law, particularly in regard to the “form” of the proportionality, as explained in para. II.2. The reiteration of this principle in Article 97(4) CRDIV emphasises the need of compliance not only by EU institutions, but by member states and national competent authorities as well. EBA has provided the EBA SREP Guidelines on the application of the provision of Article 97 CRDIV, which also address the proportionality principle of the fourth paragraph of this CRDIV provision as cited above. In the EBA SREP Guidelines, a further methodology is provided on the application of the SREP observing the principle of proportionality. EBA developed a model to apply methodologies on the basis of proportionality and classification of institutions depending on size, complexity and cross-border activity. EBA classifies banks in four separate categories according to their systemic importance and the level of cross-border activity. Within these four categories, distinctions are made with respect to the supervisory engagement and the several types of stress testing, ranging from “a simple portfolio level sensitivity or individual risk level analysis to comprehensive institution-wide scenario stress testing” (Guidelines, p. 8). Based on the supervisory engagement model, as laid out in the Guidelines, smaller banks are supposed to obtain a different and lighter touch treatment in respect of the SREP (less frequent and less detailed) than a large internationally active bank, which is considered to be systemically important (at least once per year and following templates with great granularity). The overall model developed by EBA per-

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mits a differentiated approach and suggests a significant alleviation of the burden for smaller institutions and, therefore, a proportionate approach. It is not clear in which way the model developed by EBA is actually applied in practice by the supervisory authorities in the Union. At any rate, the ECB has endorsed the guidelines and has promulgated the application of the principle of proportionality in its approaches to the SREP for the directly supervised banks in the SSM (see ECB 2017). Furthermore, in 2018, the ECB provided guidance to the national competent authorities in regard to the SREP methodology for “Less Significant Institutions” (LSI) (see ECB 2018, p.  3, “The underlying principles of the SSM LSI SREP methodology”), in which an explicit reference is made to the proportionality principle when applying the SREP. This guidance of the ECB should serve to steer the national competent authorities that are directly supervising the LSI’s to apply a differentiated approach (as set out in the EBA SREP Guidelines) when conducting the annual SREP review.

3.4

 roportionality in the Context of Better Regulation P and Regulatory Fitness and Performance (REFIT) Programme

In the context of the execution of the Better Regulation and REFIT agenda of the Juncker Commission, a call for evidence was organised in 2015 to obtain views and opinions on the market and of the member states as to the combined impact of the new regulatory environment for the financial sector adopted after the financial crisis. The Call for Evidence listed fifteen areas where the Commission solicited the views of the market and member states on the impact and constraints experienced with the application of the body of financial law. Two of these topics particularly concerned the topic of proportionality and the burden created for market participants under the headlines “Proportionality/preserving diversity in the EU financial sector” and “Excessive compliance costs and complexity”. The former topic aimed at investigating whether EU rules prevented the development of a sufficiently diverse financial sector throughout Europe and whether these rules are sufficiently adapted to the “emergence of new business models and the participation of non-financial actors in the market place” (Call for Evidence, p. 6). The latter research field focused on the prescriptive nature of rules introduced after the financial crisis and the question as to whether these rules weaken the sense of individual responsibility.

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The Call for Evidence produced a substantial response from the market and member states, where the topic of proportionality has been one of the main areas of discussion. The ensuing report of 2016 paid specific attention to the many comments made by participants during the consultation on the topic of proportionality and the excessive burden for the financial sector. The conclusion of the Commission, based on the contributions made in this consultation, has been that the overall legislative framework for the financial sector works well, but that in certain areas further improvements or a shift in policy is needed (Call for Evidence Report, p.  3). The four main areas in which improvements of the existing legislative framework must be sought are: 1 . reducing unnecessary regulatory constraints on financing the economy; 2. enhancing the proportionality of rules without compromising prudential objectives; 3. reducing undue regulatory burdens; and 4. making rules more consistent and forward-looking. The Commission confirmed in the Call for Evidence Report that the views expressed in the Call for Evidence have been integrated into existing legislative initiatives, where an explicit reference is made to the running proposals for the revision of CRR and CRDIV. Other legislative initiatives concern the adoption of the further measures in connection with the Capital Markets Union and the rules and regulations governing derivatives (European Market Infrastructure Regulation, EMIR). Noteworthy is the explicit reference to the enhancement of proportionality in the list of objectives for the follow-up on the Call for Evidence. However, it should be stressed that the enhancement process will be required to preserve the general prudential objectives of the new legislative framework. In other words, the Commission makes the introduction of more flexible and proportional rules subject to the preservation of the stricter prudential environment shaped after the financial crisis. Neither the comments supplied during the Call for Evidence consultation nor the remarks of the Commission in this context contain reasoning as to the fundamental question of whether the same banking rules should apply to all the credit institutions established or active in the EU no matter their size, business model or complexity of the relations of these banks in the financial sector. In the concrete proposals for the amendment of CRR and CRDIV, however, the Commission has suggested a proportional application of certain rules where the eligibility criterion to proportional application initially focused on the size of the institutions concerned. As we will see in the follow-

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ing paragraph, this criterion is also likely to be supplemented with qualitative criteria, so that the size of the firm alone is not the only determining factor to apply the principle of proportionality.

3.5

Proposals for Reform: CRR2 and CRDIV

Additional measures to increase the proportionality of some of the requirements for banks under the existing CRR and CRDIV framework have been introduced in the proposals for CRR2 and CRDV by the Commission of November 2016 as part of the Risk Reduction Package. These measures relate to reporting, disclosure and remuneration. Regarding supervisory reporting, EBA will be tasked with preparing a report to the Commission as to the development of a revised supervisory reporting framework which considers the burden of banks and that allows a differentiation in reporting obligations taking into account their size, complexity and the nature and level of risk of their activities. Such report should in any event consider the development of flexible rules for banks that are defined as “small”. The definition of a “small bank” is comprised in a new Article 430a CRR2 that serves as a pivotal provision in connection with the other rules introduced to enhance proportionality in the CRR framework. A “small institution” is defined in the proposed Article 430a CRR as “an institution the value of the assets of which is on average equal to or less than EUR 1.5 billion over the four-year period immediately preceding the current annual disclosure period”. Small institutions shall be relieved from semi-annual supervisory reporting. This relief relates to the Common Reporting (COREP), specific reporting obligations on losses stemming from exposures pursuant to Article 101 CRR, reporting on asset encumbrance and reporting on large exposures pursuant to Article 394 CRR. In addition to the lesser frequency of the reporting, EBA is also tasked with preparing proposals for a modular approach concerning supervisory reporting, which reduces the degree of granularity in the reporting items, where the least detailed report shall be applicable for small institutions. As to disclosure, a new Article 433b CRR is suggested to reduce the disclosure requirements for small institutions by reducing the frequency of reporting to (broadly speaking) an annual exercise and furthermore to permit less detailed disclosures by such institutions. This provision aims at reducing the burden of the disclosures for small institutions as a response to the otherwise intensified and increasing obligations pursuant to CRR2 for the larger institutions. In other words, the disclosure requirements for larger institutions under

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CRR2 become stricter and require much more detailed disclosures than is currently the case. To alleviate the burden for smaller institutions, they will be permitted to omit compliance with these stricter requirements once CRR2 comes into force. As to remuneration, a bespoke regime will be introduced in the revised CRDIV provisions that are supposed to be implemented in the legislation of the member states. The provision of Article 94 CRDV amends the current regime applicable to all banks (and investment firms) to the extent that banks with a value of assets which is on average equal or less than EUR 5 billion over the four-year period immediately preceding the current financial year or an institution where variable remuneration does not exceed EUR 50,000 per individual shall be permitted to apply derogations from the requirements to (1) distribute a portion of variable remuneration in the form of (financial) instruments issued by the institution and (2) briefer retention periods with regard to the variable remuneration distributed to employees. The proposals of the Commission set out in CRR2 and CRDV have been subject to considerable debate in the preparation of the trilogue negotiations. The European Council adopted in May 2018 the Presidency Compromise text, in which a number of amendments to the original proposals were included. In reverse order to the discussion above of the Commission’s proposals, the following amendments had been proposed. As to the remuneration, the Council proposes to emphasise that any derogation from the remuneration rules may not be applied if the bank concerned qualifies as a large institution within the meaning of Article 430a CRR2. In this way, the Council has ascertained that the group of banks for which enhanced compliance with rules is mandatory (the large institutions) may not benefit from derogation of the remuneration rules. Furthermore, derogation may not be applied if the aggregate remuneration of staff per individual exceeds EUR 150,000, whereas the Commission proposed this number to be EUR 200,000. As to disclosures, the Council made adjustments to the proposal of the Commission by deleting some of the derogations from disclosure requirements, therefore slightly taking back the effect of the alleviation from these requirements as compared to the original Commission proposal. With regard to reporting, the Council more or less upheld the proposals from the Commission, which means that EBA is required to produce a report as to the differentiation of reporting obligations, both in terms of frequency and granularity, where small institutions should receive a proportional treatment and should at least be defined in the category of institutions with the lowest burden in respect of supervisory reporting.

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The most interesting amendment to the Commission text as proposed by the Council relates to the redrafting of the definition of “small institution” as contained in Article 430a CRR2. Instead of simply referring to the size of the value of assets not to exceed the amount of EUR 5 billion, which represents a considerable increase in comparison to the Commission’s proposal of just EUR 1.5 billion, the Council provided for additional criteria that define the eligibility of a bank to be considered to be “small”. Further, cumulative, criteria concern: 1. the limited size of the trading book of the bank (the dealing on own account business); 2. the requirement that more than 75% of the bank’s exposures must be with counterparties located in the EEA; 3. the application of standardised methods only for the assessment of risk exposure amounts and the refraining from the use of internal models; and 4. being subject to simplified obligations in relation to recovery and resolution planning in accordance with article 4 of Directive 2014/59/ EU (BRRD). The Committee on Economic and Monetary Affairs of the European Parliament issued its reports on CRDV and CRR2 on 28 June 2018 (Ref: A8-0243/2018 respectively A8-0242/2018). As to remuneration, the proposals of the Commission are more or less upheld, although the Committee increased the threshold from 5 to 8 billion euro to define the bank’s size. In other words, the Committee relaxes the proposal to permit smaller institutions to derogate from certain remuneration rules. The Committee furthermore suggested redrafting the CRR2 text and move the definitions of “small institution” and “large institution” to the definition apparatus of article 4 CRR. In a rephrased definition of the expression “small and non-complex institution” contained in Article 4(1)(144a) CRR2, the Committee upholds the balance sheet total of 5 billion euro as constituting the definition of a “small” bank as proposed by the Council (which deviates from the lower threshold of 1.5 billion of the Commission proposal). In addition to the criteria proposed by the Council to supplement the definition of a small and non-complex institution, the Committee also proposes to define a threshold for the volume of derivatives transactions entered into by the bank. Additionally, the Committee suggests to provide both the institution and the competent authority the power to object against the qualification as small and non-complex institution.

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Finally, and most importantly, the Committee also proposes the introduction of a discretionary power of the competent authority to lower the 5 billion euro threshold to a lesser amount, if “it is [also] necessary to consider the size and risk profile of a small and non-complex institution in relation to the overall size of the national economy in which that institution primarily operates”. With this proposal, the Committee aims to introduce the ability to incorporate domestic circumstances in the judgement as to whether banks are to be considered small and non-complex. If the banking sector in a member state consists of many smaller banks, lowering the quantitative threshold to a number below EUR 5 billion euro will enable the competent authority to retain the full powers to scrutinise the largest number of banks established in its territory. For these banks, less frequent and less granular reporting shall not be permitted. We consider this proposal a response to the “Too-Many-To-Fail” syndrome, where the prudential supervisory authorities may have concerns about their ability to supervise large numbers of smaller banks within their territory and the risk that leniency regarding the requirements to those banks may increase the risk of failure of one or more of the institutions with spill over effects to other institutions. As for supervisory reporting, the Committee proposes to amend the language of the various provisions to include the defined concept of “small non-­ complex institutions”, but refrains from recommending material amendments to the original concepts of the Commission. Therefore, the European Parliament seems to endorse the idea of introducing a proportional application of supervisory reporting for smaller and non-complex banks. The same conclusions may be drawn from the proposed amendments to the provisions dealing with disclosures.

3.6

 et Stable Funding Ratio for Small N Non-Complex Institutions

Specific attention should be given to an additional proposal put on the table by the Committee to address proportionality for small and non-complex institutions. The Committee proposes an innovative alternative to the application of the new rules on the calculation and maintenance of the Net Stable Funding Ratio (NSFR) simplifying the burden for small and non-complex institutions. The NSFR is a new ratio to underpin proper liquidity management by banks and stems from the Basel 2010 Liquidity standards. The NFSR requires banks to maintain sufficient stable funding to meet the maturity calendar of

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outstanding assets. One of the objectives of the CRR2 amendments concerns the introduction in Europe of the NSFR as contained in the 2010 standards of the Basel Committee. Small and non-complex institutions will, in accordance with the proposal of the Committee, be permitted to establish simplified (“less granular”) calculations of the NSFR which, in conformity with the principle of proportionality, will on the one hand maintain the prudent ratio calculation by such smaller and non-complex banks, but on the other hand permit less rigorous calculations. The proposed amendment to Article 428b CRR2 reads as follows: Small and non-complex institutions may choose to calculate the ratio between an institution’s available stable funding as referred to in Chapter 4a of this Title, and the institution’s required stable funding as referred to in Chapter 4b of this Title, over a one year period and expressed as a percentage.

Chapters 4a and 4b Part Six CRR2, as proposed by the Committee, contain a rigorous simplification of the ordinary rules to calculate available stable funding and required stable funding by reducing the number of categories for which the calculations of both factors need to be made. The simplification takes away the granularity of the calculation method and permits, in brief, quicker and less complex assessments of the assets and liabilities, the maturities, inflow and outflow factors and considerations attached to such balance sheet items. This important proposal adds, therefore, another element to the amendments to CRR as is currently proposed to address the principle of proportionality. The proposal for a specific and bespoke NSFR regime for small and non-complex institutions by its nature reduces the risk sensitivity of the liquidity ratio. The Committee believes that the lesser complexity of the banking books of small and non-complex business justifies such reduced risk sensitivity, while also maintaining a prudent standard of liquidity management for group of such banks.

3.7

 tate of Play as Regards Proportionality S in the Single Rule Book

The original proposals for CRR2 and CRDV of the Commission to address proportionality with respect to reporting, disclosure and remuneration that were launched in 2016 have evolved to a framework that, if the proposals of the European Parliament are upheld, creates higher thresholds for the applica-

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tion of flexibility in respect of remuneration, and introduces a more sophisticated definition for the scope of application of less stringent rules on supervisory reporting and disclosure for smaller banks. The purely quantitative criterion as proposed by the Commission has been supplemented with qualitative criteria in both the CRR2 amendment proposals of the Council and the European Parliament. These qualitative criteria seek to identify complexity in the business model of banks, for instance, by looking at the proportion of the bank’s business related to the (risky) dealing on own account and the application of derivatives for other purposes than to hedge the (corporate) risk of the bank. We find that this development of quantitative and qualitative criteria to define the distinction between banks eligible for proportional treatment and banks that are not eligible is steering  the discussion in the right direction. We nevertheless note that the utilisation by the European legislator of both quantitative and qualitative criteria, where the threshold of the quantitative criterion is set at EUR 5 billion (or the lower amount set by the competent authority if the European Parliament proposal is followed), does prevent the assessment of cases of larger banks with a purely domestic and non-complex business model. In our view, also such banks should be eligible for a more proportionate application of various rules stemming from the Single Rule Book. There are no convincing reasons to subject banks with larger balance sheets with a very low risk profile to the full application of the CRR and CRDIV rules. This becomes even more relevant if such banks refrain from taking deposits from the general public or, as is the case in many member states, are part of the public treasury infrastructure with the objective of differentiating the funding sources for public finance. Historically, such banks tend to be fully owned by the member state and should therefore be considered as belonging to the body of public authorities, even if they are organised as a commercial bank. Often, such banks have limited purpose activities (such as  financing local governments, utilities and  public infrastructure) and are prohibited from increasing the risk profile of the bank by developing other (commercial) business. The risk profile of such banks is low, and by means of statutory embedding of restricted activities objectives, it may be expected that such banks will continue to keep a low risk profile. Another development that has to be welcomed is the introduction of additional elements in the Single Rule Book for which proportional application of rules by small and non-complex banks is permitted. The proposals define two sets of rules to calculate the NSFR differentiating between a model with great granularity and one with less detail. These suggestions  must be applauded. They introduce proportionality in an area of compliance that is perceived to

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be extremely cumbersome and, in view of the original framework stemming from Basel 2010-Liquidity, a true overshooting of rules for smaller and non-­ complex banks. This proposal is a clear response to the complaints by the market participants in respect to the original proposals for CRR2 and CRDV of November 2016 that the application of proportionality to a few areas (reporting, disclosure and remuneration) was not far-reaching  enough and should have been extended with other areas as well. Where recent developments with respect to the Single Rule Book point in the direction of a better and more comprehensive application of the proportionality principle to the rules included therein, the question remains whether there are justifications to take even a further step for banking regulation, in particular the introduction in Europe of a Two-Tier Single Rule Book.

4

 n Outlook: A Differentiated Approach A to EU Bank Regulation and Supervision

The main consequence that follows from the application of the principle of proportionality to the area of banking law is the inadequacy of a “one-size-­ fits-all” approach. Smaller institutions pose less risk and are comparatively harder hit by regulatory burdens than big ones. The rules governing such institutions must reflect this difference. An indiscriminate enforcement on all financial actors irrespective of their size, complexity and risk profile would not be proportional and contradict primary law. Differentiating between institutions is therefore, in our view, a legal imperative. The question is how such differentiation shall be implemented. Two conceptually different models are possible. On the one hand, it is possible to start from the presumption that the same rules apply to all financial institutions, and then grant some exemptions for smaller banks. This is the method followed by the EU in the CRDIV/CRR, and though the exemptions will be amplified, the method will be kept for the revisions after adoption of CRDV and CRR2. The other method is to suggest different sets of rules for different categories of banks. The rules for one category may be a source of inspiration for the other, but the starting presumption would be that the rules that apply to large and complex banks are not the same as those applying to small and simple businesses. Which of these two methods is to be preferred? Having a single regime for all banks with some exemptions for smaller institutions may be said to be in line with regulatory efficiency because it avoids drafting two completely dif-

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ferent sets of rules. It also seems, at least superficially, to correspond to the need of a competitive level playing field (but see above: 2.2). Furthermore, providing individual exemptions has the advantage of giving flexibility, as they may be tailored to different types of businesses by the use of different conditions to be fulfilled. Finally, this model is also easier to sell at the political level (Boss et al. 2018). Yet creating exemptions for smaller institutions does little to change the main deficiency of the current law, which is regulatory complexity. On the contrary, adding exemptions here and there even increases the abundance of existing rules. If the conditions of these exemptions are drafted divergently, their application will raise intricate challenges for compliance and supervision. Firms and supervising authorities will have to constantly monitor whether the conditions of the exemptions are (still) fulfilled. Moreover, taking the existing rules of the CRR and the CRD IV and also applying them in principle to smaller banks misses the basic problem that these rules have been crafted in the framework of Basel III for large and internationally active banks. To use them as the starting point for small institutions belies a misunderstanding of the requirements of proportionality. For these reasons, a separate set of rules for different types of credit institutions is to be preferred (Joosen et al. 2018). This can take different shapes and forms. One model would be a “small banking box” (Dombret 2017). The “Pillar 1 + Approach” developed in Austria goes in the same direction (Boss et al. 2018). Another possibility is a two-tier banking law (Joosen et al. 2018). The last model would have the advantage of aligning substantive requirements with the already existing distinction of significant and non-significant institutions in supervision. Moreover, a simple threshold definition coupled to balance sheet size formed the original threshold definition for the proportional application of certain CRR provisions to smaller banks. It may be questioned as to whether the size of a bank alone is a sufficient criterion to shape a body of substantive banking law with different levels of application (see Joosen et al. 2018). In our view, a large, but exclusively domestically operating bank with a very simple business model should  also be eligible for proportional treatment of banking laws. At the same time, we recommend that a small bank with significant cross-border presence and a complex business model may not necessarily be eligible for a more lenient approach. Therefore, we welcome the further developments in the CRR2 text, introducing, next to the size-criterion, a set of qualitative criteria that should be taken into account to define “small and non-complex banks”. We would like to suggest that such qualitative criteria should rather be proposed as an alternative to  the “size-­ criterion” as we believe that the dosage in the application of substantive rules

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for banks and the procedural supervisory processes should be determined by the complexity of the bank and not its size. The separation into different sets of rules creates the problem of regulatory arbitrage. Firms could try to game the criteria used for distinguishing between the two sets of rules to switch into the lighter regime. Although the possibility of circumvention is not totally absent when exemptions are provided from individual rules, this danger is mitigated by the different conditions of each exemption, which make it difficult to play with them simultaneously. The problem is, however, not unsolvable. The SSM Regulation provides a mechanism that allows the ECB, on its own initiative, to extend its supervision to institutions that do not fulfil the criteria of a significant institution (Article 6(4) sub-paragraph 3 SSM Regulation). A similar mechanism could also be used for the substantive regime. In sum, a differentiated approach to banking regulation and supervision is the only way to comply with the requirement of proportionality of primary European law. At this point, a two-tier approach seems the most promising and sufficient to comply with primary law. We would hope that less complex banks be able to benefit from a similar simplified prudential supervision regime as now will be introduced for investment firms by the introduction of the IFR/IFD framework. In the future, it may be possible to improve the regime even further and distinguish between three or even more types of institutions. The limit of such distinctions is reached when the distinctions themselves result in overcomplexity.

References Governmental Publications: Policy Documents Alexy, R. (2014), Constitutional Rights and Proportionality. Revus – Journal for Constitutional Theory and Philosophy of Law, 22, 51–65. BCBS (December 2010a), Capital, Basel Committee on Banking Supervision, Basel III: A global regulatory framework for more resilient banks and banking systems. BCBS (December 2010b), Liquidity, Basel Committee on Banking Supervision, Basel III: International framework for liquidity risk measurement, standards and monitoring, 2010. Council of the European Union (2009), Presidency Conclusions, Brussels, 18/19 June 2009, 11225/2/09 REV 2. De Larosière Report (2009), Report of the High-Level Group chaired by Jacques de Larosière dated 25 February 2009.

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Dutch Central Bank (2018), Dutch Central Bank, Proportional and effective supervision, Report, July 2018. FSB (2010), Financial Stability Board, Intensity and Effectiveness of SIFI Supervision, Recommendations for enhanced supervision (2 November 2010). Call for Evidence, European Commission, Call For Evidence; EU Regulatory Framework for Financial Services, 30 September 2015. Call for Evidence Report, Communication from the Commission, Call for Evidence – EU regulatory framework for financial services, 23 November 2016 (COM(2016) 855 final). CRR2: Proposal for a Regulation of the European Parliament and the Council amending Regulation (EU) No 575/2013 and Regulation (EU) No 648/2012, 23 November 2016, COM. CRDV: Proposal for a Directive of the European Parliament and of the Council amending Directive 2013/36/EU, 23 November 2016, COM. EBA SREP Guidelines: Common procedures and methodologies for the supervisory review and evaluation process (SREP) and supervisory stress testing, E ­ BA/ GL/2014/13 as revised and published by EBA in a consolidated version in July 2018. ECB (2017), SSM SREP Methodology Booklet 2018, published 19 December 2017 and to be consulted via www.bankingsupervision.europa.eu. ECB (2018), SSM LSI SREP Methodology 2018 edition, published 15 August 2018 and to be consulted via www.bankingsupervision.europa.eu. IFR/IFD: European Commission, Proposal for a regulation on the prudential requirements of investment firms and amending Regulations (EU) No 575/2013, (EU) No 600/2014 and (EU) No 1093/2010 and Proposal for a directive on the prudential supervision of investment firms and amending Directives 2013/36/EU and 2014/65/EU, 20 December 2017.

Academic Literature Boss M., Lederer G., Mujic N. and Schwaiger M. (2018), Proportionality in Banking Regulation, Monetary Policy & the Economy, Q2:2018, 51–70 Burns Ch., Clifton J.  and Quaglia L. (2018), Explaining policy change in the EU: financial reform after the crisis, Journal of European Public Policy, 25:5, 728–746 De Búrca G. (1993), The Principle of Proportionality and its Application in EC Law, Yearbook of European Law, 13, 105–150 Dombret A.(19 October 2017), Sometimes small is beautiful, and less is more – a Small Banking Box in EU banking regulation, Speech at a lunch debate on proportionality in banking regulation at the Representation of the State of Hesse to the European Union, Brussels, available at https://www.bis.org/review/r171020e.htm (last visited 19 October 2018)

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Howarth D. and Quaglia L. (2016), Internationalised banking, alternative banks and the Single Supervisory Mechanism, West European Politics, 39:3, 438–461 Jans J. H. (2000), Proportionality Revisited, Legal Issues of Economic Integration, 27, 239–265 Joosen B., Lamandini M., Lehmann M, Lieverse K. and Tirado I. (2018), Stability, Flexibility and Proportionality: Towards a Two-Tiered European Banking Law?, European Banking Institute Working Paper Series 2018, no. 20 Lautenschläger S. (2017), Is Small Beautiful? Supervision, regulation and the size of banks, Statement at an IMF seminar, Washington DC, 14 October 2017, available at https://www.bis.org/review/r171018b.htm (last visited 19 October 2018) Moloney N. (2014), European Banking Union: Assessing its Risks and Resilience, Common Market Law Review, 51, 1609–1670 Riles A. (2014), Managing Regulatory Arbitrage: A Conflict of Laws Approach, Cornell International Law Journal, 47, 63, 68–76 Ringe W.-G. (2016), Regulatory Competition in Global Financial Markets — The Case for a Special Resolution Regime, Annals of Corporate Governance, 1, 175–247 Singh D. (2015), The Centralisation of European Financial Regulation and Supervision: Is There a Need for a Single Enforcement Handbook?, European Business Organization Law Review, 16, 439–465 Zetzsche D. (2016), Competitiveness of Financial Centers in Light of Financial and Tax Law Equivalence Requirements, E.  Avgouleas, R.  P. Buckley, D.  W. Arner, Reconceptualizing Global Finance and Its Regulation, Cambridge University Press, p. 390–418

5 The System of Administrative and Jurisdictional Guarantees Concerning the Decisions of the European Central Bank Marcello Clarich

1

Introduction

The administrative and jurisdictional remedies provided for by the European legal system in relation to the acts of the European institutions and agencies constitute an essential feature which concurs to define the European Union as an entity founded on the principle of the rule of law. The latter, in addition to other fundamental values (dignity, freedom, democracy, etc.), is referred to in Article 2 of the Treaty on European Union. Jurisdictional remedies are recognized in the Treaties. Article 263 of the Treaty on the Functioning of the European Union grants in general terms to the Court of Justice of the European Union the power to review the legality of the acts of all the institutions and bodies, of the Union intended to produce legal effects toward third parties (Chiti 2013). The European Central Bank is certainly included in such institutions. Administrative mechanisms of review are foreseen in several European regulations and directives, and therefore, the non-judicial review of the decisions of the European Central Bank (ECB) on banking supervision as ­foreseen by Council Regulation (EU) 15 October 2013 no. 1024/2013 establishing the Single Supervisory Mechanism on European Credit  Institutions and M. Clarich (*) Sapienza University of Rome, Rome, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_5

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entrusted to the Administrative Board of Review does not in itself constitute a novelty (Article 24) (Barucci and Messori 2014; Chiti and Santoro 2016; Clarich 2014). In particular, in the banking sector, Regulation (EU) no. 1093/2010, establishing the European Banking Authority, provides for a competent Board of Appeal to decide requests for review filed against acts of the same authority (Article 60) (Brescia Morra et al. 2017; Brescia Morra 2018; Blair 2016). In addition, Regulation (EU) 15 July 2014 no. 806/2014 establishes an Appeal Panel for the purposes of deciding on appeals against decisions of the Board of Appeal on the procedures for the resolution of credit institutions (Article 85). Administrative remedies are provided also with reference to other sectors of activity in which the regulatory authorities operate at national level. The electricity sector can be taken as an example, in fact, Regulation (EC) of 13 July 2009 no. 713 establishing the Agency for the Cooperation of National Energy Regulators grants the right of appeal against decisions of such Agency before the Board of Appeals (Article 19). Considering the administrative nature of the remedies, according to the principles of the rule of law, it is nevertheless ensured that judicial remedies can be brought against the final decision which concludes the procedure. Administrative and jurisdictional remedies should therefore be considered as tools to be used generally in sequence. As will be seen, also Regulation (EU) no. 1024/2013 establishing the Administrative Board of Review of acts taken by the European Central Bank on banking supervision, without prejudice to the right to appeal before the Court of Justice of the European Union under the Treaties. This essay examines the procedure and the nature of the review before the Administrative Board of Review established by Regulation (EU) no. 1024/2013 with the aim of highlighting its specific features especially concerning the parallel remedies provided for by the aforementioned European banking legislation (see De Lucia 2013).

2

 he General Features of the New T Administrative Remedy

The discipline of the Administrative Board of Review and the procedure rules are contained in the Article 24 of Regulation no. 1024/2013 and, on the basis of the delegation contained in para. 10 of the Article, by an ECB Decision approved on 14 April 2014 (ECB/2104/16 in GUCE 14.6.2014 L175/47).1  See ECB/2104/16 in GUCE 14.6.2014 L175/47.

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It is convenient to start from the recitals of the Regulation from which at least three indications are drawn. Firstly, the recital no. 60 states that the Court of Justice of the European Union (CJEU) exercises, pursuant to Article 263 of the TFEU, the review of the legality of acts of, inter alia, the ECB, other than recommendations and opinions, intended to produce legal effects vis-à-vis third parties. Therefore, the last para. of the Article 24 of the Regulation, as mentioned above, expressly reserves the right to bring proceedings before the CJEU in accordance with the Treaties. Secondly, the recital no. 64 describes the review mechanism in general terms. It clarifies that it should pertain to the procedural and substantive conformity with such Regulation of the decisions of the European Central Bank “while respecting the margin of discretion left to the ECB to decide on the opportunity to take those decisions”. Furthermore, it specifies that this is an “internal review” and that the procedure should “provide for the Supervisory Board to reconsider its former draft decision as appropriate”. Thirdly, it should be noted that the Administrative Board of Review must be composed of individuals of a high repute, ensuring an appropriate geographical and gender balance across the Member States. Given these indications, Article 24 regulates both the composition of the Administrative Board of Review and the review mechanism. For what concern the first aspect, the Administrative Board of Review is composed of five individuals (with two additional substitutes) of high repute, with proven record of relevant knowledge and professional experience in the field of banking services or other financial services, named afterward a public call for expressions of interest (para. 2). However, it is excluded that in-service employees of the ECB and of the European and national authorities involved in the supervisory functions can be appointed in order to avoid the internal remedy from becoming too internal. The term is of five years and can be extended only once. Members of the Administrative Board of Review shall act “independently and in the public interest” and must therefore make a public declaration indicating any direct or indirect interest which might be considered prejudicial to their independence (para. 4). Ultimately, the Administrative Board of Review, although incardinated within the ECB, enjoys organizational and functional autonomy which makes it a third part compared to the ECB’s apparatus and other bodies. Independence is also guaranteed particularly with regard to regulated subjects through the obligation to declare conflicts of interest.

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Compared to administrative remedies established in other contexts, including the financial one (Regulations (EU) no. 1093/2010 and no. 806/2014 (respectively, Article 60, para. 6, and Article 85, para. 10),2 the Administrative Board of Review cannot adopt rules for its own functioning and procedure which Article 24 (10) refers to a decision adopted by the ECB. Such difference is explained, as will be further examined in the next paragraph, by the nature of internal organ of the Commission. The ECB Decision adopted pursuant to Article 24 takes over the provisions of the latter and adds some element of detail. The Administrative Board does not have a structure of its own as the secretary functions are carried out by the Secretary of the Supervisory Board (Article 6). The Secretary carries out the examination of reviews, organizes the hearings, drafts the reports of works and keeps the register of reviews. In a broader perspective, the ECB provides the Administrative Board with adequate support including legal competences. The appropriateness of these choices, perhaps dictated by the need to contain the costs of the structure, can lend itself to some doubts, since greater division between the internal structures of the two above-mentioned organs would have ensured more clearly, even in terms of its external image, the distinction between the controlling and the controlled organ. So far, compared to other similar commissions, especially those set up in financial matters, the Administrative Board of Review does not present particular features. For example, Article 85 (1) of the Regulation  (EU) no. 806/2014 governing the Appeal Board contains provisions identical to those examined so far. The first specific characteristic of the new remedy foreseen in the banking sectors is represented by its relationship with the appeal before the Court of Justice of the European Union. As mentioned above, para. 11 of Article 24 expressly reserves the right to bring proceedings before the CJEU in accordance with the Treaties. Therefore, as explained in recital 4 of the ECB Decision of 14 April 2014, the review is optional. On the other hand, further sectoral disciplines generally provide that the activation of non-jurisdictional remedies is preliminary to the jurisdictional proceedings. For instance, Article 91 of the Statute for Officials of the European Community provides that the administrative complaint (proposed before the appointing authority) constitutes a condition for the admissibility of the judicial remedy  Thus, in the financial sector, in the case of the Boards of Appeal provided for by Regulations (EU) no. 1093/2010 and no. 806/2014 (respectively, Article 60, para. 6, and Article 85, para. 10). 2

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(para. 2). Even in the case of Community trademarks, the appeal at administrative level is prejudicial to the appeal before the Court of Justice of the European Union (Article 65 of Regulation (EC) 26 February 2009 no. 207/2009). The purpose of such remedies is to deflate jurisdictional litigation, especially in the areas, as those mentioned above, which involve a large number of stakeholders, have lower costs and short-term decision-making, and guarantee a greater specialization. Even in financial matters, both in the case of the European Banking Authority and in the case of the Board responsible for the resolution of credit institutions (Single Resolution Board), the provisions issued by the competent bodies can be appealed before the Court of Justice of the European Union only when there is no  right of appeal before the Board of Appeal (Article 61 of Regulation no. 1093/2010 and Article 86 of Regulation (EU) no. 806/2014) (see Lamandini 2014). To sum up, the new administrative remedy established under the Single Supervisory Mechanism is not conceived as a filter for the access to European jurisdiction with deflationary purposes. Instead, it can represent a first form of less costly protection for the subjects of ECB measures characterized by short-time decisions.

3

The Internal Character of the Review

The optional nature of the administrative remedy now examined constitutes an obligatory choice considering the fact that the Treaty envisages the Governing Council and the Executive Board as the only decision-making bodies of the ECB (Article 283 of the TFEU). Without a modification of the TFEU, it would not have been possible with Regulation no. 1024/2013 to establish a new body with autonomous powers. Moreover, the newly established Supervisory Board, which is responsible for banking supervision functions, is also defined as an internal body of the ECB (Article 26, para. 1). It is responsible for carrying out preparatory works regarding the supervisory tasks conferred on the ECB and proposing to the Governing Council “complete draft decisions” to be adopted by the latter (generally through a mechanism of silent consent) (para. 8). In substance, from a formal point of view, the provisions on banking supervision are imputed, not on the Supervisory Board, but on the Governing Council. This solution guarantees, as far as possible, the distinction between the new supervisory functions and those, more traditional, concerning monetary

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policies. The Article 25 of Regulation no. 1024/2013 provides for a series of measures aimed to implement such division, establishing for example that the Governing Council operates with separate meetings and agendas. According to the same logic, the Administrative Board of Review, as specified in para. 1 of Article 24 of the Regulation (EU) no. 1024/2013, is established for the purposes of carrying out “an internal administrative review of the decisions taken by the ECB in the exercise of the powers conferred on it by this Regulation”. The internal nature of the review necessarily implies that the decisions taken by the Administrative Board of Review in relation to the requests of re-­ examination submitted by natural or legal persons are not binding. In fact, they are defined by the Regulation as an “opinion” of which the ECB Supervisory Board must take into account by submitting to the Governing Council of the ECB a new draft decision (Article 24, para. 7).3 Article 16(5) of the ECB Decision of 14 April 2014 clarifies that the opinion “does not bind the Supervisory Board, nor the Governing Council”. Once the opinion has been obtained, the Supervisory Board adopts a new draft decision that repeals the previous one and replaces it with a decision with identical content or with an amended one that is submitted to the Governing Council of the ECB for formalization through the silent assent mechanism (para. 7). Ultimately, the opinion, which must contain reasons,4 to resume the traditional classifications in terms of advisory function, is not binding and takes the form of a request for re-examination by the institution that issued the provision. Furthermore, neither Article 24 of the Regulations, nor Article 17 of the ECB Decision of 14 April 2014 implementing the aforementioned Regulation, expressly provides for a specific obligation to state reasons which may induce the Supervisory Board to confirm the draft decision by disregarding the opinion. In reality, such an obligation seems to be implicit in the duty to take into account and evaluate the opinion of the Administrative Board of Review provided for by the above provisions. A detail which confirms the particular nature of the remedy consists in the fact that the Supervisory Board in assessing the opinion of the Board of Review is not limited to the examination of the grounds relied upon by the applicant as set forth in the notice of review. The proposal for a new draft decision to be

 Article 16(5) of the ECB Decision of 14 April 2014 clarifies that the opinion “does not bind the Supervisory Board, nor the Governing Council”. 4  See Article 16(4) of the ECB Decision of 14 April 2014. 3

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sent to the Governing Council of the ECB “may also take other elements into account” (Article 17, para. 1, of the ECB Decision of 14 April 2014). In conclusion, the administrative review is part of the decision-making process aimed at adopting the provisions on banking supervision in continuity with the functions assigned to the Supervisory Board, which, in considering the Board’s opinion and submitting a new draft decision to the Governing Council, doesn’t have any particular limitation in re-evaluating the case in question. This means that the administrative review should be framed, rather than in the logic of the adjudication typical of alternative remedies to jurisdiction, in that of implementation, that is, the best application of sector regulations to specific concrete cases (see De Lucia 2013, p. 331). This approach is confirmed by the first jurisprudential interpretations. In deciding an appeal for the annulment of an ECB decision on banking supervision, the Fourth Extended Chamber of the General Court considered that the opinion of the Administrative Board of the Review and the final decision of the ECB should be considered in a unitary way in order to identify the reasoning behind the latter (judgment of the General Court (Fourth Chamber, Extended Composition) of 16 May 2017 in Case T-122/15 on an action brought by the Landeskreditbank Baden-Wurttemberg—Forderbank against the European Central Bank). It would be suitable to focus more closely on the case. The applicant bank challenged an ECB’s decision to subject it to its direct supervision as a significant entity within the meaning of the Regulation (EU) no. 1024/2013, requesting for this reason a re-examination of the decision by the Administrative Board of Review. The latter had issued an opinion which concluded for the legitimacy of the decision of the ECB. The ECB then issued a new substitutive decision of the previous one which confirmed however the qualification of the applicant as a significant entity. The appeal lodged at the Court of First Instance raised several grounds, among which the violation of the obligation to state reasons in relation to the withholding tax does not have any particular circumstances that could make the classification as significant entity to be subject to direct supervision by the ECB. However, the Court firstly recalls the case law according to which the statement of reasons does not necessarily have to specify all the relevant elements of fact and law, having to refer not only to its content but also to its context and to the legal rules governing the matter in question (para. 124). Then, the Court notes that the contested ECB decision followed the proposal contained in the opinion of the Administrative Board of the Review and considers that “the explanations contained therein may be taken into account for the purpose of determining whether the contested decision contains a sufficient statement of rea-

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sons” (para. 127). Basically, from “a combined reading of the contested decision and the Administrative Board of Review’s Opinion” (Part 128) could be deduced the reasons why the ECB had considered that the particular circumstances that would have justified the maintenance of supervision by the national authority were not demonstrated by the applicant. Lastly, despite the formal autonomy of the internal opinion of the Administrative Board of Review and of the ECB’s decision, the two acts should be considered as steps in a unitary procedure for implementing European banking supervision legislation. The internal non-binding review model for the deciding authority introduced by Regulation no. 1024/2013 is therefore a peculiarity that can’t be found in other contexts. Indeed, the degree of binding nature of decisions on administrative petitions is generally higher. For some remedies, the decision is extended to the merit of the issues and replaces the one under review. For example, in the case of Community trademarks, the Board of Appeal may “exercise any power within the competence of the department which was responsible for the decision appealed” (Article 64 (1) of Regulation (EC) 207/2009). Alternatively, the Board of Appeal may remit the case to the department whose decision was appealed which is however bound by the ratio decidendi of the Board of Appeal’s decision (para. 2). In the case of the Board of Appeal competent to examine appeals against the provisions of the European Banking Authority (and other financial authorities), the decision of merit taken at the end of the procedure, if it does not confirm the contested provision, is binding on the Authority to which case is remitted and which is required to adopt an amended decision (Article 60 (5)). The same model is established by Regulation (EU) 806/2014 on the resolution of credit institutions (Article 8, para. 8).

4

Other Procedural Profiles

Another feature of the administrative review of the ECB’s decisions on banking supervision concerns the interim measures. In fact, on the one hand, according to the general rule applied for this type of remedies, the request for re-examination has no suspensive effect; on the other hand, however, the Administrative Board of Review cannot directly grant any interim measures, but can only propose the Governing Council of the ECB to do so (Article 24, para. 8, of Regulation 1024/2013). The Governing Council takes a decision, after having heard the opinion of the

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Supervisory Board as appropriate (Article 9 (2) of the ECB Decision of 14 April 2014). As a general rule, for other types of non-jurisdictional remedies, the suspension of the measure under review is one of the powers of the quasi-judicial body. Thus, in particular the Boards of Appeal provided for by Regulation (EU) no. 1093/2010 and by the Regulation (EU) no. 806/2014 mentioned several times may suspend the execution of the contested decision (respectively, Article 60 (3) and Article 85 (6)). The failure to assign this power to the Administrative Board of Review is justified once again in relation to the internal character of the remedy. The same reason justifies the exception to the general principle concerning administrative remedies according to which the decisions of the deciding body are published. In particular, according to Regulation (EU) no. 1093/2010, the decisions taken by the Board of Appeal are published by the Authority (Article 60, para. 7). On the contrary, according to Regulation (EU) no. 1024/2013, the opinions expressed by the Administrative Board, as well as the new draft decision presented by the Supervisory Board and the final decision adopted by the Governing Council of the ECB, are notified to the parties. Publication is therefore not foreseen. The same rule is also set by Article 85, par. 9, of the Regulation (EU) no. 806/2014 on the resolution of banking crises. In the event of an appeal against the new ECB decision which is not in accordance with the Administrative Board’s opinion, the appellant can certainly use the content of the opinion of the latter for its review in its favor and therefore the Court of Justice of the European Union can decide the case based on a variety of views and therefore more thoughtfully. However, the failure to publish the opinions prevents the establishment of a “jurisprudence” of the Administrative Board of Review aimed at guiding the behavior of operators in the sector. It is not relevant at this point to give a detailed account of all the procedural rules contained specifically in the ECB Decision of 14 April 2014. However, it should be noted that Regulation (EU) no. 1024/2013 provides a very tight time scan, and this is in line with the requirement, typical of non-­ jurisdictional remedies, that the administrative review phase will run out quickly. The review request must be submitted within one month of the date of notification of the contested decision, and the Administrative Board of Review shall express the opinion within two months (Article 24, paras. 6 and 7). The ECB Decision of 14 April 2014 provides for short deadlines for the adoption of a new draft decision by the ECB Supervisory Board. The deadline is 10 days in the case of a new draft decision of identical content and 20 days in the case

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of a new draft decision abrogating or amending the initial decision (Article 17 (2) of the ECB Decision of 14 April 2014). The two-month time limit for issuing the opinion may appear to be very tight, especially in the more complex cases in relation to which the Administrative Board may perhaps authorize to call a witness or an expert to give oral evidence at the hearing (Article 15 of the ECB Decision of 14 April 2014). The judicial nature of the remedy emerges from a few normative provisions. Firstly, the Administrative Board’s review shall be limited to examination of the grounds relied on by the applicant as set out in the notice of review, in application of the principle of demand (Article 10 (2) of the ECB Decision of 14 April 2014). Such a provision would not be justified if the remedy, on the other hand, was considered to be a more direct involvement of the Administrative Board in the function of active administration. Secondly, the applicant may at any time withdraw the review request (Article 7 (6) of the ECB Decision of 14 April 2014). Thirdly, at the hearing for discussion, both the applicant and the ECB are required to make oral representations (Article 14 (1) of the ECB Decision of 14 April 2014). Such prevision leads into the proceedings a moment of direct debate between the “parties concerned”. The scope of review, according to Regulations (EU) no. 1024/2013, concerns “the procedural and substantive conformity with this Regulation of such decisions” (Article 24, para. 1, and Article 10, para. 1, of the ECB Decision of 14 April). A narrow interpretation of the two articles could be that the Administrative Board of Review cannot apply general principles and other relevant provisions not expressly referred to in the Regulation and must take as a normative parameter for its decisions only express provisions of this normative text. According to the ECB Decision of 14 April 2014, the petition can be filed by any natural or legal person in respect of a decision of the ECB to which it “is addressed, or to whom such decision is of direct and individual concern” (Article 7 (1)). This requirement is assessed by the Administrative Board of Review before examining whether the review request is legally founded. In the absence, the request for review is declared inadmissible. However, a request submitted in relation to the decision of the Governing Council of the ECB taken on the new draft decision prepared by the Supervisory Board (Article 11 of the ECB Decision of 14 April 2014) is inadmissible. Against this last one, however, the way of the appeal to the Court of Justice of the European Union according to the Treaties remains open.

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The right of defense is guaranteed by the fact that the applicant has the right to access the ECB file, within the limits of protection of business secrets and confidential information (Article 20 of the ECB Decision of 14 April 2014).

5

Concluding Remarks

As highlighted in the previous paragraphs, the administrative review of the ECB’s decisions regarding banking supervision presents various elements of specificity compared to the models usually established by other sector disciplines. Moreover, given the first case law indications mentioned above, the opinion issued by the Administrative Board of Review is to be integrated in some way in the final decision of the ECB and therefore fits into a unitary process of implementation of the European legislation on banking supervision. The main reason for the specificities of the administrative review is linked, as we have seen, to the fact that the ECB is an institution governed directly by the Treaty which defines the two fundamental organs (the Governing Council and the Executive Board). The Regulation (EU) no. 1024/2013 could therefore establish only internal bodies. Furthermore, the whole operation of granting supervisory powers to the ECBs took place under the pressure of a financial crisis exacerbated by the risk of insolvency of some Member States whose effects would have spread to the balance sheets of the credit holders of high shares of public securities. This implied that the way of a modification of the TFEU was not feasible. Moreover, the recital no. 85 of the Regulation (EU) no. 1024/2013 seems to assume the chance to “go even further in the internal separation of decision-making on monetary policy and on supervision”. Instead, the Regulation is based on the “enabling clause” established by Article 127, para. 6, of the TFEU. The latter provides the possibility to confer specific tasks upon the ECB, whose primary functions are those, as is known, of the central bank which guarantees the monetary stability and to carry out specific supervisory tasks. Indeed, in the new regulatory framework, the powers of the ECB in this matter are so pervasive that legitimate the question whether the principle set by the Article now cited is fully respected. A second reason could be, but caution is a must, given that the ECB enjoys of a status guaranteed by the Treaty and cannot be fully assimilated to the several European agencies established above all in the last decades. In this regard, it is worth pointing out that, at a national level, the Bank of Italy has always had a legal position distinct from the other independent authorities.

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Moreover, non-jurisdictional remedies have not been envisaged for central bank functions, even in cases where the operations of the central bank are substantiated, rather than in market transactions, by administrative measures in the strict sense. It must be considered not accidental that Council Regulation (EC) no. 2532/98 of 23 November 1998 concerning the sanctioning powers of the ECB provides for the sole remedy to appeal to the Court of Justice of the European Union according to the terms of the Treaty. It is also true that the banking supervision function differs from the monetary functions precisely because it is largely expressed in regulatory acts and in specific administrative measures intended to produce significant effects on supervised banks (as in the case, e.g., withdrawal of authorization). In the exercise of the central bank function, on the other hand, the ECB gets much more rarely in touch with the legal sphere of individual recipients. In conclusion, the provision of non-jurisdictional remedies is justified the most in the first area. In this sense, the discipline introduced by Regulation (EU) no. 1024/2013 is an important innovation. It may be redesigned and refined on the occasion of a comprehensive review of the current legislation. It will be important to see how the Administrative Board of Review will be able to interpret its role, although early commentators have stressed how it struggles to live up to the expectations of a fully independent appeal procedure (Lackhoff and Meissner 2015). In these first years of activity, the Board has examined a limited number of appeals (4 in 2014, 8 in 2105, 8 in 2016, 5  in 2017) involving mainly cases concerning corporate governance issues, revocation of the banking license, regulatory compliance and administrative sanctions (ECB Annual Report on supervisory activities 2017). As opinions are not published, it is not possible to offer a full evaluation of the work of the Administrative Board of Review. In the report on the Single Supervisory Mechanism published in application to Article 32 of the Regulation (EU) no. 1024/2013, the European Commission only reports that, according to the ECB, the opinions issued at the end of the review process have influenced the operational practice of the ECB even beyond the individual cases handled and advocates greater transparency on the activity carried out by the Commission, for instance through the publication on the website of the summaries of their decisions, with due observance of confidentiality rules (COM (2017) 591 final 11 October 2017).

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References Barucci E. and Messori M. (2014), Towards the European Banking Union, Achievements and Open Problems Blair W. (2016), Board of Appeal of the European Supervisory Authorities, University of Oslo Faculty of Law 2012–30, at https://papers.ssrn.com/sol3/papers.cfm?abstract_ id=2159206 Brescia Morra C., Smits R., and Magliari A. (2017), The Administrative Board of Review of the European Central Bank: Experience After 2 Years’, the European Business Organization Law Review, 18 (3), pp 567–589, at https://link.springer.com/article/10.1007/s40804-017-0081-3 Brescia Morra C. (2018), The Administrative Review of Decisions of the ECB in the supervisory field, Studies on European Integration, XIII (2018), pp. 63–78 Chiti M. and Santoro V. (2016), The European Banking Union Chiti M.P (2013), Jurisdictional Protection, European Administrative Law Clarich M. (2014), Administrative banking sanctions in the single supervisory mechanism, Banca Impresa Società, 2, pp.  333–348, at https://www.rivisteweb.it/ doi/10.1435/78546 De Lucia L. (2013), Administrative appeals in the European Union after the Treaty of Lisbon, in Riv. Trim. Dir. Pubbl., 2, pp. 323 ff. ECB Annual Report on supervisory activities, 2017, at https://www.bankingsupervision.europa.eu/press/publications/annual-report/pdf/ssm.ar2017.en.pdf?63a120a fab30be18171c083089709229 Lackhoff K. and Meissner M. (2015), Contesting decisions in the Single Supervisory Mechanism, Journal of International Banking Law and Regulation Lamandini M. (2014), The ESA’s Board of Appeal as a blueprint for the quasi-judicial review of the European financial supervision, The European Company Law, p. 293, at https://www.kluwerlawonline.com/abstract.php?area=Journals&id =EUCL2014055 REPORT FROM THE COMMISSION TO THE EUROPEAN PARLIAMENT AND THE COUNCIL on the Single Supervisory Mechanism established ­pursuant to Regulation (EU) No 1024/2013, Brussels, 11.10.2017, at https:// eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:52017DC 0591&from=EN

6 The European Banking Union in the Case Law of the Court of Justice of the European Union Mario P. Chiti

1

Introduction. The Role of the European Union Judges: The Judicial Building of the Banking Union

European Banking Union (EBU) legislation is so broad and pervasive to suggest that, in its case, the role of the jurisprudence has been marginal both in shaping the existing “pillars” of the EBU and in making them consistent with the European Union (EU) institutional framework. In fact, the EBU is formed of a wide range of acts of differing legal natures, as well as by the policies assumed to contrast the 2008 financial crisis1: ­legislative acts (regulations and directives) of the European Parliament and the Council2;  Those measures have been taken mostly on the legal basis of the internal market rules provided by the TFEU. A large part of the EBU measures find their legal basis in the economic and monetary union and regard only the Eurozone States. 2  Beyond the regulations on the Single Supervisory Mechanism (SSM) and the Single Resolution Mechanism (SRM), quoted at notes 6 and 7, inter alia: Regulation n. 1092/2010, on European Union Macro-Prudential Oversight on the Financial System and establishing a European Systemic Risk Board Directive 2013/36 on Access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms. 1

M. P. Chiti (*) Emeritus Professor of Administrative Law, University of Florence, Firenze, Italy Jean Monnet Chair ad personam of European Administrative Law, University of Florence, Firenze, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_6

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communications of the Commission; regulations of the European Central Bank (ECB)3; acts of the three European supervisory and regulatory agencies established in 2010 (the ESAs). Furthermore, the creation of the EBU was promoted by decisions of the European Council4 and the ECB,5 organized by inter-institutional agreements among the institutions.6 This discipline mainly covers the two pillars of the EBU, which include the Single Supervisory Mechanism (SSM)7 and the Single Resolution Mechanism (SRM).8 Several other acts that constitute the Single Rulebook9 concern the entire banking system of the EU and not just the Eurozone. In the previous chapters of this book, EBU law was examined in detail, highlighting its completeness for the first two “pillars” (the third “pillar”—a common deposit guarantee aimed at assuring a uniform level of protection10—remains to be regulated), the consistency of the regulatory model (also thanks to the fact that it was carried out in a short period of time) and the degree of precision in the legislative acts. For these reasons, it was reasonable to imagine that the Union judges—under Article 19 TEU, the Court of Justice (ECJ) and the General Court (GC), which, together, form the Court of Justice of the EU—would not have had such a founding, at times even “creative”, role in this matter as they have had in the configuration of the constitutional model of the Union, the elaboration of the general principles of Union law and also the definition of several subjects closely linked to the matters examined herein, such as the regulation of State aid. A further reason was the intrinsically “political” character of many of the economic and monetary decisions taken by the institutions, which seemed to limit the judiciary’s role to one of external legality control, such as for t­ echnical  That is, the ECB Regulation n. 468/2014 of 16.4.2014, establishing the SSM Framework Regulation, and the ECB Regulation 2015/534 of 17.3.2015 on reporting of supervisory financial information. 4  That is, the decision 2011/199 which amended Article 136 of the TFEU. 5  That is, the ECB decision of 17.9.2014 on the separation between the monetary policy and supervision functions of the ECB. 6  That is, the Inter-institutional Agreement between the European Parliament and the ECB on the practical modalities of the exercise of democratic accountability and oversight over the exercise of the tasks conferred on the ECB within the SSM. 7  Council Regulation (EU) n. 1024/2013 of 15.10.2013, conferring specific tasks on the ECB concerning policies relating to the prudential supervision of credit institutions. The SSM has been effective since 4.11.2013. 8  Regulation n. 806/2014 of the European Parliament and the Council of 15.7.2014, establishing uniform rules and uniform procedures for the resolution of credit institutions and certain investment firms in the framework of an SRM and a Single Resolution Fund and amending Regulation n. 1093/2010. The SRM has been effective since 1.1.2016. 9  See, among others, the Capital Requirement Regulation (CRR) and the Capital Requirement Directive (CRD). 10  The Directive 2014/49 of 16.4.2014 on harmonization of national deposit rules is just a first step toward a real “third Pillar” of the EBU. 3

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decisions, thus excluding any form of full jurisdiction. This view has been shared by influential figures, including Advocate General Cruz Villalon in his conclusions in the Gauweiler case (C-62/14): “the Courts, when reviewing the ECB’s activity, must avoid the risk of supplanting the Bank, by venturing into a highly technical terrain in which it is necessary to have expertise and experience, which is based on the Treaties, devolves solely to the ECB. Therefore, the intensity of judicial review of the ECB’s activity must be characterized by a considerable degree of caution”. Actually, it is not like that. Under the principle of Rule of Law (Article 2 TEU) and the principle that the EU Court of Justice ensures compliance with the law in the interpretation and application of the Treaties (Article 19 TEU), all EU acts, even those adopted by institutions with independent features, such as the ECB, are subject to EU Court review. Furthermore, since the first ECJ decision on the matter (Pringle, C-370/12), but even previously with the definition of the ECB’s position in the institutional architecture (Olaf, C-11/00), the EU courts have been shaping the EBU and the major issues related to it with a bold attitude. This formation has taken place through a plurality of procedures: preliminary ruling proceedings requested by national judges, including constitutional courts (as in cases raised by some constitutional courts: German Constitutional Court/BVG, Gauweiler, C-62/14; the Constitutional Court of Slovenia, Kotnik, C-516/14); direct actions by Member States, so-called “privileged applicants” (such as the United Kingdom in the ESMA case, C-270/12); appeals of GC judgments (among the many, Ledra, C-8/15 to 10/15, is of particular importance); actions for annulment brought to the GC by the interested parties under Article 263 TFEU. These latter cases gave the GC the opportunity not only to resolve specific controversies (e.g., Banque Postal, T-733/16), but also to anticipate general positions which, at least for now, the Court has confirmed, as in the case of Chrysostomides, T-680/13. To underline the particular “vivacity” of the jurisprudential debate, we must recall the following: the conclusions of the Advocates General have sometimes been denied, in whole or in part, by the ECJ (e.g., in ESMA, C-270/12, and Gauweiler, C-62/14); the German Constitutional Court has phrased its questions in rather rude terms, suggesting that it was reserving a final role for itself, out of line with EU principles; other constitutional courts (Slovenia in the Kotnik case) have highlighted the impact of EBU measures with fundamental rights recognized by national constitutions; judgments of the GC on broad issues (e.g., Arkea, T-712/15 and T-52/16) have been frequent; Union judges have sometimes used the national law of a Member State to verify the correct application of the EBU law by the institutions (Credit Agricole, T-133/16).

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This confirms the peculiarity of EU law as being strongly marked by the jurisprudence of its judges also in sectors—such as the EBU—in which there is highly developed legislation and written law.

2

Judicial Review and Administrative Appeals

This peculiarity is even more relevant considering that for the banking supervision function—the first function to be fully regulated and operational since 2014—a system of administrative appeals has been set up focusing on the Administrative Board of Review (ABoR). The same has also happened in the framework of the SRM with the establishment of the Appeal Panel of the Single Resolution Board, but its recent experience is not yet significant. As regards the SSM, the administrative appeals system was presented as a reinforcement of the right to a defense versus the new European supervisor, therefore with justiciable purposes. It was also offered as a tool for preventing judicial litigation in cases of highly specific and technical decisions regarding banking supervision. It was even presented as an instrument for ensuring better administrative function. As explained in the chapter dedicated to these means of protection (Chap. 5), the supervisory function (SSM) of administrative appeals does not represent a procedural condition for any subsequent legal action through direct action; rather, they are optional remedies. The model corresponds to a recent tendency to establish administrative appeals in other sectors of the EU, including the acts of the European agencies11 and the three European Supervisory Agencies (ESAs),12 to reduce court litigation and to ensure more rapid and specialized protection. This trend is of particular significance for the many Member States where the protection of rights is completely or largely reserved to the judges. In the administrative complaints, the grounds are not primarily legal but “technical” and entrusted to the evaluation of boards formed by experts in the sector, as a rule non-lawyers. The experience of the first years in the SSM indicates a good number of administrative appeals, with some instances of dispute settlement at this stage. It is significant, however, that the most important cases were brought directly to the GC or continued before that Court, following the conclusion of the administrative phase. In this way, the centrality of judicial protection is confirmed also with respect to the new models of administrative protection.  For example, the Board of Appeals of the Agency for the Cooperation of Energy Regulators.  Joint Board of Appeals for the three Agencies.

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In the case of the SSM, there are three main explanations for this situation. The ABoR adopts non-binding opinions addressed to the Supervisory Board of the ECB, without the power to cancel or replace the contested decision. The Board carries out a type of review very similar to judicial review, despite the characteristics of its members (largely non-jurists) and its considerable procedural autonomy. It persists the ambiguity, not yet resolved, of these remedies between a quasi-judicial and an administrative nature. In a leading case for the definition of the banking supervision function (Landeskreditbank Baden-Württemberg, T-122/15), the GC considered that the opinion of the Administrative Board of Review contributes to the final justification of the ECB Governing Council’s decision. Thus, the quasi-­ judicial role of the administrative review seems to be dwindling into an atypical phase of the administrative procedure to reach the final decision. The question of the quasi-judicial or administrative nature of administrative appeals should therefore be clarified by the forthcoming jurisprudence.

3

The Workload of Case Law

Before examining the jurisprudence of EU courts, it is worth noting the number of cases which have been decided so far or which are pending (as of December 2018), the type of procedure, the type of issues dealt with, as well as evidence of the size of the disputes and the intertwining of the various systems. The following indications refer to EU courts, but to have an effective understanding of the EBU law’s impact, it should be recalled that large-scale national litigation has also developed regarding a series of issues arising from the implementation of the new European discipline on national law. A dozen of cases have been brought to the ECJ by the national judges following preliminary reference under Article 267 TFEU; some recent ones have not yet been reported. Among the pending cases is one of particular importance (C-218/17, Berlusconi Fininvest, a preliminary ruling from the Italian Consiglio di Stato), which involves issues such as composite administrative procedures, conflicts of jurisdiction between national and Union courts, and the scope of the principle of res judicata. So far, all the cases of this type have seen the Advocates General participating with their own conclusions (sometimes, as mentioned, not followed by the Court). The courts of the referred cases were constitutional courts and, for the most part, courts of last resort.

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The issues on which the ECJ interpretation has been requested are of crucial importance for the EBU structure: the power of the EU Member States to sign new treaties outside the EU framework; the new governance for the Eurozone; the role of the ECB and the ESAs; the protection of fundamental rights in the EBU; as well as the scope of review of legality in this matter. The ECJ is also intervening as a second-tier court in several appeals against judgments of the GC. Given the novelty of EBU law, the number of cases before the GC and the economic relevance of the disputes, it is to be expected that appeals to the ECJ will be frequent, both for supervision and for resolution. Several direct actions were submitted to the GC, pursuant to Article 263 of the TFEU, against ECB supervisory decisions. Some of these cases are of particular general importance, such as Landeskreditbank Baden-Württemberg, T-122/15, with the scope of the ECB supervisory function on the “significant/less significant” banks at issue. In the cases already decided on appeal by the ECJ, the first-degree rulings have been confirmed. A large part of the actions brought to the GC contest decisions of the Single Resolution Board, in the framework of the resolution function disciplined by Regulation n. 806/2014. The high number of actions is easily explained by the particular impact that bank resolution decisions have on resolved banks, shareholders and account holders. The case of Banco Popular Epañol is typical, with dozens of actions against the SRB’s decisions. It is expected that the new resolution cases under discussion by the SRB will lead to an exponential growth in litigation. The special economic relevance of the resolution cases suggests that the interested parties will not stop their actions even after the consolidation of the GC jurisprudence on the SRB, still trying to reverse it. In consideration of the significant amount of jurisdictional cases and their very particular characteristics, proposals have been presented to establish a specialized court for ECB decisions, which would have the ability to accurately review even the most complex decisions. The proposals cannot be shared because the judicial protection must not be too sectorial in order to avoid the “capture” of the controllers by the controlled, with a paradoxical reduction in the effectiveness of protection. Furthermore, the rationale for administrative appeals, established as highly specialized bodies for a supervisory and resolutive function, would be lost.

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 he Main Themes of the Case Law T of EU Judges

The issues that have been dealt with by the EU courts can be summarized in some main strands. First, the ECJ has considered its own jurisdiction contested by some Member States and even by the European Council and the Commission. In the Pringle case (C-370/12), a group of States, the European Council and the Commission challenged that the Court had no power under Article 267 TFEU to assess the validity of the Treaties’ provisions. Then the ECJ examined the jurisdiction of the Union courts and the Member States in disputes involving composite procedures taking place in part at the national level and in part at the European level, in different combinations depending on the case. The reference case—for which a judgment is soon expected—concerns the aforementioned proceeding, Berlusconi Fininvest, C-219/17. On procedural issues, the ECJ and the GC have examined the problems of standing and the interest in bringing proceedings within the legal framework of EBU law. These problems occur frequently, but have been examined in particular in the cases T-247/16, Trasta, and T-680/13, Chrysostomides. With regard to applicable law, the possible use by European judges of national legislation has been examined in a new way (cases T-133/16, Banque Postal, and C-41/15, Dowling). The issue of the legal basis for the measures decided by Community institutions has been examined by the ECJ with a new approach to the meaning of the EU competences for economic and monetary policies, as has been seen in the cases Chrysostomides, T-680/13, and Landeskreditbank Baden-­Württemberg, T-122/15. With regard to the general institutional framework of the EBU, Union judges have decided two leading cases about the regulatory model through new bodies. The Pringle case (also known as the European Stability Mechanism case, ESM, C-370/12, the “mechanism” that anticipated the establishment of the EBU) should be recalled, as well as the case of the European Security Markets Authority (ESMA), case C-270/2012, on the new European agency (with arguments applicable also to the other two supervisory and regulatory agencies, the ESAs). Of particular importance are the judgments on the role and powers of the ECB, the main player of the EBU in the supervisory function, which, on the one hand, hold firmly (see previous cases C-11/00, Olaf, and T-496/11,

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United Kingdom/ECB) that the Bank is an institution with mandatory powers subject to compliance with EU law and jurisdictional control (Ledra, joint cases C-8/15 to 10/15; Landeskreditbank Baden-Württemberg, T-122/15; Credit Postal, T-133/16). On the other hand, they have confirmed—with only one exception (GC, Banque Postal, 13.7.2018, T-133/16)—the legitimacy of the decisions of the ECB. An interesting development regarding this issue occurred in the case on the Outrights Monetary Transactions (OMT) program proposed by the ECB, challenged in Germany (the Gauweiler case, C-62/14) and confirmed by the ECJ. Linked to these issues is the non-contractual liability of the Member States for alleged violation of the rights of those concerned. The guiding case is Ledra, C-8/15. Finally, as a result of the bank restructuring measures adopted by the Republic of Cyprus and other distressed countries, some leading cases have made it possible to ascertain the scope of a new approach to addressing sector imbalances following the great crisis, such as the principle of financial stability of a Member State of the euro area and of the whole EU (Chrysostomides, T-680/13), and the legality of the measures which have been adopted (again, the Cyprus case T-680/13 and the Kotnik case, C-526/14). In these cases, the keeping of the national constitutional principles of the right to property was also verified, as well as the relationship between national constitutions and the EU Charter of Fundamental Rights.

5

 he Founding Jurisprudence T of the ECJ. The Pringle Case

The EBU was anticipated by a series of acts of the institutions and States of the Eurozone to contrast the consequences of the economic and financial crisis which began in 2008. The proposals of the  de Larosière Report on Financial Integration13 and the Van Rompuy Report on the EBU14 turned out to be decisive. Faced with this sharp development, an Irish citizen and Member of Parliament, Mr. Pringle, brought an action before the courts of his country contesting that the decision 2011/1991 of the European Council had not been legitimately adopted in light of the revision procedure laid down in  See the High Level Group on Financial Supervision in the EU, February 2009.  Toward a Genuine Economic Monetary Union, 2012.

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Article 48.6 of the TEU. In particular, for Mr. Pringle, the revision involved a change in the competences of the Union contrary to the third paragraph of Article 48 and incompatible with some of the provisions of the Treaties relating to the economic and monetary union, as well as two general principles of EU law: the principles of effective judicial protection and legal certainty. The High Court dismissed Mr. Pringle’s action in its entirety. He then brought an appeal to the Supreme Court of Ireland, which referred some issues of great importance on the reform of the economic governance of the Union (especially for the Eurozone) to the ECJ, including criteria for possible amendments to the TFEU, definition of the notions of economic and monetary policy and the related competences, legitimacy for the Eurozone States alone to establish a treaty for the ESM and the scope of the principle of financial stability. The ECJ confirmed the legitimacy of the European Council’s decision, the ESM Treaty and the consequent measures. According to the Court, it is apparent from the wording used in Article 125 of the TFEU—as well as in other provisions in the TFEU chapter relating to economic policy—that this article is not intended to prohibit either the Union or the Member States from granting any form of financial assistance whatsoever to another Member State. At the same time, the ECJ gave coherence to a model that had been elaborated quickly (which was inevitable given the urgency of the situation). In this way, it has, on the one hand, stabilized the new model on a basis which allows the Member States to provide each other with financial assistance, in addition to what is foreseen in Article 125 of the TFEU while, on the other hand, it set the basis for legitimizing the initiatives of the European institutions, in particular the establishment of the EBU. The ECJ’s jurisdiction for dealing with the issues raised by the Irish Court was challenged (as mentioned above) by several States, the European Council and the Commission because the questions referred to the Court had as their object the validity of primary law. The Court found it easy to reject the exception, stating (paras. 30–37) that it was for the Court to verify, first, whether the procedural rules laid down in Article 48.6 of the TEU were followed and, second, that they did not increase the competences of the Union. Concerning the legitimacy of the simplified Treaty revision procedure (Article 48.6 TEU) which was followed to set up the ESM, the Court considered the problem raised by the Irish Court: whether the revision of the TFEU concerns only provisions of the third part of that Treaty and/or extends the powers conferred on the Union in the Treaties. The Court thus had an important opportunity to clarify the scope of “monetary policy”, given that the TFEU contains no such definition. For the Court, the main objective of the

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monetary policy of the Union is price stability. The decision of the European Council which modified Article 136 TFEU aims to safeguard the stability of the euro area as a whole, which is clearly distinct from the objective of maintaining price stability. Even the granting of financial assistance to a Member State does not clearly fall within the sphere of monetary policy. The Court then emphasized that the contested decision of the European Council is part of the new regulatory framework for strengthening the economic governance of the Union. This is a new framework for coordinating and rigorously monitoring the economic and budgetary policies conducted by the Member States, aimed at consolidating macroeconomic stability and the sustainability of public finances. The conclusion is that the establishment of the ESM has preventive goals of reducing possible risks of sovereign debt crises and managing the financial crises that could occur in spite of the preventive actions taken. In conclusion, for the Court, the decision of the European Council falls within the field of “economic policy”, and not “monetary policy”. Therefore, it does not affect the exclusive competence of the Union in the field of monetary policy. The Court then considered that, without the amendment introduced in Article 136, the TFEU would not have permitted specific action to establish a stability mechanism such as that provided for in the contested decision. In fact, Articles 2.3–2.5 TFEU circumscribe Union action to a simple coordination, without a permanent “mechanism” and without the possibility of safeguarding the financial stability of the Eurozone as a whole. Likewise, Decision 2011/199 of the European Council also satisfies the condition mentioned in Article 48.6 TEU. As regards the question referred by the Irish Court, if the revision of the TFEU extends the powers conferred on the Union in the Treaties, the Court’s conclusion follows directly from the previous point. Once the difference between monetary and economic policy and the purpose of the ESM is well understood, the amendment to the TFEU does not create any legal basis for the Union to take action that was not possible before the amendment came into force. A further question posed by the Irish Supreme Court regarded the legitimacy of Eurozone States to conclude the international MES treaty, apparently outside the Union system. A first problem was already resolved when the Court stated that the activities of the ESM do not fall within the monetary policy covered by the TFEU provisions (Articles 3.1.c and 127). Similarly, Article 3.2 TFEU—on the common rules on economic and monetary matters—does not prevent the Eurozone States from concluding and ratifying the ESM treaty because it does

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not put at risk the objective of Article 122.2 TFEU or prevent the Union from exercising its powers in protecting the common interest. The Court clarified that the ESM does not deal with the mechanism for coordinating the economic policies of the Member States, but rather represents a financing mechanism and provides support for the stability of its members who are already in, or are in danger of, serious financial problems. Thus, the articles of the TFEU on economic policy (2.3; 119–121, 122–123, 125–126) invoked by Mr. Pringle to challenge the legitimacy of the ESM do not prevent the Eurozone States from reaching an agreement with the ESM Treaty. The last question referred for a preliminary ruling was the alleged infringement of the general principle of European Union law on effective judicial protection (Article 2 and Article 19 TEU, also recognized by the Charter of Fundamental Rights in Article 47). The Court ruled that the States which established the ESM did not move in the implementation of EU law, and therefore remained outside the scope of the Charter and the principle referred to. The conclusion is formalistic and, in essence, does not guarantee any judicial protection to the interested parties. As has been correctly pointed out (G.  Tesauro), the Court has not even stated that the ESM should observe respect for the fundamental rights and freedoms resulting from the common constitutional traditions. Furthermore, the judgment is inconsistent with the position assumed by the Court in the second Cyprus case (Ledra, joint cases C-8-10/15). In addition to the issues directly raised by the Irish Court, the underlying theme was the compatibility with the TEU system of an agreement among some Member States—the Eurozone States—outside the Union. The ECJ considered that such a mechanism could have been established on the basis of Article 352 TFEU; but the Union, which was not obliged to act, did not use this possibility. Therefore, based on Articles 4.1 and 5.2 TEU, the Member States whose currency is the euro are competent to conclude an agreement among themselves on the establishment of a stability mechanism. However, without prejudice to the legitimacy of the procedure, the Court has conditioned the possibilities of the Eurozone States, who cannot avoid compliance with Union law in the exercise of their competence in this field. The ESM is “strictly conditional” on compliance with Union law, including the measures taken by the Union in the coordination of the economic policies of the Member States. In case of violation of EU law, the ECJ will be competent to ascertain it according to the usual procedure. The main consequence of the obligation to respect Union law is the guarantee of the institutional system, particularly with reference to the roles of the

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Commission, the ECB and the ECJ. The powers of the institutions must not be distorted, attributing new or exclusive powers outside or in conflict with the Union system. The ESM Treaty has been interpreted by the Court in such a way as not to offer the Commission and the ECB functions which are incompatible/subservient with/to the general powers provided for in the Treaties. First, the functions assigned to the two institutions do not imply any decision-making power of their own, and they are nevertheless carried out within the framework of the ESM Treaty. Second, as regards the ECB, the new functions comply with the different tasks which the TFEU and the Statute of the ESCB confer on that institution (para. 165). Concerning the ECJ, the competence that is recognized by the ESM Treaty is based directly on Article 273 TFEU, according to which the Court is competent to know of any dispute between Member States in connection with the object of the Treaties, when this competence is submitted to it by virtue of a special agreement between the parties.

6

The Esma Case

The second founding judgment of the ECJ, again in the composition of the Grand Chamber, is ESMA (22.1.2014, C-270/12), which considered the powers of intervention attributed to the European Securities and Markets Authority (the ESMA). The ESMA, established by Regulation n. 1095/2010 of 24.11.2010, is one of the three European Supervisory Authorities (ESAs). The others are the European Insurance and Occupation Pension Authority, or EIOPA,15 and the European Banking Union, or EBA.16 The ESAs were established just after the outbreak of the crisis to ensure the supervision of the whole EU financial system. ESMA and other Authorities which make up the European System of Financial Supervision (ESAs) are a particular variation of the European agency model. Overall, the three ESAs are more analogous to the national model of “independent administrative authorities”, widespread in the Member States, than to the better known European agencies. Following the establishment of the ESMA in 2010, the Regulation of the European Parliament and the Council n. 236/2012 assigned (Article 28) particular powers with binding force to the ESMA for short sales of derivative instruments upon the occurrence of specified circumstances.  Regulation n. 1094/2010 of 24.11.2010.  Regulation n. 1093/2010 of 24.11.2010.

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The United Kingdom submitted to the ECJ, as a “privileged applicant”, a direct action under Article 263 TFEU requesting the annulment of Article 28 of Regulation n. 236/2012. As the Court noted, the appellant was merely requesting the annulment of that article and did not call into question the establishment of the ESMA. But apart from this procedural choice (questionably in the interests of the United Kingdom), the action substantially disputed the ESMA’s position, aiming to emasculate the Authority of its most incisive powers. There were four grounds for annulment by the United Kingdom: the violation of the principles governing the delegation of powers set out in the famous Meroni/High Authority judgment17; the violation of a second principle established by the jurisprudence of the Court (the “Romano doctrine”18 which prohibits the conferring of normative acts on administrative bodies); the incompatibility of a delegation of powers to a body of the Union with respect to Articles 290 and 291 of the TFEU; and Article 114 TFEU as a false legal basis for Regulation n. 236/2012. Regarding the “Meroni doctrine”, the ECJ took the opportunity in the ESMA case to redesign in depth a consistent jurisprudence dating back to the Meroni/High Authority judgment of 1958. This judgment, taken in the framework of the ECSC (precursor of the EEC), had stated that a delegation of powers in the Community system is legitimate only when the powers are clearly delegated and the exercise of which, for this reason, is subject to strict control on the basis of objective criteria established by the delegating authority; in essence, when the delegation does not significantly change the institutional competences. On the contrary, a delegation of discretionary power that implies broad freedom of evaluation is illegitimate, as it would mean a real shift of responsibility, with the delegated authority able to replace its own appreciations with those of the delegating authority. The Meroni judgment—which, as stated, resolved a case in the context of the ECSC—was considered by the Court to be applicable to the EEC and the Union. This jurisprudence had become firm, so much so as to be considered “doctrine”. Legal science has largely criticized this case law as too rigid and inappropriate for the various institutional and administrative models of the Union. Nevertheless, the Court has never strayed from the solution provided in the Meroni case. The action by the United Kingdom in the ESMA case was therefore not by chance based firstly on the alleged violation of the Meroni doctrine. The  Case 9/56.  Case 98/80.

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United Kingdom argued that the powers entrusted to the ESMA imply very wide discretionary powers, exercisable with highly subjective criteria. If the ECJ had applied its established jurisprudence to the ESMA case, the action for annulment would certainly have been accepted. Instead, the Court chose to “reformulate” the Meroni doctrine in a significant way, beyond the verbal caution typical of courts of last instance. Certainly, the change was necessary so as to not to downsize an intervention power that the institutions, through the ESMA and other bodies, considered relevant for the financial stability of the Union. But it is safe to assume that the jurisprudential evolution was mature, so as to take place on an important occasion like the one under examination. The reasons for the rejection of the United Kingdom’s plea are twofold: the characteristics of the contested discipline which make the ESMA case different from Meroni and fresh arguments that directed the Court to new horizons, beyond the European System of Financial Supervision and the EBU. In the first sense, the Court established that the ESMA is an entity of the Union, created by the legislature. The competences attributed to it by Article 28 are set forth in a detailed manner. The law establishes the criteria and conditions which delimit the Authority’s field of action. Its work shall be carried out by a procedure involving a series of other subjects. The Commission shall retain the power to set the criteria which the ESMA must take into account when exercising its powers. The second novelty of the ESMA ruling is the reference to technical elements that characterizes the decisions delegated to the Authority and the necessary specialized expertise that the latter ensures. As indicated at paragraph 82, Article 28 of the Regulation in question gives the ESMA decision-making powers which entail “specific professional and technical expertise”. It is therefore not a question of “administrative discretion”, with wide-ranging powers of choice of merit, but of powers that can be exercised in special circumstances, which require detailed justification of the type of threat legitimizing the Authority’s intervention and are always subject to judicial review. In essence, the technical and specialist elements can provide grounds for delegations of power to bodies created by the EU legislature with such characteristics and thus overcome, or at least soften, the Meroni doctrine. The position expressed by the Court in the ESMA case completes a path travelled over the past three decades on the relevance of a European public administration characterized by specialization and technique. The Court’s position was consistent with other several rulings, including the Schrems case (judgment 7.9.2015, C-362/2014). Also, in the Gauweiler judgment (C-62/14), examined in the following paragraph, there is a clear reference to

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economic expertise and the necessary technical means at the ECB’s disposal to carry out the analysis with care and accuracy. The ESMA ruling has the comfort of the “constitutional” principles set by the TFEU on European administration: Article 197 and Article 29819 of the TFEU. For this reason, the Court also rejected the United Kingdom’s argument of a delegation incompatible with Articles 290 and 291 TFEU. According to the Court, the delegation does not concern the Commission, but a body of the Union (ESMA). The power to delegate to bodies, other than the Commission, is implicit in the TFEU because many provisions of this Treaty presuppose the existence of such a possibility. Furthermore, the exercise of the powers attributed or delegated to these bodies is always controlled by the Court when it implies legally binding acts against natural or legal persons in specific sectors. Finally, the Court emphasized that Article 28 grants the ESMA decision-­ making powers “in a sector that involves a specific professional and technical expertise”, which are inserted as part of a set of regulatory instruments adopted by the EU legislature so that the latter can operate in favor of “international financial stability”. The Court also rejected the last ground of the United Kingdom’s action— the most devastating, if accepted—about the legal basis of the disputed provision (Article 114 of the TFEU, the so-called “internal market empowering clause”20). According to the United Kingdom, the powers that Article 28 of Regulation n. 136/2012 conferred on the ESMA are general in scope and therefore violate the delimited powers provided for in Article 114 of the TFEU. The reasoning of the decision is particularly thorough, given the delicacy of the theme as well as its impact on other related issues. The arguments of the Court included, firstly, the expression used in Article 114 (“measures relating to approximation”) giving the Union legislature a margin of discretion with regard to deciding the most appropriate approximation technique to achieve the desired outcome, depending on the general context and the specific circumstances of the matter to be exploited. The margin of discretion is even more valid when, as in this case, the proposed approximation requires “highly technical and specialized analyses”. Secondly, the measures relating to the establishment and financing of the internal market legitimize the use of Article 114 as the legal basis for measures when it appears objectively and effectively  Article 298.1: “In carrying out their mission the institutions, bodies, offices and agencies of the Union shall have the support of an open, efficient and independent European administration”. 20  The United Kingdom did not adequately consider the prior case law, such as ENISA (C-287/2014), on the scope of Article 114 of the TFEU. 19

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from the legal act that the latter aims to improve the conditions for the implementation and functioning of the internal market, as was verified in this case. In conclusion, the Union legislature may delegate certain powers to a Union organ or body to implement the harmonization to be pursued, in particular “when the measures to be taken must be based on a particular professional and technical expertise”.

7

 he ECB Powers and Their Justiciability. T The Gauweiler Case

7.1. The powers conferred on the ECB by the various decisions constituting the law of the banking union have been the subject of several judgments of the Union courts. The ruling 16.6.2015, C-62/14, known as Gauweiler (or OMT), by the ECJ Grand Chamber, on a preliminary reference by the German Constitutional Court (BVG), is particularly relevant. The Gauweiler case concerned the validity of the decisions of the Governing Council of the European Central Bank of September 2012, which envisaged the possibility in the Eurozone of adopting “outright monetary transactions (OMT) in secondary sovereign bond markets”, with reference to Articles 123 and 127 of the TFEU and to certain provisions of Protocol N. 4 on the Statute of the ESCB and the ECB. The OMT program is an important example of non-standard initiatives that the ECB has adopted in the context of the new law on the EMU and the BU. In the German BVG’s view, the OMT program, announced on the basis of the aforementioned ECB decisions, could be in conflict with certain provisions of the TFEU and the ESCB and ECB protocol. The request of the BVG was formulated in an unusual way, as it contained an express reservation in favor of the referring Court on its ultimate responsibility to establish the validity of the decisions according to the conditions and limits imposed by the German Constitution. The BVG’s position was not new, but in the OMT case, it was expressed in a particularly rude manner (as was the request of the Italian Constitutional Court in the Taricco case (C-42/2017), but outside the EBU). As mentioned above, the ECJ also reaffirmed its competence on these atypical requests and the correct scope of Article 267 of the TFEU. On the merits, the Court first considered the ECB’s powers in the framework of the single monetary policy, an area where the Union has exclusive competence for Member States whose currency is the euro. Recalling the

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Eurozone framework, formed by the ECB and the national central banks, the Court initially reiterated the ECB’s main role in defining and implementing monetary policy under Article 127.2 of the TFEU. In the governance system of the ECB, the Governing Council is responsible for the formulation of the Union’s monetary policy and the Executive Board’s implementation of the policy according to the guidelines and decisions provided by the Governing Council. The importance of the Gauweiler decision can be found in its clarification that (a) in compliance with the principle of conferral of powers, with the OMT program, the ECB acts within the limits of the powers conferred by the primary law on the monetary policy, (b) the ECB cannot adopt and execute a program that is outside the monetary policy area defined by primary law and clarified by the fundamental Pringle judgment (case C-370/12), examined above, and (c) in addition to this conditionality, the activity of the ECB is subject to review by the Court. Once the role of the ECB had been clarified, also in relation to the contested OMT program, the Court deepened the definition of “monetary policy” and its difference with “economic policy” already given in the Pringle decision, emphasizing the complementarity between the economic and monetary policies. It concluded that the announced OMT program does not in itself serve to circumvent the conditions circumscribing the ESM’s activity on the secondary market, since the ESCB’s intervention is not intended to take the place of the ESM in order to achieve the latter’s objectives, but must, to the contrary, be implemented independently on the basis of the objective of particular to monetary policy (para. 65). The Court then reiterated that, in carrying out the OMT program, the ECB must respect the principle of proportionality, which requires that the acts of EU institutions be tailored to attain the legitimate objectives pursued by the legislation at issue and that they do not go beyond what is necessary to achieve those objectives (para. 67). The Court was also careful to state (1) that the announced OMT program does not in itself violate the principle of proportionality and (2) broad discretion must be granted to the ECB as the measures of the OMT program involve choices of a technical nature as well as complex assessments, which therefore limited the scope of judicial review. However, the Court did rule that although the technical discretion of the ECB may be wide, its decisions must always respect the principles of good administration established by the Charter of Fundamental Rights and the jurisprudence, in particular, the duty to provide adequate reasons. Finally, the Gauweiler ruling examined the legitimacy of the program’s legal basis in relation to Article 123.1 of the TFEU, which prohibits the ECB and

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the central banks of the Member States from granting overdraft facilities or any other type of credit facility to public bodies. However, this provision does not preclude all financial assistance. In particular, it does not preclude, generally speaking, the possibility of the ESCB purchasing from State creditors bonds previously issued by that State. The Court’s conclusion is very important in defining all the legal conditions for the proper exercise by the ECB of the OMT program which were not clearly specified in the program approved by the Governing Council of the ECB. In that way, the Court did not limit itself to interpreting Article 123.1 of the TFEU in relation to the case submitted by the BVG, but it “completed” the OMT program by defining the terms and conditions to make it compatible with Article 123, in a clear demonstration of the “creative” role of the Court. 7.2. The ECB powers and their justiciability have been considered also in the Berlusconi judgment (19.12.2018, C-219/17), with special reference to the law applicable to the composite (or mixed) procedures. As a consequence of the ever wider competences attributed to the EU, it is frequent the case of administrative procedures initiated at national level and concluded with acts of the EU; sometime involving other Member States as well. These procedures are not regulated according to a standard model, but with specific provisions featured on the various topics which are concerned. The main problem about the composite procedures is the justiciability of the acts adopted by the national and European authorities in this framework. After a judgment of 1992 (Oleificio Borelli, 3.12-.1992, C-97/91), the Court of Justice has no more dealt with the nature of the composite procedures and the competent jurisdiction (national or European). The Berlusconi case was brought by the Italian Consiglio di Stato—judge of last instance on administrative law litigation—before the ECJ through the preliminary ruling procedure (Article 267 TFEU), examining a claim by Mr. Berlusconi and Fininvest Co. against a decision of the Banca d’Italia (Italian Central Bank) proposing to the ECB of opposing the Berlusconi’s request for acquiring a qualifying holding in the Mediolanum Bank. The ECB decided in conformity to the Banca d’Italia’s proposal. Mr. Berlusconi and Fininvest challenged the ECB’s decision before the EU General Court and the preliminary Banca d’Italia’s decision before the national judge (Consiglio di Stato). The latter asked the ECJ whether it is for the national courts or for the EU courts to review the legality of decisions to ­initiate procedures, measures of inquiry or proposal adopted by a national

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competent authority (as in the case the Banca d’Italia) in an authorization procedure as that one considered.21 The ECJ has taken the occasion of the specific question raised by the Consiglio di Stato for drawing the general scenario of composite procedures and providing a judicial map for the future cases. As stated by the Court (points 42–49), there is a clear distinction between two situations: (a) the situation where the EU Institution has only a limited or no discretion, so that the NCA’s act is binding on the EU institution, and (b) the situation where the EU institution exercises, alone, the final decision-­ making power without being bound by an NCA’s act. In the first case, it falls to the national courts to rule on any irregularities that may vitiate such a national act, making a reference to the Court for a preliminary ruling where appropriate. In the second case, on the other hand, it falls to the EU courts not only to rule on the legality of the final decision adopted by the EU institution, but also to examine any defects vitiating the preparatory acts of the proposals of the NCA that would be such as to affect the validity of that final decision. The Court stresses in particular that there must necessarily be a single judicial review for avoiding risks of divergent rulings. Going back to the specific case referred by the Consiglio di Stato, the ECJ has stated that the ECB has exclusive competence to decide whether or not to authorize the proposed acquisition at the end of the procedure at issue. Consequently, the EU courts alone have jurisdiction to determine, as an incidental matter, whether the legality of the ECB’s decision is affected by any defects of the preparatory acts adopted by the Banca d’Italia. The legality of those acts cannot be reviewed by the national courts. The Berlusconi case here summarized will remain as a landmark both in the EBU law and in the general EU law.

8

 he Principle of Financial Stability T and the Protection of Fundamental Rights

The institutional system of the EBU and the European system for ensuring financial stability was expanded by the ECJ in the Ledra judgment of 20.9.2016 (joint cases C-8/15 to C-10/15).

 The Consiglio di Stato also asked the ECJ whether the answer to that question is different where it is a peculiar national procedure (“giudizio di ottemperanza”) that is brought before the national court. However, this second question is not connected to the issues here examined. 21

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The Ledra Company was based in Cyprus. Several shareholders and current account holders of Cypriot banks appealed the GC orders that had declared their actions inadmissible in part and groundless in other part. The action was brought, first, to annul some points of the Memorandum of Understanding concluded between the Republic of Cyprus and the ESM and the subsequent measures and, second, to obtain compensation for the damages which the applicants derived from it. As noted, the case originated from the consequences produced by the agreement between Cyprus and the other Euro States based on a protocol of March 2013, which led to the closing of some Cypriot banks and a substantial reduction in the value of the applicants’ bank deposits. The applicants’ arguments did not principally concern the legitimacy of the ESM, but rather (1) the conditions imposed by the Commission and the ECB, connected to the financial assistance system granted to the Republic of Cyprus and (2) the role assumed by the two institutions, considered the “true authors” of the internal rescue implementation in Cyprus. The Court annulled the order of the GC which considered the appeal inadmissible because the disputed measures were not formally attributable to the two institutions of the Union, but to bodies of the ESM.  The conclusion examines in depth that which was written in the Pringle judgment. Indeed, the Court confirms that the functions entrusted to the Commission and the ECB in the context of the ESM Treaty, however important, do not imply any decision-making power of their own, engaging only the ESM. In this way, it precluded the interested parties from bringing a direct action, under Article 263 of the TFEU. It did, however, allow an action for damages as provided in Article 268 of the TFEU. To this end, the Court examined the Pringle judgment and stated that the tasks allocated to the Commission obliged it to ensure that the Memorandum of Understanding concluded by the ESM Treaty is consistent with EU law (para. 56). The process of “Europeanization” of the ESM Treaty was then enriched with the Court’s emphasis on the Charter of Fundamental Rights also in the ESM framework. In fact, “whilst the Member States do not implement EU law in the context of the ESM Treaty, so that the Charter is not addressed to them in that context; the Charter is addressed to the EU institutions including when they act outside the EU legal framework” (para. 67). The Commission must therefore ensure that all acts taken in that context, such as the Memorandum of Understanding, are consistent with the fundamental rights guaranteed by the Charter. We shall see that the Charter had been recalled by the applicants because the Protocol for Cyprus and the consequent “bail in” measures caused

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v­ iolations of the right to property, recognized in Article 17.1 of the Charter. Despite the conclusion, which excludes violations of the right to property, the emphasis given to the Charter of Fundamental Rights confirms the Court’s efforts to bring the ESM back to the general system of the Union. In particular, as a result of this ruling, the acts adopted in the ESM system cannot be the subject of annulment (Article 263 of the TFEU), but of a claim for damages (Article 268 of the TFEU). The Kotnik (19.7.2016, C-516/14) and Dowling (08.11.2016, 41/15) cases have allowed the Court to develop the issue of compatibility of the Union discipline of bank resolution—at the key point of the “bail in”—with the general principles of the Union and national constitutional rights, such as the right to property. The jurisprudence of the ECJ should be considered together with that of the GC, examined below, which appears so far to be fully consistent with the first. The Kotnik case derives from the request for a preliminary ruling of the Constitutional Court of Slovenia on several appeals of constitutionality presented against national measures implementing the extraordinary decisions of the Union for the reorganization of that country’s banking system. Specifically, the request for a preliminary ruling concerned the validity and interpretation of the 2013 Commission Communication on the banking sector and the interpretation of many provisions of Directive 2001/24, on the compulsory membership of credit institutions in a Member State’s guarantee scheme, and of Directive 2012/30, on the coordination of bank guarantees (indirectly also of Directive 2014/59 on reorganization and resolution of banks and investment firms). Apart from the preliminary issue of whether the Commission’s aforementioned bank communication was binding on the Member States, the questions raised by the Slovenian Constitutional Court concerned the compatibility of the Communication on the banking sector with the general principle of legitimate expectations, the right to property and the principles on the protection of the interests of shareholders and third parties. The ECJ considered the reference to the principle of legitimate expectations unfounded due to the fact that the Commission had not previously generated any guarantee for the privileged shareholders and creditors. The configuration of such a guarantee must be precise, unconditional and consistent with the assurances originating from the Union. But what matters most is that, even if the EU were to have first created a situation capable of giving rise to legitimate expectations, an overriding interest may preclude transitional measures from being adopted in respect of situations which arose before the new rules came into force, but which are still subject to change (para. 68).

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In Kotnik, the Court ruled that “the objective of securing the financial system while avoiding public spending and minimizing distortions of competition constitutes an overriding public interest of that kind” (para. 69). With regard to the guarantee of the right to property—the first case raised before the Court in the context of banking union law—the judgment interpreted Union law in a very cautious way: the Commission Communication did not create an obligation for Member States to carry out burden-sharing measures. Rather, the shareholders of the banks fully bear the risks of their investments and the subordinated creditors are paid after the holders of ordinary debentures, but before the shareholders. The measures taken must always respect the principle of proportionality which, in the case in question, meant not going beyond what is necessary to overcome the capital shortfall of the bank concerned. The caution of the Kotnik ruling on this issue is completely outdated in the Ledra judgment (20.09.2016, from C-8/15 to -10/15) on the Cyprus case, already examined under other profiles. In the latter case, the Court boldly stated that restrictions may be imposed on the exercise of property, provided that the restrictions genuinely meet objectives of a general interest and do not constitute, in relation to the aims pursued, a disproportionate and intolerable interference, substantively impairing the rights guaranteed (para. 69). For the Court, the objective of stability of the euro area banking system as a whole is a legitimate goal. Consequently, such measures do not constitute a disproportionate and intolerable interference which impair the very substance of the appellants’ property rights (this is also true from the standpoint of Article 17 of the ECHR). Once the principle of stability of the banking system as an objective of primary and imperative interest was affirmed in the Cyprus case, the Court drew the conclusion that measures taken to guarantee the Union’s financial stability are legitimate even when they limit the right to property, on the ­condition that they are proportionate and do not prejudice the very substance of their rights. Returning to the Kotnik judgment (case C-526/14), the Court examined the consistency of the “Communication for the banking sector” of 2013 with Directive 2001/24, also in light of Directive 2014/59 on the SRM, even though it came into force after the Communication. According to the Court, from the very wording of the provision of the notion of “reorganization measures”, the burden-sharing measures can be included within the concept of reorganization measures provided by Directive 2001/24. The conclusion is all the more grounded, given the SRM discipline, which imposes certain measures designed to reorganize banks and requires that those measures be expressly identified in order to guarantee the uniform application of Directive 2014/59.

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The impact of the new EU law on property rights and company law was further examined by the ECJ (not by chance, again, in the Grand Chamber) in the Dowling judgment, 8.11.2016, C-41/15. This decision arose from a preliminary ruling request made by the Irish Supreme Court, which had been lodged by the shareholders of a company operating in Ireland which opposed a measure taken in the context of the Union’s financial assistance to Ireland through the ESFM (not yet the ESM) implementing Council Decision 2011/77 of 7.12.2010, as amended by Council Decision 2011/326. In particular, the claimants brought their claim to the Irish courts to express their opposition to the order issued by the Supreme Court against the company to increase its capital and issue new shares to the Minister for an amount lower than their nominal value. The question referred to the ECJ for a preliminary ruling concerned the interpretation of various EU rules aimed at protecting the interests of members and third parties with regard to setting up the companies’ management. The Dowling judgment has already been examined in another chapter of the book (as Chap. 15). Here, however, we are interested in the part of the Court’s decision where it referred to a “situation where there is a serious disturbance of the economy and the financial system of a Member State threatening the financial stability of the Union”. Indeed, on the basis of that broad purpose, the Court held that “although there is a clear public interest in ensuring throughout the EU a strong and consistent protection of shareholders and creditors, that interest cannot be held to prevail in all circumstances over the public interest in ensuring the stability of the financial system established by those measures” (para. 54). In the situation at hand, EU law allows a derogation from the usual rules of company law (such as the injunctive order of the court without the consent of the general assembly of the company) if it is adopted to avoid “a systemic risk and the financial stability of the EU” (para. 51). With the Dowling ruling, the Court definitively outlined the principle of financial stability as a primary principle of general EU law and not only of the EBU law.

9

 he SSM and SRM in Action. The Case Law T of the General Court

9.1. The role of the GC in shaping banking union law is different from that of the ECJ as a consequence of its position in the architecture of the European judiciary. The GC is activated by the interested parties (any natural or legal person) with a direct action, pursuant to Article 263 of the TFEU, for the

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illegitimacy of acts adopted against them or concerning them directly and individually and against regulatory acts that directly concern them and that do not entail any implementing measure. The GC therefore has a “frontal” role in the cases activated by the interested parties, who are mainly banks, shareholders and bond investors. In this way, while the ECJ examines the pillars of the banking union, the GC finds itself deciding the procedural issues of the actions brought by the interested parties (legitimation to resort, interest in bringing actions, etc.); the relevance of national law in the frequent cases of interaction and overlapping with EBU law; the legitimacy of the acts adopted by the ECB in the exercise of its supervisory and resolution functions. However, there have also been cases in which the GC dealt with general issues, such as the European Stability Mechanism (ESM). 9.2. The first significant contribution of the GC’s jurisprudence has been, as mentioned, the clarification of procedural issues for the judicial protection of those directly involved according to the provisions of Article 263 of the TFEU. In the Trasta case, which involved a small Latvian bank whose authorization to operate had been withdrawn by the ECB, the GC defined (see order 12.9.2017, T-247/16) the conditions of the actions of the bank’s bodies and shareholders in reference to standing (the legitimacy to resort) and to the interest in bringing proceedings (the interest to claim). The ECB had pleaded that the appeal was inadmissible on the grounds that the procedural conditions have not been met. In this regard, the GC first referred to the general criterion that an interest in bringing proceedings and locus standi are distinct conditions for the admissibility of the annulment proceedings instituted by a natural or legal person under Article 263.4 of the TFEU. Furthermore, looking at the Trasta case, the GC stated that, as a result of the liquidation, the shareholders have effectively been prevented from exercising their rights as shareholders if the powers of the company’s management bodies have been transferred to a liquidator, outside the ordinary rules of company law. The admissibility question has been appealed by the ECB (C-663/17) and the Commission (C-665/17). The conclusions reached by the GC in the Trasta case are in line with several earlier judgments and were reiterated in the Chrysostomides case, 13.7.2018, T-680/13. Therefore, they must be considered as consolidated jurisprudence. 9.3. Among the various issues before the GC, a particularly important one was the compatibility of the European Stability Mechanism (ESM) with the EU institutional framework, in the perspective of the actions raised by the

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shareholders of Cypriot banks who were heavily penalized by the ECB’s bank restructuring measures. In this regard, the GC has, on the one hand, adopted the conclusions expressed by the ECJ in its ESM ruling (C-370/12); on the other hand, it has developed further consequences. In Chrysostomides, the GC acted in an almost constitutional guise, similar to the Court of Justice, in defining the scope of the ESM Treaty. 9.4. A second issue considered by GC case law is the definition of “significant” banks and credit institutions compared to “less significant” ones, according to Regulation n. 1024/2013, supplemented by ECB Regulation n. 468/2014 (the “framework regulation”), a distinction which is particularly relevant for the purposes of the type of supervision of the banks and credit institutions defined as such. A widespread opinion held that supervision of the “less significant” credit entities lies with the national supervisory authorities and not with the ECB, as the competence of the national supervisory authorities overlaps with that of the ECB with regard to “significant” banks. The GC position differed from this position, as expressed by the seminal case Landeskreditbank Baden-Württemberg (ruling 16.5.2017, T-122/17), after it performed an accurate assessment of the merits of the case. The Landeskreditbank—totally owned by the German Land Baden-­ Württemberg—brought an action against the ECB decision of 25.6.2014, arguing that the notion of “significant/less significant” bank is legally indeterminate, and therefore to be interpreted according to the principles of proportionality and subsidiarity, taking into account the specific circumstances of the bank and the capability for the German authorities to secure the objectives of the 2013 basic regulation. Apart from the specific circumstances of the case, the ruling is of great importance as it clarifies that the exclusive competences attributed to the ECB by the basic regulation do not provide for a division of powers with the national authorities, but only a decentralized implementation in certain circumstances, always under the control of the ECB, which is also the competent body for the determination of what the “special circumstances” are. It follows from this conclusion that the ECB’s role is enhanced and the supervisory function is centralized. Precisely, according to the Court, it is apparent from the examination of the Basic Regulation that the logic of the relationship between them consists “in allowing the exclusive competences delegated to the ECB to be implemented within a decentralised framework, rather than having a distribution of competences between the ECB and the national authorities in the perfor-

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mances of the tasks referred to in Article 4.1 of that Regulation” (para. 54). The judgment is currently under appeal (C-450/17).22 9.5. Apart from the specific German case considered by the GC, the ruling shows that the European judges are supporting an “integrative”, almost federalist, approach to EBU policies. This does not imply, however, that the ECB’s decisions are not subject to judicial review. It is, in fact, a general principle—reaffirmed in the Arkea case (judgment 13.12.2017, T-712/15)—that the interpretation of the relevant legislation by an administrative authority or by the ECB cannot bind EU courts, which remain the only competent entities for the interpretation of EU law, by virtue of Article 19 of the TEU. More specifically, in the Landeskreditbank case, the GC promptly verified in what manner the ECB had used its power to substantiate all the relevant circumstances for defining the character—significant or not—of the bank. The GC’s verification took place, above all, in reference to the right to good administration, set forth in Article 41 of the Charter of Fundamental Rights. The GC held in the affirmative because it found that the ECB had carefully and impartially examined all the relevant elements of the case. 9.6. To demonstrate the justiciability of the decisions of the ECB and the importance of judicial review, it is also worth noting the Banque Postal case in which the GC (judgment 13.7.2018, T-733/16) annulled an ECB provision limiting the leverage ratios for financial services used by Banque Postal and other “significant” French banks (whose actions were joined with that of Banque Postal) as an incorrect exercise of the ECB’s discretionary powers. The case is worthy of attention not only because it is the first example of annulment of ECB supervisory acts, but also because of the fact that the GC has reviewed the exercise of a discretionary power entrusted by the regulation to the ECB.  The GC has verified an instance of concrete use of discretion exceeding the limits—well-known in the national jurisprudence of many Member States, followed substantially by the ECJ in the review of the Commission’s competition proceedings—of the “soft review” of acts of technical authorities, defined in the ECJ jurisprudence as the “limited standard of review”. This happened on the basis of a rather bold reconstruction (not just literal, but teleological and contextual) of the ECB’s power for the definition of the “risk coefficients”. Although the GC is moving away from a type of control deferent to the margin of appreciation recognized to the administrative authorities, its rul According to the opinion of Advocate General Hogan, delivered on 5.12.2018, the appeal should be dismissed. 22

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ings should not be seen as replacements for the ECB’s decisions, but rather as verifications of the “external” legitimacy due to an error of law.23 In the same field of case law—increasing due to the strengthening of the ECB’s supervisory function—the Credit Agricole24 case should also be noted. This case was promoted by the French bank against an ECB decision forbidding the possibility that the same person hold the management positions of chairman of the managing body of a credit institution in its supervisory function as well as the role of Chief Executive Officer in the same banking establishment. In Credit Agricole, the ECJ ascertained the legitimacy of the ECB’s decision, again using the teleological and contextual interpretative argument as the case could not be based on a literal interpretation. The Credit Agricole judgment should also be noted for the GC’s extensive use of French national law, as interpreted by the jurisprudence of that country, in particular by the Conseil d’Etat. The same thing happened in the aforementioned Banque Postal case where the parties and the same GC referred to the French regulations on savings funds (the Code monétaire et financier). 9.7. Finally, the jurisprudence of the GC on the possible violation by measures adopted in the EBU framework of rights guaranteed by national constitutions and the Charter should also be remembered. Unlike the usual situation, where the GC acts as an administrative court determining the legitimacy of acts of the institutions and other bodies of the Union, here the GC has acted as the equivalent of a constitutional court by verifying the compliance of the ECB and other institutions with the Treaties and the Charter. Perhaps it can be said that these cases demonstrate that a new kind of European constitutional justice has been born. In the Chrysostomides case (the aforementioned T-680/13 case), the ECB’s provisions were contested for infringement of the right to property (recognized by the constitutions of the Member States, the Charter of Fundamental Rights and the ECHR of the Council of Europe) and for violation of the principles of legitimate expectations and proportionality (general principles of EU law). The case was therefore similar, in particular regarding the right to property, to that decided by the ECJ in the Ledra ruling, examined above. The GC has easily dismissed the action against the two general principles, especially legitimate expectations, because the ECB and the institutions had previously no reliance on the interested parties (irrefutable circumstances, given the novelty of the case). Not at all obvious, however, was the solution to

23 24

 Confirmed in the Arkea case (T-212/15).  Joint cases T-133/16 to 136/16.

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the issue of violation of property rights, despite the ECJ’s Ledra ruling and the vast criticisms of judicial science. The GC reiterated that the right to property is not an absolute right and that the measures in question were aimed at objectives of public interest, in particular the stability of the banking system in the euro area. But, precisely because of its role as judge for the parties directly involved, it wanted to thoroughly analyze the disputed measures in order to verify the legality of the contested measures.

10

Conclusions

This study of the jurisprudence of the European Union courts confirms that, also for the banking union, the ECJ’s contribution has been decisive for the configuration of this branch of Union law, despite the number of legislative acts and various rules adopted by the institutions and other bodies of the Union. The central importance of judicial protection has not been reduced by the administrative remedies provided by regulations which ensure rapid forms of protection and judgments made by experts. The first experience of the administrative protection system—not mandatory as a condition of procedure for the subsequent judicial action—shows that the interested parties preferred, for the most part, to bring judicial proceedings to the EU Courts. The ECJ has interpreted the new disciplines of European financial governance (such as the ESM) in a manner compatible with EU law, even when their origin and certain characteristics appeared anomalous. The role of the ECB, which has greatly increased in the banking union, has been delimited by the jurisprudence so that it can “fall squarely within the Community framework”. In particular, the full fairness of the ECB’s acts has been confirmed through judicial review which has not been limited to an “external” control of legality, as demonstrated by those judgments which have annulled the acts of the ECB in its exercise of the supervisory function. The ECJ and GC have been exercising their different roles in full. The ECJ has been asked by many courts of last resort and by several constitutional courts to interpret banking union law in the context of general Union law. Moreover, it frequently receives appeals to decide upon the judgments of the GC. The latter is the judge for the interested parties (banks, shareholders, etc.) affected by acts of the ECB and other bodies of the European Union. A feature of the GC jurisprudence in this area, much more prominent than in other fields, is the examination of general questions (such as the impact of the

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new discipline on the fundamental rights of those concerned) which are usually examined by the ECJ, but brought to the GC by private parties which are directly involved. A final consideration concerns the role of national laws as a legal benchmark for judges of the European Union in some of the cases examined above. The ECJ used the relevant national law in the cases under examination in the interpretation given by the judges of that legal system. This circumstance is not frequent in the Court’s jurisprudence, but is fully consistent with banking union law, which is also composed of national disciplines, thereby establishing an additional form of dialogue/integration between national and Union courts.

References Brescia Morra C., Smits R., Magliari A. (2017), The Administrative Board of Review of the European Central Bank: Experience After 2 Years, Eur. Bus. Org. Law Rev., 567–589 Cassese S., The new framework of administrative arrangements for the protection of individual rights, ECB Legal Conference 2017, 239–254 Chiti E., Recine F. (2018), The Single Supervisory Mechanism in Action: Institutional Adjustment and the Reinforcement of the ECB Position, Eur. Public Law, 101–125 Chiti E., Vesperini G. (eds) (2015), The Administrative Architecture of Financial Integration. Institutional Design, Legal Issues, Perspectives, Il Mulino Chiti M.P. (2014), The transition from banking supervision to banking resolution. Players, competences, guarantees, Towards the European Banking Union, E. Barucci, M. Messori (eds.), 89–98 Chiti M.P. (2016), The New European Economic Governance and the Banking Union, European Review of Public Law, 189–204 De Lucia L. (2014), The microphysics of European administrative law: administrative remedies in the EU after Lisbon, Eur. Public Law, 277–307 De Witte B., Beukers T. (2013), The Court of Justice approves the creation of the ESM outside the EU legal order: Pringle, Common Market Law Review, 805–848 ECB Legal Conference 2017 (2018), Shaping a new legal order for Europe: a tale of crises and opportunities, ECB Fabbrini F. (2016), The European Court of Justice, the ECB and the Supremacy of EU Law, Maastricht Journal of European and Comparative Law, 3–16 Judicial review in the Banking Union and in the EU financial architecture (2018), Quaderni Giuridici della Banca d’Italia Kokott J., Sobotta C., Judicial review and institutional balance with regard to European monetary policy, ECB Legal Conference 2017, 104–110

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Lehman M., Varying standards of judicial scrutiny over central banks actions, ECB Legal Conference 2017, 112–131 Lo Schiavo G. (2017), The Role of Financial Stability in EU Law and Policy, Wolters Kluwer Repasi A. (2017), Judicial protection against austerity measures in the euro area, Common Market Law Review, 1123–1156 Tridimas T., Xanthoulis N. (2016), A legal analysis of the Gauweiler Case, Maastricht Journal of European and Comparative Law, 17–39 Zilioli C. (2016), The ECB’s Powers and Institutional Role in the Financial Crisis, Maastricht Journal of European and Comparative Law, 171–184 Zilioli C., Justiciability of central banks decisions and the imperative to respect fundamental rights, ECB Legal Conference 2017, 91–102 Zilioli C. (2018), La Corte, giudice costituzionale delle competenze attribuite alle istituzioni dell’Unione: il caso della Banca centrale europea, Liber Amicorum in Honour of Antonio Tizzano, Giappichelli, 1051–1065

7 The Future of the European Banking Union: Risk-Sharing and Democratic Legitimacy Pedro Gustavo Teixeira

1

Introduction

The Banking Union emerged out of the Euro Area Summit of 29 June 2012, where it was decided to establish the Single Supervisory Mechanism (SSM), through the transfer of banking supervision competences to the ECB.  The objective was to address the sovereign debt crisis, then at its peak, by cutting the link between banks and sovereigns. At the time of writing, the Banking Union has been operational for four years. Its first pillar, the SSM, became operational on 4 November 2014. It was followed by the Single Resolution Mechanism (SRM), with a Single Resolution Board (SRB) and a Single Resolution Fund (SRF), which became operational on 1 January 2016. As eventful as it might already have been, it is too early to assess the success and pitfalls of a legal and institutional change of such magnitude: the transfer of banking supervision and resolution powers to single European authorities. Instead, this chapter looks into the future of the Banking Union. What will make the Banking Union sustainable over time and reach its

The views expressed are those of the author and do not necessarily represent those of his institution (ECB).

P. G. Teixeira (*) Institute for Law and Finance, Goethe-Universität, and European Central Bank, Frankfurt, Germany © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_7

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twentieth anniversary on 4 November 2034? What will be its resilience to major shocks, such as a systemic financial crisis? The debate about the long-term sustainability of the Banking Union is much less elaborate than that about the Monetary Union. In order to contribute to such a debate, this chapter deals with two of the main factors for its sustainability, which remain unresolved at this stage: (1) the extent to which the Banking Union can rely on risk-sharing at the European level, which was one of its original purposes; and (2) the extent to which it can secure democratic legitimacy, particularly for the distributive implications that it is bound to have over time at both the European and national levels.

2

 he Legal History of Risk-Sharing T and Democratic Accountability in the Single Financial Market

While being a spin-off of the Monetary Union—with the initial legal basis of Article 127.6 TFEU from the Monetary Policy Chapter of the Treaty and involving the ECB—the Banking Union is, at the same time, the outcome of the legal and institutional evolution of the single financial market. The single financial market has evolved along several phases, whereby each represented the equilibrium which was reached at a certain time between: (1) expanding European competences to increase financial integration; and (2) preserving national sovereignty at the level politically acceptable to Member States. Along the way, the transition between phases was made through legal and institutional innovations to deepen integration, often at the boundaries of what could be achieved under the Treaty (Teixeira 2017). The tension between progress in integration and national sovereignty has been at the core of this evolution. This is because relinquishing sovereignty in the regulation of finance constrains national sovereignty in many areas of economic policy. Such tension was already noted as early as in the 1956 Spaak Report, which concluded that full economic integration would not be achieved until Member States renounced to autonomous budgetary, financial and social policies, and until they created a single currency (Spaak Report 1956).

2.1

Beginnings

In the first phase of the single financial market, from the mid-1970s until the mid-1980s, the initial directives aimed at lifting restrictions in Member States to the freedoms of establishment and provision of financial services. The most

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noteworthy legal innovation was the introduction of the principle of home-­ country control in the First Banking Directive in 1977. The progress made in market integration in this initial period was however insignificant. Member States remained protective of their financial industry, including through capital controls. Harmonisation of national laws was hindered by unanimity voting and Member States safeguarded the application of national law as a matter of public interest. The second phase then started with the 1985 White Paper of the European Commission on the completion of the internal market. Following the jurisprudence of Dassonville and Cassis de Dijon, it heralded a new approach to market integration, based on liberalisation and removal of obstacles to the internal market. In financial services, this was translated into the concept of the ‘single passport’, which was introduced by the Second Banking Directive of 1989: financial institutions could provide services with a single licence issued by the home-country, subject to mutual recognition and minimum harmonisation of national laws. Regulatory competition among Member States would lead over time to the optimal rules for integrated markets. In the end, this approach also did not deliver the expected level of market integration. The financial industry remained highly regulated and protected by Member States. Mutual recognition was hindered by divergent enforcement practices of national authorities and by the widespread use of the ‘general good exception’, which enabled host-country Member States to apply their national laws against mutual recognition (Padoa-Schioppa 2004).

2.2

Multilevel Governance

The third phase coincided with the introduction of the euro on 1 January 1999. It triggered several legal and institutional innovations to integrate the single financial market, so as to take advantage of the benefits of a single currency. The 1999 Financial Services Action Plan put forward 42 initiatives for harmonising national laws, which aimed at overcoming the minimum harmonisation of the previous period. In 2001, the recommendations of the Lamfalussy Report led to a new system of regulation of the single financial market. A multilevel governance framework was set-up. It included an ­expansion of comitology procedures, in order to increase the degree of harmonisation by European financial legislation. And it was based on the establishment of European committees comprising national authorities for each financial sector, in order to enable the convergence in enforcement practices. The aim was to regulate as much as possible the single financial market at the European level without any transfer of competences or changes to the Treaty.

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This would be achieved by involving national authorities in the regulatory system, basically through committees. The European regulation would then emerge out of the systematic coordination of national competences (Lamfalussy Report 2001). This initiative to govern the single financial market at the European level, without any transfer of competences, implied that national authorities remained exclusively responsible for the prevention and management of financial crises. Any risk-sharing among Member States would infringe national sovereignty. Therefore, while the integration of the single financial market increased the likelihood of a crisis affecting several Member States, there was no crisis management and risk-sharing framework in place (Schinasi and Teixeira 2006). As the multilevel governance of the single financial market expanded, concerns about its democratic control started to be raised for the first time. This was because governance mechanisms, like committees, operated above and across national jurisdictions, largely based on voluntary and informal procedures, and without a clear centre of authority. As a result, governance largely eluded democratic control, despite its growing regulatory impact. This led to a gradual emphasis on transparency and accountability as sources of legitimacy. For example, public consultations on regulatory initiatives became regular practice, and committees of national authorities started to report on their activities to the European Parliament. In any case, such transparency and accountability practices remained embryonic and did not have the quality to achieve democratic legitimacy: national authorities participating in committees remained solely accountable to their respective national political institutions and had no mandate to pursue the European interest.

2.3

The Financial Crisis

The last phase, before the Banking Union, corresponded to the financial crisis in Europe, particularly after the collapse of Lehman Brothers on 15 September 2008. The absence of crisis management and risk-sharing mechanisms at the European level meant that there could be only national responses to the crisis. This was confirmed at the first ever Euro Area Summit, held in Paris on 12 October 2008, where the Member States did not agree on a European response but only on a broad coordination framework for national rescue measures. The committees which were set up in the previous period were also ineffective as national authorities remained accountable only at the national level. As a result, the single financial market was largely ‘renationalised’, with Member

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States ring-fencing their markets and providing support only to their domestic financial institutions. The cross-border financial groups affected by the crisis had to be split into their national components, which were then supported separately by Member States. This proved that financial integration could not be sustained over time solely on the basis of national competences for financial institutions and markets. It would be later one of the main justifications for the Banking Union. Given the consequences of the crisis for the single financial market, the De Larosière Report put forward recommendations for legal and institutional reform, which were then implemented in the next few years. The first recommendation was to replace the previous committees by European Supervisory Authorities (ESAs), in the form of European agencies with enhanced instruments to converge national enforcement practices. The second was to establish a European Systemic Risk Board (ESRB) to conduct macro-prudential oversight of the EU. The third was to develop a ‘single rulebook’, which would be based as much as possible on maximum harmonisation and on directly applicable EU regulations (De Larosière Report 2009). National sovereignty remained, however, dominant in this new institutional architecture. The instruments of the ESAs and the ESRB are largely non-binding and cannot be imposed against Member States. The limited possibilities where the ESAs can take binding decisions can also be opposed by Member States if such decisions impinge on fiscal responsibilities. Therefore, despite the financial crisis, there were still no European arrangements for risk-­ sharing and crisis management among Member States. The competences for financial stability remained at the national level. The financial crisis also questioned the democratic legitimacy of the regulation of finance. Until the crisis, financial regulation was perceived as the outcome of technical choices to ensure a well-functioning financial system. When risks materialised with the crisis, society bore the costs by bailing out financial institutions and enduring the economic implications. The crisis exposed thus the illusion that financial regulation had no distributive implications. Instead, financial regulation reflects the degree of societal tolerance to the risks of finance. Greater tolerance of risks translates in the increased likelihood that taxpayers’ funds will be used as the ultimate backstop. From then on, financial regulation became thus a matter more and more subject to democratic control. This was reflected in the institutional framework of the ESAs and the ESRB, which are accountable to the European Parliament and the Council, fulfils several reporting obligations and due process requirements, such as conducting impact assessments and public consultations before adopting regulatory technical standards (Ferran 2012).

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Risk-Sharing in the Banking Union

The origin of the sovereign debt crisis—which started in late 2009, when Greece disclosed a much higher fiscal deficit than it was supposed to—was the realisation that a Member State of the Monetary Union could default. Until then, there had been the assumption that such an event was implausible, despite the no bail-out principle of Article 125 TFEU, which prevents the Union or any Member State from being liable or assuming the commitments of another Member State. In other words, in accordance with the Treaty, there is no fiscal risk-sharing in the Monetary Union, only exclusive national liability. Later, the establishment of the European Stability Mechanism (ESM) in 2013 was preceded by an amendment to Article 136 TFEU, which enabled the Euro Area Member States to establish a mechanism to safeguard the stability of the euro area by granting financial assistance subject to strict conditionality. This amendment confirmed the compatibility of the ESM with European law, including the bail-out prohibition, as the Court concluded in the Pringle case. Moreover, the ESM was established by an intergovernmental agreement, outside the Treaty. This also prevented the transfer of competences to the European level, thus preserving national fiscal sovereignty in the operation of the ESM. Therefore, the ESM, as a risk-sharing mechanism for preserving the euro area, was established outside the EU framework and remained subject to national fiscal competences (de Gregorio Merino 2012).

3.1

The Direct Recapitalisation of Banks by the ESM

The involvement of the ESM in the sovereign debt crisis was the rationale for the creation of the SSM. The statement of the Euro Area Summit of 29 June 2012 indicated that the objective was “to break the vicious circle between banks and sovereigns” by enabling the direct recapitalisation of euro area banks by the ESM. This would imply that the burden of rescuing an u ­ ndercapitalised bank would not fall on national public accounts and increase the debt of a Member State. Instead, the recapitalisation would be mutualised among the Member States underwriting the ESM. In order for the ESM to be activated, the national banking supervision competences would first need to be transferred to the European level of the ECB/SSM. The logic was that the Euro Area liability required Euro Area control. National authorities with national mandates would not have the incentives to minimise euro area liabilities;

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instead, Euro Area liability for national actions would lead to moral hazard. There was, therefore, a quid pro quo between the mutualisation of risks in the ESM and the loss of national sovereignty over banking supervision. Ultimately, the scope for the involvement of the ESM in recapitalising directly euro area banks was significantly reduced if not removed. Two years after the Euro Area Summit, the Bank Recovery and Resolution Directive (BRRD) was adopted and entered into force in 2015. It was followed by a regulation under Article 114 TFEU establishing the SRM, which provided the institutional framework to apply the BRRD in the Banking Union (Moloney 2014). The BRRD introduced a new principle in the single financial market: the prohibition of bailing out banks with public funds. Under the terms of the BRRD—Article 32.4 (d)—a bank shall be deemed to be failing or likely to fail if public financial support is ever required, unless such public support is of a precautionary nature. This thus excluded the possibility of public recapitalisation of banks to cover financial losses.

3.2

 he Prohibition of Bail-Outs and the Introduction T of Bail-In

The bail-in of shareholders and creditors of a failing institution was introduced by the BRRD as the main instrument, which precludes the bail-out with public funds. Bail-in is not an alternative to other resolution tools. It is mandatory in order to recapitalise an institution under resolution and restore its viability and capital requirements, or to provide capital to a bridge institution, support the sale of business or the asset separation tools. In the Banking Union, the SRB applies this tool in accordance with the BRRD rules, including the possibility to exclude certain liabilities from the bail-in, for example when necessary and proportionate to avoid giving rise to widespread contagion, which would severely disrupt the functioning of financial markets, in a manner that could cause a serious disturbance to the economy of a Member State or of the Union (Article 27.5 (c) of the SRM Regulation). The SRB has thus some discretion to consider financial stability implications of the application of the bail-in tool. The main safeguard of shareholders and creditors against bail-in is the ‘no creditor worse off’ (NCWO) principle, according to which the value of their property rights over the bank in resolution should not fall below the value that they would have if the bank had been subject to insolvency proceedings (Binder 2016).

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The key objective of the BRRD is, therefore, to prohibit the use of public funds to bail-out a bank. The recapitalisation or the absorption of financial losses should be relying, to the largest extent possible, on private investors. For this purpose, it was the first time that European law provided instruments with the aim of affecting private property rights of shareholders and creditors. Moreover, the SRM Regulation then provided a degree of discretion to a European authority to decide on the extent to which private property should be affected. This was subject to a number of safeguards to preserve fundamental rights, notably the above NCWO principle. However, it certainly represented a much more intrusive legal regime than ever before in the single financial market (Wojcik 2016). The BRRD and the SRM Regulations operated in this way a fundamental shift in the assumption of risks in the single financial market: from public liability, in the form of bail-out of banks in crisis with taxpayers’ funds, to private liability, in the form of mandatory bail-in of shareholders and creditors of banks in resolution.

3.3

The Single Resolution Fund

This shift was further complemented by the establishment of the SRF. The SRF replaced the national resolution funds of the Member States of the Banking Union. It is managed and owned by the SRB.  When required, it finances the resolution actions taken by the SRB, including providing loans and guarantees, and to cover losses or recapitalise a bank under resolution or a bridge bank. It is funded by annual levies on the banks subject to the SRM, which are raised by national resolution authorities and calculated on the basis of their respective size of liabilities and risk profile. The SRF should reach by 2024 a target level of 1% of the covered deposits of all banks in the Banking Union (around 55 billion euro). In the absence of scope for the involvement of the ESM in recapitalising directly euro area banks, the SRF is the only existing (private) risk-sharing mechanism in the Banking Union: funds collected on a mandatory basis from banks located in each Member State are pooled together in a European fund in order to finance the resolution of banks located in any of the Member States of the Banking Union. Member States also agreed to transfer their existing resolution funds and the levies raised from banks in their jurisdictions to the SRF. For this reason—the fact that it is a risk-sharing mechanism—the SRM Regulation included a number of safeguards to national fiscal sovereignty in the use of the SRF. The first is the explicit principle that resolution actions

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should neither require Member States to provide extraordinary public support nor impinge on the budgetary sovereignty and fiscal responsibilities of Member States (Article 6.6 of the SRM Regulation). If the SRF ever requires additional funds, it should obtain them from the banks via extraordinary contributions or borrow at commercial terms from financial institutions. Second, the SRF can only be deployed when at least 8% of a bank’s total assets are bailed in and, even in such a case, the SRF contribution cannot exceed 5% of the total liabilities of the bank. Third, there are procedural safeguards, such as the requirement that the plenary session of the SRB approves the use of the SRF, including a majority of national members representing at least 30% of the contributions to the SRF. Furthermore, the Council can object to the use of the SRF. Finally, the SRF is subject to fund aid control by the Commission, so as to ensure that its intervention is compatible with the internal market. Similarly to state aid control, the Commission may decide to impose conditions or reject the use of the SRF. In turn, such Commission decision can be pre-empted by the Council if it unanimously concludes that the fund aid is indeed compatible with the internal market. These safeguards as to the activation of the SRF confirm the wide reach of the bail-out prohibition introduced by the BRRD. It includes not only the use of public funds to bail out banks but also the use of the SRF funded by bank levies, despite not constituting fiscal resources. The aim is to dispel any concern that the SRF could evade the spirit of the bail-out prohibition (Teixeira 2017).

3.4

The Privatisation of Risk-Sharing

Therefore, while the Banking Union was originally created to enable risk-­ sharing among the Euro Area Member States in the recapitalisation of banks by the ESM and on the basis of the establishment of the SSM, it ended-up by leading to ‘privatisation’ of such risk-sharing. With the bank resolution regime introduced by the BRRD and the SRM, there was no transition from national public liabilities to a European public liability for the banking sector. Instead, the risks were transferred to private parties through the mandatory bail in of shareholders and creditors. Such ‘privatisation’ was further implemented with the SRF, which is funded by levies on the banking industry. Moreover, the use of the SRF is subject to the safeguards just mentioned, which prevent it from being used in a mode akin to public funds. All this also reflects the reluctance of Member States to transfer powers to use resources of any semblance to public funds to the European level.

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 he Democratic Legitimacy of the Banking T Union

One of the main challenges in creating the Banking Union was how to ensure its democratic legitimacy, given its implications for national sovereignty and economic welfare, and the various European and national levels at which competences and powers are exercised. The transfer of banking supervision and resolution competences implied entrusting European authorities with significant responsibilities, which were previously close to national fiscal sovereignty and subject to political accountability. The exercise of such competences would have distributive consequences not only at the European but also at the national level. The day-to-day policy decisions of the ECB/SSM and the SRB would impact the functioning of the banking sector, its financing of the economy and its stability, including in the event of banking crises both within the Banking Union and in each Member State. Furthermore, the SSM and SRM consist of a complex system of competences, combining the actions of European and national authorities, the exercise of European and national powers, the application of European and national laws subject to judicial review of European and national courts. Lastly, the ECB/SSM and the SRB would be responsible for managing public funds collected at the European level, namely, the fees to finance their own functioning as well as the contributions of banks and the transfers of national resolution funds to the SRF. Therefore, the democratic legitimacy question was twofold: (1) how to ensure that the conduct of European banking supervision and resolution competences is democratically legitimate? and (2) how to make the ECB/ SSM and the SRM accountable for their decisions, given their potential distributive implications at both the European and national levels? The SSM and SRM Regulations then provided several mechanisms to address this legitimacy challenge, including:(1) introducing legal safeguards to constrain banking supervision and resolution decisions at the European and national levels;(2) endowing the ECB/SSM and the SRB with institutional independence; and (3) the setting up a of framework of multilevel accountability to the European Parliament and national parliaments.

4.1

Legal Safeguards for Decision-Making

The legal safeguards included provisions protecting the integrity of national fiscal sovereignty and mandating the ECB/SSM and the SRB to consider both the European and national implications of their decisions. Such safeguards

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start with the recitals of the SSM and the SRM Regulations, which acknowledge that European supervision and resolution competences can still have implications for national fiscal sovereignty (Recitals (56) and (24), respectively, of the SSM and SRM Regulations). The ECB and the SRB are then required to pursue financial stability both at the European and national levels (Article 1 and Article 6.3, respectively, of the SSM and SRM Regulations). Most importantly, the SRM Regulation explicitly requires the SRB to operate a balancing act in its decision-making between the interests of the EU and those of individual Member States “as appropriate to the nature and circumstances of each case” (Article 6.5 of the SRM Regulation). It prescribes that the SRB should take due consideration not only of the resolution objectives but also of several factors when making decisions which may have an impact in more than one Member State: “(a) the interests of the Member States where a group operates and in particular the impact of any decision or action or inaction on the financial stability, fiscal resources, the economy, the financing arrangements, the deposit guarantee scheme or the investor compensation scheme of any of those Member States and on the Fund;” and “(b) the objective of balancing the interests of the various Member States involved and of avoiding unfairly prejudicing or unfairly protecting the interests of a Member State” (Article 6.3 (a) and (b) of the SRM Regulation). The SRB is also prohibited from requiring Member States to provide extraordinary public financial support or impinging on the budgetary sovereignty and fiscal responsibilities of the Member States (Article 6.6 of the SRM Regulation). The SSM and SRM Regulations acknowledged, therefore, the distributive implications in terms of benefits and costs among Member States of the Banking Union: the European supervision and resolution of banks can impact on individual Member States and more on some Member States than others, depending on the circumstances. The ECB/SSM and the SRB are thus legally obliged to take such implications ex ante into account in their decision-­ making. This, in principle, would aim at assuaging democratic concerns that the ECB/SSM and the SRM would exercise their competences and powers in the European interest and not in favour of one Member State against another. Otherwise, as an ex-post-judicial control, banking supervision and resolution decisions may be legally challenged on such grounds.

4.2

Institutional Independence

Besides the above legal safeguards, the other mechanism was endowing the European conduct of banking supervision and resolution competences with unprecedented institutional independence. This would insulate the ECB/

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SSM and the SRB from European and national political preferences as a condition for the legitimacy of its actions. Before the Banking Union, central banking independence was elevated to a constitutional principle of the Treaty with the establishment of the ECB. Beyond the arguments for such independence relating to the effectiveness of monetary policy, the rationale was to ensure that the ECB would be insulated from national preferences. Otherwise, this could undermine the credibility of the ECB in conducting monetary policy in the interest of the euro area as a whole. As this precedent has shown, the transfer of competences from the national to the European level is, in itself, the reason for the independence of a policy function. This is particularly so with regard to policies which have distributive effects: if supranational powers are exercised to the benefit of some political units and to the detriment of others, not only do they lose legitimacy but it may give rise to political disintegration (James 2010). With the establishment of the SSM and the SRM, banking supervision and resolution then gained an independent status largely equivalent to that of central banking. The SSM and the SRM Regulations define independence in terms similar to that of the ECB under the Treaty: the members of the Supervisory Board and of the SRB “shall act independently and objectively in the interest of the Union as a whole and shall neither seek nor take instructions from the Union’s institutions or bodies, from any government of a Member State or from any other public or private body” (Article 19 and Article 47, respectively, of the SSM and SRM Regulations) (Zilioli 2016). Therefore, the potential distributive effects of banking supervision and resolution policies, which required before the Banking Union a proximity to the national political institutions, led instead in the Banking Union to the opposite: insulation from both national and European politics.

4.3

Multilevel Accountability

The Banking Union required a framework to secure output legitimacy in the form of democratic control over independent European policy functions, which had significant distributive effects both at the European and national levels. The innovation in this respect was the development of a multilevel democratic accountability: for the first time in European law, both the European Parliament and national parliaments play a role in the accountability of European institutions and bodies.

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At the European level, the ECB/SSM and the SRB are primarily accountable for the conduct of their tasks to the Parliament and the Council, in line with the principle that accountability for European competences is at the level of the EU institutions. The SRB is, in addition, accountable to the Commission, given its involvement in the decision-making process. The accountability to the Parliament includes the appearance of the Chairs of the Supervisory Board and the SRB in hearings and in confidential discussions with the competent Parliament committee. Under Article 226 TFEU, the Parliament may set up committees of inquiry to investigate alleged contraventions or maladministration of the ECB/SSM and SRM. The Parliament is also entitled to access confidential information, subject to professional secrecy requirements. The interaction between the Parliament and the ECB/ SSM and SRB is detailed in two interinstitutional agreements. The accountability to the Council includes reporting, hearings and answering questions. The SSM is accountable to the Eurogroup, which should include the Member States outside the euro area in ‘close cooperation’. This specific configuration thus gives rise to a new form of political accountability in the shape of the Eurogroup, as an informal body, and in extended composition. This is not explicitly provided with regard to the SRB, which is accountable to the Council. The reason for this difference is likely related to the formal involvement of the Council as an institution in the decision-making of the SRB. The SSM and the SRB are also required to report to the national parliaments of the participating Member States, starting by transmitting their annual reports. In turn, the national parliaments may ask questions and invite the Chairs of the Supervisory Board or the SRB for hearings, together with the national authority of the Member State in question. The involvement of national parliaments does not correspond to a formal relationship of accountability but more to the provision of information along the lines of Protocol No. 1 TFEU on the role of national parliaments in the Union. However, it does involve national parliaments in the regular monitoring of the functioning of the SSM and the SRM, thus providing another layer of democratic scrutiny. At the same time, national supervisory and resolution authorities remain accountable to national parliaments not only for those tasks not transferred to the ECB/SSM and the SRB, but also for those within the SSM and SRM frameworks, including the supervision and resolution of less significant institutions as well as the assistance to ECB/ SSM and the SRB.

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Achieving Legitimacy

The answer to provide democratic legitimacy to the Banking Union was thus a combination of these mechanisms—legal safeguards, institutional independence and multilevel accountability to the European Parliament and national parliaments—in the conduct of banking supervision and resolution by the SSM and SRM, respectively. Together, they promote both input and output legitimacy. The legal safeguards shape the decision-making of the ECB/SSM and the SRB. They are obliged to take into account both European and national interests, and they are prevented from taking decisions affecting directly national fiscal sovereignty. This aims at mitigating democratic concerns about the distributive implications of ECB/SSM and SRB decisions at both the European and national levels. To some extent, it also aims at replacing political control by legal control: the ECB/SSM and SRB decisions can be legally challenged before the Court if they go beyond such safeguards. The institutional independence complements such legal safeguards by insulating the ECB/SSM and the SRB from either European or national political preferences. Decision-making should be based on their independent technical expertise, in line with the Treaty and in the application of secondary law, and not reflecting political and distributive choices. Lastly, the multilevel accountability framework towards the European Parliament and national parliaments seeks to secure output legitimacy at the various levels at which the Banking Union operates. The policy actions by the ECB/SSM and SRB should be reported and explained both at the European and national levels, so as to contain the distributive implications of such actions through democratic oversight. This, in turn, should foster their legitimacy.

5

 he Future Sustainability of the Banking T Union

5.1

A Future Without Risk-Sharing?

The origin of the Banking Union was the need to introduce a risk-sharing mechanism for the banking sector in the Monetary Union. After the transfer of banking supervision competences to the ECB and the establishment of the SSM, the ESM would be enabled to recapitalise directly euro area banks. This

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reflected the gradual transformation of the EU from a community of benefits to a community of risk-sharing, where all Member States not only share the benefits from integration but also start sharing the risks and potential costs. It was the result of an explicit quid pro quo between the transfer of competences and the mutualisation of risks at the European level (Chiti and Teixeira 2013). As explained above, the Banking Union at this stage includes only one risk-­ sharing mechanism: the SRM.  The resolution regime introduced by the BRRD prohibits a public bail-out and leads to private risk-sharing with the creditors of a bank through bail-in. When a bank enters into resolution, the SRF may support—subject to strict conditions—the resolution process. This leads to private risk-sharing with the banking industry. Therefore, the original quid pro quo in the foundation of the Banking Union did not materialise: European competences did not translate into European liability but into private liability. This move was justified by several factors: the will to prevent further public bail-outs after the financial crisis; the need to break the link between the Euro Area Member States and their banks; the preservation of national fiscal sovereignty and avoiding moral hazard among Member States; and also the absence in the Treaty of a legal basis to mutualise public funds at the European level. Will these risk-sharing arrangements ensure the sustainability of the Banking Union? Thus far, the European exercise of banking supervision and resolution competences has proven effective (Schoenmaker and Véron 2016). The resilience of the euro area banking sector has improved, regulatory enforcement has been unified and a number of individual banks were already subject to a resolution process which safeguarded financial stability. Such risk-­ sharing arrangements pose, however, two major constraints to the future of the Banking Union. First, the existing risk-sharing mechanism is not sufficient “to break the vicious circle between banks and sovereigns” envisaged by the Euro Area Summit of 29 June 2012. The soundness of banks is still dependent in many areas on their respective sovereigns. One of the main examples is the protection of deposits, which remains at national level. This implies that euros deposited in euro area banks are protected to different degrees across Member States, depending on the capacity of the national deposit insurance scheme and, ultimately, on the capacity of the respective Member State to support it in case of need. The implication is that there is not yet a ‘domestic’ banking market in the euro area. Financial integration is not at the level to be expected from the Banking Union. Banks are still associated to their respective sovereigns. Therefore, with only the current risk-sharing arrangements, the future Banking

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Union will remain fragmented. In the case of another major financial crisis, ring-fencing and protectionism may resurface, defeating the original purpose of the Banking Union and threatening its existence (Enria 2018). The second constraint would materialise in the case of a systemic financial crisis in the Banking Union similar, for example, to the events after the collapse of Lehman Brothers. In such a crisis, the continuity and stability of the whole banking sector of the euro area may be at stake. This is particularly so as the Banking Union will increase integration and the related systemic interlinkages among banks well beyond the level of 2008. According to the SRM Regulation, the financing needs for bank resolution will be covered by the SRF, for example, for guaranteeing assets and the liabilities, or providing loans to the bank under resolution (Article 76 (1) SRM Regulation). The fulfilment of such financing needs is decisive for ensuring that bank resolution will always take place when required by public interest. This is one of the main sources of the credibility of the bank resolution regime. Otherwise, if there is the possibility that banks in crisis are liquidated—instead of resolved—due to lack of funds, it may harm financial stability, for example, by leading to bank-runs or ring-fencing among Member States to protect their domestic banking system, market infrastructures and depositors. In a systemic crisis, the operation of the SRM should thus remain credible, which will require the availability of funds to cover financing needs beyond the capacity of the SRF. This is why in large jurisdictions, such as the US, the UK and Japan, resolution funds are backstopped by the fiscal authority. In the same way, the SRF—as a private risk-sharing instrument—should be underpinned by a public backstop at the level of the Banking Union, which ensures that resolution will always take place when there is public interest, including in a systemic crisis. If the SRF runs out of funds, it should have recourse to a credit line from a public risk-sharing mechanism like the ESM to finance resolution and preserve the continuity of the functions of the financial system. The funds would then be repaid by the financial industry (Five Presidents’ Report 2015). Another risk-sharing mechanism needed for the Banking Union is the creation of a European Deposit Insurance Scheme (EDIS) (European Commission 2015). This would guarantee that deposits are equally protected across the Banking Union and therefore that the value of deposits in euro is the same across the Monetary Union. Similar to the SRF, EDIS needs to be financed by the banking industry. In case of a severe systemic crisis, it would also require a fiscal backstop. The combination of the SRM with EDIS would lead to a European equivalent of the successful model of the Federal Deposit Insurance Corporation in the US (Draghi 2018).

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Therefore, the future sustainability of the Banking Union will require— beyond the existing private risk-sharing—the setting up of public risk-sharing arrangements through backstops, whose objective is to contain systemic risks when a crisis hits. A large systemic crisis may otherwise lead to the breakdown of the banking system and to an existential crisis of the Banking Union, similarly to what happened to the single financial market in 2008, where no risk-­ sharing was in place to contain a banking crisis. However, the Banking Union project has focused thus far on risk reduction rather than risk-sharing (Constâncio 2018).

5.2

A Future Without Democratic Legitimacy?

Together with complete risk-sharing arrangements, the sustainability of the Banking Union will depend on another factor: its democratic legitimacy. The significance of the Banking Union is that it consists of a permanent and complete transfer of competences—banking supervision and resolution—which were previously close to the core of national sovereignty. This is a profound transformation that presupposes not only the strengthening of political integration between Member States but also new sources of democratic legitimacy. As analysed above, the legitimacy of the Banking Union is thus far anchored on the combination of several mechanisms: (1) legal safeguards preventing decision-making from affecting national fiscal sovereignty; (2) the institutional independence of the ECB/SSM and the SRB, which provides technical output legitimacy; and (3) multilevel accountability and reporting to the European Parliament and national parliaments. This is an incomplete answer. Legal and technical output legitimacy will not be sufficient to sustain the Banking Union. First, the Banking Union leads to much deeper market integration than ever before, with distributive implications spread over space and over time. Second, the exercise of banking supervision and resolution competences have also distributive consequences, as acknowledged explicitly in the SSM and SRM Regulations. Third, in the case of a banking crisis, these competences will allocate burdens and costs, the more so in a systemic crisis. At the limit, there could be disintegration if the distributive impact of the policies of the Banking Union is not perceived as legitimate and fair both at the European and national levels. For this reason, the SSM and the SRM Regulations introduced a framework of multilevel accountability and reporting to the European Parliament and national parliaments. While this approach reflects the complex institu-

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tional structure of the Banking Union and attempts to capture the various levels of its distributive impact, it also leads to a diffuse democratic legitimacy. If the Banking Union policies have to be justified to a multiplicity of European and national political institutions, it is hard to conceive that this translates into meaningful democratic control. The difficult distributive choices, for example, in a systemic crisis, would likely not be validated by the combination of all these institutions. Therefore, the future sustainability of the Banking Union will require arrangements which ensure a broad democratic legitimacy, which are not yet set up. Until then, the Banking Union will remain primarily based on its legal and technical legitimacy and multiple European and national sources of accountability.

5.3

Conclusion

This chapter argued that the sustainability of the Banking Union over time will depend on two factors. First, the extent to which the Banking Union can rely on the existing risk-sharing mechanisms at the European level to address financial instability and systemic shocks. Second, the extent to which the Banking Union will be considered to have democratic legitimacy. These two factors are intertwined. As the Banking Union leads to much deeper integration than ever before, there will be distributive implications in periods of both financial stability and instability. The future of the Banking Union will depend on the extent to which it will be resilient at all times, not only with risk-­ sharing but also with a democratic system that ensures that its distributive effects are perceived as legitimate. The current arrangements are however still underdeveloped for the degree of market integration and distributive impact which are intended to be reached with the Banking Union: equivalent to that of a domestic banking market.

References Binder J.-H. (2016), Resolution: Concepts, Requirements and Tools, J.-H. Binder and D. Singh (eds.), Bank Resolution: The European Regime, Oxford University Press, 25–59 Chiti E. and Teixeira P. G. (2013), The Constitutional Implications of the European Financial and Public Debt Crisis, Common Market Law Review, 50-3, 683–708

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Constâncio, V. (2018), ‘Completing the Odyssean journey of the European Monetary Union’, Speech at the ECB Colloquium on “The Future of Central Banking”, available at https://www.ecb.europa.eu/press/key/date/2018/html/ecb.sp180517. en.html Draghi M. (2018), Risk-reducing and risk-sharing in our Monetary Union, Speech at the European University Institute, Florence, available at http://www.ecb.europa. eu/press/key/date/2018/html/ecb.sp180511.en.html Enria, A. (2018), ‘Fragmentation in banking markets: crisis legacy and the challenge of Brexit’, Speech at the BCBS-FSI High-Level Meeting for Europe on Banking Supervision, available at https://eba.europa.eu/documents/10180/2353431/Andr ea+Enria+speech+on+Fragmentation+in+banking+at+BCBS-FSI+High+Level+ Meeting+170918.pdf European Commission (2015), Towards the completion of the Banking Union, Communication from the Commission to the European Parliament, the Council, the European Central Bank, the European Economic and Social Committee and the Committee of the Regions, COM/2015/0587 Ferran E. (2012), Understanding the new institutional architecture of EU financial market supervision, G. Ferrarini et al (eds.), Rethinking financial regulation and supervision in times of crisis, Oxford University Press, 11–58 Five Presidents’ Report (2015), Completing Europe’s Economic and Monetary Union, available at http://ec.europa.eu/priorities/sites/beta-political/files/5-presidentsreport_en.pdf de Gregorio Merino A. (2012), Legal developments in the economic and monetary union during the debt crisis: the mechanisms of financial assistance, Common Market Law Review, 49-5, 1613–1646 James H. (2010), Central banks: between internationalisation and domestic political control, BIS Working Papers No 327 Lamfalussy Report (2001), Final Report of the Committee of Wise Men on the Regulation of European Securities Markets, Brussels, available at http://ec.europa.eu/internal_ market/securities/docs/lamfalussy/wisemen/final-report-wise-men_en.pdf De Larosière Report (2009), The High-Level Group on Financial Supervision in EU, Brussels, available at http://ec.europa.eu/economy_finance/publications/pages/ publication14527_en.pdf Moloney N. (2014), European banking union: assessing its risks and resilience. Common Market Law Review, 51-6, 1609–1670 Padoa-Schioppa T. (2004), Regulating finance: balancing freedom and risk, Oxford University Press Schinasi G. J. and Teixeira P. G. (2006), The Lender of Last Resort in the European Single Financial Market, IMF Working Papers 06/127, International Monetary Fund Schoenmaker D. and Véron N. (2016), European banking supervision: the first eighteen months, Bruegel Blueprint Series 25

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Spaak Report (1956), Comité Intergouvernmental crée par la Conférence de Messine, Rapport des Chefs de Délégation aux Ministres des Affaires Étrangères, Brussels Teixeira P.  G. (2017), The Legal History of the Banking Union, European Business Organization Law Review, 18, 535–565 Wojcik K.-Ph. (2016), Bail-in in the Banking Union, Common Market Law Review, 53-1, 91–138 Zilioli Ch. (2016), The Independence of the European Central Bank and Its New Banking Supervisory Competences, D. Ritleng (ed.), Independence and Legitimacy in the Institutional System of the European Union, Oxford University Press, 125–179

Part II The Three Pillars of the European Banking Union

8 Single Supervision Mechanism: Organs and Procedures Raffaele D’Ambrosio

1

Outlook

Council Regulation (EU) No 1024/2013 of 15 October 2013 (the Single Supervisory Mechanism Regulation—‘SSMR’)1 vests the ECB—within an integrated network (the SSM) composed of the ECB and the National Competent Authorities (NCAs)—with some prudential supervisory tasks and powers in relation to all credit institutions established in the participating Member States.2 These tasks and powers are to be carried out in complete separation and independently from their monetary policy functions.3 Though a complete separation of the monetary policy from the supervisory functions cannot be attained, as—under the Statute of the ESCB and of the ECB—the Governing Council is to all extents and purposes the only ECB body vested with the institutional decision-making powers, the Supervisory

Views expressed by the author are his own and do not necessarily represent those of the Bank of Italy.  Council Regulation (EU) No 1024/2013 of 15 October 2013, conferring specific tasks on the European Central Bank concerning policies relating to the prudential supervision of credit institutions. 2  The euro area Member States and those asking for close cooperation under the condition set out in Article 7 SSMR. 3  See Article 25 SSMR. 1

R. D’Ambrosio (*) Bank of Italy, Rome, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_8

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Board enjoys a certain de facto decision-making power due to the non-­ objection procedure under Article 26(8) SSMR. The allocation of supervisory tasks and powers within the SSM is not always crystal clear and may lead to an unnecessary increase in the workload of the ECB’s decision-making bodies,4 particularly in the domain of what are referred to as national powers under Article 9 SMMR.5 In turn, burdening the Supervisory Board with an increasing amount of trivial supervisory decisions, which would be better taken at national level, runs the risk of frustrating the smooth functioning of the ECB and the SSM itself. Whether the ECB’s remedy—the delegation of minor supervisory decisions to the ECB’s heads of units appointed by the Executive Board—is better than the disease is hard to say. Indeed, the ECB’s legal framework on delegation, though allowing the Supervisory Board to focus on the important supervisory dossiers, runs the risk of marginalizing its role within the ECB’s supervisory function. It is the author’s view that two alternative solutions may be found. The first may take place within the ECB and consist of a system of two distinct delegations: (1) by the Supervisory Board of the power to adopt complete draft supervisory decisions, and (2) by the Governing Council of the power to object to said draft decisions. The second may take place within the SSM and be grounded on the NCAs’ responsibility to assist the ECB in the performance of its supervisory tasks, as clearly laid down in Article 6(3) SSMR and underpinned by the recent case law of the Court of Justice of the European Union. For the NCAs to take this role, a simple request from the ECB is sufficient. Conditions are to be set out in the SSM Framework Regulation (SSMFR)6 and could even include, in the author’s view, criteria for the delegation of the ECB’s minor and non-discretionary supervisory decisions to the NCAs.

2

 he Incomplete Separation of the Monetary T Policy From the Supervisory Functions and Its Side Effects on the ECB Organization and Decision-Making Process

Under the Statute of the ESCB and of the ECB, the Governing Council is the body vested with institutional decision-making powers and the Executive Board is entrusted with the ECB’s current business—save for the case of del See also Chapter 9, para. 2.  See Article 9(1) SSMR. 6  Regulation (EU) No 468/2014 of the European Central Bank of 16 April 2014, establishing the framework for cooperation within the Single Supervisory Mechanism between the European Central Bank and the national competent authorities and with national designated authorities (SSM Framework Regulation) (ECB/2014/17). 4 5

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egation under Article 12.1 of the Statute.7 Given that the above-mentioned Statute is part of the EU Treaties’ package, no EU secondary law is able to override this allocation of the ECB’s decision-making powers. Following the entry into force of the SSMR, the ECB is responsible for both (1) carrying out monetary policy functions to maintain price stability in accordance with Article 127(1) TFEU and (2) exercising supervisory tasks to protect the safety and soundness of credit institutions and the stability of the financial system. The two tasks have to be carried out in complete separation, in order to avoid conflicts of interest and to ensure that each function is exercised in accordance with its own objectives. Indeed, Article 25(2) SSMR stipulates that “the ECB shall carry out the tasks conferred on it by this Regulation without prejudice to and separately from its tasks relating to monetary policy and any other tasks” and that “the tasks conferred on the ECB by this Regulation shall neither interfere with, nor be determined by, its tasks relating to monetary policy”. Leaving aside other aspects,8 the end result of the principle of separation is the setting up of the Supervisory Board9 and the conferral on it of a certain de facto decision-making power in the field of banking supervision. Indeed, not only is the Supervisory Board responsible under Article 26(1) SSMR for fully undertaking the planning and the execution of the ECB’s supervisory tasks but it is also responsible, according to Article 26(8) SSMR, for proposing complete draft decisions to the Governing Council, which the latter is deemed to have approved, unless it objects within a period not exceeding 10 working days, in particular stating monetary policy concerns. As clearly outlined in the literature, “the provisions of the Regulation spelling out the remit of the Supervisory Board have been framed in its relation with the Governing Council. In any case, the latter will—at least theoretically— maintain the final decision power, which is highlighted in several provisions of the Regulation. At the same time the relationship with the Supervisory Board has been construed in such a way that for most practical purposes the latter will be the decision-making body… The decision of the Governing Council is a negative one: the proposal of the Supervisory Board will be considered adopted  See Articles 11(6) and 12(1) and (2) of the Statute of the ESCB and of the ECB.  See Article 25 SSMR. 9  This view is confirmed by Recitals 65 to 67 SSMR. Recitals 65 and 66 deal generally with the principle of separation between the monetary policy and supervisory tasks. Recital 67 stipulates in turn that “in particular, a Supervisory Board responsible for preparing decisions on supervisory matters should be set up within the ECB”. The sequence of these Recitals and the wording of Recital 67 underline the close relationship between the principle of separation and the role of the Supervisory Board. 7 8

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unless the Governing Council objects. This means that no action will be required from the Governing Council and that a ‘no objection’ or even a silent nod will suffice. In most cases there will be no formal decision, just a mere lapse of the objection period. Objections have to be stated within 10 days, leaving little time for further reflection or analysis, and moreover have to be based on a written argumentation, especially highlighting possible monetary considerations. As prudential supervisory matters regularly call for urgent decisions, the Governing Council will very often not be able to object in time” (see Wymeersch 2014, pp. 55–56). The Executive Board plays no role in the performance of the ECB’s supervisory tasks, because its competence is limited to the ECB’s internal structure and staff by the Statute of the ESCB and of the ECB and by the ECB Rules of Procedure (RoP), except for the case of delegation under Article 12.1 of the Statute.10 It is true that the ECB’s work units devoted to supervisory tasks are placed exclusively under the direction of the Executive Board, but the independence of the ECB supervisory function and the principle of separation of the latter from monetary policy are basically preserved, as the Executive Board’s sphere of competence does not influence the ECB’s decision-making process in the field of banking supervision. Moreover, staff involved in carrying out supervisory tasks, while still having an obligation to report to the Executive Board in respect of organizational, human resources and administrative issues, “shall be subject to functional reporting to the Chair and the Vice Chair of the Supervisory Board”,11 so as to preserve the independence of the chain of command for banking supervision.

3

 he Uncertain Allocation of Some T Supervisory Tasks and Powers to the ECB and to the NCAs

3.1

 asks Conferred on the ECB and Tasks Remaining T in the Remit of NCAs

The supervisory tasks conferred on the ECB by the SSMR are listed in Article 4(1) and are to be performed within the framework of Article 6 of the same regulation.  See Article 13m(1).  See Recital 66 SSMR and Article 3(3) of the ECB decision of 17 September 2014 on the implementation of separation between the monetary policy and the supervisory functions (ECB/2014/39). A minor critical issue would lurk precisely in the double reporting obligation—to the Supervisory Board for the functional aspects and to the Executive Board for the organizational ones—that may lead to inefficiencies, should the guidelines received from each of the two Boards conflict or overlap. 10 11

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Indeed, in light of Article 4(1) SSMR, “within the framework of Article 6, the ECB shall, in accordance with paragraph 3 of this Article, be exclusively competent to carry out, for prudential supervisory purposes, the following tasks in relation to all credit institutions established in the participating Member States”. It follows that: the ECB is competent to carry out supervisory tasks “in relation to all credit institutions established in participating Member States”; these tasks are to be performed “within the framework of Article 6”; they have to be carried out “for prudential supervisory purposes” only. The prudential supervision of all credit institutions within the SSM is assigned to the ECB, but some credit institutions (the significant ones) are directly supervised by the ECB, whereas others (the less significant ones) are supervised by NCAs under the oversight of the ECB. The criteria according to which the significance has to be assessed are laid down in Article 6 SSMR and specified in Articles 39 ff. SSMFR.12 The allocation of sanctioning powers is basically the same as the allocation of the supervisory powers.13 Exceptions to the allocation of supervisory powers laid down under Article 6 of the SSMR are contained in Articles 14 and 15 on the powers to grant and withdraw a banking licence and to assess the acquisition and disposal of qualifying holdings respectively. For these purposes, the ECB is fundamentally14 the only competent authority within the SSM. A different criterion than the one laid down in Article 6 with regard to micro-prudential tasks is also ­provided for in Article 5 of the SSM Regulation on macro-prudential supervision. Both the national authorities and the ECB may apply the macro-prudential tools provided for under the CRR/CRD IV package in relation to all credit institutions, irrespective of their status as significant or less significant.15 Given that under Article 127(6) TFEU the ECB may only be vested with specific supervisory tasks, the tasks not expressly conferred on the ECB remain within the remit of the NCAs.16 In light of the principle of conferral, doubtful cases should be solved in favour of the NCAs’ rather than of the ECB’s jurisdiction.  The criteria are, notably, the size of the credit institutions, their importance for the economy of the EU or any participating Member State and the significance of their cross-border activities. 13  As a consequence, the ECB may apply its sanctioning powers provided for under Article 18 SSMR fundamentally to significant credit institutions, following the general rule contained in Article 6. Moreover, in light of the criteria laid down in Recital 36 SSMR, the ECB cannot impose penalties on natural persons or apply sanctions for violations of national law. 14  Except in the cases of refusal of a banking license and acquisition and disposal of qualifying holdings in the context of a bank resolution: see Recital No 22 and Articles 4(1)(c), 14(2) and 15(1) SSMR. 15  In applying the tools provided for under Union law, the initiative is taken by the national authorities, but the ECB may apply higher buffers or take stricter measures in place of the national authorities. 16  See also Recital 15 that reads: “Specific supervisory tasks which are crucial to ensure a coherent and effective implementation of the Union’s policy relating to the prudential supervision of credit institutions should be conferred on the ECB, while other tasks should remain with national authorities”. 12

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Tasks remaining in the remit of the NCAs are referred to in Recital No 28 SSMR and may be classified as described below. Some of the tasks are to be placed outside the SSM framework even if they indirectly influence the ECB’s prudential tasks. They include: “the function of competent authorities over credit institutions in relation to markets in financial instruments”; “the prevention of the use of the financial system for the purpose of money laundering and terrorist financing” or “consumer protection”; the supervision of intermediaries which are not credit institutions. Others tasks (strictly related to the ECB’s prudential supervision of credit institutions) fall within the scope of the ECB’s ultimate responsibility for the SSM under Article 6(1) SSMR, and include those of receiving “notifications from credit institutions in relation to the right of establishment and the free provision of services” and carrying out the “day-to-day verifications of credit institutions”; despite the silence of the SSMR, they should be subject to the ECB oversight.17 It is worth noting that in the specific case of the day-to-day verification of credit institutions the SSMFR, departing from the wording and the rationale of the recitals and provisions of the SSMR and from the principle of ­subsidiarity on which said Regulation is based,18 turned an NCA task into an ECB one.19

3.2

 ncertainties About the Scope of Some of the ECB’s U Prudential Tasks

Apart from the NCAs’ supervisory tasks referred to above, prudential tasks regarding the supervision of credit institutions are fundamentally assigned to the ECB, though the relevant responsibilities are allocated only to the ECB or to both the ECB and the NCAs, depending on the (significant or less significant) status of the credit institutions concerned. Nevertheless, the scope of some of these tasks has not always been clearly defined.  Under Article 6(5)(c) SSMR, ECB oversight of the functioning of the system is expressly provided for only as regards the NCAs’ responsibilities pertaining to less significant credit institutions. Nevertheless, it would be consistent with the ECB’s ultimate responsibility for the SSM to extend its oversight to all the NCAs’ supervisory responsibilities with regard to credit institutions, irrespective of their status as significant or less significant. 18  See Recital No 87 SSMR.  Apart from vesting the NCAs with key supervisory responsibilities with regard to less significant credit institutions, compliance with the principle of subsidiarity has been realized under the SSMR through the allocation to the NCAs of some supervisory powers with regard to all credit institutions, which could be better achieved at local level, as precisely the day-to-day verification of credit institutions. 19  See Article 3 of the SSMFR. 17

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Here are a few examples: 1. It is difficult to ascertain whether the ECB’s banking licence will cover the core banking activity only20 or also include the activities performed by credit institutions in relation to markets in financial instruments,21 such as investment services, the custody of common funds’ assets22 or the issuance of covered bonds.23 Even if the authorization for the performance of activities other than those related to core banking were grounded on prudential concerns, it would still be uncertain whether these prudential concerns ultimately serve financial stability or investor protection and so these responsibilities ought to be allocated to the ECB24 or the NCAs. 2. In the ongoing supervision of credit institutions, it is doubtful whether ensuring compliance with some of the prudential requirements provided for in the fields of EU law other than the CRR/CRDIV package is the responsibility of the ECB or the NCAs. Under the EMIR regulation,25 OTC derivative contracts that are intragroup transactions shall not be subject to the clearing obligation,26 but rather to some risk-mitigation “techniques”. The latter are provided for under Article 11 of the EMIR regulation and may be waived by the competent authorities where certain conditions are met. In the case of intragroup transactions consisting of OTC derivative contracts not cleared by a CCP and entered into by counterparties established in different Member States, exemptions from the risk-­mitigation techniques have to be authorized by all the relevant competent authorities involved. Disagreements are settled by ESMA, a fact which serves as a non-­ material argument in favour of the responsibility of the NCAs in their role as supervisors of credit and financial institutions in relation to markets in  See Article 14(1) SSMR which refers to the “application for an authorization to take up the business of a credit institution”, which is limited, in the light of Article 2, No 3, SSMR in conjunction with Article 4(1) CRR, to the business of taking deposits or other repayable funds from the public and granting credit for its own account. 21  See Article 72(5) SSMFR. 22  See Article 22 of the UCITS IV Directive. 23  See COM(2018) 94 final. 24  See Recital 13 SSMR, which reads as follows: “As the euro area’s central bank with extensive expertise in macroeconomic and financial stability issues, the ECB is well placed to carry out clearly defined supervisory tasks with a focus on protecting the stability of the financial system of the Union. Indeed many Member States’ central banks are already responsible for banking supervision. Specific tasks should therefore be conferred on the ECB concerning policies relating to the supervision of credit institutions within the participating Member States”. 25  Regulation (EU) No 648/2012 of the European Parliament and of the Council of 4 July 2012 on OTC derivatives, central counterparties and trade repositories. 26  See Article 3(2) EMIR. 20

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financial instruments under Recital 28 SSMR. Material grounds may be found in Article 1 SSMR, which carves out the prudential supervision of central counterparties from the ECB’s supervisory tasks. As the risk-­ mitigation techniques provided for under the EMIR provisions share the same rationale of reducing the counterparty risk taken by CCPs, the task of ensuring compliance with EMIR rules should be the NCAs’ rather than ECB’s responsibility.27 3. On the contrary, Article 4(1)(i) SSMR expressly includes the power to request credit institutions to make structural changes within the ECB’s supervisory tasks. The rationale of this provision has to be found in the assumption that the decision to impose structural changes, even where pertaining to proprietary trading or other trading activities, impinges on the whole organizational structure of the bank or the banking group and may imply a recalibration of the prudential requirements on a solo or sub-­ consolidated basis. In sum, for the ECB to be considered as the competent authority in the field of structural changes, the EU legislator felt the need to introduce an ad hoc provision, which represents another argument in support of the NCAs’ having jurisdiction in the other cases.

3.3

 ases of Misallocation Between the ECB’s Tasks C and the NCAs’ Powers

Within the SSM framework there are cases where, though the ECB is vested with a supervisory task, it is not entrusted with all or any of the relevant powers. As regards the participating Member States whose NCAs are in close cooperation with the ECB as per Article 7 SSMR (the non-euro area Member States), tasks and powers are always allocated to different authorities, the former being conferred on the ECB and the latter on the NCAs. Indeed, though vested with supervisory tasks, the ECB does not enjoy direct supervisory powers with regard to credit institutions established in Member States in close

 Article 2, No 20, SSMFR pleads for the same solution, whereby it clarifies that “a central counterparty (CCP), as defined in Article 2(1) of Regulation (EU) No 648/2012 of the European Parliament and of the Council, which qualifies as a credit institution within the meaning of Directive 2013/36/EU, shall be considered a supervised entity in accordance with the SSM Regulation, this Regulation and relevant Union law without prejudice to the supervision of CCPs by relevant NCAs as laid down under Regulation (EU) No 648/2012”. 27

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cooperation. Not surprisingly, the only way for the ECB to exercise its supervisory tasks is for it to instruct the relevant NCAs.28 As regards the Member States within the euro area, a misalignment between tasks and powers can occasionally occur in the following cases: 1. Where the relevant powers are provided for under purely national law (i.e., under national law that is not the result of a directive being transposed) and are therefore under the exclusive competence of the NCAs;29 2. Where the relevant sanctions are nonpecuniary ones or are to be applied for violations of national law or to natural persons only;30 And—according to a recent judgment of the General Court31—the misalignment would be the rule with regard to the supervision of less significant credit institutions.

4

 hat are Referred to as National Powers W and the Heightened Uncertainty About the Allocation of Supervisory Powers Within the SSM

4.1

The ECB’s View on Article 9 SSMR

Recent case law of the Court of Justice of the European Union (CJEU), while confirming the conferral of the supervisory tasks referred to in Article 4 SSMR on the ECB, giving it exclusive responsibility, irrespective of the status of the credit institutions concerned (significant or less significant),32 stops short of  Article 7(1) SSMR reads: “Within the limits set out in this Article, the ECB shall carry out the tasks in the areas referred to in Articles 4(1), 4(2) and 5 in relation to credit institutions established in a Member State whose currency is not the euro, where close cooperation has been established between the ECB and the national competent authority of such Member State in accordance with this Article (first sub-­ paragraph). To that end, the ECB may address instructions to the national competent authority or to the national designated authority of the participating Member State whose currency is not the euro (second sub-paragraph)”. 29  See Article 9(1), second sub-paragraph, SSMR. 30  See Article 18(5) SSMR in conjunction with Article 134 SSMFR. 31  See GC, Case T-122/15, Landeskreditbank Baden-Württemberg/ECB of 16 May 2017. 32  See GC, Case T-122/15, Landeskreditbank, paras. 54 ff.. Specifically, para. 63 clearly clarifies that “the Council has delegated to the ECB exclusive competence in respect of the tasks laid down in Article 4(1) of the Basic Regulation and that the sole purpose of Article 6 of that same regulation is to enable decentralized implementation under the SSM of that competence by national competent authorities, under the 28

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clarifying to what extent the ECB is vested with all the necessary corresponding powers.33 This has opened the floodgates to different interpretations about the precise delineation of powers between the ECB and the NCAs, particularly in the domain of national powers (i.e., the powers provided in national law) referred to in Article 9 SSMR. According to the ECB’s view, shared by the Commission, the ECB is competent to directly adopt any national powers if those powers: fall within an ECB’s task under Articles 4 and 5 SSMR; underpin any supervisory functions under the CRDIV/CRR package.34 Thinking along these lines, one may go as far as to argue that 1. Article 64 of the CRD IV requires that competent authorities shall be given all supervisory powers to intervene in the activity of institutions that are necessary for the exercise of their functions under the CRD IV and the CRR; it follows that all the supervisory powers the NCAs enjoy for performing their supervisory functions are to be considered as encompassed within the domain of EU law and be automatically conferred on the ECB as per Article 9, paragraph 1, sub-paragraph 2, SSMR; 2. Article 9, paragraph 1, sub-paragraph 3, SSMR refers to the NCAs’ residual powers that go beyond SSM tasks; it is with regard to these powers that the ECB may give instructions to the NCAs.35

control of the ECB, in respect of the less significant entities and in respect of the tasks listed in Article 4(1)(b) and (d) to (i) of the Basic Regulation…”. 33  See Cases T-712/15 and T-52/16, Crédit Mutuel Arkéa/ECB of 13 December 2017, ECLI:EU:T:2017:900 and ECLI:EU:T:2017:902, where, while clarifying that a ‘group subject to prudential supervision’ is within the remit of the ECB’s supervisory tasks, irrespective of whether or not the group’s central body has the status of credit institution, the Tribunal gives no clarifications as to whether the ECB or an NCA has the competence to make use of the relevant supervisory powers vis-à-vis the group’s central body. 34  See the Report from the Commission to the European Parliament and the Council on the Single Supervisory Mechanism established pursuant to Regulation (EU) No 1024/2013, Brussels, 11.10.2017 COM(2017) 591 final, p. 8, where it reads: “Thus, it is highlighted that the ECB’s supervisory powers under the SSM Regulation should be construed broadly enough to include powers given to national authorities by national law for carrying out supervisory functions under the CRD and the CRR in relation to credit institutions. 35  On this point the Commission’s Report could be read as leading to opposite conclusions in that it clarifies—see again p. 8—that “as the ECB’s powers can be exercised only within the limits of the tasks conferred on the ECB, it needs to be ascertained on a case-by-case basis whether a specific power given under national law is within the remit of the specific tasks conferred on the ECB or not”.

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167

 he Author’s Criticism of the ECB’s T and the Commission’s Views

In the author’s view, such a broad interpretation of the ECB’s powers under Article 9 SSMR is not the only solution and, moreover, it runs the risk of throwing away the NCAs’ long-established expertise in the supervision of credit institutions and to burden the ECB’s decision-making bodies with so many trivial supervisory decisions that they run the risk of being distracted from the most important matters. Indeed, there is an alternative reading of Article 9, paragraph 1, SSMR. Under this reading, the ECB is entitled to make direct use only of the powers provided for in Union law and in national law transposing directives. As regards the powers provided for in purely national law (i.e.: in national law not transposing directives), the ECB may only require NCAs to make use of these powers. Below, we show that this reading of Article 9 SSMR is more in line with the CJEU’s criteria for the interpretation of EU law than the ECB’s reading, namely, in terms of the wording, the context, the spirit, the consistency with higher ranking norms and the effet utile. 1. The wording  – Both sub-paragraphs 2 and 3 of paragraph 1, Article 9 SSMR refer to the powers of the NCAs attributable to an ECB prudential task. This clearly emerges from the wording of said provisions. Indeed, under sub-paragraph 2, “for the same exclusive purpose [of carrying out the tasks conferred on it by Articles 4(1), 4(2) and 5(2)], the ECB… shall also have all the powers and obligations, which competent and designated authorities shall have under the relevant Union law, unless otherwise provided for by this Regulation. In particular, the ECB shall have the powers listed in Sections 1 and 2 of this Chapter”; and, under sub-paragraph 3, “to the extent necessary to carry out the tasks conferred on it by this Regulation, the ECB may require, by way of instructions, those national authorities to make use of their powers, under and in accordance with the conditions set out in national law, where this Regulation does not confer such powers on the ECB. Those national authorities shall fully inform the ECB about the exercise of those powers”. It follows that (a) two sets of powers instrumental to the ECB’s supervisory tasks are referred to in Article 9, paragraph 1: those provided for under the relevant Union law and mentioned in sub-paragraph 2, and those provided for under national law and referred to in sub-paragraph 3; (b) it is not cor-

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rect to read Article 9, paragraph 1, sub-paragraph 3, SSMR to mean that the NCAs’ powers go beyond the ECB’s supervisory tasks.36 2 . The context – A reading of Article 9 in the context of the SSMR considered in its entirety allows a step ahead. Indeed, under Article 9(1) SSMR, read in conjunction with the provisions contained in Articles 4(1), 4(2) and 5(2) SSMR, the ECB is fully considered as an NCA in the relevant participating Member State. It follows that in order to carry out the tasks conferred on it by the SSMR, the ECB is vested under sub-paragraph 2 of Article 9(1) with all the powers the NCAs enjoy under the relevant EU law. As one may infer from Article 4(3) SSMR,37 this EU law may even include the national law transposing directives.38 Consequently, the scope of sub-paragraph 3 needs to be confined—by subtraction—to powers conferred on NCAs by national law not transposing EU law. 3. The rationale – The rationale of Article 9 SSMR—supported by Recital 35 SSMR—confirms this view. Indeed, Article 9 SSMR equates the ECB to the NCAs within the limits of the ECB’s tasks and EU law, while preserving the possibility for the NCAs, under the ECB’s scrutiny, to make use of some supervisory powers which have proven effective at national level. Whilst the link with the ECB’s tasks allows the ECB to comply with the principle of conferral, the link with EU law (including national law transposing directives) allows the ECB to comply with the principle of equal treatment of all credit institutions subject to its supervision. If the ECB were also to be directly vested with the supervisory powers provided for in purely national law, it would be in the awkward position of applying different rules to those credit institutions and making use of different powers, which would be a violation of Article 1 SSMR, which calls for the equal treatment of credit institutions with a view to preventing regulatory arbitrage”.39  Recital 35 SSMR confirms this interpretation, as it provides that “within the scope of the tasks conferred on the ECB, national law confers on national competent authorities certain powers which are currently not required by Union law, including certain early intervention and precautionary powers. The ECB should be able to require national authorities in the participating Member States to make use of those powers in order to ensure the performance of full and effective supervision within the SSM”. 37  Under Article 4(3) SSMR, “for the purpose of carrying out the tasks conferred on it by this Regulation, and with the objective of ensuring high standards of supervision, the ECB shall apply all relevant Union law, and where this Union law is composed of Directives, the national legislation transposing those Directives”. 38  Indeed, Article 9(1), second sub-paragraph, is to be read in conjunction with Article 4(3) and Recital 34 SSMR, according to which the ECB shall apply the EU law and where this EU law is composed of directives the national law transposing those directives. It follows that under sub-paragraph 2 the ECB enjoys not only the supervisory powers the NCAs enjoy under the directly applicable EU law but also those powers the NCAs enjoy under the national law transposing EU law. 39  In other words, the rationale of reaching a fair balance between the equal treatment of banks operating within the SSM may be considered as enshrined in Article 9 SSMR. The SSM imposes, as far as possible, the application to credit institutions of the same rules and the same supervisory powers, and the need to preserve the possibility, under the ECB’s scrutiny, for the NCAs to make use, of some supervisory powers 36

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4. Consistency with higher ranking norms – It is the author’s view that said reading of Article 9 SSMR is more consistent with the general principle of conferral laid down in Article 5 TEU than the ECB’s reading of it.40 In any case, even following the theory of the implied powers, for a power to be considered as implied in the ECB mandate, it cannot go beyond what is strictly necessary for the effective and appropriate execution of an SSM task. Given the possibility for the ECB to instruct the NCAs under Article 9(1), third sub-paragraph SSMR, an alternative direct ECB competence would be unnecessary for the effective and appropriate execution of an ECB task. It follows that there is no need to unduly extend the scope of sub-paragraph 2 Article 9(1) SSMR. 5. The “effet utile”  – Under the “effet utile” criterion, a provision must be interpreted so as to allow it to achieve its purpose. As both the second and the third sub-paragraphs of paragraph 1, Article 9 SSMR refer to the tasks conferred on the ECB by the SSMR, the powers referred to in sub-­ paragraph 3—differently from the ECB’s view—also need to be linked to those tasks. Within the limits of said tasks, for sub-paragraph 3 to make sense (“effet utile”), it needs to refer to powers provided for in national law or, at least, in purely national law, depending on the reading of sub-­ paragraph 2, as limited to directly applicable EU law or (in the author’s view) extended to national law transposing directives.

5

 he ECB’s Remedy to the Unintended Side T Effects of the Increase of its Supervisory Powers: Delegation to the ECB’s Internal Divisions

5.1

The ECB’s Delegation Framework

In order to reduce the operational burden deriving from the undue increase of the ECB’s supervisory powers, the ECB Governing Council came out with a set of general decisions aimed at delegating minor non-discretionary deciwhich have proven effective at the national level. Extending the set of powers that the ECB may directly exercise on the basis of the mere existence of a link between the power and any ECB supervisory tasks would endanger said balance of interests, in the absence of any underlying valid reason. Indeed, the consistency of supervisory action can well be pursued by the ECB if it instructs the NCAs, without the need to directly assume a new supervisory power, presumably confined to the jurisdiction of a single participating Member State. 40  Article 5 TEU reads: “The Union shall act solely within the limits of the powers conferred on it by the Member States in the Treaties to attain the objectives which they have established. Any competence not attributed to the Union in the Treaties belongs to the Member States”.

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sions to the ECB’s staff assigned to the supervisory units, designated by the Executive Board.41 This attempt—assuming it is in keeping with Article 26(8) SSMR—not only ignores the NCAs’ general duty to assist the ECB in the performance of its supervisory duties enshrined in the SSMR42 but it also runs the risk of jeopardizing the principle of separation and, moreover, it could prove unsuitable, where minor supervisory decisions are to be taken according to national law. The legal framework for delegation consists of an umbrella decision on the general framework for delegating decision making in relation to the ECB supervisory powers; a set of decisions on the delegation of specific supervisory powers; and a set of decisions on the designation of ECB units charged with the adoption of delegated acts. The umbrella decision43 is grounded on the case law of the CJEU referred to in the preamble,44 whereby the CJEU establishes that a procedure for ­delegation may be necessary, taking into account the considerable number of decisions that an institution may be required to adopt, in order to perform its duties. The Court fundamentally based this assessment on the need to ensure that the decision-making body is able to function, which corresponds to a principle inherent in all institutional systems.45 According to the ECB’s umbrella decision the Governing Council, through a delegation decision in accordance with the procedure under Article 26(7) SSMR,46 may delegate decision-making powers to the heads of ECB work  It is worth noting that under the current legal framework, the Steering Committee is assigned a mere internal role of supporting the Supervisory Board activities and no decision making power is granted to it: Articles 26(10) SSMR and 10 of the Rules of Procedure of the Supervisory Board. The Chair and Vice Chair of the Supervisory Board, in turn, may only be authorised under Article 8 of the Rules of Procedure of the Supervisory Board to adopt “clearly defined management and administrative measures”. 42  See Section 6 below. 43  See ECB decision (EU) 2017/933 of 16 November 2016 on a general framework for delegating decision-­making powers for legal instruments related to supervisory tasks (ECB/2016/40). 44  See, inter alia, Case 5/85 AKZO Chemie v Commission [1986] ECR 2585, paras. 35 to 37, and Case C-301/02 P, Carmine Salvatore Tralli v European Central Bank, [2005] ECR I-4071, para. 59. 45  See Case 5/85 AKZO Chemie/Commission, para. 37, where it stipulates that “limited to specific categories of measures of management or administration, and thus excluding by definition decisions of principle, such a system of delegations of authority appears necessary, having regard to the considerable increase in the number of decisions which the Commission is required to adopt, to enable it to perform its duties. The need to ensure that the decision-making body is able to function corresponds to a principle inherent in all institutional systems and which is set out in particular in Article 16 of the Merger Treaty, according to which ‘the Commission shall adopt its rules of procedure so as to ensure that both it and its departments operate …’”. 46  According to the case law of the CJEU, a delegation decision must be taken under the procedure that would apply if a final decision were to be adopted by the delegating authority, in our case that under Article 26(8) SSMR. 41

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units; the delegation decision shall set out in detail the scope of the matter to be delegated and the conditions on the basis of which powers may be exercised; the Executive Board, in its capacity as an ECB body vested with the responsibility for the current business of the ECB, may nominate one or more heads of work units of the ECB to take decisions on the basis of a delegation decision by adopting a nomination decision after having consulted the Chair of the Supervisory Board. So far, in compliance with the umbrella decision, the Governing Council has issued three delegation decisions on the significance of supervised entities,47 compliance with fit and proper requirements48 and own funds.49 The Executive Board, in turn, appoints the heads of work units to take said specific supervisory decisions.50 In order to limit the decision-making powers of the ECB’s heads of work units, each delegation decision laid down some criteria according to which the delegated decisions are to be adopted. Where the criteria for the adoption of a delegated decision are not met, the decision is to be taken according to the non-objection procedure under Article 26(8) SSMR. The same holds true for the negative decisions on own funds and on compliance with fit and proper requirements. Decisions on the significance of supervised entities cannot be adopted by the ECB’s delegated heads of units if the criterion for the assessment of the significance is subject to a discretionary judgment, as is the case for the decisions regarding cross-border activities. Delegated decisions may be subject to the internal administrative review provided for under Article 24 SSMR. In this event, the Supervisory Board decision following the Administrative Board of Review (ABoR)’s opinion has again to be submitted to the Governing Council in accordance with the nonobjection procedure under Article 26(8) SSMR.

5.2

 dvantages and Disadvantages of the ECB’s A Delegation Framework

The ECB’s delegation framework has two main advantages. First of all, it allows the Supervisory Board to focus on the most important dossiers, as a great amount of routine, non-discretionary supervisory decisions are delegated  See the ECB decision (EU) 2017/934 of 16 November 2016 (ECB/2016/41).  See the ECB decision (EU) 2017/935 of 16 November 2016 (ECB/2016/42). 49  See ECB decision (EU) 2018/546 of 15 March 2018 (ECB/2018/10). 50  See ECB decisions (EU) 2017/937 of 23 May 2017 (ECB/2017/17), (EU) 2017/936 of 23 May 2017 (ECB/2017/16) as amended by ECB decision (EU) 2018/228 of 13 February 2018 (ECB/2018/6), (EU) 2018/547 of 27 March 2018 (ECB/2018/11). 47 48

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to the heads of the ECB’s work units. Secondly, it better ensures a level playing field, as the same set of decisions would be taken by the corresponding competent ECB work units rather than by the different NCAs. This notwithstanding, the ECB’s delegation framework runs the risk of marginalizing the role of the Supervisory Board as it appears in Article 26 SSMR and imperilling the principle of separation between the monetary policy and the supervisory functions. Indeed, given that under Article 26(8) SSMR the Governing Council has only the power to object, one may go as far as to argue that it would be inconceivable for the Governing Council to delegate active decision-making powers to the ECB divisions and thus circumvent the Supervisory Board’s preparatory role as enshrined in Article 26 itself. Moreover, it is worth noting that—before the entry into force of the delegation framework—all the ECB’s divisions charged with supervisory tasks were merely responsible for submitting to the Supervisory Board proposals for the adoption of complete draft decisions. However, the Executive Board’s legitimate competence, in respect of the ECB internal division responsible for the ECB supervisory tasks, did not jeopardize the principle of separation, as it did not affect the decision-making process in the field of banking supervision. On the contrary, under the current ECB framework on delegation, the Executive Board has the power to appoint the heads of the ECB’s work units directly vested with external supervisory powers. Indeed, as per Article 6 of the umbrella decision, “[a] delegated decision shall be [directly] taken [by the heads of work units] on behalf of and under the responsibility of the Governing Council”. To the extent that decisions on delegation leave a certain margin of discretion to the heads of the ECB’s work units, without providing for strict guidelines and criteria for escalating doubtful cases to the Supervisory Board, there is a real risk of a certain marginalization of the Supervisory Board’s role to fully undertake the planning and execution of the ECB supervisory tasks as per Article 26(1) SSMR.51 One grey area is that of the negative decisions, which—as a rule—cannot be delegated to the ECB’s internal structures. The definition of negative decisions includes decisions that do not, or do not fully, grant the permission requested by the supervised entity. A decision with ancillary provisions such as  It is worth noting that, apart from the general obligation of the staff involved in carrying out supervisory tasks to report to the Supervisory Board, no specific provisions can be found within the delegation framework on the interaction between said heads of units and the Supervisory Board. 51

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conditions or obligations is considered as a negative decision, unless it ensures the fulfilment of the requirements provided in the relevant law. The ECB legal framework on delegation does not clarify in which cases said ancillary provisions are to be considered as ensuring or not ensuring the fulfilment of these requirements and therefore be deemed as delegable or non-delegable.52 Further grey areas include cases where insufficient information or the complexity of the assessment requires that a decision has to be adopted under the non-objection procedure. Decisions on delegation merely refer to such cases but stop short of giving precise criteria or methodologies in order to identify them and bring them to the attention of the Supervisory Board.53 Moreover, where decisions are to be taken according to national law, the delegation of decision-making powers to the ECB’s internal divisions runs the risk of ignoring national specificities.54 Indeed, as clearly laid down in Article 4(3) SSMR and clarified in Recital 36 of the same regulation, the ECB shall apply Union law and where this Union law is composed of Directives, as in the case of fit and proper requirements, the national law transposing those Directives will be applied. It is true that in the case of decisions on the fitness and propriety of the members of the management bodies of credit institutions, the ECB’s decision on delegation—abstracting from the specificities laid down in relevant national law—gave some general criteria for the assessment of said requirements.55 Nevertheless, those criteria cannot take place of the specific rules contained in the applicable national law56 and can be followed only where they prove to be compliant with that national law.

 See Article 1, No. 14), in conjunction with Articles 3(2), 4(2) and 5(4) of the ECB decision (EU) 2018/546 on delegation of the power to adopt own funds decisions and Article 4(2) of the ECB decision (EU) 2017/935 on delegation of the power to adopt decisions on compliance with fit and proper requirements. 53  See Article 2(3) of the ECB decision (EU) 2018/546 on delegation of the power to adopt own funds decisions and Article 4(4) of the ECB decision (EU) 2017/935 on the delegation of the power to adopt decisions on compliance with fit and proper requirements. 54  It is worth noting that: (1) decisions on the significance of supervised entities are to be taken according to directly applicable EU law (the Framework Regulation); (2) decisions on compliance with fit and proper requirements are to be taken according to national law transposing CRD IV; (3) decisions on own funds are to be taken in part according to directly applicable EU law (the CRR) and in part according to national law. 55  See Article 4 of ECB decision (EU) 2017/935 of 16 November 2016 (ECB/2016/42). 56  Neither ECB regulations nor ECB soft law may regulate matters that fall within the remit of directly applicable Union law or national law transposing Union law. 52

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 he Other Ways Round: The Two Distinct T Delegations by the Supervisory Board and the Governing Council of the Powers They Respectively Enjoy Under the SSMR or the NCAs’ Responsibility for Assisting the ECB in the Performance of its Supervisory Tasks

As the delegation of decision-making powers to the ECB’s internal structures, while presenting some advantages, also has some disadvantages, it is the author’s opinion that alternative solutions are to be sought. The first solution takes place within the ECB and consists of a system of two distinct delegations. As each body may only delegate the powers conferred on it, the Supervisory Board may delegate the power to adopt complete draft supervisory decisions, and the Governing Council may delegate the power to object to said draft decisions. In this framework, should the delegation be conferred outside of each body, a separation between the delegated ECB units should be maintained in order to comply with Articles 25 and 26 SSMR. In other words, designations should be maintained within the supervisory and monetary policy business areas respectively. The second—preferable—solution may take place within the SSM and be grounded on the NCAs’ responsibility to assist the ECB in the performance of its supervisory tasks, as clearly laid down in Article 6(3) SSMR. Article 6(3) SSMR reads as follows: Where appropriate and without prejudice to the responsibility and accountability of the ECB for the tasks conferred on it by this Regulation, national competent authorities shall be responsible for assisting the ECB, under the conditions set out in the framework mentioned in paragraph 7 of this Article, with the preparation and implementation of any acts relating to the tasks referred to in Article 4 related to all credit institutions, including assistance in verification activities. They shall follow the instructions given by the ECB when performing the tasks mentioned in Article 4.

The rationale of the NCAs’ responsibility to assist the ECB in the performance of its supervisory tasks within the SSM has to be found in the need “to ensure high-quality, Union-wide supervision”, given the NCAs’ “important and long-established expertise in the supervision of credit institutions within

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their territory and their economic, organizational and cultural specificities” and the fact that “they have established a large body of dedicated and highly qualified staff for those purposes”.57 While clarifying that the involvement of NCAs in the ECB’s supervision of significant credit institutions has to be “without prejudice to the responsibility and accountability of the ECB for the tasks conferred on it by this Regulation”, Article 6(3) SSMR stops short of setting the criteria for determining the extent of such an involvement. Rather, it refers to the conditions set out in the Framework Regulation.58 Recital 37 provides some help whereby it clarifies that NCAs’ assistance “should include, in particular, the ongoing day-to-day assessment of a credit institution’s situation and related on-site verifications”.59 Besides Article 6(3) SSMR, the NCAs’ assistance to the ECB is also to be found in the provisions of Articles 7, 9(1), third sub-paragraph, and 18(5) SSMR.60 In all these cases—including that under Article 6(3)—the way NCAs may assist the ECB needs to be specified in the instructions that the ECB is entitled to give them. In other cases, the NCAs’ assistance to the ECB has been already sufficiently formalized by the SSM legislator so that, as a rule,61 no ECB instructions are needed.62 Notably, draft ECB decisions on banking licences and

 See Recital 37 SSMR.  This notwithstanding, Articles 90 and 91 of the current version of the Framework Regulation fundamentally mimic the provisions contained in Article 6(3), with the only exception being the rule contained in Article 91(2), allowing an NCA, “on its own initiative”, to “submit a draft decision in respect of a significant supervised entity to the ECB for its consideration through the joint supervisory team”. 59  See also Recital 52 SSMR, where it stipulates that, “…when requesting assistance from national competent authorities, the ECB should have due regard to a fair balance between the involvement of all national competent authorities involved, in line with the responsibilities set out in applicable Union law for solo supervision and for supervision on a sub-consolidated basis and on a consolidated basis”. In other words, Recital 52 could be read as authorizing the NCAs’ involvement in the supervision of significant supervised groups, depending on the complexity of the banking group and on the location of the entities belonging to the latter. 60  See para. 3.3. 61  See footnote 64. 62  A different view seems to be taken by Advocate General M.  Campos Sánchez-Bordona in the case C-219/17, Fininvest, para. 101. 57 58

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acquisitions of qualifying holdings are directly prepared by the NCAs as per Articles 1463 and 15 SSMR64 and are submitted to the ECB for its approval. Last but not least, in the light of recent CJEU case law, the NCAs’ supervision of less significant credit institutions is to be subsumed under the general responsibility of NCAs to assist the ECB in the performance of its supervisory tasks. This is clarified under para. 58 of the judgment of the General Court in the case T-122/15, where it stipulates that “the arrangement of the Recitals [37 and 38–40] of the Basic Regulation suggests that direct prudential supervision by national competent authorities under the SSM was envisaged by the Council of the European Union as a mechanism of assistance to the ECB”. Against this background, a general clause enabling NCAs to assist the ECB in the performance of its supervisory tasks (supervision of less significant institutions is only one form of such assistance) may be taken to be implied in the SSMR and the CJEU’s interpretation of the SSMR’s key provisions. Furthermore, under the new overall architecture of EU supervision and resolution of financial intermediaries, the national authorities’ assistance to Union authorities is more the rule than the exception. Within the Single Resolution Mechanism (SRM), the National Resolution Authorities (NRAs) shall take all necessary actions to implement the Single Resolution Board (SRB)’s decisions. This is due to the fact that, under the SRMR, most of the SRB’s decisions65 need to be implemented by NRA decisions. The SRB is vested with the power to adopt the resolution scheme according to the  See Recital 21, second sentence, SSMR, which reads: “The ECB should therefore carry out its task with regard to authorization of credit institutions and withdrawal of the authorization in case of non-­ compliance with national law on a proposal by the relevant national competent authority, which assesses compliance with the relevant conditions laid down in national law”. Notably, Article 14(2) SSMR stipulates that “if the applicant complies with all conditions of authorization set out in the relevant national law of that Member State, the national competent authority shall take, within the period provided for by relevant national law, a draft decision to propose to the ECB to grant the authorization. The draft decision shall be notified to the ECB and the applicant for authorization. In other cases, the national competent authority shall reject the application for authorization”. Moreover, under Article 14(5), second sub-paragraph, “where the national competent authority which has proposed the authorization in accordance with paragraph 1 considers that the authorization must be withdrawn in accordance with the relevant national law, it shall submit a proposal to the ECB to that end. In that case, the ECB shall take a decision on the proposed withdrawal taking full account of the justification for withdrawal put forward by the national competent authority”. 64  See Article 15(2) SSMR, that reads as follows: “the national competent authority shall assess the proposed acquisition, and shall forward the notification and a proposal for a decision to oppose or not to oppose the acquisition, based on the criteria set out in the acts referred to in the first sub-paragraph of Article 4(3), to the ECB, at least ten working days before the expiry of the relevant assessment period as defined by relevant Union law, and shall assist the ECB in accordance with Article 6”, and therefore also in accordance with the ECB instructions adopted in compliance with that Article. 65  With the only exceptions being decisions imposing fines and periodic penalty payments under, respectively, Articles 38 and 39 SRMR. 63

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resolution plan, whilst the implementing measures are adopted by the NRAs. The SRB may directly apply specific measures only when the NRAs do not comply with its decisions.66 The CRA and EMIR regulations provide for the involvement of the national market authorities in the performance of the European Securities and Market Authority (ESMA)’s supervision on credit rating agencies (CRAs) and trade repositories. Such involvement is triggered by a delegation decision taken by ESMA.67 In the author’s view, the different wording of Article 6(3) SSMR on the one hand and Articles 30(1) of the CRA regulation and 80 of the EMIR on the other has historical grounds. Indeed, whilst the SSMR confers on the ECB supervisory tasks and powers previously falling within the NCAs’ jurisdiction, so that it appeared more appropriate to recognize a preexisting responsibility of the NCAs in this field, the CRA regulation and the EMIR introduced new supervisory tasks into Union law, and simultaneously conferred them on ESMA. Not surprisingly, the NCAs’ involvement has been better qualified as a delegated competence than as a preexisting responsibility. The advantages of the NCAs’ assistance to the ECB in the performance of its supervisory tasks are manifold. First of all, there is the possibility to benefit from the presence of the highly qualified, experienced staff in the NCAs as underlined in the SSMR preamble. Moreover, where minor supervisory decisions are to be taken according to national law, the assessment of national peculiarities is better carried out by  See Articles 28 and 29 of Regulation (EU) No 806/2014 of the European Parliament and the Council of 15 July 2014 establishing uniform rules and a uniform procedure for the resolution of credit institutions and certain investment firms in the framework of a Single Resolution Mechanism and a Single Resolution Fund and amending Regulation (EU) No 1093/201 SRMR and Articles 10 to 15 of the framework for the practical arrangements for cooperation within the SRM. 67  Under Article 30(1) of Regulation (EC) No 1060/2009 of the European Parliament and the Council on credit rating agencies as amended “Where it is necessary for the proper performance of a supervisory task, ESMA may delegate specific supervisory tasks to the competent authority of a Member State in accordance with the guidelines issued by ESMA pursuant to Article 21(2). Such specific supervisory tasks may, in particular, include the power to request information in accordance with Article 23b and to conduct investigations and on-site inspections in accordance with Article 23d(6)”. Delegation should be grounded on the NCAs’ knowledge and experience of local conditions “which are more easily available at national level”. Under paragraph 4, second sub-paragraph, of said Article 30, “a delegation of tasks shall not affect the responsibility of ESMA and shall not limit ESMA’s ability to conduct and oversee the delegated activity. Supervisory responsibilities under this Regulation, including registration decisions, final assessments and follow-up decisions concerning infringements, shall not be delegated”. See also ESMA’s “Guideline on Cooperation including delegation between ESMA, the competent authorities and the sectoral competent authorities under Regulation (EU) No 513/2011 on credit rating agencies”. Similar provisions and grounds can be found in Article 74 and Recital 80 of Regulation No 648/2012 of the European Parliament and the Council of 4 July 2012 on OTC derivatives, central counterparties and trade repositories. 66

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the NCAs than by the ECB’s internal structures. This is particularly true considering that, “where the interpretation of a national law provision is at issue, it should be borne in mind that, according to settled case law, the scope of national laws, regulations or administrative provisions must be assessed in the light of the interpretation given to them by national courts”,68 which is de facto more easily available to the NCAs than the ECB. Furthermore, direct NCA assistance to the ECB in the performance of its supervisory tasks avoids the risk of the Executive Board’s interference in the delegation mechanism, as NCAs are outside the ECB, and this streamlines the ECB’s oversight of the delegated powers exercised by the NCAs, which may take place within the Supervisory Board, composed of representatives from both the ECB and the NCAs.69 In light of the above, the Commission’s Report on the SSM deserves some criticism, to the extent that it comes out with no proposal for any possible role for the NCAs in reducing the workload of the ECB’s decision-making bodies. Moreover, while the Report recognizes that the ECB decision-making process leads to a disproportionate use of the ECB’s resources in the case of routine decisions or decisions with a lower overall impact, thus preventing the ECB’s decision-making bodies from focusing on important supervisory matters,70 it addresses its attention only to the ECB’s internal delegation framework.71 It also endorses the broad interpretation of ECB powers under Article 9(1), second sub-paragraph, SSMR and heralds further initiatives aimed at surreptitiously broadening the ECB’s tasks (and the corresponding powers) without amending the SSMR.72  Cases T-133/16 to T-136/16, Caisse régionale de crédit agricole mutuel v. ECB, § 84.  See Article 26(1) SSMR. 70  See p. 6 of the Commission’s Report, which reads: “Given the high number of decisions and their varied typology, the involvement of the Supervisory Board and Governing Council in every decision appears to be an important strain on the resources of these two bodies, involving all NCAs and National Central Banks. There are important differences across supervisory decisions, in terms of complexity, impact and relevance for supervised entities. Such diversity exists across types of decisions (…), as well as within the same category of decisions (…). Such differences were not taken into account in the decision-making process, which led to a disproportionate use of the ECB’s resources in case of routine decisions or decisions with a lower overall impact. This situation prevented the ECB’s decision-making bodies from focusing on important supervisory matters, and often required a disproportionate amount of efforts and resources from both the ECB and the NCAs in preparing the formal decision-making process”. 71  See again p. 6: “To address these issues the ECB has streamlined decision-making via templates, written procedures, bundling of decisions, and adopted a delegation framework for certain routine decisions or decisions with reduced potential impact. It is still to be tested whether the delegation framework will strike an adequate balance between decisions that are delegated and those that are not, and ultimately lead to a better use of resources”. 72  See p. 8 of the Commission’s Report: “some questions arise in relation to the remaining competences of NCAs, and the way they may be used for circumventing the distribution of responsibilities within the SSM. Recent structural market developments show a trend for third country groups to have increasingly complex structures in the Union, operating through entities that escape ECB supervision. For instance, the ECB would not have powers over investment firms or EU branches of institutions having their head 68 69

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 hat Is the Most Appropriate Form W of NCAs’ Assistance to ECB?

A problem arises here as to whether the involvement of the NCAs in assisting the ECB in the performance of its tasks should be confined to the mere preparation or implementation of specific ECB supervisory decisions or if it should also include the adoption of minor, non-discretionary, supervisory decisions. The ECB has already implemented a process to task NCAs with procedures for the assessment of compliance with certain fit and proper requirements, while the final decision is taken by the ECB (the ‘alternative’ process). Under this alternative process, the NCAs would be responsible precisely for the preparation of ECB’s draft decisions on fit and proper that would be finally adopted by the ECB’s heads of units. The same process may also be followed in other cases, where minor and non-discretionary supervisory decisions are to be taken according to national law. Another possibility would be that of directly vesting the NCAs with some decision-making powers through an ECB delegation decision. The Tralli judgement reminds us that, “as is clear from Case 9/56 Meroni/ High Authority [1958] ECR 133, 151 and 152, the powers conferred on an institution include the right to delegate, in compliance with the requirements of the Treaty, a certain number of powers which fall under those powers, subject to conditions to be determined by the institution”.73 More precisely, the Opinion of Advocate General Léger in that case underlines that, as observed in the literature (see Lenaerts, K., 1993, pp. 40–42), the Court “took the view that the provisions of the ECSC Treaty granting legislative powers to the High office in third countries, which may constitute a loophole in its overall mandate and opens the door to regulatory and supervisory arbitrage. A specific concern exists in relation to the largest investment firms that provide key wholesale market and investment banking services across the EU, which are ‘bank-like’ in nature. These firms therefore present a clear risk to financial stability, given their size and interconnectedness. This is why they are subject to essentially the same obligations as credit institutions. However, they are not necessarily authorized and supervised by the same authorities as credit institutions, which might create an un-level playing field in the application of the CRD and CRR. The ongoing reviews of the CRD-CRR and of the prudential treatment of investment firms may provide a good opportunity to address this aspect”. On December 2017 the Commission published a twofold legislative proposal (for both a regulation and a directive), aimed at creating a self-standing (and simplified) prudential regime for non-systemic investment firms and, in a new definition of credit institutions, including systemically important investment firms dealing on their own account and underwriting or placing instruments on a firm commitment basis. Systemic investment firms would be subject to the CRR/CRD IV regime and to ECB supervision. In the Commission’s (disputable) opinion, the introduction of a new definition of credit institutions would be enough to allow the ECB to supervise systemic investment firms. 73  See Case C-301/02 P paras. 41 ff. The Court concludes that delegation is all the more feasible where powers are delegated within the institution itself.

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Authority formed a sufficient legal basis to allow it to delegate certain powers to private bodies having a distinct legal personality. The view may therefore be taken that the delegation of powers is lawful under Community law where, as in the present case, there is no provision which expressly prohibits it”. Against this background, it is the author’s view that ECB may delegate to the NCAs some minor and non-discretionary supervisory decisions even in the absence of a specific SSM provision. However, in the case at hand, not only is there no provision which expressly prohibits any delegations, but Article 6(3) SSMR may even be read as implicitly allowing the ECB to delegate minor supervisory decisions to the NCAs, in that it refers to the NCAs’ implementation of “any [ECB] acts”, which may also include, in the author’s view, any ECB decisions on delegation, “relating to the tasks referred to in Article 4”. A framework for delegation to the NCAs of some ECB’s supervisory decision could be placed either in an ECB regulation pursuant to Article 4(3) SSMR74 or, even better, in the specific framework for cooperation between the ECB and the NCAs provided for in Article 6(7) SSMR, as Article 6(3) SSMR specifically refers to such a framework. Indeed, though the current text of the SSM Framework Regulation75 does not go that far, it could be amended accordingly, under the procedure provided for in Article 6(7) SSMR, and with the agreement of both the Supervisory Board and the NCAs. In order to prevent possible misunderstandings and objections, it is useful to clarify the following. According to the author’s understanding, the ECB would be able to delegate only limited supervisory decisions, while it would remain responsible for the related task. Indeed, a delegation of tasks to the NCAs would actually be in contrast with the aim of the SSMR. On the contrary, as already noted,76 a separation between an ECB task and some implementing powers of the NCAs is not unusual under the SSM and could be introduced with regard to minor non-discretionary supervisory decisions under the framework of Article 6(3) SSMR without disrupting the SSM legal framework. To the extent that the NCAs will comply with the ECB’s framework on delegation, the ECB will continue to remain accountable for the task concerned, as is currently the case for the supervision of less significant credit institutions, and this holds all the more true after the General Court’s judgment on Landeskreditbank.  Under Article 4(3) SSMR, “the ECB may also adopt regulations only to the extent necessary to organise or specify the arrangements for the carrying out of the tasks conferred on it by this Regulation”. 75  See Articles 90 and 91. 76  See para. 3.3. 74

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Delegation would be without prejudice to the NCAs’ right to levy fees in accordance with their respective national law in respect of the cost of assisting the ECB or acting on its instructions as clearly laid down under Article 30(5) SSMR. One may contend that a risk implied in the delegation of powers to the NCAs is that the NCAs’ delegated decisions will be subject to different regimes, which may in turn imperil the level playing field in banking supervision. Nevertheless, the risk that NCAs will apply different regimes is minimized by both the common EU source of the applicable national law and the criteria laid down in the ECB’s delegation decision. In any event, such a risk would be the inevitable side effect of the nuances contained in the national law—which in the end binds the ECB itself—77 rather than the consequence of the delegation to the NCAs. Application of national law is without prejudice to the principle of the primacy of Union law.78 Consequently, when applying national law, both the ECB and the NCAs have to interpret national provisions, as far as possible, in the light of the wording and purpose of the CRD IV, in order to achieve the aims contained therein. This is perfectly in line with the established stance of the CJEU’s case law. What the ECB cannot do is to ask national legislators— with the aim of achieving uniform supervisory practices in the euro area—to refrain from transposing directives in the way they deem opportune.79 The conditions to be complied with in the context of a delegation are referred to in the Tralli judgment,80 which cites the constraints established in the decision of the Meroni case. Following Tralli’s reasoning “First, a delegating authority cannot confer upon the authority to which the powers are delegated powers different from those which it has itself received”. In the author’s view, the case would occur with regard to those national powers that cannot be considered as included within the ECB’s remit.81 “Secondly, the exercise of the powers entrusted to  Under Article 4(3) SSMR, the ECB shall apply Union law and, where this Union law is composed of Directives, national law transposing those Directives. 78  See Recital 34 SSMR. 79  See the ECB different point of view in paragraph 2.2 of the ECB Opinion of 31 October 2016 (CON/2016/53): “banking legislation adopted by the Member States after the establishment of the Single Supervisory Mechanism (SSM) should facilitate the exercise by the ECB of its responsibilities within the SSM including its capacity to enhance the consistency of the supervision of credit institutions across the SSM. Member States should refrain from setting obstacles both to uniform supervisory practice and to the exercise of supervisory discretion by the ECB within the SSM”. Also see ECB Opinion of 2 September 2015 on bank resolution (CON/2015/31), paragraphs 3.1.2. to 3.1.8. 80  See para. 43. 81  See para. 4. See also the ECB decision (EU) 2019/322, adopted on 31 January 2019, when this Chapter had  already been finalised, on delegation of decisions regarding supervisory powers granted under national law (ECB/2019/4). 77

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the body to which the powers are delegated must be subject to the same conditions as those to which it would be subject if the delegating authority exercised them directly, particularly as regards the requirements to state reasons and to publish”. A problem arises here as to whether decisions delegated to the NCAs would be subject to the ECB’s Administrative Board of Review (ABoR) and to appeal before the CJEU. The limits of this chapter do not allow to dwell on this question, though the rationale of the Meroni doctrine (avoiding distortions of the balance of powers as regards the Court’s jurisdiction over the acts of EU institutions) seems to plead for the CJEU to review the decisions delegated to the NCAs; alternatively, one may even argue that, to the extent that NCA decisions are compliant with the criteria laid down in the ECB’s delegation decision, it is the latter that shall be considered as adversely affecting the addressees of the final NCA decisions and thus capable of being challenged in Court. In any case, should negative decisions be excluded from delegation, as happens in the current ECB framework on internal delegation, the problem is supposed to be basically theoretical. “Finally, even when entitled to delegate its powers, the delegating authority must take an express decision transferring them and the delegation can relate only to clearly defined executive powers”. It follows that the criteria for ­delegation should leave no, or at most very little, margin of discretion to the NCAs.

References Lenaerts K. (1993), Regulating the regulatory process: delegation of powers in the European Community, European Law Review, p. 23 ff Wymeersch E. (2014), The Single Supervisory Mechanism or SSM, Part One of the Banking Union, Ghent University Financial Law Institute Working Paper No. 2014-01

9 The Concept of Systemic Importance in European Banking Union Law Pablo Iglesias-Rodríguez

1

Introduction

The global financial crisis of 2008 brought increasing academic and policy interest in the concept of systemically important financial institutions (see e.g. Barth et al. 2015). Although systemic importance is an elusive concept with no single definition, it is generally used in reference to financial institutions such as banks, whose failure may pose a threat to the stability of the financial system and/or disrupt the wider economy (Lastra 2011: 209). In a report published in the year 2009, the Bank for International Settlements (BIS), the Financial Stability Board (FSB) and the International Monetary Fund (IMF), jointly defined systemically important institutions as those whose disruption or failure may result in systemic risk, which, in turn, they defined as the risk of: “the disruption to the flow of financial services that is (1) caused by an impairment of all or parts of the financial system; and (2) has the potential to have serious negative consequences for the real economy” (IMF, BIS, and FSB 2009: 2, 5). The Basel Committee on Banking Supervision (BCBS) has developed criteria to be used in the measurement of the systemic importance of banks; such criteria relate to a bank’s size, interconnectedness, substitutability, cross-jurisdictional activities and complexity (BCBS 2013: 5).

P. Iglesias-Rodríguez (*) Sussex Law School, University of Sussex, Brighton, UK e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_9

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In the European System of Financial Supervision (ESFS), systemic importance and systemic risk constitute central concepts in the shaping of the European Union (EU) financial supervisory framework. For instance, within the ESFS, the European Systemic Risk Board (ESRB) is tasked with the monitoring and assessment of systemic risk,1 including systemic risk sourcing from the activities of systemically important institutions.2 Likewise, the European Banking Authority (EBA) is entrusted with the development of technical standards and guidelines for the identification of systemically important institutions for the purposes of setting capital buffers in the framework of the Directive 2013/36 (Capital Requirements Directive IV (CRDIV)).3 As regards the European Banking Union (EBU), one of the key rationales behind its establishment was the need to provide enhanced supervision and resolution for systemically important banks (EC 2012: 7, 9). The study of systemic importance in the EU banking system has been restricted, primarily, to the field of economics and its focus has been on the measurement of systemic risk posed by systemically important banks (e.g. Black et al. 2016). Despite the relevance of the concept of systemic importance in the policy discussions regarding the post-crisis EU banking architecture (e.g. EC 2009a), the legal scholarship on the EBU law has largely dismissed its analysis. This paper aims at filling this gap in the legal literature by carrying out an analysis of the meaning of the concept of systemic importance and its role in the EBU’s institutional setting. In order to do so, the next sections of the paper proceed as follows: Sect. 2 examines the concept of systemic importance in the Single Supervisory Mechanism (SSM)—the first pillar of the EBU—with a focus on the relationship between the notion of significant banks directly supervised by the European Central Bank (ECB) and systemic importance. Section 3 addresses the concept of systemic importance in the Single Resolution Mechanism (SRM)—the second pillar of the EBU—with a particular emphasis on the consistency of the notion of systemic importance underlying resolution planning and resolution action with the concept of systemic importance of the SSM. Section 4 examines the divergent interpretations of the concept of systemic importance by the ECB, the Single Resolution Board (SRB) and the European Commission (EC) in the context of the failure of Banca Popolare di Vicenza (BPV) and Veneto Banca (VB) in the year 2017. Section 5 summarises the main findings of the paper and makes policy recommendations.  Recital 10 Regulation (EU) No 1092/2010 (ESRB Regulation).  Recital 27 ESRB Regulation. 3  Article 131 CRDIV. 1 2

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The analysis shows that whereas the notion of systemic importance constitutes a central element in EBU law, instrumental for the allocation of responsibilities between the EU and Member State levels, such concept is treated inconsistently across the EBU pillars. These inconsistencies stem from the following factors: first, the lack of a common EU legal definition of systemic importance applicable to the various pillars of the EBU; secondly, the divergent and inconsistent interpretations of the ECB, the SRB and the EC about the meaning of systemic importance; and, thirdly, the asymmetrical role attributed to systemic importance in the shaping of SSM banking supervision and SRM resolution. These inconsistencies, which were patent in the way in which the ECB, the SRB and the EC dealt with the failure of BPV and VB in the year 2017, hinder the predictability of EU banking supervision and resolution, and may ultimately affect the credibility of the EBU.  In order to address them, this paper proposes, not only a greater harmonisation of the concept of systemic importance in EBU law but also a redefinition of the powers of the SRB in bank resolution.

2

Systemic Importance in EBU Supervision

The first pillar of the EBU consists of a Single Supervisory Mechanism (SSM) entrusted with the prudential supervision of banks in the EBU.4 The rationale behind the creation of the SSM relates to the limitations of the pre-global financial crisis nationally based system of banking supervision in the EU, in which banking supervision was conducted by National Competent Authorities (NCAs) at the Member State level.5 Such a system suffered from various weaknesses. First, there was no macro-prudential supervisor in charge of monitoring systemic risks at the EU level (The High-Level Group on Financial Supervision in the EU 2009: 39–40); secondly, cooperation arrangements between NCAs were inefficient (The High-Level Group on Financial Supervision in the EU 2009: 40–41); and, thirdly, although the Committee of European Banking Supervisors (CEBS), made of, inter alia, representatives of NCAs and central banks from the Member States,6 played a role in fostering cooperation between NCAs and convergence of supervisory practices throughout the EU,7 its powers and resources were very limited (The High-­  Recital 12 Council Regulation 1024/2013 (Single Supervisory Mechanism Regulation (SSMR)).  Recital 5 SSMR. 6  Article 7(1) Commission Decision of 23 January 2009 establishing the Committee of European Banking Supervisors. 7  Article 4 Commission Decision of 23 January 2009 establishing the Committee of European Banking Supervisors. 4 5

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Level Group on Financial Supervision in the EU 2009: 41–42). In its Communication on European Financial Supervision (EC 2009b), the EC summarised the limitations of the pre-crisis EU system of financial supervision in addressing systemic risk: “Current supervisory arrangements proved incapable of preventing, managing and resolving the crisis. Nationally based supervisory models have lagged behind the integrated and interconnected reality of today’s European financial markets, in which many financial firms operate across borders. The crisis exposed serious failings in the cooperation, coordination, consistency and trust between national supervisors” (EC 2009b: 2). The establishment, in the year 2010, of the European System of Financial Supervision (ESFS)—made of the European Systemic Risk Board (ESRB), in charge of macro-prudential oversight in the EU, three European Supervisory Authorities (ESAs), entrusted with EU micro-prudential supervision, a Joint Committee of the ESAs, which serves as a forum for their cooperation, and the Member State NCAs8—and, particularly, the creation within the ESFS of the European Banking Authority (EBA), led to a greater centralisation of tasks related to banking supervision at the EU level. The EBA plays a key role in the development of a single rulebook in the field of banking through the creation of draft technical standards9 and contributes to supervisory and regulatory convergence in the ESFS through guidelines and recommendations addressed to NCAs and financial market participants.10 Financial stability lies at the core of the EBA’s main objective, which is: “to protect the public interest by contributing to the short, medium and long-term stability and effectiveness of the financial system, for the Union economy, its citizens and businesses”.11 A number of the EBA’s tasks and powers are closely related to the avoidance of systemic risk. For example, the EBA assesses the impact of potential market developments on banks through stress tests and informs of trends, potential risks and vulnerabilities.12 Also, the EBA may, under certain conditions, restrict or prohibit on a temporary basis financial activities that pose a risk to “the orderly functioning and integrity of financial markets or the stability of the whole or part of the financial system in the Union”.13 Moreover, in cases of adverse developments that may seriously jeopardise the good functioning of financial markets or financial stability in the EU, the EBA must facilitate and, if necessary, coordinate actions adopted by NCAs and, in exceptional  See e.g. Article 2 Regulation 1093/2010 (European Banking Authority Regulation (EBA Regulation)).  Recitals 5 and 22 EBA Regulation. 10  Article 16(1) EBA Regulation. 11  Article 1(5) EBA Regulation. 12  Article 32 EBA Regulation. 13  Article 9(5) EBA Regulation. 8 9

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circumstances, it may even issue individual decisions to NCAs, requiring them to take certain actions to address such developments.14 Despite the EBA’s role and remit, the supervision of banks in the EU remained, nonetheless, largely decentralised along national lines and based on coordination and cooperation between NCAs. While acknowledging the importance of coordination between banking supervisors, the EC argued that “mere coordination is not enough, in particular in the context of a single currency” (EC 2012: 3), and proposed the creation of a common system of banking supervision, namely the SSM, as a first step in the construction of an EBU (EC 2012: 4). The SSM was instituted by the SSMR in the year 2013 and is made of the ECB and the NCAs of Member States whose currency is the euro as well as of other Member States that decide to join the SSM (EBU Member States).15 The SSM embraces a centralisation of prudential supervision powers in the ECB. In the first place, the ECB is entrusted with the authorisation and withdrawal of authorisation of banks in the EBU Member States.16 Secondly, the ECB is in charge of the direct supervision of significant banks in the EBU Member States.17 The supervisory tasks of the ECB in the SSM include the oversight of the compliance of banks with prudential requirements,18 conducting supervisory reviews and stress tests,19 and carrying out early intervention actions in relation to banks that breach or are likely to breach applicable prudential requirements.20 In the performance of its duties, the ECB is vested with both investigatory powers21 and sanctioning powers.22 The legislative rationale for the centralisation of supervisory tasks in the ECB is twofold and relates to the preservation of financial stability. On the one hand, according to the SSMR, financial stability cannot be guaranteed merely through a system of coordination between NCAs but instead requires the integration of banking supervision tasks.23 On the other hand, the EU legislator contended that the expertise of the ECB in financial

 Article 18 EBA Regulation.  Article 2 SSMR. 16  Articles 4(1)(a) and 14 SSMR. 17  Article 6 SSMR. 18  Article 4(1)(d) SSMR. 19  Article 4(1)(f ) SSMR. 20  Article 4(1)(i) SSMR. 21  Articles 10–13 SSMR. 22  Article 18 SSMR. 23  Recital 5 SSMR. 14 15

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stability issues offers good reasons to vest it with supervisory responsibilities aimed at protecting financial stability in the EU.24 In the SSM, the concept of significance is used as an instrument for the allocation of supervisory competences between the EU level and the Member State level. Banks that are classified as significant fall within the direct supervisory remit of the ECB, whereas those categorised as “less significant” are supervised by NCAs at the Member State level, under oversight of the ECB.25 The SSM’s underlying rationale for the allocation of direct supervisory responsibilities to the ECB in relation to significant banks is that these may pose specific systemic threats.26 However, the SSMR acknowledges the potentially systemic nature of all banks, including less significant banks27; consequently, these banks, although directly supervised by NCAs,28 are under indirect ECB’s supervision29; in the exercise of such indirect supervision, the ECB may issue guidelines addressed to NCAs to be followed by the latter in the supervision of less significant banks under their direct remit.30 The SSM embraces centralisation, in the ECB, of both supervisory competences and decision-making powers as regards the allocation of those competences. In this respect, the ECB is entrusted, not only with the supervision of significant banks but also with the assessment of whether a bank is significant or otherwise. Under the SSMR, the ECB has some leeway in the interpretation of whether and when a bank is significant. In the first place, the SSMR merely establishes the general criteria against which the significance of a bank must be assessed. Such criteria refer to the size of a bank, its importance for the economy of the EU or an EBU Member State, and the significance of its cross-border activities.31 The SSMR gives the ECB the power to determine—in consultation with NCAs—the methodology to be used in the assessment of such criteria.32 The ECB specified such methodology in the Regulation 468/2014 (SSM Framework Regulation (SSMFR)). With regard to some criteria, the methodology is rules-based and defines very precisely the conditions under which a bank may be deemed as significant. For example, the methodology for determining significance on  Recital 13 SSMR.  Articles 4 and 6 SSMR. 26  Recital 16 SSMR. 27  Recital 16 SSMR. 28  Article 6(6) SSMR. 29  Article 6(4–5) SSMR. 30  Article 6(5)(a) SSMR. 31  Article 6(4) SSMR. 32  Article 6(7)(a) SSMR. 24 25

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the basis of the relevance of cross-border activities requires that a bank has subsidiaries in, at least, two Member States,33 the value of its assets exceeds EUR 5 billion34 and, either the ratio cross-border assets/total assets or the ratio cross-border liabilities/total liabilities—of a bank—is higher than 20%.35 In relation to other criteria, the methodology devised by the ECB adopts a principles-based approach that gives substantial discretion to the ECB in the assessment of the significance of a bank. For example, when determining whether a bank is significant on the grounds of its relevance for the economy of the EU or an EBU Member State, the ECB must consider rather broad criteria, such as “the interconnectedness of the supervised entity or supervised group with the economy of the Union or a participating Member State”36 or “the business, structural and operational complexity of the supervised entity or supervised group”.37 The SSMR does nevertheless set some minimum mandatory significance requirements that limit the ECB’s discretion in the assessment of the significance of a bank. These requirements determine that, as a general rule, a bank must be deemed significant for the purposes of the SSM, and hence subject to direct ECB’s supervision, if it fulfils any among four requisites: (1) it is among the three most significant banks in a Member State; (2) its assets exceed EUR 30 billion; (3) the ratio total assets/GDP in the Member State of establishment exceeds 20% and its assets amount to, at least, EUR 5 billion; and, (4) it has requested or received financial assistance from the European Financial Stability Facility (EFSF) or the European Stability Mechanism (ESM).38 Whilst these requirements set a minimum threshold in the assessment of significance—whereby certain entities cannot be deemed less significant—, they do not preclude the ECB from applying stricter criteria that broaden the scope of the concept of significance and, hence, the types of banks subject to direct ECB’s supervision. Overall, the notion of and criteria relating to significant banks embraced by the SSMR and the SSMFR is largely based on generally accepted indicators of systemic importance, such as those developed by the BCBS (BCBS 2013). However, the concept of ­significant bank for the purposes of SSM supervision does not fully and accurately capture the idea of systemic importance. On the one hand, not all significant banks may necessarily have systemic importance; for example, the fact of being among the three most significant banks in a Member State does  Article 59(1) SSMFR.  Article 59(2) SSMFR. 35  Article 59(2)(a)-(b) SSMFR. 36  Article 57(1)(b) SSMFR. 37  Article 57(1)(d) SSMFR. 38  Article 6(4) SSMR. 33 34

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not, per se, indicate or imply systemic importance. One the one hand, banks that are systemically important may not be included in the concept of significant bank of the SSMR; for instance, as acknowledged by the SSMR, all banks, even small, nonsignificant banks according to SSM criteria, may pose systemic threats.39 Secondly, Article 6(5)(b) of the SSMR gives the ECB the power to take over the direct supervision of less significant banks “when necessary to ensure consistent application of high supervisory standards”. This provision allows the ECB to deviate from the general assessment criteria contained in the SSMR and the SSMFR and bring under its supervisory umbrella banks that, according to the default regime, would be directly supervised by NCAs. The SSMFR provides examples of substitutive criteria that must be considered by the ECB before taking such a decision.40 For example, the ECB may assume direct supervision of less significant banks established in Member States where NCAs do not comply with relevant EU law or with the ECB’s instructions.41 It is, however, unclear what the actual scope of and limits to the application of Article 6 (5)(b) of the SSMR are. The criteria provided by Article 67 (2) of the SSMFR are nonexhaustive and the ECB may adopt a decision pursuant to Article 6 (5)(b) of the SSMR on the grounds of other additional nonlisted criteria. In addition, the meaning of a threat to the “consistent application of high supervisory standards”—which is a requirement for the deployment of Article 6 (5)(b) of the SSMR—is very broad and potentially subject to varying interpretations by the ECB. The discretion of the ECB in the interpretation of the concept and criteria of significance has some advantages; notably, it gives the ECB needed flexibility in the assessment of significance, that may be useful for the classification as significant banks of potentially systemically important banks that, under a less flexible regime, might be excluded from direct ECB’s supervision. However, at the same time, the ECB’s leeway in the determination of the significance of banks also poses the threat of hindering the predictability of its decisions regarding bank supervision and also of the meaning of the concept of significance in specific supervisory scenarios. The analysis of the data ­concerning the banks under direct ECB’s supervision as of 1 January 2018 shows that the majority of them were classified as significant on the basis of the SSMR’s minimum mandatory significance requirements. For instance, of  Recital 16 SSMR.  Article 67(2) SSMFR. 41  Article 67(2)(d)-(e) SSMFR. 39 40

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the 118 banks directly supervised by the ECB, 91 were classified as significant on the basis of their size exceeding EUR 30 billion, 13 on the grounds of their assets exceeding 20% of the GDP in the EBU Member State of establishment, 11 owing to the fact of being among the three largest banks in an EBU Member State, two because of the significance of their cross-border activities, and only one by application of Article 6(5)(b) of the SSMR (ECB 2018a: 1–16). Hence, of the 118 directly supervised banks, the ECB made discretionary assessments in relation to only three banks, namely two deemed significant on the basis of their cross-border activities and one considered significant on the basis of Article 6(5)(b) of the SSMR. Moreover, the exercise of discretion by the ECB in relation to the assessment of significance of these three banks may have been limited. First, although the classification of a bank as significant on the basis of the relevance of its cross-border activities is at the discretion of the ECB,42 the SSMFR’s methodology on such criteria is rules-­ based and determines very clearly the minimum requirements that a bank must satisfy before being classified as significant on such a basis.43 Secondly, as regards the bank classified as significant on the basis of Article 6(5)(b) of the SSMR, namely Luminor Bank AS, the determination of significance and direct ECB’s supervision was at the request of the Latvian NCA, not on the ECB’s own initiative (ECB 2018b). Although according to Article 6(4) of the SSMR and Article 70 of the SSMFR, the ECB may decide that a bank that complies with minimum mandatory significance requirements is, nonetheless, less significant, this power can be used only when “justified by particular circumstances”,44 namely “where there are specific and factual circumstances that make the classification of a supervised entity as significant inappropriate, taking into account the objectives and principles of the SSM Regulation”.45 As of January 2018, such an exception was applied only in relation to five banks (ECB 2018a: 48, 51). This suggests that the ECB may have taken a conservative approach to the assessment of the significance of banks and that resorting to discretionary powers in this area may be applied in very limited cases.

 Article 6(4) SSMR.  Article 59 SSMFR. 44  Article 6(4) SSMR. 45  Article 70(1) SSMFR. 42 43

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Systemic Importance in EBU Resolution

The second pillar of the EBU consists of a Single Resolution Mechanism (SRM) (SRB 2016: 8) aimed at the resolution of failing banks in the EBU.46 The SRM was created as a response to important weaknesses of the pre-crisis Member State-based system of bank resolution. In the first place, before the global financial crisis, bank resolution in the EU Member States was often based on general corporate insolvency law and procedures47; these may be inadequate for bank resolution because they give pre-eminence to the protection of creditors and shareholders, rather than depositors and financial stability (Brierley 2009: 4–5); also, they may not guarantee the continuity of critical functions of a bank, such as payments (Brierley 2009: 5), and they do not allow for an early intervention, owing to the fact that they can be initiated only after a bank actually becomes insolvent, when the latter’s financial situation may have deteriorated substantially and even spread to other entities (Brierley 2009: 4–5). Secondly, EU Member State NCAs may each have different incentives in the resolution of a bank because their main interest will be the mitigation of the effects of a bank’s crisis in their own jurisdictions (BCBS 2010: 16; and Recital 9 SRMR). This may result in protectionist measures such as ring-fencing, whereby NCAs may try to preserve the local assets of a bank (Herring 2014: 858; and Recital 9 SRMR), often at the expense of the interest of stakeholders in other jurisdictions or even financial stability (Beck et al. 2015: 4; BCBS 2010: 5); an example was the resolution of Fortis Bank in 2008–2009, in which Belgian, Dutch and Luxembourg authorities carried out an uncoordinated resolution along national lines and interests (Wiggins et al. 2014). This misalignment in the incentives of NCAs made the pre-crisis decentralised and fragmented system of resolution inadequate for cross-­border bank resolution scenarios.48 In its Communication on A Roadmap towards a Banking Union (EC 2012), the EC called for the establishment of an SRM that would govern bank resolution in the EBU, providing a common resolution system that would eliminate the negative externalities that may source from nationally based resolution decisions (EC 2012: 9). An important step in the construction of a more unified system of bank resolution in the EU was the adoption of the BRRD in May 2014; however, the BRRD adopted a minimum harmonisation approach and did not establish a central resolution authority, with the result  Article 4(1) Regulation 806/2014 (Single Resolution Mechanism Regulation (SRMR)).  Recital 4 Directive 2014/59/EU (Bank Recovery and Resolution Directive (BRRD)). 48  Recital 9 SRMR. 46 47

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that it did not eliminate the potential of inconsistent approaches to resolution by Member States.49 The SRM was instituted by the SRMR in July 2014. The mitigation of systemic risk constitutes one of the central rationales behind the establishment of the SRM.  In this respect, the EU legislator argued that, owing to the interconnectedness of the banking system, a bank failure in one Member State may have a systemic impact, not only in such Member State, but also in the whole EU50; it also contended that the creation of a uniform system of resolution in the EBU through the SRM can contribute to mitigate the systemic impact of bank crises in both EBU Member States and other nonparticipating Member States.51 An important assumption behind the establishment of the SRM is that any bank may be potentially systemic and, therefore, it should be subject to a resolution authority under a framework of unified resolution rules and procedures.52 The SRMR provides the core framework concerning the SRM. On the one hand, it establishes common rules and procedures for the resolution of banks in the EBU.53 One of the principles informing the SRM is that resolution should be done in a way that costs for the taxpayer are minimised and financial stability preserved54; in order to accomplish this, the SRM introduces a bail-in mechanism whereby losses are to be borne first by the shareholders of the bank under resolution and secondly by its creditors.55 On the other hand, the SRMR institutes a resolution architecture based on a Single Resolution Board (SRB)—in charge of the resolution of banks under direct ECB’s supervision and cross-border groups—and National Resolution Authorities (NRAs) in the EBU Member States—competent for the resolution of banks that do not fall under the authority of the SRB.56 In order to shift resolution away from national, protectionist interest, the SRMR sets a series of institutional safeguards; for example, the SRB incorporates into its decision-making structure full-time independent members57; also, the SRB and NRAs are required to “act independently and in the general interest”.58 On the one hand, the SRB is entrusted with the development and adoption of resolution plans for  Recital 10 SRMR.  Recital 12 SRMR. 51  Recital 12 SRMR. 52  Recital 46 and Article 1 SRMR. 53  Article 1 SRMR. 54  Recital 73 SRMR. 55  Recital 73 and Article 15(1) SRMR. 56  Recital 28 SRMR. 57  Recital 32 and Articles 43, 56 SRMR. 58  Article 47(1) SRMR. 49 50

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banks under its direct resolution remit59; these plans contain resolution actions that the SRB may take in relation to a bank if the latter enters into resolution.60 Also, the SRB assesses resolvability of banks under its direct resolution authority61—namely whether those banks are not too big to fail so they can be either wound up under regular insolvency rules or put into resolution without creating significant adverse consequences for financial systems or financial stability in the EU or its Member States62—and, where necessary, proposes measures to address any obstacles to resolvability, such as the limitation of the exposure of a bank.63 On the other hand, the SRB decides whether a bank that is failing or likely to fail should be placed into resolution.64 The SRM is supported by a Single Resolution Fund (SRF) that may be used in resolution processes when necessary.65 The SRF is funded, primarily, by contributions from banks66 and owned by the SRB67 so as to break “the link between sovereigns and the banking sector”.68

3.1

 ystemic Importance in the SRM S Pre-Resolution Stages

In the SRM, the criteria for the allocation of resolution responsibilities between the EU level and the Member State level largely follow the SSM’s approach. In this respect, the SRB is empowered to exercise resolution powers in relation to banks that are significant according to the SSMR and SSMFR’s criteria69 and, more generally, those that are directly supervised by the ECB,70 which, for example, may include less significant banks that the ECB decides to bring under its direct supervision upon fulfilment of certain conditions. The scope of banks potentially covered by the SRB’s resolution is however broader than those subject to direct ECB’s supervision and also includes

 Article 8(1) SRMR.  Article 8(6) SRMR. 61  Article 10(1) SRMR. 62  Article 10(3–4) SRMR. 63  Article 10(7–11) SRMR. 64  Recital 57 and Article 18 SRMR. 65  Articles 1 and 67(1–2) SRMR. 66  Articles 2 and 67(4) SRMR. 67  Article 67(3) SRMR. 68  Recital 19 SRMR. 69  Article 7(2)(a)(i) SRMR. 70  Article 7(2)(a)(ii) SRMR. 59 60

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c­ ross-­border groups71—the latter referring to banking groups established in more than one EBU Member State.72 This broader remit reflects the concerns of EU legislators about the potentially systemic nature of all banks,73 such as less significant banks operating on a cross-border basis. This system for the allocation of resolution responsibilities within the SRM, results in the SRB having little discretion in the decision of whether a bank is to fall under its direct resolution powers or not. The decisions made by the ECB concerning significance and/or the need for direct ECB’s supervision determine, to a great extent, the banks that will be under the SRB’s resolution remit. As of December 2016, the number of banks subject to the SRB’s direct remit amounted to 141; of these, only 15—10% of the total—were less significant cross-border groups, whereas the vast majority—126 banks—were those deemed significant by the ECB and directly supervised by it (SRB 2017c: 12). The SRB may decide, on its own initiative or after receiving a request from an NRA, to bring under its resolution authority banks that do not fulfil the general criteria for SRB’s direct resolution, when the SRB considers this to be necessary to guarantee the consistent application of high-­ resolution standards.74 This provision, which resembles Article 6(5)(b) of the SSMR, is targeted, primarily, at cases where an NRA does not address concerns raised by the SRB about the compliance of draft resolution-related decisions adopted by such NRA with the SRMR or SRB’s instructions.75 As is the case with Article 6(5)(b) of the SSMR, the notion of guaranteeing the consistent application of high-resolution standards is vague and gives the SRB some leeway in the decision of whether and when to bring a bank under its resolution remit. The concept of systemic importance plays a central role in the distribution of competences in both the SSM and the SRM. Banks that fulfil the SSM significance criteria and/or are directly supervised by the ECB—which, as has been explained in Sect. 2, largely reflect the features of systemically important banks—are under the SRB’s resolution authority. Although the remit of the SRB also includes less significant cross-border groups, which fall beyond the ECB’s supervisory authority, in the SRM these are perceived as potentially systemic and, hence, their inclusion under the SRB’s remit follows a systemic stability rationale. Likewise, in the SRM, systemic importance also d ­ etermines  Article 7(2)(b) SRMR.  Article 3.1(24) SRMR. 73  Recitals 46–47 SRMR. 74  Article 7(4)(b) SRMR. 75  Article 7(4)(a)-(b) SRMR. 71 72

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the organisation of the work of the SRB in pre-resolution stages; in this respect, the SRMR stipulates that, when it comes to resolution planning, the SRB must prioritise the development of resolution plans and the assessment of resolvability of systemically important institutions.76 Hence, in the SRM pre-resolution stages, the role and treatment of the concept of systemic importance is generally consistent, in substance, with the SSM’s notion of systemic importance. This contrasts with the notion of systemic importance underlying the SRM resolution stages, which is examined in the next subsection.

3.2

Systemic Importance in the SRM Resolution Stages

Before the SRB can initiate a resolution process of a bank, various conditions must be met. The first condition is the existence and identification, either by the ECB or the SRB, of a bank that is failing or likely to fail.77 Owing to the scope of the powers of the ECB and the SRB, explained in the preceding sections, this will in most cases be a systemically important bank. Secondly, if the first condition is satisfied, the SRB must assess whether there are any alternative private sector measures—such as a transfer of funds from an Institutional Protection Scheme—or supervisory actions—such as the conversion of debt to equity—that would avoid the failure of the bank concerned within a reasonable time frame.78 Thirdly, if no such alternative measures or actions with a reasonable prospect of success are identified,79 then the SRB must, as a last condition for starting the resolution procedure, determine whether resolution is necessary in the public interest in the particular case.80 The satisfaction of the public interest test is a condition for resolution.81 If the SRB finds that the resolution of a bank is not in the public interest, then the bank will be wound up according to ordinary insolvency proceedings.82 If the SRB considers that resolution is in the public interest, then the bank will be placed into resolution according to a resolution scheme developed by the SRB83 that needs to be endorsed by the EC before entering into force.84 If the EC objects to the  Recital 47 SRMR.  Article 18(1)(a) SRMR. 78  Article 18(1)(b) SRMR. 79  Recital 26 SRMR. 80  Article 18(1)(c) SRMR. 81  As regard the concept of public interest, see also Chapter 13, para. B. 82  Recital 58 and Article 18(1)(c), (5) SRMR. 83  Article 18(1), (6) SRMR. 84  Article 18(7) SRMR. 76 77

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resolution scheme on the grounds of lack of compliance with the requirement of public interest in resolution, then the Council assesses the resolution scheme85 and decides whether to uphold the EC’s objection, which would result in the bank being wound up according to ordinary insolvency proceedings,86 or to reject the EC’s objection, which would lead to the resolution scheme entering into force.87 The SRMR stipulates that resolution will be in the public interest when “it is necessary for the achievement of, and is proportionate to one or more of the resolution objectives” and “winding up of the entity under normal insolvency proceedings would not meet those resolution objectives to the same extent”.88 The resolution objectives89 are the continuation of the bank’s critical functions,90 avoiding significant adverse effects on financial stability,91 protecting public funds,92 protecting depositors and investors,93 and protecting client funds and assets.94 Whereas EU law does not offer a single, all-­ embracing definition of public interest, it normally uses this term in reference to general interests with wide and pervasive societal implications (see e.g. European Parliament 2017: para 17; and David Petrie and Others v Commission of the European Communities (T-191/99), where the Court of First Instance of the European Union linked the concept of public interest to, inter alia, public security, international relations or monetary stability95). Although there is a link between the concept of systemic importance and public interest, in the sense that the greater the systemic importance of a bank the higher the potential negative effects of its failure on the public interest—for example on financial stability—, not all the resolution objectives have strong links with the general concept of public interest in EU law. In this respect, whilst some of the resolution objectives have a close link with or may be instrumental to the public interest, others have a much weaker connection with the latter. The objectives of avoiding significant adverse effects on financial stability, protecting public funds, and ensuring the continuation of a bank’s critical  Article 18(7) SRMR.  Article 18(8) SRMR. 87  Article 18(7) SRMR. 88  Article 18(5) SRMR. 89  See also Chapter 15, para. 3. 90  Article 14(2)(a) SRMR. 91  Article 14(2)(b) SRMR. 92  Article 14(2)(c) SRMR. 93  Article 14(2)(d) SRMR. 94  Article 14(2)(e) SRMR. 95  Para 65 Case T-191/99. 85 86

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functions—which the SRB defines as “functions that are essential for the smooth running of the economy in one or several Member States” (SRB 2018: 8)—have clear public interest implications. However, the connection between the public interest and other resolution objectives is not so forthright. Notably, the objectives of protecting depositors and investors and protecting client funds and assets may not always have clear public interest connotations, as the latter depend, to a great extent, on the specific features of a bank. For instance, in a bank with a low level of client assets, their protection may not be relevant from a public interest perspective. As regards the objective of protecting depositors, there are aspects of depositor protection that are strongly correlated with the public interest, such as the avoidance of bank runs and bank liquidity crises that may, in turn, lead to financial instability (Diamond and Dybvig 1983). Whereas resolution may be beneficial for depositors, as it may guarantee the continuous availability of deposits, from the point of view of systemic stability, it is questionable whether depositor protection should be a determining factor in the decision about whether to deploy resolution or not. Depositors in the EU are protected through deposit guarantee schemes, whose features are largely harmonised by Directive 2014/49/EU (Deposit Guarantee Scheme Directive, DGSD); the latter guarantees deposit insurance up to the amount of EUR 100.000.96 Moreover, whereas the adoption of a resolution scheme may contribute to the continuous access to deposits by depositors of a bank that is failing or likely to fail (Bruzzone et  al. 2015: 19; and Recital 71 BRRD), it does not necessarily prevent a bank run on the bank that is resolved; in this respect, resolution may send a negative signal to depositors about the financial situation of the bank which may, in turn, increase their uncertainty and incentives to withdraw their deposits (Schoenmaker 2017: 6–7). For these reasons, from the point of view of systemic stability, linking public interest—a condition for the deployment of the resolution procedure—with the accomplishment of any of the SRMR’s resolution objectives is problematic. In some respects, the requirement of public interest of Article 18 of the SRMR is inconsistent with its Recital 61, which suggests that resolution should be applied “only where necessary to pursue the objective of financial stability in the general interest”. Even more problematic is the fact that the SRMR determines that, once the public interest test is satisfied and resolution is activated, all the resolution objectives “are of equal significance, and shall be balanced, as appropriate, to the nature and circumstances of each case”.97 Therefore, although resolution  Article 6(1) DGSD.  Article 14(3) SRMR.

96 97

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may be warranted on the grounds of the need to accomplish just one of the resolution objectives, once resolution is deployed, the resolution process must consider and balance all the resolution objectives. From the point of view of systemic risk, this approach may result in suboptimal outcomes. As has been referred above, the maximisation of certain objectives may, under certain conditions, be detrimental to the accomplishment of others. This bears the risk of displacing resolution away from the target of guaranteeing systemic stability, when the latter is not given pre-eminence in the resolution process or is hindered by the pursuing of other conflicting objectives. Whilst in the EBU’s supervisory and pre-resolution stages, the systemic importance of a bank constitutes a key element for the allocation of responsibilities between the EU and Member State levels, this is not the case in the resolution stage. The fact that a failing or likely to fail bank—in relation to which no alternative private or supervisory measures have been identified—is directly supervised by the ECB or, more particularly, under the direct remit of the SRB, does not automatically entitle it to SRB’s resolution. The latter is conditional on the satisfaction of the public interest test, which is linked to the accomplishment of the resolution objectives. However, as has been shown, these objectives pursue targets that go beyond and may even be detrimental to the accomplishment of financial stability, which is the core target of the EBU first pillar. These inconsistencies in the role of the concept of systemic importance in the first and second EBU pillars, respectively, bring about the question of whether the SRB should be given the discretion to decide on the resolution of banks through the assessment of the public interest test. The banks under the SRB’s direct remit comprise banks directly supervised by the ECB and less significant cross-border groups, both of which largely embrace the features of systemically important banks; a systemically important bank is one with the potential to have a significant adverse impact on—among others—financial stability, which is one of the occurrences that the SRM resolution objectives aim at avoiding and that may be triggered by ordinary insolvency proceedings. It is therefore questionable why a bank considered systemically important for the purposes of ECB’s supervision and SRB’s resolution planning may be deemed not worthy of resolution in the interest of the fulfilment of the objective of financial stability. The failure of Banca Popolare di Vicenza (BPV) and Veneto Banca (VB) in June 2017 offers interesting insights as regards how the EBU’s legal and institutional design may propitiate divergent interpretations of the concept of systemic importance and the extent to which such divergent notions may impact the consistent treatment of banks across the various pillars of the EBU.

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 n Inconsistent Regime in Action: A The Failure and Nonresolution of Banca Popolare di Vicenza and Veneto Banca

BPV and VB were two Italian banks with a particularly strong presence in the Veneto region, but with subsidiaries and operations across Italy as well as foreign countries, both within and outside the EU (EC 2017a: paras 9 and 14; SRB 2017a, b: Recitals 4–7). They were deemed significant banks for supervisory purposes and hence, directly supervised by the ECB. On 23 June 2017, after a series of years of major financial difficulties for both banks, the ECB determined that they were failing in the near future. This decision was communicated to the SRB, which, however, concluded that the resolution of BPV and VB would not be in the public interest, arguing, among others, that none of the banks were systemically important and, hence, their failure would not have a significant adverse impact on the stability of the Italian financial system. Consequently, BPV and VB were put into liquidation under Italian insolvency law and procedures; the liquidation procedure proposed by Italy involved the use of State aid, through cash injections and state guarantees, and was hence subject to review by the EC, which approved such aid on the grounds that it complied with the internal market. The next subsections explore how the decisions by the ECB, the SRB and the EC in regard to BPV and VB evidence a highly diverging and inconsistent treatment of the concept of systemic importance across the EBU, as well as the central role that such diverging interpretations played in determining BPV’s and VB’s fate after their failure.98

4.1

 PV and VB Were Deemed Systemically Important B Banks for Supervisory Purposes…

The supervisory treatment of BPV and VB in the first pillar of the EBU shows that they were deemed systemically important banks for supervisory purposes. Most notably, previous to their failure, both BPV and VB were classified as significant banks on the basis of their total assets, which ranged between EUR 30–50 billion (ECB 2016: 16–17). As explained in Sect. 2, the EBU law largely encompasses the idea that banks classified as significant for supervisory purposes are systemically important banks. Also, in the years preceding their failure, Standard & Poor’s defined BPV and VB as of “‘moderate’ systemic  But see Chapter 11, para. 7.

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importance” (Standard & Poor’s 2012: 3; 2015: 10), hence acknowledging their importance for the stability of the financial system. Owing to their categorisation as significant banks, BPV and VB were under the direct supervision of the ECB.  In the year 2014, the ECB identified important capital shortfalls that affected both BPV and VB (ECB 2014: 10). In order to address these problems, BPV and VB adopted various measures. First, BPV and VB, which were cooperative societies, demutualised and tried to raise capital through initial public offers (IPOs) (BPV 2016; VB 2015). These IPOs were highly unsuccessful, with subscription rates under 8% and 4%, respectively, and resulted in Atlante—a rescue fund that acted as underwriter in the banks’ IPOs—becoming the main shareholder of both banks in the year 2016 (Jewkes 2016; Aloisi 2016). In light of their difficulties to raise capital in the financial markets, BPV and VB requested guarantees on newly issued debt securities to the Italian Government in December 2016 and March 2017 (SRB 2017a: Recitals 29 and 41; 2017b: Recitals 28 and 39). The Italian Government approved both requests (SRB 2017a: Recitals 32 and 41; 2017b: Recitals 31 and 39; BPV 2017a, b; VB 2017a, b), allowing BPV and VB to successfully issue bonds and temporarily improve their liquidity (SRB 2017a: Recital 32; 2017b: Recital 31). The ECB, in its role as direct supervisor of BPV and VB, monitored the evolution of the financial situation of both banks very closely and requested, on various occasions, that the latter presented plans to preserve their capital and liquidity (ECB 2017a, b: paras 3, 14 and 15). BPV and VB put forward proposals that involved, inter alia, their application for precautionary recapitalisations (SRB 2017a: Recital 36; 2017b: Recital 35), as well as a merger of both banks (SRB 2017a: Recital 31; 2017b: Recital 30; BPV 2017c). The ECB determined that effective and timely implementation of such proposals would be implausible (ECB 2017a, b: para 20; SRB 2017a: Recital 44; 2017b: Recital 43). This negative assessment, jointly with the progressive deterioration of the banks’ financial situation, as evidenced by their 2017 accounts (SRB 2017a: Recital 39; 2017b: Recital 40), as well as the lack of identification of alternative private measures or supervisory actions that could prevent the banks’ failure (ECB 2017a, b: paras 20–21), led the ECB to conclude, on 23 June 2017, that BPV and VB were failing in the near future (ECB 2017a, b: para 26). The perceptions of the EU banking supervisor about the relevance of BPV and VB for the stability of the financial system seemed to last well after the banks’ financial situation had worsened substantially. For instance, a few days before the ECB determined that BPV and VB were failing, the then ECB’s Vice-President argued that any decision and solution in relation to BPV and VB should take into account its impact on financial stability, implicitly acknowledging the potential systemic importance of both Banks (Za 2017).

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 But Nonsystemically Important Banks … for Resolution Purposes…

After receiving the ECB’s final assessment of BPV and VB and assessing the various conditions for resolution, the SRB decided not to initiate a resolution procedure in respect of BPV and VB (SRB 2017a, b: Article 1) on the grounds of lack of public interest in their resolution (SRB 2017a, b: Article 4(1)). As explained above in Sect. 3.2, Article 18(5) of the SRMR instructs that a resolution is in the public interest when “it is necessary for the achievement of, and is proportionate to one or more of the resolution objectives” and “winding up of the entity under normal insolvency proceedings would not meet those resolution objectives to the same extent”. When it comes to the objectives of protecting depositors, investors and clients funds and assets, the SRB argued that these would be achieved in the same manner and to the same extent by Italian insolvency procedures and SRB’s resolution (SRB 2017a, b: Articles 4 (2)(3) and 5), and, therefore, the latter was not warranted in the case. For the purposes of the analysis of the concept of systemic importance, the most relevant considerations made by the SRB relate to the objectives of ensuring the continuity of critical functions and avoiding significant adverse effects for financial stability, which the SRB argued would not be hindered in the absence of resolution, owing to the lack of systemic importance of BPV and VB (SRB 2017a, b: Recital 50 and Articles 4.2.1.1–2 and 4.2.2). Such an assessment was inconsistent with erstwhile views of the SRB about the systemic entity of both banks. In this regard, in the resolution plans adopted on 5 December 2016, the SRB considered that the liquidation of BPV and VB through regular insolvency proceedings would be against the public interest because it could entail a risk of contagion to other banks, and also have an adverse impact on market confidence (SRB 2017a, b: Recital 19). The SRB justified its change of view about the systemic importance of BPV and VB on the grounds of the deterioration of the financial and commercial situation of both banks as evidenced by, among others, the decrease in the amount of their total assets, and a less relevant role in critical functions such as lending and deposit-taking activities, which diminished their systemic importance (SRB 2017a, b: Recital 50). Among the arguments provided by the SRB to sustain the idea that the failure of BPV and/or VB would not have a significant impact on the stability of the Italian financial system, there are two that pose specific problems for the consistent treatment of banks across the various pillars of the EBU.

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In the first place, the SRB argued that the ECB had classified BPV and VB as significant banks, solely on the basis of their size (SRB 2017a, b: Article 4 (2.2)(a)), implicitly suggesting that the SSM assets-based criteria may not correlate to actual systemic importance. In doing so, the SRB second-guessed the rules established by the EU legislator and applied by the ECB, which determine that a bank whose assets exceed EUR 30 billion is systemically important, even if it does not fulfill other additional significance criteria.99 The problem here is not whether the SRB’s economic assessment of BPV’s and VB’s systemic importance is more or less accurate but, rather, whether by making such an assessment and challenging the notion of systemic importance underlying the first EBU pillar, the SRB is hindering the consistent treatment of banks in the EBU. Secondly, the SRB supported its view about the lack of systemic importance of BPV and VB on the fact that none of them had been classified as systemically important by Banca D’Italia in the years 2015 and 2016 (SRB 2017a, b: Article 4(2.2)(b)). By virtue of Article 131 of the Directive 2013/36/ EU (Capital Requirements Directive IV (CRDIV)), NCAs in the Member States, including Banca D’Italia, are entrusted with carrying out assessments about the systemic importance of banks authorised in their jurisdictions100 for the purposes of determining institutions which, owing to their significance and potential impact on financial stability, must be subject to additional capital buffers.101 The CRDIV’s criteria for determining systemic importance— which has been complemented by EBA guidelines (see e.g. EBA 2014)—differs in nature and scope from the criteria on significance set by the SSMR; besides the differences in the factors that determine systemic importance in the former and in the latter, the CRDIV applies EU-wide, whereas the SSMR only covers banks in the EBU Member States. Consequently, a given bank may be deemed significant by the ECB for supervisory purposes, but not systemically important by an NCA for capital requirements purposes. By linking the concept of systemic importance in resolution to the assessment of systemic importance made by NCAs within the framework of the CRDIV, the SRB not only detaches such concept from the EBU dimension but also adds an additional layer of complexity and heterogeneity in the determination of the notion of systemic importance for resolution purposes. The SRB’s assessment of the public interest in the resolution of BPV and VB also evidenced important differences between the ECB and the SRB in  Article 11(8)(a) SSMR.  Article 131(1) CRDIV. 101  Recital 90 and Article 131(4–5) CRDIV. 99

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the methodology applied to change the status of a bank from systemically important to nonsystemically important. In this regard, as a general rule, the SSMFR requires the ECB to change the status of a bank from significant to less significant when the bank concerned has not met any of the SSMR’s significance criteria for three consecutive years.102 In contrast with this, the SRB may, at any time, change its assessment about the systemic importance of a bank. Indeed, in the case of BPV and VB, the SRB modified its opinion on the banks’ systemic importance in less than a year. This ponders the question of whether such a swift change of view—which was at the core of the SRB’s decision not to take resolution action—may have been premature. Indeed, despite the progressive worsening of both banks’ financial situation, in the year 2017, at the time of the SRB’s decision not to take a resolution action, the combined value of BPV and VB represented the eighth largest Italian bank in terms of assets (SRB 2017a, b: Article 4(2.2)). This led some commentators to criticise the public interest threshold underlying the SRB’s decisions on BPV and VB; for example, the head of the EBA commented, in a veiled critique of the SRB, that: “The decision that there was no EU public interest at stake in the crises of two ECB-supervised banks that were hoping to merge and operate in the same region with combined activities of around € 60 billion sets the bar for resolution very high.” (Sciorilli Borrelli 2017).

4.3

 And Yet Systemically Important Banks for State … Aid Purposes

The Italian Government developed a plan for winding-down BPV and VB that involved the sale of part of their assets and liabilities to an Italian bank, namely Intesa Sanpaolo (EC 2017a: paras 7, 27; Intesa Sanpaolo 2017). The Italian Government argued that, in the absence of a buyer who guaranteed the continuation of the operations of BPV and VB, the economy of the Veneto region would experience major disturbances as a result of, among others, the cessation of the provision of credit to families and businesses.103 At the same time, the Italian Government contended that its plan would require State aid because, in the absence the latter, the sale of BPV and VB would not be attractive for a potential buyer (preamble Decreto-Legge 25 giugno 2017, n. 99; Banca D’Italia 2017: 2; EC 2017a: paras 48–49). Such State aid was based on two mechanisms. On the one hand, Italy proposed State aid measures in the  Article 47(1) SSMFR.  Preamble Decreto-Legge 25 giugno 2017, n. 99.

102 103

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form of cash injections aimed at, inter alia, avoiding that BPV’s and VB’s buyer be subject to additional capital requirements after the purchase transaction, as well as covering part of the restructuring costs that the integration of the activities of BPV and VB into the buyer would entail (Article 4 Decreto-­ Legge 25 giugno 2017, n. 99; EC 2017a: paras 34, 36 and 37). On the other hand, Italy proposed State guarantees to the buyer in respect of, for example, liabilities of BPV and VB (Article 4 Decreto-Legge 25 giugno 2017, n. 99; EC 2017a: paras 34, 39 and 42). According to Article 108(3) of the Treaty on the Functioning of the European Union (TFEU), if a Member State plans to grant State aid, it must first notify the EC, which is entrusted with carrying out an assessment of whether such aid is in compliance with the internal market. Whilst, as a general rule, State aid provided by the Member States is deemed incompatible with the internal market,104 there are exceptions to this rule.105 Italy contended that its plan to grant State aid in the context of the liquidation of BPV and VB fell within the scope of Article 107(3)(b) TFEU (EC 2017a: para 47), which stipulates that State aid aimed at remedying “a serious disturbance in the economy of a Member State” may be considered compatible with the internal market. The claims made by the Italian Government about the risks of discontinuation of BPV’s and VB’s activities, suggest that it perceived both institutions as systemically important, in the sense of having potential to create major disturbances in the economy, even if primarily at the regional level, in the Veneto (EC 2017a: para 98). It is, however, doubtful whether Article 107(3)(b) TFEU, which refers to “a serious disturbance in the economy of a Member State”, would embrace such regional disturbances. In the case Freistaat Sachsen and Others v Commission (Joined cases T-132/96 and T-143/96) the Court asserted, in reference to the scope of Article 107(3)(b) TFEU,106 that “the disturbance in question must affect the whole of the economy of the Member State concerned, and not merely that of one of its regions or parts of its territory”.107 This would render the Italian claim about the applicability of Article 107(3)(b) TFEU to the case of BPV and VB questionable. In its assessment of the compliance of the Italian State aid with the TFEU, the EC largely relied on the Banking Communication (BC) (EC 2013, 2017a: paras 100–103). The BC does not clarify or complement the meaning of the concept “a serious disturbance in the economy of a Member State” and, more  Article 107(1) TFEU.  Article 107(2–3) TFEU. 106  Ex Article 92(3)(b) EC Treaty. 107  Para 167 Joined Cases T-132/96 and T-143/96. 104 105

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particularly, whether this may also encompass a disturbance in the economy of a region of a Member State. However, the opinion of the Advocate General in Kotnik and Others (Case C-526/14) suggests that the compliance of State aid granted to banks with Article 107(3)(b) TFEU and the BC would require that the serious disturbance—that such State aid aims at remedying—has an impact in the economy of a Member State, not just one region within it.108 According to the BC, financial stability is a factor of major importance in the EC’s assessment of the compatibility of State aid with the internal market (EC 2013: para 7). In the context of wind-down processes, the BC considers that the granting of State aid to failing banks may be in compliance with the TFEU provided that this is necessary to preserve financial stability, and the aid is not granted before shareholders and subordinated creditors contribute in full to offset losses (EC 2013: paras 44, 65 and 66). Although the BC does not define the scope of the notion of “financial stability” for State aid purposes, some of its provisions would seem to suggest that this refers to the stability of the financial system of a Member State as a whole. For example, according to paragraph 6 of the BC, the application of Article 107(3)(b) TFEU requires the presence of “genuinely exceptional circumstances where financial stability at large is at risk.” Likewise, paragraph 25 of the BC implies that State aid to banks may be in compliance with the principles of the BC as long as the recipients of such aid are banks that are systemically important at the level of, at least, a Member State and whose distress may “lead to systemic stress in the financial sector, which in turn can also have a strong negative impact on the economy as a whole[…]and might thus endanger financial stability”. In its assessment, the EC concluded that the State aid proposed by Italy was in compliance with Article 107(3)(b) TFEU (EC 2017a: para 138). Although the EC’s assessment was extensive, it did not tackle the issue of the geographical scope of the serious disturbance to the economy—i.e. regional versus national—but just recapped the views of Italy in this respect, which merely referred to a “serious disturbance in the economy in the areas where VB and BPVI operate” (EC 2017a: para 98). As has been explained, Article 107(3)(b) TFEU and the BC embrace the idea that, in order for a bank to receive State aid in compliance with the TFEU, such bank must be systemically important at the Member State level, namely a bank whose failure may have a serious negative impact on the whole economy and overall financial stability of a Member State. The arguments put forward by Italy and the EC, which only imply a regional systemic importance and impact of BPV and VB, do not appear to fulfil the TFEU’s requirement.  Para 56 Case C-526/14.

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The EC’s decision—which was the ultimate result of an overall inconsistent treatment of the concept of systemic importance across the EBU—raised criticism among some commentators, who interpreted such a decision, not only as a major blow to the EBU and its objective to avoid the use of taxpayers’ money in the solution of bank crises, but also as a potential instance of preferential treatment to Italy by the EC (see e.g. Maxwell 2017).

5

Conclusions

This paper has examined the meaning, interpretation and role of the concept of systemic importance in EBU supervision and resolution. The analysis evidences that the concept of systemic importance is given an inconsistent treatment in the EBU.  This is the result of various factors that the paper has identified and analysed. In the first place, EBU law does not embrace a common concept of systemic importance applicable to and across the various EBU pillars; there are differences in the notions of systemically important banks underlying SSM supervision and SRM resolution, respectively. Secondly, the ECB, the SRB and the EC interpret the concept of systemic importance inconsistently; such interpretational differences concern aspects such as the criteria that a bank needs to satisfy to be deemed systemically important or the geographical scope of the serious disturbance to the financial system or the economy that the failure of a systemically important bank may cause. Thirdly, EBU law gives systemic importance an asymmetrical role in supervisory and resolution stages; whereas the systemic importance of a bank plays a central role in the allocation of supervisory competences in the SSM and the SRM, in the latter’s resolution stages, systemic importance plays a much more marginal role; in this respect, being under the direct remit of the SRB—which according to the SSM’s and SRM’s principles generally implies systemic importance—does not automatically result in a right to SRB’s resolution for a bank that is failing or likely to fail and in relation to which no alternative private or supervisory actions have been identified. SRB’s resolution requires compliance with the public interest test that, as has been shown, is linked to the accomplishment of the resolution objectives, some of which are unrelated and even potentially detrimental to financial stability, which is the main objective of the EBU first pillar. Ultimately, these determinants of inconsistency in the treatment of the concept of systemic importance are largely related to the EBU’s multilevel nature, in which a series of actors, at both the EU and Member State levels are entrusted with the performance of supervisory and resolution tasks that involve discretionary assessments about the concept of systemic importance.

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A more consistent treatment of the concept of systemic importance of banks across and within the different EBU pillars would require certain reforms of the current EBU’s legal and institutional framework. A first set of reforms could be aimed at establishing a common notion of systemic importance in EBU law, to be applied in SSM supervision and SRM resolution by the ECB, the SRB and the EC. This would limit the scope of discretionary and divergent interpretations of the concept of systemic importance in both SSM supervision and SRM resolution, which would in turn result in greater legal clarity, certainty and predictability of the EBU’s decision-making processes. Secondly, the analysis has shown that the role of the SRB in the assessment of the public interest test may bring uncertainty and potential inconsistencies to the EBU in general and bank resolution in particular. This is detrimental for building the credibility of the EBU’s resolution system. As put by the EC’s Communication on completing the Banking Union: “It is essential that actions taken by the Single Resolution Board enjoy the absolute confidence of all parties concerned if the key objectives of resolution in terms of maintaining financial stability and minimising costs to taxpayers are to be fully achieved” (EC 2017b: 6). A potential solution to this problem would be to remove such task from the SRB and to link the satisfaction of the public interest test—for a bank that is failing or likely to fail and in relation to which no alternative private or supervisory actions have been identified—to the remit under which a bank operates. According to such model, all banks that are under the SRB’s authority, namely ECB directly supervised banks, and less significant cross-border groups would automatically satisfy the public interest test on the grounds of their potential significant negative effects on financial stability, provided that the other conditions for resolution are satisfied. This would guarantee that all the banks that are considered systemically important in the SSM and the SRB’s pre-resolution stages are deemed worthy of SRB’s resolution when they face a failure scenario, hence avoiding potentially contentious SRB’s or EC’s decisions that may hinder the credibility and legitimacy of the SRB and, more generally, of the EBU.

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10 Non-Performing Loans and the European Union Legal Framework Elisabetta Montanaro

1

Introduction

The deteriorating quality of banking loans have been one of the most dramatic consequences of the financial crisis and subsequent recession in Europe, particularly in the euro area. Usually, poor asset quality and credit losses stem mainly from weaknesses in bank management and control of credit risk, not sufficiently robust to prevent aggressive loan expansion, excessive loan concentration, and sometimes even fraud or criminal activities. The incidence of non-performing loans (NPLs) in the more vulnerable economies of the euro area has been however unusual, in terms of level, spread and speed of accumulation on bank balance sheets. From the systemic feature of the NPL overhang, systemic bank crises arose, showing that in the euro area many banks were under-provisioned and under-capitalised. Low profitability undermined the ability of distressed banks to build adequate reserves against loan losses. Higher capital requirements imposed to weak banks, when the crisis was ongoing, had procyclical effects magnified by under-provisioning (Cavallo and Majoni 2001), and contributed to make the breach of regulatory minima and the consequent bank crises more likely. This confirmed that resolving systemic NPL crises without the support of fiscal resources was simply unfeasible. Hence, the “sovereign-banks doom loop”, which the creation of the banking union was expected to break. E. Montanaro (*) University of Siena, Siena, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_10

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Threats of systemic contagion from the Irish and Spanish NPL crises to the whole euro area crucially accelerated the decision by euro area leaders to accept centralisation of banking supervision according to the famous Euro Area Summit Statement of 29 June 2012. The centralisation of bank oversight was expected to be the price to pay for a euro area public safety net, which, helping to recapitalise ailing banks, would have restored market trust in the European banking systems. The political approach which, however, prevailed in the euro area postponed the establishment of a full banking union until after the excess NPLs were dealt with at the national level, subject to the constraints of EU state aid rules and the no-bail-out paradigm stated by the BRRD. National NPL legacy solutions consistent with the new European framework for bank crisis management were the necessary preconditions for completing the banking union with its risk-sharing pillars (Meseberg Declaration 2018). When the NPL problem affects many banks, supervisors are facing a difficult balance between two issues: on one side, allowing weak banks to avoid recognising and provisioning losses worsens their vulnerability and makes resolution more painful; on the other, a too radical cleaning up of bank balance sheets might bring out system-wide capital shortfalls, jeopardise financial stability and trigger a credit crunch (ESRB 2017a). If financial stability remains a national issue, it is unavoidable that threats of contagion that might originate from a wave of banking crises disincentivise national supervisors and governments from addressing the NPL issue more resolutely. In the absence of a common euro area backstop, the main target of the banking union, that is eliminating the “home bias” prevalent in national supervision and the fragmentation inside the single market, has been missed. International experience shows that “waiting and delay” is the riskiest approach for fixing a systemic NPL overhang, because it undermines bank profitability and solvency, increases funding costs and diverts managerial skills and operational resources away from new lending business. The Basel prudential framework does not guarantee that capital is not overstated, if loan loss reserves are insufficient and banks underreport the true amount of non-performing loans and/or over-value their recovery value. An intrusive supervision and demanding stress tests can help to discover the size of the problem. However, the broad discretion of supervisory interventions entails the risk of forbearance, mainly if fiscal space for saving distressed banks is limited (Brown and Dinç 2011). Therefore, the solution of the legacy issue requires harmonised binding rules for identifying and measuring NPLs. This chapter is organised as follows. The next section gives updates on the NPL crises in the euro area countries most affected by the legacy issue.

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Solutions adopted by Ireland, Spain and Slovenia are presented, where the problem was addressed early, and bank recovery has been faster thanks to a large amount of fiscal resources allocated in cleansing bank balance sheets. Section 3 analyses the reasons why in other high NPL countries solution of the legacy problem has been slower. In addition to limited fiscal space for providing support to the banking sector, inefficiency of the legal and judicial system for insolvency and collateral enforcement, and low profitability of banks have been the main constraints. Section 4 presents the European regulatory framework on NPLs, focusing mainly on the divergences between prudential and accounting rules regarding loan loss provisioning, and on the progress made towards harmonising the regulatory identification of non-­ performing exposures and forbearance. Section 5 analyses the new supervisory approach recently adopted by the SSM to accelerate the solution of the NPL overhang and avoid its build-up in the future, and the comprehensive NPL package proposed by the European Commission. It focuses on the proposed statutory prudential backstop for vintage NPL provisioning, to be included in Pillar I capital requirements for enhancing a consistent implementation of the Basel framework in the single market. Section 6 briefly concludes.

2

NPL Crises in Euro Area Countries

The euro area was the epicentre of the NPL outbreak, which emerged when the financial crisis triggered borrowers’ insolvencies and related bank losses due to the excessive leverage of the private sectors (households and financial and non-financial firms) built up in the previous years. Asset price deflation, economic recession, rise of unemployment, and low profitability of firms and banks were the major drivers of NPL accumulation. At the end of 2017, the gross amount of NPLs in the euro area was about 785 billion euros, just under 90% of total EU amount of NPLs and around 7% of the euro area GDP, as against more than 10% in 2014 (Fig. 10.1). Despite recent progress, NPLs remain a relevant issue mainly for medium-­ sized and small euro area banks,1 which are generally outside direct ECB supervision. At the end of 2017, they were still reporting values for gross NPLs to total loans (NPL ratio) as close to or greater than 10% (Fig. 10.2).  The ECB statistical database defines as large those banks whose assets as a percentage of total consolidated assets of EU banks are greater than 0.5%, medium-sized those between 0.5% and 0.005%, small those with less than 0.005%. 1

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1400

12.0 %

1200

10.0

€ billions

1000

8.0

800

6.0

600

4.0

400

2.0

200 0

2014 2015 2016 2017 2014 2015 2016 2017 Euro Area European Union NPL gross (€ billions)

0.0

NPLs/GDP % (rhs)

Fig. 10.1  NPLs in the EU and in the euro area. Sources: For NPLs: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches. For GDP: ECB, Macroprudential Database

16 14

NPL ratio %

12 10 8 6 4 2 0

2014 Small banks

2015 Medium-sized banks

2016 Large banks

2017 All banks

Fig. 10.2  NPL ratio evolution in the euro area by size of banks, 2014–2017. Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches

The wide variability by bank size confirms that aggregate data seriously undervalue the real dimension of the NPL problem, which also exists in countries where the quality of bank loans seems robust.2 Many factors may explain the  One example is Germany, where relevant pockets of vulnerability characterise the sector of Landesbanken. For many of these regional public banks the severity of the NPL problem is no less serious than that in more vulnerable countries. This is due to their great exposure to the distressed shipping sector and foreign commercial real estate (IMF 2014a, p. 66). 2

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  Non-Performing Loans and the European Union Legal Framework  Table 10.1  Non-performing loans and coverage ratio by euro area Member States

Austria Belgium Cyprus Germany Estonia Spain Finland France Greece Ireland Italy Lithuania Latvia Luxembourg Malta Netherlands Portugal Slovenia Slovakia Euro Area

NPL gross (billions of euros)

NPL ratio %

Coverage ratio %

2014

2017

2014

2017

2014

2017

46.1 26.6 28.3 87.5 0.3 182.1 4.5 149.1 110.2 75.6 321.9 1.4 1.3 4.1 1.1 54.5 49.1 5.7 2.5 1092.7

20.1 20.0 20.9 72.1 0.46 114.8 4.3 138.9 103.7 31.7 225.3 0.7 1.2 4.4 0.9 41.0 37.0 2.8 1.7 785.0

7.4 4.3 38.3 3.8 3.2 8.1 1.6 4.1 39.6 21.4 16.4 6.7 9.5 1.4 6.0 3.3 16.4 22.7 5.1 8.0

3.5 2.6 30.7 1.7 1.9 4.4 1.2 3.1 45.0 9.9 11.2 3.1 5.5 0.7 3.1 2.1 13.2 9.1 3.7 4.6

49.08 40.46 31.70 34.80 37.68 46.43 30.44 51.34 43.47 46.69 45.23 31.52 39.92 30.83 31.55 37.77 37.92 53.31 51.62 43.80

48.68 42.74 45.93 56.48 25.42 42.65 27.75 50.44 46.67 29.90 50.49 30.77 35.87 37.34 34.77 29.81 49.87 59.59 65.59 47.11

Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches

higher value of the NPL ratio for small and medium-sized banks, including their governance structures and business models (Mody and Wolff 2015). Inadequate incentives for bank managers arising from forbearance by national supervisors and weak market discipline may be responsible, but it is also true that smaller banks often do not have the skilled staff and organisational structures needed to recover and/or restructure their problem loans efficiently. Table 10.1 shows the gross carrying amount of non-performing loans, the NPL ratio and the coverage ratio (Loan loss reserves3/Gross NPLs) by euro area Member States. Inside the euro area, a subset of countries is officially classified as “high NPL countries” (ECB 2017a, p. 6): Greece, Cyprus, Ireland, Italy, Portugal, Spain and Slovenia. In these countries, the deterioration of loan quality

 Loan loss reserves (also called loan loss allowances) absorb future losses both from problem loans and from apparently performing loans, which would later turn into non-performing status. These reserves are established and increased by provisions for loan losses, which are periodic charges against earnings. 3

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45 40

NPL ratio %

35 30 25 20 15 10 5 0 CY GR IE IT ES PT SI

CY

2008 3.59 4.70 1.90 6.30 2.80 3.60 4.20

2009 4.51 7.00 9.80 9.40 4.10 5.10 5.80

GR

IE

2010 5.82 9.10 13.00 10.00 4.70 5.30 8.20

2011 9.99 14.40 16.10 11.70 6.00 7.50 11.80

IT

ES

2012 18.37 23.30 25.00 13.70 7.50 9.70 15.20

PT

2013 38.56 31.90 25.70 16.50 9.40 10.60 13.30

SI

Fig. 10.3  NPL ratio in high NPL countries before the SSM. Source: IMF, Financial Soundness Indicators

after 2008 has been particularly severe, with peak values of the NPL ratio above 10%.4 Figure 10.3 clearly shows that in all seven countries the NPL problem was already severe in the early years of the crisis, with a rapid acceleration starting in 2010. Since 2010, Greece, Cyprus, Ireland, and Portugal have received financial assistance from the European Union and the International Monetary Fund. For Ireland alone, though, the European Union and the International Monetary Fund gave priority to restructuring the banking system and to resolutely addressing the problem of NPLs, considering that fiscal strains were the consequence and not the cause of the banking crisis. For Greece, Cyprus and Portugal, fiscal consolidation and reducing external imbalances were the main objectives, thus largely under-evaluating the unavoidable impact of the  According to Laeven and Valencia (2012, 2018), from 2008 to 2017, these countries were hit by a banking crisis, defined as “systemic” for Cyprus, Greece, Ireland and Spain, and “borderline” for Italy, Portugal and Slovenia. ESRB (ESRB 2017b) defines as “systemic” the banking crises experienced by all these countries, starting already in 2008–2009  in Ireland, Spain and Portugal, and between late 2009 and 2011 in Greece, Italy, Cyprus and Slovenia.

4

  Non-Performing Loans and the European Union Legal Framework 

219

e­ conomic and fiscal crisis on credit quality and bank solvency (Pisani-Ferry et al. 2013; Véron 2016). Spain, where the crisis had already been officially recognised in 2009, was provided with financial assistance from the newly-created European Stability Mechanism in 2012. Spain was the first and last euro area intervention acting as a proper European safety net, specifically aimed at solving a systemic banking crisis via indirect recapitalisations of banks,5 but without conditions for fiscal policy and structural reforms, unlike the standard IMF/EU programmes provided to the other countries (Corsetti et al. 2017). Today, Ireland and Spain are generally considered successful examples of a comprehensive approach to addressing the NPL crisis by a radical restructuring of their banking system. The adopted measures aimed not only at recapitalising or nationalising ailing banks with large injections of public funds but also at improving the long-term bank viability by reducing overbanking and increasing cost efficiency (IMF 2014b, 2017a; Schoenmaker 2015). In these two countries, the assistance programme required a common strategy to fix the NPL issue, with the primary objective of cleaning bank balance sheets: measuring capital shortfalls via rigorous asset review and demanding stress tests; forcing banks requiring public support to transfer their toxic assets to a centralised asset management company; more efficient resolution of debt distress through reform of insolvency proceedings; restructuring or resolving banks in receipt of state aid. Spanish supervisors also established strict provisioning rules6 and performed more intrusive controls on bank governance and risk management (Banco de España 2017), while Irish authorities focused mainly on rules of conduct to protect distressed borrowers and imposed target for mortgage in arrears forbearance and restructuring (Donnery et al. 2018). In broad terms, a fairly similar comprehensive approach to tackling the NPL crisis has been adopted by Slovenia. Starting in 2012, Slovenia addressed the solvency problems arising from the NPL overhang of her banks (OECD 2013, p. 43 ss.) with a large programme of public bail-outs authorised by the European Commission under the framework of state aid regime established  The recapitalisation of banks was indirect, because EU funds were provided to a public agency, the Fund for the Orderly Restructuration of the Banking System (FROB), created in 2009, at the start of crisis, which utilised them mainly to remove NPLs from banks’ balance sheets through the new created asset management company (SAREB). 6  Strict provisioning rules on vintage NPLs and foreclosures had been issued in 2012, thanks to the fact that, the only case in Europa, Banco de España, the national supervisory authority, is also an accounting regulator (ECB 2017a, p. 125). Banks had been obliged to calculate provisions over the unsecured portion of loans according to supervisory minimum ratios, defined as in a range from 25% after three months and 100% after 21 months. The objective was to encourage banks to reduce their NPLs by selling them on the market or transferring to SAREB (Banco de España 2017, p. 114). 5

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by the 2013 Communication7 (European Commission 2013). The recapitalisation of viable banks and the transfer of most of their NPLs to an asset management company were the main instruments (Bank of Slovenia 2012). According to IMF estimates (data at the end of 2015), fiscal costs for restructuring the financial sector as a percentage of GDP amounted to 30%, 9.9% and 5.4%, respectively for Ireland, Slovenia and Spain (Laeven and Valencia 2018). Italy, partly because her NPL ratio was structurally higher than other European countries, delayed recognising the systemic dimension of the NPL problem and, more generally, the extensive weaknesses of the banking sector. After the results of the 2014 Asset Quality Review, which highlighted large capital shortfalls for several  Italian banks, due mainly to insufficient provisioning (ECB 2014, p. 70 ss), the country has become the main culprit of the problem of NPLs in the euro area (Arnold and Politi 2014; Garrido et  al. 2015). Much more than the other high NPL countries, Italy has been actually cornered by the new regulatory approach—no-more bail-outs, only bail-­ ins—which have dramatically reduced the range of the resolution options available to cope with the NPL legacy. This confirms the mistake of putting the new regulatory framework in place before the legacy problem was solved (Beck 2017).

3

 ountry-Specific Constraints Upon Solutions C for the NPL Legacy

Starting mainly from 2015, all high NPL countries (except Greece) are characterised by a decreasing trend in NPL overhang. This has been due to improved macroeconomic conditions on one hand and, on the other, the more decisive interventions promoted by supervisors. However, ample divergence exists among countries in the speed of recovery, largely due to country-­ specific factors. Whether the NPL issue has been addressed by national supervisors and governments before or after the banking union partly explains the different adjustment path. After the banking union, the supervisory stance became  Communication from the Commission on the application, from August 2013, of State aid rules to support measures in favour of banks in the context of the financial crisis (“Banking Communication”), 2013/C 216/01. These measures are considered state aid because they include the transfer of NPLs to an asset management company with transfer prices generally above market price: state aid consists therefore in reducing losses borne by banks to the difference between book value and transfer price of NPLs. 7

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  Non-Performing Loans and the European Union Legal Framework 

more intrusive and less nationally biased.8 Thus, the previous trend of over-­ optimistic attitude by banks and their national supervisors regarding loan quality and NPL losses has been reversed (Bertay and Huizinga 2015). However, at the same time, the new approach to bank crisis management strictly limited the various forms of public capital support needed to finance the extensive cleaning up of bank balance sheets. The experience of the late-­ coming countries, such as Italy, which tackled the NPL legacy after the start of the new framework, seems to confirm that fears for financial stability and political costs have seriously prevented national authorities from a comprehensive strategy aimed at radically addressing the legacy issue together with the structural fragilities of the banking system (Schoenmaker and Véron 2016; Homar and Wijnbergen 2017; Montanaro and Tonveronachi 2017). In Fig.  10.4, the seven countries and the EU average have been plotted according to the respective 2017 values of the Basel solvency ratio and the 30 IE

Solvency ratio %

25 20 EU average

IT

SI ES

15

GR

PT

CY

10 5 0

0

50

100

150

200

NPL net of loan loss reserves/Own Funds % Fig. 10.4  Bank solvency and capital vulnerability of high NPL countries (2017). Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches

 NPL crises in the affected countries have been not only the consequences of macroeconomic factors (the double-dip recession), but also of mismanagement and supervisory failures. An example is Spain, whose crisis was a combination of a real estate bubble and burst, excessive growth of private indebtedness and macroscopic failures of bank supervisors. Indeed, they largely under-valuated the risks of an abnormal increase and concentration in bank portfolios of mortgages and real estate developer loans, and the governance issues associated to the political control of the saving banks (the cajas) (Garricano 2012). 8

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ratio of NPLs net of loan losses reserves to own funds. This second indicator is a measure of the risk posed by un-provisioned losses of NPLs on solvency.9 The higher this ratio is the higher is the capital vulnerability of banks, even if their regulatory solvency ratio is well above the Basel minimum. Figure 10.4 shows that the seven high NPL countries constitute three clearly distinct groups in terms of bank solvency and vulnerability: the best-­ performer (Ireland, Spain and Slovenia) where the NPL issue has been addressed at an early stage and whose banks now show capital strength ratios near the EU average; the late-coming countries (Italy and Portugal) where major fragilities remain due to the legacy problem; and the countries where the crisis is still ongoing (Greece and Cyprus). Much literature exists on the determinants of NPL evolution in banking systems and on their specificities in European countries (Athanasoglou et al. 2008; Nkusu 2011; Beck et al. 2013; Dimitrios et al. 2016). Even if the macroeconomic variables play a crucial role, other bank and country-specific factors explain the different performance of the high NPL countries in dealing with this legacy issue and the progress made in more recent years. In Fig. 10.5, the differences in the adjustment path by the seven countries are shown. Among the countries where the economic recovery is today under way, Italy and Portugal present the worst values of the speed in the adjustment path. In all countries, efficiency of resolution strategies has been crucially affected by structural factors and fragilities. Available options and problems to be overcome in dealing with the NPL issue vary according to economic sector of distressed borrowers. NPLs always originate from debts above the amount that borrowers can pay back. Indeed, over-indebtedness of households and/or non-financial firms characterises all high NPL countries. Households’ over-indebtedness arising from irresponsible lending and inadequate regulation on consumer protections10 has been one of the main causes of the banking crisis in Ireland and Spain, but also in Greece and Cyprus. Experience however demonstrates that solutions are particularly complex especially when most distressed borrowers are small or  This indicator is a simplified version of the Texas ratio, calculated by dividing gross NPLs by the sum of loan loss reserves and tangible capital. Like Texas ratio, it “provides a link between NPL exposures and capital level” (ECB 2017b, p. 30). It is much more useful than the simple NPL ratio for evaluating the effects that NPLs may have on bank vulnerability, because it takes into account the amount of problem loans and the resources (capital and reserves for loan losses) available to absorb their expected and unexpected losses. 10  These problems have been only partially addressed by the 2014 Mortgage Credit Directive (Directive 2014/17/EU of the European Parliament and of the Council of 4 February 2014 on credit agreements for consumer relating immovable property and amending Directives 2008/48/EC and 2013/36/EU and Regulation (EU) No 1093/2010). Between 2010 and 2012, new provisions for debt discharge of over-­ indebted households were introduced in Ireland, Greece, Italy and Spain (Bouyon and Musmeci 2016). 9

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EU average ES IT SI PT IE CY GR -25.00

-20.00

-15.00

-10.00

-5.00

0.00

5.00

% Fig. 10.5  Average annual rate of change of NPL ratio (2014–2017). Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches

microenterprises, as, for instance, in Italy (Bonaccorsi di Patti and Finaldi Russo 2017). Standardised and collateralised household loans are relatively much easier to be valued and, therefore, sold or transferred to a centralised asset management company, as has been done in Ireland and Spain. The same can be said for credits to large state-owned corporations, such as the majority of NPLs in Slovenia. For loans to small enterprises, large information asymmetries between third parties and the originating bank also make it difficult to delegate restructuring processes to an asset management company, especially if efficient legal and jurisdictional mechanisms are not in place (Liu and Rosenberg 2013; Bergthaler et al. 2015; Demertzis and Lehmann 2017). Figure 10.6 shows the differences in the sectors most affected by NPLs in the seven high NPL countries. The feasibility of the different strategies for cleansing bank balance sheets and the size of eventual losses greatly depend upon institutional constraints, particularly the time and costs of insolvency proceedings and debt restructuring. Weak enforcement and collateral repossession framework and length of pre-insolvency and insolvency proceedings reduce the economic value of recoverable net cash flows; provisioning costs and losses arising from different

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90.00 80.00

% of total NPLs

70.00 60.00 50.00 40.00 30.00 20.00 10.00 0.00

GR

CY

IE

NPL share to households, %

IT

PT

SI

ES

NPL share to non-financial firms, %

Fig. 10.6  Breakdown of NPLs by economic sectors (2017), %. Source: ECB, Consolidated Banking Data, Domestic banks and foreign subsidiaries and branches

strategies for NPL reduction therefore increase.11 At the same time, when the consequences from failing to pay are not immediate, borrowers are more likely to default strategically (Asimakopoulos et al. 2017; Schiantarelli et al. 2016). Especially if doubts are growing about bank health, vicious feedback between distressed banks and distressed borrowers become more widespread. Despite the cautions needed in using quantitative indicators and rankings to support the relevance of these elements, the World Bank database, Doing Business, contains data on length, recovery rates and costs of insolvency proceedings, which are generally considered significant to evaluate the differences across countries (McCormack et  al. 2016). They are set out in Fig.  10.7, which shows that Greece, Portugal, Italy and Cyprus are the countries where the insolvency efficiency is lowest, in line with their worst results in terms of the speed of adjustment (Fig. 10.5) and bank capitalisation and vulnerability (Fig. 10.4). Figure 10.8 finally confirms the close association between the adjustment path of the seven high NPL countries and bank profitability. This association is twofold. The decrease of problem loans lowers impairment and funding costs, thus improving profitability. On the other hand, low profitability delays  This is empirically confirmed by the large bid-ask spreads (the difference between the prices investors are available to pay for NPLs in the secondary markets and the prices at which banks are prepared to sell them) estimated for Italy, where recovery costs are among the highest in Europe (Fell et al. 2017, p. 133; Garrido et al. 2016). 11

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  Non-Performing Loans and the European Union Legal Framework 

% 100

4 Years

90

3.5

80

3

70 60

2.5

50

2

40

1.5

30

1

20

0.5

10 0

GR PT Recovery rate %

IT

CY ES Cost (% of estate)

IE SI Time (years) (rhs)

0

Fig. 10.7  Efficiency of insolvency proceedings by countries (2017). Source: World Bank, Doing Business, Resolving Insolvency, data at June 2017. Countries are ordered by increasing rate of recovery and decreasing length of proceedings

%

1.0

0.5

0.0

IE SI

ES

IT PT

-0.5 CY -1.0 GR -1.5 Fig. 10.8  Average ROA of banks (2014–2017), %. Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches

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resolution policies because it prevents supervisors from imposing stricter rules on provisioning and capitalisation and deters banks from recognising losses (Gandrud and Hallerberg 2017; Montanaro and Tonveronachi 2017). At the same time, investor expectations of inadequate remuneration and uncertainty about asset quality and impact upon capital requirements reduce the chance of attracting new private capital and, in general, of finding market solutions to support the cleaning up of bank balance sheets (Calomiris and Nissim 2014; S&P Global 2018).

4

 egulatory and Supervisory Aspects R of NPLs: Divergences and Loopholes in the EU Rules

Addressing the micro- and macro-stability problems related to the deteriorating quality of banking loans requires prudential and regulatory strategies aimed at the identification, measurement and resolution of non-performing loans. Identification refers to the enter and exit criteria in the non-performing status used by banks and supervisors. Measurement depends on the amount of losses produced and expected from debtors’ default according to the accounting and prudential rules for provisioning and/or write-offs.12 Resolution identifies the different instruments and policies available to reduce the NPL overhang by cleaning up bank balance sheets and/or restructuring unpaid debts. Identification, measurement and resolution measures are strictly interrelated: the efficacy, feasibility, and economic and political costs of resolution policies crucially depend on the typologies of non-performing assets and on the level of coverage of their losses granted by loan loss reserves and, if these are insufficient, by capital (Baudino and Yun 2017). When loans become non-performing, their value must be reduced because the expected cash flows, recovered from the distressed debtors or from the sale of collaterals or from disposal of claims on the secondary markets, are lower than the contractual ones. These value-adjustments via provisions or write-­ offs impact upon bank earnings and capital and thus on prudential capital ratios too.  Write-offs occur when loans are reasonably deemed unrecoverable (partially or in full) and are therefore removed from the bank books together with the corresponding loan loss reserve. This asset derecognition always results from granting distressed borrowers forbearance measures aimed at debt restructuring, even if it does not entail a renouncement of the bank’s legal right to recover forborne loans (ECB 2017b, p. 80). Write-offs of loans already provisioned are offset by the reduction of loan loss allowances, while unanticipated write-offs directly impact upon bank profits and capital. 12

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The objective of the post-crisis reform package of increasing the loss absorbing capacity of banks crucially relies upon the assumption that supervisors will be able to prevent banks from hiding or delaying losses, that is, from overstating their capital. The critical values of non-performing loans net of loan loss reserves to own funds (see Fig. 10.4) show that for several European high NPL banks this assumption has been proved incorrect. Recognising the size of the problem loans on bank balance sheets and discovering capital shortfalls due to under-provisioning are therefore crucial for the credibility of the current Basel approach to micro- and macro-financial stability. The coexistence of the different approaches adopted by prudential regulators and by accounting standard setters when determining credit quality and measuring losses makes it difficult to define common criteria for identifying problem assets. Moreover, there is still no international consensus on a harmonised prudential treatment of the potential losses arising from credit risk deterioration under the different approaches for computing risk-based capital requirements: this problem has recently been confirmed by the Basel Committee (BCBS 2016). The regulatory concept of “default” is the basis for calculating risk-­ parameters and therefore risk-weights and expected losses (for both defaulted and non-defaulted exposures) that should be covered by loan loss allowances, to guarantee that the regulatory capital is enough to cover unexpected losses.13 The accounting concept of “impaired loans” is related to the accepted criteria for recognising credit impairment losses, to promote the fair presentation and credibility of financial statements used for investment decisions. Significant differences exist between these two perspectives, financial stability the first, market protection the second one (Borio and Tsatsaronis 2004). For loan loss provisioning and its effect on bank solvency, these divergences became evident mainly after the crisis. The Financial Stability Forum (FSF 2009) identified provisioning practices under the IAS 39, based on the approach of “objective evidence of incurred loss”, as one of the forces that contributed more to amplify the negative business cycle, delaying the recognition of losses until loans were close to default (Laeven and Majoni 2003). Under the new “expected loss” approach of the IFRS 9, first applied in Europe in January 2018, the tensions between accounting and prudential regulation would be at  This is the economic background of the Basel capital framework, which however applies in full only under the IRB approach. Under the standardised approach, the concept of default is utilised for allocating loans in the class of defaulted exposures, to be covered with capital for the value net of specific loan loss reserves, with risk-weights increasing from 100% to 150% for NPLs that are not adequately provisioned. 13

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least partially reduced. While the definition of “impaired” does not, anyway, change, the categories of credit risk are more granular in comparison to IAS 39. Banks are required to allocate loans in three distinct classes,14 “performing”, “underperforming” and “impaired”: this classification is used not only to differentiate loans according to their quality, but also to regulate the method for provisioning. In Europe, even though the NPL issue has been one of the top priorities since the establishment of the SSM, harmonised prudential rules for promptly recognising and covering potential losses arising from credit quality deterioration would have required supervisors’ capacity or willingness to be explicitly empowered with these rules and their enforcement. This lack of supervisory powers differentiates Europe from other major jurisdictions, such as the United States, where regulators have overlaid the accounting standards with a prescriptive treatment of write-offs of vintage NPLs (Gaston and Song 2014; Aiyar et al. 2015; Restoy and Zamil 2017). On this matter, however, “[t]he powers of banking supervisors in the EU are legally limited…Accounting Standards, including on the imposition of provisions for non-performing assets, are not set by supervisors” (Constâncio 2017, p. 7). In the single supervisory rulebook, the “backbone of the banking union”, there is, therefore, no specific reference to the regulatory and supervisory treatment of NPLs. Until early 2015, under application of the EBA Implementing Technical Standard (ITS) on non-performing exposures and forbearance (EBA 2014),15 there was still no EU definition of NPLs (Barisitz 2013; D’Hulster et al. 2014; Bholat et al. 2016). The immediate purpose of the EBA ITS was to provide a harmonised European system of supervisory reporting on loan quality, to support the comprehensive assessment of bank asset quality (AQR) performed by the ECB before taking the responsibility of the euro area banking supervision. However, in a broader perspective, this harmonised reporting system was supposed to provide supervisors with comparable information about the size and nature of the NPL legacy issue. This was needed to eliminate uncertainty

 Under the new standard, banks must allocate all credit exposures into one of the three “Stage”, and this determines how impairment is calculated. While in “Stage 1”, low risk exposures are allocated, in “Stage 2” exposures with a significant increase of credit risk are included, and in “Stage 3” defaulted exposures or exposures for which a loss event has already incurred. 15  Commission Implementing Regulation (EU) 680/2014 of 16 April 2014, amended by Commission Implementing Regulation (EU) 227/2015 of 9 January 2015, laying down implementing technical standards with regards to supervisory reporting of institutions according to Regulation (EU) 575/2013 of the European Parliament and of the Council. 14

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about the quality of bank assets and capital levels, addressing the risk of forbearance by both banks and national supervisors (ESRB 2012).16 According to the EBA ITS, banks must classify as non-performing  all exposures defaulted under the Basel framework (CRR,17 art. 178) or impaired under applicable accounting standards, and all exposures not defaulted nor impaired, which are more than 90 days past-due and/or whose full repayment is considered unlikely without adopting measures for collateral realisation. Non-performing exposures (NPE)18 are measured considering their gross value, without taking into account collateral, and are generally assessed on an individual basis (transaction approach). However, for retail portfolios, when more than 20% of total exposure is non-performing, the debtor approach applies, that is, the non-performing status of a contract contaminates the debtor’s whole exposure (pulling effect).19 In line with the purpose of brightening out the grey area of restructuring and refinancing of problem loans, the EBA’s standard focuses especially on forbearance measures. These are defined as the concessions which banks grant to borrowers considered unable or potentially unable to comply due to financial difficulties. Forborne loans may be non-performing or performing; if non-performing, a forborne loan cannot be upgraded to performing before a one-year “cure period”, during which a debtor has shown its ability to meet the restructured conditions; to exit forbearance status a “probation period” of at least two years must elapse.20 The EBA’s standard, binding only for supervisory reporting purposes, has left the issue of a harmonised treatment for non-performing loans at EU level largely unresolved. Indeed, the EBA stressed that “[t]he definition of forbearance does not modify the current linkage in jurisdictions’ or institutions’  The negative effects of bank forbearance practices on transparency and accuracy of information disclosed to markets by financial statements were also stressed by ESMA, which highlighted that “[f ]orbearance should not lead to avoiding or postponing the recognition of impairment or obscuring the level of credit risk resulting for forborne assets.” (ESMA 2012, p. 1). 17  Regulation (EU) No. 575/2013 of the European Parliament and of the Council of 26 June 2013. 18  The EBA’s standard covers “non-performing exposures”, which include not only loans, but also debt securities of the banking book, financial guarantees and loan commitments given (off-balance-sheet items). Foreclosed assets are not included. 19  The debtor approach for retail exposures, when a significant threshold is classified as non-performing, generates one of the main divergences between non-performing, defaulted and impaired loans. The other arises from the rules prescribed for forborne non-performing loans to be upgraded to the performing status. EBA calculated that, in average, the NPL ratio was higher than default ratio (Defaulted loans and advances/Total loans and advances) about 0.30 pp., as of March 2016 (EBA 2016). 20  The EBA ITS classification of non-performing exposures and forbearance is substantially aligned with the one proposed in the BCBS’s guidelines for prudential treatment of problem loans (BCBS 2017a), even if the BCBS conditions for forborne status exit are milder (for instance, the required probation period is only one year). 16

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­ ractices between forbearance and impairment or default status, and the defip nition of non-performing exposures will not replace the definition of impaired or defaulted exposures or be used as an input in the computation of incurred losses, risk-weights and regulatory capital amounts” (EBA 2014, p.  8). In other words, the standard can reduce room for under-reporting NPLs, but not for under-reporting loan losses. The relevance of the EBA standard, however, should not be minimised since it would have provided supervisors and bank managers with comparable data on exposures qualified as non-performing, necessary for all interventions at national and European level regarding asset quality issues and their feasible solutions.21 Under this perspective, the standard shows some significant shortcomings. For classifying loans according to their quality, the two single categories (“performing” and “non-performing”) are not sufficiently analytical: a flaw that appears to be even more significant in light of the more granular assessment of credit risk prescribed by the IFRS 9. Aggregating all problem loans as “non-performing”, even if they are divided into the two classes (“past-­ due” and “unlikely to pay”), does not allow to differentiate them according to the severity of their status, and, more specifically, to the different probability that they might return to be performing (the so-called “cure rate”22). Equal values of NPL and coverage ratios do not have the same meaning for the supervisory evaluations and corrective interventions if the share of distressed borrowers still on a going concern is different.23 For instance, the supervisory criteria for identifying “unlikely to pay” exposures include many different events, from “lawsuit, execution or enforced execution in order to collect debt” to “disappearance of refinancing options” (ECB 2017b, p. 53): this class therefore includes borrowers already in bankruptcy and borrowers potentially still viable.24 Moreover, the significance of NPL supervisory data is further reduced because foreclosed assets are not included, even if these assets consume capital resources and generate potential losses, fairly like the NPLs. The EU system based on only two buckets is an exception in comparison to other  Even if the EBA ITS is binding for supervisory reporting, some significant divergences remain between NPLs values reported in the supervisory statistics by ECB and national authorities. An example can be seen in Slovenia, whose NPL ratios in the years 2015–2017, according to IMF Financial Soundness Indicators (data submitted by national supervisors) are much lower than the ECB’s ones: at the end 2017, 3.2% against 9.18%. This is because the Bank of Slovenia (the Slovenian supervisory authority) submitted to the IMF non-consolidated data for NPLs, that is, excluding foreign subsidiaries of domestic banks (Bank of Slovenia 2018, p. 28). 22  The cure rate is the percentage of previously non-performing loans which, after restructuring, are classified as performing. 23  The differences between the going and gone concern approach for strategies that banks should implement to reduce the NPL overhang are clearly outlined in the ECB guidance (ECB 2017b, p. 70 ss.), and in the EBA-proposed guidelines (EBA 2018, par. 8). 24  See, accordingly, Article 178(3), points (e) and (f ) of the CRR. 21

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major jurisdictions, which classify loans into various risk-buckets, no less than three for the non-performing class (substandard, doubtful and loss) (Baudino et al. 2018, p. 13). It is significant that in Europe the majority of high NPL countries have decided to keep applying more granular classification systems than the EBA standard (ECB 2017a). For a similar purpose, the ECB Banking Supervision requires banks to have granular information on the size and evolution of different portfolios of non-performing loans, including “watch list” exposures and foreclosed assets, not technically classified as NPE according to the EBA ITS (ECB 2017b, p. 6). No less relevant are the problems arising from EBA’s approach to forbearance. Obvious is the purpose of counteracting bank practices of granting forbearance measures to delay the loss recognition. However, debt restructuring should be used as an effective tool for credit risk management. Forbearance measures, provided that they are granted to still viable borrowers, can prevent loans from becoming non-performing or, if already non-performing, can facilitate their return to the performing status, thus avoiding the economic and social consequences of full insolvency and foreclosure procedures (Liu and Rosenberg 2013; Aiyar et al. 2015). Figure 10.9 shows the significant share of NPLs with forbearance, especially in the three high NPL countries (Ireland, Spain and Slovenia) were the adjustment path was faster. In the last few years, in line with the 2014 European Commission Recommendation,25 several  high NPL countries—particularly those where addressing the legacy problem was constrained by inefficiencies of the legal and judicial system—have introduced out-of-court or hybrid mechanisms for dealing with the distressed borrowers (Garrido 2016). The strict conditions prescribed by the EBA ITS to exit forbearance status, together with the increased provisions needed under IFRS 9, can have the unintended effect of disincentivising banks from offering forbearance measures even to viable or curable borrowers (Plata García et al. 2017).

 Commission Recommendation of 12 March 2014 on a new approach to business failure and insolvency, 2014/135/EU. Two years later, the Commission released a proposal of a Directive aimed at establishing a harmonised judicial framework on preventive restructuring and debt discharge for companies and entrepreneurs (Proposal for a Directive of the European Parliament and of the Council on preventive restructuring frameworks, second chance and measures to increase the efficiency of restructuring, insolvency and discharge procedure and amending Directive 2012/30/EU, COM/2016/0723 final, 22.11.2016). 25

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80 70

% of total NPLs

60 50 40 30 20 10 0

IE

ES

SI

PT

CY

GR

IT

Fig. 10.9  NPLs with forbearance measures, % (2017). Source: ECB, Consolidated banking data, Domestic banks and foreign subsidiaries and branches

5

Towards a European Strategy on NPLs

The political approach which prevailed in the euro area after the establishment of the banking union was that the excess of NPLs in peripheral banking systems were an idiosyncratic legacy issue, which ought to have been taken on by single Member States, subject to the constraints of EU state aid rules and the no-bail-out paradigm stated by the BRRD. In other words, national solutions for de-risking banking systems were the necessary preconditions for completing the banking union with the risk-sharing pillars, the i­ mplementation of which would only come around once everyone has done their national homework. Strong opposition to the potential mutualisation of legacy costs among Member States, as well as to any form of mandatory NPL disposal, made the project of a pan-European asset management company proposed by the EBA chairperson (Enria 2017) infeasible. In countries most affected by the NPL problem, the “artificial” debate on risk-reducing versus risk-sharing (Draghi 2018) contributed to generate disappointment in the expected benefits of the banking union, whose main perceived effects were that supervisory and resolution decisions have become mostly European, while the responsible

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of financial stability remained national, with limited tools to act (Jeffery 2016; Ferreira 2018; Panetta 2018). The need of the European policymakers  to make a political response to increasing mistrust in the whole design of the banking union (European Commission 2017a, b), and the SSM’s wish to consolidate in the international fora its reputation as an effective banking supervisor, accelerated the definition of a European strategy for more resolutely tackling the legacy problem. The Council Action Plan on Non-Performing Loans has been issued in July 2017 (Council of the European Union 2017a). Its envisaged strategy largely drew inspiration from the one repeatedly suggested by the International Monetary Fund (Aiyar et al. 2015; IMF 2015; IMF 2017b), already used to solve the NPL crisis in Ireland and Spain. The main pillars are enhancing supervision through binding and more conservative provisioning rules; developing the secondary market of NPLs; defining a blueprint for national asset management companies in compliance with existing banking and state aid rules; implementing reforms aimed at harmonising debt enforcement regimes and insolvency framework; and restructuring distressed banking systems. The most immediate effects of this comprehensive strategy would obviously result from loan loss provisioning rules, capable of accelerating NPL disposal or write-offs and not overstating the ability of banks to absorb unexpected losses even under “severe but plausible” scenarios. In this context, the ECB Guidance on active management of problem loans and forbearance (ECB 2017b) has already marked an important first step to bring into the banking union a harmonised approach in the supervision of banks with high level of NPLs.26 The Guidance—to be implemented by national authorities of the euro area with regard to less significant banks—sets the SSM’s “expectations” on NPL workout and resolution. It requires banks to develop and document an NPL strategic plan, setting “sufficiently ambitious” NPL reduction targets and addressing how these targets are to be achieved in a credible and timely manner. Banks are therefore requested to change their NPL strategies radically, not so much focusing on maximising recoveries, but on reducing problem loans through different “implementation options” (not only cash recoveries from cures and forbearance measures, collateral repossessions, and legal proceedings but also write-offs and direct sales and/or securitisation): options which are feasible, first and foremost, according to their coverage ratio and the expected impact on regulatory capital of  The Guidance (and the Addendum) was prepared by the High-Level Group on NPLs, established within the SSM in July 2015 and composed by representatives of the national competent authorities and the ECB. 26

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unprovisioned losses. The Guidance is formally non-binding, but if bank-­ specific targets do not meet supervisory expectations, specific measures apply (mainly in the form of capital add-ons), backed by Pillar 2 powers. In March 2018, EBA has issued for consultation similar Guidelines on NPL management (EBA 2018), addressed to all European supervisory authorities, which must incorporate the assessment of bank strategies and targets for reducing NPLs into the SREP. According to the EBA definition, the so-called “high NPL banks”, to which this assessment mainly would apply, are to be considered as all those banks which present an NPL ratio of 5% or more, a figure which now characterises many small and medium- sized European banks (see Fig. 10.2). These banks will be seriously challenged by the implementation of the Guidelines, because they often lack professional and operational skills to manage their NPL portfolios efficiently. Effectiveness of supervisory guidelines on NPL management requires that loan loss reserves are calculated by banks according to a prudential approach, harmonised and binding just like prudential capital requirements. However, in the current European framework, giving accounting powers to banking supervisors has been always considered legally and politically challenging, due also to the potential conflicts of competence between EBA and ESMA at EU level (Council of the European Union 2017b, p. 39).27 The application of IFRS 9 is expected to bring significant improvement in loan loss provisioning28: but the risk of undervaluing loan losses and overvaluing capital will not disappear. Under the new IFRS 9, when credit quality is deemed to have deteriorated significantly and a loan is no longer considered to be “low credit risk”, loan loss allowance must be reported as equal to the full lifetime expected credit loss, that is, to the present value of loss that arises if a borrower fails to comply during the life of the contract. This method not only applies to already impaired loans or when credit losses are incurred (Stage 3), but also to all exposures with “significant increases in credit risk” (Stage 2) (such as all restructured loans due to financial difficulties of borrowers, i.e. performing and non-performing forborne loans). The estimated amount of expected losses must reflect historical, current and forward-looking information.29 This  At the European level, it is the ESMA which is responsible to promote the consistent application of IFRS and foster convergence of enforcement practices. 28  However, according to the EU rules, the application of the IFRS is only compulsory for listed banks in their consolidated financial statements. Therefore, for individual banks, different accounting standards have been established in the various European countries. For instance, in Germany, all not listed banks have been allowed to remain on national generally accepted accounting principles (GAAP). 29  The expected increase of provisions under IFRS 9 will mainly arise from the higher impairment, which must be reported for the forborne exposures classified in the “Stage 2”. For IRB portfolios, the impact on 27

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new accounting standard ought to promote convergence between prudential and accounting approaches (Krüger et al. 2018). However, the broad scope for judgmental criteria implicit in the IFRS 9 expected loss model allows large managerial discretion, which might result in wide divergences across countries and across banks in measuring the value of problem loans (Cihack et al. 2013; Beatty and Liao 2014; Bholat et al. 2018). Under this perspective, the IFRS 9 will make even more compelling the issue of harmonising supervisory rules for loan loss provisioning. Credit risk models can now be used not only to quantify capital requirements against unexpected losses but also to determine reserves for expected losses. However, as the experience of an opportunistic use of IRB models clearly shows (Haldane 2013; EBA 2015; BCBS 2017c), these models can allow banks to game the rules with unintended consequences not only for prudential soundness but also for market discipline and effectiveness of supervision (Bushman and Williams 2012; Bushman 2014; Gebhardt and Novotny-Farkas 2018). A significant example is the implementation of the phase-in regime introduced in late 2017 to mitigate the capital impact of major provisions under the IFRS 9 (Arnold 2018).30 In measuring the expected losses for impaired loans, banks shall measure “unbiased and probability-weighted” credit losses according to alternative recovery scenarios, and the sale of these loans on secondary markets can be one of these scenarios. Giving the sale scenario a probability weighting below but close to 100% turns the (incurred) losses on NPLs that banks have already decided to sell into “major expected losses” under IFRS 9, whose major impact on regulatory capital can be transferred to the last years of the transitional period.31 This accounting “trick” facilitates strategies of swiftly reducing the stock of NPLs; however, at least for low-capitalised banks, which choose this transitional regime without being prevented from distributing profits, future solvency might be seriously undermined if profitability does not increase. Common Equity Tier 1 capital (CET1) will be a reduction of available own funds, partially offset by a reduction of the capital shortfall. For exposures under the standardised approach, major provisioning will reduce the denominator of the solvency ratios (risk-weighted assets), which therefore decrease less than the available own funds. 30  Transitional arrangements for mitigating the impact on regulatory capital from the application of expected credit loss accounting have been introduced into Basel framework by the Basel Committee (BCBS 2017b). Single jurisdiction is allowed wide discretion in implementing this option, which anyway must apply to only “new” provisions, that is, not to provisions which would exist under the incurred loss approach. According to Regulation (EU) 2017/2395 of the European Parliament and the Council of 12 December 2017, banks can dilute the reduction of own funds due to the increase of provisions resulting from IFRS 9, adding back these major provisions to their capital in a decreasing amount over five years. 31  However, the convenience of the sale option under the phase-in regime can be offset by the fact that the resulting major losses will be reflected in the dataset used for the estimates of the rate of recovery (LGD), therefore increasing capital requirements.

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The first attempt at radically innovating the European framework of provisioning rules was made by the SSM with the Guidance Addendum, whose first draft version, entitled “Prudential provisioning backstops for non-­ performing exposures”, was published in October 2017 (ECB 2017c). The aim of the Addendum was not to fix the NPL legacy (the stock of NPLs), but to avoid its build-up in the future. It specifies quantitative supervisory expectations concerning the minimum level of prudential provisions for new NPLs from 2018 onwards. New, unsecured NPLs should be fully covered two years after the classification date; for new, secured NPLs, a minimum level of provisioning is expected after three years, rising to 100% in year seven. Compliance is formally non-binding, even if non-compliance will be considered a negative element within the SREP, leading to the application of supervisory measures. Therefore, to avoid these “supervisory sanctions”, banks were encouraged to make deductions from Common Equity Tier 1 capital (CET1) on their own initiative for an amount equal to the potential gap between the expected prudential loan loss reserves and the ones calculated under the applicable accounting standard. The rationale is to introduce a new prudential layer (technically, a “prudential filter”32) dedicated to non-performing loans, implying a decrease of the available CET1, but without formally adjusting accounting provisioning or impinging on accounting powers. The Addendum intended to break the European taboo according to which accounting standard setters should be empowered with fixing the general principles for loan provisioning, whilst supervisory powers should be restricted to “influencing” provisioning policy, on the basis of bank-specific assessments. Unsurprisingly, the opposition from both the industry and European political authorities has been fierce, showing how salient in European political debates the problem of NPLs has become. The European Parliament, according to the opinion of its Legal Service (2017), and the European Commission (2017c, p. 14, n. 8) challenged the authority of the ECB to set general rules on loan loss provisioning.33 The new version of the Addendum was issued in March 2018 with quite the same content, but its ambitions have been downgraded to “supervisory expectations for prudential provisioning of non-performing loans” assessed on a case-by-case basis (ECB 2018). These expectations will be  Prudential filters are adjustments made in regulatory capital calculation that address the impact of accounting values which are considered undesirable from a prudential perspective for preserving the quality of capital. 33  On this matter, supervisory powers come from the Article 104(1)(d) of the CRD and 16(2)(b) of the SSM Regulation. The wording of the two articles is the same: the supervisory authority shall have at least the following powers: “…to require institutions to apply a specific provisioning policy or treatment of assets in terms of own funds requirements”. 32

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non-binding, serving as the basis for “dialogue” between significant banks and the ECB Banking Supervision, formally incorporated into the SREP from 2021 onwards. A new regulatory framework on NPLs has been presented by the European Commission in March 2018 (European Commission 2018b), as a part of the so-called NPL package.34 The basic idea and the objective are quite like the ones which inspired the ECB’s Addendum. A statutory prudential backstop would be added into Pillar I, consisting of a mandatory 100% coverage ratio of NPLs classified as “past-due”, to be reached two years after their classification as non-performing, if the exposure is unsecured; after eight years if secured. For NPLs classified as “unlikely to pay”, considered a less severe status, the proposed minimum coverage requirement would be reduced to 80%. The annual increase of the minimum coverage ratio is lower during the first years after the classification of non-performing, reflecting the fact that vintage NPLs have a lower probability of recovery. The difference between prudential and accounting loan loss reserves would be recognised as a deduction in the CET1 capital, which would be reversed at the end of the recovery procedures. The prudential backstop, complemented by the harmonised definition of NPLs according to the 2014 EBA ITS, would be introduced into the CRR, and therefore into the single supervisory rulebook, to be used for the European implementation of the three Pillars of the Basel framework. If the prudential backstop were approved, Europe would be at the forefront in defining a consistent and harmonised relationship between capital and loan loss reserves, in line with the current efforts of the Basel Committee to reduce the variability of the impact of provisioning practices on regulatory capital and, therefore, the variability of the capital charges for similar portfolios (BCBS 2016). However, because—as we have already seen—the EBA standard for NPL classification does not differentiate among the various typologies of NPLs according to its different probabilities to be “cured”, the homogeneous calibration of provisioning for the two classes of “past-due” and “unlikely to pay” might act as a disincentive for banks to tackle their problem loans with different strategies for debtors on a gone or on a going concern. An unintended consequence could be to prioritise short-term solutions rather than maximise  The other measures proposed by the Commission for implementing the 2017 Council Action on NPLs are a Directive on credit servicers, credit purchasers and the recovery of collateral, aimed at fostering the development of secondary markets for NPLs and facilitating out-of-court collateral enforcement for loans granted to business; and a European blueprint providing non-binding guidance for the design and set-up of Asset management Companies at a national level in compliance with banking and state aid rules (European Commission 2018a). 34

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the share of distressed but still viable borrowers who have been upgraded to the performing status (Angelini 2018). Not enough attention has been paid to promote bank ability and willingness to work out their problem loans internally, by granting them provisioning relief at least if forborne loans were characterised by high cure rates. The new regime applies only to new loans originated after 14 March 2018, when they would eventually become non-performing. This means that this proposal would not have any significant impact on the legacy issue. Its solution, though, is expected to be promoted mainly by the other measures proposed by the Commission: on the one hand, to foster the development of more competitive secondary markets for NPLs, granting a European passport to credit servicers and credit purchasers35; on the other, to accelerate the collateral enforcement of distressed firms through out-of-court solutions (European Commission 2018c). With regard to national asset management companies benefiting from public support—which we have shown has been the most efficient tools for solving NPL systemic crises—the Commission clarifies that they can be used only as exceptional tools, because the current limits deriving from state aid rules and the bank resolution framework are neither lifted nor amended under the proposed Blueprint (European Commission 2018d). Due to the stricter provisioning rules and the lower entry and management costs for NPL investors, the expected decrease of the price gap between accounting value and market prices of NPLs ought to incentivise banks to dispose of their problem assets quickly, with reputational gains and fewer pressures from supervisors. Thanks to these pressures, great expectations for development of NPL markets now exist, especially in major high NPL ­countries, such as Spain and Italy, where attractive opportunities of profits for loan servicers, NPL purchasers and their advisors are opening up (PWC 2017). However, it is doubtful that the success of the strategies to solve the NPL legacy problem could be measured by whether they promote the transfer of distressed loans from one part of the financial system to another, from banks to unregulated financial investors. This, also considering that NPL market transactions are mainly based on the expected recoveries of collaterals according to a gone concern approach (Grodzicki et al. 2018, p. 98), which obviously is not consistent with the efforts needed for the rescue and recovery of distressed borrowers.

 Credit servicers act as intermediaries on behalf of NPL purchasers, collecting payments from sold debtors. NPL purchasers are specialised funds, often labelled with the derogatory term of “vulture funds”. 35

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Conclusions

Many factors have contributed to the progress recently made in reducing the NPL legacy in the most affected countries of the euro area. Economic recovery and a more intrusive supervision had a crucial role. The experience of the high NPL countries shows, however, that to swiftly address the crisis’ legacy without undermining systemic stability, fiscal resources were necessary. Limits upon public support arising from the new crisis management framework and state aid rules made the adjustment path slower and continued to keep many European banks in vulnerable conditions, despite formal compliance with capital requirements. Especially where insolvency and collateral enforcement proceedings are inefficient and costly, the economic value of recoverable cash flows from problem loans is often well below their book value, and the uncertainty about the size of future losses arising from unprovisioned NPLs reduces market solutions for bank restructuring. In Europe, the impact of NPL overhang on bank solvency and profitability highlighted the vulnerabilities associated with loss provisioning processes. The single supervisory rulebook has remained unfinished, lacking a harmonised regulatory approach for the prudential control of NPLs. Harmonising criteria for classifying loans as non-performing or forborne promoted by EBA has been the first necessary step for closing these regulatory gaps. The selected classification system does not allow, however, an in-depth knowledge about the divergent severity of problem loans across countries and banks. Therefore, this system promotes solutions which are inappropriate to what really ought to be the main purpose in dealing with the NPL legacy, that is, maximising the number and the amount of problem loans returned to the performing status. More recently, the stricter supervisory interventions and guidance adopted by the SSM have incentivised major banking groups to innovate radically their strategies for tackling NPL overhang, prioritising reduction targets through market sales rather than focusing mainly on recovery by internal management. This solution swiftly reduces the NPL ratio of the affected banks, with reputational gains for managers and supervisors. Cleaning up bank balance sheets should actually be regarded as a necessary but not sufficient condition for solving the NPL legacy issue, which continues to burden the affected economic systems until a large number of distressed but still viable borrowers have been recovered. From this specific perspective, the NPL package proposed by the European Commission requires a more in-depth reflection.

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The effectiveness of the supervisory approach to the NPL issue has been limited by the lack of accounting powers characterising the European supervisory framework. The proposed prudential provisioning backstop, to be integrated in the Pillar 1 capital requirements, would be therefore a significant regulatory innovation for improving the credibility of the Basel framework. However, unintended effects could arise from the proposed backstop calibration, because non-performing exposures are treated regardless of whether defaulted debtors are still viable or not. This reform does not apply to the legacy issue. Solving the NPL overhang requires financial resources and managerial skills that many medium and small-sized banks are lacking. We may therefore expect that several of these more vulnerable banks will exit the market, thus producing a further industry concentration.

References Aiyar S. et  al (September 2015), A Strategy for Resolving Europe’s Problem Loans. IMF Staff Discussion Note SDN/15/19 Angelini P. (April 2018), Do high levels of NPLs impair banks’ credit allocation? Notes on Financial Stability and Supervision, Banca d’Italia, No. 12 Arnold M. (April 23 2018), EU banks rush to ‘have cake and eat it’ with bad loans sales. Financial Times Arnold M. and Politi J.  (October 26 2014), Rome Bankers protest at stress results. Financial Times Asimakopoulos I. et  al (2017), Micro-behavioral Characteristics in a Recessionary Environment: Moral Hazard and Strategic Default. Monokroussos P. and Gortsos C. (eds), Non-performing Loans and Resolving Private Sector Insolvency. Experiments from the EU Periphery and the Case of Greece. Palgrave Macmillan Studies in Banking and Financial Institutions, Springer International, 227–253 Athanasoglou P.P., Brissimis S.N. and Delis M. D. (2008), Bank-specific, industry specific and macroeconomic determinants of bank profitability.  Journal of International Financial Markets, Institutions & Money, 18 (2), 121–136 Banco de España (2017), Report on the Financial and Banking Crisis in Spain, 2008–2014, Madrid Bank of Slovenia (2012), Report on comprehensive review of the banking system and associated measures. Available at the URL: https://bankaslovenije.blob.core.windows.net/publication-Bfiles/gdgetwffgXaP_kratko_porocilo_fineng_full.pdf Bank of Slovenia (January 2018), Financial Stability Review, 21–51

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Barisitz S. (2013), Nonperforming Loans in Western Europe – A Selective Comparison of Countries and National Definitions, Focus on European Economic Integration, Oesterreichische National Bank (Austria Central Bank), Issue 1, 28–47 Baudino P. and Yun H. (October 2017), Resolution of non-performing loans-policy options. FSI Insights on policy implementation No 3, Financial Stability Institute, Bank for International Settlements Baudino P., Orlandi J. and Zamil R. (April 2018), The identification and measurement of non-performing assets: a cross-country comparison. FSI Insights on policy implementation No 7, Financial Stability Institute, Bank for International Settlements BCBS, Basel Committee on Banking Supervision (October 2016), Regulatory treatment of accounting provisions. Discussion Paper BCBS, Basel Committee on Banking Supervision (4 April 2017a), Prudential treatment of problem assets – definitions of non-performing exposures and forbearance. Guidelines BCBS, Basel Committee on Banking Supervision (March 2017b), Regulatory treatment of accounting provisions  – interim approach and transitional arrangements. Standards BCBS, Basel Committee on Banking Supervision (December 2017c), High-level summary of Basel III reforms Beatty A. and Liao S. (2014), Financial accounting in the banking industry: a review of the empirical literature. Journal of Accounting and Economics, 58 (2), 339–383 Beck R., Jakubik P. and Piloiu A. (February 2013), Non-performing loans: what matters in addition to the economic cycle? ECB Working Paper Series No. 1515 Beck T. (July 4 2017), The European banking union at three: A toddler with tantrums. VOX CEPR Policy Portal. Available at the URL: https://voxeu.org/article/ european-banking-union-three Bergthaler W. et  al (March 2015), Tackling Small and Medium Sized Enterprise Problem Loans in Europe. IMF Staff Discussion Note SDN/15/04 Bertay A. C. and Huizinga H. (2015), Have European banks actually changed since the start of the crisis? In-depth Analysis provided in advance of the public hearing of the Chair of the Single Supervisory Mechanism in ECON on 25 July 2015, European Parliament Bholat D. et al (April 2016), Non-performing loans: regulatory and accounting treatments of assets. Bank of England, Staff Working Paper No. 594 Bholat D. et al (2018), Non-performing loans and the dawn of IFRS9: regulatory and accounting treatment of asset quality. Journal of Banking Regulation, 19, 33–54 Bonaccorsi di Patti E. and Finaldi Russo P. (Febbraio 2017), Fragilità finanziaria delle imprese e allocazione del credito. Banca d'Italia, Questioni di Economia e Finanza (Occasional Papers) No. 371 Borio C. and Tsatsaronis K. (2004), Accounting and prudential regulation: from uncomfortable bedfellows to perfect partners?  Journal of Financial Stability, 1, 111–135

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Bouyon S. and Musmeci R. (October 2016), Two dimensions of combating over-­ indebtedness. Consumer protection and financial stability. European Credit Research Institute, Report No. 18 Brown C.O. and Dinç I.S. (2011), Too Many to Fail? Evidence of Regulatory Forbearance When the Banking Sector Is Weak. The Review of Financial Study, 4 (4), 1378–1405 Bushman R.M. (2014), Thoughts on financial accounting and the banking industry. Journal of Accounting and Economics, 58, 384–395 Bushman R.M. and Williams C.D. (2012), Accounting discretion, loan loss provisioning, and discipline of banks’ risk-taking.  Journal of Accounting and Economics, 54, 1–18 Calomiris C.W. and Nissim D. (2014), Crisis-related shifts in the market valuation of banking activities. Journal of Financial Intermediation, 23, 400–435 Cavallo M. and Majoni G. (2001), Do banks provision for bad loans in good times? Empirical evidence and policy implications. World Bank, Policy Research Working Papers WPS 2619  Cihack M. et al (2013), Bank regulation and supervision in the context of the global crisis. Journal of Financial Stability, 9, 733–746 Constâncio V. (3 February 2017), Resolving Europe’s NPL burden: challenges and benefits. Keynote speech by Vitor Constâncio, Vice-President of the ECB, at an event entitled “Tackling Europe’s non-performing loans crisis: restructuring debt, reviving growth” organised by Bruegel, Brussels. Available at the URL: https://www. ecb.europa.eu/press/key/date/2017/html/sp170203.en.html Corsetti G., Erce A. and Uy T.L. (August 2017), Official Sector Lending Strategies During the Euro Area Crisis. CEPR Discussion Paper DP12228 Council of the European Union (2017a), Council conclusions on Action plan to tackle non-performing loans in Europe, 11/07/2017. Available at the URL: http:// www.consilium.europa.eu/en/press/press-releases/2017/07/11/conclusions-nonperforming-loans/ Council of the European Union (2017b), Report of the FSC Subgroup on Non-­ Performing Loans, EF 113 ECOFIN 481 9854/17, Brussels, 31 May 2017 D’Hulster K., Letelier R. and Salamao-Garcia V. (August 2014), Loan Classification and Provisioning: Current Practices in 26 Countries. World Bank Group, Financial Sector Advisory Centre (FinSAC), Overview Paper Demertzis M. and Lehmann A. (2017), Tackling Europe’s crisis legacy: a comprehensive strategy for bad loans and debt restructuring.  Bruegel,  Policy Contribution, Issue No. 11 Dimitrios A., Louri H. and Tsionas M. (2016), Determinants of non-performing loans: evidence from Euro area countries. Finance Research Letters, 18, 116–119 Donnery S. et  al (April 2018), Resolving Non-Performing Loans in Ireland: 2010–2018. Central Bank of Ireland, Quarterly Bulletin 02/April, 56–70 Draghi M. (11 May 2018), Risk-reducing and risk-sharing in our Monetary Union. Speech by Mario Draghi, President of the ECB, at the European University

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Institute, Florence. Available at the URL:  https://www.ecb.europa.eu/press/key/ date/2018/html/ecb.sp180511.en.html EBA (24/07/2014), EBA Final draft Implementing Technical Standards on Supervisory reporting on forbearance and non-performing exposures under the article 99(4) of Regulation (EU) No. 575/2013, EBA/ITS/2013/03/rev1 EBA (04 March 2015), Future of the IRB Approach.  Discussion Paper, EBA/ DP/2015/01 EBA (22 July 2016), EBA report on the dynamics and drivers of non-performing exposures in the EU banking sector EBA (8 March 2018), Draft Guidelines on management of non-performing and forborne exposures, Consultation Paper, EBA/CP/2018/01 ECB (October 2014), Aggregate Report on the Comprehensive Assessment ECB (June 2017a), Stocktake of national supervisory practices and legal frameworks related to NPLs ECB (March 2017b), Guidance to banks on non-performing loans ECB (October 2017c), Addendum to the ECB Guidance to banks on non-performing loans: Prudential provisioning backstop for non-performing exposures ECB (March 2018), Addendum to the ECB Guidance to banks on non-performing loans: supervisory expectations for prudential provisioning of non-performing exposures Enria A. (30 January 2017), The EU banking sector – risk and recovery. A single market perspective. ESM Seminar ESMA (20 December 2012), Treatment of Forbearance Practices in IFRS Financial Statements of Financial Institutions. Public Statement, ESMA/2012/853. Available at the URL: https://www.esma.europa.eu/document/esma-issues-statement-forbearance-practices ESRB (July 2012), Forbearance, resolution and deposit insurance. Report of the Advisory Scientific Committee, No. 1 ESRB (July 2017a), Resolving non-performing loans in Europe ESRB (July 2017b), A new database for financial crises in European countries. ESRB Occasional Paper Series No. 13 European Commission (18 December 2013), State aid: Commission approves rescue or restructuring aid for five Slovenian banks. Available at the URL: http://europa.eu/ rapid/press-release_IP-13-1276_en.htm European Commission (31 March 2017a), Reflection Paper on the Deepening of the Economic and Monetary Union, COM (2017) 291 European Commission (11.10.2017b), Communication to the European Parliament, the Council, the European Central Bank, the European Economic and Social Committee and the Committee of the Region on completing the Banking union, COM (2017) 592 final, Brussels European Commission (11.10.2017c), Report from the Commission to the European Parliament and the Council on the Single Supervisory Mechanism, established pursuant to Regulation (EU) no. 1024/2013, Commission Staff Working Document, COM (2017) 591 final, Brussels

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European Commission (14.3.2018a), Second Progress Report on the Reduction of Non-­ Performing Loans in Europe.  Communication from the Commission to the European Parliament, the European Council, the Council and the European Central Bank, COM (2018) 133 final, Brussels European Commission (14.3.2018b), Proposal for a Regulation of the European Parliament and of the Council on amending Regulation (EU) No. 575/2013 as regards minimum loss coverage for non-performing exposures, COM (2018) 134 final, Brussels European Commission (14.3.2018c), Proposal for a Directive of the European Parliament and of the Council on credit servicers, credit purchasers and recovery of collateral, COM (2018) 135 final, Brussels European Commission (14.3.2018d), AMC Blueprint, accompanying the document Second Progress Report on the Reduction of Non-Performing Loans in Europe. Staff Working Document, SWD (2018) 72 final, Brussels Fell J.  et  al (November 2017), Overcoming non-performing loans market failures with transaction platforms. European Central Bank,  Financial Stability Review, 130–144 Ferreira E. (2018), Banking Union at a crossroads, Keynote speech by Ms Elisa Ferreira, Vice-Governor of the Bank of Portugal, at the CIRSF (Research Center on Regulation and Supervision of the Financial Sector) Annual International Conference 2018 “Banking Union at a crossroads”, Lisbon 6 June 2018, BIS Central bank speech, 25 July. Available at the URL: https://www.bis.org/review/ r180725h.htm FSF (Financial Stability Forum) (March 2009), Report of the FSF Working Group on Provisioning Gandrud C. and Hallerberg M. (2017), How not to create zombie banks: lesson for Italy from Japan. Bruegel, Policy Contribution, Issue No. 6 Garricano L. (2012), Five lessons from the Spanish cajas debacle for a new euro-wide supervisor. Beck T. (ed.), Banking union for Europe. Risks and Challenges. VOX CEPR Policy Portal, 77–84 Garrido J. (July 2016), Insolvency and enforcement reforms in Italy. IMF Working Paper WP/16/134 Garrido J., Kopp E. and Weber A. (2015), Resolving nonperforming loans in Italy: a comprehensive approach. IMF, Country Report No. 15/167, 49–68 Garrido J., Kopp E. and Weber A. (July 2016), Cleaning-up Bank Balance Sheets: Economic, Legal, and Supervisory Measures for Italy.  IMF  Working Paper WP/16/133 Gaston E. and Song I.W. (September 2014), Supervisory Roles in Loan Loss Provisioning in Countries Implementing IFRS. IMF Working Paper WP/14/170 Gebhardt G. and Novotny-Farkas Z. (2018), Comparability and predictive ability of loan loss allowances  – The role of accounting regulation versus bank supervision.  CFS Working Paper Series, No. 591, Center for Financial Studies, Goethe University

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Grodzicki M., Metzler J. and O’ Brien E. (May 2018), Recent development in pricing of non-performing loan portfolio sales. European Central Bank,  Financial Stability Review, 97–99 Haldane A.G. (2013), Constraining discretion in bank regulation, Speech given at the Federal Reserve Bank of Atlanta Conference on ‘Maintaining Financial Stability: Holding a Tiger by the Tail(s)’, Federal Reserve Bank of Atlanta, 9 April 2013. Available at the URL: https://www.bis.org/review/r130606e.pdf Homar T. and Wijnbergen S.J.G. (2017), Bank recapitalization and economic recovery after financial crises. Journal of Financial Intermediation, 32, 16–28 IMF (2014a), Germany. Selected Issues. IMF, Country Report No. 14/217 IMF (February 2014b), Spain: Financial Sector Reforms  – Final Progress Report. IMF, Country Report No. 14/59 IMF (September 2015), A Strategy for Resolving Europe’s Problem Loans. Technical Background Notes IMF (October 31 2017a), Spain. Financial Sector Assessment Program. Technical Note Impaired Assets and Nonperforming Loans. IMF, Country Report No. 17/343 IMF (July 2017b), Euro area Policies. IMF, Country Report No. 17/235 Jeffery C. (November 10 2016), Ignazio Visco on Italian banks and why the ECB should not be made a ‘scapegoat’ for EMU fatigue. Central Banking. Available at the URL: https://www.bancaditalia.it/media/intervista/ignazio-visco-on-italianbanks-and-why-the-ecb-should-not-be-made-a-scapegoat-for-emu-fatigue/ Krüger S., Rösch D. and Scheule H. (2018), The impact of loan loss provisioning on bank capital requirements. Journal of Financial Stability, 36, 14–129 Laeven L. and Majoni G. (2003), Loan loss provisioning and economic slowdown: too much, too late? Journal of Financial Intermediation, 12, 178–197 Laeven L. and Valencia F. (June 2012), Systemic Banking Crises Database: An Update. IMF Working Paper WP/12/63 Laeven L. and Valencia F. (September 2018), Systemic Banking Crises Revisited. IMF Working Paper WP/18/206 Legal Service – European Parliament (2017), Legal Opinion. Addendum to the ECB Guidance to banks on non-performing loans – Legal Effects – Competence of the ECB to adopt such Addendum, 8 November. Available at the URL: https://www.google. com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=1&ved=2ahUKEwjw1s2dxJ XdAhVJyaQKHXgMBy0QFjAAegQIABAC&url=https%3A%2F%2Fwww. sven-giegold.de%2Fwp-content%2Fuploads%2F2017%2F11%2FLegal-Opinion-EP-on-NPL-Draft-Addendum.pdf&usg=AOvVaw1mmeJb2XgG qaSHkSdrjyM2 Liu Y. and Rosenberg C.B. (February 7 2013), Dealing with Private Debt Distress in the Wake of the European Financial Crisis. A Review of the Economics and Legal Toolbox. IMF Working Paper WP/13/44 McCormack G. et al (2016), Study on a new approach to business failure and insolvency. Comparative legal analysis of the Member States’ relevant provisions and practices. University of Leeds, European Commission, Tender no. JUST/2014/JCOO/ PR/CIVI/0075

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Meseberg Declaration (2018), Renewing Europe’s promises of security and prosperity.  The Press and Information Office of the Federal Government, Tuesday, 19 June 2018. Available at the URL: https://www.bundesregierung.de/Content/EN/ Pressemitteilungen/BPA/2018/2018-06-19-meseberg-declaration.html Mody A. and Wolff G.  B. (July 2015), The vulnerability of Europe’s small and medium-sized banks. Bruegel, Working Paper 2015/07 Montanaro E. and Tonveronachi M. (December 2017), Dealing with the vulnerability of the Italian banking system. PSL Quarterly Review, 70 (283), 357–420 Nkusu M. (July 2011), Non-Performing Loans and Macro Financial Vulnerabilities in Advanced Economies. IMF Working Paper WP/11/161 OECD (2013), OECD Economic Survey: Slovenia 2013.  Available at the URL: https://www.oecd-ilibrary.org/economics/oecd-economic-surveys-slovenia-2013_ eco_surveys-svn-2013-en Panetta F. (2018), Italian banks: where they stand and the challenge ahead. Bank of America Merrill Lynch Italy Day Conference, Remarks by Fabio Panetta, Deputy Governor of the Bank of Italy, London, 19 February. Available at the URL: https:// www.bancaditalia.it/media/notizia/fabio-panetta-speaks-in-london-on-italianbanks-where-they-stand-and-the-challenges-ahead/?com.dotmarketing.htmlpage. language=1 Pisani-Ferry J., Sapir A. and Wolff G.  B. (2013), EU-IMF assistance to euro area countries: an early assessment. Bruegel, Blueprints, No. 779 Plata García C., Rocamora M. and Villar Burke J. (December 2017), Transition to IFRS 9. Impact on forbearance practices: are there some risks?  BBVA Research. Available at the URL: https://www.bbvaresearch.com/en/publicaciones/transitionto-ifrs-9-impact-on-forbearance-practices-are-there-some-risks/ PWC (July 2017), The Italian NPL market. The Place to Be. Available at the URL: https://www.pwc.com/it/it/publications/npl-market.html Restoy F. and Zamil R. (October 2017), Prudential policy considerations under expected loss provisioning: lessons from Asia. FSI Insights on policy implementation, No. 5, Financial Stability Institute, Bank for International Settlements S&P Global (August 6 2018), European Banks M&A: More Talk than Action Schiantarelli F., Stacchini M. and Strahan P. (July 2016), Bank quality, judicial efficiency and borrowers runs: loan repayment delays in Italy. Banca d'Italia, Temi di Discussione 1072 Schoenmaker D. (19 January 2015), Stabilising and Healing the Irish Banking System: Policy Lessons, Paper prepared for the CBI-CEPR-IMF Conference “Ireland -Lessons from its Recovery from the Bank-Sovereign Loop”, Dublin Schoenmaker D. and Véron N. (eds) (2016), European banking supervision: the first eighteen months. Bruegel, Blueprint Series 25 Véron N. (July 8 2016), The IMF’s Role in the Euro Area Crisis: Financial Sector Aspects. International Monetary Fund, IEO Background Paper, BP/16–02/10

11 The Single Resolution Mechanism: Authorities and Proceedings Olina Capolino

1

Introduction

Banking Union was initially considered to be the only appropriate European response to the crises (Four Presidents Report 2012): a common regime for supervision and banking crisis management was believed to be necessary in order to sever the link between national banks and their sovereigns and restore confidence in the banking sector. The solution implied that banks should no longer be bailed out with State financing and, at the same time, that the stability of the credit institutions of each European country should become a common European concern. A few years later, completing the Banking Union was still considered indispensable for strengthening Economic and Monetary Union, as envisaged in the Report of the Five Presidents (2015).1 Achieving these objectives would have required structural changes in banking supervision and crisis management. The first pillar of the Banking Union was successfully realised, and the Single Supervisory Mechanism (SSM) is now

The opinions expressed are those of the author and do not necessarily represent those of her institution (Banca d’Italia).  ‘This common destiny requires solidarity in times of crisis and respect for commonly agreed rules from all members’ (European Commission, Completing Europe’s Economic and Monetary Union, 2015). 1

O. Capolino (*) Banca d’Italia’s Legal Services Directorate, Rome, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_11

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fully operational in the euro area, in spite of a few critical issues. The second and fundamental step was the creation of new common rules for managing banking crises, with the Bank Recovery and Resolution Directive (Directive 2014/59/EU of 15 May 2014, BRRD) establishing the principle that banks must normally be rescued without taxpayers’ resources and with, in the euro area, the introduction of a single mechanism for banking resolution (the Single Resolution Mechanism, SRM) and a Single Resolution Fund (SRF).2 Despite these important steps, ‘the actual implementation of the project took a different direction’ (Rossi 2018). A common Deposit Insurance Scheme (EDIS) that ought to be the third pillar of the Banking Union, increasing depositors’ confidence, has not yet been set up3 and the European institutions remain committed to completing the Banking Union through the establishment of a common public backstop4 for the SRF.  Until those additional instruments are created, the overall objectives of the Banking Union will not be fully achieved. Meanwhile, the vicious circle between banking crises and sovereign debt persists, but ‘a straitjacket’ has been imposed on banks to avoid bail-out completely: ‘in substance, European banks have become European only in one sense’ (Rossi 2018). At the moment, what are left of the initial project are ECB supervision and the SRM, which appears to be a complex and incomplete5 response to the problems stemming from banking crises.

2

 RM: A Brief Description of the Framework S and of Critical Aspects

In accordance with Regulation No. 806/2014, the purpose of the SRM is to apply, in the same area as the SSM, uniform rules and a uniform procedure for the resolution of credit institutions and of certain investment firms. Once  Regulation (EU) No 806/2014 of 15 July 2014.  The Commission’s initiative to set up an EDIS (Proposal for a Regulation of the European Parliament and of the Council amending Regulation (EU) 806/2014  in order to establish a European Deposit Insurance Scheme, COM(2015) 586 final) has made no appreciable progress at the moment. The absence of sufficient risk control measures has been put forward by some Member States as an obstacle, but it should be noted that the regulatory reforms and the existence of a single Supervisor and a single Resolution Authority should provide sufficient safeguards for the more hostile countries. See more recently European Commission, Communication to the European Parliament, The Council, the European Central Bank, the Economic and Social Committee and the Committee of the Regions on completing the Banking Union (COM/2017/0592 final), pp. 9–13. 4  A proposal for a regulation to bring the European Stability Mechanism (ESM) into the Union legal framework, transforming it into a European Monetary Fund to be used as a backstop for the SRF, was presented by the European Commission (COM/2017/827 final). See also the ECB Opinion for a regulation on the establishment of the European Monetary Fund (CON/2018/20). 5  The failure to introduce an EDIS weakens the SRM itself. 2 3

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again in analogy with the SSM, the Regulation provides for a new ‘mechanism’, composed of a central European body and the relevant National Authorities, which together form a network of public entities responsible for the management of banking crises in the euro area. Even if the general scheme and the scope of the SRM6 are the same as those of the SSM, other important aspects, such as the public entities involved and the distribution of competences, differ significantly. The SRM is composed of the Single Resolution Board (SRB), a new EU Agency (not a Union institution like the ECB: Lamandini and Ramos Muñoz 2016), and the National Resolution Authorities (NRAs) of the countries forming part of the euro area. The SRB performs the tasks of a resolution authority7 as part of the SRM, and in this function it is responsible for verifying the existence of a reasonable prospect of alternative private sector measures and for evaluating the presence of public interest8 for the application of the resolution framework. But the European Commission and the Council also play a very important role, highlighting the complexity of the decision-­ making process, which involves a multiplicity of subjects at national and European level (Zavvos and Kaltsouni 2015). The European Commission is, as usual, responsible for State aid clearance, when precautionary recapitalisation9 or extraordinary public financial support through government stabilisation tools10 or ‘liquidation aid’ (State aid in the context of a liquidation procedure, as provided for in the 2013 Banking Communication) are necessary. At the same time, the Commission is involved in the resolution proceedings, since certain actions, particularly the adoption of resolution schemes that place the banks under resolution, are subject to its approval (as well as, in some cases, being subject to the endorsement by the Council). More specifically, the SRB, once a resolution scheme has been adopted, must transmit it to the Commission, which within 24 hours can either endorse the scheme or object to it. When the Commission’s objections relate to the existence of public interest, or to the amount of the Fund’s commitment,11 the Council decides on a proposal of the Commission itself.12 Consequently, the Commission interacts with the Member States in different fields and capacities.  The scope includes the countries that decide to establish ‘close cooperation’ pursuant to Article 7 of Regulation 1024/2013 establishing the SSM. 7  See Article 3 BRRD. 8  See infra paragraph 8. 9  Article 32(4) BRRD. 10  Those tools are provided for in Articles 56 to 58 BRRD. 11  See Article 19 SRMR. In the framework of the regulation, SRF aid is regarded as equivalent to State aid. 12  Article 18(7) SRMR. 6

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The involvement of the Commission in the proceedings is influenced by the burden of the ‘Meroni doctrine’: recital 24 of the SRMR states that ‘The assessment of the discretionary aspects of the resolution decision taken by the Board should be exercised by the Commission’ and that ‘the Commission should be empowered to adopt delegated acts to specify further criteria or conditions to be taken into account by the Board’,13 while recital 26 recalls the need to respect the principle of delegation of powers to agencies ‘as interpreted by the Court of Justice’. In accordance with this doctrine, which limits the possibility of delegating powers that are not merely executive, the European legislator is still very reluctant to grant full powers to the European agencies. In general, the validity of this orientation is nowadays debatable, since the limits set by the Meroni doctrine refer to an institutional context that was very different from the current one, and the Court of Justice itself now seems to have softened the Meroni judgment, which dates back to 1958 (Moloney 2014; Ferran 2015).14 However, in the specific area of banking crises, it remains difficult to imagine that exclusive decision-making powers are conferred on independent technical agencies, at least in cases where the use of public funds is crucial.15 The complexity of the articulation of powers within the decision-making mechanism designed by the SRM Regulation, which exceeds the already ­complex architecture of the SSM Regulation,16 can be attributed not only to the desire not to deviate from the Meroni doctrine but also to the uncertainties relating to the legal basis of the Regulation itself.17 Indeed, this is another weakness of the incomplete architecture of the new European crisis management framework. While the SSM has a clear legal basis, Article 127(6) TFEU, allowing the ECB to perform ‘specific tasks concerning policies relating to the prudential supervision of credit institutions’18 (Zavvos and Kaltsouni 2015),  The same recital 24 justifies the involvement of the Council as follows: ‘Given the considerable impact of the resolution decisions on the financial stability of Member States and on the Union as such, it is important that implementing power to take certain decisions relating to resolution be conferred on the Council’. 14  ECJ, UK v. Council and Parliament, C-270/12 (the shortselling case). 15  Anyway, the SRB enjoys a wide margin of technical discretion, e.g. in the MREL determination. See Appeal Panel, 16 October 2018, Case 8/18, https://srb.europa.eu/en/content/cases. 16  The complexity of current EU financial law also extends to the purposes of regulation, which seem to respond from time to time to different approaches and motivations: to facilitate market action, to foster investor confidence, to protect the stability of the system (Lamandini and Ramos Muñoz 2016). 17  Furthermore, it should be borne in mind that an intergovernmental dimension is also present in the SRM, because the transfer of national banks’ contributions to the SRF has been established by an intergovernmental agreement (Agreement on the Transfer and Mutualisation of contributions to the Single Resolution Fund (IGA), 21 May 2014). 18  Although it is difficult to reconcile this provision with the assumption by the ECB of a very broad set of powers as a supervisory authority, the SSM is generally operating without too many problems. 13

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a similar enabling clause is absent from the Treaties in the field of banking crisis resolution; the SRM’s legal basis can only be found in Article 114 TFEU, which allows the Union to adopt measures for the approximation of provisions concerning the establishment and functioning of the internal market, thereby seeming to exclude the transfer to the Union of national powers concerning a limited number of Member States (on the reasons why reliance on Article 114 should be considered justifiable in this case, see Ferran 2015). The system’s architecture is complex, owing to the fact that so many public bodies are involved, with shared competences, both at European and national levels. The allocation of responsibilities and the decision-making process are centred on the Single Resolution Board, which, however, acts under the control of the European Commission and the Council. To make the framework even more complex, the Board, the Commission and the Council are subject to the binding technical standards developed by the EBA19 and to the guidelines and recommendations of that authority.20 The principle of separation between supervisory and resolution functions is of particular importance among the innovations in the European regulatory framework on banking crises. The BRRD has an extremely cautious approach in assigning resolution functions to the supervisory authority21: Member States may only exceptionally provide for the resolution authority to be the competent authority for supervision, and in that case adequate structural arrangements should be in place to ensure operational independence and avoid conflicts of interest between the functions of supervision and resolution, without prejudice to the exchange of information and cooperation obligations. Moreover, the staff involved in carrying out the functions of the resolution authority pursuant to the Directive must be structurally separate from the staff involved in carrying out the tasks relating to supervision, and subject to separate reporting lines. The idea of a separation between the two functions is not wrong: if supervisors and crisis managers coexist in the same structure, the former will tend not to consider drastic measures necessary, to preserve their power, and to postpone the emergence of difficulties, that, in some way, may imply an admission of the failure of supervisory action. On the contrary, separation can effectively avoid the two functions being reciprocally influenced and conditioned in their evaluations, preventing conflict and capture of the supervisors.  It is worth recalling that, according to Regulation (EU) No. 1093/2010, the technical standards developed by the EBA are also adopted by the Commission. 20  Article 5(2) SRMR. 21  See Article 3 BRRD. 19

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The SRB and the NRAs, with regard to the entities falling within their respective responsibility, can make use of all the powers and resolution tools laid down in the BRRD and in the SRMR, as specified in the resolution plan. BRRD resolution tools include, as is well known, bail-in, sale of business, bridge institutions and asset separation. The BRRD also provides for write-­ down or conversion of relevant capital instruments (Article 59), as well as, under certain conditions, financial stabilisation tools (Articles 56–58), such as public equity support and temporary public ownership. The powers and tools available to the resolution authorities are strong and effective; bearing in mind the current European case-law,22 we can expect these tools to be deemed as not having a prejudicial effect on shareholders’ and creditors’ rights.

3

The Division of Tasks Within the SRM

While only the SRB is responsible for the overall functioning of the SRM, in close cooperation with the NRAs (Article 31 SRMR) and with the investigatory powers established by Articles 34–37 of the SRMR, a clear distinction between the competence of the Board and NRAs is provided for by Article 7 of the SRMR with regard to the entities subject to the Regulation: the SRB is responsible for the entities considered significant under the SSMR and for cross-border groups, while the NRAs are responsible for the remaining entities and groups. The NRAs have extensive powers for the resolution of banks falling within their sphere of responsibility, while playing an executive role when a national ailing bank falls under the competence of the SRB. Unlike the SSM scheme, the SRB’s decisions basically need to be implemented by the NRAs. The specific resolution tools and measures are adopted by the NRAs according to the resolution scheme, and the SRB may apply those resolution tools and measures directly only when the NRAs do not comply with its decisions.23 It is the NRAs’ responsibility to cooperate with the SRB, to take all the necessary action to implement the SRB’s decisions, applying the resolution measures or, when the SRB finds that resolution is not in the public interest, starting the national insolvency proceedings.  ECtHR, Grainger and others, 10 July 2012; ECJ, C-526/14, Kotnik and others, 19 July 2016; ECJ, C-41/15, Dowling and others, 8 November 2016; T-680/13, Chrysostomides & Co. and others, 13 July 2018; T-786/14, Bourdouvali and others, 13 July 2018. 23  See Article 29 SRMR and Article 11 of the Framework for the practical arrangements for the cooperation within the Single Resolution Mechanism between the Single Resolution Board and national resolution authorities (SRB/PS/2016/07). 22

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While the SSM is called upon to apply largely European rules (CRD and CRR), in the field of resolution national procedures still play an important role, since insolvency rules are not harmonised. The NRAs’ familiarity with those rules can then be crucial, considering that the interpretation of a national law provision or an administrative provision ‘must be assessed in the light of the interpretation given to them by national courts.24 The governance of the SRB mirrors the friction between the European and the national dimension. The deliberative organ can be organised in two different compositions: a plenary session and an executive session (Article 49 ff. SRMR). This different composition brings together the centralisation of skills and the efficiency of the decision-making process on the one hand, with the need for cooperation with the NRAs on the other. The plenary session is composed of the president and four other full-time members, in addition to a representative of the NRA appointed by each Member State. In accordance with Article 43(3) of the Regulation, the Commission and the ECB participate in all the meetings of executive sessions and plenary sessions as permanent observers, and the representatives of both institutions are entitled to take part in the debates and have access to all the documents.25 The SRB in its plenary session is involved in key decisions.26 Nevertheless, the decision-making process for the adoption of resolution tools, according to Article 54(1)(b) of the SRMR, provides for the crucial decisions to be taken by the SRB in its executive session, with the participation of the representative of the NRA responsible for the failing entity. It is worth noting that the NRA has no say in whether the resolution or the national insolvency proceedings should apply, because if a general consensus is not reached, the Chair and the other four full-time members will decide by a simple m ­ ajority.27 Only in cases where a member of the plenary session calls for a meeting, will the decision be taken by the Board in its plenary composition.28 This governance model is quite different from the SSM one, in which supervisory decisions are never taken by a restricted session of the Governing Council or the Supervisory Board.

 ECJ, General Court, T-133/16 to T-136/16, Caisse régionale de crédit agricole mutuel, 24 April 2018, § 84.  Article 43(3), second subparagraph, SRMR. 26  See Article 50 SRMR. 27  Article 55(1) SRM Regulation. In the case of a tie, the Chair has a casting vote (Article 55(3)). 28  Article 50(2) SRMR, second para. 24

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Relationship Between the SRM and the SSM

As already mentioned, the principle of separation between supervisory and resolution authorities is firmly established by the resolution rules.29 However, given that the SRB is the competent authority for resolution planning and for determining the minimum requirement for own funds and eligible liabilities (MREL),30 supervision and resolution activities are actually closely related, and their competent authorities should cooperate in several phases of the life of credit institutions, even when the crisis appears a remote and unlikely event. In fact, the principle of separation between the supervisory and the resolution powers itself requires close cooperation between the SSM and the SRM (Donato 2016), especially when a credit institution is close to the point of non-viability. But if the critical situation of a bank calls for increased collaboration between SSM and SRM authorities to perform their duties, the situation also results in an overcrowding of responsibilities and powers. The ECB carries out the tasks of a banking supervisory authority and, in particular, is responsible, with regard to all banks within the SSM area, for authorising and withdrawing banking licences and for assessing acquisitions of qualifying holdings. With regard to the crisis of significant credit institutions, the ECB is responsible for requesting recovery plans from banks, for enacting early intervention measures and for determining whether a bank is failing or likely to fail (FOLTF decision). For less significant banks, the same responsibilities lie with the NCAs, and the NRAs are also involved when the less significant institutions are not under the SRB remit.31 But, even in the latter cases, the ECB is the competent authority for taking decisions on the withdrawal of authorisation, the assessment of acquisitions of qualifying holdings,32 and the granting of new authorisations (the ‘common procedures’ provided for by Articles 14 and 15 of the SSMR) which might be required during a resolution procedure. Furthermore, even if the ECB is only responsible for prudential supervision and has no competence to declare insolvency, pursuant to Article 18(1) of the SRMR it  is its task to ascertain that a credit institution is FOLTF, although the assessment involves a consultation with the SRB and a final  See para. 2 above.  Article 45 BRRD. 31  Pursuant to the Article 6(4) SRMR, cross-border groups and all the cases in which the Single Resolution Fund is used. 32  Article 4(1)(c) SSMR, to be interpreted restrictively. 29 30

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notification to that agency.33 Conversely, according to the same provision, an assessment of the absence of alternative measures, including supervisory action, must be made by the Board, but in close cooperation with the ECB.34 A specific problem arises regarding the FOLTF assessment in respect of the less significant banks under the direct responsibility of the SRB.35 According to a literal reading of Article 18 of the SRMR, the ECB is the competent authority, but a systematic interpretation suggests that, in this case, the FOLTF decision should lie with the NCA responsible for the supervision of those banks. The legal uncertainty could obviously be overcome by amending the SRMR (ECB 2017). For the performance of their duties, the ECB and the SRB must exchange relevant information, inter alia in order to avoid an excessive reporting burden on the supervised entities. For these purposes, and in accordance with Article 30(7) and Article 34(5) of the SRMR, the two authorities have signed a memorandum of understanding regulating cooperation and informal exchanges.36 Bilateral exchanges of information and cooperation between the SRB and each NCA obviously require specific agreements and remain outside the scope of the memorandum, while this does cover cooperation of the NCAs in the SSM common procedures. It is interesting to note how with the MoU the ECB undertakes not only to consult the SRB in these cases, but also to take into account its views,37 thereby adding even more complexity to the common procedures envisaged by the SSM Regulation.38

5

Financing Banking Crisis Solutions

The crucial problem in managing banking crises is finding the necessary financial resources, especially since, owing to the recent shift of perspective about how to rescue banks (which, in several European countries, had  Other authorities, such as the European Commission and the national Ministry of Finance, have to be notified of the FOLTF decision. 34  Supervisory and resolution responsibilities may overlap in other situations, such as the assessment of resolvability (Article 10 SRMR) and the determination of the minimum requirement for own funds and eligible liabilities (Article 12 SRMR). 35  See above footnote 31. 36  The MoU was signed on 22 December 2015 and revised on 30 May 2018. See https://www.ecb.europa. eu/ecb/legal/pdf/en_mou_ecb_srb_cooperation_information_exchange_f_sign_2018.pdf. 37  ECB-SRB Memorandum of Understanding, paragraph 9.5.3. 38  The complexity of the ‘common proceedings’, involving the competences of both NCAs and ECB, is evidenced by C-219/17, Berlusconi and Fininvest, and the pending case T-913/16, Fininvest and Berlusconi. In the first case, see the Opinion of the Advocate General M. Campos, presented on 27 June 2018, and the ECJ (Grand Chambre) judgement (19 December 2018). 33

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requested significant use of public funds for their bail-out), the protection of taxpayers’ funds has become a priority. Under the current resolution rules, the envisaged sources of financing are, first of all, those of shareholders and creditors, then those of the SRF, while public resources can be used only as a last resort and subject to strict requirements. What is more, when national insolvency proceedings have to be applied, the SRF resources are not available. The BRRD actually allows the use—in a systemic crisis scenario—of public financial stabilisation instruments (Articles 56–58), but only on the condition that resolution tools (including bail-in) have been used previously ‘to the maximum extent practicable whilst maintaining financial stability’ and in compliance with State aid rules. The SRF is funded by contributions collected from all the euro area banks by the NRAs.39 The Fund is owned and managed by the SRB, which decides on its use, subject to Commission and Council approval. The corresponding rules are stringent: the SRF can be used only when the resolution has been decided, and only on condition that the bail-in of at least 8 per cent of total eligible liabilities is applied. One of the ways of funding projects to overcome banking crises has traditionally been the intervention of deposit guarantee schemes (DGS), or rather the ‘alternative’ intervention to the repayment of depositors, which is the DGS’ primary function (Hadjiemmanuil 2017). This form of intervention, which is also allowed by the Directive 2014/49/EU on deposit guarantee schemes (DGSD), can take place by offering guarantees, purchasing equity investments, or even by way of non-repayable grants, provided they are justified by the principle of the ‘least cost’ with respect to the repayment of depositors.40 In the Tercas case,41 however, the European Commission took the view that any alternative intervention of a DGS responds to a public mandate and is imputable to the State, even where the schemes are established as private enti In several legal proceedings proposed before the ECJ and national courts, many banks are trying to obtain annulment of the SRB’s calculation decision, especially on the grounds that the respective role of the SRB and the NRAs, as well as the decisions by the SRB, are not themselves transparent. The ongoing proceedings against the SRB’s calculation decision for the banking levy demonstrates how complex, even in this field, the interaction between national and European authorities can be, and what consequences this complexity can also have in terms of identifying the judge with jurisdiction. 40  Article 11(3) of the Directive. See also recital 3 of the DGSD (‘In view of the costs of the failure of a credit institution to the economy as a whole and its adverse impact on financial stability and the confidence of depositors, it is desirable not only to make provision for reimbursing depositors but also to allow Member States sufficient flexibility to enable DGSs to carry out measures to reduce the likelihood of future claims against DGSs. Those measures should always comply with the State aid rules’). 41  Commission Decision (EU) 2016/1208 of 23 December 2015 on State aid granted by Italy to the bank Tercas (Case SA.39451 (2015/C) (ex 2015/NN)). 39

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ties and not financed with public funds. In essence, on the one hand, this position risks undermining Article 11(3) of the DGSD itself, which provides for and regulates alternative intervention, and on the other hand it fails to consider that such an intervention might not constitute State aid at all, if it is carried out at market conditions. In the Banking Communication (para. 63), the Commission itself clearly states that assistance from a DGS may constitute State aid, to the extent that it is subject to State control and the decision on the use of the funds is imputable to the State. Therefore, the Commission should not take into consideration, for the purpose of its evaluation, the cases that do not fall within this definition. It will be interesting to see how the EU Court of Justice will decide on this matter.42 A regulatory intervention would certainly be useful to definitively clarify the relationship between the European regulation on banking crises and the provision on DGS intervention through ‘alternative measures’ contained in the DGSD. It is also important to note that the European Parliament further urged the Commission ‘to reconsider its interpretation of the relevant State aid rules in an effort to guarantee that the preventive and alternative measures provided for by the European legislator in the DSGD can actually be implemented; notes that specific situations have been treated differently without clear justification’ (European Parliament 2017, para. 39).43 The problem remains as to how to satisfy the need for new financing, which typically arises during banking crises, in order to provide liquidity, absorb losses and recapitalise ailing credit institutions (Hadjiemmanuil 2017).

6

 esolution vs National Insolvency R Proceedings

With the implementation of the BRRD, resolution was introduced into the law of European countries as an alternative to national insolvency proceedings for managing banking crises. However, according to the BRRD itself (recital 45), as well as to the SRMR (recital 59), ailing banks should ordinarily  The following actions before the EU General Court are pending on the case: T-98/16, Repubbica italiana v. Commission; T-196/16, Banca Tercas v. Commission; T-198/16, Fondo interbancario di garanzia dei depositi and Banca d’Italia v. Commission. 43  See also European Parliament (2018), paragraph 32: (The Parliament) ‘Is concerned at the mismatch between State aid rules and Union legislation related to the ability of deposit guarantee schemes (DGSs) to participate in resolution as provided for in the BRRD and DGSD, as expressed in the previous report; calls on the Commission to reconsider its interpretation of the State aid rules with reference to Articles 11(3) and 11(6) of the DGSD in order to guarantee that preventive and alternative measures provided for by the European legislator can be actually implemented’. 42

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c­ontinue to be subject to ‘normal insolvency proceedings’ provided for at national level, while resolution can be decided only on condition that there is public interest, as defined by Article 32(5) of the BRRD and Article 18(5) of the SRMR. Recital 13 of the Directive offers a very clear explanation of the reasons that led to the introduction of this condition, noting that the application of resolution tools and the exercise of powers attributed to the resolution authority may interfere with the rights of shareholders and creditors (in particular, the power to transfer, in whole or in part, the shares or assets of a bank to a private purchaser without the consent of the shareholders, which affects the latter’s rights, or the power to determine which liabilities to transfer and which to leave to the ailing bank, which may affect the equal treatment of creditors): it is because of the incisiveness of these tools and powers that the presence of a qualified public interest is required, as a condition justifying their adoption, in addition to the declaration that the bank is FOLTF and the finding that there is no reasonable prospect of overcoming the crisis through private intervention or supervisory measures. The concept of public interest has thus become crucial in the management of European banking crises, given that—once it has been ascertained that a bank is FOLTF and that no other measures are planned to prevent it from collapsing—it is precisely the presence of public interest that justifies the rescue of the failing bank under the resolution procedure and makes recourse to the resolution tools possible. This public interest is considered to exist when resolution action is necessary (and proportionate) to achieve one or more of the objectives of resolution (which in turn consist of ensuring the continuity of essential functions, avoiding significant negative effects for the financial system, protecting public funds, protecting depositors and investors, protecting client funds and assets) and provided that these objectives cannot be achieved in the same way with the ordinary national insolvency procedures.44 As mentioned earlier, the public interest test for banks that fall within the sphere of competence of the SRB pursuant to Article 7 of the Regulation is the responsibility of that body, while the relevant NRA has practically no voice, since, even though one of its members participates in the Board’s executive session, the latter can decide by simple majority in a restricted composition if an agreement is not reached. When the public interest required for the adoption of a resolution scheme is not deemed to be present, the bank must be l­ iquidated  According to Article 32(5) BRRD and Article 18(5) SRMR, the public interest test under the resolution framework requires two questions to be answered: if resolution is necessary for the achievement of (and is proportionate to) resolution objectives, and if the national insolvency proceedings would meet those resolution objectives to the same extent as resolution. 44

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according to national law. Ordinary national insolvency proceedings apply, which are not harmonised and, above all, do not allow the use of the SRF. More generally, it can be observed that the assessment of the existence of such public interest, which is essential to justify the adoption of resolution measures, is necessarily to some degree disputable. As mentioned above, public interest is considered to exist if the resolution action allows the achievement of one or more of the objectives of the resolution. These objectives are, however, only generally indicated by European law, and therefore they can be interpreted in different ways according to the specific situations. The BRRD defines, for example, the ‘essential functions’ for which continuity must be ensured as those activities, services or operations whose interruption would most likely lead to the interruption of services essential to the real economy or that could jeopardise financial stability, considering the size, the market share, the interconnections, the complexity or the cross-border activities of the bank or banking group.45 But the practical identification of what the essential functions of each bank may be presupposes a case-by-case analysis that must also be updated from time to time. Indeed, European rules provide that the resolution authority, in drawing up the resolution plan for each bank, should take into account the need to ensure the continuity of essential functions and to avoid, as far as possible, any significant negative consequences for the financial system, including any potential unstable situation or systemic event that may affect the country in which the failing bank is incorporated or other Member States.46 But the resolution plan prepared by the resolution authority, which provides for an evaluation of the extent to which a bank crisis can affect public interest, although needing to be updated on a timely basis, cannot completely predict market developments and the true situation of the bank at the time of the declaration of FOLTF (Grünewald 2017). Moreover, in order to carry out correctly the evaluation required by Article 18(5) of the SRMR on the condition that the objectives of the resolution cannot be achieved through national insolvency proceedings, the European Agency should have an in-depth knowledge of both the national procedures in use in each euro area country (Grünewald 2017) and of the related application practices, not to mention the interpretation provided by national case-law.47  See Article 2 BRRD.  Article 15(1) BRRD; Article 10(3) and (5) SRMR. 47  See ECtHR, Grainger and others, para. 36: ‘Because of their direct knowledge of their society and its needs, the national authorities are in principle better placed than the international judge to appreciate what is in the “public interest”’. 45 46

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To conclude, the decision as to the existence of public interest remains a discretionary choice of the resolution authority. And it is worth noting that the negative decision on the presence of the requirements for resolution is not submitted for approval to other authorities, as if in this case—despite the Meroni doctrine—the SRB had greater discretion. This discretionary choice should, of course, be adequately motivated, especially considering its consequences. In fact, while, on the one hand, the triggers for resolution should coincide with those of national insolvency proceedings (except for the presence of the above-mentioned public interest), on the other, we have to admit that resolution is undoubtedly more powerful than national procedures, because it gives the public authority particularly incisive intervention tools, which are generally not provided for by current national law. Furthermore, especially when a national procedure applies, the resources from the SRF are, as pointed out, not available: consequently, in the absence of State aid or of an intervention of the national DGS, the risk of ‘atomistic’ liquidation becomes high, destroying the company’s value. This is the reason why the concept of public interest plays a fundamental role, as we will see when we examine the initial experiences. Before doing so, however, we can say that the SRB apparently defines ‘public interest’ as a concern for the financial system as a whole, potentially making reference to the entire euro area or, at least, to a Member State as a whole. Indeed, the SRB has conducted five public interest tests so far, with divergent results. In four cases, it did not identify a risk of negative effects on critical functions, considering the operations of the banks concerned, or acknowledge that their crisis could cause systemic effects in the country of incorporation (if not in those areas where they were most present). Consequently, those banks were meant to be placed into liquidation according to the rules laid down by national law, without the possibility of resorting to the SRF. In the remaining case, the Board concluded that the bank performed essential functions and that the use of resolution tools and powers would have been necessary to avoid systemic effects in two countries. Therefore, the SRB adopted a resolution scheme under which the bank’s shares were sold to another bank, which assumed the burden of recapitalisation, and the bail-in tool was applied.

7

SRM: Initial Experience

The primary aim of the BRRD seems to be to prevent the detrimental effects of banking crises, through the preparation of recovery and resolution plans and the provision of minimum requirements for banks’ own funds and eligi-

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ble liabilities: the focus on crisis prevention is indeed the most important and innovative aspect of the new legal framework.48 Recovery plans ensure that banks are fully aware of their economic and financial situation and prospects. This knowledge, together with judicious use of the early intervention measures by the competent supervisory authorities, should avoid most banking crises whenever possible.49 We must, however, remember that, when the new European rules on banking crisis management came into force, on the one hand, the envisaged prevention system was not yet functioning and, on the other, a transitional period was not provided for the full implementation of the burden sharing principle and bail-in tool, from the outset applicable even to existing securities. In this context, it is not surprising that the initial experience under the new rules has proved to be somewhat problematic.50 Since the SRMR came into force, banking resolution tools have been applied only once in the euro area, while the remaining banking crises have been managed by adopting national measures and tools, which, as is well known, differ from State to State: indeed, until now, the only case in which the SRB decided it was possible to make use of its resolution powers was the Banco Popular Español crisis. The complexity of the SRM framework and the high number of authorities involved could have a negative impact on the overall efficiency of the proceedings, but this was not the case in handling the Banco Popular crisis. On 6 June 2017, the ECB decided that BPE, Spain’s sixth largest bank, was FOLTF. After the adoption of that decision by the ECB, on 7 June the SRB found that there was no reasonable prospect of any alternative private sector or supervisory measures preventing the bank’s failure within a reasonable time frame and, with the Commission’s approval, that it was in the public interest to put the Banco Popular into resolution, providing for application of the sale-of-­ business tool.51 The next day, with the intervention of the FROB (the Spanish executive Resolution Authority),52 the sale-of-business tool was used, share capital and additional capital instruments were written down to zero, other  See also Chap. 12 paras. 3 ff.  It is certainly true that, at the beginning of a crisis, the specific situation of the bank and the market could be fairly different from that envisaged in the recovery plan, but this is, in any case, a useful exercise to gain awareness of the expected problems and of the available resources to address them. 50  The BRRD was first applied in the case of four small or medium Italian banks, put under resolution at the end of 2015. The SRM was not yet operative at that time and resolution was conducted by the competent NRA, applying the BRRD rules relating to burden sharing (the provision on the bail-in tool entered into force on 1 January 2016). 51  SRB, Decision SRB/EES/2017/08, https://srb.europa.eu/sites/srbsite/files/resolution_decision.pdf. 52  The FROB adopted the measures required to implement the SRB decision: http://www.frob.es/en/n Resoluciones-del-FROB/Paginas/Resoluciones.aspx?k=2017. 48 49

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financial instruments were converted to new equity and Banco Popular was transferred to Banco Santander for the symbolic price of one euro. The purchasing bank made a €7bn capital increase to cover the capital and the provisions required to reinforce the balance sheet of Banco Popular; the SRF was not used. As mentioned above, the other cases examined by the SRB were handled outside the resolution framework. On 23 June 2017, the ECB stated that Veneto Banca and Banca Popolare di Vicenza, ‘significant’ banks in accordance with Article 6(4) of the SSM Regulation, were deemed to be failing in the near future, as they were then breaching, in particular, capital adequacy requirements. On the same date, the SRB decided not to take resolution actions in respect of the two banks.53 The Italian Treasury provided public aid, with the European Commission’s approval. This case is thus an illustration of the issues emerging from the interplay between the European SRM framework, national rules for banks’ insolvency proceedings, and State aid rules (as interpreted in the 2013 Banking Communication). In particular, the case raised the issue of the public interest test.54 More specifically, the SRB, taking into account the ECB’s FOLTF assessment, did not identify alternate private sector measures or supervisory action to prevent the banks’ failure in the near future, and found that resolution was not necessary in the public interest, since, inter alia: (1) the banks’ failure was not deemed to be potentially disruptive for critical functions, as the banks provided services to a limited number of third parties and had relatively low financial and operational interconnections with other financial institutions; (2) the banks’ failure was not likely to result in significant adverse effects on financial stability in Italy, because that impact would be limited to the geographical area where those banks had a stronger presence; (3) ordinary liquidation could achieve the resolution objectives to the same extent. Given the outcome of the public interest test, the Italian authorities had to wind down the two banks: the national insolvency proceedings under the Italian consolidated banking law (Compulsory Administrative Liquidation, CAL)55 were the only remaining option. Indeed, the requirements triggering these proceedings were satisfied, since Article 80 of the Italian Consolidated Banking Law covers all resolution requirements, except for ‘public interest’.

 SRB, Decisions SRB/EES/2017/11 and SRB/EES/2017/12, https://srb.europa.eu/en/content/bancapopolare-divicenza-veneto-banca. 54  See also Chap. 9, paras. 4 ff. 55  Article 80 and ff. Legislative Decree No. 385 of 1 September 1993, Testo Unico Bancario. 53

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Responsibility for handling the CAL is entirely domestic (the Italian Ministry of Economy and the Bank of Italy are the competent authorities), but both the ECB and the Commission were further involved, the former for withdrawal of the banking licence and the latter with regard to the envisaged liquidation aid. Banca Intesa bought the performing business of the two banks, while shareholding and subordinated liabilities remained with the banks under compulsory liquidation. The envisaged solution (i.e. compulsory liquidation with sale of business to a purchaser that preserved the banking activity of the two banks) was only feasible thanks to State aid, granted on the conditions set by the Commission for ‘liquidation aid’.56 If such a solution had not been adopted, the only viable alternative would have been ‘atomistic liquidation’, entailing the sudden interruption of ordinary business and the sale on the market of each bank’s assets, with the obvious risk of dissipating the two banks’ value and causing heavy losses to customers, as well as the sudden termination of credit relationships, causing collective redundancies and a serious disturbance in the real economy, especially at the local level. A case in some respects similar to the latter is that of ABLV Bank A.S. (Latvia), accused by the US authorities of money laundering, and ABLV Bank Luxembourg S.A., a subsidiary of the first, both of which were also ‘significant’ banks (and therefore under the ECB’s direct supervision). On 23 February 2018, the ECB established that the two banks were FOLTF, owing to a significant deterioration in the liquidity situation. On the same date, the SRB decided on the adoption of a resolution scheme for the two banks.57 Once again, after concluding that no alternative private measures and supervisory action could prevent the failure of the ailing banks in a reasonable time frame,58 the SRB did not find resolution to be in the public interest, considering that the functions performed by the two banks were not critical with regard to financial stability or essential to the real economy of  European Commission (2013), paragraph 79 and ff. Given that Article 107(3)(b) of the TFEU allows State aid subject to an internal market compatibility test by the Commission, if the aid aims to remedy a serious disturbance in economy, the Commission allows State aid for banks put into liquidation if the purchaser is selected through a competitive open bid after a due diligence process and State aid is granted only after equity, hybrid and subordinated debt have fully contributed to offset any losses (burden sharing principle, Banking Communication, paragraphs 84 and 44). See the decision text in http://ec.europa.eu/ competition/state_aid/cases/264765/264765_1997498_221_2.pdf. 57  SRB, Summary of the SRB decision in relation of ABLV Bank, AS, and Summary of the SRB decision in relation of ABLV Bank Luxembourg S.A., https://srb.europa.eu/en/content/ablv. 58  In particular, the SRB took into account the banks’ inability to overcome the liquidity problem and the absence of available supervisory or early intervention measures applicable in the case. In respect of ABLV Bank Luxembourg, the SRB also considered the bank’s inability to obtain financial support from the parent company. 56

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their respective countries of establishment or of other Member States. As a consequence, the winding up of the two banks was initiated under the law of Latvia and Luxembourg respectively. An extraordinary shareholders’ meeting of ABLV Bank Latvia decided to start voluntary winding up, and the bank submitted to the national authority an application for voluntary self-­ liquidation. The judicial liquidation of ABLV Luxembourg was instead rejected by the Luxembourg Commercial Court, which appointed two external administrators and decided to grant the protection of the suspension-ofpayments regime.

8

 ublic Interest in Resolution: Just One P of the Many

In the few cases examined so far, the SRB has conducted the public interest test basically concluding that only the largest banks can be placed under resolution. In other words, the SRB interpreted the scope of public interest to be considered pursuant to Article 18(5) SRMR, as coinciding with the entire euro area, whose whole financial stability would be affected. In fact, in the case of Veneto Banca and Banca Popolare di Vicenza, the SRB concluded that resolution was not necessary in the public interest even though the two credit institutions, parent undertakings of their own groups, were ‘significant’ banks and played an important role in the regions where they had a stronger presence. The SRB also considered the circumstance that potential adverse effects could have resulted from the simultaneous failure of the two banks, but concluded that the resulting impact on financial stability would not be significant. A similar assessment was conducted in the case of ABLV Bank AS and ABLV Bank Luxembourg S.A., which were also ‘significant’ banks, part of a cross-border group. In the view of the SRB, public interest therefore essentially relates to the large size of a bank, which seems to be the only factor taken into account for defining the systemic relevance of the crisis. Conversely, one could observe that medium-size banks, and even smaller ones, might put financial stability at risk as well, at national or subnational level. Otherwise, one would wonder why those smaller banks should continue to contribute to the SRF. Some have asked how it was possible for the SRB to deny the presence of public interest warranting the use of resolution tools, while at the same time the Commission ascertained the presence of a very clear public interest in approving the liquidation aid for the Veneto banks, based on Article 107(3)

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(b) of the TFEU, which allows State aid when aimed at remedying a serious disturbance in the economy of a Member State. Some commentators in particular pointed out that, by operating in this way, only the rules on burden sharing provided for in the Commission’s 2013 Banking Communication were applied, instead of the more stringent bail-in rules provided for in the event of a resolution (Beliën et al. 2018). It has been argued that it was paradoxical that the national liquidation procedure, used in the absence of public interest, had ultimately produced more favourable results than resolution (since the bail-in is not provided for in compulsory administrative liquidation and since the Commission had allowed the State aid) (Grünewald 2017). In fact, these views did not take into account that, in this case, the various authorities involved made use of different notions of public interest, which coexist on different levels. The first notion is the one examined above, which justifies the use of resolution tools. It seems, analysing the case of the two Veneto banks (as well as the two ABLV banks), that the SRB equates the public interest required for resolution with interest in protecting the financial system as a whole, taking into consideration only the potential systemic effects that involve the entire euro area, or at least an entire Member State. This restrictive notion of public interest endorsed by the Board suggests that the activation of resolution tools (and, with them, the recourse to the SRF) might only be possible in the event of a crisis of ‘particularly significant’ banks. However, in our view, public interest can be found not only when the whole euro area’s financial stability is under threat, but also when a single Member State is at risk. Indeed, the internal market compatibility test also considers how to mitigate the effects of market exit, obtain an orderly liquidation and preserve financial stability, which are clearly all objectives aimed at safeguarding public interest. Furthermore, we have to consider that, in the case of the two Veneto banks, the European Commission took another significant step forward, taking into consideration a serious impact on the real economy within a Member State (Veneto region). Although the Commission conducted this evaluation more in the context of competition law than in the context of resolution, it is certainly not irrelevant that the Commission itself also takes into consideration subnational and regional financial stability. The European Commission, in its 2013 Banking Communication (paragraph 7), clarifies that financial stability implies ‘the need to prevent major negative spill-over effects for the rest of the banking system which could flow from the failure of a credit institution as well as the need to ensure that the banking system as a whole continues to provide adequate lending to the real economy’. The objective of avoiding or reducing to a minimum any d ­ istortions

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to competition between banks should be balanced against this need, and the Commission therefore accepts the recourse to public aid in the event of liquidation of a bank on the condition that shareholders, holders of hybrid instruments and subordinated creditors contribute to covering losses (the burden sharing referred to in paragraph 44 of the Communication). The notion of public interest applied by the Commission, when it has moved on the grounds of State aid rules, seems to take into account the fact that, outside the scenario of the resolution, there may still be an interest in safeguarding the economic balance of a regional area. This interest can therefore justify the liquidation aid enshrined by the 2013 Banking Communication, which—in the light of Article 107(3)(b) TFEU—aims to allow the exit from the market of failing banks in an orderly manner, preserving financial stability and avoiding a serious disturbance to the economy. In this kind of assessment, which lies outside the resolution scenario, the very concept of financial stability to be preserved is different. We cannot, in this case, refer to the entire euro area or to more than one country, as in the case of Banco Popular Español, because the ‘ordinary’ discipline of State aid, which looks at the national context and provides for a dialogue between national State and the European Commission, should be applied. Finally, a third meaning of the notion of public interest should not be forgotten. In the euro area countries, the national liquidation procedure, as an alternative to resolution, is certainly based on public interest. We should not be misled by the fact that, according to Article 18 of the SRMR, a bank should be wound up under the applicable national law when the public interest criteria are not met, in this way expressly excluding the presence of the ‘qualified’ public interest that justifies the resolution action: although this latter could not be identified, there will always be a public interest in the orderly liquidation of ailing banks, owing to the significant implications of a crisis in this kind of undertaking.59 What we mean is that national insolvency proceedings for banks are themselves operating in the public interest. First of all, the special insolvency proceedings that are provided for in several euro area countries obviously take into consideration the public interest arising by default in connection with all the interests at play when a bank fails, owing to the fact that it is a ‘qualified’ business undertaking (e.g. depositors’ protection, lending, payment services and connection with the whole financial system). Secondly, this kind of pub Insolvency proceedings involving credit institutions are generally, and not without reason, different from common bankruptcy procedures, precisely on grounds of overriding public interest at safeguarding the financial stability and protecting the savings. 59

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lic interest exists irrespective of the specific features of each case of failure (e.g. size and operations of the bank, external circumstances and type of impact of failure on third parties and the financial system). Thirdly and lastly, this kind of public interest is always present in banks’ insolvency proceedings, even when the SRB considers resolution not to be necessary owing to a lack of public interest. On the basis of the above, we can conclude that in banking crises, three different levels of public interest can be detected, which, however, do not overlap. Public interest in resolution emerges as a ‘qualified interest’, which, in the SRB’s approach, is deemed to exist only when serious systemic risks jeopardise the whole euro area or at least the stability of the market of a Member State. The direct result of such an approach is to limit resolution to the case of failure of banks of very significant size. On the other hand, it should be noted that the public interest test run by the SRB entails an evaluation of whether national insolvency proceedings would meet resolution objectives to the same extent as a potential resolution. If that is the case, national proceedings should be chosen as the applicable procedure, and this may lead us to the conclusion that national proceedings are generally the benchmark procedure, against which specific resolution tools and effects should be evaluated. The case of the two Veneto banks shows, however, how the concept of public interest is not confined to the decision on the adoption of resolution tools. We recalled that the Veneto banks benefited from State aid, considered by the European Commission to be compatible with the internal market on the basis of Article 107(3)(b) TFEU, as intended to remedy a serious disturbance in the economy of a Member State. The piecemeal liquidation of the Veneto banks would have had a serious negative effect on the real economy of the areas where these banks were most present, and for that reason the European Commission recognised that the conditions for State aid were met. The liquidation aid allowed the transfer to Banca Intesa of the assets and liabilities of the two banks and thus the solution to the crisis. As has been noted (Grünewald 2017), this case shows how the SRB can assume that there is not enough public interest to initiate resolution, and—at the same time—the European Commission can legitimately decide that there is enough public interest to make use of State aid. It therefore seems that the various concepts of public interest that we have mentioned can ultimately coexist; the apparent inconsistencies that have been pointed out are actually an expression of the overall diversity of the objectives pursued, and they should be overcome in the light of the provisions of the Treaties.

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Conclusion

The initial experiences show that, at this stage, resolution cannot be regarded as a measure that simply replaces national insolvency proceedings; on the contrary, it is conceived as an additional scheme to be used only in the most important crises. National regimes applicable to ailing banks still seem to constitute the prevailing procedure, and the discussion now focuses on the ways of harmonising even those proceedings, which differ widely. The current Chair of the SRB postulates that ‘resolution is for the few, not the many’ and that ‘insolvency remains the primary route for failing banks’ (König 2018). But if that is the case, the issue under consideration becomes whether and to what extent even the same legal framework for liquidation could, and should, be harmonised. A single administrative bank liquidation proceeding would clearly facilitate the application in the euro area of the ‘no creditor worse off ’ principle (IMF 2018).60 But such a reform should be accompanied by a more flexible application of the current rules (especially those regarding bail-in), which themselves might be disruptive for financial stability. The case of the two Veneto banks confirms that piecemeal liquidation is clearly a solution to be avoided, and that the dilemma between encouraging moral hazard by providing public support and letting banks fail (with the real risk of causing a serious disturbance in the economic system) needs to be solved on a case-by-case basis, applying perhaps less stringent rules than the present ones (Hadjiemmanuil 2015). Furthermore, as long as the burden of public liquidation aid remains at national level, it is hard to think about harmonising liquidation schemes. Not surprisingly, the International Monetary Fund has recently proposed a ‘financial stability exemption’, noting that ‘The SRM has been designed to deal with idiosyncratic events’ (IMF 2018) and that, without more flexibility in the application of the current rules (especially the bail-in), the BRRD/ SRNR framework will basically be unable to face systemic crises. Indeed, a greater degree of flexibility can certainly be achieved by completing and improving the regulatory framework, but also by making better use of the discretion conferred by the banking directives and regulations on the Commission and both supervisory and resolution authorities (Hadjiemmanuil 2017; Micossi et al. 2016).  ‘Such a tool should be underpinned by a harmonized creditor hierarchy (applicable also for purposes of the “no creditor worse off” safeguard) and would be especially useful for ensuring that cases involving cross-border banks are dealt with at a euro area level, facilitating needed coordination. Meanwhile, creditor hierarchies (…) and the availability of resolution tools under national bank insolvency frameworks should be further harmonized’. 60

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That discretion should obviously always be exercised without coming into conflict with the Treaties, and thus bearing in mind that ‘Article 107(3)(b) TFEU seems flexible enough to ensure that the control of State aid does not result in decisions incompatible with the general interest’ (Micossi et  al. 2016), which in the provision mentioned results in avoiding a serious disturbance of the economy in a Member State, provided that the protection of competition is assured. Decisions taken by the Commission or by the resolution authorities should thus always take into account the public interest underlying the provision laid down in the Treaty.

References Beliën B., Zachari E. and Govers V. (2018), The Evolution of Stata Aid to banks. A Post Crisis Review, Maastricht Centre for European Law, Master Working Paper 2018/6 Donato L. (2016), Regulation and Supervision: is the Banking Union in action?, in A. Carretta and M. Sargiacomo (eds.), Doing banking in Italy, McGrow Hill European central Bank (2017), Opinion on revisions to the Union crisis management framework, 8 November 2017 (CON/2017/47) European Commission (2013), Communication from the Commission on the application, from 1 August 2013, of State aid rules to support measures in favour of banks in the context of the financial crisis (‘Banking Communication’) (2013/C 216/01) European Commission (2015), Completing Europe’s Economic and Monetary Union, https://ec.europa.eu/commission/pubblications/five-presidents-report-completingeuropes-economic-and-monetary-union_en European Parliament (2017), Report on Banking Union, Annual report 2016, A8-0019/2017, http://www.europarl.europa.eu/sides/getDoc.do?pubRef=-//EP// TEXT+REPORT+A8-2017-0019+0+DOC+XML+V0//EN European Parliament (2018), Report on Banking Union, Annual report 2017, A8-0019/2018, http://www.europarl.europa.eu/sides/getDoc.do?pubRef=-//EP// TEXT+REPORT+A8-2018-0019+0+DOC+XML+V0//EN Four Presidents Report (26 June 2012), Towards a Genuine Economic and Monetary Union, https://www.consilium.europa.eu/media/33785/131201.pdf and 5 December 2012, https://www.consilium.europa.eu/media/23818/134069.pdfg Five Presidents Report (22 June 2015), Completing Europe’s Economic and Monetary Union, https://ec.europa.eu/commission/sites/beta-political/files/5-presidentsreport_en.pdf Ferran E. (2015), European Banking Union. Imperfect, But It Can Work, in D. Busch and G. Ferrarini (eds.), European Banking Union, Oxford University Press Grünewald S. (2017), Legal challenges of bail-in, in ECB Legal Conference 2017: Shaping a new legal order for Europe: a tale of crises and opportunities, European Central Bank

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Hadjiemmanuil Ch. (2015), Bank stakeholders’ mandatory contribution to resolution financing: principle and ambiguities of bail-in. In: ECB Legal Conference 2015: From Monetary Union to Banking Union, on the Way to Capital Markets Union, New Opportunities for European Integration. European Central Bank Hadjiemmanuil Ch. (2017), Limits on the State-Funded Bailouts in the EU Bank Resolution Regime (2017). European Banking Institute Working Paper Series 2017 – no. 2. Available at SSRN: https://ssrn.com/abstract=2912165 or https:// doi.org/10.2139/ssrn.2912165 König E. (2018), Why we need an EU liquidation regime for banks, 5 September 2018, Eurofi Article https://srb.europa.eu/en/node/622 International Monetary Fund (2018), Euro Area Policies – Financial System Stability Assessment, Country Report, No. 18/226, 19 July 2018. https://www.imf.org/en/ Publications/CR/Issues/2018/07/19/Euro-Area-Policies-Financial-SystemStability-Assessment-46100 Lamandini M. and Ramos Muñoz D. (2016), EU Financial Law, An introduction, Wolters Kluwer Italia Micossi S., Bruzzone G. and Cassella M. (2016), Fine-Tuning the Use of Bail-In to Promote a Stronger EU Financial System, CEPS Special Report, No. 136, 2016. Available at SSRN: https://ssrn.com/abstract=2782371 Moloney N. (2014), European Banking Union: assessing its risks and resilience, Common Market Law Review, vol. 51, p. 1625 Rossi S. (August 2018), Banking Union: experience so far and future prospects, Wolpertinger Conference, 30, at http://www.bancaditalia.it/pubblicazioni/interventi-direttorio/int-dir-2018/index.html?com.dotmarketing.htmlpage.language=1 Zavvos G.  S. and Kaltsouni S. (2015), The Single Resolution Mechanism in the European Banking Union: Legal Foundation, Governance Structure and Financing, in M. Haentjens and B. Wessels (eds.), Research Handbook on Crisis Management in the Banking Sector, Edward Elgar Publishing

12 Recovery and Resolution Planning Marilena Rispoli Farina and Luigi Scipione

1

Introductory Notes

The single resolution mechanism (SRM) essentially provides for common resolution tools and powers for the use of the national authorities of each Member State, nevertheless leaving them a limited degree of discretion regarding how they are implemented and the use of national funding mechanisms to support resolution procedures. Directive 59/2014 (from now on also bank recovery and resolution directive (“BRRD”)) is not limited to regulating and managing the trauma of a bank crisis only when it becomes apparent in all its disruptive force; rather, the directive portrays the failure of a bank as the result of a long process of deterioration affecting its accounts in a series of stages that need to be identified and managed by the bank’s internal bodies and the authorities responsible for prudential supervision and resolution at an early date (Grünewald 2017). A primary role is played by the authorities deputed to supervision or resolution at both national and European levels in the complex system of the distribution and determination of the competences required to allow effective monitoring and timely intervention in the (potential or actual) event of credit institution failure. Naturally, a banking institution does not become insolvent overnight. Failure is the result of a multiplicity of factors and can take many forms (such as illiquidity, lack of capital, or losses).

M. R. Farina (*) • L. Scipione (*) University of Naples, Naples, Italy © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_12

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The basic principle underlying the BRRD is, therefore, that of setting up preventive tools with which to intervene, such as, preparatory and preventive measures, powers of action with regard to going concerns (i.e. recapitalisation/supporting problematic assets/injecting liquidity) and, lastly, resolution mechanisms. Therefore, the choice of the instruments to put in place will no longer merely involve choosing between administration or liquidation of the institution in difficulty, but will depend on the degree to which the crisis has developed. From this perspective, the Single Resolution Mechanism assigns powers of intervention that even go so far as redefining the scope of its activity and changing the governance of the intermediary. Within the new regulatory framework, recovery and resolution plans and resolution tools and powers for both domestic and cross-border banks have been set up to ensure that national authorities in all Member States have common arrangements and a roadmap for dealing with bank failures. From this point of view, we can note how the two fundamental profiles of the supervisory function are both contained in the provision in question, namely the acquisition of information on the state of a company and the establishment of intervention measures designed to overcome any critical points. This approach aims to root out potential outbreaks of instability in the banking system and prevent the spread of the crisis onto the market without interrupting services.1 In reality, the above-mentioned authorities are not the only ones to be identified as responsible for the orderly management of a credit institution: the new philosophy underpinning the SRM promotes the intermediary to the status of “necessary object”, held primarily responsible for the proper functioning of the arrangements put in place by Directive 59/2014. The g­ overnance of a bank, in fact, does not play a merely passive role but is called upon to fulfil a series of essential obligations that make it a fundamental player in the new crisis prevention framework, even though it acts under the supervision of the vigilance authorities. When, on the other hand, the crisis situation has reached a point where it satisfies the conditions for resolution laid down by the BRRD, jurisdiction shifts to the resolution authority (RA), which is not only responsible for set The simultaneous presence of several instruments and options to overcome the crisis or the pre-crisis phase represents an obligatory point of anchorage, considering that in a sector like banking, where “the stakeholders are numerous, differentiated, and bearers of appreciably unequal interests” (see Micossi, Bruzzone, Cassella 2016), distinguishing between the areas (or rather, the levels) where interventions are performed undoubtedly makes it possible to provide greater protection for the different types of interests involved. 1

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ting up resolution strategies but is also called upon to ensure they are put in place efficaciously through the ongoing assessment of the resolution options and the removal of any impediments.

2

 he Living will Approach in US Law. T An Outline

It should be noted that, in the event of resolution, the need to prepare contingency plans derives from the better-known “living will approach”. This method requires banks—at least the larger ones engaged in more complex operations—to have an internal organisation capable of handling adversity (cf. Pakin 2013; Weber 2012; Carmassi, Herring 2013). The basic idea is that as long as a bank is capable of recovery, it will implement all the measures necessary to try to get out of trouble under “its own steam” (cf. Huertas 2010). In the USA, the Dodd–Frank Act obliges large bank holding companies and non-banking financial companies Systemically Important Financial Institutions (SIFIs) with total consolidated assets equal to or greater than $50 billion to draw up living wills to demonstrate how, in the event of peril, any difficulties will be overcome in an orderly manner and in compliance with the US Bankruptcy Code (Title I). However, if the start of ordinary bankruptcy proceedings threatens to jeopardise the financial stability of the entire financial system, the Orderly Liquidation Authority endows the  Federal Deposit Insurance Corporation (FDIC) with the power to regulate the liquidation of the intermediary under a special resolution regime (Title II). In particular, recovery plans, known as “early redemption plans” are regulated by Title I, Section 166, of the Dodd– Frank Act on financial stability. The purpose of these plans is to minimise the possible insolvency of bank holding companies and non-bank financial companies that the authorities deem systemically important. In the early stages, when the first financial difficulties arise, authorities may require SIFIs to limit capital distributions, acquisitions, and asset growth. As the economic and financial situation deteriorates, SIFIs may be required to sell assets, change their management strategy, limit capital transactions, and set limits on related-­ party relationships. In addition, Section 165(d) of the Dodd–Frank Act requires SIFIs to draw up a periodic plan for rapid and orderly resolution in the event of a financial crisis or bankruptcy. The main objective is to ensure that depository banks affiliated with SIFIs are protected from risks arising from the activities of non-­ banking subsidiaries. In order to monitor the state of health of an SIFI and intervene “surgically” at the onset of a possible crisis, a full description of the

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ownership structure, assets, liabilities, and contractual obligations is required, together with information ‘on cross-guarantees, major counterparties and to whom the collateral of company is pledged’ (see Karamichailidou, Mayes 2016).

3

 ecovery and Resolution Plans. R The Regulatory Framework

The BRRD (Title II, Chapter I) distinguishes between the following areas with regard to recovery and resolution planning: 1. recovery plans are recovery plans for individual institutions or groups of companies, designed to overcome weaknesses in a bank’s technical profile2; they are subject to assessment by the competent authorities3 2. resolution plans, aim to achieve an orderly resolution of the individual bank4 or group in the event of insolvency.5 The “framework” is completed by (1) EU Delegated Regulation No 1075 of 23 March 2016, which provides basic guidance on the contents of the plans and the assessment criteria that authorities must follow when evaluating them,6 and (2) European Commission Implementing Regulation (EU) 2018/1624 of 23 October 2018, which establishes technical implementing rules for procedures and standard forms and templates for submitting information relating to resolution plans.7 The first set of provisions of the BRRD, dedicated to strengthening prevention, requires banks to draw up recovery plans to identify measures to be taken in the event of a deterioration in the financial situation with the aim of restoring the economic viability of the intermediary within a reasonable timeframe and minimising the systemic impact of the measures implemented for this purpose.

 Articles 5 and 7 BRRD.  Articles 6 and 8 BRRD. 4  Articles 10–11 BRRD. 5  Articles 12–13 BRRD. 6  This includes technical instructions issued by the EBA, specifically relating to quantitative and qualitative indicators (EBA/GL/2015/02), scenarios to be employed in stress tests (EBA/GL/2014/06), provisions on simplified obligations (EBA/GL/2015/16), and recommendations on the treatment of institutions in a group recovery plan (EBA/REC/2018/02). 7  Repealing Implementing Regulation (EU) 2016/1066. 2 3

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Then, in the second set of rules set out in the directive, the resolution authorities are required to draft (set up) crisis resolution plans, providing a series of options to better handle the resolution of a bank that now finds itself in critical and economically unsustainable conditions (e.g. details of the application of the resolution tools and how to ensure the continuity of essential functions). The contents of the plans cannot be adequately presented without a full awareness of their goals. In order to ensure that crisis management does not lead to unforeseen consequences, prior planning of the measures to apply in the event of the irremediable deterioration of a bank’s viability is not so much a way of binding the intermediary and the authorities concerned as a way of assessing possible effects from the outset. For these reasons, among others, recovery and resolution plans must be based on realistic assumptions that take into account the (even severe) different financial stress scenarios and must be regularly updated and defined both at group and individual levels. In both cases, where the resolution authorities identify obstacles to resolvability, they may require banks to modify their legal or operational structures even at the plan-drafting phase in order to ensure that recovery or resolution is possible using the tools available and in a way that does not compromise the bank’s critical functions, jeopardise financial stability, or entail costs for the taxpayer. Putting in place a plan that includes all the measures that the bank (or the parent company) can still adopt autonomously to restore the balance of the technical profiles (capital, income, and liquidity) is among the early intervention measures that the authorities can apply when the first signs of “significant deterioration” appear in the bank or group. In fact, the early intervention tools available to the supervisory authorities complement the traditional prudential measures and are calibrated on the basis of the problem the institution faces. The result is that the provision plays two roles. If, in fact, from a supervisory point of view, setting up an adequate recovery plan sets in motion an articulated crisis prevention system, from another perspective, the same activity becomes a moment of “remediation” and introspection for the governance, since the plan is prepared, shared, and then implemented by the management and the entire organisational structure of the intermediary. At this point, it may be useful to add some further clarifications. The ultimate aim of these regulations is not so much to prevent the crisis from occurring but to “prepare” the institution and the competent authorities to face possible critical situations (the BRRD speaks, in this regard, of “significant

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deterioration”). Ensuring immediate action to restore balance and sustainability significantly reduces its impact on the bank and the system as a whole. This clarification may seem superfluous, but in reality it is decisive if we are to fully understand the different approaches adopted by the Community legislator in drafting the packet of rules contained in the Capital Requirements Directive (CRD) IV, which has the precise aim of reducing the probability of bankruptcy through the introduction of more stringent capital requirements and, on the other hand, the BRRD, which, working on the assumption that there are no rules able to completely eliminate the risk of bank failure, aims to reduce the impact of failure through instruments that can improve a bank’s so-called “resolvability”. This clarification of intent is all the more relevant in view of the fact that the scope of the BRRD in relation to bank resolution is not limited to credit institutions but also extends to investment firms subject to the prudential requirements of the CRD IV.

4

 ecovery Plans: Their Structural R Characteristics and Strategic Aims

Recovery plans are procedures that the intermediary itself must draw up autonomously according to precise technical standards prepared by the European Banking Authority (EBA). The drafting of such plans is, therefore, a preventive measure to be implemented in the normal operation of the still healthy intermediary. It is, in fact, a complex exercise in self-regulation (cf Binder 2014) that enriches the already extensive regulations disciplining the credit and financial intermediation sector setting out the measures to be adopted to restore so-called long-term viability term, should the health of a bank deteriorate (capital, liquidity, and profitability). The recovery plan may include contractual agreements to be triggered in the event of a crisis, actions to be taken by management, strategies for communication with the authorities, employees, shareholders, and other stakeholders. As specified in Section A of the Annex to the BRRD, the recovery plan must also cover acts and policies to be undertaken to gain access to emergency funding, to carry out recapitalisation, and to transfer business units or assets rapidly. The plan may in no way include recourse to public financial support. The supervisory authorities are responsible for verifying that recovery plans are drawn up in accordance with the law. They also have the power to (1) request that the plans be updated more frequently than required by the

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BRRD, (2) verify that the recovery actions contemplated by the BRRD guarantee timeliness and a wide array of options, and (3) ensure that institutions perform stress simulations to test the feasibility of their plans (Article 6). In this context, it is clear that the plan itself must also provide for the necessary actions to overcome the practical and/or legal obstacles identified by the institution in the description of the plan when providing for recovery options. All this serves to make the recovery options truly effective and timely. In any event, the plan must be presented to the Single Resolution Board (SRB), which can make its views known to the supervisory authority as part of a joint assessment. As a result, there is a continuous exchange of information and joint assessment by the supervisors and resolution authorities, each addressing their own areas of responsibility. The indications provided by the institution are subject to careful scrutiny by the supervisory authority, which must make a full assessment of their operation in terms of a combination of the effectiveness and efficiency of the two procedures to be described. If the authorities find that the plan has some shortcoming or identifies some impediment to its possible implementation, the institution must submit a new amended plan (Binder 2014) within three months of notification by the authorities. The supervisory authorities may even require substantial changes to the processes described in the plans during the verification process. In this regard, we can see a clear point of similarity to the CRD IV: the power of the supervisory authorities to take the measures deemed necessary to eliminate any impediment to the effective implementation of the plan includes both those identified in Article 104 of the CRD IV and the provisions explicitly set out in Article 6 of the BRRD. Interference in a bank’s management dynamics resulting from the combined provisions of these regulations is very significant.

4.1

The EBA Regulatory Technical Standards

In addition to the above, the EBA also plays a crucial role in ensuring that these assessments and preventive powers are applied uniformly in individual states. The authority is called upon to set the technical standards to define the parameters for assessing the systemic impact of recovery plans and the concrete resolvability of an intermediary or group.

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Following a laborious process of consultation and initial implementation, the rules on the content of the resolution plans were issued on 18 July 2014.8 The EBA produced the  Regulatory Technical Standards (RTS) and the Guidelines (GDL),9 which set out the actual requirements for drawing up these plans. The first set of RTS state that recovery plans must include the following breakdown of information: governance, strategic governance, preparatory measures, and communication plan. In line with the  Financial Stability Board’s (FSB) guidelines, it is good practice to then carry out a critical assessment of the economic and shared services functions in order to assess their systemic importance (cf. Binder 2014) and, therefore, the possible effects of contagion in the event of their interruption or suspension.10 The second set of RTS identifies principles and criteria that supervisors must follow when assessing recovery plans: (1) completeness, (2) quality, and (3) the credibility of the recovery plans. On the other hand, the guidelines specify the range of scenarios within which banks must test the effectiveness of their recovery plans by assessing the intermediary’s resilience to a variety of shocks.

4.2

 rawing up a Recovery Plan. From Theory D to Practice

In line with the most widespread practices on corporate governance—whereby corporate bodies must ensure the governance of the risks to which the bank is exposed, identifying in good time any sources, possible dynamics, and necessary controls—we must therefore necessarily describe how the recovery plan as a means (or more precisely, a tool) of risk management can be inserted into the overall corporate governance.  The key elements and essentials to be addressed in a recovery plan were presented for the first time in a discussion paper published by the EBA, the [EBA (15 May 2012), Discussion Paper on a template for recovery plans], in line with the key attributes published by the FSB in the same year [FSB (October 2011), Key Attributes of Effective Resolution Regimes for Financial Institutions, available at URL http:// www.financialstabilityboard.org/publications/r_111104cc.pdf.; FSB (November 2012), Recovery and Resolution Planning: Making the Key Attributes Requirements Operational Consultative Document]. To this end, a possible “recovery plan model” was also included (EBF (December 2010), Positioning in respect of the European Commission’s communication on An EU Framework for Crisis Management in the Financial Sector, Brussels; EBA (11 March 2013a), Consultation Paper on Draft Regulatory Technical Standards on the content of recovery plans, EBA/CP/2013/01; EBA (20 March 2013b), Consultation Paper on Draft Regulatory Technical Standards on the assessment of recovery plans, EBA/CP/2013/08; EBA (20 May 2013c), Consultation Paper on Draft Regulatory Technical Standards on the range of scenarios to be used in recovery plans EBA/CP/2013/09)]. 9  See EBA (18 July 2014a), Guidelines on the range of scenarios to be used in recovery plans (EBA/ GL/2014/06). 10  See FSB (16 July 2013), Paper Guidance on Identification of Critical Functions and Critical Shared Services; EBA (6 March 2015a), Comparative report on the approach to determining critical functions and core business lines in recovery plans. 8

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At first glance, the new regulatory framework appears rather cumbersome and perhaps excessively theoretical. To alleviate any doubts, this section will illustrate the sequence of phases (each of which corresponding to a specific section of the recovery plan) which, following the order suggested by the EBA’s RTS, makes it possible to outline in detail the content of the plan. The first step is to analyse the structure of the intermediary (or group) and the activities they perform. This step involves determining the governance elements in the recovery plan, including internal escalation, risk management processes, and approval policies. Every institution involved is therefore required to draw up a policy establishing the guidelines for drawing up the plan, taking care to make them congruent with the strategic plan, its operational characteristics (the business model approved by the strategic supervision body), its organisational structure, and size. This phase is particularly useful in formulating a strategic analysis of the institution/group, identifying the institutions covered by the plan, its critical functions, and its core business lines. The last two are distinct concepts. The former refers to the systemic relevance of some of the business activities, which in some cases may also be separate from the typical activity of the intermediary. One example of this is activity related to the payment system or post trading that can create systemic effects if not properly preserved. But it is also necessary to consider the centralised functions that are equally fundamental for the group, such as the treasury, guarantee management, information technology, access to market infrastructures (both as recipient and supplier), administrative services, and outsourcing operations. The second, on the other hand, refers to business functions that must be preserved in order to maintain continuity, as they constitute a company’s core activity. Some credit institutions have broadened the concept of critical function to include some common services, in line with the FSB definition, although this distinction is not fully set out in the BRRD. The next step is to establish the indicators to be monitored in order to identify crisis situations in a timely manner (early warning) so as to assess (on the basis of the various aspects of the corporate crisis) whether or not the recovery options indicated in the plan should be put in place. The third step concerns establishing the so-called “recovery options”. Specifically, this involves outlining the individual measures to be taken in the event of a significant scenario affecting the individual institution/group in an adverse manner. In addition, it should be borne in mind that communication plans covering both internal and external information must be drawn up for every recovery option.

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Lastly, the RTS require a summary of the content of the previous sections of the plan, including any substantial changes.

4.3

Integrating the Recovery Plan into a Bank’s Corporate Governance

The recovery plan, which can be described metaphorically as the “last stretch”, has the dignity of a tool of governance, as specified in Article 5(1).11 From this point of view, recovery plans can, in fact, play a key role in improving a bank’s internal decision-making processes, its corporate governance structures, and in promoting the evolution of a new risk management culture. This is an interventionist process, carried out in a simplified form based on credit institutions adopting specific operational criteria, meaning that in some cases they will also have to make changes to their internal structure and frame their strategic plans within their ordinary management model (subject to review and monitoring of the latter). It is clear that the BRRD aimed to ensure a full assessment of internal management capability—a goal to be achieved considering the external (in relation to the banking institution) conditions that can affect the restoration of a bank’s sound bill of health. This understanding is based on the fact that the institution approving the plan must be aware that by implementing the measures in the plan, it handles a business crisis on its own but under supervision. Clearly, the recovery plan must not be understood as an edifice set up to meet the “wishes” of the supervisors, which, moreover, metaphorically weighs on what we might consider the organisational Babel of the credit operators. It is an effective and useful governance guide, ensuring a path of sound and prudent management even in the difficulties due to the onset of a state of crisis. It is not then a mere ­bureaucratic exercise, but a “new” means of analysing the activities and processes to be included within a bank’s system of corporate governance using— where possible—tools already available (cf. Amorello, Huber 2014). Also from the corporate performance point of view, the objective of the recovery plan is to rehabilitate the bank by intervening in the areas of operation where the crisis has occurred in order to restore a situation of normality. Recovery plans cannot but involve all levels of governance, especially in the following areas:

 See Article 74 of the CRDIV.

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1. incorporating the plan into the control systems already in place, assessing in particular the methods of interaction in the company’s risk management system 2. describing the decision-making mechanism in place in this governance model that is activated in the event of one of the triggers. In other words: what happens, who decides, who is responsible for activation; which corporate functions will be involved and how and when the decision-making process will be brought to the attention of the members of the board for final decision-making 3. setting up a communications system to convey the information within the bank itself as well as outside (the “communication plan”). This tool, which serves to feed and keep the recovery plan constantly updated, also enables proactive dialogue to be established with regulators and other relevant players/stakeholders. The “processes” within the plan assign roles and responsibilities to the competent corporate bodies and functions in order to declare a state of crisis, activate the tools available, and manage internal and external communication. The “tools”, in turn, consist of “procedures” and “operational measures”. The former are a sign to the bank that it is entering a crisis situation requiring recovery measures. The latter are pre-established procedures that the bank must carry out in order to try to return to a state of normality. As these measures are largely connected to the economic, financial, and operational scenario in which the bank is situated, they mainly depend on two elements: 1 . the factors that dragged the bank into crisis 2. their feasibility and effectiveness in countering these factors, namely their robustness in terms of implementation times and actual impact on the bank’s situation. In this regard, it should be remembered that the recovery plan, in addition to anticipating the emergence of the crisis, should encourage the administration to promptly adopt rapid measures apt to restore balance. Therefore, if this intervention reveals any signs of weakness, the internal auditors will have to ask the administrative body to adopt measures to solve the problem and, if the issue appears likely to affect the balance of the credit institution, and report the situation to the supervisory authority forthwith. At the first signs of crisis, it is of the utmost importance to select the most appropriate option(s) from the various possible recovery options envisaged by the plan as quickly as possible in order to avoid the situation deteriorating

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further. Ultimately, choosing the most appropriate form of intervention involves an in-depth knowledge of the causes of the crisis. It is therefore essential that there be an adequate flow of information (in terms of both content and timeliness) from the middle to the top management. From this point of view, the success of the recovery plan depends on full integration between the plan and the processes, risk management, and strategic planning tools (in particular Internal Capital Adequacy Assessment Process and Internal Liquidity Adequacy Assessment Process, both of which have already been deputed to provide a significant contribution to determining the capital and liquidity requirements in the Supervisory Review and Evaluation Process). Hence the need to review the corporate procedures required to successfully implement the plans, in addition to proposing a form of company organisation able to reduce risk. Credit intermediaries have thus introduced a system of internal controls to ensure a global view of risks and their compliance with the Risk Appetite Framework (RAF). At the heart of all these processes, the RAF is an instrument approved by the competent corporate bodies and shared with the senior management, which allows effective management of the risk-taking process. If the RAF is poorly set up or not effectively operative, it will not allow the bank to understand that it has entered a crisis situation, leading to the non- or late-activation of the recovery plan, increasing the likelihood of having to activate the resolution plan. The plan is then supplemented at the highest levels of governance by the intervention of the strategic supervisory body, which approves the plan, as well as the General Management, and the Senior Management, responsible for setting up—together with some structures and or organs within the entity (e.g. Legal, Risk Management, HR, etc.)—a Risk Committee (which, if established, will issue its own opinion on the matter), a body with supervisory functions, entrusted with overseeing the proper administration and workings of the internal control systems. More broadly, a review of banks business models is being examined, with a view to assessing how banks can regain financial and economic balance through performance consistent with competitiveness and future stability in compliance with the regulatory framework established by the authorities at the head of the financial system. Moreover, a recovery plan that is well integrated into the overall organisational structure of the institution is indicative of the streamlined practical implementation of the lines of action it identifies. Should this not be the case, partial internalisation of the plan would not produce the effects sought by the supervisory authorities. Overall, there emerges a strong link between internal and external controls over banks with a view to enhancing the effectiveness of the supervisory function and based on the assumption that the use of internal auditing to detect ill-health can allow the early adoption of the necessary corrective measures.

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283

Scenarios and Trigger Events in the Recovery Plan

Article 5(6) of the BRRD contemplates a wide range of macroeconomic scenarios and severe financial stresses—including system-wide events—relating to single banks, entire banking groups, and the individual legal entities that make them up. In order to correctly identify scenarios of macroeconomic and financial difficulty, it is therefore necessary to take into account the specific nature of a given institution or group, including its size and how it interconnects with other institutions and markets. Scenarios should describe quasi-default situations, that is they should outline cases that could bring the institution close to the point of failure but go no further. Specifically, the EBA’s GDLs contemplate at least three crisis scenarios for most kinds of bank: (1) “idiosyncratic”, when they specifically reflect the characteristics of the bank, (2) “systemic”, when the crisis arises from a generalised crisis situation affecting the entire banking system, and (3) “mixed”, where idiosyncratic aspects intersect with systemic scenarios. Regardless of type, all the scenarios must correspond to three main characteristics. First, each scenario must be based on events capable of affecting the economic and financial equilibrium of a specific institution, considering the characteristics of the institution or the group itself from the point of view of their business model and financing, the activities they carry out, their organisational structure, and how they interconnect with other entities and/or the financial system. Secondly, the events in the scenario must threaten the failure of an institution or a group if the recovery options are not adopted in good time. Lastly, the scenario must include events that, although exceptional in terms of probability, may plausibly occur. For larger banks, at least one other crisis scenario regarding subsidiaries is also required. Recital 10 of Regulation 2016/1075 recommends that in designing the stress scenarios, consolidation options should be assessed and selected without reference to a specific one and then tested under specific financial stress scenarios to identify the most effective option in any given scenario. Another key element in the regulations in question is the identification of “triggers” and the difficulty of calibrating them according to the specific circumstances affecting a company’s situation. Adopting a reverse stress testing logic makes it possible to understand what the internal/external events (capital losses or other situations of technical stress) capable of leading the bank into a pre-crisis (i.e. a very difficult) situation rather than an actual crisis may

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be. From the systemic perspective, introducing suitable tools to allow early detection of ill-health is essential in determining the nature of the specific remedies in the plan, all of which serve to pre-empt failure. Their introduction is also the first step in proactive intervention to define the possible routes towards normalising a company’s situation. From this point of view, the GDLs divide triggers into two categories: 1. those deemed “indispensable”, that is capital and liquidity, profitability, and credit quality (the plan cannot be approved without assessing the sustainability of a bank’s business model through observation: (1) for a “diversified” income statement, (2) for “non-performing loans”, and (3) for “financial deterioration”) 2. and those “not indispensable”, that the bank may consider unable to trigger recovery actions.

4.5

 ecovery Measures (Options) and Recovery R Plan Assessment

The core element in a recovery plan is the identification of the measures that the bank must take in order to repair a situation of financial stress; they must be closely related to the “crisis scenarios” described. The recovery options must be capable of restoring the bank to normal conditions from the qualitative and quantitative points of view. Essentially, recovery actions must be considered to all intents and purposes extraordinary initiatives precisely by virtue of their potential to counter crises and restore a bank’s health to pre-crisis levels.12 A bank must therefore identify the ways the individual measures can be implemented based on an assessment of the impact on its risk situation. This, of course, does not mean that the recurrence of an indicator should immediately and automatically trigger a specific recovery option. Nor, more broadly speaking, can there be an automated framework within which a certain option would necessarily have to be implemented. In reality, every crisis is different because the determinants giving rise to the state of crisis vary, and the indicators in themselves do not explain the reasons for the crisis. Essentially, the decision-making process, which involves assessing the possible lines of action in abstract terms and, consequently, also the choice of the option(s) to be  Article 5, BRRD.

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evaluated in practice, must be quick, without, however, resorting to putting in place an automated intervention framework. It should be borne in mind that a plan may be considered complete if it contains all the required information, reflects stress scenarios appropriate to the circumstances, and uses a framework of indicators triggering recovery actions. In addition, if the plan also includes liquidity support from the Central Bank, it is necessary to identify, for the sake of completeness, the assets that can be used as collateral for the loan. However, for a plan to be considered valid, it is also necessary to indicate the practical and legal obstacles/impediments to implementing recovery measures or transferring a bank’s own funds and/or debt repayment in relation to the stress scenarios affecting a group. In more general terms, a plan may be considered comprehensive if there are a sufficient number of recovery options for the actual situation in which an institution finds itself. In particular, recovery options13: 1. must be clearly described in order for the supervisory authority to fully understand their degree of feasibility (practicality) and impact (their consequences on the technical and organisational profiles of the institution) 2. do not necessarily have to be of an extraordinary nature but may also consist of measures that the institution can adopt in the normal course of business 3. may not be excluded solely because they would cause a change to the very nature of the institution or its activities 4. must have a feasibility and impact assessment for each recovery option referred to in the plan. In addition to assessing the risks associated with the plan, the feasibility assessment analyses and describes in detail the obstacles to its effective implementation and how they may be overcome. Impact assessment must take account of any effects on solvency, liquidity, assets, and liabilities aggregates, as well as profitability. The EBA has provided a comprehensive description of the recovery options.14 These range from so-called “ordinary” management actions (such as reducing market risks, compressing structural costs in terms of reducing personnel, work time, etc.), to the growth of commission flows (e.g. income from 13 14

 See Articles 8, 10 and 11 and Recital 15 of Regulation 1075/2016.  EBA (1 March 2017), Recovery Planning—Comparative Report On Recovery Options.

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services), to one of the most frequent options in case of difficulty, such as capital increase (in its various possible forms) or, again, the disposal of assets, lines of business and/or subsidiaries, possible options for safeguarding liquidity (increase in long-term liabilities, access to loans from the Central Bank, etc.), the restructuring of liabilities. Specifically, with regard to transferring lines of business (either in terms of activity or branches), both the BRRD and Regulation 1075/2016 state the need for institutions to describe in detail the procedures they adopt to determine their value and marketability. The goals of the options must be such as to make it possible to maintain or restore the economic viability and financial situation of the institution if it is subject to severe stress. Returning to the guidance provided in the EBA document of 1 March 2017, we note that: ‘the recovery plan is a special form of contingency plan (…) it is important that the value of the recovery options to be activated be placed in the context of situations of specific difficulty, as this approach will add credibility to the plan itself ’. As stated in Article 10 of the Regulation, a vital determinant of the quality (effectiveness) of any bank recovery plan is the prudent assessment of financial impact (on capital, liquidity, and balance sheet assets) as well as operational impact (ongoing business, meaning the continued functioning of its IT system, access to market infrastructures such as, clearing and payment systems, and impact on critical or relevant functions) of the recovery options. As for groups, assessment of the impact of recovery options should also include the cross effects of different recovery options that the components making up the group can adopt, particularly considering that some recovery options may not be feasible or may be less effective when adopted in conjunction with other components of the group. Of course, the solutions to be adopted derive from the very causes of the problem that has been identified, so attempts to achieve recovery might also consist in adopting a number of interventions corresponding to the different profiles the company has. Another relevant aspect when assessing a plan is its consistency with the bank’s business situation, meaning the congruity between the indicators used and its overall risk profile, between the stress scenarios adopted and the specific characteristics of the bank, and between the various elements of the plan itself (e.g. between indicators and stress scenarios) when integrating the plan with other risk management tools (i.e. the RAF). Congruity is clearly not only one of the parameters (perhaps the main one) that must guide the authorities when expressing an opinion on plans, but it represents, by reversing the perspective, the main guideline upon which the institution concerned must base its planning activity.

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Once the completeness and congruence of the plan have been ascertained, the next step is, of course, to understand whether the measures adopted will actually be capable of contributing to the restoration of normality during the implementation phase. Given this need, attention must therefore be focused on prior identification of the timing and possible obstacles that could actually be encountered when the recovery options are actuated. Assessing the timing of the effective implementation of each recovery option is a crucial part of the definition of a recovery plan because, of course, the whole BRRD framework aims to prevent a crisis situation emerging and, as far as possible, to activate measures and accelerate intervention in order to avoid resolution in the event of an emergency. In short, the entire BRRD edifice was constructed to avoid resolution, which, if implemented, risks producing devastating consequences. The ability of these measures to quickly bring the situation back into balance is crucial from this point of view. In terms of these profiles then, the activity to be carried out involves a prior analysis of the processes that would implement the recovery measure and the time required to do so. Ultimately, this gives an accurate estimate of the time needed to implement the various procedural steps leading to the introduction of the recovery measures. Naturally, the institution can call upon any previous experience in crisis management, using the same or similar measures to those proposed in the plan. The decisive element in managing a state of crisis is not the automation of recovery measures, but the timeliness with which properly considered decisions are taken and adopted (e.g. the complexity of the process that can lead to an increase in capital). Article 6 BRRD states that the competent authority must be notified of the decision to act without delay according to a recovery plan (or to abstain from any such action). Notification allows the authority to verify the continued suitability of the plan despite changes to the conditions for activating the preventive measure. For the same reasons, it is also essential that no obstacles (impediments) arise in the implementation of the recovery measures that could jeopardise the success of the recovery strategy (of the envisaged recovery option). On this, the EBA guidelines distinguish between internal obstacles (e.g. the company’s business model) and external ones, linked to the regulatory environment and market conditions. As mentioned above, assessment of the plan is also linked to the analysis of the substantive impediments that may be found when implementing the option itself. Such impediments may be legal, operational, or business-related; they may also stem from matters of reputation or the interdependence of a number of entities and internal or external options.

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Resolution Plans. Systematic Profiles

Resolution plans are drawn up by resolution authorities in consultation (or more correctly in cooperation) with the competent supervisory authorities in the ordinary course of business of banks or banking groups on the basis of information provided by intermediaries, with the ultimate aim of averting, or at least reducing, systemic risks, and losses. On the systematic level, this approach responds to the need to ensure the availability of detailed information on the structure of an individual bank and its transactions at all times. This facilitates the assessment of the various alternative resolution measures if a bank finds itself in a situation of irreversible imbalance (see Avgouleas, Goodhart, Schoenmaker 2013). While there is no doubt that timely awareness of the difficulties threatening a bank makes the costs and the entire management of the critical issues deriving from it less burdensome, likewise, delay in taking preventive action carries with it the risk of rendering any attempt at recovery based on models designed to preserve the business almost useless. There are three essential areas in resolution planning, namely (1) the need for robust business continuity to enable critical functions to go on in the event of resolution, (2) sufficient loss absorbency to cushion the effects of bail-in, and (3) the ability to minimise the use of public resources. Additional complexity factors need to be carefully assessed to pre-empt, for example, potential problems arising from the presence of cross-border groups operating in different jurisdictions. In the dual (and inseparable) succession of plans for the supervision and governance of the crisis, the new perspective now opening in the event of the general instability of the financial market highlights, in essence, how the intervention of public authorities is not only opportune but inevitable, given the very significant economic and social costs associated with crisis. This interconnection brings with it a shift in the centre of gravity of intervention towards the physiological phase of banking activity, with limiting powers that extend to the merits of a firm’s strategic choices, involving the activities, organisational structure, and legal form of the institution in question. From this point of view, resolution plans are meant to fulfil three crucial functions: ‘(1) to provide supervisors and resolution authorities with a prior detailed framework for the structure and operation of financial institutions, which can serve as a “guide” in the event of resolution, (2) to increase transparency and market discipline, and (3) to induce banks to reduce their complexity and simplify their corporate structures’.

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Resolution plans therefore have many areas in common with recovery plans, starting from a detailed analysis of the corporate structure and operations of a bank (or group), identifying the main critical areas of activity. Undoubtedly, the recovery plan is an indispensable source of information on which to base a resolution strategy. However, the correct application of these guidelines cannot ignore the fact that the business models within the sector have very different degrees of complexity, so there can be no room for generalised forms of intervention when implementing resolution plans. Furthermore, from a strictly technical point of view, there is no doubt that “political” choices regarding recovery plans inevitably have an impact on resolution planning, particularly in cases where the competent authority uses its powers to impose and enforce substantial changes to the bank’s business model, financing arrangements, and organisational or even legal structures. Only when the recovery plan has made it possible to fully understand the ordered set of elements characterising the bank will the resolution authority actually be able to determine the most suitable strategy (drawing on the tools provided by the resolution toolkit) to manage resolution effectively (cf. Binder 2014).

5.1

Content and Evaluation of Resolution Plans

The resolution plan must include provisions and measures to control or restore assets, emergency funding, and liquidity, as well as to reduce risks and leverage, its minimum requirement regarding its own funds, and bail-inable ­liabilities. There must also be a description of scheduling for any “internal” rescue, all the while ensuring access to financial market infrastructures, as well as the proper functioning of operating systems (IT systems especially, but also those dedicated to the sale of assets). It must also contain a forecast of how the main lines of business will remain “economically and legally separate from the other functions”, in order to guarantee their continuity when the bank becomes insolvent. It is also strictly forbidden for the plan to include recourse to public financial support. On the other hand, facilitations from the Central Bank—consisting of the transactions that it normally carries out with private credit institutions—may be contemplated, provided that activities to be offered as adequate collateral are identified.15

15

 Article 10, para. 3, BRRD.

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A mechanism similar to the one described above for recovery plans is envisaged for the elimination of any impediments to the possibility of resolving crises: if the RAs identify obstacles to the possible implementation of the resolution plan, the institution concerned has a limited period of time after the authority has been notified, to propose actions to reduce or eliminate them. In the event that the proposed measures are not deemed appropriate by the RA, the latter, in consultation with the supervisory authorities, has the power to identify alternative measures considered more suitable (so-called preventative powers). The competent authorities may ask the institution to (a) facilitate the reduction of its risk profile, (b) set up timely recapitalisation measures, (c) introduce changes to corporate strategy, (d) modify the financing strategy in order to improve the resilience of the main business areas and essential operations, and (e) modify its governance structure.16 Thus, in this respect, ‘the restoration plan takes the form of a multilevel framework agreement, where the agreements that were included in the preparation of the plan occupied the first level, and the changes that are made to the agreements during its implementation occupy the second level’. Lastly, exactly like the recovery plan, the resolution plan must be periodically updated and must contain a series of data.17 Group recovery plans should include not only a description of the recovery options for the group as a whole but also the recovery options for the individual entities making up the group, at least those that are considered “vital” to the group’s survival. In this respect, it is essential to analyse possible ­impediments to transferring liquidity between entities within the group and the actions to overcome them. Article 20 of the Delegated Regulation examines the parameters for evaluation that the authorities follow in assessing group recovery plans. They specifically mention (1) the extent to which the plan is capable of bringing stability to both the group as a whole and its individual components, and therefore the effectiveness of the recovery options needed to restore, if necessary, the financial position of a component of the group without adversely affecting the overall financial soundness of the group itself, and whether the group as a whole has a business model that is still economically viable after adopting the recovery plan, (2) providing solutions to overcome practical or legal obstacles to the immediate transfer of its funds or the repayment of liabilities or assets within the group and, if these obstacles cannot be overcome, to what extent alternative options might achieve the same objectives, and  Article 6, para. 4, BRRD.  Article 10, para. 7, BRRD.

16 17

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(3) identifying measures for overcoming the obstacles referred to in Article 5(6) BRRD. Details of the measures that the RA can adopt in this case appear in the EBA’s GDL, where it lists: 1. structural and organisational revision. One thinks here of excessively complex and sophisticated corporate (or organisational) structures that make implementation of the resolution difficult, so the RA might, for example, request a simplification of the group’s structure (considering the risks and impediments to the implementation of the recovery option due to the group’s structure where, e.g. there are components—identified in corporate form—that centralise certain activities, i.e. IT, liquidity management, back office, or the group structure has legal entities distributed in a number of countries under different jurisdictions), 2. revision of the contractual structures: for this reason it may be necessary to revise contracts that guarantee the continuity of the provision of one or more critical services even in the event of a crisis, 3. revision of the financial structures, involving possible interventions by the RA to request the strengthening of loss absorption capability. The fact that the competent authority—either the supervisory or the resolution authority—might go so far as to require changes to the business and operations of the bank concerned, including a request to change the legal structure of the institution itself, merely for the sake of “resolvability”, raises some concerns. The European Banking Federation (EBF) considers, in fact, that the authority’s action is not, in practice, justified by the actual presence of threats to the stability of the bank; interference in management choices takes place at a time when the bank is, in fact, still “healthy” and not because it is in a state of crisis, such as to justify the RA’s use of tools available under the resolution regime. In the light of such a structure therefore, this power risks being too intrusive and constitutes a limitation to freedom of initiative, above all in the light of trigger conditions and the consequent powers of intervention of the “resolution”, which still today appear somewhat blurred, if not sometimes overlapping (with those of the “other” procedures).

6

Planning and Coordination at Group Level

For the specific case of dealing with groups, the Directive naturally sets out specific preparatory and preventive measures. The BRRD tends, on the one hand, to analyse the ‘activities of planning and coordination in preparation for emergency situations’; on the other, it

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calls for the establishment of colleges of authorities. Rather than being formed by supervisory authorities, colleges consist of Resolution Authorities. In fact, in addition to the RA of the parent company’s home authority and the host RAs, the respective Finance Ministers not performing RA functions participate in the establishment of Resolution Colleges; it is also the responsibility of the EBA to promote and monitor the efficient functioning of the resolution colleges, but they may not vote on the measures undertaken. From this perspective, it clearly emerges that the directive favours a solution of the Single Point of Entry (SPoE) type, whereby the resolution colleges assign the task of preparing the resolution plan to the resolution authority of the country where the parent company is based. The RA must also specify the requirements for resolution and coordinating (or better, managing) the resolution of the entire banking group. On the other hand, the other option, known as Multiple Point of Entry (MPoE), was discarded at proposal. It envisaged that the RA of the countries in which subsidiaries and branches of local systemic importance operate would directly determine the resources to be kept on site and manage the possible resolution of any components in crisis (see Gordon, Ringe 2015). It should also be pointed out that in this case too, the BRRD ends up reproposing solutions already adopted in the Capital Requirements Directive (CRD) IV. This directive requires the consolidating supervisor to carry out planning and coordination activities in conjunction with home supervisors, both to prepare for and deal with failure situations.18 In order to facilitate these actions, the consolidating supervisor must also ensure coordination and collaboration with the other supervisory authorities involved (Article 131-­ bis CRD IV). From the point of view of content, drafting criteria, and assessment processes, the Group Recovery and Resolution Plans are exactly the same as those described above for individual banks, except for the obvious measures. Recovery Plans are to be drawn up by the parent company and subsequently submitted to the supervisory authority on a consolidated basis.19 They will then inform the supervisory boards20 and the EBA. Assessment of all (individual and group) plans is entrusted to the supervisory boards. If problems or barriers to the implementation of the plan are identified, the Board may make direct changes to the structure, strategy, or operating conditions of the plan,  See Article 129 CRDIV.  Article 7, para. 1, BRRD. 20  Article 7, para. 2, BRRD. 18 19

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should the institution responsible not have done so or if it has done so inadequately.21 These changes must be the result of a joint decision by the authorities that make up the Board.22 With regard to the work of the colleges, the EBA, on the one hand, assists in reaching the agreement and, on the other hand, acts as decision-maker of last resort in the event that a dissenting authority decides to refer the matter to its attention.23 The Resolution College, made up of the RA at group level, the RA of each Member State in which a subsidiary concerned by supervision on a consolidated basis is established, and the EBA24 are primarily responsible for ensuring coordination and cooperation between the authorities and, among various other tasks, for drawing up resolution plans at group level, assessing the possibility of resolution at group level on the basis of the provisions of Article 13, and applying the powers described in Article 15, with the aim of resolving and overcoming any obstacles that may be encountered in activating the regime described in Article 15 in order to activate the regime. The Resolution Plans are drawn up by these Colleges, after appropriate consultations with the supervisory authorities. In this context too then the preparation of the Plan takes the form of a joint decision by the authorities forming the Board, with—at consolidated level—the RA having the power to decide autonomously in the event of no agreement being reached within four months. Here too, the EBA has the power/duty to provide assistance in reaching a joint decision, as well as being decision-maker of last resort if the matter is referred to it by a dissenting authority that is a member of the College.

7

Responsibility for Resolution Plans

The complexity of the institutional framework is reflected not only in the definition of the content of the resolution plan but also in the allocation of planning responsibilities to different authorities. In legal literature, objections have been raised to the fact that the management of the resolution plan is entrusted to the RA and not to the prudential supervisory authority, giving it particularly ample room for manoeuvre (with possible distorting effects).  See EBA (26 January 2018), Recommendation on the coverage of entities in a group recovery plan, EBA/ REC/2018/02. 22  Article 8, para. 1, BRRD. 23  Article 8, para. 3, BRRD. 24  Article 8, para. 2, BRRD. 21

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Suffice it to point out here that, in drafting resolution plans, it is possible to identify a high-level strategy that can be opposed to a lower one. In particular, a high-level strategy is needed when dealing with complex structures with cross-border operations. On the other hand, the SRM also makes a distinct contribution to enabling the orderly failures of systemic banks and, as a centralised mechanism at European level, to eliminating the problem of “supervisory forbearance” by national supervisory authorities. However, there is still considerable doubt over the issue of approaches to resolution and the global— not only European—dimension of large transnational banks. In an attempt to shed light on this point, the following outline may be of help: 1. For less significant banks, it is the responsibility of the national resolution authority to define the plan working towards harmonisation and coordination with the SRB 2. For significant banks, responsibility lies with the SRB in conjunction with the national resolution authorities, within the International Resolution Teams (mechanisms borrowed from the Single Supervisory Mechanism (SSM). In this case, a further distinction should be made according to the location of the bank’s registered office: a. resolution colleges will be implemented in EU countries outside the eurozone b. in countries outside the EU, it will be necessary to conclude ad hoc cooperation agreements 3. lastly, if a SIFI is involved, a Crisis Management Group must be set up where the competent supervisory authorities (national and SRB) and the competent supervisory authorities (the national ones for less significant banks and the European Central Bank (ECB) for significant ones), will work together in close conjunction. Incidentally, therefore, once the supervisory authority has declared that a bank has entered a state of irreversible crisis, the resolution plan proposed by the RA must be approved by the European Commission within 24 hours.

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295

Conclusions

In the new EU banking crisis package, the measures to be taken for prevention and early intervention in the event of the financial instability of credit institutions are at a crossroads between prudential supervision and resolution.25 Similarly, the BRRD also requires resolution authorities to plan the effective resolution of an institution in the event of future failure. The purpose of preparing recovery and resolution plans is to identify targeted measures for managing corporate crises in advance with a view to averting, as far as possible, the application of more “traumatic” tools (such as resolution or compulsory liquidation) in the event of a further worsening of the conditions in which the bank finds itself. The BRRD represents a clear option for remedies that are largely entrusted to the commitment and intervention of individual banks, thus determining, in the event of widespread crisis, diversified levels of management when implementing them, despite the overarching consistency that the resolution mechanism requires. This is reinforced by the fact that, in defining the individual strategies, credit institutions should take into account the trends in external factors, taking for granted that they are able to analyse macroeconomic conditions in a way often not found in the real world. This means that the planned preventive strategy sometimes ends up being unrealistic despite the opportune involvement of those working in the sector. The systemic risk related to the emergence of a crisis process clearly shows the teleological link between the timely awareness of the critical issues and the adoption of remedies necessary for turnaround or at least the reduction of costs arising from managing the disruption. It goes without saying that delay in understanding that such a situation is taking place causes ineffectiveness— also from the point of view of recovery—in the courses of action undertaken for the purpose of keeping the enterprise in good health (cf. Troiano 2015). On the other hand, a systemic crisis can reveal “unknown variables”, such as the unexpected non-sustainability of the business model or the existence of more complex interconnections than those envisaged in the resolution plan. Plan assessment evaluates the ability of the actions envisaged to achieve the objective without producing any negative effects of systemic importance in conditions of widespread instability, also without failing to consider the likelihood that a large number of banks will have to implement the measures provided for in their respective recovery plans at the same time and for the same reasons (cf. De Serière 2014). 25

 See also Chap. 13, 3, 3.1.

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The choice of establishing rules in order to limit the discretion of the authorities carries with it the inherent risk of limiting their ability to intervene. For planned actions to be credible, measures adopted in accordance with the resolution plan must ensure adequate resolution of the bank while preserving systemic stability and having the lowest possible impact on the bank’s current business model. As the FSB stated: ‘[t]he resolutions plan should facilitate the effective use of the resolution authority’s powers with the aim of making feasible the resolution of any firm without severe systemic disruption and without exposing taxpayers to loss while protecting systemically important functions. They should serve as a guide to the authorities for achieving an orderly resolution, in the event that recovery measures are not feasible or have proven ineffective’.26 Article 21 of Regulation 1075/2016 states that in order to assess the overall credibility of a recovery plan, the supervisory authorities must take into account the nature of the institution’s business, the size of the institution, its interconnections with other institutions and groups, and with the financial system in general on the basis of the criteria and parameters considered. On the other hand, the best Recovery and Resolution Plans will be those designed never to be used “for real”. They will be developed, maintained, and flexed where needed to achieve compliance. Their early warning indicators and mitigating actions will ensure timely steps ahead of any profound issues. The essential aspects of a plan are attributable on the one hand to the common cause, namely the bank’s economic and financial recovery and, on the other, to the individuality of the structural and the functional lines of action envisaged in the plan. If, from a structural point of view, the individual ­resolution options therefore maintain the individuality of each type, from a functional point of view, they manifest a lack of means of coordination. The plurality of measures and provisions by which the plan is implemented to overcome financial difficulties is mirrored by the single interest in the “normalisation of financial flows” and financial stabilisation; this contrast between the plurality of instruments and the singularity of the purpose marks the separation between the plan’s preparation phase, which involves only the entrepreneur, and the execution phase, which also involves third parties. This makes it all the more appropriate for the authorities to allow gradual intervention and the implications that a given action may have on the market as a whole and on the bank itself.

 See FSB (2011), Key Attributes of Effective Resolution Regimes for Financial Institutions, October, available at URL http://www.financialstabilityboard.org/publications/r_111104cc.pdf. 26

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It would therefore be well to dispel any illusions regarding the possibility of averting bank crises altogether, especially in contexts of exceptional economic and financial difficulty. Experience shows that rules, supervision, intervention mechanisms, and sanctioning powers can reduce—but not eliminate—the likelihood of crises and their impact on the essential functions performed by banks, overall stability, and the real economy. The reforms underway at global and European Union level aim to make this likelihood as low as possible, but they cannot eliminate it completely.

References Amorello L. and Huber S. (2014), Recovery Planning: A New Valuable Corporate Governance Framework for Credit Institutions, Law and Economics Yearly Review, Vol. 3, No. 2, pp. 296–317 Avgouleas E., Goodhart Ch., Schoenmaker D. (2013), Bank Resolution Plans as a catalyst for global financial reform, Journal of Financial Stability, Vol. 9, No. 2, pp. 210–218 Binder J.-H. (2014), Resolution Planning and Structural Bank Reform within the Banking Union, SAFE Working Paper No. 81 Carmassi J. and Herring R. J. (2013), Living wills and cross-border resolution of systemically important banks, Journal of Financial Economic Policy, Vol. 5, No. 4, pp. 361–387 De Serière V. (2014), Recovery and Resolution Plans of Banks in the Context of the BRRD and the SRM: Some Fundamental Issues, forthcoming EBA (15 May 2012), Discussion Paper on a template for recovery plans EBA (11 March 2013a), Consultation Paper on Draft Regulatory Technical Standards on the content of recovery plans, EBA/CP/2013/01 EBA (20 March 2013b), Consultation Paper on Draft Regulatory Technical Standards on the assessment of recovery plans, EBA/CP/2013/08 EBA (20 May 2013c), Consultation Paper on Draft Regulatory Technical Standards on the range of scenarios to be used in recovery plans, EBA/CP/2013/09 EBA (18 July 2014a), Final draft Regulatory Technical Standards on the content of recovery plans under Article 5(10) of Directive 2014/59/EU establishing a framework for the recovery and resolution of credit institutions and investment firms, EBA/ RTS/2014/11 EBA (18 July 2014b), Guidelines on the range of scenarios to be used in recovery plans, EBA/GL/2014/06 EBA (6 March 2015a), Comparative report on the approach to determining critical functions and core business lines in recovery plans EBA (23 July 2015b), Guidelines on the minimum list of qualitative and quantitative recovery plan indicators, EBA/GL/2015/02

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EBA (1 March 2017), Recovery Planning – Comparative Report On Recovery Options, EBA/BS/2017/03 EBA (26 January 2018), Recommendation on the coverage of entities in a group recovery plan, EBA/REC/2018/02 EBF (December 2010), Positioning in respect of the European Commission’s communication on An EU Framework for Crisis Management in the Financial Sector, Brussels European Commission (23 October 2018), Implementing Regulation (EU) 2018/1624, Official Journal of the European Union, L 277/1 FSB (October 2011), Key Attributes of Effective Resolution Regimes for Financial Institutions, available at: http://www.financialstabilityboard.org/publications/ r_111104cc.pdf FSB (November 2012), Recovery and Resolution Planning: Making the Key Attributes Requirements Operational Consultative Document, November FSB (16 July 2013), Paper Guidance on Identification of Critical Functions and Critical Shared Services Gordon J.  N. and Ringe W.-G. (2015), Bank Resolution in Europe: the Unfinished Agenda of Structural Reform, Law Working Paper N° 282/2015, available at: http:// ssrn.com/abstract=2548251 Grünewald S. (2017), Legal challenges of bail-in, in ECB Legal Conference 2017: Shaping a new legal order for Europe: a tale of crises and opportunities, European Central Bank, pp. 287–310 Huertas T. F. (2010), Living Wills: How Can the Concept be Implemented? Speech at the Financial Services Authority, available at: http://www.fsa.gov.uk/pages/Library/ Communication/Speeches/2010/0212_th.shtml Karamichailidou G. and Mayes D. G. (2016), ‘Plausible recovery and resolution plans for cross-border financial institutions’, Chapter 3 in J. Castañeda, D.G. Mayes and G. Wood (eds.), European Banking Union: Prospects and Challenges, Routledge Micossi S., Bruzzone G., Cassella M. (2016), Fine-Tuning the Use of Bail-in to Promote a Stronger EU Financial System, in CEPS Special Report No 136, CEPS, Brussels Pakin N.G. (2013), The Case Against Dodd-Frank Act’s Living Wills: Contingency Planning Following the Financial Crisis, Berkeley Business Law Journal, Vol. 9, No. 1, pp. 28–93 Troiano V. (19 May 2015), Recovery plans in the context of the BRRD framework, Open Review of Management, Banking and Finance Weber R. F. (2012), Structural Regulation as Antidote to Complexity Capture, American Business Law Journal, Vol. 49, No. 3, pp. 643–738

13 The Relevance of the Resolution Tools Within the Single Resolution Mechanism Jens-Hinrich Binder

1

Introduction

In addition to, and complementing, the new regime on recovery and resolution planning (Articles 4–14 of Bank Recovery and Resolution Directive (BRRD) and Articles 8–11 of Single Resolution Mechanism Regulation (SRMR), the introduction of a harmonised set of new resolution tools and corresponding powers for the resolution of systemically important banking institutions with the BRRD and the SRMR was intended and expected by many observers, to be no less than a game-changing event (e.g., Huertas and Nieto 2013; see, generally, Binder 2015, paras. 2.05–2.19). Following a wave of taxpayer-funded rescue subsidies in a number of jurisdictions throughout the global financial crisis, the quest was for a new substantive and procedural framework that would render such subsidies unnecessary in future cases, thereby protecting not only public budgets but also reinforcing market discipline among equity and wholesale debt investors and bank management alike. For most European Union (EU) Member States, the BRRD has brought about legal frameworks for the resolution of large, systemic banks for the first time ever, while for some (including, in particular, the United Kingdom, Germany and Denmark), the new framework followed up on similar innovations in earlier domestic legislation adopted during the financial crisis (cf. Binder 2015, para. 2.47). Within the Eurozone, the creation of the single J.-H. Binder (*) University of Tübingen, Faculty of Law, Tübingen, Germany e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_13

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resolution mechanism (SRM) has complemented the BRRD with an institutionalised framework for centralised, European-level decision-making and national execution and implementation of supra-national resolution decisions. While this institutional environment is certainly unique (and, arguably, uniquely complex), the resolution tools as such, just as most other components of the resolution framework, are adaptations from international best practice standards promulgated by the Basel Committee on Banking Supervision (BCBS 2010) and the Financial Stability Board (FSB 2011/2014; see Binder 2015, para. 2.15). Against this backdrop, the role of the resolution tools within the new institutional framework is of interest not just with regard to the assessment of the viability of the institutional arrangements for bank resolution within the Eurozone as such, but also as a test case for the adaptability of international standards to highly diverse regional financial systems and markets. As will be discussed in further detail below, the experience from the first cases decided under the auspices of the Single Resolution Board (SRB) has been mixed. In a number of cases, including Italian and Latvian banking institutions, the new regime has actually been disapplied on the grounds that the implementation of resolution tools was not in the public interest and that the relevant institutions should be wound up under national insolvency laws instead. Only one case decided so far, involving Banco Popular Español S.A., led to a successful resolution. Some Italian institutions, in particular, Monte dei Paschi di Siena, avoided the activation of resolution tools through a precautionary capitalisation, whose reconcilability with the spirit and the substantive content of the SRMR has been debated controversially. In the light of these cases, this chapter examines the relevance of the new resolution tools within the SRM.  Specifically, three dimensions will be explored: First, taking into account the historic roots of each resolution tool and the recent case law, the chapter assesses potential scenarios and preconditions for successful, effective implementation. Second, and related to the foregoing, the chapter examines operational issues pertaining to the implementation of the resolution toolbox, again, as evidenced by recent case law. In this regard, particularly the successful resolution of Banco Popular Español S.A. has quelled initial doubts as to the operationalisation of the institutional provisions of the SRM. It will be examined, however, to what extent the lessons learnt from that case are likely to be generalisable, that is, can provide guidance also for cases involving considerably larger and more complex institutions. Thirdly, the chapter assesses the suitability of the new resolution tools for application in extraordinary cases of macro-economic distress, where adverse market con-

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ditions and mounting non-performing loans affect large numbers of credit institutions at the same time. The remainder of the chapter is organised as follows: Sect. 2 first summarises the core elements of the toolbox and its background, as well as a brief account of the first resolution cases that had to be dealt with under the auspices of the SRM. Section 3 then turns to an in-depth analysis of the resolution tools and their functional characteristics. Section 4 concludes.

2

The Toolbox and First Cases––Overview

2.1

 he Elements of the Toolbox and the Framework T for Its Application

The resolution tools are listed in Article 22(2)(a)–(d) SRMR and include (a) the sale of business tool (specified further in Article 24 SRMR), (b) the bridge institution tool (Article 25 SRMR), (c) the asset separation tool (Article 26 SRMR) and (d) the bail-in tool (Article 27 SRMR). The application of the instruments, by virtue of Article 18(6) SRMR, is to be determined on a case-­ by-­case basis, in the resolution scheme adopted by the SRB pursuant to Article 18 SRMR. The statutory requirements for the application of the resolution tools mirror the corresponding provisions in Articles 38–44 and 46 BRRD, and, to a considerable extent refer to them with regard to technical details. By contrast, the write-down and conversion powers in relation to capital instruments (Article 21 SRMR) do not count as a resolution tool in the technical sense and can even be applied independently from resolution actions (cf. Article 21(7) SRMR). However, as these powers, pursuant to Article 21(1) SRMR in conjunction with Article 17 SRMR and the national laws transposing Articles 47 and 48 SRMR, have to be exercised in all cases where resolution actions ‘would result in losses being borne by creditors or their claims being converted’ (Article 22(1) SRMR), they are nonetheless part and parcel of resolution schemes adopted by the SRB under the procedure defined in Article 18 SRMR and will be considered together with the resolution tools hereafter. Pursuant to Article 22(4) SRMR, the resolution tools must be activated, individually or in the combinations allowed by Article 22(5) SRMR, in order to meet the resolution objectives specified by Article 14 SRMR. These include, in particular, ensuring the continuity of critical functions, the prevention of significant adverse effects on financial stability and of contagion to market

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participants and market infrastructure, in other words, the public interest in the preservation of market stability which, in the case of large, complex and/ or internationally active banks and groups of banks cannot be adequately protected within traditional insolvency frameworks (see, for further discussion, Binder 2015, paras. 2.08–2.13; Binder 2019b, paras. 3–15). Resolution, under the SRMR, will be triggered by the SRB’s assessment that (a) the relevant entity is ‘failing or likely to fail’, (b) there is no reasonable prospect that alternative solutions, including early intervention measures or the mere write-down or conversion of capital instruments would prevent the failure and (c) a resolution action is ‘in the public interest’ (Article 18(1) SRMR = Article 32(1) BRRD). The ‘failing or likely to fail’ test is specified further by a combination of traditional triggers for insolvency procedures (actual or imminent balance-sheet insolvency or illiquidity, Article 18(4)(b) and (c) SRMR) and bank-specific criteria (actual or imminent breach of conditions for authorisation and the provision of extraordinary public financial support, Article 18(4)(a) and (d) SRMR). Significantly, pursuant to Article 18(5) SRMR, the ‘public interest’ requirement will only be met if taking resolution action is proportionate to one or more resolution objectives and in cases where it has been concluded that those objectives could not alternatively be met to the same extent if the relevant entity were placed in liquidation under general insolvency laws. The resolution framework established within the SRM is effectively a combination of centralised decision-making and decentralised implementation (see also Binder 2019a, paras. 1 and 17). The decision to initiate resolution actions, the choice of action and the technical calibration with regard to the implications for shareholders and creditors are determined by the SRB in the ‘resolution scheme’, upon consultation of the Commission and the Council, as prescribed by Articles 18 and 23 SRMR. Responsibility for the implementation of the actions thus specified, by contrast, then rests with the national resolution authorities (‘NRAs’), which have to exercise the resolution powers under the national laws transposing the BRRD (Article 29 SRMR) subject to oversight by the SRB (Article 28 SRMR). Importantly, by virtue of Article 7(3) subpara. (4) SRMR, the above provisions also apply in cases where the NRAs are fully responsible for resolution actions for less significant institutions pursuant to Article 7(3) subpara. (3) SRMR, effectively subjecting most resolution actions within participating Member States to maximum harmonisation in terms of the applicable substantive and procedural requirements. The components of the toolbox, as such, reflect a broader international trend and closely mirror the standards promulgated by the Basel Committee on Banking Supervision and the Financial Stability Board (see BCBS 2010,

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paras. 74–76 and 115–119; FSB 2011/2014, Principle 3). Although all resolution tools thus can be said to have developed from common roots, it should not be forgotten that the various parts of the toolbox are highly heterogeneous not just in terms of their functional characteristics and complexity, but also regarding their historic origin. The sale of business and bridge institution tools are modelled after precedents in earlier US and Canadian legislation (Binder 2015, para. 2.47) and featured already in pre-crisis recommendations issued by international standard setters (e.g., International Monetary Fund (IMF) and World Bank 2009; cf. also Leckow 2006; Asser 2001, pp. 143–147). Similarly, the asset separation tool adapts a standard practice for the restructuring of bank portfolios that has been used in several systemic crises by jurisdictions worldwide (Binder 2015, para. 2.51). By contrast, the bail-in tool—jointly with the write-down and/or conversion of capital instruments— is a genuine child of the financial crisis: an instrument developed simultaneously at the European level and in international standards and the core emanation of the overarching policy objective to substitute tax-funded emergency subsidies by the allocation of losses to the private sector in a way that simulates the economic outcomes of traditional insolvency proceedings, and an attempt to facilitate ad hoc restructurings of balance sheets that would work within an extremely short timeframe despite the logistic complexities inherent in large, complex, internationally active banking groups (e.g., Bates and Gleeson 2011, at p. 266; Gardella 2015, at pp. 206–207; Hadjiemmanuil 2015, at pp.  231–236; for general critical appraisals see Avgouleas and Goodhart 2015; Binder 2015, paras. 2.57–2.60; Tröger 2018).

2.2

The First Cases

As noted before, the experience with the first real-world applications of the new toolbox (including, for that matter, the triggers for resolution) has been mixed so far. The only application of the resolution toolbox to date, in the case of Banco Popular Español in June 2017, consisted in a combination of a drastic write-down of equity and capital instruments with a sale of business of the bank to Banco Santander S.A., a competitor operating within the same market as the institution in resolution (see SRB 2017a). In two cases ­originating from Italy, involving Banca Popolare di Vicenza S.p.A. and Veneto Banca S.p.A., the SRB then decided not to take resolution on the grounds that neither institution provided critical functions, their failure was unlikely to result in significant adverse effects on financial stability and that, consequently, the ‘public interest’ test was not fulfilled (SRB 2017b, c). Both institutions were then

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liquidated in insolvency proceedings pursuant to Italian law, to which the Italian state contributed extraordinary financial support of 17 bn euros to facilitate the process and fund special protection for senior creditors who had invested in debt securities issued by the two institutions (see European Commission 2017; Miglionico 2018). Similarly, in February 2018, the SRB decided not to take resolution action against ABLV Bank A.S., of Latvia and its subsidiary ABLV Bank Luxembourg S.A., again on the grounds that the public interest was not met, given the institutions’ limited role in the markets (SRB 2018a, b). In yet another controversial case involving the Italian bank Monte dei Paschi di Siena, resolution was avoided altogether by way of a precautionary recapitalisation pursuant to Article 18(4)(d)(iii) SRMR (see, e.g., Binder 2017a, at pp. 58, 70–71; Hadjiemmanuil 2017; Miglionico 2018).

3

 he Relevance of the Toolbox Within the T SRM: Functional Characteristics and Limitations

3.1

Overview

Without doubt, the absolute number of cases dealt with so far is too small as to provide a reliable basis even for a tentative, let alone definite assessment of the functional characteristics of the resolution toolbox and, consequently, its ‘relevance’ within the institutional framework for bank resolution established within the Banking Union more generally. To begin with the broader picture: On the basis of the existing precedents, with regard to the historic roots of the resolution tools and taking into account the conditions for and intended consequences of their use in practice, some preliminary observations are nonetheless in order. Importantly, the Banco Popular case, where resolution actions were devised and implemented within a few days in the middle of a working week, certainly has quelled earlier concerns about the viability of the decision-making procedures in general and, in particular, the ability of the SRB to effectively respond to cases of urgency. For all the characteristics of that case, whose suitability as a blueprint for ­resolution actions in cases of larger, more complex, internationally active banking groups is probably limited (Binder 2017b; see, further, infra, C. 1.), and irrespective of the on-going litigation initiated by shareholders and stakeholders on the grounds that the valuation did not justify the action taken, it is certainly reassuring that the SRB and the Spanish resolution authority managed to carry

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out a write-down of equity and capital instruments as well as the transfer of the relevant business to a competitor swiftly and without triggering contagion. Moreover, one of the lessons learned so far has been the insight that the SRB appears to take the ‘public interest’ test seriously, which––as a result of the centralisation of decision-making powers at the European level––has narrowed down the scope of application of the resolution tools in a way that may not necessarily reflect the expectations of participating Member States as to the proper role of the SRB (or, for that matter, its desirable limitations). The SRB’s decision in the cases of Banca Popolare di Vicenza, Veneto Banca and ABLV clearly demonstrate that the Board will not hesitate to refuse the initiation of resolution action, which underlines the role of the toolbox as ultima ratio for cases where the application of traditional insolvency law can be expected to trigger negative externalities (infra, B.). Finally, regarding more technical aspects (infra, C), it is perhaps not by accident that the first successful resolution case involved a rather simple sale of business rather than a bail-in or, in fact, the transfer of problem assets under the asset separation tool. Evaluating Banco Popular in the light of precedents involving the application of similar tools in other jurisdictions, both the functional advantages and the limitations of sale of business transactions are clearly visible—as are the difficulties that would have been encountered in the yet hypothetical scenario of a bail-in carried out under the auspices of the SRM, which illustrates significant uncertainty associated with that instrument. For reasons originating in the institutional framework of the SRM, it is also difficult to assess the potential of the asset separation tool. Taken together, the prospects for a successful application of the toolbox in cases of large, complex, internationally active banks or groups of banks or in sector-wide systemic financial crises appear to be dubious (infra, D).

3.2

 elineating the Lower Threshold: The Function D and Implications of the ‘Public Interest Test’

To a superficial observer, the decision not to take resolution action with regard to banks identified as failing or likely to fail may have come as a surprise. In any event, the threshold defined by the ‘public interest’ requirement (Article 18(1)(c) and (5) SRMR),1 as interpreted and applied by the SRB, obviously marks an important limitation to the scope of the SRM, whose practical significance has been illustrated by the decisions in Banca Popolare di Vicenza,  See also Chap. 11, para. 8.

1

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Veneto Banca as well as ABLV and which, given the policy objectives of the SRMR and its institutional design, could have been interpreted less strictly. Measured by the objective to provide authorities with a bespoke instrumentarium different from traditional insolvency law, tailored to the needs of bank insolvencies, the disapplication of the regime certainly deserves closer examination. At first sight at least, the conceptual underpinnings of the new toolbox are not restricted to banks qualifying as systemically important. Indeed, in very general terms, Recital 1 of the BRRD recognises a general need to introduce specialised regimes for the management of insolvencies in the financial sector: The financial crisis has shown that there is a significant lack of adequate tools at Union level to deal effectively with unsound or failing credit institutions and investment firms (“institutions”). Such tools are needed, in particular, to prevent insolvency or, when insolvency occurs, to minimise negative repercussions by preserving the systemically important functions of the institution concerned.

Specifically, as emphasised in Recital 4 of the BRRD, (…) the financial crisis has exposed the fact that general corporate insolvency procedures may not always be appropriate for institutions as they may not always ensure sufficient speed of intervention, the continuation of the critical functions of institutions and the preservation of financial stability.

Against this backdrop, as stated in Recital 5 of the BRRD, the resolution tools are designed to provide authorities with a credible set of tools to intervene sufficiently early and quickly in an unsound or failing institution so as to ensure the continuity of the institution’s critical financial and economic functions, while minimising the impact of an institution’s failure on the economy and financial system. (…) New powers should enable authorities, for example, to maintain uninterrupted access to deposits and payment transactions, sell viable portions of the institution where appropriate, and apportion losses in a manner that is fair and predictable. Those objectives should help avoid destabilising financial markets and minimise the costs for taxpayers.

None of these considerations, prima facie at least, are restricted to systemically important banks, however, defined. If one accepts the above statements at face value, the reasons to opt out of traditional insolvency law entirely and without reservations, for all types of financial institutions, appear to be as

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obvious as compelling. In fact, taken in isolation, the declared policy seems to mark the end of long debate among academics as well as policymakers on whether––and if so, to what extent––the special technical problems posed by bank insolvency require special procedural and institutional arrangements that are not and cannot, be provided within traditional insolvency frameworks (see, for a recent review of the discussion, Binder et  al. 2018). This background certainly explains why the Italian decisions have met with considerable reservations, particularly in northern Member States (e.g., discussing the precautionary recapitalisation of Monte dei Paschi di Siena, Götz et al. 2017). The refusal to initiate resolution actions in relation to several institutions falling within the direct responsibility of the SRB (as defined by Article 8(1) in conjunction with Article 7(2) SRMR) may have been considered all the more surprising given that the scope thus defined follows the scope of the European Central Bank’s (ECB) direct supervisory powers under the Single Supervisory Mechanism Regulation (SSMR), which is based on the concept of ‘significance’ of the relevant institutions: precisely because the scope is defined by way of reference to the ‘significance’ of institutions in respect of their size, importance for the economy of the EU as a whole or the relevant Member State and the significance of their cross-border activities (cf., in particular, Article 6(4) SSMR), observers could be forgiven to conclude that the insolvency of institutions fulfilling these criteria would almost automatically also meet the ‘public interest’ test according to Article 18(5) SRMR and that, consequently, that test would not play a major role (if any) in resolution actions under the auspices of the SRM. Before examining the technical merits, it is worth noting that, within the SRM, the choice of instruments is not a purely technical matter, but charged with intricate and politically fraught questions regarding the allocation of powers between the European and the national levels. These questions are particularly problematic because they directly relate to the delineation of access to the single resolution fund as a pan-Eurozone source of resolution funding (and thus, ultimately, to the controversial decision to mutualise, to a certain extent, the costs of failure across participating Member States). In this light, some Member States, consistent with a general trend towards the adoption of specialised bank insolvency frameworks that has been promoted by many observers at least since the late 1990s (e.g., Campbell and Cartwright 2002; Hüpkes 2000; see also IMF and World Bank 2009, paras. 15–20), may have favoured the application of the new resolution regime to a broader range of banking institutions, if not indiscriminately across the board for all insolvent banks (which might have facilitated a more generous use of the single

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resolution fund as a solution to still endemic problems in some domestic banking systems). Others may have preferred a more restrictive interpretation of the SRB’s mandate, leaving and securing room for manoeuvre for national legislation and national institutions unencumbered by the restrictions for the use of public funds that would have to be observed under the SRMR and the national laws transposing the BRRD. Against this backdrop, the stance adopted by the SRB so far may have disappointed those hoping for a more active role of the SRB (and, for that matter, the Fund) in the clean-up of legacy  problems especially in southern European banking systems, where non-performing loans resulting from protracted crises continue to impair the recovery of the banking sector and the economies as a whole. At the same time, the seemingly restrictive interpretation of the ‘public interest’ test as defined by Article 18(1) (c) and (5) SRMR is clearly consistent not just with the wording, but also with the overarching policy to substitute traditional insolvency procedures only if and to the extent required by the circumstances of the individual case (see generally Binder 2019b, paras. 3–15). This policy has been expressed repeatedly not just in the respective Preamble (see, in particular, Recitals 45, 46, 49 and 50 of the BRRD as well as Recitals 59, 61 and 62 SRMR, emphasising that liquidation under normal insolvency laws should always be considered as a first option and should be used wherever compatible with the protection of systemic stability), but also in several substantive provisions of both the BRRD and the SRMR, including, in particular the wording of the ‘public interest’ test itself. In other words: the differentiation between institutions whose failure does not give rise to systemic stability concerns and which, therefore, can and should be liquidated outside resolution on the one hand and those institutions whose size, complexity and/or interconnectedness, in view of the limitations of traditional insolvency laws justifies the application of the resolution tools on the other hand is deeply embedded in the BRRD and the SRMR. Although, perhaps in contrast to intuitive expectations of policymakers and market participants, it is only natural that the differentiation should guide also the treatment of cases under the auspices of the SRM. As argued elsewhere (Binder 2019c), the justification is ultimately to be found in the drastic implications of resolution actions on the rights of banks’ shareholders and, in particular, their creditors, who face infringements at least commensurate with those to be expected as a result of ordinary insolvency proceedings, but without equivalent safeguards in the form of a right to be heard and to take part in the decision-making processes that ultimately determine the fate of an insolvent company. Notwithstanding certain safeguards provided by the BRRD and the SRMR (including, in particular, the principle

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that no creditor should be worse off as a result of resolution actions than he or she would be under normal insolvency proceedings, Article 15(1)(g) SRMR = Article 34(1)(g) BRRD), the protection of creditors, to the extent that their relationship with and claims against, the institution in resolution do not benefit from a transfer of business to a competitor or a bridge institution, is limited. This is, in principle, justifiable if overriding public interests in the preservation of financial stability require the disapplication of general insolvency law, where the creditors may receive a more generous treatment both procedurally (in terms of rights of participation) and substantively (in terms of economic outcomes). In the absence of such concerns, however, the refusal to subject the relevant banks to resolution is fully vindicated. Effectively, the ‘public interest’ test thus serves as an important filter that, if interpreted correctly, should help to ensure the proportionality of resolution actions taken under the auspices of the SRM (Binder 2019b, para. 29, 2019c). The above considerations also help to explain why the qualification of a bank as ‘significant’2 and thus falling under the direct supervision by the ECB indeed should not prejudice the assessment whether or not resolution action is required on the basis of the ‘public interest’ test. The delineation of powers between the ECB and national supervisory authorities (NSAs) within the Single Supervisory Mechanism (SSM) is inevitably based on formal criteria which reflect the abstract significance of institutions in their respective market environment, because supervisory responsibilities have to be defined and exercised, at least in the medium term; ad hoc changes from the national to the European level would be impractical and even undesirable in terms of transaction costs and reduced effectiveness. By contrast, the choice between resolution and insolvency liquidation is, by definition, an ad hoc decision, which, although based on the resolution planning process, has to be calibrated and executed with regard to the circumstances of each individual case, taking into account also the market environment at the time of failure. In this light, the fact that the SRB repeatedly refused to take resolution in relation to ‘significant’ banks within the meaning of Article 4 SSMR should not be misinterpreted as an indication that the relevant banks ought not to have been subject to direct supervision by the ECB in the first place, but rather as e­ vidence that the ‘public interest’ requirement is respected as intended by the legislator. In conclusion of the foregoing, it is fair to assume that the relevance of the resolution tools within the Banking Union will remain confined to insolvencies of at least regional systemic importance, leaving the management of insolvencies below that threshold entirely to national authorities and courts, to be dealt with under the applicable national insolvency laws. From a conceptual  See Chap. 9.

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perspective, as discussed above, this is as it should be. In fact, the resulting room for national solutions may well be regarded as a welcome display of subsidiarity, allowing for national experiments and flexibility for the development of bespoke solutions tailored to the needs of domestic corporate structures, contractual relationships and property arrangements. In the absence of at least some minimum harmonisation of the applicable national procedural and substantive frameworks, however, their residual diversity may cause substantial problems, especially where the coordination between the SRB’s decision not to initiate resolution actions on the one hand and the initiation of national insolvency procedures on the other hand is impaired by procedural obstacles rooting in the applicable national laws. For example, if the triggers for the initiation of liquidation procedures under the applicable national insolvency laws are more restrictive than the ‘failing or likely to fail’ test under Article 18(1)(a) and (4) SRMR, it is conceivable that the relevant institution may be caught up in uncharted territory: unviable in view of the size of its financial difficulties, which have been signalled to the market and counterparties through the SRB’s decision, yet without access to a winding-up procedure which would help to protect the interests of creditors and other stakeholders (see, e.g., Yoo 2018).

3.3

 edefining the Relevance of the Resolution Tools: R Functional Characteristics, Strengths and Weaknesses

Sale of Business Tool Above the threshold defined by the ‘public interest’ requirement, the sale of business presents a rather straightforward case in terms of operational reliability and legal certainty. If and where a competitor willing to purchase the failing bank, or part of its business, can be found in the circumstances, a sale of business under Article 24 SRMR can be expected to facilitate the swift, effective and sustainable protection of those parts of the relevant institution’s ­activities that qualify as ‘critical’ within the meaning of Article 14(2) (a) in conjunction with Article 2(1) (35) BRRD, that is activities, services or operations the discontinuance of which is likely in one or more Member States, to lead to the disruption of services that are essential to the real economy or to disrupt financial stability due to the size, market share, external and internal interconnectedness, complexity or cross-border activities of an institution or group, with particular regard to the substitutability of those activities, services or operations.

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At the same time, with the requirement to carry out the transaction ‘on commercial terms’ (Article 24(2)(b) SRMR in conjunction with Article 38(3) BRRD) and, in the case of a transfer of assets, rights and liabilities, the need to liquidate the residual institution under general insolvency laws (Article 22(5) SRMR  =  Article 37(6) BRRD), the application of the instrument is consistent with the objective to simulate the economic outcome of and, hence, the incentive structure associated with, traditional insolvency law procedures (supra, II. A.) as far as reasonably possible. Irrespective of these advantages and notwithstanding the broadly positive first real-world test in the Banco Popular case, however, the relevance of the sale of business tool arguably should not be overrated. Its success critically depends on the availability of a private-sector investor who is not only prepared to acquire the relevant business, but also financially and logistically capable to be entrusted with its  operation. Depending, in particular, on (a) the complexity of the failing institution (or, indeed, group of banks), (b) the dimension of its financial problems and the (lack of ) transparency in this regard and, finally, (c) the market environment, this central condition may not always be fulfilled. To be sure, the application of the tool in the Banco Popular case has indicated a willingness, on the part of the SRB, to allow for a flexible interpretation of the condition to carry out sale of business transactions ‘on commercial terms’, accepting a transaction price of only one nominal euro although the valuation of the relevant entity had not ruled out that its net asset value prior to resolution was actually positive (cf. SRB 2017a; Deloitte 2017). Together with a substantial haircut of residual shareholders and investors in capital instruments, that decision certainly can be expected to have strengthened the acquirer’s incentive to accept the transaction, albeit at the price of on-going litigation. In fact, this underlines the crucial role of the write-down and conversion powers in relation to capital instruments (Article 21 SRMR) as a complementary element of resolution strategies resulting in a sale of business. Whether the execution of sizeable haircuts will always be ­sufficient to induce potential acquirers to accept a transfer, is nonetheless far from certain, however, especially in scenarios of broader systemic distress where the financial position of all or most competitors is affected (Binder 2017a, at p. 63). It is perhaps telling, in this context, that transfers to private-­sector competitors under the functional equivalent of sale of business transactions in pre-crisis US regulations appear to have been confined to insolvencies of small or medium-sized institutions within rather simple group structures (if any at all) and not overly complex business activities (Binder 2015, para. 2.50).

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Bridge Institution Tool Whether bridge institutions should be relied upon as a functional alternative to sale of business transactions remains an open question and, in the absence of real-world precedents, a matter for speculation. Conceptually, bridge institutions should be ideally placed to accomplish effects similar to those of sale of business transactions in circumstances where private-sector acquirers cannot be found. Their use is subject to limitations, however. To begin with, the statutory limitation of the duration of bridge institutions pursuant to Article 25(2)(b) SRMR in conjunction with Article 41(5) and (6) BRRD may make it difficult to establish and enforce consistent approaches for the administration and dissolution of bridge institutions across the SSM, where the decision to invoke the tool is taken at the European level, whereas the administration and dissolution is carried out by NRAs under the procedure stipulated in Article 29 SRMR (subject to monitoring by the SRB pursuant to Article 28(1)(b)(i) SRMR). This may turn out to be particularly problematic in cases where a series of bank failures necessitates the simultaneous activation of a number of bridge institutions in the relevant Member State. This may result in severe organisational and financial burdens for that state and the NRAs, especially if, in the circumstances, a write-down of capital instruments and/or a bail-in are not feasible or sufficient to capitalise the bridge institution (Binder 2017a, at p. 63). Although the Single Resolution Fund (SRF), in principle, may contribute to the funding of bridge institutions (Article 76(1)(d) SRMR), the implications for national budgets may be difficult to foresee, which is particularly problematic because the SRB, as a rule, has to respect the budgetary sovereignty and fiscal responsibilities of participating Member States (Article 6(6) SRMR). All in all, the decision not to entrust the SRB with the creation and operation of bridge institutions, leaving both at the national level instead, may be understandable in the light of the SRB’s financial and logistic constraints, but could prove problematic in terms of the effective implementation of resolution actions. Finally, while a transfer to a bridge institution would help to stabilise the situation in the short term, the long-­ term viability will always depend on the marketability of the relevant assets to interested acquirers, which may be impaired especially in distressed markets.

Asset Separation Tool Transfers of problem assets to a designated vehicle, in a number of banking crises, have proved to be an effective tool in past systemic financial crisis, where they were used as part of more comprehensive strategies for the restructuring

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of distressed banking systems (for a review of the literature, see Binder 2015, para. 2.52). Within the Banking Union, the asset separation tool has not been activated so far, however, and it is difficult to see how that could change on the initiative of the SRB, even where sector-wide problems could actually make a coordinated use of the instrument desirable. Just like bridge institutions (supra, 2.), asset management companies would have to be established by participating Member States rather than by the SRB. Although the SRF, again, could contribute to their funding by virtue of Article 76(1)(d) SRMR, it is difficult to see how the SRB could effectively devise a comprehensive activation of the tool without implications for national budgets, which in turn would conflict with Article 6(6) SRMR. Moreover, it has to be noted that the requirements for the design and operation of asset management companies in Article 42 BRRD and Article 26 SRMR are, at best, basic and sketchy and that a more detailed regime of harmonised substantive and procedural rules would be necessary in order to ensure coherent and effective application of the tool in future practice. To be sure, this could be established outside the BRRD or the SRMR (for a comprehensive proposal to that end, cf. Commission 2018; see also, arguing in favour of the creation of a pan-­European asset management vehicle, Avgouleas and Goodhart 2016, at pp. 84–87), but the absence of such harmonised requirements does not facilitate the activation of the asset separation tool for the time being.

Bail-in Tool Notwithstanding the conceptual relevance of the bail-in tool as a major component of the range of tools available under the BRRD and the SRMR (supra, II. A.), its practical significance, for the foreseeable future, is difficult to p ­ redict. In theory, bail-ins are expected to be best placed to compensate for the weaknesses and limitations associated with other tools. As noted before, the core objective of bail-ins is to facilitate the swift and effective allocation of losses to private investors in bank equity and bank debt and the restructuring of the relevant institution’s balance sheet, even where transfers of assets, rights and liabilities, or indeed the shares in a failing institution, cannot be implemented, for example, because of the size and/or complexity of the relevant activities. For all the conceptual merits, it is revealing that a bail-in has not been activated so far: neither in the Banco Popular case, although it had been identified as the preferred strategy in the resolution plan (SRB 2017a, p. 5, para. 22), nor in relation to Monte dei Paschi, where the potential implications of bail-ins for retail investors in capital instruments were reported to be the principal motive to avoid resolution altogether (e.g., Miglionico 2018, at pp. 318–319).

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Particularly the latter case has illustrated that a successful bail-in, which would facilitate the preservation of the institution as a going concern without interruption to critical activities, crucially hinges on the availability of a sufficiently large buffer of bail-inable instruments that are held by professional investors. In the absence of such buffers, the implications for retail creditors and/or investors may be difficult to contain, as illustrated by the Cypriot bail­in measures adopted prior to the creation of the Banking Union in 2013, where the resulting run into currency could only be countered through the imposition of highly restrictive capital controls (cf. Binder 2017a, at pp.  66–67). With the implementation of the statutory minimum requirements for own funds and eligible liabilities (Article 12 SRMR, Article 45 BRRD) still in the process and legislative changes in order to adapt the requirements to the international standards on the total loss-absorbing capacity imminent (on the present state of the negotiations, see Council of the European Union 2019), buffers of bail-inable debt still are being developed, and it is an open question whether the incoming changes will be adequate and sufficient (for a critical assessment, see Tröger 2019). Even assuming that sufficient levels of bail-inable debt may ultimately be in place, the de facto conditions for successful bail-ins are ambitious and include, in particular, the need for reliable ex ante valuations and prognoses as to the required amount of bail-in, but also the reliability of arrangements for the cross-border enforcement and recognition of bail-ins in complex groups (Binder 2015, para. 2.58). In contrast to the sale of business, bridge institution and asset separation tools, bail-ins cannot rely on precedents and experience gained in other jurisdictions before. This is particularly problematic given the wide margin of discretion granted to the SRB and the resulting lack of certainty as to the economic outcomes to be expected, the unpredictability of market reactions, in particular with regard to the funding conditions not just for institutions in resolution and the potential for protracted litigation with unpredictable consequences for the long-term viability and sustainability of the relevant resolution action (Binder 2015, para. 2.60; Avgouleas and Goodhart 2015, at pp. 17–22; Tröger 2018). Taken together, these considerations highlight a fundamental dilemma which, for the time being, is likely to deter the application of the bail-in tool if it can be avoided at all: especially in large insolvencies, where the sale of business and the bridge institutions may not be feasible, bail-ins have to be calibrated with care. In the absence of precedents indicating standard patterns regarding the calibration of the tool, the reaction of market participants will be difficult to predict, especially given the wide margin of discretion which inevitably confronts investors with a high degree of uncertainty as to the economic outcomes (see, again, Tröger 2018). Absent reliable predictions as to

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the potential impact on funding conditions not just for the institution in resolution, but also for similarly placed banks, however, such precedents are not likely to develop easily. A more definite assessment of the relevance of the bail-in tool therefore may have to be postponed until a much later moment in time, when the preventive requirements on the loss-absorbing capacity will have been fully implemented and investors’ readiness to hold and roll over designated bail-inable debt instruments has survived a first round of (possibly smaller) cases of application.

3.4

 elineating the Upper Threshold: Limitations D in Large-scale Insolvencies and Systemic Crises

It is evident that the factual limitations discussed above with regard to each of the resolution tools would matter particularly in scenarios of systemic distress, where individual cases of insolvencies are directly linked to broader, system-­wide problems, for example, general macro-economic distress resulting in a surge of non-performing loans, or problems in the interbank funding markets and where insolvencies can be expected to occur more or less simultaneously. As noted before, resolution strategies involving sale of business transactions or the transfer to bridge institutions may not work in such circumstances, while the application of the asset separation tool, for the reasons discussed, may face legal and practical difficulties as well. In order to avoid further disruption to funding conditions for banks and contagious effects on financial markets more generally, the application of the bail-in tool may also have to be ruled out in such circumstances (see also Hadjiemmanuil 2015, at p. 246). Although both the BRRD and the SRMR, in principle, are designed so as to avoid the need for extraordinary financial support to the extent possible and seek to provide resolution authorities with powerful tools for application also in systemic crises (cf., e.g., Recitals 1 and 5 BRRD), these limitations are all too obvious. Against this backdrop, the relevance of the resolution tools within the SRM should be regarded as limited from two directions. While the restrictions arising from the “public interest” requirement apply de jure and delineate the scope of resolution from the application of general insolvency law, what could be described as the “systemic crisis” exception, that is, the need to deviate from standard models of application of the toolbox in extraordinary circumstances of a financial crisis, has not been expressly recognised in either the BRRD or the SRMR, but follows de facto from the functional limitations discussed above. In cases of systemic distress (however defined), the relevance of the resolution tools fades and their application will have to be superseded

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by extraordinary measures, including the provision of extraordinary public financial support, to be decided and carried out at Member State level: where applicable, in the form of precautionary measures under Article 18(4)(d) SRMR or, alternatively, under Articles 56–58 BRRD (see, generally, Hadjiemmanuil 2016). In this context, the lack of a credible fiscal backstop, which could enhance the SRM’s capacity to act effectively and sustainably also in systemic crisis, is particularly deplorable (ibid., p.  112; see also Avgouleas and Goodhart 2016). Incidentally, these considerations also corroborate concerns that the creation of the Banking Union without a prior restructuring of the legacy problems affecting some banking systems in the European South could damage the capacity of the new framework to operate effectively (see, for an early assessment, Buch and Weigert 2012).

4

Conclusions

As illustrated by precedents before, during and after the global financial crisis, bank insolvency is a complex phenomenon. The dimension of financial problems as well as the legal and logistic problems to be expected are likely to differ from case to case, which requires flexibility and cautions against pre-defined one-size-fits-all solutions. Against this backdrop, the flexibility provided by the resolution toolbox is certainly laudable, as is the wide margin of discretion provided to resolution authorities with regard to the choice and combination of resolution tools. The range of potential scenarios of applications extends from the insolvency of smaller institutions, whose failure, in view of their respective size and complexity and/or their significance in the relevant markets, does not give rise to systemic stability concerns, to large insolvencies and outright systemic financial crisis, where traditional insolvency procedures would not be able to prevent contagious effects on other market participants, financial market infrastructures and, ultimately, the real economy. Within this broad range, the resolution tools provided by the BRRD and the SRMR occupy the middle ground. Legally, their scope of application–– pursuant to the ‘public interest’ requirement stipulated in Article 18(1)(a) and (5) SRMR––is restricted to cases that could not adequately be resolved in a liquidation under general insolvency laws. Resolution, in this respect, is expressly designed to apply as ultima ratio, not as a catch-all solution for application across the board. The first precedents under the auspices of the SRM indicate that the SRB is well aware of this, and have been characterised by a tendency of prudent self-restraint that is laudable and consistent with the underlying policy. If and to the extent that the liquidation of institutions

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identified as failing or likely to fail meets technical problems, the quest for solutions falls within the competence of the Member States, although a certain level of minimum harmonisation (outside the scope of the present chapter) may be desirable. Far more problematic are the de facto limitations identified with regard to the suitability of the toolbox for application in sector-wide systemic financial crisis, which could prove problematic especially because neither the BRRD nor the SRMR offers a clear-cut delineation of the respective responsibilities of Member States and the SRB, or, for that matter, a comprehensive framework of procedural and substantive standards to be observed in such cases. For the time being, responsibility for the management of systemic crises rests primarily with the participating Member States, with only a limited role for the SRB and the resolution tools. Given the implications of such scenarios on the respective economies and public budgets, this is probably inevitable, if not desirable (in that decentralised crisis management could enhance the legitimacy of responses). Nevertheless, this insight reveals that the relevance of the resolution tools within the SRM is subject to substantial qualifications––and that they should not be expected to provide sustainable solutions to systemic financial crisis.

References Asser T.M.C. (2001), Legal Aspects of Regulatory Treatment of Banks in Distress (Washington D.C.: International Monetary Fund) Avgouleas E. and Goodhart Ch. (2015), Critical Reflections on Bank Bail-ins, Journal of Financial Regulation 1, 3–29 Avgouleas E. and Goodhart Ch. (2016), An Anatomy of Bank Bailins: Why the Eurozone Needs a Fiscal Backstop for the Banking Sector, G.  Barba Navaretti et  al. (eds.), European Economy: Banks, Regulation, and the Real Sector (Rome: Europeye), 75–90 BCBS (Basel Committee on Banking Supervision 2010), Report and Recommendations of the Cross-border Bank Resolution Group (March 2010), available at https://www. bis.org/publ/bcbs169.pdf Bates C. and Gleeson S. (2011), Legal aspects of bank bail-ins, Law and Financial Markets Review (July 2011), 264–275 Binder J.-H. (2015), Resolution: Concepts, Requirements, and Tools, J.H. Binder and D. Singh (eds.), Bank Resolution – The European Regime (Oxford: OUP), 25–59 Binder J.-H. (2017a), Systemkrisenbewältigung durch Bankenabwicklung? Aktuelle Bemerkungen zu unrealistischen Erwartungen, ZBB/JBB – Zeitschrift für Bankrecht und Bankwirtschaft/Journal of Banking Law and Banking 29, 57–128

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Binder J.-H. (2017b), Wunderkind is Walking? The Resolution of Banco Popular as a First Test for the Single Resolution Mechanism, Oxford Business Law Blog (14 June 2017), available at https://www.law.ox.ac.uk/business-law-blog/blog/2017/06/ wunderkind-walking-resolution-banco-popular-first-test-single Binder J.-H. (2019a), Commentary on Article 1 SRMR, Jens-Hinrich Binder, Christos Gortsos, Klaus Lackhoff and Christoph Ohler (eds.), Brussels Commentary on the Banking Union (Nomos, C.H. Beck and Hart Publishing) Binder J.-H. (2019b), Commentary on Article 15 SRMR, Jens-Hinrich Binder, Christos Gortsos, Klaus Lackhoff and Christoph Ohler (eds.), Brussels Commentary on the Banking Union (Nomos, C.H. Beck and Hart Publishing) Binder J.-H. (2019c), Proportionality at the resolution stage: Calibration of resolution measures and the public interest test, European Business Organization Law Review 20 (forthcoming) Binder J.-H., Nieto M.J., Krimminger M. and Singh D. (2018), The choice between judicial and administrative sanctioned procedures to manage liquidation of banks: A transatlantic perspective, available at https://ssrn.com/abstract=3244334 Buch C. and Weigert B. (2012), ‘Legacy problems in transition to a banking union’, T. Beck (ed.), Banking Union for Europe – Risks and Challenges (London: Centre for Economic Policy Research, 2012), 25–35 Campbell A. and Cartwright P. (2002), Banks in Crisis: The Legal Response (Aldershot: Ashgate, 2002) Council of the European Union (2019) Press Release: ‘Banking Union: EU ambassadors endorse full package of risk reduction measures’ (15 February), available at http://dsms.consilium.europa.eu/952/Actions/Newsletter.aspx?messageid=28640 &customerid=74421&password=enc_464237687551313252584467_enc Deloitte (2017), Hippocrates Provisional Report (Sale of Business Scenario), [i.e., provisional valuation report in relation to Banco Popular] (6 June 2017), available at https://srb.europa.eu/sites/srbsite/files/valuation_2_-_main_report.pdf European Commission (25 June 2017), European Commission, Decision: State Aid SA. 45664 (2017/N) – Italy – Orderly liquidation of Banca Popolare di Vicenza and Veneto Banca – Liquidation aid, C(2017) 4501 final European Commission (14 March 2018), ‘Commission Staff Working Document: AMC Blueprint Accompanying the document Communication from the Commission to the European Parliament, the European Council, the Council and the European Central Bank  – Second Progress Report on the Reduction of Non-Performing Loans in Europe’, SWD(2018) 72 final FSB (Financial Stability Board 2011/2014), Key Attributes of Effective Resolution Regimes for Financial Institutions, (October 2011), available at www.financialstabilityboard.org/publications/r_111104cc.pdf; updated in October 2014, available at www.financialstabilityboard.org/wp-content/uploads/r_141015.pdf Gardella A. (2015), Bail-in and the two Dimensions of Burden-Sharing, European Central Bank (ed.), ECB Legal Conference 2015 (Frankfurt a.M.: ECB, 2015), 205–224

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Götz M.R., Krahnen J.P. and Tröger T.H. (2017), Taking Bail-in Seriously – The looming risks for banking policy in the rescue of Monte dei Paschi di Siena (10 February 2017), SAFE Policy Letter No. 54, available at https://safe-frankfurt.de/fileadmin/user_upload/editor_common/Policy_Center/SAFE_Policy_Letter_54.pdf Hadjiemmanuil Ch. (2015), Bank Stakeholders’ Mandatory Contribution to Resolution Financing: Principle and Ambiguities of Bail-in, European Central Bank (ed.), ECB Legal Conference 2015 (Frankfurt a.M.: ECB), 225–248 Hadjiemmanuil Ch. (2016), Limits on State-Funded Bailouts in the EU Bank Resolution Regime, G. Barba Navaretti et al. (eds.), European Economy: Banks, Regulation, and the Real Sector (Europeye), 91–115 Hadjiemmanuil Ch. (2017), Monte dei Paschi: A Test for the European Policy Against Bank Bailouts, Oxford Business Law Blog (2 May 2017), available at https://www. law.ox.ac.uk/business-law-blog/blog/2017/05/monte-dei-paschi-test-europeanpolicy-against-bank-bailouts Hüpkes E.H.G. (2000), The Legal Aspects of Bank Insolvency: A Comparative Analysis of Western Europe, the United States and Canada (Kluwer Law International) Huertas T. and Nieto M.J. (2013), A game changer: The EU banking recovery and resolution directive, VoxEU (18 September 2013) IMF and World Bank (17 April 2009), International Monetary Fund and World Bank, An Overview of the Legal, Institutional, and Regulatory Framework for Bank Insolvency, available at https://www.imf.org/external/np/pp/eng/2009/041709.pdf Leckow R. (2006), The IMF/World Bank Global Insolvency Initiative – Its Purpose and Principal Features, D.  S. Hoelscher (ed.), Bank Restructuring and Resolution (Palgrave Macmillan), 184–195 Miglionico A. (2018), Rethinking the resolution tools for distressed banks: A new challenge in the Banking Union?, Journal of International Banking Law and Regulation 33(9), 314–320 SRB (2017a), Single Resolution Board, Decision of the Single Resolution Board in its executive session of 7 June 2017 concerning the adoption of a resolution scheme in respect of Banco Popular Español, S.A., (…) Addressed to FROB (SRB/EES/2017/08) (non-confidential version), available at https://srb.europa.eu/sites/srbsite/files/resolution_decision.pdf SRB (2017b), Decision of the Single Resolution Board in its executive session of 23 June 2017 concerning the assessment of the conditions for resolution in respect of Veneto Banca S.p.A. (…) addressed to Banca d’Italia in its capacity as National Resolution Authority (SRB/EES/2017/11) (non-confidential version), available at https://srb. europa.eu/sites/srbsite/files/srb-ees-2017-11_non-confidential.pdf SRB (2017c), Decision of the Single Resolution Board in its executive session of 23 June 2017 concerning the assessment of the conditions for resolution in respect of Banca Popolare di Vicenza S.p.A. (…) addressed to Banca d’Italia in its capacity as National Resolution Authority (SRB/EES/2017/12) (non-confidential version), available at https://srb.europa.eu/sites/srbsite/files/srb-ees-2017-12_non-confidential.pdf

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SRB (2018a), Notice summarising the decision taken in respect of ABLV Bank, AS, available at https://srb.europa.eu/sites/srbsite/files/20180223-summary_decision_-_ latvia.pdf SRB (2018b), Notice summarising the decision taken in respect of ABLV Bank Luxembourg S.A., available at https://srb.europa.eu/sites/srbsite/files/20180223_ summary-decision_-_luxembourg.pdf Tröger T.H. (2018), Too Complex to Work: A Critical Assessment of the Bail-in Tool under the European Bank Recovery and Resolution Regime, Journal of Financial Regulation 4, 35–72 Tröger T.H. (2019), Why MREL Won’t Help Much: Minimum requirements for bail -in capital as an insufficient remedy for defunct private sector involvement under the European bank resolution framework, Journal of Banking Regulation 19 (forthcoming) Yoo E. (2018), Failing or likely to fail but no resolution - what then?, ECB (ed.), ESCB Legal Conference 2018 (Frankfurt: ECB), 139–147

14 Minimum Requirement for Own Capital and Eligible Liabilities Marco Lamandini and David Ramos Muñoz

1

Introduction

The concept of “minimum requirement for own capital and eligible liabilities” (MREL) sits atop the new system of banking law. If the lessons from the 2008–2009 crisis had to be encapsulated in one sentence, it would be “too big to fail (no more), we hope”. If reckless behaviour was to be discouraged, moral hazard was to be avoided and prudence to be fostered, banks had to be self-­ sufficient in terms of resources. If a crisis stroke, funds had to come from the bank’s investors (bail-in), rather than from the government (bail-out). Yet this feat could not be avoided without endangering the system: the solution of writing off equity and debt instruments looks good in theory, but if we were to apply the logic of bankruptcy law, many claims may enjoy the same status, and should be written off pari passu, but the disruptive effect may be i­ncomparably larger in some cases (e.g. deposits or derivatives) than in others (e.g. senior bonds), to not mention the divergences between different insolvency laws. Enter the concept of “Total Loss-Absorbing Capacity” (TLAC) at a global level, and the concept of minimum requirements of capital and eligible liabilities (MREL) at an EU level. Its basic idea is simple and sensible to try to M. Lamandini (*) University of Bologna, Bologna, Italy D. Ramos Muñoz (*) University of Bologna, Bologna, Italy Universidad Carlos III Madrid, Getafe, Spain © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_14

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anticipate the problems that may arise in an ex post enforcement setting and identify a layer of debt that can be bailed-in quickly and, if not painlessly, at least not disruptively. Our focus in the present chapter will be MREL (although a brief comparison will be offered), but the two measures share the same basic underpinning (simple and sensible) philosophy. Yet, despite the simplicity and sensibility of the idea, its implementation is inevitably complex and must be reasonable and proportionate not to lose sight of the way MREL interplays with other tools. MREL took its place in an already existing (and already complicated) system of rules and principles. To provide a succinct, yet comprehensive explanation that captures this narrative, the present chapter is divided into three more sections. Section 2 analyses the intellectual foundations of MREL at the level of principle: the concept of burden-sharing, its relationship to fundamental rights, such as property, and some difficulties of its implementation in the light of rules on bankruptcy ranking and priorities. Section 3 then proceeds to explain how the concept of MREL draws lessons from the clash of principles and tries to give rise to a system where resolution problems are anticipated and dealt with in the planning stage, and how this inevitably gives rise to other, sometimes difficult, trade-offs. Section 4 discusses the implications of the need to market the securities that help achieve MREL, and how, especially in the face of legacy problems not yet solved at the time of implementation of the MREL targets, prudential and financial stability considerations can collide with an investor protection perspective, if this is not properly reconciled in a proportionate and reasonable way with the former.

2

 urden-Sharing and Its Implications: Bail-in B and Fundamental Rights

The 2008–2009 financial crisis (and the following EU bank-sovereign crisis) forced Member States to accept the idea not only that banks could go bankrupt but that they should, at least if a measure of discipline was to be instilled into the market. A constant recourse to bail-out breeds moral hazard. The answer in the bank recovery and resolution directive (BRRD) and the single resolution mechanism (SRM) has been the bail-in tool (Article 43 and ff. and 59 of Directive 2014/59/EU; Article 21, 27 of Regulation 806/2014, “SRM Regulation”). Before it was implemented the initial term of choice was the more neutral “burden-sharing”, introduced in the European Commission’s Banking Communication on State Aid of 2013. In this section, we examine

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the potential difficulties arising out of the bail-in tool (2.1) and then discuss the fundamental rights challenges, which were dealt with in case law framed in the pre-BRRD/SRM framework (2.2). Finally, we draw some general conclusions, which help provide the context for the relevance of MREL (2.3).

2.1

Bail-in of Financial Instruments and Its Difficulties

Bail-in is part of the toolkit of instruments that resolution authorities can use when a bank crosses the point-of-non-viability (PONV), that is, it is found failing-or-likely-to-fail (FOLF), and there is no alternative solution available (Article 32 (1) BRRD, Article 18 (1) SRM regulation) and it consists in the write-down and conversion of capital and debt instruments (Article 43, 59 BRRD; Article 21, 27 Single Resolution Mechanism Regulation (SRMR)), in sufficient levels to ensure that the bank is viable and can continue its activity, or at least enough to find a private sector purchaser (Article 38 BRRD, Article 25 SRMR), or to be quite certain that a transfer of its assets and liabilities to a bridge bank (Article 40 BRRD, Article 26 SRMR) will ensure a posterior purchase, or the continuation of the activity. However, rather than just any tool, bail-in can be considered the tool that more fully expresses the resolution’s framework’s underpinning philosophy that moral hazard should be avoided and that no bank should be too-big-to-fail. This pre-eminence can be seen in several details: (a) first, the bail-in tool has the longest, and most detailed, regime of all resolution tools by far (art, 43–55, 59 and 108 BRRD compared to 38–39, 40–41 and 42); (b) second, the write-down and conversion of capital and debt instruments is the only mechanism that can be used either in resolution or without putting a bank in resolution, that is, also in cases where it will save the bank from resolution (Article 59 BRRD, Article 21 SRMR); (c) third, the provision is the only one accompanied by a regime, whose goal is not to regulate the use of the tool in a crisis-management situation but to anticipate, plan and prepare for its use in a way that is swift and efficient, that is, the MREL regime, which is discussed in this chapter (Article 45 BRRD, Article 12 SRMR). To fully understand the need for such planning provisions in the first place, we need to anticipate the problems that an unplanned application of the bail­in tool can cause. A careful reading of bail-in provisions shows that the main cause of concern is not the application of the bail-in tool itself but the instruments, or liabilities, over which it may apply and the sequence that may be used to apply it. Considering that the scenario alternative to resolution would be the bank’s liquidation under national insolvency laws, it is wise if the

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approach in resolution does not unnecessarily depart from the approach of insolvency laws when it comes to the ranking and priorities of the instruments. A starkly different treatment in resolution from what would be expected upon insolvency could provide grounds for a claim of discriminatory treatment. The drafters of BRRD and SRM rules were aware of this, and for purposes of the “bail-in sequence”, that is, the order in which the different instruments should be written-down or converted, they make a reference to the rules applicable in case of insolvency through the insisted reference to the so-called no-creditors-worse-off (NCWO) principle (Article 48(1)(d) and (e) BRRD). So, problem solved, right? Not quite, because the rules that represent an exception to this are numerous and relevant: 1. First, the writing-down and conversion in accordance with the hierarchy of claims under insolvency takes place only after the conversion of CET1, Tier 1 and Tier 2 instruments, which are bailed-in in the order stipulated by resolution rules, regardless of what insolvency laws, or corporate liquidation rules may say. 2. Second, and crucial, together with rules on the bail-in sequence, resolution rules also regulate the bail-in exclusions (Article 44 (2) BRRD, art, 27 (3) SRMR), which comprise liabilities such as covered deposits, secured liabilities, liabilities resulting from a bank’s clients’ assets, or from the bank’s fiduciary capacity, or to employees and tax authorities (which are often preferred liabilities in insolvency) but also short-term liabilities and liabilities associated to the provision of critical services (Article 44 (2) (e), (f ) and (g) (ii) BRRD; Article 27(3)(e), (f ) and (g)(ii) SRMR), which (together with deposits) are considered ordinary liabilities in insolvency, and are excluded ex novo by resolution rules. The difficulty with this is not only in the newly excluded liabilities,1 but in the fact that the logic of bail-in is different from the logic of insolvency rules. One excludes some liabilities (i.e. leaves them out) whereas the other merely puts them up in the ranking. Furthermore, the fact that resolution rules introduce the concepts, without fully relying on domestic insolvency law for purposes of gap-filling means that the interpretative weight shifts towards resolution rules, and thus away from domestic insolvency law, which creates more potential for divergence.  It is worth noting that article 108 BRRD modifies domestic insolvency rules to ensure that eligible bank deposits rank high in the insolvency hierarchy (i.e. above ordinary liabilities) and thus reduces the friction between a resolution and an insolvency scenario. However, this does not happen with short-term liabilities, or liabilities of trade creditors that provide critical services. 1

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3. Third, and also important, resolution rules empower resolution authorities to exclude other liabilities from bail-in, when this can result in contagion, or make resolution more difficult. The presence of these elements ensures that, in case of doubt about the status of a specific type of liability, there is a potential for friction. Resolution authorities may decide to interpret resolution rules in a way that classifies a specific instrument as Tier 1–2, even if, in an insolvency scenario, it might have ranked higher than equity or hybrid instruments, they may make a controversial decision as to what amounts to a “secured liability”, or about the way to classify a certain class of liabilities as having a maturity shorter than 7  days. The tension may be even greater if resolution authorities decide to leave out of bail-in certain liabilities that, despite not belonging to the list of excluded liabilities, can be disruptive for the system, for example, liabilities arising from a liquidity-management arrangement, or a hedging arrangement using derivatives. This shows that, despite the EU legislators’ concern about the alignment between resolution and insolvency, there is unavoidable room for friction. In light of this, three questions stand out: first, whether a writing-down and/or conversion of instruments constitutes a disproportionate interference with the property rights of the holders of those instruments, especially looking backwards to the legacy of the quite wide stock of bail-in eligible liabilities whose treatment current holders could not expect when they subscribed or acquired on the secondary market the instruments; second, what happens when the holder of an instrument is treated differently from the holder of another, despite they would have been treated equally under the applicable national insolvency law; third, how important is it for the holders of those instruments to be duly informed of the decision, to have an opportunity to present their case, and what kind of redress they can have, when financial stability is at stake. To these questions we now turn.

2.2

 ail-in, Burden-Sharing and Their Fundamental B Rights Implications

The fundamental rights implications of bail-in and bank resolution and crisis management must be drawn from case law that was decided before the BRRD or SRM frameworks were adopted. Still, the main features are general enough to be relevant as of today. The main difference is that, in the absence of resolution rules, the decision to impose losses on shareholders and creditors was

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adopted pursuant to the discretionary decision of public authorities. The first “framework” of sorts, which stipulated for the need of burden-sharing in general terms was the Commission Banking Communication, where it stated that its approval of a bank rescue would be conditional upon the fact that part of the funding to rescue the bank should come from the writing-off or conversion of shareholders’ and creditors’ rights. The full-fledged version of this measure is the bail-in tool, but when the BRRD and the SRM regulation were adopted, there were two alternative readings of the tool, as well as the principle (burden-sharing) underpinning it: (1) bail-in is a “neutral” tool, where the law imposes no losses on shareholders and creditors, the bank is simply worthless if not nothing, at the point of non-­ viability, and the holding of shareholders and creditors simply has to be adjusted; (2) bail-in is a measure to deter moral hazard, which means that shareholders and creditors interests have to be sacrificed to impose some discipline. It is not difficult to notice that the first simply means a recognition of losses, whereas the second is an imposition of losses. This can result in major differences in terms of fundamental rights protection. First, we try to answer whether the right to property represents a threat to burden-sharing (see section “Is the Right to Property a Direct Threat to Burden-Sharing”). Second, we discuss which other fundamental rights can be problematic for burden-­ sharing and bail-in (see section “Bail-in Eligible Instruments and Procedural Perspective”).

Is the Right to Property a Direct Threat to Burden-Sharing? One should justify burden-sharing and bail-in as a mere way to acknowledge the losses that the bank itself has suffered, regardless of the action of public authorities; however, the law’s narrative also emphasises the need to ensure that investors “bear”, or “suffer” the burden.2 An investor could then argue that, since public authorities, far from concerned about her losses, are trying to make an example of her, the rules have changed, resulting in an interference with her property. The courts’ answer, though, has not been sympathetic so far, in the light of precedents such as Grainger,3 by the European Court of

 The English version of BRRD uses the more neutral verb “bear” in article 34, but “suffer” is used in recitals (55), (67) or (71), or articles 107 (3) or 109 (1) (b). 3  Judgment 10 July 2012, ECtHR no. 34940/10. 2

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Human Rights (ECtHR), and Kotnik,4 Dowling5 and Ledra6 by the Court of Justice of the European Union (CJEU). Grainger involved the crisis management of Northern Rock, which was nationalised. Upon calculating compensation for shareholders, the independent valuer was expressly instructed to assume that no financial assistance would be extended to the bank, which, the expert concluded, resulted in zero compensation.7 The ECtHR accepted all the UK’s arguments that the government had a wide margin of appreciation in this field8 that zero compensation was a consequence of the bank’s losses, not government intervention,9 that public authorities were not obliged to cover the debts of a private institution, and that the government’s decision, was justified by the need to avoid moral hazard, and was thus far from being “manifestly without reasonable foundation”.10 Kotnik and Dowling analysed the Commission’s Banking Communication, which for the first time formulated a policy (i.e. not an individual decision) on burden-sharing (European Commission (2013) paras. 40–46). The CJEU held (1) that shareholders or debtholders of a bank cannot harbour the “legitimate expectation” that the bank would receive financial assistance11; (2) that a transitional period for the States to adjust to this regime was not necessary, since no legitimate expectation had been created, and, even if it had been created, the objective of ensuring the stability of the financial system while avoiding excessive public spending and minimising distortions of competition would qualify as the type of overriding policy interest that would justify excluding any transitional period; and (3) the burden-sharing measures indicated in the Banking Communication did not constitute an illegal interference with property rights, because they were not the source of losses to shareholders, and no one would suffer losses greater than under insolvency proceedings.12 To this effect, the no-creditor-worse-off (NCWO) principle (Banking Communication para. 46), which states that any loss by creditors in resolution vis-à-vis what

 Judgment 19 July 2016 C-526/14.  Judgment 8 November 2016 C-41/15. 6  Judgment 20 September 2016 C-8/15. 7  Judgment 10 July 2012, ECtHR no. 34940/10, cit., paras. 11, 21, 23. 8  Ibid., para. 39. 9  Ibid., para. 40. 10  Ibid., para. 42. 11  Judgment C-526/14, cit., paras. 63–66. 12  Ibid., paras. 78–79. 4 5

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they would have received in insolvency must be compensated, was of critical importance.13 We share the Courts’ conclusions, but some of the reasons are controversial. First, notably the separation between the “interference with property rights”, and the violation of legitimate expectations,14 and the restrictive interpretation of such “legitimate expectations”, which can only arise when there are “precise, unconditional and consistent assurances, originating from authorised, reliable sources”.15 If that is the benchmark, there is little investors may rely upon, and their property rights amount to little. Second, the causal connection between investors’ losses, and the bank’s insolvency, which assumes that it is the bank’s fault after all.16 Yet authors argue that there are banks that are simply illiquid yet solvent, and that differentiating between them is extremely difficult (Goodhart 2008). Third, at times the rulings seem to justify a bank intervention followed by burden-sharing measures on the existence of “macro” disturbances and systemic risk,17 but this raises the question of whether it would be possible to effect a bail-in of a bank that is failing-or-­ likely-to-fail (FOLF) but there is no “serious disturbance” in the economy. Finally, in Mallis18 and Ledra the CJEU considered the impact of measures adopted by Cyprus and imposed in exchange for an aid package by the European Stability Mechanism (ESM), with the European Commission and the European Central Bank (ECB) being the main players inside the ESM.19 In Mallis the Court dismissed the case on grounds of lack of imputability of the conduct to EU authorities, and in Ledra the Court held that the ­write-­down and conversion of debt instruments, including the conversion of a 37.5% of Cyprus Popular Bank’s uninsured deposits into shares, with the promise of a buy-back of shares if the bank went overcapitalised did not constitute “a disproportionate and intolerable interference impairing the very substance of the appellants’ right to property”, in light of the imminent risk of financial losses

 Ibid., para. 77.  It is hard to see the property over a bank’s share/bond as something different from an expectation over payments, which depend on an expectation over the behaviour of the market and public authorities. 15  Judgment C-526/14, cit., para. 62. 16  Judgment 10 July 2012, ECtHR no. 34940/10, cit., para. 40 and judgment C-526/14, cit., paras. 74–75. 17  Judgment C-41/15, cit., para. 50. 18  Judgment 20 September 2016 C-105/15. 19  The Court held that the acts of the ESM were its own, and subject to its privileges and immunities (falling outside EU Treaties). The Commission and ECB, however, could be held liable because, as EU institutions, they were always subject to the EU Treaties (including the Charter of Fundamental Rights) even when acting in an institution falling outside those Treaties. 13 14

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if the banks had failed.20 Again, regardless of the conclusion, which looks sound, the Court did not explain why 37.5% with a buy-back promise was reasonable, and what would be the yardstick in a different case.

Bail-in Eligible Instruments and Procedural Perspective The general conclusion of the above cases is that burden-sharing is not contrary to property rights, and that insolvency is a good benchmark to measure investors’ acceptable losses (NCWO principle) (Article 73–75 BRRD). Beyond that, however, it is hard to draw guidance for the future. One key element that was not discussed in the decisions is the existence (or absence) of equal treatment between banks or investors. This argument was alleged (i.e. differences between treatment of Northern Rock, on one hand, and RBS and HBOS), but not pursued in the ruling (Grainger, para. 32). Had the different in treatment been proven, public authorities would have been in a more defensive position, forced to the point of arguing LoLR’s fully discretionary nature, to the point of arbitrariness. Differences in treatment led the Austrian Constitutional Court to annul the Austrian Federal Act on Restructuring Measures for Hypo-Alpe-Adria-Bank International AG (HaaSanG), which provided that the supplementary capital and subordinate debt instruments held by third parties would expire provided they matured before 30 June 2019, together with all their guarantees (by the State of Carinthia): the Court agreed with the CJEU and the ECtHR that the expiry of claims was not per se an expropriation, and it used insolvency as the benchmark to establish the value of claims, but it found that the distinction between claims maturing before and after 30 June 2019 was untenable.21 A second set of considerations that opens a risky way to challenge bank interventions concerns the procedural angle, where there are some of the few precedents seem to support that courts are readier to exercise closer scrutiny, as the ECtHR did in Credit v Czech Republic22 and Capital v Bulgaria.23 Both cases were characterised by the intervention of individual banks (Credit and Industrial Bank and Capital Bank) to mitigate spill-over effects that would have resulted from insolvency, but which resulted in drastic measures, such as the removal of management in Credit and Industrial Bank, and the withdrawal  Judgement C-8/15, cit., paras. 73–74.  Guarantees issued by a province/state could not retroactively be rendered invalid, even when the province is incapable of bearing the risk. 22  Judgment 21 October 2003, ECtHR no. 29010/95. 23  Judgment 24 November 2005, ECtHR no. 49429/99. 20 21

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of the bank’s licence, followed by a declaration of insolvency and winding up Capital Bank. In both cases, it was not possible to challenge the intervention24; in Credit and Industrial Bank because the board was replaced by an authority-appointed administrator, which left the former board without standing to sue.25 The plaintiffs alleged both “property” and “access to justice” but the Court’s reasoning was the same for both rights. In both cases, the arguments were very similar26: neither Czech nor Bulgarian courts had acted as courts “with full jurisdiction”.27 In Credit and Industrial Bank the entity’s board should have lodged an appeal before they were formally divested of their powers, which was impossible.28 In Capital v Bulgaria, the rules precluded review by the courts, and the decision by an administrative body could replace a court ruling.29 Furthermore, in Capital v Bulgaria the Court did not limit itself to find a prima facie interference, but went on to analyse whether the measures were proportionate. The State made the usual argument that financial stability was at stake, but the Court retorted that, as special as the banking business may be, this could not justify a total absence of review by an independent body, which could, conversely, aggravate the crisis. Strict time limits could have helped protect the public interest.30 Posterior cases, such as Adorisio v The Netherlands,31 where Dutch authorities expropriated the investors in a Dutch bank, have shown that human rights courts are ready to be deferential to public authorities, as long as there is an opportunity for review: in that case the deadlines for lodging an appeal were very short (10 days), and the plaintiffs could access the report of an independent firm (on which the decision of intervention was based) only in redacted form, and were allowed to examine

 Judgment 24 November 2005, ECtHR no. 49429/99, cit., paras. 27–33.  Ibid., para. 58. 26  Ibid., para. 134. 27  Ibid., paras. 109, 135 and Judgment 21 October 2003, ECtHR no. 29010/95, cit., para. 69. 28  Judgment 21 October 2003, ECtHR no. 29010/95, cit., paras. 69–70. A similar situation was recently echoed in the case law of the CJEU: the CJEU held that shareholders may have an interest in bringing proceedings (order of 12 September 2017, Trasta Komercbanka v. European Central Bank, T-247/16, para. 57) when the bank itself would not have standing. This was compounded by the fact that, according to the ECtHR’s findings, in the process of review envisaged in the procedural laws, “It is not the role of the courts to examine the substantive reasons for which the compulsory administration has been imposed or subsequently extended. Moreover, consistently with this limited role, the procedure before the court is exclusively written and takes place in private, without a hearing and without the possibility of opposition from the management of the bank.” 29  Judgment 24 November 2005, ECtHR no. 49429/99, cit., paras. 105–109. 30  Ibid., para. 113. 31  Judgment 9 April 2015, ECtHR No. 47315/13. 24 25

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the statement of defence by the Minister the afternoon before the hearing.32 Still, the ECtHR did not see that judicial protection rights had been impaired, because the applicants put up an effective challenge33 and the Administrative Jurisdiction Division had had access to the full report.34

2.3

Preliminary Conclusions

The above analysis shows that: (1) property rights as such do not result in an absolute obstacle to burden-sharing through the bail-in of debt and equity instruments; (2) other principles, such as non-discrimination, can result in such a challenge; and (3) from a procedural perspective courts were so far ready to be quite deferential, provided there is actual review, and the parties affected have an opportunity to present their case. By way of principle, this is reassuring, but only slightly so. Consider the case of cross-border banks, especially large banking groups, which may have issued a large amount of financial instruments (in the hands of the public) as well as have multiple intra-group claims. Considering that the status of different instruments may starkly differ between jurisdictions (typically, intra-­ group claims) qualitatively similar claims can receive a drastically different treatment. If courts in the country of the relatively worse-off creditors are asked to enforce the bail-in decision, and creditors challenge the measures for being discriminatory, what should be the benchmark of comparison? If the crisis-management decision has to be implemented quickly to restore confidence to the market, is it realistic to presume that courts will have the time necessary to consider these nuanced questions? Thus, although the courts’ deferential attitude was useful for a first stage, where the priority was to put burden-sharing measures on firm footing in terms of policy, that is, as something not per se contrary to fundamental rights, this is only a first step. Fundamental rights are not only relevant to establish the ultimate bulwarks that protect individual parties from interference by public authorities’ actions. Their second key function is to establish the justificatory channels that should orient such action. In this respect, the ECtHR is not well-suited to provide the proper interpretative framework, since it is only competent to hear human rights cases, whereas the CJEU is competent to hear the fundamental rights angle, but also to examine the substantive statutory law. As such, it is uniquely placed to weave the logic of fundamental rights into the  Ibid., para. 41.  Ibid., para. 101. 34  Ibid., para. 109. 32 33

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fabric of bank resolution, which is filled with open–textured references, open to cross-fertilization (see Article 31 and 34 BRRD). After a series of decisions where the CJEU simply granted burden-sharing a solid legal basis, it may adopt a less accommodating stance on substantive (non-discrimination) and procedural (duty to state reasons and judicial protection) safeguards. Otherwise, it may see that domestic courts step in to fill the void. This, as we said above, is risky in a context where the whole system of EU bank resolution is grounded on the automatic mutual recognition on a cross-border basis (Article 66 BRRD). Recent experience shows that domestic courts are often reluctant to follow the spirit of the rules, and ready to cling to weak arguments to refuse recognition, as in the case of the English commercial court in Goldman Sachs International v Novo Banco SA (“Goldman Sachs v Novo Banco”),35 corrected by the Court of Appeal (Goldman Sachs v Novo Banco, paras. 24–34),36 and the Supreme Court, and the decision of the Munich court in the Bayern LB v Hypo Alpe Adria (“Hypo Alpe Adria”) case, which was not corrected. The problem is that if cases make their way up to the Supreme or Constitutional courts, and there is truly a difference in treatment, the CJEU may be facing challenging preliminary references (in a best-case scenario) or annulment decisions (in a worst-case one) from several Member States. In the past, the CJEU has been vehement in concluding that EU rules that are clear in their content, and leave no discretion to Member States cannot be circumvented by referring to national constitutions, but in this scenario the Court might face a storm if it tells a national court that they cannot protect their citizens from violations of due process, or non-discrimination. The above does not wish to paint a doomsday scenario; it merely tries to illustrate what is at stake for the EU and its court system. The risk of an open challenge by national courts to the CJEU’s role as the “Supreme Court of Europe” is as “systemic” as one can imagine. If the issue is not duly planned, the CJEU may find itself between the rock of financial meltdown, and the hard place of being challenged, or ignored, by national courts. If only both risks could be averted….

 Portuguese authorities stated that the decision in the context of the resolution of Banco Espirito Santo (BES) to transfer assets to Novo Banco (“NB”, the bank where the “good assets” were transferred) did not include a loan facility subscribed by BES with Oak Finance Luxembourg. Since the loan facility included a jurisdiction clause in favour of English courts, the Commercial Court declared itself competent to decide on whether NB had succeeded, or not, BES in the loan facility, despite the previous decision by resolution authorities. About this case, see also Chap. 16, para. 1. 36  The UK Court of Appeals relied on the broader interpretation of “reorganisation measures” under art 2 of Directive 2001/24 laid out in the Kotnik decision. 35

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 REL in the Context of Bank M Resolution Planning

The above section illustrates what happens whenever the focus of bank resolution falls exclusively on crisis management: to avoid moral hazard burden-­ sharing is demanded, to avoid spill-over effects the decision to bail-in capital and debt is adopted quickly, maybe leaving out the instruments that could be a source of contagion, which means that a greater burden is shouldered by certain creditors, who are “discriminated”, court challenges follow, with uncertain results. Having that scenario in mind, is there anything that can be done? The answer is a certain “yes”: one can plan for this eventuality and make sure that, should the day come, there will be no uncertainty around the bail-in of capital and debt instruments… hence the MREL and similar concepts. We examine those concepts and discuss the calculation of MREL and its difficulties. Then, we focus on the divergent conceptions that arose in the different EU countries out of a single concept, and the EU efforts to further harmonise the matter, and the challenges ahead. Resolution rules include ex post tools, such as bail-in, which are deployed once the entity enters a critical stage, but also, and critically, rules that stipulate the need for an ex ante planning for the entity’s “recovery” (Articles 5–9 BRRD) and “resolution” (Articles 10–18 BRRD). Resolution planning in particular means drafting “living wills”, where resolution authorities anticipate relevant obstacles to resolution, arising from the corporate structure (which may be too complex), financial arrangements (e.g. centralised liquidity management, financial derivatives, etc.) ask the entity to remove them, and devise a clear resolution strategy, including the use of one or more tools. This means that, if bail-in is the chosen tool, as it is for many banking groups, other than a clear corporate structure and operational arrangements the entity must have a layer of capital and debt instruments to ensure loss absorption and recapitalisation. Since the idea is to ensure that such loss absorption and recapitalisation (through the writing-off and/or conversion of the capital and debt instruments) is swift and uncontroversial, it is useful if a consensus emerges about the kind of instruments that may be used, to make them easily identifiable in the market. On a global level, where the focus is on Global Systemically Important Financial Institutions (G-SIBs), the key concept is the total loss-­ absorbing capacity (TLAC), used by the Financial Stability Board (FSB) in its Term Sheet of 2016. At an EU level, the key concept is MREL, which applies to all banks (Article 45 and recital (80) BRRD). The idea is to use eligible debt

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and equity to absorb losses and recapitalise the bank: part of the instruments would be written off to absorb losses, and then the rest would be converted into equity to ensure that the levels of equity enable the entity to continue critical functions without taxpayer support, or specifically in the case of MREL, that the level of Core Equity Tier 1 (CET1) left after the conversion is compliant with prudential rules (Article 45(6) BRRD). Despite their common conceptual core, TLAC and MREL offer some differences, such as: 1 . Scope of application: TLAC applies to G-SIBs, MREL to all banks. 2. Uniformity: TLAC is a single common requirement (it assumes bail-in as a resolution strategy).37 MREL is calculated on a case-by-case basis, considering the institution’s risk profile and resolution strategy, among other things (Article 45(6) BRRD). Thus, a low-risk bank should need less MREL, a bank whose resolution strategy is liquidation would need very little. Since MREL levels need to ensure a compliant CET1, and this is a risk-weighted ratio, MREL levels will vary. Besides, the calculation of MREL must take into account the size, business model, funding model and risk profile of the institution, the potential contribution of the Deposit Guarantee Scheme, and the adverse impact of the institution’s failure on financial stability. This point was clearly stated by the Single Resolution Board (SRB) Appeal Panel in its decision no. 8/2018 of 16 October 2018, where the Appeal Panel held that a discretionary determination of the Board to require an MREL at 4.9% of total own funds was justified, noting that: Whilst the Appeal Panel agrees, in principle, that a thoughtful MREL ammunition should be made in good times, conversely the Appeal Panel also notes (a) that in the calibration of MREL requirements the Board enjoys a margin of technical discretion because the MREL calibration implies, by its very nature, a technical assessment of all specific factual circumstances and a balancing of interests and (b) that it is not the Appeal Panel’s role to second-guess the Board’s technical assessment. The MREL determination may have far-reaching ­implications on the return on capital, the business model and the competitive level playing field for all involved institutions and cannot be considered in isolation from the actual and prospective responsiveness of capital markets to the issue of large amounts of MREL-securities. Their assessment falls within the technical remit of the Board and a margin of discretion is essential to grant to the Board the  TLAC requirements are the greater between a 16% of risk-weighted assets (from 1 January 2019, 18% from 1 January 2022) and the 6% of the assets used to calculate the leverage ratio under Basel rules (from 1 January 2019, 6.75% from 1 January 2022). 37

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­ ecessary flexibility in tailoring the MREL requirements to the individual n circumstances of the case, taking into account all the above mentioned aspects. It is the Appeal Panel’s role to verify that, in all events, the Board’s MREL determination fully satisfies all applicable legal requirements and upon close and thorough scrutiny by the Appeal Panel (which can also rely for that purpose on the economic expertise of some of its members given the nature of the matter at stake), the decision is not affected by violations of the applicable legal framework or by any manifest error.

3. Calculation: There are some differences on the eligibility of debt, since TLAC-eligible debt has to be subordinated to non-TLAC,38 whereas MREL has not (which affects the numerator); and the assets to calculate the requirement, since TLAC uses risk-weighted assets (RWAs) and the assets used to comply with the leverage ratio (TLAC levels are calculated with reference to both), whereas MREL uses total liabilities and own funds as a reference (Article 45(1) BRRD). 4. Relationship with prudential requirements: TLAC is integrated with prudential requirements, whereas MREL enjoys separate treatment under the resolution framework (FSB 2015),39 which also means a potential for developing different interpretative criteria for difficult cases. 5. The relative size of the debt and equity amounts used to comply with the requirement: Debt is “expected” to be at least 33% of TLAC (FSB 2015), whereas there is no minimum expectation in case of MREL, which can be complied with fully with equity. The potential frictions and misalignments led to review MREL rules and adopt new ones at an EU level, to ensure that the TLAC standard was complied with.40 The key consequence of TLAC/MREL is that not all bail-in eligible liabilities will be TLAC/MREL-eligible. Bail-in can be disruptive if used over  To be precise, the FSB provides that entities subject to the TLAC framework may use instruments that are not subordinated to satisfy TLAC requirements, but with the limit of 2,5% of Risk-Weighted Assets (FSB 2015). 39  Integration makes it easier, in the case of TLAC, to ensure that the calculation of firm-specific requirements is aligned for capital and MREL requirements. 40  Council Conclusions on a roadmap to complete the Banking Union 17 June 2016 no. 7 (a) highlighted the amendments to implement TLAC standard and reviewing the minimum requirement for own funds and eligible liabilities (MREL)’. See EU Commission Proposal for a Directive amending Directive 2014/59/ EU on loss-absorbing and recapitalisation capacity of credit institutions and investment firms and amending Directive 98/26/EC, Directive 2002/47/EC, Directive 2012/30/EU, Directive 2011/35/EU, Directive 2005/56/EC, Directive 2004/25/EC and Directive 2007/36/EC. Brussels, 23 November 2016 COM(2016) 852 final 2016/0362 (COD). 38

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“operational” liabilities, such as those resulting from funding, liquidity or hedging (e.g. derivatives) arrangements. Thus, TLAC/MREL rules try to ensure that only “clean” liabilities are used to plan for the entity’s resolution, through several requirements: (a) First, the rules include a list of criteria that the instruments have to comply with to be eligible: (1) They have to be fully paid-up. (2) They have to be unsecured. (3) They cannot be subject to setoff/netting. (4) They must have 1-year remaining maturity. (5) They cannot be redeemable. (6) They cannot be directly or indirectly funded by the resolution entity or related party. (b) Second, the rules introduce a list of excluded liabilities, which includes deposits, derivatives, non-contractual liabilities (including taxes) preferred liabilities (including secured liabilities) and other bail-in-­excluded liabilities. A final consideration is that the TLAC standard expressly provides for the possibility to rely on different subordination mechanisms to comply with it (FSB 2015). These are: (1) “contractual subordination”, whereby the specific debt instrument indicates that it is subordinated in case of insolvency or resolution, to instruments of ordinary debt; (2) “statutory subordination”, that is, ear-marking debt that is junior in the insolvency ranking; (3) “structural subordination”, that is, creating a group structure where (operating) subsidiaries hang from a “clean” holding company, which has no major liabilities other than capital and debt instruments that are issued for purposes of bail-in, which means that there will be no frictions arising from the relationship between bail-in eligible liabilities and other liabilities. TLAC rules, being a semi-prudential standard, try to ensure a seamless transition between the instruments that form part of the Basel Framework, and those that will be used in resolution to ensure a continuity of compliance. MREL rules, being anchored in the resolution framework, are less explicit, which can create problems. Thus, for example, they stipulate the possibility of clauses providing for a contractual recognition of bail-in (Article 55 BRRD), but that is not exactly the same as a contractual subordination to ordinary debt (Article 45(13) and (14) BRRD), that is, the clause concerns the recognition of bail-in, but problems could still arise about the relative ranking of the instrument, which would depend on the vagaries of the joint interpretation of the insolvency and resolution frameworks,41 thus making the process less safe. Likewise, MREL rules implicitly allow for the use of ordinary debt to meet the mandatory requirements, as long as the requirements (issued, fully paid­up, etc.) are met but, since they do not include a requirement of subordina Supra 2.1.

41

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tion, like TLAC does, this means that certain ordinary liabilities would be bailed-in (e.g. senior bonds), and others would not (e.g. derivatives) despite the fact that, upon insolvency, they would rank pari passu, thus creating a difference in treatment, which constitutes a source of problems. Finally, EU rules make no room for the allocation of capital and debt across banking groups. MREL rules stipulate a calculation of requirements at both consolidated and individual levels, but there is little in the rules as to a smart allocation of instruments across the group to ensure that losses are absorbed and entities recapitalised as they should and that there are no bottlenecks. These lack of specifications can constitute a source of interpretative difficulties. This was also witnessed by the first decision on an MREL determination adopted by the SRB Appeal Panel (case 8/2018), where the crux of the problem revolved around an MREL determination below the 8% “total liabilities including own funds” (TLOF).42 The concern raised in that case was that, lacking an ex ante ammunition of MREL liabilities sufficient to reach the 8% TLOF, there could be a risk that, if necessary at the point of non-viability, the resolution could not rely on any contribution of the SRF, because, as provided for in Article 44(4) and 44(5) BRRD, the fund contribution can occur only when: a contribution to loss absorption and recapitalisation equal to an amount of not less than 8% of the total liabilities, including own funds of the institution under resolution, measured at the time of resolution action in accordance with the valuation provided for in Article 36, has been made by the shareholders and the holders of other instruments of ownership, the holders of relevant capital instruments and other eligible liabilities through write down, conversion or otherwise.

The Appeal Panel held however that the 8% TLOF threshold can be reached not only via MREL instruments but also through other bail-in eligible liabilities, even if they do not qualify as MREL, provided these additional bail-in eligible liabilities are not excluded from bail-in. This proved to be the case, in that appeal, with regard to not-covered and not-preferred deposits. In turn, the Appeal Panel considered that, in the MREL determination, a case-by-case and proportionate approach must be adopted. Specifically, it was held that the principle of proportionality must guide in properly calibrating the MREL requirement to ensure that the MREL target of the relevant credit institution (measured against its risk-weighted assets) compares in a balanced way with the average national banks and the average Banking Union banks and is duly calibrated to the bank’s size, business model and risk profile. To back-test this, the Appeal Panel decision considered that: 42

 See also Chap. 16, para. 2.1.2.

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A possible scenario that would in fact make the MREL determination adopted with the Appealed Decision insufficient, would be an increase of risk-weighted assets (hereinafter “RWA”) by 45% which uses as reference the 2014 EBA stress tests. The Board stressed, however, that this is a quite unlikely assumption in the current circumstances and that in the 2016 EBA stress tests the average increase of RWA in the adverse scenario was 10% and for the [other] participating G-SIIs was below 20%. (…) The Appeal Panel further points out that the Board has appropriately shown that the MREL calibration in the present case is consistent with the O-SII buffer set for the same Relevant Credit Institution (0.75% of RWA) as set by the competent macro-prudential authority on the basis of the systemic risk posed by the Relevant Credit Institution and for which there are no indications by the same authority that it has to be increased. The Board further clarifies that in the calculation of the MREL requirement for the Relevant Credit Institution both the O-SII and other macro-prudential measures are automatically included. In this context, based upon the elements brought to its attention, the Appeal Panel holds that there are no reasons to reject the Board’s argument that, in such circumstances, an increase of MREL to 8% of TLOF would most likely imply a disproportionate approach vis-à-vis peers active in the [same national] market but also in the Banking Union and could possibly have unintended consequences of serious distortion of the competitive level playing field.

This shows that, albeit MREL rules provide a clear method for the calculation of eligible capital and debt levels, these rules are also open for interpretation on some relevant aspects. This can be a source of tension between the entity and the resolution authority, as well as between the resolution authorities themselves. Different countries may have chosen different strategies to ensure compliance with MREL.  In the following pages, we illustrate, first, how, in an initial stage, the open-textured nature of MREL rules provided the room for divergent approaches, and how the EU legislators had to step in again, to further harmonise the rules. Then, we examine what room is still left for divergent approaches and interpretations. The basic idea underpinning MREL is simple: ensure that bail-in is easier to execute. Yet this imposes a burden on banks, which, when we transcend the scope of G-SIIBs (which MREL does) can result in an unpalatable choice between (a) closing shop or being acquired by a larger rival; or (b) using whatever strategy is available to comply with MREL that does not involve issuing new amounts of equity and debt. It is not surprising that, once banks (or whole banking sectors) find themselves in this conundrum, their plight will be taken up by their Member State as its own and translated into a specific MREL-compliance strategy. In the initial stages of BRRD-SRM, this is what Member States did, using the openness of the rules.

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Germany and Italy, for example, followed a strategy of statutory subordination, which consisted in amending the insolvency ranking of existing debt instruments. Germany’s amended rules provided that, in case of insolvency, senior unsecured bonds and similar debt instruments would be subordinated to every other senior instruments (which includes “operational” liabilities, which constituted the main concern) (Section § 46f (5) et seq. German Banking Act, “Kreditwesengesetz”). Italy chose the opposite way and gave preferential status to all bank deposits, including large corporate deposits and interbank deposits (modifications to Article 91 Leg. Decree No. 385/1993), and thus a statutory privilege, rather than subordination strategy. The advantage of this approach is that German/Italian banks could comply with MREL with their long-term non-operational debt without issuing new debt. The ECB concluded that German rules made senior debt TLAC/MREL compliant, but ineligible for ECB operations (CON/2015/31), and was more cautious about TLAC-eligibility of Italian banks’ senior debt, because some operational liabilities, such as derivatives, would still rank pari passu with senior unsecured bank debt (CON/2015/35), which meant that (1) they could be bailed-in simultaneously with bank bonds, thus wreaking havoc in the market, or (2) they could be excluded on an ad hoc basis using resolution authorities’ powers, thus opening the possibility of a challenge based on discriminatory treatment. Interestingly, since both countries chose to amend their insolvency law, they introduced a relative harm to some ordinary creditors without having to compensate them, that is, since the NCWO principle, states that creditors have to be compensated if they are treated worse than under insolvency rules (CON/2015/31). Still, by affecting existing rights, these measures could be challenged as a retroactive interference with property. In the case of Italy, there would be less ground, since the rules privilege certain types of liabilities, rather than harming others. German rules, on the other hand, blatantly subordinated ordinary liabilities. Yet, in this case the argument is that, by ­interfering with an ongoing process, the rules would not be a case of strict retroactivity (echte Rückwirkung), but of “not real retroactivity” (unechte Rückwirkung) and would be backed by German Supreme Court’s case law, which accepted the statutory introduction in 2014 of collective action clauses (CACs) in outstanding bonds. The strategy has been different in Spain and France, which have introduced a new type of “Tier 3 debt”, which, upon resolution, would be senior to Tier 2 debt, but junior to other senior debt (e.g. Article L 613-30-3 French Financial and Monetary Code; Additional Provision 14th, Spanish Act 11/2015) such as derivatives, non-covered deposits and other operational

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liabilities. This approach mixes “contractual subordination”, because the debt must include specific contract provisions and “statutory subordination”, since the actual enforcement is supported by specific statutory provisions on the debt ranking (Article 151 II and III of LOI no. 2016–1691). The advantage of Tier-3 approaches is their legal certainty and “fairness”, as investors can know their status from the moment they subscribe; its disadvantage is that they are costly (CON/2016/7). The existence of different national strategies can cause problems in cross-­ border cases. Imagine the case of an entity issuing bonds under a subordination clause, and others under a non-preferred status clause, subject to the laws of a Tier-3 country, such as Spain (subordination) or France (non-preferred), but where the entity is subject to the rules of a statutory subordination country, such as Germany or Italy. Should non-preferred bonds be bailed-in before ordinary bonds, despite German law makes no distinction? What would be the result if the applicable insolvency law were France’s? Would France treat subordinated Spanish bonds differently from French Tier-3, despite they both fulfil the same function, or would they be deemed “equivalent”? The risk of uncertainty led to further efforts to harmonise the rules on insolvency ranking (Directive 2017/2399, “Directive on Insolvency Hierarchy of Unsecured Debt Instruments”). To the already existing deposit preference the new rules regulate a new kind of senior debt with “non-preferred” status and the following conditions: (1) maturity of at least 1 year; (2) no features typical of derivatives; and (3) explicit reference in contractual documentation to the insolvency ranking (new Article 108(2) BRRD as drafted by Directive 2017/2399). Following the French approach, the rules introduce a new EU-wide Tier-3 debt which would rank below ordinary unsecured debt, and above the CET1, Tier 1 and Tier 2 instruments (new Article 108(2) and (3) BRRD). This was accompanied by transitional provisions: (1) the rules ensure the application of insolvency law to debt issued before the entry into force of the new provisions (new Article 108(4) BRRD); (2) for debt issued under the laws of countries, like France, that had already adopted a “domestic Tier-3 debt”, the rules give this debt the same ranking as “EU Tier-3 debt” (new Article 108(5) BRRD); and (3) for debt issued under the laws of countries like Germany or Italy, which split unsecured debt into two or more rankings, or changed the ranking of some instruments in relation to others, the rules say that those States may give the lowest ranking category of ordinary debt the same ranking as “EU Tier-3 debt” (new Article 108(7) BRRD). Doubts remain as to what a State may do, or what happens if it does not modify its rules, as well as the interpretative margin left for State authorities, even if the rules are the same.

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 REL, Financial Stability and Investor M Protection

After the adoption of the Banking Communication and of the BRRD and in the wake of recent banks’ restructurings and resolutions, the risk profile of bank debentures reflects their actual exposure to burden-sharing. This is something that should be disclosed to, and considered by, the investors (Alvaro et al. 2017). The issue has become relevant enough to be the subject of attention by the Basel Committee on Banking Supervision (2015), by European Securities and Markets Authority (ESMA) as well as the European Banking Authority’s (EBA) 2016 Report, which included a recommendation on transparency (No. 12).43 The problems in this regard are twofold. First, the risk of conflict of interest is multi-level. On one hand, the conflict of interest at the level of the intermediary, because very often it will market its own securities to its clients. On the other hand, there is the conflict of interest at the supervisory level, because as important as compliance with transparency and know-your-customer duties are, this importance loses strength when the stability of the system is in jeopardy, as it happens when banks need to comply with exacting MREL rules. Second, since the new resolution framework lacks any grandfathering provision for instruments issued before the Banking Communication (2013) and the BRRD (2014) and the CJEU ruled out the principle of legitimate expectations did not include the expectation of not being bailed-in, this created a “legacy” problem, which has different size and significance depending on the profile of the investors holding the specific securities. In countries where hybrid securities, convertible bonds and, generally, MREL debt are in the hands of retail investors, it is likely that a major bail-in process will be followed by legal challenges (and public outrage) based on the mis-selling of financial instruments by investors alleging to have been misled, which, to the extent that those investors were unable to understand the risk of burden-­  The recommendation called for the introduction of new EU requirements, whereby: “in the steady state, credit institutions in the EU should be required to disclose the quantum and composition of their MREL-eligible liabilities, as well as the MREL required from them by the resolution authority. The BCBS recommendations, once finalised, should serve as a starting point and should be extended to cover all of the MREL-eligible liabilities of G-SIBs and non-G-SIBs. They should also be extended to include information on other financial instruments subject to bail-in as well as information on the creditor hierarchy. In the transitional period, and pending finalisation of the BCBS recommendation in this area credit institutions in the EU should be required to disclose to investors the quantum and composition of their stack of MREL-eligible liabilities, as well as information on the creditor hierarchy (at a minimum). In addition, disclosure should be required or actively encouraged if a failure to roll over MREL debt could lead to automatic restrictions on distributions.” 43

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sharing and have enough loss-bearing capacity to incur losses, will be true (Götz and Tröger 2016). On the implications of these elements, nothing teaches like experience, which is why we will focus on the Spanish and Italian experiences to understand how seemingly “micro” problems associated to the client-bank relationship can easily have “macro” implications.

4.1

 pain: The Pendular Movement from Pro-bank S to Anti-bank Stance, and Its Implications

The case of Spain also reflects the risk of pendular movements in policy positions. Traditionally, the courts’ views in Spain were relatively formalistic and pro bank, including in the mis-selling of financial products.44 Yet a confluence of events resulted in a drastic change. First, the Spanish courts were confronted, for the first time, on a massive scale, with cases on the mis-selling of financial products, primarily of two kinds: the marketing of hybrid capital instruments similar to preferred shares (participaciones preferentes) (Ramos Muñoz 2012), and the marketing of swap instruments, which should have operated as insurance against interest rates rises, but in practice guaranteed banks a stable interest rate.45 The trickle of cases turned into a tide, suggesting that something could be structurally wrong. Second, supervisory authorities were slow to respond, despite clear evidence that, in some cases, financial products had been sold to the wrong people for the wrong reasons. The National Securities Market Commission (Comisión Nacional del Mercado de Valores, “CNMV”) and Banco de España had the tools to craft some “macro” solution based on restitution, but they preferred to leave it to the “micro” and case-by-case solution by the courts. The “macro” solution was provided by the government, with an arbitration mechanism, but enough preferentes cases were already in the courts to effect change: given the limited evidence and investigatory powers in civil (i.e. unlike criminal or supervisory) proceedings civil courts’ option was to simply change the view. Third, the Spanish courts were scolded by the Court of Justice of the European Union (CJEU) in Aziz46 and similar cases for failing to stop the  Up until 2012, the Supreme Court rejected that the breach of conduct rules related to the transparency in the marketing of financial products, could constitute the basis for a claim of annulment, and thus restitution. 45  Again, the clients alleged that they were not duly informed of the risks, which included the risk of cancellation paying the price of the swap at that moment. 46  Judgment C-415/11. 44

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wheels of the efficient and expedient Spanish executory proceedings for the enforcement of mortgage loans to allow the debtor to allege the nullity of contract clauses under the 93/13 Unfair Contract Terms Directive, that is, Spanish courts were accused of being “too pro-bank” and leaving consumers at the mercy of banks in eviction actions. These circumstances resulted in an important change of attitude towards the bank-client relationship. First, the Supreme Court decided that “floor clauses” (cláusulas suelo) were unfair, pursuant to Directive 93/13/CEE, in a controversial decision, with such potentially devastating effects that the Court limited the effects of its annulment decision to the future payments (i.e. avoiding nullity’s retroactive effect). Second, the courts decisively sided with clients in mis-selling cases, leading to a new doctrine by which breach of Markets in Financial Instruments Directive (MiFID) marketing rules would justify prima facie a claim of “mistake”, and thus lead to the annulment of the contract. The CJEU had confirmed that MiFID applied to products marketed by banks, even when loosely tied to mortgage loans, and expanded the scope to apply the enhanced “suitability” duties (cf. Genil),47 since the marketing of complex products tended to be considered as giving rise to a relationship of “advice”. This resulted in a wave of pro-client decisions,48 which started with derivatives products, but did not make too many distinctions when it came to hybrid capital instruments, which, complex or not, can reflect a simple buy-­ sell relationship, not giving rise to “advice”.49 The number of “micro” conflicts in civil courts soon became “macro” and a political headache. Thus, the government created a high-level commission to study and monitor the problem, and established a system for a collective ­arbitration of sorts to help expedite the recovery for retail clients (Royal Decree-­Law 6/2013). Both measures were accompanied by the enhancement of the role of the Spanish Deposit Guarantee Scheme.50 This system was later used as a blueprint by the Italian government in its 2016 measures meant to hold retail investors harmless from the losses deriving by the mis-selling of shares or hybrid securities issued by failed or troubled banks.

 Judgment C-604/11, cit., paras. 49–55.  Among many, see RoJ 2015/4664, RoJ 2015/5461, RoJ 2015/674, RoJ 2015/5777. 49  See Spanish decisions RoJ 2015/608, RoJ 4004/2015, RoJ 610/2016, RoJ 3138/2016. 50  The DGS (Fondo de Garantía de Depósitos de Entidades de Crédito) would be allowed to both acquire shares and debt from SAREB, and to acquire shares from entities that transferred NPLs to SAREB, in order to lessen the impact of the conversion mandated by the resolution authority (FROB), which shows how much the problem of NPLs was linked to the problem of hybrid capital instruments, from both, a solvency, and investor protection perspectives. 47 48

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Yet, the dispute resolution mechanism was not a full-fledged arbitration, because the criteria to determine eligibility mixed: (1) legal criteria associated to the marketing of the product and (2) “social” criteria associated, for example, to the loss suffered by the investor as a percentage of her patrimony, or to the fact that the investment was lower than EUR 10.000 (Commission’s resolution of 17 April 2013). Thus, the procedure was not trying to ascertain the facts, but to compensate retail clients who suffered the most and could cause more trouble, politically speaking. Furthermore, the “legal” criteria that gave access to the specific procedure should have automatically granted clients a favourable court ruling, such as the total absence of information on risks, the lack of classification of risk profile, the absence of a contract document, or the fact that the investor was a minor or incapacitated. In these circumstances, some investors, especially wealthy ones, who could not count on winning in arbitration, continued to go to the courts instead. American-like trial lawyers, with billboards and TV advertisements, became a new feature in the Spanish market. Banks have lost, and lost and lost again. The result is that, looking at precedents, it is difficult to identify a sure way in which a bank may market to its clients a financial instrument that exposes them to a risk of loss, without being exposed to an annulment action. It is difficult to imagine a massive distribution of MREL securities in Spain under these circumstances. As a final reflection on the Spanish case, aside from enduring comprehensive restructurings of the banking sector, Spain also inaugurated the single resolution mechanism (SRM), with the decision by the Single Resolution Board (SRB) over Banco Popular. The resolution action in that case consisted in a write-down of CET1 and Tier 1 instruments, and the conversion of Tier 2 instruments into capital, followed by the sale to Banco Santander, for 1 euro (SRB 7 June 2017). The decision was followed by immediate action by Mexican investors, international bondholders, a Spanish association of consumers and other parties, including a distressed-debt US firm, who announced legal action (Hale 2017). To mitigate the effects of the lawsuit Santander already announced that it would offer compensation to some of the retail customers/investors in Banco Popular, for which it already raised specific amounts (Banco Santander (2017a, b). The decision has been considered a successful example of resolution, and the attitude is one of wait and see (Binder 2017). The legal challenges however will be a decisive test of the robustness of resolution tools. It is too soon to tell whether retail clients will succeed if they seek annulment of contracts for the sale of Tier 2 instruments, or even shares. However, the fact that in such seemingly exemplary context the acquirer is preparing itself to pay billions to the bailed-in shareholders may suggest that investments in bank capital or MREL are not suitable for retail investors.

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345

Italy: A Long Tradition of Bail-outs, a Perceived Equivalence Between Deposits and Bonds (What Could Possibly Go Wrong?) and the Long, Winding Road Towards Clear Transparency Requirements

Up to the recent 2015–2017 bank crises holders of Italian banks’ debentures, including subordinated debt, had never been affected by a bank’s failure and had always been bailed out. Thus, bank debentures were widely considered risk-free assets, and qualitatively different from other corporate securities, also because they were issued by the same entity that granted deposits, and unlike these, they posed no maturity mismatch problem: bonds were long term and raised no liquidity issue arising from early redemptions. This perception was to some extent supported, at the outset, by national and European legislation, which treated similarly savings flowing into banks as deposits and bank bonds subscriptions, and differently from other financial activities. This happened with domestic rules, which excluded bank bonds from the rules applicable to public offerings (Article 12(3)(c) Law n. 77/83), and at a European level, which allowed national exemptions from prospectus rules. Consob interpreted Article 100, para. 1, letter f ), TUF as mandating a prospectus for banks’ “reverse convertible securities” but deemed it non-­ mandatory both for securities (different from shares or financial instruments that allow to purchase or subscribe shares) that did not guarantee a 100% reimbursement of the paid-up investment at maturity, and in case of bonds issued by foreign banks. A prospectus was not necessary because the securities were perceived as “special”, and although criticised by some academics, and regulators, to many this meant “especially safer”. This impression was confirmed by the inapplicability of certain investor protection duties conceived for intermediaries to the direct sale by a bank of its debentures to its clients, as well as by the scarcity of court cases dealing with the mis-selling of banks’ securities. Subsequent years would witness a pendular movement towards the restriction of these practices. The European approach changed with the Prospectus Directive, which subjected the exemption to uniform and more demanding conditions (Article 1(2) and 30(2)), and the domestic approach excluded the previous broad exemption and left one based on the economic value of the offering and another based on the special features of some banking (and insurance) products. All other offerings would be subject to a regular prospectus. In the field of intermediaries, however, the advent of MiFID led Consob to adopt a new Regulation on Intermediaries (No. 16190/2007), which extended

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the application of MiFID rules also to the subscription and placement of financial products issued by banks (in particular the principles “know your costumer” and “know your products”), and restricted the execution only regime to non-complex products, where the order (genuinely) originated in the client, applying suitability and appropriateness requirements to all other cases (Consob 2011). After the Commission’s Banking Communication, Consob asked banks to include in the first pages of their prospectuses (also for bonds) a new risk factor linked to burden-sharing, and adopted a new Communication to preclude intermediaries from selling complex financial products, including subordinated bonds to retail investors. This was accompanied by supervisory and enforcement actions, including on-site inspections, sanctions and guidelines on banks’ self-placement transactions (Consob Communications No. 9019104 of 2 March 2009; No. 0097996 of 22 December 2014; No. 0090430 of 24 November 2015). Its zealous enforcement of the rules led Consob to demand that, instead of signing the usual pre-printed form, investors should make a handwritten statement confirming their full awareness of the risks connected to the investment. Thus, some savings were diverted to mutual funds or bank deposits, while bank bonds’ relative weight in clients’ portfolios dropped by about 28% in 2015–2016. Still, for those who despite rules, inspections and sanctions had been allegedly mis-sold securities, an ad hoc arbitration for the rapid out-of-court dispute settlement with retail investors was set up in January 2016. Directive 2014/65/EU of 15 May 2014 (“MiFID II”) does not alter the basic scheme of marketing duties, but makes suitability and appropriateness requirements more exacting requires investment firms to ensure that those providing advice and information have the necessary knowledge and expertise to abide by the Directive. Furthermore, an increased number of instruments would be considered “complex”. ESMA confirmed that this included subordinated debt instruments, because holders of subordinated debt instruments are in a less favourable position than holders of ordinary debt, but this less favourable position is deemed difficult to grasp for the average retail investor, adding the ominous warning that the more complex a product, the harder it is to demonstrate that retail clients have sufficient financial knowledge and experience to understand its key features. Regulation No. 600/2014 (MiFIR) introduced a “product governance” regime, which tries to ensure that there is a firm-level strategy to ensure that the substantive content of the financial products offered to their clients, and the

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information related thereto, are conceived to best serve their interests.51 This paves the ground for “product intervention” by authorities, which ranges from a simple request to modify advertising materials, to the temporary suspension of a product’s marketing, or the imposition of restrictions in the sale or distribution of a product or service, for example, a limitation to distribute to non-retail clients only, to the permanent ban on the marketing, sale or distribution of a specific financial instruments, or on a particular activity or financial practice. On self-placement,52 the MiFID framework requires now that financial institutions offering own securities that are used for capital-debt requirements under CRD-CRR-BRRD shall provide those clients with additional information to explain the differences between the instrument and bank deposit in terms of yield, risk, liquidity and any protection provided in accordance with the Deposit Guarantee Schemes Directive (Article 41 MiFID II Delegated Regulation). ESMA accompanied this with an emphasis on subordinated, convertible and bail-inable debt, to ensure that its features were disclosed in the prospectus, and understood by an intermediary’s clients, an effort in which it was aided by Consob’s Communication n. 0090430 of 24 November 2015, and Guidelines adopting ESMA’s ones. As opinions and policy positions on the marketing of equity and debt instruments varied drastically, old marketing habits were hard to die, but, crucially, most instruments had already been placed in the market under circumstances that did not so clearly indicate that this was wrong, which meant that solutions had to be sought for them. In this regard, Italy offers a full range of examples of what did not work and is a telling example of the regulatory and supervisory challenges which must be addressed when, in bad times, potential trade-offs between micro and macroprudential policies and consumer protection materialise.

References Alvaro S. et  al. (2017), The marketing of MREL securities after BRRD Interactions between prudential and transparency requirements and the challenges which lie ahead, Quaderni Giuridici CONSOB no. 15 Banco Santander (26 July 2017a), Press Release, available at http://www.santander.com  This implies both a duty to design products in such a way that they meet the demands of their specific reference market (end clients), and a duty to ensure that they are then actually marketed to that reference market through coherent commercial and business practices. 52  As regards the issues arising from self-placement see Chap. 15, paras. 5 and 7. 51

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Banco Santander (13 July 2017b), Press Release, available at http://www.santander.com Basel Committee on Banking Supervision (July 2015), Guidelines for identifying and dealing with weak banks Binder J.-H. (14 June 2017), Wunderkind is Walking? The Resolution of Banco Popular as a First Test for the Single Resolution Mechanism, Oxford Law Blog, available at https://www.law.ox.ac.uk/business-law-blog/blog/2017/06/wunderkind-walkingresolution-banco-popular-first-test-single Consob (13 July 2011), Raccolta bancaria a mezzo di obbligazioni, prospetto e regole di condotta, Consultation document ECB, Opinion of 16 October 2015 on recovery and resolution of credit institutions and investment firms (CON/2015/35), no. 3.7.1–3.7.2 ECB, Opinion of 23 February 2016 on the hierarchy of creditors of credit institutions (CON/2016/7) no. 3 ECB, Opinion of 16 October 2015 on recovery and resolution of credit institutions and investment firms (CON/2015/35) ECB, Opinion of 2 September 2015 on bank resolution (CON/2015/31) European Commission, Banking Communication, C 216/1, 30 July 2013 FSB (9 November 2015), Principles on Loss-absorbing and Recapitalisation Capacity of G-SIBs, Resolution Total Loss-absorbing Capacity (TLAC) Term Sheet Götz M.  R., Tröger T.  H. (2016), Should the marketing of subordinated debt be restricted/different in one way or the other? What to do in the case of mis-selling?, SAFE White Paper No. 35 Hale T. (2017), Mexican investors ask ECJ to overturn Banco Popular sale, Financial Times 4 August 2017, available at https://www.ft.com/content/a4a7691e-790111e7-90c0-90a9d1bc9691 Goodhart Ch. (2008), Liquidity risk management, Financial Stability Review – Special Issue: Liquidity Ramos Muñoz D. (2012), Las participaciones preferentes y su contexto: resolviendo el sudoku, Diario La Ley N° 7970, Tribuna 22 SRB (7 June 2017), Notice summarising the effects of the resolution action taken in respect of Banco Popular Español pursuant to Article 29(5) SRMR, available at https://srb.europa.eu/en/node/315. Last accessed: 30 August 2017

15 Write-down and Conversion of Capital Instruments Vittorio Santoro and Irene Mecatti

1

 ationale and Functioning of Write-down R and Conversion Powers

The development and implementation of rules on bank recovery and resolution procedures is a process of adaptation by which practitioners, lawyers and European institutions combine the principles of law with the needs which may arise from the 2008 financial crisis. This is particularly true with reference to the write-down (WD), that is, the power to wipe out or convert capital instruments.1 WD represents an application(together with the bail-in)of the burden sharing rule: shareholders and certain, but not all, creditors must contribute to the financial cost of resolution, through a dilution or conversion of their claims against the bank.2 Under EU Law, burden sharing “appeared” in the 2013 Banking Communication (BC 2013),3 relating state aid to banks in distress: “hybrid The overall thrust of the chapter and the content of paragraph 5 is common to both the authors. Paragraphs 1, 6 and 7 are written by Irene Mecatti, and paragraphs 2–4 by Vittorio Santoro.  Articles 2 (1)(66), 59 (1) and 63 BRRD.  Recital 81: the BRRD calls upon Member States to ensure that, if a credit institution reaches its point of non-viability, no resolution action will be taken before the relevant capital instruments are written down or converted into CET 1 capital. 3  See in OJEU C 216/1, 30 July 2013. 1 2

V. Santoro (*) • I. Mecatti (*) University of Siena, Siena, Italy e-mail: [email protected]; [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_15

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capital and subordinated debt holders must contribute to reducing the capital shortfall to the maximum extent. Such contributions can take the form of either a conversion into Common Equity Tier 1 or a write-down of the principal of the instruments”.4 Therefore, burden sharing has been designed to respond to the problem of resolution financing and, at the same time, to strengthen market discipline by minimizing reliance on extraordinary public financial support (bailout) (Grünewald 2017; De Poli 2017; Hadjiemmanuil 2015). Hence, burden sharing comes from Competition Law; specifically, it is an evolution of the “compensation rule”, that is, the set of conditions imposed by the EC to banks in order to obtain compatible state aid (e.g. dividend and acquisition ban). This principle has been applied to the banking crisis. In the past, bank insolvency shared the same objectives and principles with the general system of corporate insolvency but mainly had different procedural solutions (Hüpkes 2005; Janssen 2017). The new resolution regime, however, pursues the further objectives listed in Article 41 BRRD.5 To achieve these objectives, the bank recovery and resolution directive (BRRD) has bypassed and at times derogated from the rules of the insolvency system, regarding both the procedures and general principles (e.g. the par condicio creditorum, general insolvency ranking of claims). This trend is quite evident in the case of WD, which derogates in very different ways from the common principles of private law regarding the rights to property and equality in general. It also modifies the roles of shareholders and debtholders in an insolvency procedure (Janssen 2017). To clarify the latter point, it is necessary to understand how the WD works and how it differs from the bail-in tool. WD is treated differently6 from the bailin tool.7 First, while WD applies only to capital instruments (meaning equity and any other instruments included in the definition of own funds),8 the bail-in tool can involve all liabilities of the bank which are not expressly excluded.9  Para. 41 BC 2013. However, the Commission will not require contributions from senior debt holders as a mandatory component of burden sharing (para. 42). 5  See infra, in this chapter, para. 3. 6  Articles 59–62 BRRD. 7  Articles 43–55 BRRD. 8  Relevant capital instruments are Additional Tier 1 capital and Tier 2 instruments. CET 1 capital, which basically consists of common shares, does not fall within the scope of relevant capital instruments, because these instruments are defined as absorbing “the first and proportionately greatest share of losses as they occur” (Article 28 (1)(i) CRR Regulation). 9  Certain liabilities may be completely or partially excluded in exceptional circumstances. See Article 44 (3) BRRD and the EC Delegated Regulation (EU) 2016/860, further specifying the circumstances where exclusion from the application of write-down or conversion powers is necessary under Article 44 (3) BRRD. 4

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Second, while WD does not allow for any exceptions (capital instruments cannot be excluded from write-down or conversion), under bail-­in certain liabilities may be excluded or partially excluded in exceptional circumstances.10 Third, while WD may apply to banks both in and out of resolution,11 the bail-in is a resolution tool and, therefore, always requires a public interest justification. It is broadly possible to distinguish two situations12: 1. Outside resolution, the Resolution Authority (RA) can exercise WD only on capital instruments (resolutive WD). It is not necessary that the conditions for resolution are met,13 but it is sufficient that the institution (or its group) is no longer “viable”.14 The RA will use resolutive WD when it believes that the exercise of this power is sufficient to avoid insolvency,15 such as an alternative pre-insolvency intervention (Hadjiemmanuil 2015). 2. Within resolution, the RA has two options: (1) to apply WD to capital instruments of a bank in resolution immediately before or in combination with a resolution action (preparatory WD)16 and (2) to apply the bail-in tool without using preparatory WD. The former is the case when WD is not enough to restore the viability of the bank which is, instead, placed in resolution. In this case, WD works as a preparatory tool to resolution and may be applied in combination with other resolution tools. Therefore, according to the BRRD system, the RA should follow a two-­ tiered scheme. The first would be the application of WD only to capital instruments, thereby involving all the investors that accepted the business risk. The second would be the application of bail-in and, consequently, the inclusion of junior creditors and, depending on the circumstances, even senior creditors and depositors with deposits in excess of the guaranteed amount of € 100,000.17

 Cf. Article 44 (3) BRRD and the EC Delegated Regulation EU/2016/860, further specifying the circumstances where exclusion from the application write-down or conversion powers is necessary under Article 44 (3) BRRD. 11  Article (59)(1)(a)–(b) BRRD. 12  This Chapter does not deal with contractual WD, meant as an option contained in the recovery plans, which banks can use to restore their financial position in a crisis situation. With regards to contractual recognition write-down and conversion powers, see EC Delegated Regulation EU/2016/1075. 13  Articles 32–33 BRRD. 14  Article 59 (3–4) BRRD; Article 21(1) SRM Regulation. 15  Article 59 (1)(a) BRRD. 16  Article 59 (1)(b) BRRD. 17  Articles 2(1) (94) and 44 (2) BRRD. 10

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Preliminary Remarks

To understand the functioning of WD as regulated by the BRRD, we can start from two divergent solutions concerning European bank crises, adopted before the implementation of the BRRD. A) The first is related to the Cypriot banking crisis, where the bail-in mechanism was first used in early March 2013. The bail-in affected debt holders as well as unsecured depositors of the two largest banks in the country: Laiki (Cyprus Popular) Bank and Bank of Cyprus. This case showed that a surprise effect and the lack of ex ante rules can be useful for solving a systemic financial crisis. In fact, in Cyprus, unaware depositors bore great losses, due to the unexpected bail-in. To the contrary, sophisticated investors, with access to information regarding the imminent application of the bail-in, had time to withdraw their capital. The bail-in application needed a parliamentary approval. Therefore, an ad hoc resolution law inspired by the BRRD was adopted in just ten days18 in order to provide a formal justification for the resolution tools applied (cf. World Bank Group 2016). The Cypriot solution gave rise to a large amount of litigation and investors also appealed to the General Court and then to the EU Court of Justice (cf. Michaelides 2014).19 B) The second solution concerns the crisis of eight savings banks in Spain (2012–2013). Also in this case, a Memorandum of Understanding with the European Institutions (July 2012) established that shareholders had to be wiped out and the holders of subordinated debt and preferred shares had to suffer a haircut of the face value (cf. Zunzunegui 2014). But, since more than one million people were householders of the preferred shares and of the subordinated debt of the savings banks, Spanish law and the practice followed by the Spanish Executive Resolution Authority (FROB)20 in out-of-court dispute resolution were very friendly to these “mis-sold” clients. The FROB administrative decisions satisfied most of the retail investors and, consequently, there was low incidence of litigation (cf. World Bank Group 2016).21  In Cyprus, the first Resolution of Credit and Other Institutions Law of 2013 (Law 17(I)/2013) was enacted in March 2013 and amended thereafter, until it was replaced by the Resolution of Credit Institutions and Investment Firms Law of 2016 (22(I)/2016). 19  Judgment 20 September 2016, C-8/15 P to C-10/15 P, Ledra Advertising/European Commission; Judgment 20 September 2016, C-105/15 P to C-109/15 P, Mallis/European Commission; Judgment 13 July 2018, T-680/13, Chrysostomides/Council of the European Union; Judgment 13 July 2018, T-786/14, Bourdouvali/Council of the European Union. 20  FROB is the acronym of “Fondo de Reestructuración Ordenada Bancaria”. 21  However, the Supreme Court (First Chamber, 3 February 2016) has confirmed the rulings of several lower courts, stating that the alleged financial inaccuracies in the IPO’s prospectus had led to an error in 18

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These different solutions, adopted in the similar situations of Cyprus and Spain, probably are in the auspices of economists. Indeed, as a manager of Riksbank observed during the Swedish financial crisis in the early 1990s, in order to overcome a systemic financial crisis “it is more important to act early than to get it exactly right” (as referred to by Jonung 2009). But as far as the jurists are concerned, assuring legal certainly is of paramount importance (cf. Hinarejos 2015; Kern and Schwarcz 2016). One could argue that these uncertainties were due to the fact that the first resolution interventions occurred in an unclear regulatory context. On the other hand, it must be highlighted that after the enforcement of the BRRD such uncertainty has not disappeared or become less acute. Therefore, the point is to understand if the actual rules do not work properly and which solutions could be adopted to make the resolution system efficient. To clarify the latter point, it is necessary to provide a preliminary description of the principles and objectives of the new resolution regime.

3

The Objectives of the Bank Resolution

Given the premises of the previous paragraph, we first have to solve the question of whether the objectives of the BRRD, in particular of the resolution, are clear and whether clarity helps to resolve the uncertainties identified so far. It is certainly positive that the European legislator decided to establish a common framework throughout the Union and in particular that it implemented this framework in the euro area countries. On the other hand, it is unfortunate that the BRRD has set so many objectives for bank resolution, that is: (a) to ensure the continuity of critical ­functions; (b) to avoid significant adverse effects on the financial system; (c) to protect public funds by minimizing reliance on extraordinary public financial support; (d) to protect secured depositors; and (e) to protect client funds and client assets.22 The EU legislator does not explicitly state if these objectives are all to be considered on the same level or whether they are listed according to a precise order of priority. The remuneration of so many objectives weakens the prescriptiveness of the rules and prevents administrative decisions from being judicially reviewed because of the high rate of technical discretion that the investors’ consent because, unlike in the case of large or institutional investors, this consent was directly linked to the misleading financial information provided (Farrando 2016); therefore, it ordered Bankia to reimburse some investors for misleading them during the IPO of preferred shares. 22  Article 31 BRRD.

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they presuppose. It should be added that there is no real ordering of values between the various objectives. It is not clear, in the case of a clash between such values, which of them must be safeguarded in a pre-eminent manner.23 Hence, it is precisely the heterogeneity of the aims that increases the discretion of the Authorities, as it allows them to independently establish which are the overriding objectives from time to time (cf. Santoro 2015; Grünewald 2017; Tröger 2017). In any case, to understand what the real priorities are, it is important to refer to the regime of exclusions from the bail-in provided for by the BRRD24 and the Commission Delegated Regulation.25 In fact, the RAs may exclude or partially exclude certain liabilities from the application of the write-down or conversion, inter alia when the exclusion is necessary and proportionate (1) “to achieve the continuity of critical functions…”; (2) “to avoid giving rise to widespread contagion”; and (3) “the application of the bail-in tool to those liabilities would cause a destruction in value such that the losses borne by other creditors would be higher than if those liabilities were excluded from bail-in”. Ultimately, the real concern is that retail customers who suffer substantial losses may decide to withdraw their investments, which could in turn possibly lead to bank run. Therefore, these provisions are, only apparently, friendly to investors and small-medium-sized businesses. However, Article 6 of Regulation EU/2016/860 specifies that the RAs must consider the alternative of publishing or delaying the disclosure of the decision concerning the bail-in. To this end, they shall take “into account both of the following: (1) whether the distress and risk of failure of the institution is known to market participants; (2) the visibility of the consequences of the distress or potential failure of the institution to market participants”. This is an ambiguous text. Arguably, it means that the RA can decide not to immediately publish the decision on bail-in with the related amounts and this should be done when the difficulties or disruption are not known to the market. Vice versa, when the retail market is informed (and alarmed), it would be convenient to publish the decision immediately. This was the difference between the Cypriot case and the Spanish one: the first was an efficient solution, but at the same time an immoral one. According to the aforementioned 2016 Regulation, the position of the unsecured creditor as well as that of the secured creditor must not be compromised  GC believes that “a broad scope does not mean that that law lacks clarity, precision or predictability”: cf. Judgment T-680/13, cit., para. 275. 24  Cf. Article 44 (3). 25  EU/2016/860 of 4 February 2016, specifying further the circumstances according to which exclusion from the application of write-down or conversion powers is necessary under Article 44 (3) of the BRRD. 23

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when a substantial outflow of savings can occur; this is an incentive to opacity (cf. also Tröger 2017). The clash of interests could not and should not be resolved by allowing the same authority (i.e. the RA) the power to weigh them. The protection of investors should be entrusted to a different authority. It would be advisable to grant the latter a right of veto on the RA decision where, unjustifiably, it does not respect the investors’ rights. In this regard, it is also important to take into account the jurisprudence. Indeed, the latter is instructive even though it was formed on facts that occurred before the BRRD came into force: when the Court of Justice of the European Union compares two general interests of the EU, it always considers that of investors as ranking lower than the stability of the financial system. In Kotnik and Dowling,26 on the one hand, the Court pointed out that a clear public interest exists in ensuring strong and reliable protection of investors throughout the European Union; on the other hand, according to the Court, that interest cannot be held to prevail in all circumstances over the public interest in ensuring the stability of the financial system. This is not the case, indeed, when there is a financial stability risk. The CJEU believes that preserving the functioning and stability of the credit/financial system is crucial. In Ledra,27 as well as in Kotnik28 and Dowling,29 this is considered as an objective of general interest pursued by the European Union.30 This confirms a constant and traditional aim of credit and financial systems in developed countries. However, in order to achieve that aim, all countries have squandered immense resources during periods of crisis. In Ledra, the CJEU observed: “financial services play a central role in the economy of the European Union. Banks and credit institutions are an essential source of funding for businesses that are active in various markets. In addition, the banks are often interconnected and certain of their number operate internationally. That is why the failure of one or more banks is liable to spread rapidly to other banks, either in the Member State concerned or in  Judgment 19 July 2016, C-526/14, Kotnik/Dravni zbor Republike Slovenije, para. 91; Judgment 8 November 2016, C-41/15, Dowling/Minister for Finance of the Republic of Ireland, para. 54. 27  Judgment C-8/15 P to C-10/15 P, cit., paras. 71–72. Add Judgment T-680/13, cit., paras. 254–255 and Judgment T--786/14, cit., paras. 253–254. 28  Judgment C-526/14, cit., para. 50. 29  Judgment C-41/15, cit., para. 54. 30  In Heta, the Austrian Constitutional Court too, acknowledged, in principle, the legitimacy of the sacrifice of investors due to the public interest in financial stability, but in practice criticized the legislative solution of differentiation within the group of subordinate creditors which resulted from the cut-off date. Cf. Judgment 3 July 2015, Verfassungsgerichtshof, G 239/2014 ua, G 98/2015–27 (cf. Ramos Muñoz 2017). 26

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other Member States”. In the Court’s view, the restrictions on the depositors’ property rights cannot be regarded as unjustified when the issue is to ensure the stability of the banking system, as long as the public action complies with the rules and is reasonably proportionate and non-discriminatory within the same class of creditors. The protection of investors (more exactly of their property rights) is considered as a limit to public action for the protection of financial stability. The latter, in fact, must comply with the rules and must be reasonably proportionate and non-discriminatory within the same class of creditors.

4

 he Problem of the Infringement T of Property Rights

It is worth mentioning that, before the BRRD came into force, the matter of protection of the property rights of bank shareholders arose in the Northern Rock crisis which occurred in the UK. On that occasion, the Banking Act of 2008 conferred to the Treasury the power to transfer the ownership of UK-incorporated banks to maintain the stability of the financial system or to protect the public interest in situations where the Treasury had provided financial assistance to the bank to maintain financial stability. Eventually, the Treasury acquired all of the shares in Northern Rock and extinguished all share options. This expropriation was questioned by the Northern Rock shareholders before the European Court of Human Rights in relation to Article 1 of the First Additional Protocol to the European Convention on Human Rights, which reads, inter alia: “No one shall be deprived of his possessions except in the public interest and subject to the conditions provided for by law and by the general principles of international law” (cf. Armour 2014). In Grainger, the ECtHR did not, in principle, rule against the expropriation of shares, but it interpreted the above-mentioned Banking Act of 2008 as a reasonable compromise between the right to property and the ­public interest. The Court stated, “it is well established […] that any interference with the right to the peaceful enjoyment of possessions must, indeed, strike a ‘fair balance’ between the demands of the general interest of the community and the requirements of the protection of the individual’s fundamental rights”.31 In the context of the BRRD, the aforementioned hypothesis coincides with the “sale of business tool” as applied through the direct sale of shares and other instruments of ownership. The sale of a business tool is not  Decision 10 July 2012, ECtHR No 34940/10, Grainger/United Kingdom. On the CJEU jurisprudence see also Chapter 14, para. 2.1.1. 31

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included in the object of our chapter, but we must take it into account because the expropriation outcome is close to what occurs after the bail-in. Moreover, by reference to the ECtHR (as well to Article 17(1) of the Charter of Fundamental Rights of the European Union), there is no doubt that property relates to a broad concept of ownership. The latter includes the economic values underlying financial instruments such as shares, bonds, hybrid instruments and financial derivatives. Constitutional guarantees extend to the so-called new properties: the protection concerns not only the expropriation of financial instruments, but also the cancellation or reduction of their value as it relates to the application of the bail-in resolution tool (doubtfully Wojcik 2016).32 Therefore, many retail investors who were affected by bail-in tools appealed to the European or national courts, questioning whether the application of a bail-in constitutes a breach of property rights. In Ledra, the applicants brought an action claiming that the European Commission and the European Central Bank had to pay them compensation equivalent to the diminution in value of their deposits. The CJEU stated that to resolve the question, it was necessary to ascertain whether the Commission contributed to a sufficiently serious breach of the appellants’ right to property. The answer was negative because the European institutions acted in accordance with the Memorandum of Understanding and Cypriot national law to safeguard the stability of that country’s banking system. Moreover, according to the pertinent rules, a buy-­back of shares will be undertaken to refund holders of uninsured deposits with the amount of the over-capitalization of the good bank. Therefore, in the Court’s opinion, there was a reasonable compromise between the right to property and the public interest, that is, a reasonable relationship of proportionality between the means employed and the aim sought to be realized by the measures arising from European and national law.33 The CJEU recalled that the right to property “is not absolute and that its exercise may be subject to restrictions justified by objectives of general interest pursued by the European Union”. Consequently, “restrictions may be imposed on the exercise of the right to property, provided that the restrictions genuinely meet objectives of general interest and do not constitute, in relation to the aim pursued, a disproportionate and intolerable interference, impairing the very substance of the right guaranteed”.34  This interpretation is clearer in those legal systems whose Constitution is not limited to defend the primary right to property from illicit expropriation or restriction, but also imposes a positive duty to secure the savings of citizens and the protection of their assets which are invested in production activities: cf. the Constitutions of Italy and Portugal, respectively, Article 47 and Article 101. 33  See Chapter 16, paras. 3.1.2. and 3.2. 34  Judgment C-8/15 P to C-10/15 P, cit., paras. 69–70. Add Judgment T-680/13, cit., para. 254 and Judgment T-786/14, cit., para. 253. 32

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The European and national legislators possess a wide measure of discretion regarding the appraisal of public interest, which can be assessed by considering the measures of economic reform or measures designed to achieve greater social justice, up to the point of justifying the WD of shares and bonds for less than their full market value. Moreover, where there is a public aim (bailout) to protect the stability of the financial system, the shareholders and the creditors affected could not expect to benefit from such support without also bearing the negative consequences (for them) of the government’s help. In Chrysostomides and Bourdouvali, the GC rejected the claims concerning the possible infringement of the principle of equal treatment because the contested measures were in accordance with the Memorandum of Understanding between the Republic of Cyprus and the European Commission and ECB (26 April 2013) and were also proportionate.35 The legislative choices to apply the no-creditorsworse-off (NCWO) principle are not questionable, in particular, the fact that a shareholder or creditor whose securities have already completely lost their value under the bankruptcy law cannot receive protection (Hadjiemmanuil 2015). But in Heta, the Austrian Constitutional Court, on the one hand, did not object to the fact that the rules, in the resolution of a credit institution, make the bank’s creditors contribute to the structural adjustment by reducing their claims. On the other hand, the Court disputed the Austrian legislator’s choice to differentiate treatment between creditors belonging to a single class, that precisely of the subordinated creditors, solely on the basis of an extrinsic data item, such as the fact that the credits were intended to expire before or after a certain date and therefore on the basis of the merely contingent fact represented by belonging to one, rather than the other, issuance. The Court disputes the infringement of the principle of equal treatment between subordinated creditors because comparable situations must not be treated differently and different situations must not be treated in the same way. Subsequently, Article 34 (1)(f ) BRRD established: “except where otherwise provided in this Directive, creditors of the same class are treated in an equitable manner”. “Equitable” is not equal: according to recitals 13 and 47 of the Directive’s Preamble, this means that “where creditors within the same class are treated differently in the context of resolution action, such distinctions should be justified”.  In both cases, the applicants claimed a discrimination, inter alia, vis-à-vis: A) the depositors in the concerned banks whose deposits did not exceed € 100,000; B) the Cypriot cooperative banks recapitalized with the support of the Republic of Cyprus in the form of financial assistance facilities. But the GC considered that such discriminations were in accordance with the law. Moreover, in comparison to other States’ banks benefiting from financial support, the GC asserted that the Cypriot situation was different because of the excessive size of its banking sector in relation to its national economy. 35

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The aforementioned provision is not appropriate because, if used discretionally, it could give rise to serious violations of the principle of equal treatment, which is a primary right within the meaning of the constitutional order of the European Union countries. Therefore, the exception must be interpreted in a strictly restrictive manner. What kind of justification can thus explain a different treatment involving the same class of creditors? First, the exception can be applied only when creditors, treated differently, do not suffer greater damage than they would suffer in the event of normal insolvency proceedings. This is borne out by the notion of equitable treatment. But this is not enough. Second, different treatment could involve the method of compensation, but not its amount. This concerns the notion of equal treatment, understood as substantive and non-­formal equality. This could be done in a number of specific cases, for example, when: a) the penalized securities are guaranteed by a third party which has undertaken not to exercise recourse against the bank in resolution; or b) the bonds are converted into securities of equivalent value issued by different companies. Since equality must be substantive, the social situation of the creditors can also be taken into account, for example, treating those with greater economic capacity worse or, vice versa, treating natural persons and micro-, small- and medium-sized enterprises better.

5

 rite-down and Mis-selling of Financial W Products

The first application of the write-down as a consequence of the bail-in tool, before and after the adoption of the BRRD, marked a high level of mis-selling of equity, subordinated and junior debts mainly to unaware retail investors (cf. Moloney 2014; Word Bank Group 2016). The issue remains significant still today, as in the EU country banks, senior and subordinated debts are placed in large amount to retail holders. That happens, by nominal amounts, above all in Italy (€132.3 billion), followed by Germany (€ 49.4 billion) and France (€ 31.7 billion). Measured as a proportion to banks’ total debt and as a proportion to the total banking sector assets, the Italian banks have the largest quantity of eurozone retail holders, followed by Austrian banks (see the data in EBA and ESMA 2018, p. 4 and following). It should also to be considered that the BRRD provides for different treatment of eligible liabilities based on the nature of the credit, but not of the holder.36 Therefore, retail investors are subject to loss in resolution alongside professional investors. 36

 Article 48, BRRD.

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The impact of WD on householders was huge and disproportionate, with severe political consequences. For this reason, two Member States (Italy and Portugal) already established funds to reimburse retail investors (Conac 2018). These funds have been financed by a fee on the banking sector or through either the deposit protection fund (FITD) (Italy) or the resolution fund (Portugal). This system of ex post compensation, although it might be justifiable from the MiFID perspective (since investors should be compensated in case of mis-selling), is not acceptable for the following reasons: (1) first, it is an incentive to moral hazard: the almost certainty of compensation may lead to risk-taking behavior both of the investors and the management of the bank; (2) second, it could also “be an obstacle to the application of the bail-in tool because of the political reluctance to apply losses on retail investors among accusation of widespread mis-selling” (Conac 2018); (3) third, as any kind of compensation shall be compatible with the BC 2103 and therefore cannot be given directly or indirectly by the State, the compensation mechanism can be twisted. In Italy, for example, the reimbursement is given by the deposit protection fund (FITD) which, as is known, aims at the protection of unaware depositors. Paradoxically, a private-law mandatory consortium whose task is to protect depositors (debt holders are excluded by the guarantee)37 also acts as a solidarity fund for retail investor victims of mis-selling. A European view more favorable to investors would definitely be appropriate (cf. Götz and Tröger 2016; Conac 2018), as the protection of consumers plays a crucial role in maintaining financial stability, through a sound application of the BRRD and BC 2013 rules. To understand why mostly retail investors suffered losses, it is necessary to consider two main factors. First, the prudential capital requirements for credit institutions (imposed by the Basel III standards, the CRD IV and the CRR),38 led banks to issue great amounts of new equity or equity-like instruments. These rules, going with the stress tests by the EBA and in 2014 the Asset Quality Review (AQR) by the ECB, worked as an implicit incentive, for some undercapitalized banks, to self-place financial instruments to unaware householders. Second, the low interest-rate policy (including quantitative easing) implemented by the ECB, inflicted negative real interest rates. Because of this lack of return, “retail investors, especially retirees who could not increase their regular income, have been more susceptible than in other circumstances to invest in riskier products sold by financial institutions” (Conac 2018). These  See Article 5 (1)(k), Directive 2014/49/EU.  Credit institutions are required to enhance capital buffers and increase the total capital ratio, including the capital conservation buffer (CCB) to at least 10.5% of risk-weighted assets by 2019. 37 38

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features permitted the banks to easily self-place a large amount of their own risky securities to retail investors, in their own interest of increasing their own funds, as an alternative to sight deposits, thereby violating the rules governing the appropriateness, the suitability tests and the prospectus regime provided by MiFID I (cf. Moloney 2014). As a consequence, the write-down and conversion powers involved mainly retail investors. The EBA and the ESMA39 began to get a hold of the situation that can degenerate where retail savers have been unknowingly involved in large numbers in risky investments. In particular, the two authorities, for the purposes of the BRRD40 and the MiFID II within the framework of the Joint Committee of the ESAs,41 indicated the practices to be followed, not only to ensure that capital instruments are able to absorb losses when write-down and conversions are applied, but also to allow investors and savers to have clear expectations about the treatment of capital instruments and eligible liabilities in resolution. First, the EBA published the Guidelines concerning the treatment of shareholders (5 April 2017), establishing general criteria and providing clarification on specific operational issues. In the document, the EBA recites a general principle,42 that shareholders, even when they are not professional, are different from debt holders, as they own the company, run the capital risk and have the power of management and control. For this reason, they shall have, except in special circumstances (e.g. IPO fraud), a lesser protection and shall not, as a general rule, be considered when talking about mis-selling. Later on, the EBA and the ESMA issued a Joint Statement (30 May 2018) wherein they alighted that the BRRD does not consider the distinction between professional and retail investors.43 This approach is due to the fact that the information asymmetry between professional and retail investors is regulated by financial market law, through a rigorous set of distribution and trading rules (cf. Moloney 2014; Gortsos 2018). Instead, according to the EBA and the ESMA, it would be appropriate to reconcile the two branches of the law, as while sophisticated investors (must) know the consequences of  The potential shortcomings arising from self-placement of bail-able securities were first alighted to in 2014: see EBA, ESMA, EIOPA, Joint Committee of the European Supervisory Authorities, Placement of financial instruments with depositors, retail investors and policy holders (“Self placement”), JC 2014 62, 31 July 2014. 40  Article 127 (2) BRRD. 41  The Joint Committee was established by the Article 54 of all ESAs’ Regulations EU/1093/2010; EU/1094/2010 and EU/1095/2010. 42  Article 44 (a) BRRD. 43  Article 48, BRRD. 39

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subscribing bail-inable securities and are able to safeguard themselves, individuals who are not professional investors require institutional protection (World Bank Group 2016). In fact, the two ESAs focused on preventing conflicts of interest in the case of self-placement of bail-inable instruments and on the sale of complex debt instruments. Against this background, the authorities suggested two solutions: (1) ex ante it is necessary to ensure that debt instruments are distributed to clients for whom they are suitable and that firms properly implement the MiFID II investor protection requirements; (2) ex post, where a bank’s liabilities are held by a large number of retail investors, RAs are encouraged to factor this element into their resolution planning, also considering whether the relative debts should be exempted from bail-in and what the impact of such an exemption would be on the loss-absorbing capacity of the bank’s liabilities.

6

 x Ante Remedies to Prevent Mis-selling: E The New MiFID Framework

As regards the first suggestion of the EBA and the ESMA, there is no doubt that a regime of strong investor protection could guarantee that savers invest carefully and appropriately in financial instruments. Hence, MiFID II’s strengthening of consumer protection will play a crucial role in guaranteeing the sound use of write-down and conversion powers. Among the new rules, it is important to summarize the following. (1) Disclosure. For the purpose of enabling savers to make informed decisions when financial instruments subject to the resolution regime are involved, the MiFID II framework requires a more extensive disclosure than MiFID I.44 With regard to our topic, it is stated that the risk description that must be given to investors “shall include, where relevant to the specific type of instrument concerned and the status and level of knowledge of the client, the following elements: (a) the risks associated with that type of financial instrument including an explanation of leverage and its effects and the risk of losing the entire investment including the risks associated with insolvency of the issuer or related events, such as bail in”.45 Moreover, the institutions must properly inform clients, in good time, of any material change to the information provided, regarding both the condition of the firms and the instruments.46 Both  See Article 24 MiFID II.  See Articles 48 (2) (b) Delegated Regulation EU/2017/565. 46  Article 46 (4) Delegated Regulation EU/2017/565. See also EBA and ESMA 2018. 44 45

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provisions aim to reduce information asymmetry concerning the risk of the investment. The second is particularly relevant when the financial instrument has become subject to a resolution regime, after the time the product was placed (ESMA 2016). (2) Investment advice. MiFID I did not explicitly regulate self-placement, despite the inherent conflict of interest. The service of placing was normally meant as relating financial instruments issued by a third party, and for this reason, it was connected to the service of underwriting. Therefore, self-­ placement of shares and bonds was intended as neither placing (as the instruments were not issued by third parties) nor execution of orders (since the buyer was the direct counterparty of the firm) (Marcacci 2018). Investors were protected by the appropriateness test if the financial instrument was complex; in other cases (e.g. equity), only clear and fair information requirements and rules on conflict of interests applied. This shortcoming was addressed in the ESMA 2016, which states that “under self-placement situations, it is extremely likely that in substance the interaction between the investor and the credit institution involve personal recommendations (i.e. investment advice) being provided to clients. Firms are reminded that a thorough assessment of the suitability of the financial instrument for the client should be conducted”. Therefore, the ESMA suggested that the suitability test always be required in self-placement. Unfortunately, this provision is not yet in force. It has therefore correctly been suggested that the Delegated Regulation47 should be amended, making the suitability test compulsory in the case of self-placement (Conac 2018). (3) Conflict of interests. The MiFID II has strengthened the rules on conflicts of interest,48 paying special attention to self-placement of bail-inable instruments: “Investment firms engaging in the placement of financial instruments issued by themselves or by entities within the same group to their own clients, including their existing depositor clients in the case of credit institutions, or investment funds managed by entities of their group” shall refrain “from engaging in the activity, where conflicts of interest cannot be appropriately managed so as to prevent any adverse effects on clients”49; moreover, when offering “financial instruments issued that are by themselves or other group entities to their clients and that are included in the calculation of prudential requirements (…), shall provide those clients with additional information explaining the differences between the financial instrument and bank  Article 41, Delegated Regulation EU/2017/565.  See Articles 16 and 23 MiFID II and Articles 33–43 Delegated Regulation EU/2017/565. 49  Article 41 (2) Delegated Regulation EU/2017/565. 47 48

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deposits in terms of yield, risk, liquidity and any protection provided in accordance with Directive 2014/49/EU”. The two provisions are significant: the first implies a de facto ban on self-placement when the bank fails the comprehensive assessment procedure (asset quality review and stress test); the second is designed to reduce information asymmetry: investors shall understand their position in the resolution creditor hierarchy, and that they will be in a less favorable position compared to holders of deposits when these are eligible for coverage by the deposit guarantee scheme (ESMA 2016).

7

Ex Post Remedies to Prevent Mis-selling

Before analyzing the ex post solutions proposed by the EBA and the ESMA, it is worth pointing out another shortcoming arising from the application of WD to securities which have been mis-sold to retail investors. This is the case when WD is used in combination with other resolution tools. In this regard, an interesting starting point may be the Italian experience of the resolution of four banks (Bank of Italy 2015, 2018; Martino 2017),50 from which it may be considered that the problems arising in this case are common to the new resolution framework and might occur again in other resolution procedures. The resolution of four banks was managed with the WD, the bridge bank and bad bank tools51: all the banks’ assets and liabilities, except for the remaining equity, subordinated written-down debts and non-performing loans (NPLs), were transferred to the bridge banks. Considering the transfer perimeter, the bridge banks could be considered as a continuation of the banks in resolution.52 In this context (but the same considerations apply here as in the sale of business tool), it is crucial to clarify whether investors affected by the WD (or whose instruments have not been transferred to the new bank) could rightly claim damages arising from mis-selling conduct of the bank in resolution against the bridge institution and its successors. In this regard, it is important to note that the bridge institution, in order to perform its usual tasks,53 normally takes over all the investment management agreements relating to the investors affected by the WD.

 Article 41 (3) Delegated Regulation EU/2017/565.  See Articles 40–42 BRRD. 52  See Article 42 (10) BRRD. 53  According to Article 40(2)(b) BRRD, the bridge bank “is created for the purpose of receiving and holding some or all of the shares or other instruments of ownership issued by an institution under resolution or some or all of the assets, rights and liabilities of one or more institutions under resolution with a view 50 51

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The BRRD, in relation to the exercise of WD of relevant capital instruments, states that “no liability to the holder of the relevant capital instrument shall remain under or in connection with that amount of the instrument, which has been written down, except for any liability already accrued”.54 The Article shall be interpreted as stating that the WD does not remove any liability (compensatory or restitutive) which already exists, except for that which is directly connected with the (amount of the) instrument. Therefore, all the liabilities originating from mis-selling conduct of the bank under resolution, as related to different legal relationships (e.g. the investment management agreement), are not canceled by the WD and, in the case of transfer of the entire business to another bank (bridge or not), shall be relocated to it.55 One could argue that, in order to guarantee the efficiency of the bridge bank tool and, in such a way, to prevent the transfer of the above claims, the RA could exercise the power to “reduce to zero, the principal amount of or outstanding amount due in respect of eligible liabilities of the institution under resolution”.56 In other words, the RA, in exercising its resolution powers, might delete all the liabilities arising from mis-selling conduct imputable to the bank in resolution. In this way, the bridge bank (and its successors) will be sure that they will not be called upon to compensate the acquired clients. The exercise of this power could also be useful in order to easily and quickly find a purchaser of the business, “when conditions are appropriate”57 and when the period of operation of the bridge bank has expired.58 The suggested solution is open to criticism. Indeed, always assuming that potential claims arising from mis-selling may all be meant as “due”59 at the time of resolution, the WD extension to the above claims could generate unequal treatment of investors when the holders of the same instruments are clients of different banks. This is the case when some retail investors are clients of the bank in resolution (which self-placed the instruments) and others are clients of intermediaries in the placement. In this type of situation, if the RA to maintaining access to critical functions and selling the institution or entity referred to in point (b), (c) or (d) of Article 1(1)”. 54  Article 60 (2)(b) BRRD. 55  Therefore, as happened in Italy, retail investors who are victims of mis-selling may rightly claim damages against the bridge bank (and the following buyers of the business). 56  See Article 63 (1)(e) BRRD. 57  Article 41 (2) BRRD. 58  See Article 41 (2)(5)(6). Analogous consideration is valid with reference to the sale of business tool. 59  We should firstly discuss the meaning of “due”: is a letter enough or is a formal claim requested? We could always assume that is “due” only an “outstanding amount”, when it is stated in an enforceable decision. In any case, it is not clear what would happen to the claims sought after the application of the resolution tool.

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removes potential liabilities due to mis-selling, the exercise of this power will affect only the (holders of ) instruments self-placed by the bank in resolution. Strictly speaking, retail investors who purchased capital instruments through the intermediation of another bank, after the WD, could still claim damages against their intermediary in the event of mis-selling, as they cannot obviously be touched by the resolution power provided in Article 63 (1) (e) BRRD. The result is a violation of the BRRD, which states that “creditors of the same class” shall be “treated in an equitable manner”.60 In fact, if the RA exercises the power to eliminate all the potential liabilities arising from mis-selling, investors of the same class (and all subject to WD) will receive different treatment: the clients of the bank in resolution will not be eligible to claim any damages to the bridge bank, while the investor clients of an intermediary in placement shall maintain their right to do so (given the conditions for the legal action), as the WD affects the instrument and not other legal relationships between the holder and the bank. Given these premises, it is necessary to find a solution that balances the advantages and effectiveness of WD and, at the same time, protects householders.61 First, it has been suggested that the sale of subordinated bonds to small savers be banned outright, restricting those instruments to professional customers (e.g. high net worth individuals) and institutional investors (cf. Götz and Tröger 2016).62 In this regard, it has been held (cf. Tröger 2017) that “the bail-inable instruments have to be held outside the banking sector by investors with sufficient loss-bearing and risk-management capacity (e.g. insurance companies, pension funds, high net-worth individuals, hedge-­ funds)”. This opinion should first be criticized with regard to pension funds. The latter involve the savings for the old age of thousands of citizens which should not be subjected to significant risks, not only for reasons of social fairness, but also because, in the event of insolvency of the fund, the State will have to support social pensions and the welfare of older people. Nevertheless, State intervention would be contrary to the necessity “to protect public funds by minimizing reliance on extraordinary public financial support”.63 It would  Article 34 (1)(f ), BRRD. On these principles, see above para. 3.  We have, in any case, to recall, as alighted in the previous paragraph, that except for the case of misleading financial information in IPO’s prospectus, the position of shareholders and debt holders are not equal. So, once arguing about investor protection, the reference is to debtholders. 62  On 11 December 2015, the Bank of Italy’s Senior Deputy Governor, Salvatore Rossi, said the central bank had called for a ban on the sale of subordinate bonds to private individuals (ANSA 2015). Since October 2014 also the UK Financial Conduct Authority restricted banks and investment firms from distributing CoCos to retail investors, although this does not apply to Tier 2 subordinated bonds (Financial Conduct Authority 2014). 63  Article 31 (2)(c) BRRD. 60 61

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be better to set a limit on the investment in bail-inable instruments as a maximum percentage of the assets of pension funds; the same should be done for single individuals. Second, a general ban to place bail-in instruments to retail investors would be excessive and not flexible, considering that in the future investing in financial institutions might again be considered a good investment. In this regard, it has been suggested (Conac 2018) to apply the Delegated Regulation,64 which prevents banks from self-placing capital instruments when conflicts of interest cannot be managed. In any case, it must be noted that the flexibility of the provision does not really prevent banks from mis-selling capital instruments, requiring a judicial challenge in case of violation of the recall provision. According to a second view point, the BRRD should be amended to exclude retail investors who bought financial instruments through self-­ placement, at least up to a limited amount, from the effect of a bail-in (Conac 2018). This opinion is not acceptable, as it enhances moral hazard, from both the position of the bank and the investor: the first will be more likely to self-­ place capital instruments without regard to the investor protection rules; the second will be less careful when investing in risky securities. The consequence of such is that, in the case of bank insolvency, the investors will lose their savings anyway. Moreover, this solution would be incompatible with the rules governing insolvency ranking, as it would be not acceptable, for example, for unprotected depositors, that creditors that invest in such risky securities would, as a general rule (and not only in exceptional circumstances), be immune to the bail-in tools. Moreover, this proposal does not resolve the issue arising from the application of WD in combination with the bridge bank and the sale of business tools. A third solution has been proposed by the EBA and the ESMA (2018). The ESAs provide that, even in the absence of mis-selling, the application of bail­in tools to retail investors could affect financial stability in terms of overall confidence in the financial market, generating severe reactions in retail consumers, such as bank runs. They thereby suggested that the RAs should take into consideration the presence of retail savers both in resolution planning and during the resolution procedure, applying the bail-in exemptions provided by the BRRD only in exceptional circumstances.65 It is true that RAs should pay more attention (than in the past) to the presence of retail investors. However, the exemptions must be exceptional: investors must be aware of the risks they run and not rely upon the possibility of avoiding the application of 64 65

 Article 41 (2) Delegated Regulation EU/2017/565.  Cf. Article 44 (3) BRRD; Article 27 (5) SRM Regulation and Delegated Regulation EU/2016/80.

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resolution powers. Moreover, in practice, it is not easy for the RAs to identify mis-selling conduct and distinguish between investor types of the same class. Therefore, the exemption must be applied only in a restrictive way. In our opinion, the risks associated with the mis-sale of capital instruments (including mis-pricing) could possibly be reduced through the prohibition of self-placement of bail-inable securities. This solution is different from the first one we discussed, as it does not imply a general ban to place bail-inable instruments to retail investors, but only the self-placement of them. It is clear that this prohibition does not avoid mis-selling but prevents banks from self-­ placing shares and subordinated bonds in their own interests, of strengthening their own funds rather than the investors’ interests. Moreover, this option has the merit of avoiding the shortcomings arising from the application of WD together with other resolution tools. In fact, WD could correctly be applied to investors, and in the case of mis-selling, they could claim damages against the intermediary that placed the instruments, without interfering with the resolution procedure.

References Armour J. (February 2014), Making Bank Resolution Credible, ECGI Working Paper Series in Law, N° 244 Bank of Italy (2015), Information about the crisis solution of Banca Marche, Banca Popolare dell’Etruria e del Lazio, CariChieti and Cassa di Risparmio di Ferrara, https://www.bancaditalia.it/media/approfondimenti/2015/info-soluzione-crisi/ index.html Bank of Italy (2018), Annual Report of the National Resolution Fund, March, https:// w w w. b a n c a d i t a l i a . i t / p u b b l i c a z i o n i / r e n d i c o n t o - f o n d o - n a z i o n a l e risoluzione/2018-rendiconto-fondo-nazionale-risoluzione/en_Rendiconto_ Fondo_nazionale_risoluzione_sul_2017.pdf?language_id=1 Conac P.H. (2018), Mis-selling of Financial Products: Subordinated Debt and Self-­ placement, European Parliament study IP/A/ECON/2016–17, June De Poli M. (2017), European Banking Law, Kluwer-Cedam EBA (5 April 2017), Final Guidelines on the treatment of shareholders in bail-in or the write-down and conversion of capital instruments, EBA/GL/2017/04 EBA and ESMA (May 2018), Statement of the EBA and ESMA on the treatment of retail holdings of debt financial instruments subject to the Bank Recovery and Resolution Directive, ESMA71–99-991 ESMA (June 2016), Statement on MiFID practices for firms selling financial instruments subject to the BRRD resolution regime, ESMA/2016/902

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Farrando I. (2016), Bankia’s IPO: Some Remarks on the Biggest Failure in the Spanish Banking System, https://repositori.upf.edu/bitstream/handle/10230/34591/ Farrando_Bankias%20IPO.pdf?sequence=1&isAllowed=y Financial Conduct Authority (2014), Restrictions on the retail distribution of regulatory capital instruments, October, CP14/23***, https://www.fca.org.uk/publication/ consultation/cp14-23.pdf Gortsos Ch.(2018), Strictu sensu investor protection under Mifid II, Cambridge Scholars Publishing Götz M.R. and Tröger T.H. (March 2016), Should the marketing of subordinated debt be restricted/different in one way or the other? What to do in the case of mis-selling?, European Parliament, Directorate general for internal policies, PE 497.723, http:// www.europarl.europa.eu/RegData/etudes/IDAN/2016/497723/IPOL_ IDA(2016)497723_EN.pdf Grünewald S. (December 2017), Legal challenges of bail-in, ECB Legal Conference 2017. Shaping a new order for Europe: a tale of crises and opportunities, European Central Bank, 287 Hadjiemmanuil Ch. (2015), Bank stakeholders’ mandatory contribution to resolution financing: principle and ambiguities of bail-in, ECB Legal Conference 2015: From Monetary Union to Banking Union, on the Way to Capital Markets Union, New Opportunities for European Integration, European Central Bank, pp.  225–248, w w w. e c b . e u r o p a . e u / p u b / p d f / o t h e r / f r o m m o n e t a r y u n i o n t o bankingunion201512.en.pdf Hinarejos A. (2015), The Euro Area Crisis in Constitutional Perspective, Oxford University Press Hüpkes E. (2005), Insolvency: Why a Special Regime for Banks?, in IMF Legal Department, Current Developments, Monetary and Financial Law, Vol 3, Washington, DC: International Monetary Fund Janssen L. (2017), Bail-in from an Insolvency Law Perspective, Norton Journal of Bankruptcy Law and Practice, 26, p. 1–43 Jonung L. (February 2009), The Swedish Model for Resolving the Banking Crisis of 1991–93. Seven Reasons Why It Was Successful, EUEconomic Papers, 360 Kern A. and Schwarcz S.  L. (2016), The Macroprudential Quandary: Unsystematic Efforts to Reform Financial Regulation, Reconceptualising Global Finance and Its Regulation, edited by Buckley R.P., Avgouleas E., Arner D.W., Cambridge University Press, 127 Marcacci A. (2018), The evolution of EU Law of Financial Market, Regulating Investor Protection under EU Law: The Unbridgeable Gaps with the U.S. and the Way Forward, Palgrave, pp. 35–130 Martino E. (2017), Subordinated Debt Under Bail-in Threat, University of Bologna Law Review, p. 252 Michaelides A. (2014), What Happened in Cyprus?, ssrn.com/abstract=2437976 Moloney N. (2014), EU Securities and Financial Markets Regulation, Oxford University Press

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Ramos Muñoz D. (December 2017), Shaping a new order for Europe: a tale of crises and opportunities, ECB Legal Conference 2017, European Central Bank Santoro V. (Februar 2015), Bank Recovery and Resolution: An Italian Point of View, Open Review of Management, Banking and Finance Tröger T. H. (2017), Too Complex to Work. A Critical Assessment of the Bail-in Tool under the European Bank Recovery and Resolution Regime, Working Paper Series, No. 116, of the Institute for Monetary and Financial Stability Wojcik K.P. (2016), Bail-in in the Banking Union, Common Market Law Review, 53, pp. 91–138 World Bank Group (2016), Bank Resolution and “Bail-in”, the EU: Selected Case Studies Pre and Post BRRD Zunzunegui F. (2014), Mis-selling of Preferred Shares to Spanish Retail Clients, Journal of International Banking Law and Regulation, 29, 3, p. 174

16 Lessons from the First Resolution Experiences in the Context of Banking Recovery and Resolution Directive Luís Silva Morais

1

Introduction

The adoption of new banking resolution regimes in the European Union (EU) represented a major change of paradigm in the wake of the 2007–2009 international financial crisis. The causes and effects of such financial crisis, as well as its economic and financial repercussions in the EU, are by now a widely versed and researched topic (see on that European Commission/DirectorateGeneral of Economic and Financial Affairs 2009 and Goodhart 2010) and will not be covered ex professo in this chapter. Suffice is to add, with the perspective allowed by an entire decade, that financial integration had not been accompanied by the adoption of the necessary regulatory safeguards to curb down perverse incentives arising from the decoupling between increasing financial integration and national-bound regulation and supervision. This led in the EU to a complex process of fragmentation in banking markets that somehow reversed the pre-crisis financial integration trends (see Enria 2018; McCauley et  al. 2017). While the new regimes at stake cover both banks (credit The views presented here are entirely personal and academic and do not arise in any manner whatsoever from his functions as Vice Chair of the Appeal Panel of the Single Resolution Board (accordingly these cannot be construed as representing views that could be attributed to the Appeal Panel of SRB or the SRB itself ). As per the date of its completion, the text considers developments occurring until 30 October 2018.

L. S. Morais (*) Lisbon Law University, Lisbon, Portugal e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_16

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i­nstitutions) and investment firms, the focus in this chapter will be placed, brevitatis causae, on resolution of banking institutions considering its practical relevance and overwhelming importance. This change of paradigm occurred with the adoption of the Banking Recovery and Resolution Directive (BRRD), Directive N.° 2014/59/EU (hereinafter BRRD), the establishment at EU level of the Single Resolution Mechanism (hereinafter SRM) [based on Regulation (EU) N.° 806/2014 of 15 July 2014 SRM Regulation (SRMR)] and the establishment of the correspondent resolution regimes by EU Member States. Although understandably, the analytical focus in this domain has been placed in the BRRD and SRMR regimes, attention should be paid also to national resolution regimes arising from the BRRD or adopted in connection with the legislative process that led to the adoption of BRRD. For reasons to be further explained in the following introductory sections which involve this pertinent pondering of national experiences of implementation of resolution rules, I shall refer throughout this chapter to resolution experiences in the context of BRRD (an overall characterization which intentionally provides the Title of this chapter). In fact, it will be argued that the EU normative process which led to the adoption of BRRD was developed in parallel with corresponding normative processes, at national level, of various EU Member States (which were on the whole influenced by the same international sources). Accordingly, not only these States came to transpose to their national law the regime of BRRD, but in multiple cases resolution regimes were introduced in national law even before the conclusion of BRRD and under the influence of the respective preparatory work (and were afterward adjusted in accordance with this BRRD). Given this overall picture, this chapter purports to evidence how national experiences with enforcement of either resolution regimes coincident with EU rules (post-BRRD) or largely coincident with such rules provided important insight on the complex legal issues associated with, on the one hand, (1) the adoption and calibration of resolution measures in crisis situations (the actual pondering of the application of resolution tools within the available toolbox), and, on the other hand, (2) the review or scrutiny of those resolution measures, with significant overall relevance for the EU legal discussion in this field. Conversely, it is not comprised within the limited purview of the chapter an extensive or comprehensive characterization of resolution regimes, ­including what may be designated as the preventive and executive dimensions of such regimes (see for further discussion of these two interconnected

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­ imensions of resolution regimes, Haentjens and Wessels 2014 and Binder d 2015), nor a comprehensive discussion of the new resolution tools listed in Article 22(2) (a)–(d) of SRMR. Furthermore, the focus will not be placed on the first actual resolution case decided so far at European level, concerning Banco Popular Espanol, SA (hereinafter “Banco Popular”), whose resolution was determined by the Single Resolution Board (SRB) decision published on 7 June 2016 (also considering these topics will be extensively covered in other chapters of this publication). Conversely, the focus of this chapter is to evidence why the first banking resolution experiences developed within a BRRD paradigm matter and what wider lessons may be derived from those cases occurring at national level, but bringing forward issues that foreseeably will be at the core of the implementation of the SRM. In fact, some of those fundamental issues covered in national cases illustrate the distinctive features of the new EU banking resolution paradigm. Furthermore, such experiences allow us (sometimes uniquely) to put into perspective such paradigm, through cases that have involved all the stages of application of resolution regimes and have involved, as well, what we may designate here as post-resolution stages—taking place after resolution intervention has been formally concluded, but with the intervened banking institution, or entities arising from such intervention, going through procedures and incidents which still relate with the resolution intervention stage. This will be done essentially through the lens of the fundamental precedent of the resolution of Banco Espirito Santo, SA (hereinafter “BES”), providing an overall view of the case, which was based on a national regime that already followed (in essence) a BRRD paradigm (although initiated before the full transposition of BRRD rules to the Portuguese legal system), and considering, in the process, other national regimes of EU Member States. The BES case is also relevant in light of more recent developments concerning, on the one hand, (1) case law in UK courts, which illustrate supranational implications of the implementation of resolution measures and, on the other hand (2), new litigation in Portuguese courts which illustrate long-term legal and financial issues that may persist after a resolution procedure has been closed (in the case at hand with the completion of the sale of a bridge bank arising from the resolved institution to a third party). At another level, but still dealing with first banking resolution experiences in the context of BRRD, this chapter will briefly touch recent cases of banks in financial distress dealt with at national level due to the application of the public interest test established within the EU resolution regime.

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2

F irst Resolution Experiences Within a BRRD Paradigm—Why National Cases Matter

2.1

 ational Regimes of Resolution in EU Member N States and the Emergence of a BRRD Paradigm of Banking Resolution

Preliminary Considerations To all practical effects the adoption of BRRD arises from a process initiated in 2009 with the Communication of the Commission “An EU Framework for Cross-Border Crisis Management in the Banking Sector” [COM (2009) 561 final], and the subsequent October 2010 Communication “An EU Framework for Crisis Management in the Financial Sector” [COM (2010) 579], from which directly derives the first Commission June 2012 Proposal of a Directive in this domain [“Proposal for a Directive establishing a framework for the recovery and resolution of credit institutions and investment firms”—COM(2012) 280 final]. These EU documents, in turn, reflected a growing international consensus in that immediate post-crisis aftermath on the key features of new rules oriented toward restructuring of banks in distress with safeguard of financial stability and minimizing taxpayers exposure to public intervention in these institutions (see on this, inter alia, Schillig 2012 and Huang and Schoenmaker 2015)—A landmark development in this context was the adoption, in October 2011, of the Financial Stability Board (FSB) “Key Attributes of Efficient Resolution Regimes for Financial Institutions” (in which the EU played a very active role). These 2011 FSB “Key Attributes”, in effect, already emphasized as central goals of such regimes to ensure, inter alia, “continuity of systemically important financial services, and payment, clearing and settlement functions”, that “non-viable firms can exit the market in an orderly way” and to “allocate losses to firm owners (shareholders) and unsecured and uninsured creditors in a manner that respects the hierarchy of claims”. These types of overriding goals, in turn, required, according to these 2011 FSB “Key Attributes”, public powers of resolution comprehending, inter alia, powers “to remove and replace the senior management and directors and recover monies from responsible persons”; to “operate and resolve the firm, including powers to terminate contracts, continue or assign contracts, purchase or sell assets, write down debt and take any other action necessary to restructure or wind down the firm’s operations”, to “override rights of shareholders of the firm in resolution (…) in order to permit a

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merger, acquisition, sale of substantial business operations, recapitalisation or other measures to restructure and dispose of the firm’s business or its liabilities and assets”; to “transfer or sell assets and liabilities, legal rights and obligations, including deposit liabilities and ownership in shares, to a solvent third party”, to “establish a temporary bridge institution to take over and continue operating certain critical functions and viable operations of a failed firm” or to “establish a separate asset management vehicle (…) and transfer to the vehicle for management and rundown non-performing loans or difficult-to-value assets”; and to “carry out bail-in within resolution as a means to achieve or help achieve continuity of essential functions either (i) by recapitalising the entity hitherto providing these functions that is no longer viable, or, alternatively, (ii) by capitalising a newly established entity or bridge institution to which these functions have been transferred following closure of the non-viable firm (the residual business of which would then be wound up and the firm liquidated)”. In a nutshell, these core attributes of new public intervention rules to banks in distress correspond to what may be designated, from an EU perspective, as second-generation resolution regimes (borrowing this characterization from John Armour—see Armour 2014), the intrinsic conception of which post-­ dates the financial crisis and enhances, within a comprehensive framework, the arsenal of executive resolution tools of intervention for the purposes of the goals internationally stated in the aforementioned 2011 FSB “Key Attributes” (going much beyond first-generation resolution regimes which contemplated more limited forms of public intervention in banks in financial distress, modeled, to a large extent, in the US Federal Deposit Insurance Corporation (FDIC) receivership regime already applied since the financial regulation reforms arising from the great depression).

The Emergence of a BRRD Resolution Paradigm Building on the post-crisis international consensus, this new model of public resolution policy—with the overriding goals supra described—provided the basis for the Commission 2012 proposal that would lead to a 2014 BRRD resolution paradigm, with some specific features arising from the EU political discussion, as, for example, the minimum bail-in requirements (8% of total liabilities) as a condition for using in resolution external resources from a single resolution fund (SRF) to be established.1 At the same time, it decisively influenced the adoption of true second-generation banking resolution regimes  See also Chap. 14, para. 3.

1

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in several EU Member States (anticipating the BRRD but largely following the same model, implying subsequent adjustments for purposes of transposition of the BRRD albeit not involving, as such, major deviations from the model already adopted). A case in point is the Portuguese one, in which, due to the conditionality of the Memorandum of Understanding arising from the external financial assistance (EU and IMF), a national resolution regime was adopted in ­ February 2012 (through Decree-Law n.° 31-A/2012—slightly amended in August 2014  in the context of the BES resolution then already bearing in mind the BRRD and later adjusted for purposes of full transposition of the same BRRD). Coincidentally, this normative process already influenced by a second-­generation resolution model (and already typically entailing a BRRD paradigm, as the BRRD was being negotiated at this same time on the basis of some key features that would ultimately prevail) also led to the adoption of national resolution regimes in Germany (through legal acts adopted in 2010 and 2013); in the UK (through legal acts adopted in 2010 and 2012, which extensively reformed the initial “special resolution regime” of the 2009 Banking Act contemplating reinforced bailout mechanisms—see Bank of England 2017); or in the Netherlands, through an act adopted in 2012 (although with some particularities, allowing for more intrusive and specific forms of public intervention oriented toward ensuring financial stability as, for example, through particular measures comparable to the so-called temporary public ownership tool, which would ultimately be contemplated in Article 58 of the BRRD). In short, between 2011 and 2014 we have witnessed in various EU Member States the adoption of formally pre-BRRD national resolution regimes albeit substantively following, to a large extent, a true BRRD paradigm. Accordingly, it may be argued that a fundamental normative continuity exists binding together these regimes and ensuring fundamental relevance to the first and most intense national experiences of enforcement of second-generation resolution regimes, also for purposes of the post-BRRD framework, as key law in action tests on the enforceability and efficiency of such regimes. Within this context, again, the Portuguese case is noteworthy as a key law in action test (avant la lettre) of enforcement of second-generation resolution regimes, given the importance and magnitude of the precedent of the BES 2014 resolution case. In fact, BES was in 2014—at the time of its resolution then determined by the national resolution authority (NRA) (Banco de Portugal/Bank of Portugal)—the second largest private bank and the third largest in Portugal. It held until a short time before its resolution 14% of the total credit granted in Portugal, being also a direct or indirect member of 31

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payment or compensation systems (including Target 2). Besides that, among banks operating in Portugal it had one of the largest portfolio of credits to small and medium undertakings. Furthermore, BES also had a large operation outside Portugal with ramifications to multiple jurisdictions including the US and the Middle East. It, thus, represented a paradigmatic example of a mixed conglomerate in which the non-banking arm (Espirito Santo Financial Group essentially controlled by the Espirito Santo Family) incurred in several financial problems contaminating the bank—all within a context of a highly complex structure of the group arising from the privatization in the early nineties). Given the contamination problem within this large mixed conglomerate the banking supervisor attempted at the end of 2013 a ring fencing of the banking arm which, for various reasons, did not work. Therefore, on the basis of the aforementioned 2012 national rules on banking resolution anticipating the BRRD and the SRMR of 2014, and with mounting financial pressure on BES that led the European Central Bank (ECB) to withdraw the statute of counterpart to BES (effectively blocking financing from the Euro-system), the Bank of Portugal, on 3 August 2014, determined the Resolution of BES (thus initiating a complex process that would, at later stages, interact with EU regimes and illustrate the full gamut of legal controversies that may be kindled by the use of resolution tools). Considering (a) the overall impact of this resolution in the financial system at stake (given the role played by BES in the Portuguese financial system as one of the largest banks of this system), (b) the extent of ex post litigation arising from the August 2014 resolution decision and (c) the fact this case involved the use of a resolution tool which, to a large extent, is more difficult to implement and more disruptive in terms of overall reorganization of the resolved bank (the establishment of a bridge bank), this represents indeed one of the first key resolution experiences already in the context of a BRRD paradigm (providing a ley practical test on the enforceability of the banking resolution regime). As such, this case may be contrasted with public interventions occurring in the UK in the basis of first-generation resolution rules [the 2008 Banking (Special Provisions) Act] concerning the widely discussed Northern Rock case, but also less known cases in the UK concerning Bradford & Bingley, Kaupthing, Singer & Friedlander or the Heritable Bank. It may also be contrasted with the public intervention occurring in Cyprus, in March 2013, concerning one of its two main banks (Laiki) which was closed and forcibly restructured, already under the new EU logic of minimizing the use of taxpayers’ money but still without a full-blown resolution system, thus involving a full bail-in of equity shareholders and bondholders and a partial bail-in of uninsured depositors (over 100,000 Euros). At another level, and considering the full range of

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recent experiences of forcible restructuring of banks—under full-blown BRRD resolution rules or under alternative (national) systems of liquidation in articulation with resolution rules—this BES precedent may also be contrasted with the recent experiences of June 2017, concerning the Veneto banks in Italy (Banca Populare di Vicenza and Veneto Banca), and of February 2018, concerning ABLV Bank Luxembourg. As briefly touched infra (see 5), in these cases the first trigger of resolution concerning the situation of financial distress of banks was met, as the ECB determined these institutions were failing or likely to fail, while the SRB concluded that resolution action was not in the public interest (thus failing to meet a second crucial resolution trigger), effectively committing the cases to the remit of national liquidation regimes.

2.2

Inherent Complexities of the BRRD Paradigm of Banking Resolution and Why Lessons Arising from National Experiences of Its Implementation Matter

In fact, the first experiences of implementation of resolution regimes following a BRRD paradigm—comprehending here the aforementioned crucial national precedents which carry the sufficient time-lag to involve the full execution and completion of the resolution measures at stake and its immediate aftermath—evidence some key features of resolution regimes (involving, in turn, important lessons for the future). One of such features is the intrinsic complexity of the new BRRD paradigm of banking resolution, which, to some extent, has to be taken as an inevitable element of the regime and not downplayed as a negative aspect that could convey an idea of partial failure or inefficiency of the same regime (see, on this idea, Tröger 2018), but, instead, as a relative downside largely compensated by its many benefits in terms of stability of the financial system. The starting point that has to be acknowledged—as strikingly evidenced by the reality test of the first full implementation cases of resolution rules—is that resolution measures have the widest implications for a vast range of legal rights and interests. Accordingly, there is an inherently contradictory feature in resolution measures: at the same time (1) these are envisaged and conceived toward the safeguard of the stability of the financial system as whole and, conversely, (2) these measures, by their very nature, have a significant potential for disruption that has to be duly contained and monitored. In this context, it may be asked how we might set the legal pendulum for a proper balancing exercise between these two contradictory features, thereby maximizing the positive, prevailing/stabilizing effects intended with resolution regimes.

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The short answer—again highlighted by the first experiences of full implementation of the BRRD resolution paradigm—is, on the one hand, by ensuring due process in the adoption and implementation of resolution measures involving adequate procedural safeguards and, on the other hand, through a proper system of review of resolution measures. As regards both these two essential conditions for a successful resolution regime (in action)—(1) due process in the adoption and implementation of resolution measures involving adequate procedural safeguards and (2) an adequate system of review of resolution measures, the intensity of which, carrying with it an inevitable level of appreciable litigation, may be read as a normal element of the implementation procedure of resolution rules—the more thorough national experiences of EU Member States provide indeed interesting lessons (that may contribute to put in perspective the ongoing experience arising for the first and so far only resolution experience undertaken at EU level by the SRB in the Banco Popular case). Accordingly, in the complex legal fabric of banking resolution in the EU, with a complex architecture, attention should be paid, for a critical assessment and consolidation of the regime, not only to the SRM and the Court of Justice of the EU but also to national resolution authorities and national Courts (as underlined in the following sections).

3

F irst Resolution Experiences: The BES Case in Portugal, An Overall View

3.1

The BES Precedent in Context

The BES Precedent—Key Aspects Within such approach that acknowledges the input to be received from national resolution cases following a BRRD resolution paradigm, as aforementioned, the precedent of the BES resolution case (as from August 2014 until the present) clearly stands out. This case represents a key precedent in the EU in terms of the economic and legal issues arising from banking resolution, as regards, namely, (1) issues pertaining to the application of the crucial proportionality principle in this domain; (2) related due process/procedural safeguards and (3) judicial review. On the whole, it can then be construed as a major case study for understanding the new issues arising from second-generation resolution regimes, even if related with “old” principles of EU legal system and of the constitutional order of EU Member States—mainly proportionality (clearly at the apex of the regime).

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A number of reasons highlight why this represents such a relevant case study for the EU and the successful implementation of the BRRD paradigm. • It is a case which, given its huge dimension in Portugal and the elements of innovation it entails in the legal system, is currently submitted to intense and widespread judicial scrutiny—Several dozens of very complex appeals challenging the resolution measures are currently pending in Portuguese Administrative Courts (and illustrate the pattern of litigation and review that may be expected in resolution cases and possible efficient ways to manage this, to a large extent, inevitable flow of judicial review). • It also evidences the whole range of matters that can be typically challenged in these situations, as multiple judicial cases are pending in various Portuguese Courts raising related liability issues against supervisory and resolution authorities and, besides that, some cases have been initiated even after the resolution process was formally concluded with the sale of the bridge bank (the outcome of which may have the potential to illustrate how to effectively contain those side-issues, thus limiting the tensions in the implementation of the regime). • A large bulk of cases pending in Portuguese Administrative Courts have been initiated by shareholders and creditors of BES against the resolution measures adopted in August 2014 by the Bank of Portugal, also with cases reaching the UK jurisdiction, although of a different nature or scope involving decisions subsequent to the resolution of BES and adjusting the perimeter of assets transferred (or not) to the bridge bank/or conversely allocated to the bad bank resulting from resolution (thus illustrating potentially controverted matters arising at an advance stage of the execution of the resolution measures and, in light of the profile of investors affected and diversity of contractual instruments and respective jurisdictional clauses, bringing to the fore judicial systems of EU Member States other than the one in which the resolved institution operated).

The Evolving Litigation Arising from BES Resolution  The several dozens of cases pending in Portuguese administrative courts on BES resolution raise, inter alia, issues of constitutionality of the measures adopted and of the underlying regime and—without entering here into details—some of those cases also try to approach/assimilate resolution to some traditional forms of curtailing property rights, such as (1) expropriation, (2) nationalization and (3) confiscation—with the corresponding specific procedural safeguards.

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In a nutshell, at the very core of such discussion of resolution vis-à-vis expropriation, nationalization and confiscation in the context of the economic Constitution are problems related with the compression of property rights and patterns to deal with these rights vis-à-vis the overriding requirements of public interest that justify intervention in banks. Largely underlying such discussion on property rights is the pondering of the proportionality principle and the corresponding procedural safeguards attached to it. In this context, the final judicial outcome of these multiple cases reaching foreseeably the Portuguese Supreme Administrative Court (and possibly the Portuguese Constitutional Court) will form in years to come a fundamental body of law with the greatest relevance for a widespread discussion of the contents, patterns and limits of exercise of public powers of resolution, with a relevance that will very largely transcend the Portuguese jurisdiction (and will possibly anticipate the outcome of various fronts of litigation arising from first EU resolution case of Banco Popular). Within this overall panorama of legal complexity some recent developments must be highlighted, paving the way to forms of ensuring a more manageable and efficient process of judicial review of resolution measures. I refer here to the initiative of May 2017 of the Administrative Court of Lisbon (“Tribunal Administrativo de Circulo de Lisboa”), using a particular rule of the Portuguese Code of Procedural Rules of Administrative Courts for the decision of mass cases based on similar legal grounds. On that basis, the Court decided to rule on one of the specific pending cases (in which the nullity of the August 2014 resolution deliberations of the Bank of Portugal was required), effectively suspending the dozens of (other) judicial cases also pending at the same Court with a similar request, in order to avoid contradictory judicial rulings (subsequent decisions of the same Court, of October 2018, led to the selection of further two pending cases, chosen for priority ruling on account of the more comprehensive set of legal issues raised therein to provide the basis of ground-breaking reasoning that might be taken into consideration in the other numerous pending cases, effectively “rationalizing” the intense flow of litigation).

3.2

The BES Precedent: Key Issues at Stake

General Aspects In this BES resolution case, despite initiated under Portuguese legislation adopted before formal transposition of BRRD, as supra described, all pieces of the legal and economic puzzle of exercise of resolution powers interfering with

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property under the test of proportionality were in place (in conformity with what I have been describing as a BRRD paradigm) and, as such, lessons to be learned from extensive litigation in the case will, to a large extent be lessons to the SRM too. The central question to pose within this overall context of litigation is why and in what sense does proportionality matter. At the same time, it may be asked if substantive corollaries may in fact be extracted from proportionality parameters for purposes of scrutiny of resolution measures and for assessing the overall balance and efficiency in the implementation of a resolution regime that follows a BRRD paradigm, referring here to parameters of proportionality as consistently brought forward in matters pertaining to technical discretion in banking (including resolution) in various European Court of Justice (ECJ) precedents (e.g. in its 2016 rulings in Case C-526/14, “Tadej Kotnik and others v Državni zbor Republike Slovenije” or in Joined Cases C-8/15 and C-10/15 “Ledra Advertising Ltd and Others v European Commission and European Central Bank”). Somehow oversimplifying the relevant issues (brevitatis causae), one of the central discussions at stake may be phrased in the following manner: The significant interference with property rights2 (abstaining here, for now, from further legal qualifications of such “interference” although rejecting its characterization as deprivation or transfer of property—see also in that sense K-P.  Wojcik  2016) and its related procedural safeguards—entailed by the application of resolution rules, leading to executive bail-in measures, as laid down in the BRRD/SRMR—raises the fundamental question of whether that can be justified consistently with constitutional guarantees and with general parameters of necessity and adequacy as underlying the proportionality principle (in the EU legal order, comprehending namely Article 17 of the EU Charter of Fundamental Rights on the right to property, and, generally, in the constitutional legal orders of EU Member States). In fact, proportionality parameters in the formal path to the adoption of executive resolution measures involve a wide margin of appreciation for resolution authorities and supervisors (of the kind highlighted, e.g. in the fundamental “Grainger” precedent—see “Grainger v UK”, European Court of Human Rights—ECtHR 10 July 2012—Application No 34940/10). In that normative context, it is undeniable that considerable difficulties lie ahead of us to properly consolidate or densify proportionality parameters and corresponding safeguards in banking resolution interventions.  As regards the issue of infringement of property rights see also Chap. 15, para 4 and Chap. 14, para. 2.1.1. 2

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Conversely, proportionality should not be taken as a hollow principle and may (rectius, must) be construed as an actual basis for effective judicial review of resolution decisions. If, indeed, some alternative critical views have presented proportionality as that sort of a hollow parameter, difficult to ­operationalize or implement in concrete resolution situations, the first experiences of resolution within a BRRD paradigm (and, notably, this BES case) seem to evidence the opposite. Naturally, these are still, to a large extent, uncharted waters due to the fundamental newness of second-generation resolution regimes (in the EU legal system and the legal system of the Member States), but the aforementioned first experiences of implementation of resolution measures (comprising notable the multiple BES litigation cases) are already providing very important indicators toward a proper densification of proportionality (in the field of banking resolution).

Proportionality and Other Aspects Arising from Litigation in First Resolution Experiences Among such relevant indicators arising from litigation in first (and more intense) resolution experiences that may contribute to make more palatable the inescapable legal complexities of deciphering and using properly the margin of appreciation recognized to resolution authorities when applying proportionality parameters at the very core of the adoption of resolution measures, with the corresponding procedural safeguards (potentially relevant for purposes of judicial review), we may highlight, inter alia, three major issues (corresponding to key legal challenges in terms of reasoning in resolution decisions and subsequent procedures, which may guide in the future the proper balancing exercise of conditions of public interest of resolution vis-à-­vis the patrimonial and particular legal interests of private entities in general): • There is no mandatory scale to be sequentially followed of early intervention measures/preventive and corrective measures of supervisory authorities—in interaction with resolution authorities—before resolution measures are adopted toward a bank in distress (differently from what was alleged in BES judicial Court cases). Conversely, there is a margin of appreciation for direct recourse to resolution within circumstances of financial distress, if the admittedly rather general legal triggers are met (namely the “failing or likely to fail” test, and, specifically for purposes of resolution decided by SRB, the public interest test, that will be briefly referred to infra, 5). At the same time, it should be acknowledged that enough grounds have

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to be identified/stated for such decision, on the basis of the aforementioned general legal triggers, while assessed under urgency constraints (thus involving a dilemmatic assessment: enough grounds vs extreme urgency; always a close call). • Central importance of fine-tuning the characterization of the nature of write-down or conversion of assets/credits through bail-in as deprivation (or not) of property/possession in comparison, for example, with expropriation or other forms of ablation of property rights (a parallel raised in the BES litigation) and, accordingly, envisaging the related corollaries in terms of compensation. In light of the lessons already underlying the experience of BES litigation (and the corresponding legal discussion), it may be put forward that no definitive transfer of property to the public sphere occurs, but a public intervention which ultimately should not alter the situation of affected shareholders/creditors in comparison with what would have resulted from normal insolvency proceedings through a consistent application of the “no creditor worse off  ” principle (thereby entailing compensation if bail-in imposed a greater loss on them). • Anyway, this will require a careful and consistent reading of the range of the relevant resolution rules through which the “no creditor worse off  ” principle applies (duly pondering the resolution tools and powers to write-­down and conversion instruments at stake—an issue not discussed here for reasons of brevity), while acknowledging, at the same time, the great difficulty of assessing ex ante the consequences of highly complex insolvency proceedings (and complex problems of evaluation criteria for purposes of application of “no creditor worse off  ”). Again, it is beyond the limited purview of this chapter to cover “ex professo” these issues, but first resolution experiences highlight there is a viable roadmap to consistency here, thus paving the way to a proper characterization of the nature of write-down or conversion of assets/ credits through bail-in, in terms compatible with the safeguard of property rights and within boundaries of the proportionality principle. One might speculate about how these types of difficulties will be over time reflected in the prevailing stance of resolution authorities. Could that conduct to over-caution here to avoid future litigation risks; or will a more affirmative action prevail, passing on the potential problems arising from certain levels of losses of creditors and shareholders to the relevant financial arrangements of resolution regimes through resolution funds (then confronted with the need to pay compensation if the “no creditor worse off  ” principle is not ultimately respected, thereby involving related hypothetical risks of financial overburden or losses of those resolution funds). Again, in light of the first resolution experiences (and the key precedent discussed), and while accepting that litigation

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risks are a part of the process, given the intrinsic nature and features of resolution regimes, there are reasons to expect that a balanced middle ground may be found here by resolution authorities (through a combination of affirmative and careful/accurate stating of grounds for decisions, rigorous characterization of the legal measures applied, and an adequate degree of transparency, as compatible with other public interests oriented toward overall financial ­stability that have to be safeguarded, thus ensuring that litigation is manageable and ex post review of resolution measures helps, on the whole, to consolidate effective proportionality parameters in this domain, reducing in the medium term the levels of legal uncertainty).

4

 ES Case: Other Recent Developments B with Supranational Corollaries and Relevant for Post-resolution Stages

4.1

 ecent Developments with Supranational R Corollaries

Developments Concerning the UK Jurisdiction Also highlighting the importance of the BES precedent in terms of first resolution experiences following a BRRD paradigm is the fact that this case reached the UK jurisdiction and thereby illustrated supranational elements involved in the execution of resolution measures at national level. The line of litigation reaching the UK had to do with the fact that Goldman Sachs International and a group of investors attempted to bring claims worth around $850 million against Novo Banco (the bridge bank established within the resolution of BES). In a nutshell, these claims related to obligations of BES under a facility agreement with Oak Finance, which included an English jurisdiction clause. The investors argued that these obligations had been transferred to Novo Banco as a result of the actions of the Bank of Portugal; while Novo Banco and the Bank of Portugal argued that these obligations had not been transferred and therefore remained with the Bad Bank in the wake of the resolution of BES. This originated a landmark precedent in terms of resolution cases with impact on various EU Member States jurisdictions and with corollaries for overall standards of judicial review in this domain. In fact, while in August 2015, the UK High Court ruled in favor of Goldman Sachs and the investors in matters of jurisdiction, in November 2016 the UK Court of Appeal unanimously decided that the High Court

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judge should not have done so, something which has been ultimately confirmed by a 4 July 2018 judgment of the UK Supreme Court. According to the 2016 judgment of the UK Court of Appeal, the bridge bank arising from the BES resolution, as a matter of Portuguese law, was not a party to the Oak Finance facility agreement and did not owe any money. Thus, any challenge to this position had to be brought in the Portuguese courts. In this context, it was irrelevant for the purposes at stake that the obligations in the Oak Finance facility agreement were governed by English law, as giving effect to the Bank of Portugal’s resolution measures meant that the agreement did not bind Novo Banco (the new Bridge bank arising from BES resolution). Also according to this ground-breaking UK Appeal Court ruling: “[T]he fundamental principle underlying the reorganisation and winding up of financial institutions within the European Union is that it is for the home member state to decide how to deal with a failing institution and that its decisions are to be accorded universal recognition (…) If that object is to be achieved it is essential that Member States give reorganisation and resolution measures the effect which they have under the domestic law of the home state”. And “If in the present case it were open to the English courts to hold that the effect of [the decisions taken by the Portuguese central bank] is other than that which it has under Portuguese law … there would be a violation of the principle of universal recognition on which the law in this area is based. Moreover … it does not follow that a decision which does not fall within the scope of the [Recovery and Resolution Directive] cannot amount to a reorganisation measure and so be entitled to universal recognition for that reason alone” (the Court was alluding here to the fact that the 2014 BES resolution measures were based on rules adopted previously to the full transposition of BRRD, although following a BRRD paradigm).

Public Order Principles Arising from Resolution Regimes The July 2018 UK Supreme Court concurred essentially with this line of reasoning, highlighting two key points based on parameters established under the aforementioned BRRD paradigm (which it explicitly brought forward). The first was that one of the chief purposes of the reorganization process underlying the BBRD-type system, as established in Recital 119 of the BRRD, was to ensure that “all assets and liabilities of the institution, regardless of the country in which they are situated, are dealt with in a single process in the home member state and that creditors in the host member states are treated in the same way as creditors in the home member state”. Accordingly for the UK Supreme Court “this can be achieved only by taking the process as a whole and applying the legal effects attaching to it under the law of the home state in every other member state. It is not

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consistent with either the language or the purpose of article 3 [of BRRD] that an administrative act such as the December decision [decision of the Bank of Portugal adjusting the perimeter of assets between the bad bank and the bridge bank], which affects the operation of a ‘reorganisation measure’ under the law of the home state, should have legal consequences as regards a credit institution’s debts which are recognised in the home state but not in other member states”. The second key point that should be emphasized in the Supreme Court ruling had to do with the need to acknowledge a fundamental and systemic continuity of the legal framework to be applied to resolution and related measures in the context of the particular legal system of the EU Member State that hosted the resolved entity. As the Supreme Court adamantly put it, “an administrative act such as the August decision [the resolution decision] does not occur in a legal vacuum. It occurs in the context of a broader framework of public law. Article 3 [of the BRRD] does not only give effect to ‘reorganisation measures’ throughout the Union. It requires them to be ‘applied in accordance with the laws, regulations and procedures applicable in the home member state, unless otherwise provided in this Directive’, and to be ‘fully effective in accordance with the legislation of that member state’. In this legal scheme, it cannot make sense for the courts of another member state to give effect to a ‘reorganisation measure’ but not to other provisions of the law of the home state affecting the operation of a ‘reorganisation measure’. That is so, whether or not that other provision is itself a ‘reorganisation measure’”. In light of this most import precedent, the ability of parties to conduct forum shopping, for example, through the complexity of certain legal instruments, is henceforth seriously limited, due to public order principles arising from the BRRD resolution system requiring, as much as possible, unity of enforcement at the level of the home Member State of the resolved entity (something which will be important for the future considering that, even with resolution measures adopted by SRB on the basis of the SRMR, a significant part of the enforcement of resolution measures will take place at the level of the host Member State of the resolved entity with the respective NRA actively interacting with SRB for that enforcement).

4.2

 ES Case: Other Recent Developments Relevant B for Post-resolution Stages

At a different level, this BES case finally illustrates the potential for litigation on what we may designate loosely as “post-resolution” issues. At stake here is, notably, an appeal to the Administrative Court of Lisbon, of August 2017, brought by a bank operating in Portugal (Millenium) against

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the National Resolution Fund (NRF) and the Bank of Portugal [as national resolution authority (NRA)] challenging one of the clauses of the sale agreement of Novo Banco (bridge bank arising from BES) to a third entity (Lone Star) and challenging, to the extent these approve such clause, the acts of NRF and the NRA. The clause at stake concerned a mechanism of contingent capitalization, establishing that the NRF may inject funds (up to a maximum extent) in case of underperformance of certain assets of Novo Banco and underperformance of levels of capitalization of Novo Banco. Millenium, participating in the Portuguese resolution fund (NRF), challenged this mechanism arguing, inter alia, non-proportionality of further financial efforts of the resolution fund and its participating banks after the sale of bridge bank (thereby raising what may adequately be designated as “post-resolution issues”). While the basis for such judicial challenge seems to be highly debatable, since it is conceivable that bringing together the proper conditions to successfully closing a resolution process through the actual sale of a bridge bank (arising from resolution) may justify certain commitments of the applicable resolution fund that make viable such sale (provided a duly pondering of the alternatives has taken place and proper and balanced justifications are evidenced for the scenario chosen to effectively close resolution), the case illustrates the diversity of levels of judicial review that may result from resolution measures, including review concerning potential interventions of resolution funds after the executive resolution process has been closed.

5

 nforcement of EU Resolution Regime E and Public Interest Test: Recent Cases of Banks in Financial Distress Dealt with at National Level

5.1

Relevant Precedents

As previously mentioned (supra, 2.1., in fine), an overall picture of the first experiences of forcible restructuring of banks in financial distress under the BRRD paradigm, with a deliberate focus (for the reasons explained supra, 1.) on national cases of implementation of related rules (in interaction with BRRD and SRMR) is not complete without a brief reference to the recent 2017 and 2018 cases, respectively of Banca Populare di Vicenza/Veneto Banca, and ABLV Bank Luxembourg. In these two cases, although the ECB ­considered

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the first trigger of resolution was met (involving the aforementioned failing or likely to fail test), conversely the SRB (within the SRM) determined that the trigger concerning the public interest test was not met. In either case, it was, in effect, decided that public interest in resolution was not at stake since none of the banks provided critical functions and, accordingly, their failure was unlikely to have a significant adverse impact on financial stability. This entailed—as per Article 18(8) of the SRMR—that the problematic banks  should be wound up in an orderly manner in accordance with the applicable  national law (thus remitting the cases to the application of insolvency/liquidation national regimes). The Italian case is particularly noteworthy since the SRB specifically took into consideration the existence of a functionally equivalent system of liquidation under Italian law (“forced administrative liquidation”/“liquidazione coatta amministrativa”) and this pondering paved the way to a financial restructuring using domestic financial resources, involving, inter alia, the wiping out of shares and subordinated debt in accordance with the minimum burden-sharing requirements established under the 2013 Commission Communication on State Aid to Banks.

5.2

Final Considerations

Conclusive Remarks This approach—somehow emphasizing the selectivity of resolution measures, as an “extra safety net” (see, as regards this formula, Elke König 2017) not to be applied if the failure of banks does not endanger as such financial ­stability—has mixed consequences. On the one hand, it prevents an undesirable overreach of resolution measures and policies (thus reserved to situations in which financial stability, through European lens, is truly at risk), with the side-effect, in various cases, of allowing an extra element of flexibility (since it may allow wider room for public support to an extent not consented under the BRRD, which involves here a higher degree of rigidity, as amply demonstrated by the 2017 Italian case). On the other hand, it tends to raise critical issues of level playing field and legal predictability, since BRRDstyle and SRMR resolution triggers are not necessarily in convergence with the various insolvency triggers established in national laws in EU. The obvious and desirable solution to this level playing field question is to undertake an EU harmonization of national insolvency laws (in order to align triggers and, at least, core substantive regimes applicable to banks, ensuring relatively equivalent disciplines and incentives in this domain). However, realistically

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this first-best “de iure condendo” solution may not be feasible in the coming years (although political will should be employed in that direction). The second-best scenario in this context may be a further densification of substantive parameters supporting the public interest test, considering, for example, the type, local range and extent of effects of liquidation of banks vis-­à-vis resolution. As in other domains of resolution, a virtuous learning curve effect may be expected here through the accumulation of new experiences (in combination with the lessons of the relevant precedents).

Conclusive Remarks—Continued On the whole, first experiences of implementation of resolution politics and measures under a BRRD paradigm, with a focus on the national level of implementation of such measures—in combination with related measures applicable to banks in distress—illustrate that a high level of complexity is an inherent and inescapable part of the regime, entailing also an inevitable high level of review of resolution measures (and litigation), although this high intensity of review and the appreciable levels of litigation may be rendered manageable in order to achieve an overall efficiency of the regime (guided by demanding patterns of proportionality). Furthermore, the growing experience of implementation of the regime—which may always benefit from a fine-tuning “de iure condendo” of the current rules—also tends to evidence an idiosyncratic dimension of this regime that must not be overlooked. This results from the fact that resolution policies and tools must not be construed as an overall net for financial stability (something which would not be feasible or realistic), but as a selective net toward that goal, to be used in particular cases, in combination with reformed and partially harmonized insolvency and liquidation regimes (ideally with some key elements of flexibility being introduced in such gradual process of reform of insolvency regime in optimal articulation with an also slightly reformed resolution regime).

References Armour J. (February 2014), Making Banking Resolution Credible, Law Working Paper no. 244/2014 – European Corporate Governance Institute, pp 6 ss Bank of England (October 2017), The Bank of England’s Approach to Resolution Binder J. H. (2015), Resolution: Concepts, Requirements and Tools, in Id. and D. Singh (eds.), Bank Resolution – The European Regime, Oxford University Press, 25–59

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European Commission/Directorate-General of Economic and Financial Affairs (2009), Economic Crisis in Europe: Causes, Consequences and Responses, European Economy Enria A. (17 September 2018), Fragmentation in Banking Markets: Crisis Legacy and the Challenge of Brexit, Speech, BCBS-FSI High level Meeting for Europe on Banking Supervision Goodhart C. (2010), How Should We Regulate the Financial Sector?, The Future of Finance, The LSE Report Haentjens M. and Wessels B. (2014), Bank Recovery and Resolution: A Conference Book (Eleven International Publishing) Huang R.  H. and Schoenmaker D. (2015), Institutional Structure of Financial Regulation (Routledge) König E. (January 2017), Speech to the Belgian Financial Forum McCauley N. et  al (2017), Financial Deglobalisation in Europe?, BIS Working Paper, No. 650 Schillig M. (August 25, 2012), Bank Resolution Regimes in Europe I – Recovery and Resolution Planning, Early Intervention and Bank Resolution Regimes in Europe II – Resolution Tools and Powers Tröger T. H. (2018), Too Complex to Work: A Critical Assessment of the Bail-In Tool under the European Bank Recovery and Resolution Regime, Journal of Financial Regulation, 4, 35–72 Wojcik K.  P. (2016), Bail-in in the Banking Union, Common Market Law Review, 53, 91–138

17 The Third Pillar of the Banking Union and Its Troubled Implementation Concetta Brescia Morra

1

The Rational for Deposit Insurance Schemes

The rationale for deposit insurance schemes (DIS), which are also named deposit guarantee schemes (DGSs), and their role are largely debated. The main reason to establish a DIS is to enhance financial stability by increasing depositors’ confidence in the safety of their deposits. Indeed, demand deposits, through which banks collect money from the public, could give rise to a “bank run”. According to a well-known paper (Diamond and Dybvig 1983), bank runs have been a common feature of the extreme crises that have played a prominent role in monetary history. During a “bank run”, depositors rush to withdraw their deposits because they expect the bank to fail. In fact, it is the sudden withdrawals which can force the bank to fail. In a panic with many bank failures, there is a disruption of the monetary system and a reduction in production. A DIS, funded by the banking system, to protect small depositors has been demonstrated to be able to rule out bank runs. Since the first relevant experience, the 1933 adoption of the Federal Deposit Insurance Corporation (FDIC) in the U.S., after the banking crisis, there has been a large debate on the existence of less costly alternatives which may The opinions expressed in this Chapter are solely those of the author and do not represent the official policy or position of the Administrative Board of Review or of the European Central Bank.

C. Brescia Morra (*) University of Roma Tre, Rome, Italy e-mail: [email protected] © The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4_17

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achieve the same object (White 1995). Currently, in most of the developed countries, the legal framework to govern banking systems in order to ensure financial stability comprises several tools: rulemaking, supervision, lender of last resort, special insolvency procedures, deposit insurance schemes and the fiscal backstop. Therefore, the DIS is only one of the pieces of a complex architecture to pursue financial stability. Moreover, a survey (Demirgüҫ-Kunt et al. 2014) presenting a comprehensive database of deposit insurance arrangements through the end of 2013, covering a large number of countries, shows a wide cross-country variation in the role played by deposit insurers (Beck and Laeven 2006). In some countries, the only function of a DIS is to reimburse small depositors in a liquidation procedure of a bank; in other countries, DISs are involved in the failure resolution arrangements. The most important case is the U.S. FDIC which has strong powers in the case of a banking failure, as well as the decision-making power over whether to put the bank under receivership.

2

 he Evolution of the European Regulation T of DGSs

The history of the European regulation of DGSs is more recent than that of the U.S. FDIC. The first directive dates back to 1994 (Directive 94/19/EC) and it only required a minimum level of harmonization between domestic “deposit guarantee schemes” in the EU. This approach resulted in significant differences between national DGSs as to the level of coverage, the scope of covered depositors and the payout delay. The discipline of the financing of schemes was not even harmonized. In the aftermath of the financial crisis, having watched the dramatic consequences of a “deposit run” on TV screens all over the world—with the long lines of depositors who spent the night in front of the doors of the English bank Northern Rock due to the spread of the news of a possible bankruptcy—the European institutions decided that it was necessary to amend the DGS directive. First, the level of deposit protection was gradually increased in the EU. The 1994 Directive was amended first in 2009 (2009/14/EC), requiring EU countries to increase their protection of deposits first to a minimum of €50,000, and then to a uniform level of €100,000 by the end of 2010. The EU Commission document of December 2012 contained a political compromise on the setting up of the European Banking Union (EBU): a robust deposit insurance system was the third pillar, while the first pillar was the Single Supervisory Mechanism (SSM) and the second pillar was the Single

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Resolution Mechanism (SRM). Although the Commission considered that the Directive 2009/14/EC (review of the directive 94/19/EC) on Deposit Guarantee Schemes (DGSs), adopted in the spring of 2009, was not adequate in the perspective of the EBU, it abandoned the idea of a single deposit insurance system due to difficulties in reaching a political compromise, as revealed by a 2010 report prepared by the Joint Research Centre upon the Commission’s request. This report explored the option of establishing a Pan-EU Deposit Guarantee Scheme in the form of a single entity replacing the existing schemes, or as a network of schemes providing each other with mutual assistance (“European system of DGSs”), but concluded that there was insufficient political support to promote it. The SSM was then established in 2013 (EU Reg. 1024/2013), while a year later, on 15 April 2014, the SRM Regulation (EU Reg. 806/2014) was enacted and the recast Directive on Deposit Guarantee schemes, which contains a deeper harmonization of national deposit guarantee schemes that are set up in each Member State, was approved (Directive 2014/49/EU-DGSD). On the same date, the European Parliament also approved a Bank Recovery and Resolution Directive 2014/59/EU (BRRD) (IP/12/570) which harmonizes and upgrades the tools for dealing with bank crises across the EU for the resolution of banks and large investment firms in all EU Member States. The Regulation on SRM establishes a Single Resolution Fund (SRF), constituted by compulsory contributions made by European banks. The Fund will not be entirely regulated by the SRM Regulation. Some aspects necessary to set up the Fund are contained in an intergovernmental agreement established among the participating Member States that was signed on 21 May 2014.

3

The Main Features of the Current DGSD

The current DGS Directive aims to achieve the maximum harmonization of the rules in this field. The two key points of the new legal framework are the funding requirements for schemes aimed at ensuring that DGSs will be able to fulfill their obligations toward depositors and faster access to deposits after a bank failure in order to stabilize the confidence of depositors. On the first point, to ensure that DGSs have enough funds in place to safeguard the depositor’s money, it has been established that banks will have to pay into the schemes on a regular basis (ex-ante), and not only after a bank failure (ex post). In addition to ex-ante contributions, if necessary, banks will have to pay additional (ex post) contributions to a certain extent, which will be limited in order to avoid pro-cyclicality and worsening the financial situation of healthy banks.

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If this is still insufficient, DGSs could borrow from each other up to a certain limit (on a voluntary basis) or—as a last resort—use additional funding sources, such as loans from public or private third parties (alternative funding arrangements). On the second point, the Directive established that repayment deadlines should be gradually reduced from 20 to 7 working days (7 working days as from 1 January 2024). The Directive establishes that contributions to DGSs will be based on the amount of covered deposits and the degree of risk incurred by the respective member. Therefore, banks may pay different contributions, depending on whether their activity is deemed more prudent or riskier. Riskier banks imply a higher likelihood of failure and therefore such banks should pay greater contributions to DGSs. The European Banking Authority (EBA) issued guidelines specifying the methods for calculating the DGS contributions. The mandatory functions of a DGS are to repay depositors in liquidation proceedings and to finance a resolution in specific cases (see Sect. 6). Notwithstanding the fact that the preparatory works of the Directive to strengthen national DGSs and those to arrive at the definition of the Regulation on SRMs have developed along different paths, the two texts have been coordinated. Article 79 regulates the use of DGSs in the context of resolution. In order to ensure the proper sharing of resolution costs between DGSs and the Resolution Fund, the DGS to which an institution under resolution is affiliated should be required to make a contribution not greater than the amount of losses that it would have had to bear if the entity had been wound up under normal insolvency proceedings. According to Article 79(1), each participating Member State shall ensure that the national DGS to which the ailing institution is affiliated shall be liable for the amount specified in the directive (BRRD). Without the cooperation of each Member State, it would be very difficult to ensure that depositors continue having access to their deposits when the Single Resolution Board (SRB) takes resolution actions, as provided in the same Article. In order to decide the amount for which the deposit guarantee scheme is liable, the Regulation (Article 79(3)) establishes a procedure for prior consultation between the SRB and the authority of the DGS concerned. This phase, of course, will have “full regard to the urgency of the matter”.

4

The Proposal for an EDIS

In 2015, the Commission published a proposal for a Regulation amending Regulation (EU) 806/2014 in order to establish a European Deposit Insurance Scheme (EDIS)  to complement existing national deposit insurance funds.

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EDIS proposal will apply to all DGSs that are officially recognized in a participating Member State and to all credit institutions affiliated to such schemes. The participating Member States are those whose currency is the euro and those other Member States which have established a close cooperation with the European Central Bank to participate in the SSM.  The proposed Regulation builds on the existing framework of national DGSs as governed by the DGS Directive. EDIS shall be supported by a Deposit Insurance Fund (DIF).  The Single Resolution Board, which would be expanded to administer the EDIS, in cooperation with participating DGSs and designated authorities, will become the Single Resolution and Deposit Insurance Board, named “the Board”. It would monitor national DGSs and release funds only where clearly defined conditions are met. The Commission’s proposal provides for three steps toward an EDIS: the “re-insurance phase”, the “co-insurance phase” and the “full insurance”. In the “re-insurance phase”, which would last for 3  years, a national DGS could access EDIS funds only when it has first exhausted all its own resources; the EDIS addresses the initial liquidity needs of a DGS to compensate depositors within the payout deadline, but also to satisfy the request for contribution to a resolution procedure over time. The funding must be reimbursed by the participating DGS. EDIS funds would provide extra funds to a national scheme, but only up to a certain level and would cover a limited share of the losses of a participating DGS. There will be safeguards to ensure that national schemes can access the EDIS only when justified and to address possible moral hazard. In particular, EDIS funds would only be available if the relevant rules in the DGS Directive have been fully applied by the Member State concerned. Any use of EDIS funds will be closely monitored. In the initial stage of re-insurance, coverage is limited to resolutions conducted by the Board. Purely national resolution proceedings are only covered by “co-­insurance phase” and “full insurance phase”. In the “co-insurance phase”, the EDIS would become a progressively mutualized system, even if it is still subject to appropriate limits and safeguards against abuse. In this phase, a national scheme would not be required to exhaust its own funds before accessing EDIS funds. EDIS would be available to contribute a share of the costs from the moment that bank depositors need to be reimbursed. This introduces a higher degree of risk-sharing between national schemes through EDIS. The share contributed by EDIS will start at a relatively low level (20%) and will increase over a four-year period. After the four-year “co-insurance phase”, participating DGSs would be fully insured by EDIS. “Full insurance” provides full funding of the liquidity needs and covers all losses arising from a payout event or a request to contribute to resolution. The mechanism is the same as in the co-insurance phase, but with EDIS covering a share of 100%.

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5

 he Obstacles for Establishing a Fully-­ T Fledged EDIS

5.1

Different Banking Systems in Europe

The need for an EDIS was highlighted in the Five Presidents’ report, “Completing Europe’s Economic and Monetary Union” (22 June 2015), to ensure a uniform protection of depositors across the euro-area. This report emphasized that only an EDIS will preserve depositors’ trust and avoid bank runs, regardless of the geographical location of the bank in Europe and that this is a very important step to strengthen the financial stability and reinforce the single currency. This idea was highly criticized in some countries in light of the differences that still exist between banking systems of Member States, notwithstanding the fact that the SSM supervision carried out by the European Central Bank (ECB) at the Union level since 2014 has reduced the fragmentation of the European banking system. Indeed, since 2014 the euro-area banks are supervised according to the same standards. What is more, in case of a bank’s failure, the same standard to resolve the bank will apply, according to the rules contained in the BRRD and a decision will be made at the Union level for the “significant banks” by the Single Resolution Board (SRB). Notwithstanding these very important achievements to reduce the differences between the banking systems of the Member States, important weaknesses characterize some areas of the euro-area banking market. The main worry of the critics of the proposal is that the setting up of a single DGS at the euro-area level could increase the risk that weak banking sectors could be subsidized by other stronger banking sectors in the euro-area. They do not give enough consideration to risk-based contributions which, according to some studies, should internalize specificities of banks and banking systems (see Carmassi et al. 2018). The debate focused on two issues: Non-performing Loans (NPL)1 and prudential treatment of banks’ exposures to sovereign risk. The NPL was one of the key priorities for ECB’s banking supervision since the SSM was established. The relevance of the issue was highlighted by the 2014 comprehensive assessment to address asset quality of the banks. The “Second Progress Report on the Reduction of Non-Performing Loans in Europe” of the European Commission (EC, 14.3.2018 COM (2018) 133  As regards NPLs see Chap. 8.

1

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final, Communication from the Commission to the European Parliament, the European Council, the Council and the ECB), published in 2018, shows that “the latest figures, for the end of Q3 2017, confirm the downward trend of the NPL ratio in the EU”. The same document underlines that the “NPL ratios have been recently falling in nearly all Member States, although the situation among them differs significantly”. The highest levels of gross NPLs calculated as a percentage of the total gross loans amount are found in Greece, Cyprus, Portugal and Italy (in descending order). The other important goal of the European authorities in making progress in risk reduction is the further loosening of the interconnection between banks and their “home country”, which was a fundamental objective of the Banking Union. During a sovereign debt crisis, excessive holdings of domestic sovereign bonds by banks adversely affected crisis management and increased the costs associated with sovereign debt restructuring. These problems were not completely solved with the reform of the Banking Union. Therefore, in June 2015, the report by the five EU presidents stated that “bank-sovereign negative feedback loops … were at the heart of the crisis” and proposed that policymakers consider reviewing the regulatory treatment of banks’ sovereign exposures. This issue is still debated by the Basel Committee. As highlighted by a study by the European Systemic Risk Board (ESRB) High-Level Task Force on Safe Assets (ESRB  January 2018), the reforms approved by the EU, improving the quality of banking supervision, regulation and resolution of the Euro-area banks have not been sufficient to meaningfully break the bank-sovereign nexus and the systemic risk it creates. According to this report, excessive home bias on the asset side of bank balance sheets is an impediment to the completion of a full Banking Union. Furthermore, excessive home bias in banks’ sovereign exposures strengthens the nexus between bank risk and domestic sovereign risk. Thus, the ESRB’s study underlines that “Heightened sovereign risk reduces the net worth of banks exposed to such risk. When this happens, local banks can reduce their lending to the real economy, tightening financial conditions and exacerbating recessionary impulses”. There are other factors which play a role in the troubled path of the EDIS. One is the lack of harmonization of many national laws that have an impact on the management of a banking crisis, such as the insolvency laws. The last topic is also interconnected with the NPL issue, because very slow insolvency procedures in some countries make it very difficult to recover NPL of credit institutions.

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In order to overcome these obstacles to the approval of the EDIS, the original Commission proposal provided for the three sequential stages, described infra, to progressively arrive at a full mutualization (a “reinsurance stage” that will last for three years, from 2017 to 2019; a “co-insurance stage”, starting in 2020 and ending in 2023; and a third stage where full insurance will apply, from 2024 on). On the basis of the Commission’s proposal, national DGSs will play an important role until a more uniform banking sector will develop in the euroarea as a consequence of the actions carried out by the SSM. In October 2017, the EU Commission issued a new document on completing the Banking Union (Brussels, 11.10.2017 COM (2017) 592 final) which contained some amendments to the original text of the proposed Regulation on EDIS, as well as some reforms and actions to address the issue of NPL and to facilitate the diversification of banks’ sovereign portfolios to further weaken the bank-sovereign nexus. The Commission recognized that the discussion in the European Parliament and the Council have revealed divergent positions as regards the design of the system and its final stage, as well as the timing of the setting up of such a system. Then, in order to favor the speed up of the negotiations, the Commission proposed to introduce the EDIS in a more gradual manner, commensurate to progress achieved with regard to risk reduction and the tackling of legacy issues, starting with a more limited re-insurance phase and moving gradually to co-insurance. Therefore, a first proposal envisages that in a first re-­insurance phase the EDIS could provide only liquidity coverage and no-loss coverage. This solution, while taking into account legacy and moral hazard concerns expressed by some countries, contributes in a very limited way to avoiding the spread of contagion in one country, because the “liquidity coverage” is, as acknowledged by the Commission, in reality, a loan since it should be fully recovered from the banking sector. The second proposal suggests that at the end of the re-insurance phase, to move to the coinsurance phase would not be automatic, but contingent on a set of conditions. One of these conditions is a targeted Asset Quality Review (AQR) to address non-performing loans and Level III assets (assets which are typically very illiquid, and their valuation cannot be determined by using observable measures such as market prices or models) followed by the solution of the identified problem. The second phase will start only where one of such conditions has been met. Once the co-­ insurance phase has started, the EDIS will progressively cover losses provided that all conditions are continuously met. The 2017 Communication of the Commission also contains some proposals to address the NPL issue and to further weaken the bank-sovereign nexus. On the first point, the Commission proposed a comprehensive package of

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measures, including facilitating the setting up of national Asset Management Companies within existing banking and State aid rules, to further develop markets for NPL, to enhance the protection of secured creditors by allowing them more efficient methods of value recovery from secured loans. On the second point, the EC efforts support the so-called sovereign bond-backed securities proposal by the ESRB. “By pooling and possibly tranching sovereign bonds from different Member States, Sovereign Bond-Backed securities could support further portfolio diversification in the banking sector”. (EU Commission—Brussels, 11 October 2017 COM(2017) 592 final) Therefore, the Commission is working on a legislative proposal for enabling a new legal framework for the development of sovereign bond-backed securities. In June 2018, the Council published a “progress report” on the work of the “ad hoc Working Party on the strengthening of the Banking Union” focused on the EDIS.  This report premises that the continuation of the work has received overall support under the condition that participation in the discussion of the possible elements of the alternatives for the initial model of the EDIS would not be interpreted as Member States’ support for any of the alternative and related topics and that the technical work should in no way pre-empt the future negotiations at the political level. The Council’s limited endorsement of the results of the technical working group shows that the political debate on the issue is still very intense. Notwithstanding the strong interest of the Commission to favor the setting up of the EDIS, it is very likely that the political compromise will water down the initial proposal too much and it could result in the creation of a system which is too inefficient to ensure the uniform protection of depositors in Europe in a reasonable timeframe.

5.2

The Discussion on the Legal Basis

Another factor that could make it difficult to find a political compromise on the setting up of a fully-fledged EDIS could be represented by the lack of a very strong legal basis. The current proposal to establish an EDIS (COM(2015)586) is based on Article 114 Treaty on the Functioning of the European Union (TFEU). In the premises of the EC proposal, it is underlined that “the proposed Regulation aims to preserve the integrity and enhance the functioning of the internal market. Uniform application of a single set of rules for deposit protection, together with access to a European Deposit Insurance Fund (‘the Deposit Insurance Fund’) managed by a central authority would contribute to the

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orderly functioning of the Union financial markets and to financial stability in the Union. It would remove obstacles to the exercise of fundamental freedoms avoiding significant distortion of competition, at least in those Member States which share the supervision and resolution of credit institutions and the protection of depositors at the European level… Furthermore, substantial differences in the protection of depositors taken at [a] national level, and subject to local specificities and funding constraints, may undermine the integrity of the internal market”. The same legal basis was used to set up the SRB and, to a limited extent, to set up the Single Resolution Fund: the obligation to transfer the contributions raised at national level to the Single Fund as well as the gradual mutualization of the Fund was established by an Intergovernmental Agreement (IGA) (Intergovernmental agreement on the transfer and mutualization of contributions to the fund among participating Member States (IGA), signed by 26 Member States on 21 May 2014). According to the Council of the European Union (press release 21 May 2014, 10088/14, press 302), “…Using an Intergovernmental Agreement to establish rules on the transfer and mutualization of contributions is intended to provide maximum legal certainty. The Council decided this approach in December, given [the] legal and constitutional concerns in certain member States”. Indeed, Germany insisted that an intergovernmental agreement was needed for Constitutional reasons. Therefore, notwithstanding the Council and the EU parliament would have clearly preferred the Community method, they accepted, only for certain aspects of the regulation of the functioning of the Fund, the intergovernmental approach in order to avoid any risk of legal challenges. The proposal on 24 November 2015 introducing the EDIS does not envisage the need for an Intergovernmental agreement, as occurred in the case of SRF. The Commission, answering a specific question on this point in a document published on the same date (Frequently Asked Question), clarifies that the proposed EDIS has a very different set-up than the SRM. “It consists of a system of insurance starting with a re-insurance of national DGS, financed by directly contributions from banks to the European Deposit insurance Fund.” (EU Commission FAQ, 24 November 2015). Therefore, the Commission deems that the EU Treaty provides a sufficient legal basis for this proposal. Indeed, in the case of EDIS, banks contribute directly to the European Fund. Therefore, there is no need for an IGA as there is no transfer of funds already collected by national DGSs to the European Level. Given that these statements by the Commission have not been debated by the Member States in the numerous working documents following the one containing the first proposal, we can consider the need for an intergovernmental agreement to regulate the financing of the EDIS outdated.

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In any case, we should consider that the use of Article 114 as the legal basis for the Banking Union is largely debated. Article 114 TFEU was first introduced by the Single European Act of 1986 for the purpose of completing the internal market by using qualified majority voting in the Council instead of requiring unanimity. The purpose of Article 114 is to achieve the objectives set forth in Article 26 TFEU, namely to harmonize the legal provisions in Member States in order to establish or ensure the functioning of the internal market. The Treaty establishes many limits to the use of Article 114. First, it can only be used if other legal bases are not available; therefore, it is only a “residual” option as a legal basis to harmonize national legislations. Another important limit is represented by the objective of the measures: they must be “the establishment and functioning of the internal market”. The latter point is very important because we should consider that the measures adopted to create the Banking Union were not directly linked with the internal market. The Banking Union seeks to increase financial stability in the euro-area. For instance, the BRRD provides resolution proceedings in the case of a bank “failing or likely to fail”, because the liquidation of banks under normal insolvency proceedings could “jeopardize financial stability”. According to the legal texts, internal market function and the substantive stability function are intertwined. Recital 7 Capital Requirement Regulation, 575/2013/EU (CRR), in explaining the rationale for capital requirements, underlines that they aim at ensuring the protection of depositors and financial stability and explicitly provides that the financial stability of the operators leads to the “smooth functioning of the internal market”. The SRM Regulation provides a more ambiguous link between financial stability and the ­functioning of the internal market, as it affirms that uniform resolution tools increase confidence in market stability and also prevent spillover effects into non-­ participating Member States, which is beneficial for the internal market as a whole (Recital 12). On the basis of these examples, one could argue that the EDIS, too, aims to reduce spreading risk and, therefore, it could be considered a useful tool to maintain confidence in the common market. Moreover, a uniform set of deposit guarantee rules and a centralized fund can reduce fragmentation within the internal market. Many counterarguments can be used to question the use of Article 114 TFEU as a legal basis for the Banking Union measures. The most important is that Banking Union itself represents a fragmentation of the internal market, because it applies only to euro-area banks. In any case, we should consider that the Banking Union establishes only a centralized mechanism to supervise banks and to resolve ailing banks. The rules to supervise and resolve banks within the euro-area are the same ones applied in the common market:

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European Union Directives and Regulations (Capital Requirement Directive 4, 2013/36/EU—CRDIV—and CRR, BRRD and EBA regulatory technical standards, implementing technical standards and guidelines). Moreover, the uniform application of these rules within the euro-area countries by a centralized authority at the Union level, canceling the margin of flexibility that Member States’ competent authorities maintain in the application of the EU rules, will favor the level of harmonization of the rules in the common market. However, the Banking Union is not just a tool to strengthen the stability of the European financial system. The reasons underlying the Banking Union are much wider. They are primarily linked to the need to preserve the stability of the single currency and represent a step forward in the process of European integration which is hardly traceable to the original objective underlying the European Treaties of creating and strengthening the single market. In this respect, the use of article 114 TFEU as the legal basis of the Banking Union institutions could be interpreted as an attempt to twist the rules. On this point, a question has been posed: “Has a shift occurred in the internal market paradigm toward an economic union paradigm, whereby the internal market is used to foster economic policy goals adjacent to the Economic and Monetary Union (EMU)”? (Tuominen 2017); therefore, although the establishment of the Banking Union seems to be a natural continuum of the development of the internal market and the EMU, such use of Article 114 TFEU is questionable. Using Article 114, TFEU could be considered to be in line with the new EU legal framework taking into account the changes made to the EU Treaties with the creation of the Single Monetary System. The need to protect the common currency and to pursue economic policy goals at the European level reformed in a radical way the first agreements between Member States and imposed a new reading of the current legal framework of the European Union. The decisions of the Court of Justice of the European Union (CJEU) on Article 114 support this interpretation. The Court recognizes a wide discretionary power of the EU legislator as regards the reconciliation of political, economic and social interests involved in the application of Article 114. According to the Court, “the Community legislature must be allowed a broad discretion in an area such as that concerned in the present case, which involves political, economic and social choices on its part, and in which it is called on to undertake complex assessments. Only if a measure adopted in this field is manifestly inappropriate in relation to the objective which the competent institutions are seeking to pursue can the lawfulness of such a measure be affected”.2  Judgment 14.12.2004, C-434/02, Arnold Andre’ GmbH & Co. KG/Landrat des Kreises Herford, para. 46; Judgment 14.12.2004, C-210/03, Swedish Match AB/Secretary of the State for Health, para. 48. 2

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Therefore, we can conclude that the legal basis, although highly debated, should not represent a relevant obstacle to the approval of the EDIS Regulation.

6

 he Limited Mandate of the EDIS Under the T Current Commission’s Proposal

In this section, we consider that the weaknesses in the EDIS regulatory proposal are not limited to the postponement of a fully-fledged insurance system over time. Looking at the big picture established by recent regulations regarding the management of banking crises (BRRD; SRM Regulation; the DGSD) and the current proposal of the Commission regarding EDIS, we believe that to strengthen the resilience of the euro-area banking sector against financial crises we should address the problem of the EDIS’ limited scope of application and the relationship between the EDIS and the Single Resolution Fund. The EDIS mandate, under the current proposal, is limited to the mandatory functions of the DGSs, as provided for by the DGS Directive, meaning to repay depositors in liquidation proceedings or to finance a resolution in two specific situations: in the case of bail-in, the DGS is required to pay the same amount as depositors would have been liable for in the event of haircut; in the case of other resolution tools, the DGS covers the losses that covered depositors would have incurred. All the situations envisaged by the regulation as a mandatory use of the DGS are very unlikely to happen. The liquidation of a bank without any public or private (from other intermediaries) intervention is very rare; indeed, attempts are made in every country to preserve the sound part of the business activity of the banks that normally play an essential role in the local or national economy. In this case, there is no threat to the depositors’ interests. Likewise, resolution procedures involving deposits under 100,000 euros, which makes the intervention of the DGSs necessary, are uncommon. Otherwise, under the current discipline, the DGS functions are not limited to the two cases mentioned above (mandatory interventions). The Directive also provides for “voluntary interventions” of the national DGSs. They can intervene during a liquidation procedure and decide to use its funds to finance measures to preserve the access of depositors to covered deposits, including transfer of assets and liabilities and deposit book transfer, according to the national law. In the latter case, the DGS has to comply with the “least cost principle”, meaning that the costs borne by the DGS do not exceed the net amount of compensating covered depositors at the credit institution con-

406 

C. Brescia Morra

cerned (Article 11(6) DGSD). The DGSs could use their resources to prevent the failure of a credit institution, but these measures should comply with State aid rules (Recital 16).3 According to many commentators (see Boccuzzi et al. 2016), if we take into account the numerous limits, deriving mainly from the State aid discipline to the voluntary interventions of the DGSs, they are not very effective in preventing cases of financial instability. Indeed, the limited functions of the DGS could be explained considering that last amendment of the DGSD was finalized at the same time as the issuance of the BRRD and the SRM Regulation, which assign the function to finance the resolution procedures to the Resolution Funds, in particular in the euro-area, to the Single Resolution Fund (SRF). The SRF may be used to the extent necessary to ensure the effective application of resolution tools and powers. Moreover, notwithstanding the fact that the SRF was not conceived as a “bailout fund” (Busch 2015), in exceptional circumstances, after sufficiently having exhausted the internal resources, it could be used to absorb losses or provide capital to an institution under resolution. It can, therefore, be assumed that a clear division of duties between the DGSs and the Resolution funds is established in the new framework for banking crisis management: the former use their funds to repay depositors; the latter use their financial resources to support an efficient application of the resolution tools, such as the creation of a bridge bank or the sale of assets and liabilities. Considering that, according to the current proposal of Regulation, the EDIS functions will be even more limited than those of the national DGSs (because voluntary interventions are outside the scope of the EDIS) it will be, de facto, useful only in the prevention of depositor panic. It is not a tool to manage banking crises. However, experience tells us that it is very difficult to distinguish these two tasks when facing a banking crisis and many causes could lead to a banking crisis that could undermine financial stability. Moreover, the decision-making time period for dealing with banking crises is very short and efficient solutions need to be found in a very short time. Where there are many actors who could intervene in the procedures to resolve a banking crisis, such procedures could be slowed down by a “coordination problem”.  The Commission’s Banking Communication of 2013, on the application of State Aid rules to support measures in favor of banks in the context of the financial crisis, expressly addresses the interventions of DGSs. The Communication states that the payout of depositors does not constitute State Aid. However, “the use of those or similar funds to assist in the restructuring of credit institutions may constitute State Aid. Whilst the funds in question may derive from the private sector, they may constitute aid to the extent that they come within the control of the State and the decision as to the funds’ application is imputable to the State.” (para. 63). See OJ 2015 L203/1). 3

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The integration of the SRF with the EDIS could give rise to a more effective and efficient tool to manage bank failures (Gros and Schoenmaker 2013; Schoenmaker 2018), as has been demonstrated by the U.S. experience with the Federal Deposit Insurance Corporation. Moreover, we should reflect on the need to apply the stringent rules of State aid to the intervention of a Resolution fund or a Deposit Insurance Fund set up at the Union level when they intervene under the authority of a European Agency.4

References Beck T., Laeven L. (2006), Resolution of Failed Banks by Deposit Insurers Cross-Country Evidence, World Bank Policy Research Working Paper, WPS3920 Boccuzzi G., De Lisa R. (2016), The Changing Face of Deposit Insurance in Europe: From the DGSD to the EDIS, XXI Rapporto sul Sistema Finanziario, The Changing Face of Banking, Ass. Rosselli, pp. 221–240 Busch D. (2015), Governance of the Single Resolution Mechanism, European Banking Union, Oxford University Press, pp. 281–335 Carmassi J., Dobkowitz S., Evrard J., Parisi L., Silva A., Wedow M. (2018), Completing the Banking Union with a European Deposit Insurance Scheme: Who is afraid of cross-­ subsidisation?, Occasional Paper Series ECB, No 208/April 2018 Demirgüҫ-Kunt A., Kane E., Laeven L. (2014), Deposit Insurance Database, World Bank Policy Research Working Paper, WPS6934 Diamond D.W., Dybvig P.H. (1983), Bank Runs, Deposit Insurance and Liquidity, The Journal of Political Economy, v. 91, n. 3, pp. 401–419 European Systemic Risk Board (ESRB) (January 2018), High-Level Task Force on Safe Assets, Sovereign bond-backed securities: a feasibility study Gros D., Schoenmaker D. (2013), European Deposit Insurance and Resolution in Banking Union, Journal of Common Market Studies, v. 52, n. 3, May 2014, pp. 1–18 Schoenmaker D. (9 April 2018), Building a Stable European Deposit Insurance Scheme, Policy Briefs, LUISS, School of European Political Economy Tuominen T. (2017), The European Banking Union: A Schift in the Internal Market Paradigm?, Common Market Law Review, v. 54, pp. 1359–1380 White E. (1995), Deposit insurance, Policy Research Working paper series, 1541, The World Bank, pp. 1–20  With regard to the issue of the compatibility of voluntary interventions of the DGSs with the rules on State aid (see Footnote 3), we point out the decision of the General Court of 19 March 2019 (Judgement, 19.3.2019, Italy v Commission, T-98/16; joined cases T-98/16, T-196/16, T-198/16), published at the time this chapter went to press. The Court annulled the Commission’s decision concerning the measures taken by the Italian DGS (Fondo Interbancario di Tutela dei Depositi—FITD) to prevent the failure of a bank, Tercas. According to the Court, the Commission concluded, incorrectly, that the measures granted by the Italian DGS to Tercas entailed the use of State resources and were imputable to the State. 4

Index

A

B

ABLV Bank A.S., 8, 263ff Accountability, 42, 49ff, 136ff, 146ff, 175 Actions for annulment, 107 Administrative appeals, 108ff Administrative Board of Review (ABoR), 92, 108, 171, 182 Administrative protection, 132 Administrative remedies, 92ff Agencification, 62 Agreement on emergency liquidity assistance, 20 Annulment of ECB supervisory acts, 130 Appeal Panel, 92, 108, 334ff Arkea case, 107 Article 114 TFEU, 25ff, 119, 141, 251, 401ff Article 125 TFEU, 113, 140 Article 127(6) TFEU, 20, 34, 42, 47ff, 161, 250 Article 130 TFEU, 28, 49ff Article 136 TFEU, 114, 140 Article 197 TFEU, 119 Article 298 TFEU, 119 Asset separation tool, 29, 141, 252, 301ff, 312ff

Bad bank, 364, 380ff Bail-in, 29, 53, 61, 125, 141, 149, 193, 220, 252ff, 288f, 301ff, 313ff, 321ff, 350ff, 375ff Bailout fund, 406 Banca Popolare di Vicenza, 184f, 199ff, 262, 264, 303, 305 Banco Popular Español, 4, 110, 261ff, 300ff, 344, 373ff Bank crisis, 214, 221, 259, 271, 312, 393ff, 407 Bankenunion, 60 Bank failure, 5, 54, 193, 272, 276 Bank for International Settlements, 8, 183 Banking Act 1933 (Glass Steagall Act), 6 Banking Act 1979, 7 Banking groups, 44, 55, 195, 239, 283, 288, 303ff, 331 Bank Recovery and Resolution Directive (BRRD), 4, 15, 26ff, 54, 141, 248, 271, 299, 322, 350, 353, 372, 395 Bank run, 4, 150, 198, 354, 367, 393, 398

© The Author(s) 2019 M. P. Chiti, V. Santoro (eds.), The Palgrave Handbook of European Banking Union Law, https://doi.org/10.1007/978-3-030-13475-4

409

410 Index

Bank’s critical functions, 192ff, 260, 262, 275, 279, 288, 301ff, 334, 353f, 389 Banks’ exposures to sovereign risk, 398 Banque Postal case, 111, 112, 130–131 Basel 2, 10–12 Basel III regulatory framework, 28, 74, 87, 360 Basel Committee on Banking Supervision, 8ff, 15f, 20, 28, 66, 74ff, 84, 183, 189, 227, 237, 300, 302, 341, 399 Berlusconi Fininvest case, 109, 111, 122–123, 255n38 Better Regulation and Regulatory Fitness and Performance (REFIT) Programme, 78–80 Board of Appeal, 92, 95, 98–99 Bretton Woods System, 8 Bridge bank, 142, 323, 364ff, 373ff, 406 Bridge institution tool, 29, 301–303, 312 BRRD paradigm, 373–390 BRRD resolution paradigm, 375, 379 Burden sharing, 61, 126, 261ff, 322, 325ff, 341, 346, 349–350, 389

Committee on Economic and Monetary Affairs of the European Parliament, 82 Common backstop, 27 Communication plan, 278–279, 281 Composite administrative procedures, 109 Compulsory liquidation, 273, 295, 378, 389 See also Liquidation aid Conflict of interests, 363 Contractual subordination, 336, 340 Convergence of supervisory practices, 185 Cooperation between NCAs, 185, 187 Cooperation between the SSM and the SRM, 254 Court of Justice of the European Union (CJEU), 13, 33, 60, 71, 91ff, 106ff, 158, 165, 250, 257, 355, 379, 404 Credit Agricole case, 107, 131 Crisis prevention, 29, 261, 272, 275 Cross-border banks, 272, 331 Cross-jurisdictional activities and complexity, 183 D

C

Capital buffers, 46, 184, 203, 360n38 Capital instruments, 252, 261, 301ff, 337ff, 350ff, 361ff Capital Requirements Directive IV (CRD IV), 13, 27ff, 36f, 74ff, 161ff, 181, 184, 203, 253, 276f, 292, 347, 360, 404 Chrysostomides case, 61, 107, 111f, 128ff, 358 Clients funds and assets, 202 Committee of European Banking Supervisors (CEBS), 11ff, 185

de Larosière Group, 12, 21 de Larosière Report, 13, 31, 72, 112, 139 Democratic legitimacy, 57, 136ff, 144ff Deposit guarantee schemes (DGS), 22f, 30, 36, 198, 256ff, 393ff Depositors, 4, 23, 53f, 66, 150, 192ff, 248ff, 351ff, 377, 393ff Direct action, 60, 107f, 110, 117, 124, 127 Directives 2006/48/EC and 2006/49/EC, 11 Directive 2014/59/EU, 4 Dowling case, 111, 125, 127, 327, 355

 Index  E

Early intervention, 28, 54f, 168, 187, 192, 254, 261, 275, 295, 303, 383 EBA Regulation, 31–32, 35 Economic and Monetary Union (EMU), 14, 21ff, 62, 113, 120, 247, 398ff, 404 Economic policy, 60, 113ff, 136, 404 Effective judicial protection, 58, 113ff Emergency Liquidity Assistance (ELA), 20, 35f ESM Treaty, 113ff, 126, 129 Essential functions, 258ff, 275, 297 Eurogroup, 21, 27, 51ff, 147 European Banking Authority (EBA), 13, 25, 47, 71, 92, 95, 98, 184, 186, 234, 276, 341, 396 European Banking Union (EBU), 9, 14ff, 21, 28, 34, 36, 41ff, 105ff, 136ff, 184, 213ff, 247ff, 304ff, 338, 394ff European Central Bank (ECB), 14ff, 20ff, 42ff, 71, 78, 88, 91ff, 106ff, 135ff, 157ff, 184ff, 215, 228, 231, 233, 237, 249ff, 294, 307, 309, 328, 339, 357ff, 377f, 388, 397f Agreement (2017), 20, 35 delegation framework, 169–171 advantages and disadvantages of, 171–173 Governing Council, 43, 45f, 106, 169 organization and decision-making process, 158–160 powers, 60, 120–123, 178 tasks conferred on, 37, 49, 95, 160–162, 175 European central banking law, 37 European Commission, 74, 102, 137, 184, 215ff, 249, 294 European Council, 106, 111, 114 European Court of Auditors (ECA), 43, 52–55

411

European Deposit Insurance Scheme (EDIS), 22, 37, 150, 248, 396ff European financial governance, 132 European Insurance and Occupational Pensions Authority (EIOPA), 71 European Monetary Fund (EMF), 16 European Parliament, 42, 83ff, 105, 138, 144, 146, 148, 151, 236, 257 European Securities and Markets Authority (ESMA), 71, 107, 116ff, 177, 234, 341ff, 359ff European Securities Regulators Committee (level 2), 11 European Stability Mechanism (ESM), 14ff, 27, 111, 114ff, 139ff, 189, 219, 328 European supervisory and regulatory agencies, 106 European Supervisory Authorities (ESAs), 31, 47, 72, 106, 108, 116, 139, 186, 234 European Systemic Risk Board (ESRB), 13, 32ff, 46, 68, 139, 184, 186, 399ff European System of Financial Supervision (ESFS), 13, 25, 31ff, 71ff, 116, 118, 184, 186 European Union institutions, 42 Eurozone, 4, 106ff, 120f, 299f, 307 Executive session, 55, 253, 258 External legitimacy, 131 F

Failing or likely to fail, 35, 56f, 141, 194ff, 254, 302ff, 323, 328, 378, 383, 389, 403 Federal Deposit Insurance Corporation (FDIC), 6, 150, 273, 375, 393, 407

412 Index

Federal Reserve System, 6 Financial crisis, 3ff, 21ff, 66ff, 68, 101ff, 136ff, 183ff, 213ff, 273, 299ff, 322, 349ff, 371, 375, 394 Financial instability, 51, 68, 152, 198, 295, 406 Financial regulation, 41, 69, 139, 375 Financial stability, 12f, 23, 30, 34, 37, 48, 51ff, 66ff, 112ff, 139ff, 163, 186ff, 214, 221, 227, 233, 252ff, 273, 275, 301ff, 322ff, 355ff, 374ff, 393ff Financial Stability Board (FSB), 12, 20, 29, 74, 183, 278f, 296, 300, 302, 333, 374 First Banking Directive of 1977, 7, 137 G

Gauweiler case, 59ff, 107ff General Court, 58ff, 97, 106, 122, 127, 165 General principle of European Union, 115 Global Systemically Important Financial Institutions (G-SIBs), 12ff, 68ff, 183ff, 273, 299, 306, 333 Governance of the intermediary, 272ff Governance of the SRB, 253 Grainger case, 252n22, 259n47, 326ff, 356, 382 G20, 12

I

Independence, 49ff, 93, 144, 145ff, 160, 251 Initial public offers (IPOs), 201 Insolvency proceedings, 141, 196ff, 202, 219ff, 252ff, 303ff, 327, 359, 384, 396, 403 Institutional balance, 42, 47f, 58, 60, 62 Instructions, 34, 44ff, 59, 146, 166f, 174f, 181, 190, 195 Integrity of the internal market, 402 Interconnectedness, 5, 183, 189, 193, 308, 310 Interest in bringing proceedings, 111, 128 Internal Market, 7, 9, 70, 119f, 137, 143, 200ff, 251ff, 401ff International Association of Deposit Insurers (IADI), 20, 30 International Monetary Fund (IMF), 13, 183, 218, 219f, 233, 268, 303, 307, 376 Investor protection, 163, 197ff, 322, 345, 354ff, 362, 367 Investors, 15, 128, 142, 197f, 202, 238, 299, 311ff, 326ff, 351f, 380, 385 J

Joint Supervisory Teams, 44 Judicial protection, 44, 58, 108, 110, 113, 115, 128, 132, 331, 332 Jurisdictional remedies, 91, 92, 94, 99, 102

H

Heta case, 358 High-Level Group on Financial Supervision in the EU, 31, 185

K

Kotnik case, 61, 107, 112, 125–126, 206, 252n22, 327, 355, 382

 Index 

413

L

N

Lamfalussy Committee, 11 Lamfalussy Report, 11, 137, 138 Landeskreditbank Baden-Württemberg case, 97, 109–112, 129 L-Bank case, 58 Ledra case, 61, 107, 112, 115, 123ff, 327f, 352, 355, 357, 382 Lehman Brothers, 5, 138, 150 Less significant banks, 44ff, 110, 188, 190, 194, 195, 233, 254f, 294 Less significant institutions, 9ff, 59, 78, 147, 176, 254, 302 Liquidation, 128, 200ff, 260ff, 272f, 302ff, 323ff, 378ff, 394ff See also Compulsory liquidation Liquidation aid, 249ff, 262ff, 264 See also Compulsory liquidation Living will, 28, 233, 273

National competent authorities (NCAs) tasks remaining in remit of, 42ff, 157f, 160ff, 185ff, 254f National constitutions, 107, 112, 131, 332 National fiscal sovereignty, 140ff National insolvency proceedings, 252ff National parliaments, 52, 144ff National Resolution Authorities (NRAs), 26, 35, 54ff, 142, 176f, 193, 249, 252ff, 294, 302, 312, 379 No-creditors-worse-off principle, 324 Non-performing loans (NPLs), 213ff, 284, 301, 308, 315, 364, 375, 398ff Normal insolvency proceedings, 197, 202, 258, 309, 359, 384, 396, 403

M

Maastricht Treaty (1992), 8 Macro-prudential policy, 5, 46 Macro-prudential supervisor, 185 Margin of appreciation, 130, 327, 382f Market confidence, 202 Maximum harmonization, 395 Meroni case, 48, 57, 62, 117f, 179ff, 250, 260 Meroni doctrine, 48, 57, 62, 117f, 182, 250, 260 Minimum Requirement for own capital and Eligible Liabilities (MREL), 29, 254, 321ff Mis-selling, 341ff, 359ff Monetary policy, 4, 8, 25, 33, 34, 36, 43, 49ff, 101, 113f, 120f, 136, 146, 157ff Monetary Union, 14, 21, 23, 33, 113, 136ff

O

Objectives, 14, 19, 29, 33, 35, 46ff, 71ff, 121ff, 145, 159, 191ff, 218, 247ff, 290, 301ff, 350, 353ff, 403 Office of the Comptroller of the Currency (OCC), 6 Olaf case, 107, 111 Outrights Monetary Transactions (OMT), 112, 120ff P

Piecemeal liquidation, 267, 268 Pillars of the EBU, 105 Plenary session, 55, 143, 253 Preliminary ruling proceedings, 107 Principle of legitimate expectations, 125, 341

414 Index

Pringle case, 111, 140 Proportionality, 59, 61, 66–75, 77–81, 83–88, 121, 126, 129, 131, 309, 337, 357, 379, 381–385, 388, 390 Protocol (No 4), 34 Prudential supervision, 6, 9, 11, 12, 16, 19ff, 42ff, 75, 88, 144, 161f, 176, 185ff, 250, 254, 271, 295 Public financial stabilisation instruments, 256 Public financial support, 141, 145, 249, 276, 289, 302, 316, 350, 353, 366 Public interest, 5, 56, 93, 126f, 132, 137, 150, 186ff, 208, 249, 252, 258ff, 300ff, 330, 351ff, 373ff R

Recovery and resolution plans, 260, 272ff Recovery plans, 254, 261, 273ff Regulation No. 575/2013 (the “Capital Requirements Regulation”), 13, 80ff, 403 Regulation No. 806/2014, 248 Regulation (EU) No 1092/2010, 32, 35 Regulatory competition, 16, 69, 137 Resolution, 247ff Resolution action, 142, 184, 194, 204, 258ff, 301ff, 337, 344, 351, 358, 378, 396 Resolution authority, 272, 351 Resolution colleges, 292, 294 Resolution experiences, 372ff Resolution objectives, 56, 145, 197–199, 202, 207, 262, 267, 301f Resolution planning, 28, 82, 184, 196, 199, 254, 274, 288f, 299, 309, 333, 362, 367 Resolution plans, 54, 55, 193, 196, 202, 260, 272, 274, 275, 278, 288, 289, 292–296

Resolution scheme, 56, 57, 176, 196, 197f, 249ff, 301f Resolution tools, 29, 35, 54, 141, 252, 253ff, 271ff, 299ff, 323, 344, 351f, 364, 368, 372f, 377, 384, 403ff Rights to property, 350 Ring-fencing, 139, 150, 192 Risk-sharing, 136, 138–140, 142, 143, 148–152, 214, 232, 397 Role of national laws, 133 Romano doctrine, 117 Rule of Law, 58, 91, 92, 107 S

Sale of business tool, 29, 261, 301, 311, 356, 364, 367 Second Banking Directive, 7–9, 137 Significant banks, 44, 45, 54, 56, 62, 110, 129, 184, 187–190, 194, 195, 200ff, 237, 254ff, 294, 309, 398 Significant deterioration, 263, 275 Single currency, 8, 33, 51, 53, 136f, 187, 398, 404 Single European Act, 7, 403 Single financial market, 14, 136ff Single Resolution Board (SRB), 26, 35, 47, 54, 62, 95, 108, 110, 135, 176, 184, 193, 208, 249, 251, 277, 300, 334, 344, 373, 396ff Single Resolution Fund (SRF), 14, 15, 22, 25, 36, 54, 135, 194, 248, 307, 312, 375, 395ff Single Resolution Mechanism (SRM), 14, 22, 25, 36, 42, 106, 135, 176, 184, 192, 248, 271f, 299, 322, 344, 372, 394–395 Single Rule Book, 13, 15, 67, 71ff, 85, 86 Single Supervisory Mechanism (SSM), 14, 22, 42, 91, 95, 102, 106, 135, 184f, 247, 294, 309, 394

 Index 

Framework Regulation, 24, 42, 44, 158, 180, 188 Single Supervisory Mechanism Regulation (SSMR), 36, 157, 307 Sovereign debt crisis, 13, 135, 140, 399 SRF Agreement, 25, 26 State aid, 60, 61, 106, 143, 200, 204–206, 214, 219, 232ff, 249, 256ff, 269, 322, 349f, 389, 401ff Statute of the ESCB and of the ECB, 34, 49, 157ff Statutory subordination, 336ff Supervision, 157ff Supervisory authorities, 9, 24, 31, 47, 51, 56, 71ff, 116, 129, 139, 186, 234, 261, 275, 276f, 282, 288ff, 309, 342, 383 Supervisory Board, 43, 48, 62, 93ff, 109, 146f, 158ff, 170ff, 178, 180, 253, 292 Supervisory functions, 34, 93, 95, 157, 166, 172, 282 Systemically important bank, 184, 190, 195, 196, 199f, 207, 299, 306 Systemic banks, 294, 299 Systemic crisis, 8, 150ff, 152, 256, 295, 315f Systemic risk, 5ff, 32, 45f, 68, 127, 139, 151, 183ff, 193, 199, 267, 295, 328, 338, 399

415

T

Tercas case, 256, 257n42, 407n4 Third pillar, 14, 22, 248, 394 Total assets, 143, 189, 200, 202 Total liabilities including own funds (TLOF), 337, 338 Total Loss-Absorbing Capacity (TLAC), 29, 314, 321, 333ff Transparency, 51, 102, 138, 288, 311, 341, 385 Trasta case, 111, 128, 330n28 Treaty on European Union (TEU), 33, 47, 91, 106f, 113ff, 130, 169 Treaty on the Functioning of the European Union (TFEU), 13, 19ff, 42ff, 70f, 91ff, 107ff, 136ff, 159, 161, 205f, 250ff, 401ff Triggers, 49, 260, 281, 283f, 302f, 310, 383f, 389 V

Van Rompuy Report, 21, 112 Veneto Banca, 184, 199, 262, 264, 303ff, 378, 388 W

Write-down, 349ff