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Retail Banking in Europe The Way Forward The European Voice of Savings and Retail Banking
Retail Banking in Europe The Way Forward The European Voice of Savings and Retail Banking

Retail Banking in Europe The Way Forward

Retail Banking in Europe The Way Forward The European Voice of Savings and Retail Banking

The European Voice of Savings and Retail Banking

Retail Banking in Europe The Way Forward

Cover concept: “The diverse landscape of banking drives the economy forward”.


ESBG would like to thank its members who contributed to this report.

We would also like thank the colleagues of the consulted ESBG committees and other ESBG working bodies for their input:

Coordination Committee Economic Affairs Committee Payments Committee Supervision and Capital Requirements Committee Accounting and Audit Committee Corporate Social Responsibility Committee Financial Regulation Committee Task Force Capital Markets Regulation Task Force Consumer Policy Task Force SMEs Task Force on Anti-Money Laundering and Counter Terrorist Financing Statisticians Network

Disclaimer The opinions and views expressed in this report do not necessarily reflect the individual views of all ESBG Members; they are the result of a consultation process involving ESBG committees and other ESBG working bodies.

Given current ongoing discussions with the European Commission, Lloyds TSB believes that it is not appropriate for it to comment publicly on European regulatory issues for the time being, and is therefore not a party to this report.


FOREWORD These are interesting and uncertain times, and we cannot tell yet where they will lead

These are interesting and uncertain times, and we cannot tell yet where they will lead us. The financial world is changing and it is to be expected that banking itself – whether globally or in the EU – will undergo a significant transformation. Now is not the time for concrete predictions, yet we look ahead with optimism and with the confidence that also in the times to come, Europe’s savings and regionally oriented retail banks will drive economic growth and development, as indeed they always have. The aim of this report is to work towards this goal by stimulating and contributing to the various relevant debates and initiatives, which are currently shaping the retail banking sector along various dimensions.

Firstly, fervent discussions are ongoing in the context of the financial and economic crisis. At the centre of these debates stands improving the regulation of Europe’s financial sector in all those areas where regulatory shortcomings are now recognised as having contributed to – or as not having effectively prevented – the build-up to the crisis. For the same reasons, Europe’s supervisory architecture is currently under revision. In parallel, however, it would be of similar importance to extend the ongoing political discussions to Europe’s financial players themselves and to reassess the priorities of banks as regards their role in the economy. The events of the last two years prove that, in Europe and also in the US, such a discussion on bank priorities is long overdue. As representatives of savings banks and regionally oriented retail banks we feel that it is our role to stimulate such a debate, since during the last two years these business models have undoubtedly reconfirmed their validity.

Secondly, the debate on the long-run integration of Europe’s banking sector and the achievability of a Single Market for retail financial services continues. This debate on the ‘growing together’ of Europe’s national retail banking markets and on the economic aspects of market integration is of greatest importance for the sector and for Europe. As a matter of fact, the current supervisory and regulatory revisions will reset some of the underlying conditions for this debate, in ways which cannot yet be anticipated. However, there are persisting central factors that determine the building blocks for any sound and reality-based vision or strategy for the future of Europe’s retail financial services markets. As savings banks are among the oldest and most deeply embedded providers of retail financial services, we feel compelled to point out certain core parameters which are fundamental for any realistic debate on retail banking sector integration.

Thirdly, in the field of retail banking policy, continuous efforts are being undertaken to drive forward the integration of Europe’s retail financial markets in practice. This applies to areas like the core retail banking business, payments, capital markets, financial inclusion and education, and accounting. Even with the ongoing crisis, in these areas a large part of the dialogue between policy makers and industry is in fact ‘business as usual’. Consequently, we use the occasion of this report to provide our recommendations for the ‘retail banking’ specific policy areas currently on regulators’ agenda, and take this opportunity to present ESBG’s expertise and views as the representative of a major part of Europe’s retail banking industry.

Without anticipating our concrete conclusions and recommendations, let us already highlight that ESBG remains true to its long- standing positions and convictions. For both banks and banking regulators, a reality based approach is essential. For banks this reality based approach implies the need for responsible and sustainable business models; for policy makers it means recognising and respecting business realities and fundamental market conditions. Furthermore it goes hand in hand with internalising and maximising the value of Europe’s pluralistic banking sector, not only for the sake of Europe’s banks but even more so for the sake of its citizens, regions and the economy as a whole. The clear and objective goal of Europe is to make the most of its strengths.


With this insight, of course, the questions do not end. Rather, as a result of the current crisis, new questions arise, while already established answers to old questions are being revised. Central among the new questions is whether the current economic slow-down will lead to a change in the pace and direction of the integration debate. Looking back, during the past period of economic growth and prosperity until the onset of the crisis in mid-2007, the approach to European market integration taken by most EU policy makers was very ambitious and dynamic – even bullish – but unfortunately not unbiased. However, during the last two years of financial and economic crisis and the experience of fragilities in the financial system, ensuring stable national financial sectors and economies clearly has taken priority. Does it follow from this that dire economic circumstances reveal the ‘real’ constraints to sector integration which previously were overlooked or not binding? Do the experiences of the last two years redirect market players themselves towards their home-markets or change their approach to market-entry and expansion? Is sector integration, in the way previously understood and targeted by policy makers and market players, no longer a priority? Will market players’ and policy makers’ stance on integration turn bearish and, if yes, for how long?

Looking at the evolution of new answers for old questions, a change is clearly observable in policy makers’ visions and priorities for the future of the European retail banking market. Until two years ago, the debate was dominated by the central objective of integration, defined as the removal of barriers to the creation of ever bigger banks. Now this approach is being counterbalanced by the recognition that financial stability cannot be taken for granted. At the same time, there are the new additional priorities of promoting financial inclusion, increasing consumer confidence, and achieving responsible business practices. It can therefore be expected that regulators and policy makers will adopt – much more so than they did in the past – holistic and balanced strategies on the basis of all these criteria. As a result, the very nature of the integration debate is likely to change and to become, indeed, more pluralistic.

For us as savings and retail bankers this change in the political trend comes as a great confirmation. Europe’s savings banks and regionally oriented retail banks have always been critical towards a one-sided approach to integration: it neither internalised the stabilising impact of Europe’s pluralistic banking landscape and its beneficial effects for competition, nor did it take sufficient account of the socioeconomic role of banks and the necessity of guaranteeing financial stability. The events of the last two years have clearly demonstrated that Europe needs a pluralistic banking sector as well as a circumspect and balanced approach by policy makers. For all these reasons the new direction in the integration debate appears promising and could ensure that the benefits of an integrated European financial market will be more equally distributed. Furthermore, there is reason to hope that integration will become not only fairer, but also safer.

It is evident that the European debate on retail banking integration is nearly as diverse, dynamic and multidimensional as the retail banking sector itself. Both bankers and policy makers are learning necessary lessons. By building on realistic foundations, Europe and its banks will move forward carefully, but also with confidence.

banks will move forward carefully, but also with confidence. Heinrich Haasis Chris De Noose ESBG President
banks will move forward carefully, but also with confidence. Heinrich Haasis Chris De Noose ESBG President

Heinrich Haasis

Chris De Noose

ESBG President

Managing Director WSBI/ESBG





Executive Summary


Who is ESBG?


1. ESBG – The European voice of savings and retail banking:

identity, values and tradition


2. ESBG members in the European banking landscape


2.1. ESBG members – integrated within the European banking sector


2.2. ESBG members – a substantial part of the European banking sector


3. ESBG and responsible banking


Part 1 – The financial and economic crisis: ESBG key-messages and contributions


Setting the scene: the current financial and economic crisis – an unprecedented experience


1. Crisis, banks and economy – ESBG views on lending, business ethics and state aid


1.1. Retail banking and the real economy – bank lending during the crisis


1.2. Views on banks revisited – back to the roots of the business?


1.3. State support to the banks and related trade-offs – which approach

should be taken?


2. Policy responses at the EU Level – ESBG views on the chosen approaches


2.1. EU actions as part of the global approach to crisis prevention – revision of existing regulatory and supervisory frameworks


2.2. EU actions as part of the global approach to crisis prevention – widening regulatory outreach


Part 2 – European retail banking market integration:

core parameters for a reality-based approach


Setting the scene: the long-run debate on the integration of Europe’s retail banking markets


1. Retail banking realities and their implications for market integration


1.1. Local demand for retail banking products and services


1.2. Distribution of retail banking products: does retail banking become ‘less local’?


1.3. Competition in retail banking


2. Diversity: heritage and future for the European retail banking market


2.1. Banking practices: EU comparisons – EU diversity


2.2. Europe – rich in market players


2.3. Pluralism in the EU retail banking market



Part 3 – EU retail banking policy: ESBG contributions and recommendations


Setting the scene: the EU approach to financial sector policy and ESBG’s contributions on the basis of the ‘Market Model’


1. Banking supervision


1.1. The EU institutional arrangements for supervision


1.2. The EU regulatory framework


1.3. Deposit Guarantee Schemes


2. Financial reporting I – Fair value accounting


3. Financial reporting II - IFRS and SMEs


4. Wholesale payments and settlements infrastructure


5. Capital Markets I – Securities


5.1. Markets in Financial Instruments Directive (MiFID)


5.2. Prospectus Directive


5.3. Market Abuse Directive


5.4. Transparency Directive


6. Capital Markets II – Asset management and investment funds


6.1. UCITS


6.2. Alternative investment fund managers


6.3. Packaged retail investment products


7. Consumer policy in the area of retail financial services


7.1. Consumer credit


7.2. Mortgage credit


7.3. Distance marketing of consumer financial services


7.4. Consumer redress


7.5. European contract law


7.6. Consumer rights


8. Retail payments


9. Anti-money laundering, counter terrorist financing and financial institutions


9.1. The third anti-money laundering directive


9.2. Compliance at group level


9.3. Financial action task force – FATF


9.4. Proliferation financing


9.5. Financial sanctions


10. SME financing


11. Financial inclusion


12. Financial education


Concluding remarks


Annex 1


Part 1 – Structural and financial data


Part 2 – EU Payments Data


Annex 2


ESBG Charter for Responsible Business






EXECUTIVE SUMMARY Who is ESBG? ESBG is the voice of Europe’s savings and regionally oriented retail

Who is ESBG? ESBG is the voice of Europe’s savings and regionally oriented retail banks. ESBG’s members share a long European banking tradition and form an integral and substantial part of Europe’s retail banking landscape. True to their origins, they subscribe to the principles of responsible retail banking, as summarised in the ESBG Charter for Responsible Business.

The ongoing financial and economic crisis challenges many long held views on the financial sector itself and on the appropriate regulatory and supervisory framework. At the same time, the long-lasting EU debate on financial sector integration continues at both the political and the policy level. As the European voice of savings and regionally oriented retail banks, ESBG is taking this opportunity to present its contributions on the different retail banking related issues to the new European Parliament and the new European Commission.

This report lays out ESBG’s views and recommendations in three broad areas.


The first part of the report addresses the current financial crisis and presents ESBG’s key messages and contributions to ongoing political debates.


The second part of the report takes a long term view and names and explains core parameters for retail banking sector integration, which are essential for any reality-based strategy for the future of Europe’s retail banking sector.


The third part of the report addresses concrete retail banking policy issues and presents ESBG’s views and recommendations in relevant areas.

PART 1 The financial and economic crisis: ESBG key-messages and contributions

The current financial crisis sheds a new light on Europe’s banking sector and has challenged national governments to take unprecedented action. Similarly, the crisis calls for steps in the areas of banking supervision and financial sector regulation.

Crisis, banks and economy – ESBG views on lending, business ethics and state aid

Maintaining access to credit for the real economy is essential. Fears of a severe Europe-wide ‘credit crunch’ and a break-down in bank lending to the real economy have not materialized. This is largely due to the stabilizing and balancing characteristics of Europe’s banking sector, and in particular to its pluralistic structure in which different bank types and business models compete and coexist. By contributing to the overall stability of the financial system, pluralism in the banking sector truly confirms its value for Europe’s economy and markets. In the retail banking area, many ESBG members have maintained or even increased lending to the real economy since the onset of the crisis. This underlines the stabilising effect of regionally active and committed retail banks and the importance of locally made banking decisions for adequate and stable financing of the local economy.


The crisis demonstrates that fundamental mismatches between the banking sector and the real economy are not sustainable. The suddenly exposed fragility of the financial system demonstrates that the priorities of banks need to be aligned with their true purpose in the economy. This fundamental idea is embodied in the traditional savings banks model. On a general level, banking needs to return to a realistic and sound approach, which does not lie in a race for ‘fast’ but unsustainable profits. For retail banking this implies a clear focus on the efficient, conscientious and responsible provision of financial services and products to the real economy. Correspondingly, a uniform banking sector whose behaviour imperils the wider economy can no longer be an acceptable vision for policy makers nor for some parts of the banking sector. It is the duty and responsibility of policy makers to safeguard a pluralistic sector in which the principles of comprehensiveness, responsibility and sustainability are well represented.

The crisis has led to a wave of state aid to financial institutions. The efforts of European Commission and national governments to support financial institutions and to guarantee financial stability are important, necessary and adequate. Still, a central criterion is that state-aid must be granted with the clear objective to achieve or maintain the overall health of the banking sector – it may not carry a cost to sound and healthy institutions. Any state aid measure must be designed in order to fit with the national circumstances and needs to be adaptable to the challenges individual institutions are facing. Yet there remains some concern that national state-aid measures can translate into persistent competitive imbalances both across markets and within markets. Therefore policy makers need to exert all efforts to prevent state aid from affecting competition between beneficiaries and non-recipients. This is also important as it is unrealistic to expect that competition distortions and damages to the sound parts of the banking sector can be repaired at leisure after the crisis is overcome.

Challenges to Europe’s regulators and supervisors

The current financial crisis also challenges Europe’s policy makers to identify and correct shortcomings of the EU regulatory and supervisory framework. The analysis of the reasons and dynamics behind the current financial markets crisis has been progressing with great strides. EU policy makers have not hesitated to act on the lessons learned and to initiate corrections in those areas where they have identified the need and scope for corrections. While the ongoing approach tackles a rather wide range of policy objectives, the paramount goal of legislative initiatives is to safeguard future financial stability. Looking at the initiatives under way it is important to note that, while great efforts are being taken to improve existing legislation and institutional frameworks, a substantial part of the discussion also focuses on extending regulatory coverage to previously unregulated entities and activities.

Looking at the ongoing revisions of the EU supervisory and regulatory framework, EU policy makers rightly aim to build on existing foundations and make the best use of past achievements. ESBG would like to stress that in order to adequately take account of the interlinkages between the different areas under the spot light, a holistic approach is vital. It is also important that EU policy makers keep the ambition to regulate Europe’s financial sectors in a way which promotes its strengths and takes due consideration of the diversity of its financial sector. The application of common rules under the guidance of an overarching proportionality principle would contribute to safeguarding the valuable diversity in EU’s banking markets.

Yet some words of caution are necessary. The temptation of short-termism must be resisted not only by financial intermediaries, but also by regulators and policy makers. A clear distinction needs to be maintained between measures addressing immediate concerns and long-term improvements to the regulatory framework. The implementation of corrective measures needs to be carefully adjusted to the real economic environment and to the pace at which the European economy overcomes the current crisis. The current political momentum should not be lost, yet undue haste may ultimately prove counterproductive.

The current expansion of regulation to previously unregulated financial actors and activities is a timely and necessary response to the lessons Europe and the world have been forced to learn in the last two years. Policy makers are rightly extending regulation to those formerly unregulated financial market participants whose actions have contributed significantly to the crisis or whose activities could pose future systemic risks to financial market stability. Especially the EU regulation of credit rating agencies is long overdue, given their fundamental role in the financial sector and the potential implications for financial stability.


PART 2 European retail banking market integration: core parameters for a reality-based approach

The current financial crisis and the analysis of necessary lessons and responses may dominate the current political agenda. Yet, the long-run EU debate on a further integration of the retail banking sector is ongoing. In the second part of the report, ESBG presents core-parameters for a reality-based European approach.

Retail banking realities and their implications for market integration

Of key importance for any approach to sector integration is that retail banking is a local business: Demand for retail banking is local and the business itself builds on personal contact between banks and customers (relationship banking). With regard to SMEs the local dimension of retail banking is even more crucial, since an adequate bank-customer relationship builds on detailed knowledge of the SME and its business environment. Consequently, branch networks are essential for comprehensive retail banking. Online banking facilities are becoming increasingly wide-spread; they complement, but do not reduce, the importance of proximity. Not only does the local character of retail banking set the rules for banks’ business strategies, competition and market entry, also the financial inclusion of Europe’s regions builds on full coverage of branch networks. For the further integration of Europe’s retail banking markets the importance of proximity means that successful entry into new markets requires substantial investments in branch networks and in local knowledge. This is especially true since the essential factor for banks’ success is customer satisfaction. ‘Pure’ cross-border provision of retail financial services on a large scale is an unrealistic proposition due to lack of demand and lack of suitability for the business at hand.

For these same reasons, distance marketing techniques – for example ‘direct banking’ – cannot substitute physical bank branches. Looking at the natural constraints of the ‘direct banking’ business model (with its near exclusive reliance on the internet as a basis for contact with customers), it becomes apparent that its economic benefits can be dubious – especially in a cross-border context. It neither promises comprehensive coverage in terms of retail banking services, nor is it certain that the consumers’ deposits are optimally used to fund economic actitvity.

Any conscientious assessment for the scope for more sector integration needs to take into account that retail banking competition is multi-dimensional. A vital part of competition goes beyond prices (fees and interest rates) and works via customer satisfaction and trust, depth of service, and regional coverage. Therefore customer choice is always a trade-off between ‘hard’ factors and ‘soft’ factors, which in turn may be reflected in prices. For integration this means that any market entrant has to compete not only in terms of prices, but also to meet a range of wider criteria demanded by customers. Furthermore, at the national level, Europe’s banking markets are already characterized by high levels of competition. Since retail banking is local, this translates into intense competition at the EU level.

Diversity in retail banking and sector integration

Looking at banking practices, sector structures and market participants, the diversity and pluralism of the EU retail banking sector is striking. This richness in retail banking practices and the pluralism of market players are the results of different banking traditions and the adaptation to different economic environments.

The differences in demand for retail financial services all over Europe are – to a large extent – a result of differences in cultural and socioeconomic factors, savings cultures, housing and labour market specifities and government policies. Differences in banking practices, in product design or pricing patterns consequently stem from an adaptation to specific features of demand and underlying conditions.

Similarly, in each country the structure of the financial sector reflects the needs of the producing sector and citizens, and therefore the structure of the economy itself. As a logical consequence sector structures vary accordingly across Europe.

ESBG has always emphasized that pluralism in the retail banking sector is an asset for Europe: it benefits the real economy, drives competition and increases financial stability. Pluralism ensures that the European banking sector is more than the ‘sum of its parts’. As regards the integration of Europe’s retail banking market, it is therefore essential for Europe to make the most of its strengths and to develop an integration strategy which respects and appreciates the diversity of market players.


PART 3 EU retail banking policy: ESBG contributions and recommendations

Part 3 of this report presents ESBG’s views and recommendations on the retail banking related policy issues currently under debate.

Banking supervision

The EU debate on banking supervision has gained momentum with the outbreak of the financial crisis. The recent market events have, however, not changed ESBG’s belief that reforms in this area have to build on the strengths of the current framework – such as the strong involvement of the national supervisory authorities.

Looking at the changes currently envisaged, ESBG supports the combined focus on micro and macro prudential supervision. Of particular importance is the new focus on macro-prudential aspects of financial stability. Here, the main challenge will be to ensure that the future EU macro-prudential body on financial stability will effectively and efficiently carry out its tasks. Turning to micro prudential supervision, ESBG generally supports the establishment of a European System of Financial Supervisors, which will be a decentralized network of national supervisors with coordinating roles for the envisaged three new ‘European Supervisory Authorities’.

The financial crisis has also revealed weaknesses in the current prudential regulatory framework. Yet, this does not mean that it is necessary to completely overhaul the rules in place. EU policy makers should correct the identified weaknesses by building on the Basel II framework.

As regards the process to be followed, repairs to the regulatory framework should observe the ‘Better Regulation’ approach. In addition, the timing for the introduction of new rules is important, as measures which would have positive effects in the long run could prove counterproductive if introduced in the current exceptional market conditions.

ESBG supports the efforts to ensure the appropriateness of rules in areas such as securitization or banks’ trading book. At the same time, it has to be ensured that the new rules envisaged are a true response to the identified problems and do not endanger practices that have proven their effectiveness from a market stability or risk management perspective.

ESBG welcomes the recently adopted revised version of the Deposit Guarantee Schemes Directive, which reflects the importance of Deposit Guarantee Schemes for stability in financial markets and consumer confidence. As regards the additional changes to the Directive currently envisaged, the different national Deposit Guarantee Schemes should be maintained, as they have the important advantage of attributing local responsibility and social control. Finally, no further reduction of the payout delay, which would come “on top” of the reductions introduced by the revised DGS, would be manageable.

Financial reporting I – Fair-value accounting

In its 1999 “Financial Services Action Plan”, the European Commission announced its intention to improve the Single Market for financial services. One of the objectives was to obtain a single set of accounting standards for all European listed companies that was better adapted to the increased use of financial instruments. The standards chosen were the International Financial Reporting Standards (IFRS)/International Accounting Standards (IAS) which introduced the accounting notion of fair value. Fair value changed the philosophy of national accounting standards as it introduced the idea that assets and liabilities had to be re-evaluated on a regular basis according to their current market value. Fair value encountered a lot of attention from both sides of the Atlantic in light of the financial crisis. During autumn 2008, numerous changes in the standards related to the valuation of financial instruments at fair value (mostly concerning the accounting standard called IAS 39) were introduced. All of these changes aimed to provide flexibility in the application of fair value – especially concerning the measure of financial instruments in illiquid markets. In early summer 2009, proposals were issued to replace fair value guidance contained in various IFRS with a single, unified definition of fair value, soon followed by a proposal to replace IAS 39 by a new standard. The ongoing discussions concern the pro-cyclicality effect of fair value, the valuation of illiquid assets and the fair value classification rules in balance sheets.


ESBG strongly supports a more flexible application of fair value when it comes to illiquid financial instruments but also defends a practical approach to the relationship between fair value accounting and the economic downturn. Over-reliance on market value not only significantly increases pro-cyclicality, but also results in providing an inaccurate image of a company’s financial situation.

There is a need for more user friendly, simpler and more standardised rules of fair value disclosures and calculation requirements. More coherence between American and European accounting standards is necessary. Additionally, a higher degree of harmonisation between fair value requirements is demanded by financial reports and those required by supervisory regulations. Better transparency would benefit both users and preparers of financial standards as it will diminish their workload and strengthen the European Single Market.

Finally, it is very important for the EU to adopt measures on fair value that take the exceptional circumstances in the markets into account and are in line with the measures taken in the United States. Thorough reconsideration of the existing accounting practices and accounting rules is necessary in the long term.

Financial reporting II – IFRS and SMEs

Small and Medium-sized Enterprises (SMEs) form the backbone of the European economy and savings banks are their natural business partners. In order to improve the Single Market, the European Commission has proposed adapting accounting requirements for SMEs and for publicly traded companies. The Commission’s initiatives include a reduction of the reporting burden for SMEs and the endorsement of a common set of accounting rules for listed companies – the International Financial Reporting Standards (IFRS). The International Accounting Standards Board (IASB) took the initiative to propose an extension and a simplification of IFRS accounting rules for SMEs. This initiative raised controversial discussions amongst stakeholders and policy makers involved.

In general, savings banks do not have any strong preference on the accounting standards that their SME clients apply. More specifically, ESBG members can adapt to the accounting standard used by SMEs, be it a national General Accepted Accounting Principle or on an international accounting standard specifically designed for SMEs. Therefore, ESBG’s major interest is to ensure that SMEs benefit from the best possible accounting standards both in terms of simplicity and comprehensibility.

Against this background, the IFRS for SMEs should be an option. In addition, substantial reductions of disclosure requirements are still necessary. With regard to the IASB proposal to revise the standards every three years, the time frame for modifications and further developments of the standards should be extended in order to avoid additional administrative burden for SMEs. Concerning the content of the IFRS for SMEs, ESBG, being the natural business partners of SMEs, defends a practical, cash-flow and solvency oriented approach.

Finally, the scope of entities obliged to report in accordance with full IFRS should not be expanded to include banks and insurance companies as being publicly accountable entities unless they are capital-market oriented.

Wholesale payments and settlements infrastructure

Concerning wholesale payments and settlement infrastructure, ESBG supports the continued development of central bank infrastructure that effectively enables finality and certainty. Yet the public good dimension of these initiatives should not be lost from sight, as this is one of the core factors which distinguish them from commercial initiatives. As a consequence, particular care should be paid to ensuring that the level playing field is not even inadvertently jeopardized, for example by constraints that make direct access to payment and settlement systems unattractive.

Capital markets

The Financial Services Action Plan (FSAP) has introduced substantial changes to the rules in place to ensure the safety, integrity and accessibility of Europe’s financial markets. Important pieces of legislation include MiFID, the Prospectuses Directive, the Market Abuse Directive and the Transparency Directive. After a phase of adoption and implementation, the time has now come to review these texts: the best should be made out of this opportunity to correct errors and assess the effects of the measures in place.


It is still premature to draw final conclusions on the Markets in Financial Instruments Directive (MiFID). This being said, and also due to the heavy cost associated with compliance, a period of continuity and contemplation is now necessary so that the full effects of MiFID can unfold and be assessed. This is the case not only for the conduct of business related aspects of MiFID, but also for all the provisions which will undoubtedly significantly change the shape and structure of Europe’s financial markets. A subsequent and realistic assessment of MiFID should not only aim at identifying weaknesses and reducing any excess burden; it also should honestly take stock as to whether MiFID equally benefited all market participants and whether the principles of subsidiarity and proportionality were fully respected.

The Prospectus Directive has already demonstrated its viability and has brought about some improvements. Therefore, its upcoming revision should focus on further reducing burden, also taking due account of the retail banking realities and of the specificities of smaller banks. This would imply raising the size-threshold for the exemption of smaller credit institutions, given the substantial burden associated with providing a prospectus.

As regards the recent developments relating to asset management and investment funds, ESBG welcomes UCITS IV, which benefits investors and further improves the internal market for collective investment in transferable securities. Looking ahead, it is of great importance to preserve the spirit of UCITS as safe products for retail investors.

ESBG supports the decision to initiate regulation of Alternative Investment Funds. Yet ESBG is concerned about a number of vague elements in the Commission’s proposal for a Directive, which is currently being assessed. Furthermore, ESBG welcomes the ongoing initiative to explore how a framework for all packaged retail investment products could work in practice, anticipating already that in this area a flexible approach is necessary given the diversity in existing products.

Consumer policy in the area of retail financial services

In recent years, consumer protection has become one of the cornerstones of European policy in retail financial services. The European Commission aims to improve the relationship between citizens and financial market players, thereby increasing consumers’ confidence in the European Single Market and promoting a level playing field for competition within the financial sector. Yet the Commission has continuously underestimated consumers’ reluctance to purchase financial products on a cross- border basis because they prefer the face-to-face communication with their financial service providers.

As regards the area of consumer credit, the recent Consumer Credit Directive aims at granting consumers with an appropriate degree of protection. However, the Directive imposes additional, unnecessary administrative burdens on financial institutions. Furthermore, the Directive causes uncertainties regarding topics such as overdrafts, pre-contractual information, the definition of the annual percentage rate of charge, early repayment and the right of withdrawal. Therefore, further clarifications of these aspects in the Consumer Credit Directive are necessary.

In the area of mortgage credit, ESBG welcomes the different initiatives of the Commission to thoroughly assess possible future developments in order to increase the cross-border supply of mortgage credit. The most important initiatives being taken are, among others, the revision of European Standardised Information Sheet (ESIS), the study on the costs and benefits of different policy options for mortgage, the study on land registration, property valuation and foreclosure procedures, credit histories and the announced package on responsible lending and borrowing. Generally, ESBG welcomes the voluntary self-binding approach of the industry to meet consumers’ actual needs and notes that future mandatory rules should not aim at going beyond those needs. Against this background, the package on responsible lending and borrowing should achieve a fair spread of responsibilities between consumers and lending institutions.

Concerning consumer redress, ESBG supports the Commission’s initiatives to reinforce the provisions of effective and efficient dispute resolution and redress mechanisms for consumers. ESBG favours out-of-court settlement procedures and stresses the need for the further assessment of existing redress and alternative dispute resolution systems at the Member State level.

In the context of European contract law, ESBG supports in principle the initiative of a handbook to achieve a coherent and consistent European legislative framework. Nevertheless, for a future Common Frame of Reference an open exchange of views as well as an appropriate impact assessment are called for. Furthermore, there is concern about the legal basis for the Common Frame of Reference.


In general, ESBG supports the initiatives of the Commission to simplify and to make European consumer rights legislation

consistent, but believes in the need to strike the right balance between consumer protection and the industry’s competitiveness and therewith the functioning of the retail financial market.

Retail payments

A strategically critical part of retail banks’ activities concerns payments. Firstly, concerning retail and commercial payments,

ESBG observes that the Single European Payments Area (SEPA) will to great extent be a product of political vision and legislation. Here, the current approach to regulate a function performed by market players (payment account, payment services) rather than market players themselves on the basis of their institutional status is a major – and still untested – legislative innovation. In concrete terms, the success of SEPA, first and foremost depends on the adoption of SEPA payments instruments by national authorities. Ultimately, however, the goal of the SEPA project must be to fulfill the interests of those who are to become its beneficiaries, i.e. the retail customers.

Anti-money laundering, counter terrorist financing and financial institutions

In order to protect the global financial system from illicit financial activities and to enhance the integrity of financial markets, the

prevention of money laundering and of the financing of terrorism is essential. In Europe, the creation of the Single Market provides advantages for business and consumers. It also increases the opportunities for money laundering and financial crime activities.

Therefore, ESBG welcomes the Commission’s initiatives in this area, such as the Third Anti-Money Laundering Directive. One of the concerns is the extent of the legal obligation to identify and verify the identity of a customer and a beneficial owner which can be difficult. Credit institutions do not have access to sufficient and reliable information to carry out such an intensive identification. Moreover, there is a need for clearer guidelines on the extent of investigation which banks need to undergo in order to be considered compliant with the rules on beneficial ownership.

Another related area is the fight against proliferation financing in which ESBG members are very active. At the same time, the expectations of what financial institutions are able to contribute in this fight must remain realistic. Financial institutions often do not have the insight into the underlying business transaction and details required to pass a judgement on the possibility of proliferation financing as being the underlying aim of the financial transaction. In this respect, the red-flag indicators of the Financial Actions Task Force which serve to help identify transactions with a potential proliferation background, are not suitable. Thus, ESBG calls for describing characteristics in clear and unambiguous terms, not containing elements requiring further individual assessment.

During the drafting process of the financial sanctions, European regulators and international organisations should take the work

of credit institutions in practice more into account in order to ensure a better and effective implementation.

Looking ahead, ESBG welcomes effective regulatory initiatives in the future and will actively participate and share the industry’s experiences in order to maintain realistic expectations as to what financial institutions are able to achieve in practice.

SME financing

ESBG members, traditionally natural business partners of SMEs, are among the most important providers of SME finance and important partners to microenterprises. Therefore, ESBG in general welcomes the measures taken by the European Commission towards improving the business environment for SMEs. However, there is still work to be done in the area of administrative rules and regulations, access to finance in the form of financial support programmes, microcredit and lending, cross-border activities, and CSR for SMEs. In the context of the Small Business Act for Europe, ESBG agrees that the policies for SMEs need to be coordinated at the EU level and should be subject to the ‘Think Small First’ principle in order to avoid excessive administrative burdens for SMEs.


Furthermore, the registration procedure for setting up an SME, access to the Single Market, and the ability to operate cross- border all need to be enhanced for SMEs. Regarding the financing of SMEs, it is necessary to bring coherence, to communicate and to clearly define the aim and target groups of different existing European financial support programmes. With regards to the provision of microcredit, the EU focus should primarily be on facilitating microcredit at the national, regional or local level – as close to the client as possible. In any case, support measures in favour of microcredit on the EU level, such as the JASMINE initiative should be targeted to all intermediaries in order to reap the full benefits of microcredit in the form of growth and job creation.

Financial inclusion and financial education

Serving the general interest of society is the savings banks’ initial purpose and an integral part of their identity. For a stable society, economy, and well-functioning financial system, it is necessary and desirable to have knowledgeable European citizens who are well-informed in financial matters and who have access to the financial system. Therefore, ESBG generally welcomes the current discussions on financial education and financial inclusion at EU level.

However, as promoters of financial inclusion for all citizens, ESBG strongly advocates for a strict application of the principle of subsidiarity and for dealing with financial inclusion at the national level. This is also the case involving access to a bank account, which is one of the most crucial parts of financial inclusion. Specific approaches tailored to different national, regional or even local contexts and traditions are needed where the problem of financial exclusion occurs. Financial institutions should offer specific adapted products and services, provide adequate information and financial education. However, initiatives to foster financial inclusion and enhance access to basic banking services should always be taken on a voluntary basis and cannot be imposed on banks by regulation.

As a representative of financial institutions with a strong commitment to Corporate Social Responsibility (CSR) ensuring the empowerment of consumers, ESBG considers that the financial education of citizens is a task to be dealt with at the national level. Stakeholders have a responsibility in fostering financial education. Government and public institutions should provide policy orientation and raise awareness, while financial institutions should be involved in creating financial education programmes and schemes. Here, many savings banks play a key role in educating people on finance and budget matters, far beyond their actual clientèle. These savings banks have the necessary knowledge and expertise to share best practices.



WHO IS ESBG? 1. ESBG – The European voice of savings and retail banking: identity, values

1. ESBG – The European voice of savings and retail banking: identity, values and tradition

The European Savings Banks Group (ESBG) is the voice of savings and regionally oriented retail banks in Europe. Together, ESBG members represent about one third of the retail banking sector in Europe with total assets of EUR 6,028 billion (as of 1 January 2008).

ESBG members are modern and innovative providers of retail banking services. They form a cornerstone of Europe’s pluralistic banking sector, which is distinguished by its diversity of banking traditions and business models. At the same time, ESBG members do not form one uniform block and a ‘proto-type’ savings bank does not exist. Rather the savings banks’ universe itself is very diverse. This diversity reflects differences not only in the evolution of the savings banks themselves, but also in the underlying economic and political conditions in their national markets. Overarching this diversity, however, is a shared business approach and shared values which constitute a strong common denominator.

The strongest common link between ESBG members is their values. All banks and institutions represented by ESBG stand for socially responsible banking that brings a return to society. At the same time they are efficiently operated, competitive institutions. In broad terms, ESBG members are characterized by what we call the three “R”:


Retail: they are active in providing retail financial services for individual consumers, households, SMEs and local authorities;


Regional: they are often organised in broad decentralised networks providing local and regional outreach and offer their services throughout their region;


Responsible: they have reinvested responsibly in their region for many decades and are one distinct benchmark for corporate social responsibility activities throughout Europe and the world.

ESBG members include savings banks, their descendants and other retail banks that subscribe to similar values. Although their organizational structure differs from country to country, they have evolved from common roots and a tradition established in many parts of Europe in the 19th century. This tradition fostered a culture of savings among the poorer classes of the population so as to create some level of financial security in times of adversity and old age. The savings that were collected in this way were reinvested in the local ‘real economy’ and also used to finance cultural and social projects for the benefit of the community. This original business philosophy continues to have a fundamental influence on the business approach of the savings and retail banks that make up the ESBG membership.

2. ESBG members in the European banking landscape

As banks and providers of retail financial services, ESBG members make up a large and substantial component of their local and national economies and form an important part of Europe’s pluralistic banking landscape. This is underlined by the data presented in the following sections (all tables referred to can be found in the Annex 1 - Statistics, Part 1).

ESBG members range from individual banks to national banking associations, networks and groups. ESBG’s direct members, as well as the different credit institutions represented by ESBG at the EU level are presented in Table 1. In the following, information on ESBG members is juxtaposed onto data on the EU banking sector as a whole, drawing mainly on data collected by the ECB.



ESBG members – integrated within the European banking sector

With regard to the national banking sectors, the numbers of independent credit institutions active in Member States differ

strongly. 1 In part, of course, this is a result of differences in country size and in the importance of the financial sector as an industry. Nevertheless, structural differences play a role also. In several countries the banking sector is characterised by the presence of a large number of smaller banks – often organised in networks and/or operating within a limited geographical radius.

In other countries the total number of credit institutions is comparatively low. The numbers of credit institutions represented by

ESBG in selected countries largely reflect the structural characteristics of the national banking markets. This demonstrates that the organisation of savings banks is inherent in the evolution of national banking traditions.

A remarkable development over the last decade is that the number of banks has decreased substantially in most countries.

This is due mainly to a high degree of sector consolidation. This development is also reflected in the evolution of the savings banks sector. Yet, looking only at the time-span between 2005 and 2007, many Member States (and not only new Member States) have

in fact experienced an increase in the number of banks. The general trend of consolidation in the national banking sectors is

strong, but not persistent, also as a result of market entry by new banks.

Looking at banking sector assets in the EU, it is evident that assets in the financial sector are largely driven by the total size of the economy, and also by the importance of the national financial industry as an economic and export sector. 2 These factors are also reflected in the size of ESBG members in terms of assets. 3 Furthermore, to grasp correctly the importance of ESBG members

in the banking sector (as regards assets) it must be taken into account that they traditionally focus on retail banking, and that

hence many of them may hold a smaller share of wholesale financial assets than other market participants. All in all the numbers confirm that, in terms of assets, Europe’s savings and regionally oriented retail banks are clearly important players in their economies.

As regards employment within Member States, the banking sector is a significant industry. 4 Furthermore, employment in the banking sector as a share of total domestic employment is comparatively stable across Member States – with the obvious exception of those markets which specialise in and ‘export’ financial services. Yet, different banking activities differ in employment terms and, compared to other forms of financial services activity, retail banking is particularly labour intensive. Therefore it is not surprising that many ESBG members are large employers in absolute terms, as well as within their national financial sectors. 5

2.2. ESBG members – a substantial part of the European banking sector

A central feature of retail banking is the importance of banks’ local presence and therefore of bank branches. 6 Given their retail

banking focus it is therefore natural that ESBG members run large branch networks. 7 They also are well represented within their national markets, as indicated by their generally substantial share of total branches within the domestic banking markets. In more general terms, this demonstrates – and is inherent in – their important role in the national retail banking infrastructure.

Throughout the EU as well as for ESBG members, the great relevance of branches is mirrored by the importance of ATMs. 8 Here it is remarkable that the whole EU banking sector and ESBG members alike are generally distinguished by a high and steady increase in the number of ATMs. ESBG members’ often substantial shares of the total number of ATMs in a given national market are characteristic of their importance as retail banking providers.

The points made above are further underlined by the number of bank branches, banking sector employees and ATMs per million inhabitants in each country. 9 Such a comparison not only demonstrates the depth of national financial infrastructure (EU data), but also illustrates how deeply embedded ESBG members are in their markets.

1 See Table 2.

2 See Table 3A.

3 See Table 3B.

4 See Table 4A.

5 See Table 4B.

6 See Table 5A for the total numbers of branches in the EU, as well as their evolution.

7 See Table 5B.

8 For numbers in the EU see Table 6A, for ESBG members see Table 6B.

9 See Table 7.


Looking at ESBG members’ market shares, the importance of Europe’s savings banks and regionally oriented retail banks in their traditional markets is clearly reflected. In core retail banking activities like savings deposits and the lending to households, many ESBG members play a significant role in their domestic markets. Similar patterns are evident for consumer credit and residential mortgage loans. 10

However, ESBG members not only perform strongly as lenders and deposit providers. True to the character of stable ‘savings’ banks, they also draw to a high degree on non-bank deposits for their funding – generally beyond the average in their national markets. 11

3. ESBG and responsible banking

ESBG member banks have a strong commitment to sustainable development and address their corporate social responsibility (CSR) as an integral part of their business. In this context “CSR” is defined as a concept whereby companies integrate social and environmental concerns into their business operations and their interaction with their stakeholders on a voluntary basis.

The ESBG Charter for Responsible Business

ESBG members’ consistent commitment to sustainable development and CSR in their local communities and regions has been formalised with the adoption of the ESBG Charter for Responsible Business by the ESBG General Assembly in May 2008. At the same time, the ESBG General Assembly adopted a Resolution on the Environment. The texts of the Charter and of the Resolution are available on the ESBG website:

The ESBG Charter for Responsible Business contains a number of principles under the general headings of:


Fair and clear relations with customers;


Promotion of accessibility and financial inclusion;


Environment-friendly business;


Making a responsible contribution to the community;


Responsible employers;



The ESBG Charter serves as a rubric for the responsible banking activities of the member institutions. This does not, however, imply that it is a guide for companies. Rather, it is a compilation of overarching principles that categorise the aspirations as well as the activities already undertaken by ESBG member institutions. Below are some examples of how ESBG members apply these principles, including those related to environmentally-friendly business, in their local and regional business areas. Further examples can be found in Annex 2 “ESBG Charter for Responsible Business: Case Studies” and on the ESBG Internet site

Fair and clear relations with customers

ESBG members enjoy the confidence and trust of large sections of the population and nurture this position through transparency in their relations with customers. This is done in a number of different ways, such as:


Clear and honest information on the products and services on offer as well as on the terms and conditions of use;


Ensuring that this information is easily accessible to customers;


Providing advice that is tailored to the needs of customers;


Responsible advertising;


Dealing with customer complaints quickly and efficiently;


Considering cases of financial difficulty sympathetically.

10 See Table 8.

11 For the EU see Table 9A, for ESBG members see Table 9B.


One particularly innovative example is the following:

Caja Navarra in Spain: Plan Cantera-“civic rights for customers”

Caja Navarra (CAN) created a different business model in 2004, focussing on the needs of the community and its members. The concept was developed as an action plan to increase customer recognition of its “Obra Social 12 ” projects and thus to differentiate themselves in the market. CAN decided to create an emotional link by giving its customers the rights to decide where the profits of the bank should be invested. The Plan Cantera for the period 2007-2010 was the second stage of this busines model. This plan includes the initiative “You choose, you decide”, of which civic banking is the key element. Thus, clients have been given some important rights such as the right to know how much money CAN makes from each customer and the specific contribution each customer makes to their chosen social project(s) (see Annex 2).

Promotion of accessibility and financial inclusion

Savings banks are by tradition important promoters of financial inclusion for all people. This commitment is part of their mission and is demonstrated in the way they conduct their daily business. ESBG is certain that access to finance can and should be increased. This can be done by offering specific products and services, by providing adequate information and by providing financial education. Many ESBG members have introduced specific, targeted schemes to ensure that the most vulnerable parts of the population also have access to necessary basic financial services. This entails offering a range of specific savings products, payment solutions and credits.

This commitment is illustrated by the example below:

Microcredit programme in France – “Parcours Confiance”

In 2006, the French Caisses d’Epargne launched the “Parcours Confiance” (eng. “Fresh Start”) programme to prevent financial exclusion. The programme aims to help customers suffering from personal and financial problems to have a better understanding of banking products and services. This programme also allows for the possibility to provide the beneficiary with microloans backed by guarantees. Until the end of 2008 4,495 microloans have been granted since the system was launched in 2006. The breakdown was 3,275 personal microloans and 1,220 business microloans (See Annex 2).

Environment-friendly business

As part of their community investment activities, ESBG members have a longstanding commitment to supporting environmental projects financially and raising public and stakeholders’ awareness on the importance of protecting and preserving the environment.

In practical terms this means:


Introducing environmental criteria into lending policies: e.g. carrying out environmental impact assessments, complying with recognized external environmental and social standards, certification with ISO 14001 (the international environmental management standard), etc;


Supporting national and international initiatives in favour of a greener financial sector: e.g. through the United Nations Environment Programme Finance Initiative, the Carbon Disclosure Project, subscribing to the Equator principles, etc.;

12 Scheme by which all Spanish savings banks allocate their net surplus (after paying taxes and allocating provisions and reserves) to the management and financing of community investment programmes (social, cultural, environmental, health, research, etc).



Developing specific lines of financing for environmental projects for both private and business clients: e.g. for improving insulation and heating efficiency for homes and business premises;


Offering environmentally-friendly products and services such as bonds to finance renewable energy projects: e.g. “Climatic Awareness Bonds” issued by the European Investment Bank that the Spanish savings banks sell to their clients as an environmental product and the issue of bonds to finance wind power plants in Galicia;


Offering socially responsible investment (SRI) products for institutional and private investors that reconcile ecological and social objectives, using independent sustainability ratings;


Partnership with specialised organisations to support engagement in sustainable development;


Last but not least, a commitment to reduce the direct use of energy and resources – in particular in office buildings and business travel in order to reduce corporate induced CO2 emissions. Efforts are also being made to reduce indirect emissions, by bringing in environmental considerations in the choice of suppliers and through environmental awareness raising actions with employees and customers.

Some Facts and Figures


The Spanish savings banks contributed over EUR 2,000 million to “Obra Social 13 ” in 2008, an increase of almost 13% over 2007. EUR 112 million of this amount went to environmental initiatives.


As part of their common welfare engagement, the German Sparkassen-Finanzgruppe invested some EUR 445 million in various community projects, including environmental projects, in 2008.


The Austrian Savings Banks Group is a market leader with a 45% share of the total market of core socially responsible investment (SRI) in Austria, which totalled EUR 1.17 billion at the end of 2007.


Groupe Caisse d’Epargne has laid out the following objectives:

- to cut direct CO2 emissions by 3% per year;

- to finance 1,000 projects for the environment;

- to grant 10,000 microcredits;

- to dedicate 1% of the net banking income to solidarity.

Further case study examples of the commitment of ESBG members in the area of environmentally friendly business can be found

in Annex 2.

Making a responsible contribution to the community

Savings banks traditionally embody a “stakeholder” model – seeking to bring value and return to the entire community of stakeholders which surrounds them, and not only to their financial partners. Stakeholders therefore include investors, suppliers, customers, employees and more generally the local community in which savings banks operate. Savings banks constantly interact

with the various categories of stakeholders, ensuring that their views are sought and given consideration at the various stages of

a given project, enabling them to make balanced and fully informed long-term strategic decisions.

Historically, savings banks have been the first intermediaries to secure the savings and investments of the local population, which they have mobilised to reinvest and develop their surrounding communities. Building on their proximity network and their deep knowledge of local needs, they evolved naturally to become privileged financial partners for local and regional economic projects and have built business relationships with major actors for local development and growth. Thus, they have become the drivers of local economic dynamism – both for the financing of infrastructure through partnership with the local authorities and for micro projects aimed at creating jobs and reducing social exclusion. Over time, savings banks have strengthened their relationship with local development actors by upgrading their services to adapt them to their evolving needs.

13 See definition in the previous footnote.


This commitment is illustrated by the example below:

Savings banks in Germany – Business Angels and Information Centres

In recent years over half of all start-up businesses in Germany were financed by institutions belonging to the German savings banks group – the Sparkassen-Finanzgruppe. Entrepreneurial success often hinges not just on creativity, but also on experience. Therefore, savings banks are increasingly assigning “business angels” to new companies via Business Angels Netzwerk Deutschland (BAND). These knowledgeable business managers have a wealth of experience to offer to new companies, as well as a network of contacts amassed over a long period of time which they can use to help them on their way.

In addition, the Sparkassen-Finanzgruppe has launched a central back-up service called EuropaService to provide support, advice and information to corporate customers with regard to conducting business in the European market (See Annex 2).

Responsible employers

The 870 institutions which ESBG represents in 25 countries employ just over 970,000 people. One of the defining characteristics of these institutions is their role as responsible employers. As such, ESBG member banks:


Are equal opportunity employers that do not discriminate on any grounds;


Provide high-quality jobs and good working conditions for their employees;


Promote a corporate culture of staff identification with the employer and a strong sense of shared values among the staff oriented towards the responsible role of the savings bank;


Provide employees with the opportunity to achieve a good work-life balance;


Promote training and life-long learning opportunities in order to facilitate career advancement;


Pursue a responsible relocation and redundancy policy towards employees in case of reorganisation or restructuring.

This commitment is illustrated by the example below:

Swedbank in Sweden – Supporting Employees with the “55+Concept”

To develop the competence and well-being of its staff, Swedbank has developed a programme for staff aged 55 years and above. The programme aims to improve efficiency, preserve competence throughout the company, and make Swedbank an attractive employer for all ages. The programme involves keep-fit and competence development activities for employees aged 55 and above and the opportunity to “Ease Down” by working less after the age of 58. This initiative has had a significantly positive impact on the way these employees find their working life conditions (See Annex 2).


Transparency and consistent communication with customers and other stakeholders is a key component of the savings and retail banking sector. The communication of activities and policies plays an important role for responsible business. Therefore, ESBG and its members are committed to communicating with the public and stakeholders regarding their activities as socially responsible companies and the implementation of the Charter principles.

Since 2006, ESBG/WSBI has communicated publicly on the implementation of the United Nations Global Compact Principles through regular reports on the socially responsible activities of its members.

This work will now be enhanced by reporting on the implementation of the Charter principles based on the CSR reports of the individual members as well as on reports on conformity with other international reporting initiatives such as the Carbon Disclosure Project (For more: see Annex 2 and


Part 1 The Financial and Economic Crisis:

ESBG Key Messages and Contributions


The current financial and economic crisis – an unprecedented experience

The current financial markets crisis is approaching its second anniversary. It has long outgrown its original nature as a ‘subprime’ crisis, and has developed into a global financial and economic crisis, which many have come to call the worst economic crisis since the Great Depression. For two years, central bankers and policy makers around the world have been making unprecedented efforts to stabilize national financial systems and to prevent an economic downturn of unpredictable depth. Furthermore, large-scale economic plans and fiscal programmes were initiated in order to pave the way to economic recovery. By any standard, these interventions have reached a scale which previously would have been beyond imagination.

In this report, ESBG does not aim to provide a comprehensive overview of the reasons and developments behind the current crisis. 14 Rather, the focus is on the immediate and long-term consequences as seen from a retail banking perspective and as far as they concern ESBG’s members. Therefore the key messages brought forward will mainly address market structures, competition aspects and changes in regulation and the supervisory architecture. ESBG’s contributions on these issues need, of course, to be seen in context of the current fast-changing environment and the general unpredictability of events.

For the financial sector, the precise consequences of the crisis and of governments’ reactions to the crisis are still uncertain. The general expectation is that the global financial sector will significantly shrink in scope and scale, though banks will nevertheless play an even more important role in financial intermediation than at present. In many arenas such a trend is considered part of the necessary correction of past excesses and of the over-stretching of many banks regarding their activities and size. However, it is necessary to distinguish between retail banking on the one hand and investment banking and wholesale banking on the other. In fact, comparing the extent of the mismatch between financial sector and real economy, as well as considering the ensuing problems, it is evident that in the retail banking area the imbalances between financial sector and real economy are much smaller. Also, the market dynamics which contributed to the current crisis were largely driven by developments and practices in wholesale financial markets. It is therefore the wholesale financial market and related areas on which regulators are now focusing – and rightly so – in order to guarantee that such a crisis will not repeat itself.

14 ESBG, however, would refer to the following reports as insightful investigations into origins and nature of the crisis:

• The “Geneva Report” (M. Brunnermeier, A. Crockett, C. Goodhart, A. Persaud and H. Shin 2009. The Fundamental Principles of Financial Regulation. London, Centre for Economic Policy Research.)

• The “de Larosiere Report” (J. de Larosière, L. Balcerowicz, O. Issing, R. Masera, C. Mc Carthy, L. Nyberg, J. Pérez, and O. Ruding 2009. Report by the High Level Group on Financial Supervision in the EU), and

• “The Turner Review” (Financial Services Authority. 2009. The Turner Review – A Regulatory Response to the Global Banking Crisis”).


In this context it is also necessary to take full account of the fact that one of the trends contributing to this crisis was excessive trust in a financial market where the leading banks were those who followed the ambitious goal of continuous ‘over-performance’. This led to a self-propagating culture of aiming at excessively high returns while accepting excessively high risks and relying excessively on smooth wholesale markets for funding. In retrospect the risks associated with such strategies appear obvious, yet, at the time, many considered this philosophy of banking superior to more conservative banking practices. This view was also taken by several policy makers valuing extraordinary returns as signs of greater efficiency and progress. For these reasons it is now time to reassess the purpose and performance of credit institutions in particular and of the financial sector in general.

Looking ahead, the way in which Europe redefines its ‘vision of banking’ will strongly drive the stabilization measures used and the way in which they will ultimately be implemented at both the national and the European level. Such a vision will also substantially shape the trade-offs Europe will still be willing to make in order to return to financial and economic stability. Given that Europe will have to live with the consequences of those trade-offs for the unforeseeable future, such decisions are not made easily. However, it is of utmost importance that those parts of the financial sector which have proved stable and sustainable are not disadvantaged or unduly burdened by any of the schemes and actions under way or already implemented.

In parallel to political discussions and immediate stabilisation measures, steps are being taken towards forward looking and corrective regulation initiatives. The current regulation initiatives strongly draw on an ongoing analysis of the role played by financial sector regulation, inter-institutional dynamics and intra-institutional decision making. On the basis of these insights, regulators and policy makers strive to correct the weaknesses and shortcomings of the financial regulatory framework. Furthermore it has become a declared goal to improve the supervisory structures in place in order to ensure that supervisors will keep abreast of the developments in the financial sector and are in the position to take effective measures if they deem it necessary. In this context it also is a key priority to achieve even more stability for the integrated European financial market. Here, the differences between large banks (with potentially systemic risks and cross-border activities) and regionally oriented institutions (involved in retail banking) need to be acknowledged and given due consideration notably via the principles of proportionality.

All these are big challenges. In order to overcome them, it is necessary to develop a clear and consistent vision of the future priorities of the European financial sector. It is on this basis that ESBG contributes its views to the current discussions. Chapter 1 will explain and assess the need for ‘revisiting’ expectations of the banking sector. Also addressed are the current trade-offs Europe is currently making, in particular regarding competition on and the structure of financial and banking markets. Chapter 2 summarizes ESBG’s contributions on the currently ongoing policy measures and the discussions on the European supervisory architecture.



The financial and economic crisis is inextricably linked with the role of banks in the real economy. This relationship is highly complex and for the present purpose ESBG would like to focus on the following issues:

First, a differentiated view on the banking sector is particularly important when it comes to assessing banks’ ability to maintain lending in economically difficult times. Since last autumn the spectre of a European ‘credit crunch’ as a result of the crisis has been omnipresent. While such a credit crunch – had it occurred – would indeed have had grave consequences, the approach taken in the general political debate was overly simplistic in its treatment of banks. At least initially it was widely overlooked that different bank types are not only affected differently by financial market events, but also have different priorities and business orientations. Furthermore, the special characteristics of Europe’s retail banking market deserve greater recognition since they play an important role in maintaining stability in lending to the real economy (See Section 1.1).

Second, it is necessary to reassess views on retail banks and on the banking sector in general. In a large part of the ongoing debates it is neglected that, especially in Europe, the ‘financial sector’ consists of a very heterogeneous group of financial actors, whose values and orientation differ significantly. Especially in the case of banks, objectives and positioning within the real economy drive their behaviour as lenders and their long-run strategies. The crisis has only confirmed the values and business approaches of Europe’s savings and regionally oriented retail banks, which should urgently be taken into account in the ongoing public debate on the banking sector (See Section 1.2).

Third, globally and in Europe, state-interventions into the financial sector are taking place in an unprecedented manner and scale. At the EU level, these interventions are necessary for the stabilisation of Europe’s financial system and are being coordinated based upon guidelines laid out by the European Commission. Yet, these interventions may alter or create new conditions for sector integration and competition for the years to come. Therefore, a differentiated approach is necessary given the effect the large-scale interventions may have on national financial sectors (See Section 1.3).



Retail banking and the real economy – bank lending during the crisis

Key messages


Fears of a severe European ‘credit crunch’ to the real economy have, as such, not become reality.


Relationship-banking, proximity and knowledge are key-factors for sustainable lending.


The overall stability of bank lending is largely due to the diversity of market participants who were not all equally affected by the crisis. This underlines the stabilizing and balancing effect of the pluralism in Europe’s banking sector: Pluralism is risk diversification.


Observed decreases in lending or tightening of lending standards need to be seen in context of a recession which affects overall demand for credit and increases the economic risks associated with lending.

Background: dramatic developments after the Lehman Brothers Collapse and the fear of a ‘credit crunch’

Between autumn 2008 and winter 2009, following the collapse of Lehman Brothers, conditions in the already strained financial markets deteriorated and market confidence tumbled to new depths. In Europe, renewed concerns arose regarding the soundness of several banks, which had strongly relied on financing from financial markets. Indeed, the very future of several systemically important European banks suddenly seemed uncertain. Under these circumstances it was questioned to what extent Europe’s financial sector would still be able to fulfil one of its key functions – the provision of credit to the real economy – at a time when the economic downturn had already become a reality. As a result there was a general fear of a Europe-wide ‘credit crunch’ for enterprises and industry.

In this environment several things happened: First, Europe’s national policy makers undertook efforts on an unprecedented scale in order to support the financial sector directly and in a coordinated manner, while following guidelines issued by the European Commission. Second, the Commission extended the possibility for governments to undertake interventions in the form of state aid to SMEs, also including measures designed to stimulate bank lending to SMEs.

Yet, in spite of these measures, the fear of a wider credit crunch and the ensuing great damage to the real economy remain prominent in the public discussion. However, there are different interpretations of what exactly would constitute a credit crunch. For some parties, a tightening in banks’ lending standards or a rise in interest rates already is equivalent to a crunch scenario; others expect unaffordable loans and credit-lines, a shrinking of overall lending volumes or even a widespread and outright denial of credit.


verdict on whether such a credit crunch became reality depends on how a credit crunch


defined. Equally, it is important to differentiate between the potential victims of the

credit crunch. Actors in the real economy are of great diversity, which leads to different exposure to economic downturns as well as to differences in financing needs. In addition, also determined by the size and structure of an enterprise, great differences prevail in their relationship with banks or other creditors.


This being said, over the last year ESBG members’ experience is clear: A severe case of a Europe-wide credit crunch (i.e. a wide supply-driven breakdown of lending to the real economy) has not materialised. 15 Indeed, especially as concerns the retail financial area, ESBG finds that the European banking sector has shown a remarkable degree of resilience. Also, the interpretation of an observed tightening in lending standards as a ‘lighter’ form of a credit crunch, needs to be assessed with caution and differentiation.

A severe Europe-wide credit

crunch has not materialised.

ESBG explanation: EU retail banking sector resilience – a result of its pluralistic structure

The non-manifestation of a severe ‘credit crunch’ is, of course, partially an achievement of the decisive actions by governments to support the financial sector and to promote SME lending. Fundamentally, however, the observed stability in lending stems from the resilience of the European banking system in the retail banking area and at the local level. This resilience is due first to the fact that, in Europe, the financial markets crisis did not turn into a retail banking crisis, given that for Europe’s retail banking sector wholesale funding plays a less decisive role than in other parts of the world. Rather, for many retail and savings banks, customers’ bank deposits are the dominant source of funding. Secondly, looking more closely at European market realities, it is evident that the stability of the sector is a consequence of its pluralistic structure, characterised by the competition of banks with different business models on one level playing field.

The past events show that Europe’s pluralistic market culture is a great asset: the pluralism and the diversity of Europe’s banking sector are key-reasons why aggressive and – now evidently short-lived – business strategies were not the prevalent banking practice in Europe. In fact, pluralism is risk diversification, as the diversity in business models and in market players’ priorities has protected Europe’s economy against a uniform and ‘thundering herd-like’ bank race over the edge of reason and sustainability. It is therefore also due to the pluralistic market culture that there are many banks which are able to maintain and even to increase lending to the economy. Hence it is the pluralism of Europe’s banking sector which gives Europe’s economy the necessary balance and the long breath it will need for recovery.

Another distinguishing feature of Europe’s pluralistic retail banking sector is that a large part of the sector consists of regionally focused credit institutions, which sometimes form networks at a national level. This structure has a direct impact on bank lending as crucial decisions are taken locally, according to local responsibility and judgement. Drawing on input from its members, but also by observing national banking trends, ESBG firmly believes that ultimately Europe was also spared a severe credit crunch because locally active and locally informed retail banks were able and willing to maintain or increase lending – in particular if they had access to strong and stable funding through local deposits. It is therefore evident that traditional banking elements like proximity, sustainability and relationship-banking are critical factors to ensure that credit institutions are able to fulfil their functions as robust lenders to the real economy in a crisis situation.

Pluralism is risk diversification and contributes to financial stability.

Regionally committed banks make regional and local decisions: less chances of

a credit crunch.

15 This observation is also backed, for example, by the June 2009 ECB Financial Stability Review, stating that “… the marked slowdown in bank lending to non-financial corporations appears to be dominated by demand-side factors reflecting the impact of the crisis on the real economy. According to the euro area bank lending survey, the main drivers are a decline in firms’ financing needs for fixed investment, mergers and acquisitions, and corporate restructuring.” (European Central Bank. 2009. Financial Stability Review June 2009. pp 56-57).


ESBG members maintain or even increase lending.

ESBG’s members have proved able and willing to continue and even extend lending. This is a result of their long-standing relationships with their clients which have earned them a competitive advantage in the correct appraisal of risks. In concrete terms, ESBG members, who value their relationships with their SME clients, consider it their responsibility to support them with appropriate liquidity and funding for running their business. Of course this applies also – and especially – in the current difficult economic situation.

ESBG explanation: the impact of the crisis on bank lending to the real economy

Europe’s pluralistic market structure helps secure a supply of credit, but observed bank lending still depends on real economic conditions and prospects which influence demand for credit, lending standards and mid-term lending policy. Therefore a differentiated approach is necessary when assessing banks’ lending behaviour.

Real economic factors have an ambiguous effect on demand for loans.

Lending standards are driven by wider economic conditions.

Ultimately banks’ ability to lend is tied to the ‘real’ economy.


Based on real economic prospects, established entrepreneurs decide on profitable expansion strategies or future entrepreneurs assess the expected success of start-ups. Also the timing of mergers and acquisitions – which generally both need financing – depends on growth prospects and stability in demand. On this basis the ongoing recession and the low levels of optimism mean that demand for credit will remain low until an economic recovery is clearly on the horizon. All these factors contribute to lower observed levels of bank lending. On the other hand, of course, entrepreneurs may need bridge loans, other forms of liquidity provision, or loans from banks in order to endure the current adverse economic conditions and slumps in demand for their products. This shows that the effect of the economic crisis on credit demand, and therefore on observed bank lending, is difficult to identify.

Regarding lending standards, it is necessary to appreciate the impact of wider economic conditions on credit risk. As banks have a responsibility towards their depositors, they have to maintain the quality of the loans they make, base their decisions on sound assessments and price risk soundly. Therefore, lending or pricing decisions which may at first appear

as a tightening in lending or credit standards are in reality a reaction to greater credit risk as a result of deteriorating economic circumstances. Naturally, it is also incompatible with banks’ responsibility towards their depositors and their other creditors to lend to clients who even in pre-crisis days could not be considered an acceptable credit risk. In general,

a bank’s knowledge of its clients is a key factor for adequate and sustainable lending and for banks to correctly assess credit worthiness, to grant loans, and to price risk.

Due to the very nature of banking, banks’ performance is inextricably linked with the

economy, and therefore the business of banks contracts in a prolonged recession. Of course,

a bank’s business model and business outlook are decisive factors for the smoothness of

a contraction and the bank’s sensitivity to economic downturns. In particular, a strong

deposit base, a strong focus on relationship banking (i.e. close ties with clients), the importance of long-term objectives, and the regional commitment of a bank all give greater continuity to banks’ lending. In this sense, traditional banking models are characterised by comparatively little pro-cyclicality. Yet, in general retail bank performance cannot decouple from the state of the real economy.


Views on banks revisited – back to the roots of the business?

Key messages


Priorities of banks need to be realigned with their fundamental role in the economy – an excessive mismatch between financial sector and real economy has to be counteracted.


Traditional savings banks values like responsibility and sustainability are core values for sound and realistic banking.


Europe needs a pluralistic banking sector in which the principles of comprehensiveness, responsibility and sustainability are well represented.

Background: Why is a mismatch between banking sector and real economy problematic?

The current crisis shows that banks are not like any other industry. First, the consequences of

a failure of the banking system for the entire economy can turn disastrous.

Second, the financial sector’s possibilities for growth and profits are ultimately

constrained by underlying economic conditions – yet, due to pricing bubbles, the limits

to sustainable growth of the financial sector may not be recognized in time. Indeed, it is

widely recognized that the current crisis is a consequence of an over-stretching of the financial sector beyond what the real economy could support. For both reasons the priorities of credit institutions need to be realigned with their true role in the economy.

Furthermore, from its very onset the financial crisis has highlighted that many international and European banks’ business models are much less stable than originally thought. By now it is universally acknowledged that many banks’ strategies were driven by excessively ambitious short-term objectives combined with excessive risk taking. Simultaneously, excessive risk taking was supported by excessive trust in the ability of mathematical models and sophisticated innovation to correctly assess and eliminate asset risk. As a result many banks did not sufficiently strive for stability and sustainability.

ESBG recommendation: return to realism

Neglecting stability and sustainability proves costly.

In retrospect it is obvious that the developments in a large part of the banking sector were

not sustainable. They were not compatible with realistic long-term perspectives and did not reflect the very purpose of financial services provision – which is to serve the real economy. In fact, solely pressing for ever higher returns and only focussing on short-term profits led to business and investment strategies which rather served the banks themselves, but not necessarily the real economy. ESBG members have never shared this philosophy and the last two years confirm their long-standing apprehensions regarding the practice of ‘myopic banking’.

The fundamental role of banks in the economy implies that, in the medium and long-term, the business of banks is determined by real economic demand. The returns and profits of

retail banks are the result of ‘real’ economic factors. As a result any long-lasting mismatch between the goals of the banking sector and the needs of the real economy will correct itself, but the pain of such corrections will reach far beyond the financial sector. Therefore it is reassuring to observe that policy makers and market participants recognize that the purpose of retail banking does not lie in a race for ‘fast’ and unsustainable profits, but in the efficient and conscientious provision of financial services and products

to the real economy.

A realistic approach to banking is based on real economic possibilities.


Retail banking needs a reorientation of values.

Differentiation within the banking sector is crucial.

Unfettered competition carries a cost and cannot be a goal for Europe.


The current crisis has laid bare weaknesses of several banking practices and business philosophies. However, it also has proven the validity of selected banking approaches and in particular the validity of the underlying principles of the savings banks sector. Soundness, sustainability and responsibility have proven not only to protect customers, but also to protect banks. Also it has become evident that banks cannot afford not to know and understand their customers. Yet, successful relationship banking is a knowledge-intensive business and takes time to build. Therefore, leaning on savings banks’ core values, two lessons can be drawn from the crisis: It is time to give up a ‘fast-profit’ mentality and it is necessary to return to sustainable and responsible banking. This shift in values not only has to take place in the heads of bankers, it also needs to be internalised and encouraged by policy makers.

Looking at Europe’s retail banking sector, the need for a differentiated approach to retail banks is evident. This also means recognizing the importance of Europe’s pluralistic banking tradition. In fact, the diversity in business models is an integral part of the European banking landscape and ensures the comprehensive provision of retail financial services throughout Europe, while driving competition in the banking sector. Here, it is reassuring that some policy makers’ bias towards one particular banking model seems to have vanished. Also the precariousness of an over-reliance on aggressive short-term strategies has finally been recognised. In fact, the crisis at last demonstrates that a uniform banking sector whose behaviour imperils the rest of the economy can no longer be acceptable. It is therefore the duty and responsibility of policy makers to safeguard a pluralistic banking sector in which the principles of comprehensiveness, responsibility and sustainability are well represented.

Policy makers also need to take a more critical view of unfettered competition in the retail banking sector. While competition without a doubt has great benefits, it should certainly not take a form which could endanger the profitability of sound and comprehensive business models. This, for instance, can be the case if entrants aggressively target only the least costly and most rewarding products or services, but do not offer a wider, more cost-intensive, spectrum of retail banking services. In such a scenario competitive pressure in the form of “cherry picking” does not reflect greater efficiency of the competitor. Rather it is the result of a narrow business focus which does not incur the costs associated to offering all-round services. While such competition legally is not ‘unfair’, it certainly is not the kind of competition which will ultimately benefit customers and the economy. On the contrary, greater losses to economy and society could occur if the pressured ‘all-round’ banks are no longer able to continue providing the same level and quality of services because their possibilities of doing so are systematically undermined. Such possible undesirable consequences are neglected by an uncritical and exclusive focus on the immediate price-effects arising from unfettered competition.


State support to the banks and related trade-offs – which approach should be taken?

Key messages


ESBG welcomes and appreciates efforts to support financial institutions and guarantee financial stability.


State aid must be granted with the clear objective of achieving or maintaining the overall health of the banking sector. It may not carry a cost to sound and healthy institutions.


With a view towards future developments, differences in size and scope of national state aid measures can translate into persisting imbalances.


All efforts need to be made to prevent state aid from creating undue competitive advantages for its recipients.

Background: Widespread national state aid to financial institutions

Since autumn 2008, when the situation on financial markets deteriorated further as a consequence of the Lehman Brothers bankruptcy, EU Members States have undertaken coordinated steps in order to restore confidence between citizens and banks, as well as among banks themselves. 16 These steps were designed in order to prevent bank-runs and to restore the functioning of inter-bank markets – in short, to maintain and secure the functioning of the national banking sectors.

As the various support measures to the financial industry constitute state aid, the European Commission, DG Competition, provided guidelines 17 in order to ensure the compatibility of such actions with the existing EU competition rules. These guidelines set out the acceptable measures national governments can take and establish criteria for the applicability, necessity and size of such interventions. They aim to prevent distortions to competition between beneficiaries of state aid and banks which are not drawing on state-support. Looking ahead, the guidelines also seek to ensure that the beneficiaries of state-aid return to viability in the mid to long term.

Between October 2008 and mid-July 2009, the Commission has assessed and approved state aid schemes as well as ad-hoc interventions at individual institutions in a majority of Member States. The large majority of the national state aid schemes are guarantee schemes (16) and recapitalisation schemes (11) – in five cases a combination of both measures was approved. Furthermore, outside these schemes, over 40 additional measures directed at individual institutions were approved. 18

16 European Union’s Council of Ministers for Economy and Finance (ECOFIN) conclusions of October 7th 2008.

17 European Commission. 2008. Communication from the Commission – The application of State aid rules to measures taken in relation to financial institutions in the context of the current global financial crisis. OJ C 270, 25.10.2008. European Commission. 2008. Communication from the Commission – The recapitalisation of financial institutions in the current financial crisis: limitation of aid to the minimum necessary and safeguards against undue distortions of competition. OJ C 10, 15.01.2009. European Commission. 2009. Commission Communication on the Treatment of Impaired Assets in the Community Banking Sector, OJ C 72, 26.03.2009. European Commission. 2009. Commission Communication – The return to viability and the assessment of restructuring measures in the financial sector in the current crisis under the State aid rules.

18 European Commission, DG Competition. 2009. DG Competition’s review on guarantee and recapitalization schemes in the financial sector in the current crisis.


Banks receiving state aid compete with banks without state-support.

Given the different national situations, the sizes of the rescue and support packages vary significantly across markets. Furthermore, while some countries establish very large national support schemes, others spend significant amounts on the support of selected larger financial institutions. In addition, even if state-wide support schemes exist, if given the choice, many healthy banks so far decided not to draw on such support, mainly due to its stringent conditions and out of a preference for keeping their independence intact.

ESBG views: state aid to financial institutions – the need for balance and differentiation

ESBG members appreciate the efforts undertaken to maintain the stability and functioning of the European financial system which remains a top priority and is of the utmost importance for general economic stability. The speed and decisiveness of the actions of national governments and EU policy makers alike are truly impressive and it is to their great merit that Europe’s financial system has escaped the acute danger it faced over the past year. The European Commission has played a central role in these efforts by devising different sets of state aid guidelines which capture core principles according to which state aid shall be carried out. On the basis of these guidelines, ESBG would like to underline the importance of a differentiated approach and undiscriminating objectives.

It is necessary to differentiate among beneficiaries of state aid.

The central goal of state aid must be to achieve a healthy banking sector.


When it comes to state aid, banks can be roughly divided into four categories:

1. Banks which – due to their own prudence, quality of risk management, operations in stable economic environments etc. – neither need nor desire state aid but may accept state support in order to increase their capital base;

2. Banks with business models which in itself are sound and sustainable, but which have been – or could soon be – affected by the economic repercussions of the financial crisis and whose timely support contributes to the stability of their respective economies;

3. Banks where the crisis has raised a red flag calling into question the sustainability of their business model;

4. The (rare) case of banks, which are affiliated with other sectors of industry (such as the auto industry) and whose recourse to state aid needs to be considered against the background of potential problems their parent companies may be facing.

The different characteristics of the national financial sectors are fundamental for the way national schemes and individual interventions are designed, implemented and maintained. In examining the different recipients of state-aid it is essential that unviable banks be restructured or wound-down, that viable and sound banks are supported adequately, and that healthy banks not drawing on state aid do not have any reason to regret their decision. Looking at the fourth group – those banks affiliated with other sectors of industry – opportunism must be counteracted and the subsidisation of parent companies must be avoided. No disadvantages should be allowed to arise for the ‘real’ banking industry. The governing objective of state aid must be a healthy banking sector, not the cure of selected banks at the cost of others.

State aid therefore has to strike a fragile balance. On the one hand, it needs to effectively and lastingly help the affected financial institutions or pre-emptively signal a bank’s stability in order to prevent any upcoming disturbances. On the other hand, when state aid measures are taken, it must be ensured that taxpayers are not taken advantage of, that the recovery of beneficiaries does not come at the cost of competitors, and that the financial services markets are not reorganised at the cost of those banks which have proven functional and necessary.

The Commission also seeks to ensure that state aid does not prevent necessary corrections to banks’ business models or the winding-down of unviable institutions. These are important principles and the restructuring of unsustainable banks can have advantages for the sector as a whole. Nevertheless it is important that restructuring is only imposed where there is a clear necessity for a change in business model. Also, restructuring plans need to build on economic and business relevant criteria; restructuring should not be imposed or dictated by political goals.

ESBG views: concerns on ‘state aid reality’

State aid strikes a fragile balance.

Restructuring needs to follow economic principles.

Precisely because the danger of an imminent financial sector meltdown has largely abated, it is now the time to assess the effectiveness of implemented measures. Looking ahead, there remain some concerns related to state aid, calling for vigilance and caution.

Not only have governments and policy makers succeeded in stabilizing Europe’s financial sector, they also have striven to reduce to the minimum the undesirable consequences of

state intervention. As part of these efforts, the national state aid measures rightly avoid

a ‘one-size-fits-all’ approach and reflect the national market conditions and the

requirements of the afflicted banks. On the downside, a substantial heterogeneity in scope and size of state aid measures can bring about greater inequality among national banking sectors in the mid and long term. National differences in state aid schemes may therefore impair the European level playing field for competition.

The state aid guidelines by the European Commission spell out several provisions in order

to prevent distortions to competition arising from that aid. Still, within national banking

sectors, abuses of state aid – when they occur – need to be counteracted strongly. Especially problematic are situations where state aid is granted to banks seeking access mainly in order to achieve competitive advantages (hence, in cases where it is not motivated solely by reasons of guaranteeing stability or of strengthening the capital base). Such distortions can occur immediately due to strategic decisions to abuse granted aid, for example by outbidding competitors in the retail deposit area or by advertising bank safety as a result of government guarantees. In the longer run, recapitalization

measures may lead to competitive advantages for benefiting banks (in terms of market funding, granting of loans, development of future plans), or pave the way towards

aggressive expansion once balance sheets are repaired. While such distortions gradually unfold over time, they can cause lasting change in the competitive landscape and need

to be limited wherever possible.

Differences in national state aid schemes are necessary but may affect the level- playing field.

Distortions to competition need to be counteracted.


Sound banks may not be undermined.

Long-term consequences for competition are determined now.


In the public debate Europe is often made out to be a hospital full of financial institutions. However, it is important not to forget that a large number of – often smaller – credit institutions are in good health and sound enough not to need taxpayers’ help. This must remain so. Therefore it is unacceptable that healthy and prudent credit institutions should suffer due to aggressive competition by other banks, which do not draw their competitiveness from their own merits but instead profit from external help. It is the duty of governments and competition authorities to counteract and minimize such distortions decisively and without bias. It cannot become a European principle that excessive risk taking or overstretching of balance sheets by banks will be ultimately rewarded by government support with the effect to strengthen the bank’s competitive position. Furthermore, it cannot be that this should happen at the cost of precisely those banks which did not need rescuing in the first place. This would not only lead to unjust distortions to competition and incentives, but also to distortions in the very balance of the banking sector and the weakening of inherently sound and prudent institutions.

It is extremely myopic to assume that the damage to competition and to the balance of the financial system would be a fair price to pay in order to ensure short-term financial stability of the system. It is equally wrong to assume that Europe can only choose between a financial meltdown and an uncritical support of all imperilled institutions. Furthermore, it is unrealistic to expect that competition and damages to the sound parts of the banking sector can be repaired at leisure after the crisis is overcome. Such a hope also unduly postpones facing the consequences of important decisions when they are made. All these are reasons why the trade-offs Europe makes now between the leeway given to supported banks and the overall and long-term consequences for competition need to be made consciously and with full efforts to minimize the damages they can cause.


The clear consensus between policy makers, regulators and the financial sector worldwide is that a crisis like the current one must not repeat itself. Accordingly great efforts are being taken to identify the factors and dynamics which led to the build-up of the crisis. Drawing on these insights, the general aim is to devise the most suitable and effective actions and responses in order to correct problematic weaknesses.

The global dimension of the crisis also implies that international bodies play a significant role. Not only do they serve as important platforms for exchange and for a coordinated outlook into the future, but they also are important in their own right as economic actors and contributors to global solutions. The creation of the G20 as a political force and the steps taken to increase the role of the IMF are part of the global effort not only to combat the current crisis but also to improve the political ability to act in order to prevent future crisis or to meet such a global challenge should it occur again.

Regarding financial sector regulation at the global level, the Basel Committee on Banking Supervision will continue its central work as initiator of globally applicable guidelines on banking supervision, also on the basis of a substantially extended membership base. Furthermore, the newly created Financial Stability Board (established in April 2009 as the successor to the Financial Stability Forum) has the mandate to promote financial stability. This mandate includes serving as a mechanism for national authorities, standard setting bodies and international financial institutions in order to address vulnerabilities and develop and implement strong regulatory, supervisory and other policies in the interest of financial stability.

While ultimately the unifying goal of politicians worldwide is to improve the safety of financial markets on a global scale, it is the current initiatives at the EU level with which ESBG is most immediately concerned. In the EU, too, the central objective of regulators and policy makers is to increase financial safety and stability. With this goal, policy makers have set out to correct malfunctions in existing market regulation, to strengthen supervision, and to extend the range of financial actors subject to EU regulation. The political decision was also made to reduce the vulnerability to financial markets events of depositors and investors – thus assuring citizens that they will be sheltered from financial market developments beyond their control. Looking at the most important current developments from a political vantage point, 19 there are a number of observations and recommendations that are made in the remainder of this chapter. Section 2.1 focuses on the revision of existing regulatory and supervisory frameworks; Section 2.2 addresses the widening of regulatory outreach.

19 Concrete policy contributions on banking supervision and capital requirements regulation can be found in Part 3 Chapter 1.



EU actions as part of the global approach to crisis prevention – revision of existing regulatory and supervisory frameworks

Key messages


In their efforts to correct perceived weaknesses in the existing frameworks, EU policy makers need to take due account of the inter-linkages between the issues at hand. A holistic approach is crucial.


EU policy makers’ corrective actions rightly build on existing foundations.


Diversity is an important asset for Europe – applying the proportionality principle in regulation and supervision is the correct choice.


The implementation of corrective measures needs to be carefully adjusted to the ‘real’ economic environment and the pace at which the European economy overcomes the current crisis.


The banking industry should be adequately involved in policy repair and any future supervisory structure.

Background – central ongoing regulatory efforts

At the time of writing, among the central efforts to improve EU regulation for financial institutions stands the revision of the Capital Requirements Directive (CRD), which transposes the Basel II Framework on capital requirements into EU law. The ongoing discussions on the CRD reflect EU policy makers’ approach for addressing the weaknesses revealed by the crisis. It is therefore not surprising that the measures recently adopted and the proposals currently under consideration address issues such as the ‘originate to distribute’ model, the prudential treatment of complex financial products (including resecuritisations), capital requirements for banks’ trading books, remuneration (and hence incentives linked to compensation policies), pro-cyclicality and leverage.

Also at the centre of the ongoing debates is the question of the most appropriate EU supervisory architecture, which considers improvements as regards the prudential supervision of individual entities (‘micro-prudential supervision’) and its adaptation to dealing with the macro-economic dimension of financial sector risk (‘macro-prudential supervision’). At the time of writing, the recommendations of ‘de Larosière Report’, published in February 2009, have been firmly established as the guiding principles for a European supervisory architecture. True to the evolutionary approach pursued in all efforts to address the supervisory needs arising at EU level, the recommendations of the de Larosière Report build on the existing supervisory bodies and practices, targeting greater cooperation and coordination among national authorities, with the help of 3 newly created ‘Authorities’. Furthermore, it recommends extending EU-level supervision to a macro-prudential dimension, notably through the establishment of a new ‘European Systemic Risk Board’. EU policy makers are currently working on concrete legislative proposals on the basis of these recommendations, with the objective to have the proposed changes implemented and working by 2010.

Furthermore, as a direct response to the sudden deterioration of the situation in financial markets in autumn 2008 (as a consequence of the Lehman Brothers bankruptcy), a number of EU Members States – initially without coordination – decided to increase the level of protection for bank deposits. At EU level it was subsequently decided to revise the EU Deposit Guarantee Schemes Directive to take account of these developments (the revised Directive was adopted in February 2009). The direct objective was to reassure depositors, also as to prevent spiralling deposit withdrawals by retail clients and to secure the system against bank-run dynamics.


ESBG observations: which path does the EU choose?

The concrete ESBG views on the above-mentioned developments will be presented in detail in the third part of this report. Yet the current initiatives and efforts also have a broad political dimension and direction, on which ESBG would like to share some observations, which may capture new trends for future developments.

The crisis is the result of interconnected problems, where substantial inadequacies were unveiled in regulation, supervision, as well as in crisis management and crisis resolution. These areas are largely interwoven, and they all carry a considerable weight in the working of the banking market. Neglecting the important inter-linkages and aiming at self-contained solutions in isolation of the surrounding environment carries the risk of proving more harmful than helpful. Most important therefore is the awareness that individual amendments to regulation, supervision or crisis management and resolution will inevitably have an impact in each of these areas, whilst their very effectiveness ultimately depends on their interaction. Therefore, concrete policy measures in one field should consistently consider the potential impact in other areas. Regulatory or policy repair should duly address concomitantly the entire policy framework for banking in the EU.

The EU regulatory and supervisory framework is the outcome of an evolutionary approach, which, over time, has carefully balanced and calibrated common interests while duly considering national specificities. For the consistency of our EU-level policy making it is of great importance to not take drastic overhauls that risk creating undesired disruptions. The damages of any drastic overhaul may easily outweigh its intended benefits, as the possibilities for ‘collateral’ damage are simply too manifold. Consequently, it is particularly important that regulatory repair builds on the prudential philosophy underlying the Basel II Accord/the CRD. It should reinforce the three pillar structure and the risk-sensitive approach, whilst appropriately addressing shortcomings unveiled by the crisis. Equally, it is most welcomed that the proposed supervisory repair relies on the central role of the national competent authorities in day-to-day supervision, whilst strengthening their coordination. Last but not least, it is essential that any EU proposal on crisis management and resolution observes the distribution of fiscal responsibilities among Member States.

Among the strengths of the European banking sector is its considerable diversity and the coexistence of a large variety of financial actors with different business policies and of different sizes. This diversity also counts among the assets which mitigated the danger of a collapse of the financial system. It is therefore of paramount importance that the parts of the European banking sector which have demonstrated their viability and their necessity shall not be put at a disadvantage. This means that any re-regulation must be compatible with Europe’s pluralistic banking sector and must take full account of the essentiality of Europe’s regional banks and banking networks. Any other approach will erode the basis for Europe’s economic strength and financial stability, and thereby also undermine the basis for recovery and future growth. A tried and tested way for regulators and supervisors to account for such diversity is to apply proportionality as an overarching principle. Accordingly the concrete application of EU rules and the effective supervision of banks are proportionate to the size, complexity, business strategy and riskiness of an institution.

EU policy makers need to take a holistic approach when making corrections.

EU policy makers’ corrective actions rightly build on existing foundations.

Valuable diversity in the EU banking market can be protected via the proportionality principle.


EU policy makers must separate short-term priorities from long-term corrections.

The banking industry needs to be in a position to contribute to the discussions on the policy repair.

At the peak of the current crisis, the political and economic pressure for policy makers to intervene in and stabilize the financial sector, but also to address the reasons behind the market malfunctioning was substantial. Therefore, for a time there was the danger that these two very different challenges would be perceived as one task. While this danger has abated, now the main risk is the paradox that a premature implementation of some of the envisaged corrective measures (designed to increase stability for the future) will lead to greater current instability. For instance imposing drastically higher capital requirements for banks before the crisis is safely overcome would be counterproductive to any efforts to stimulate bank lending and to revive the economy. The implementation date for any revised measures must therefore be carefully calibrated and timed with ‘real’ economic developments.

The banking industry can contribute with precious input to the design of quality financial regulation, given its valuable concrete expertise and first-hand insights. Furthermore, the acceptability and effectiveness of regulatory measures is substantially enhanced if the addressees of regulatory measures are involved at an early stage in the regulatory process. These are the very same considerations that have underpinned the EU institutions’ efforts towards more open and participatory rule-making and that motivate their commitment towards better regulation. It is crucial that this established and well-functioning approach be not abandoned. Urgency considerations in the legislative process should not be systematically invoked to reduce drastically the possibility of the industry to effectively contribute to the regulatory outcome. Furthermore, in view of the ongoing reforms of the EU supervisory architecture, it is of utmost importance to integrate industry experts’ practical insights with regard to both macro- and micro-prudential developments.

2.2. EU actions as part of the global approach to crisis prevention – widening regulatory outreach

Key messages


Policy makers rightly extend regulation to those formerly unregulated financial market participants whose actions have contributed to the crisis or whose activities could endanger financial market stability.


The recent EU regulation of credit rating agencies is especially overdue, given their fundamental role in the financial sector and their implication for financial stability.

Background – central efforts to regulate the unregulated

The initiatives by European policy makers are not limited to those financial actors which already were subject to regulation before the onset of the crisis in 2007. In fact, a significant feature of the political and regulatory response has been to extend the reach of regulation to those previously unregulated parties whose actions have in the meanwhile been identified as contributing to the crisis.


One of the first actions taken at the EU level was to initiate and adopt a new Regulation on Credit Rating Agencies (CRAs), whose responsibility related to the pervasive mis-pricing and misperception of risk had been early established. Concerns were exacerbated not only by their central position in the financial markets, but also by the role they have been granted by regulation as regards the determination of banks’ capital requirements. The EU Regulation 20 not only seeks to eliminate conflicts of interest affecting credit ratings, but also includes provisions which will improve the quality of ratings. In addition, it ensures the registration and surveillance of CRAs in the EU.

Furthermore, the entire shadow financial system has been under close scrutiny and important actors, like hedge funds, are now in the process of being subjected to binding rules and oversight at EU level for the first time. In particular, the potential pro-cyclical role of hedge funds was found to be a risk to the stability of the financial system, implying that closer prudential oversight is warranted. Accordingly, the Commission proposal for a Regulation on Alternative Investment Fund (AIF) Managers (issued on 30 April 2009), captures all non-UCITS (Undertakings for Collective Investment in Transferable Securities) funds. It foresees that all managers of non-UCITS funds above a certain size shall be subject to an authorisation procedure and have to fulfil further requirements (e.g. capital, organizational, and transparency requirements).

ESBG views: promises of extended regulation to formerly unregulated players

The concrete ESBG views on the above-mentioned developments will be presented in detail in the third part of this Report. Yet the current initiatives and efforts also have a broad political dimension and direction, described below.

The current steps being taken to extend regulatory reach are important and reflect the lessons which Europe and the world have been forced to learn in the past two years. They are an integral part of tightening the safety belt of the global financial system, even if this means putting a regulatory leash around those actors which formerly were constrained only by market forces. Especially as regulation for the already regulated parts of the financial industry is becoming stricter, it could not be an acceptable decision to allow the results of these financial soundness and safety increasing measures to be endangered by omissions in other relevant areas.

The formal regulation of CRA’s is indeed overdue. The central character – combined with the lack of accountability – of CRAs means that they are too important to operate without rules and to remain without oversight. It has been demonstrated that consistently erroneous ratings – in particular in relation to complex structured products – present a danger to financial stability. Furthermore, mis-priced risks undermine the correct assessment of the trade-off between risk and return by individual investors.

Extending regulatory coverage is a straightforward and consistent reaction to the lessons learned.

CRAs needed to be regulated given their central role in the financial system.

20 Regulation 2009/x/EC of the European Parliament and of the Council on credit rating agencies, awaiting publication in the Official Journal.


Part 2 European Retail Banking Market Integration:

Core Parameters for a Reality-based Approach


The long-run debate on the integration of Europe’s retail banking markets

At the time of writing, overcoming the current financial and economic crisis still is an immediate priority. Yet, the long term integration of Europe’s markets into one ‘Single Market’ remains at the heart of all political debates. Indeed it is part of, and even synonymous for, the wider quest for a European identity, where two central questions dominate: the first question is which goals Europe ultimately should aim for; the second question is how they should be achieved. Just as the integration of Europe’s markets advances, both questions are constantly debated and the proposed answers undergo a continuous evolution.

As the financial sector is an integral part of any economy, the integration of the European financial markets is an important part of the work programme of the European and national authorities. Here too, while the EU is undoubtedly approaching the state of a Single Market, the integration process does not follow a straight political line with a predetermined result. Instead, policy makers and stakeholders are engaged in a constant dialogue about the concrete realisation of the Single Market as well as on the path and measures to be taken to induce the desired outcome.

Among the important topics in this area is the future and further integration of Europe’s retail banking sector, which has dominated the political agenda following the completion of the Financial Services Action Plan (FSAP – 1999-2005). Undoubtedly, for the time being, the ongoing financial crisis has pushed this debate in the background. Nevertheless, discussions on market integration certainly will be revived as soon as circumstances permit, and will also be influenced by the lessons learned from the current crisis – which are already changing the way in which Europe regards its banking sector.

The current status quo of the debate can be summarized as follows: As compared to the initial stages of the discussions, there has been great convergence in the positions on what the integration of the retail banking sector should and could achieve. This convergence has contributed to the fact that the diversity of Europe’s banking markets is now integrated into any credible vision for further market integration – even if this diversity had been condemned initially by some parties as an obstacle to achieving a ‘true’ internal market. Hand in hand with these developments, there has been an increased understanding of the retail banking market and a nearly unanimous recognition that retail banking as a business is local and driven by customer demand.

The most recent manifestations of these trends are the reports by the European Parliament such as the Pittella Report 1 and the Karas Report 2 (both adopted in 2008), which clearly underline the European Parliament’s recognition of the fundamental characteristics of retail banking and the Parliament’s strong interest that plans for the future of the European retail banking market firmly build on its existing foundations.

1 European Parliament. 2008. European Parliament resolution on competition: sector inquiry on retail banking (A6-0185/2008 / P6_TA-PROV(2008)0260). Committee on Economic and Monetary Affairs of 5 June 2008, Rapporteur: Gianni Pittella.

2 European Parliament. 2008. European Parliament resolution on the Green Paper on retail financial services in the Single Market (A6-0187/2008 / P6-TA-PORV(2008)026). Committee on Economic and Monetary Affairs of 5 June 2008, Rapporteur: Othmar Karas.


Due to its richness and its far reaching outlook, the debate on retail banking sector integration takes place along different dimensions. Among these the most important are the political dimension concerned with a ‘vision’ of the sector as a whole, and the policy dimension, where the regulation of the concrete aspects of the common markets takes place. The political and the policy dimensions are, of course, closely interwoven. Yet for the purpose of this report it is necessary to separate them in order to best address the issues under concern. Therefore this part of the report focuses on core parameters for the wider integration debate, while Part 3 will present ESBG’s views and recommendations regarding the concrete relevant policy areas.

With a view towards the longstanding political integration debates, the present part of the report focuses on core parameters of the European retail banking market and their implications for the scope of further sector integration. ESBG does not set out to develop a ‘vision’ of an (even more) integrated EU retail banking sector. Rather, the highlighted parameters are important sector specific features which any realistic and appropriate vision of a further integrated market should incorporate. They also form the basis for a judicious and fair appreciation of the past achievements and of the degree of sector integration already reached.

Chapter 1 lays out and explains the essentially local character of retail banking and its implications for the provision with retail financial services as well as the complexity of competition in the market for retail banking products. Chapter 2 highlights the diversity of retail banks as a heritage of and future for the European retail banking market. It also describes the benefits of a pluralistic banking sector for Europe’s economy.



Retail banking traditionally is a local business. Its core activities are:

1. The intermediation between those who wish to save and those who wish to borrow; and

2. The facilitation of payment flows.

As such, retail banks provide local agents with access to financing and investment possibilities and with a local access point to payments systems. The key groups of customers of retail banks are consumers, local small and medium-sized enterprises (SMEs) and municipalities.

Retail banking is omnipresent and a core part of real economic activity. It is evident that at the local level, retail banks are the most visible part of the financial infrastructure. In the payments area, the use of cheques, debit cards and credit cards rivals or exceeds cash payments, where cash itself usually can only be obtained from retail bank branches and ATMs. In most economic centres there is a great density of branches and ATMs are omnipresent. In more remote areas the presence of bank branches and ATMs mirrors the level of economic activity and prosperity, and is furthermore determined by the structure of the national banking community.

One of the reasons for re-emphasising that retail banking is a local business lies in the technical developments observed in recent years. At first glance, these developments seem to indicate that retail banking is becoming ‘less local’. In fact, at least since the IT revolution, the times when there was no alternative to physical presence for any business have clearly passed. Such a gradual and partial disappearance of physical constraints implies potential for a great widening of the geographical outreach of credit institutions. It is therefore logical that, in particular at the EU level, greater potential outreach was initially found to promise a boost in market integration in retail banking, as in many other areas.

However, such a perception is misguided and does not take into account the prevalent business realities of retail banking as will be explained in this Chapter. Likewise it is wrong to conclude from the observation of generally declining numbers of bank branches that local retail banking has lost importance. Such an interpretation would be incorrect since the dominant reasons for the decline in branch numbers are largely found in structural changes in the banking sector and not in the loss of importance of branches as primary access, sales and communication points.

Against the background of these developments and also with view towards current and future integration debates, the following sections lay out underlying reasons for the persistence of the local factor in retail banking. Equally, it is evident that the local orientation of retail banking neither indicates the presence of hidden inefficiencies nor of barriers in the market. Instead, the essentially local character of retail banking comes from the very nature of the business itself (as explained in Section 1.1).


Furthermore, local demand and the necessity of local presence make branch networks the central distribution channel for comprehensive coverage with retail banking facilities; ‘internet banking’ can therefore not be considered a substitute for physical presence (Section 1.2). In addition, as a result of the complexity of retail banking as a business, banks compete based on many factors, essentially with the goal to gain and maintain customer satisfaction and loyalty (Section 1.3).

1.1. Local demand for retail banking products and services

Key messages


Demand for retail banking products and services is local.


Proximity and personal contact between customers and banks is vital – relationship banking is key for retail banking.


Market integration takes place on the local level: it is always conditional on domestic demand and the level of local competition.

Motivation: Why does the local dimension matter for retail banking?

Policies aimed at the further integration of Europe’s retail financial services market must be based on market realities. For example, plans to advance integration must incorporate the fact that retail-banking is a business in which the proximity between provider and customer is a key-factor. Indeed, even in the age of the unprecedented communication possibilities, retail banking ‘at a distance’ is an exception. For any market integration strategy to be realistic, it needs to be developed on the basis of the local character of retail banking.

At first glance the local character of retail banking may indeed not be obvious since the essence of retail banking activity is generally the same in all markets. Also for ESBG members, there is a high degree of communality in their core business. One of the key reasons why retail banking is nevertheless predominantly a local business that takes place on local markets is the strong local component of the demand for the bulk of retail banking products and services.

Looking more closely at two main groups of retail banking customers, it becomes clear that, while the demand by consumers generally incorporates the need for direct contact with their bank, this is even more so the case for the demand by SMEs. The following paragraphs apply to consumers and SMEs equally; factors specific to SMEs’ demand are laid out further below.

ESBG explanation: local components of demand for retail banking products and services

While there is significant communality across Member States, for consumers and SMEs demand is nevertheless shaped by national economic conditions, traditions and prevalent public-private trade-offs (for more details, please refer to Part 2, Section 2.1). This means that the business of retail banks differs across countries, and that strategies which may be successful in one national market are not necessarily successful in another.


Partly because of such differences, the number of ‘homogeneous’ products is rather limited (of course, this is also due to differences in national regulation/legislation). Therefore, demand is primarily local in the sense that the qualities and properties of products and services demanded are driven by local circumstances. In addition, the importance of proximity is a result of the following:

As significant players – and sometimes market leaders – in the national retail banking sectors, ESBG members have always experienced that the demand for retail banking products and services reaches beyond the need for a product and willingness to pay a certain price. Instead of a simple provider of products and services, most customers want an accessible financial partner. Here, customers are fully aware that banks’ competence and knowledge of their circumstances ultimately determine the quality of advice they receive and hence the suitability of the financial decisions they make. Customers are also aware that personal contact with bank staff is a prerequisite for advisers to become knowledgeable about customers’ circumstances to begin with. In addition, the more important a decision is in the ‘economic career’ of a customer, the more customers seek a dialogue with bank staff to identify the best offer. Customers therefore know that the proximity and accessibility of banks are conditions for a satisfactory and successful business relationship.

By choosing a bank, customers also put their trust in this bank. Especially for new customers, confidence depends on their expectation whether and how much a bank will justify and deserve this trust. A bank’s reputation and approachability are important factors reducing the customer’s perceived gamble. Demand may focus on locally present actors because a bank’s reputation needs to be known on the local level and since proximity means approachability.

To sum up, customers generally demand ‘relationship banking’, which – being based on personal contact and knowledge – has a strong local component. In light of the current economic developments, and the overall observed decrease in economic confidence, it is very probable that the importance of relationship banking will become even more prominent.

However, it would be wrong to presume that local is automatically equivalent to national, or that a local market is always confined or limited by national borders. Indeed, a significant proportion of EU citizens live in border areas and may therefore consider “local” banks on each side of the border. Such “local cross-border” phenomena are particularly likely within the European Monetary Union and in geographic areas which share a common language and cultural/historic background.

ESBG explanation: SMEs and the local factor of financing

Relevant knowledge often is local.

Proximity and trust go hand in hand.

Customers demand relationship banking.

Local does not always mean national.

SMEs are among the most important drivers of the European economy and serve as main creators of innovation and jobs. Therefore, the supply of high quality and reliable financial services to SMEs is of crucial importance even beyond the wellbeing of the sector. ESBG members are stable providers – and often among the market leaders – of SME finance. This is a natural continuation of a long tradition of partnership and of savings banks’ underlying raison d’être.


Furthermore, the close ties between SMEs and savings banks or regionally oriented retail banks reflect the local character of SMEs’ demand for financial services. The strong local component in SME banking is predominantly a result of the importance of financial decisions for SMEs, where a functioning, consistent and close relationship with its bank is crucial for an SME’s wellbeing. There are two main reasons why a strong local presence plays a key role for a bank’s ability to be the financial partner required by SMEs.

Credit institutions need to know their SME clients to make the best offers.

Relationship banking means solving problems together.

Local SME banking is not locally constrained.

First, for banks to correctly appreciate an SME’s business risks and to adequately price and structure credit and credit lines, they need a sound knowledge of the SME’s business and of the sector in which it is active. Furthermore they must have a well-founded understanding of an SME’s growth potential and features such as the need for cash. It is also necessary to understand the age structure of employees in order to offer suitable ‘outside’ investment possibilities for retirement provisions. Such knowledge then gives banks the freedom to react to an SME’s financing needs flexibly and comprehensively.

Second, demand for retail financial services goes beyond the product or service itself. Among retail banking customers, this point applies most strongly to SMEs. SMEs do not merely demand products or services at a good price. They need a bank’s expertise and knowledge to decide on the best solution – and in many cases they need banks’ expertise in order to create such a solution in the first place. Ultimately, for SMEs, their banks’ advice, identification of financing needs, and ability to help develop solutions to the SME’s problems are at least as important for an SME’s success as ‘pure’ price factors alone. Therefore, in the ideal case, an SME’s success is a joint success of the SME and its bank, built on a consistent relationship with a long-term perspective.

However, the following misconception should be avoided: while SME banking is a local activity, this does not mean that the relationship between banks and clients is ‘locally constrained’. Especially for SMEs seeking to expand into new markets or for SMEs which are active exporters, credit institutions seek to accompany and support their SME clients wherever their business takes them. Here, the challenge for banks is to support their clients outside the bank’s traditional local radius. According to ESBG Members’ experiences, while relationships between banks and SMEs are ‘locally founded’, they nevertheless reach beyond the local level.

What does local retail banking imply for European integration dynamics?

Local demand determines how sector integration ‘can work’.

The local nature of demand and the importance of ‘relationship banking’ have the following important implications for market integration:


If ‘cross-border’ banking is defined such that branches and customers will be in different countries, market integration via ‘cross-border’ provision of retail financial services is and will remain a rare phenomenon (in some exceptional cases SMEs and consumers may bank in neighbouring countries, but this is a long established and locally confined practice).


Integration via market entry (i.e. the establishment of branches or subsidiaries of a foreign bank) is only successful if there is demand for the entrant’s products and services, if the entering bank can sufficiently adapt to the local business/cultural environment and if the entering bank can fulfil local expectations.


The local character of retail banking requires great investments for successful market entry – for mature and competitive markets the possible benefits for the entrant may not merit such investments.



Distribution of retail banking products: Does retail banking become ‘less local’?

Key messages


Branch networks go hand in hand with comprehensive retail banking: technological progress does not change the local character of retail banking.


Financial inclusion of Europe’s regions builds on the full coverage of retail financial infrastructure in form of branch networks.


Implication for integration: ‘direct banking’ does not drive market integration. It only provides selected services to selected clients – with uncertain economic consequences.

Motivation: How do distribution channels enter the debate on integration?

Retail banks can make use of different channels to distribute their products and services to customers. The standard approach to distribution – also practiced by ESBG members – is via a branch network. Distribution via branch networks reflects the strong local character of retail banking and implies a dominant focus on the banks’ original markets and on those markets into which they have subsequently expanded. Typically banks operating branch networks, and in particular ESBG’s members, target and cover the entire population in the relevant area. They offer the full range of retail banking services, fulfil the requirement of direct contact with customers and enable bankers and clients to cultivate a close business relationship.

Alternatively, retail banks can function as ‘pure internet banks’, or ‘direct banks’, 3 as they distribute their products and services solely via the internet and do not foresee direct personal contact between bank staff and customers. It is this kind of business model which in the recent past has attracted the hopes of some parties who took it as an indicator that physical constraints no longer stand in the way of retail banking market integration.

These two approaches are very different, not only regarding the role of local representation but also in view of the customer segments targeted and the range in products and services offered. Another question is whether, even for traditional banking models, the IT revolution has fundamentally changed the communication between retail banks and their customers. Such a clarification is also important in order to understand the potential of technical progress to drive market integration.

ESBG overview: Branches and the IT revolution

Branches traditionally serve as direct sales points and as centres for advice and consultation. They generally meet customers’ need for explanations and dialogue – for example when it comes to investment decisions or larger credit applications. Retail banks’ continued large investments in their branch networks underline the persistent importance of proximity banking. In short, retail banks would not succeed without giving customers the opportunity to actively take part in the process of identifying the best possible solution, to ask questions and to – in general – have a familiar contact person at the bank.

3 An additional alternative is distribution via intermediaries, which, however, is of less relevance in the light of the present debate.


Branches are becoming less important for the daily use of retail banking facilities.

Branches remain the central platform for the relationship between customer and bank.

Though conditional on technological possibilities, the distribution of retail banking products is essentially driven by customer demand. As especially younger customers increasingly demand faster and effortless access to services, means of payment and administration of accounts, banks have reacted by offering alternatives to a physical visit to the branch. This has taken place notably via online accounts and more recently via ‘mobile phone banking’. As a consequence, branches are therefore less necessary for simple tasks such as, for example, the pure administration of a current account or for conducting payments.

However, this does not imply that online banking facilities are replacing branches. Instead, the current trend is to utilise the freed capacities in the branches in order to satisfy the growing demand for in-depth information and advice on more sophisticated banking products. In the branch model, new communication channels complement – but do not replace – the distribution of products and services via bank branches. 4

ESBG views: ‘Direct banking’ – what is the scope for ‘banking at a distance’?

Retail banks can also function as ‘pure internet banks’, or ‘direct banks’, distributing their products and services solely via the internet without foreseeing direct personal contact between bank staff and customers.

‘Direct banking’ only serves selected customers with selected products and services.

‘Direct banking’ outside the home-market is restricted to simple products.

The business approach of ‘pure internet banks’ or ‘direct banks’ is far less comprehensive than the traditional branch based approach. First, ‘direct banks’ do not operate a physical branch network and thereby naturally focus on a smaller segment of the population. Second, they mainly offer savings accounts, which are particularly suitable for distance marketing, and less frequently credit cards; in some cases standardized consumer loans are also offered. Among the key characteristics of these products are the low associated costs and that they are sold without consultation and advice to customers. Approachability is low and direct contact with customers is not foreseen; for the bank, problems from the latter may arise in complying with the due diligence requirement to ‘know your customer’. 5

Regarding the nature of ‘direct banks’, they are usually subsidiaries or branches of universal banks with established branch networks in their home markets; indeed free-standing ‘direct banks’ are a comparatively rare phenomenon. In particular, during recent years it has become a strategy of some larger European banks to establish ‘direct banks’ with a focus on ‘high interest rate’ savings accounts outside their traditional markets. Here the product offer is largely restricted to ‘high return’ savings accounts and, less frequently, credit-cards. Among the chief advantages of this tactic are an increase in market share and the possibility to raise funds without incurring large physical investments in the form of a branch network. The technical possibility of offering ‘direct banking’ directly cross- border is rarely made use of – which is confirmed by the findings of the recent Commission report on the impact of the Distance Marketing Directive. 6

4 For a good summary of developments, ESBG suggests to refer to the 2008 survey by the Fraunhofer Institute (Fraunhofer Institute Arbeitswirtschaft und Organisation and Equens.2008. European Trend Survey – Banks and the Future 2008.).

5 ‘Know your customer’ (KYC) is part of the due diligence which financial institutions and other regulated companies must perform to identify their clients and ascertain relevant information pertinent to doing financial business with them. Regarding the opening of bank accounts, in many countries this entails the personal presentation of a valid ID at the bank – as an alternative, albeit sometimes cumbersome, there are possibilities of accreditation by recognized third parties, should a personal presentation by the customer not be feasible.

6 Civic Consulting. 2009. Analysis of the Economic Impact of Directive 2002/65/EC concerning the distance marketing of consumer financial services on the conclusion of cross-border contracts for financial services between suppliers and consumers within the Internal Market. Final Report to the European Commission, DG Health and Consumer Affairs.


ESBG views: Economic consequences of distribution strategies

Given the strong link between retail banking and real economic activity, the distribution of retail banking products needs to be assessed and considered in view of the wider economy.

In a socio-economic context the distribution strategies of retail banks have important

implications for the provision of retail products and services across the population. In fact, the distribution of retail banking products is a key factor determining the very access to financial services and a driving force for financial inclusion. It is evident that distribution via distance marketing can only address a small range of the services and products demanded by the overall population and targets only a limited segment of the population. Therefore, ‘direct banking’ cannot be regarded as a substitute for physical presence. As a result, in order to guarantee full local coverage and full accessibility of financial services, branch networks remain without alternative. A dense network of branches (be it fixed branches or, exceptionally, mobile branches) is hence not only the dominant distribution strategy and vital from a competition point of view. It is also fundamental from a socio-economic perspective since the proximity to consumers is key to the comprehensive provision of financial services. Looking at the roots of most savings banks, these considerations form an important part of the ‘raison d’être’ of ESBG’s members.

The broader economic consequences of distribution strategies cannot be disregarded. For example, the restricted product range of foreign owned ‘direct banks’ implies that usually the funds deposited on online savings accounts are not converted into lending to the domestic economy. This may imply that a significant proportion of funds are not

reinvested in the domestic economy. The resulting de-facto outflow of capital can trigger

a competitive race among remaining banks, which, in order to maintain domestic

lending, need to replace such funds by using more aggressive fund-raising strategies. While competition as such is a necessary and positive feature in banking as in any other industry, excessive competition among unequal market players may have grave repercussions by undermining the profitability and sustainability of sound and all-encompassing business models – in particular when combined with an overall outflow of funds.

Furthermore, for the bank operating a ‘direct bank’ abroad the question remains how to use the additional funds from the foreign market. Unless the bank encounters great demand for credit from the ‘real economy’ in its home market – or in other markets

where the bank is an active lender – it will make use of high yield investment possibilities, for example high-yield assets acquired on wholesale financial markets. The risks inherent

in such strategies – notably in terms of increasing pro-cyclicality and liquidity risk –

became painfully obvious in the current crisis.

Distribution strategies have socio-economic consequences: ‘direct banking’ is not a substitute for branch presence.

Distribution strategies affect the economy: aggressive ‘direct banking’ can raise wider economic problems.

‘Direct banking’ – a mixed blessing for the bank itself?


New distribution channels do not lift the physical constraints for market integration.

What are the implications of distribution channels for market integration?

The differences in the roles and possibilities of banks working via branches or as ‘direct banks’ determine the possibilities of retail banking market integration:


Retail banking remains local. New technologies offer new possibilities for communication between customers and banks, which complement branch networks but do not reduce their importance. Given the limitations of their business model, any hypothesis that ‘direct banks’ could be (or become) an equivalent alternative to traditional banks overestimates the potential of ‘direct banks’ and underestimates the importance of direct contact between customers and banks on a local level.


From an economic and socio-economic point of view, ‘direct banks’ may even be of limited desirability – especially if their market share in one segment of the market becomes disproportionate to their overall contribution to the economy. At the very least, the fate and performance of European ‘direct banks’ in the context of the current crisis does not suggest that – in its current form – the business model itself is stable or conducive to financial and economic stability.


Regarding market integration, it is therefore apparent that the local nature of retail banking remains a core parameter determining which kind of integrated market will be ultimately feasible and desirable. This needs to be taken into account in any future discussions and actions directed at promoting market integration.

1.3. Competition in retail banking

Key messages


Competition is multidimensional: banks compete based on prices, customer satisfaction, depth of service and regional coverage – Customer choice is a trade-off between ‘hard’ factors and ‘soft’ factors.


Competition on Europe’s national retail banking markets is high – as retail banking is local, this translates into high competition at the EU level.


Implications for integration: Given that competition levels are high already, forced market integration is not necessary from a competition point of view. Instead, real market integration is demand driven.

Motivation: Competition and the debate on sector integration

In the European debate and especially in the view of the ongoing discussions on further sector integration it is vital to clearly understand competition in the retail banking sector. In particular it is necessary to avoid any overly simplistic approach towards assessing market competition, not only given its potentially harmful direct implications, but also in order to prevent the debate on sector integration from losing its perspective on market realities.

Attempts to deduce a need for further – politically precipitated – market integration by way of simplistic competition assessments need to be met with extreme caution, as they can easily yield misleading and distorted results. Also, it is important to keep in mind that already now ‘real’ market competition is very high within most national markets, and therefore – given the local character of retail banking – also on a European scale. In part at least, the intense competition among retail banks in the different national markets is


result of the well-established and functioning level-playing field for competition, which


a great achievement of the European Union.


On this basis and in order to yield truly meaningful contributions for the European debate on market integration, the comprehensiveness of competition assessments needs to be significantly enhanced. This being said, capturing and assessing retail banking competition on a European level is indeed a genuine challenge for policy makers and researchers. For any sector or industry it holds that market characteristics shape the concrete terms of competition and make it difficult for an observer to capture the sector’s competitiveness. Yet, as documented, for example, in the Commission’s recent sector inquiry into retail banking, 7 for the retail banking sector this challenge appears particularly great.

ESBG insights: competition on retail banking markets

Looking back at recent efforts to assess the competitiveness of Europe’s retail banking markets (namely the European Commission’s sector enquiry of 2007 and the last European Financial Integration Report 2008 8 ) and drawing on ESBG members’ own experience, ESBG has identified the primary challenges for a comprehensive and wide overview of competition in the European retail banking markets. They are due to the very nature of retail banking as a business and should be taken into consideration for future market assessments.

Competition among retail banks has a strong national component, as banks compete differently in the different markets. National modalities differ for pricing, interest rate setting and structuring of fees. All in all national banking markets are a product of underlying economic conditions, of macro-economic growth and industrial development. Furthermore, depending on a country’s economic situation, markets have different degrees of maturity. As a consequence, products and services which are comparable within markets are not necessarily comparable across markets – and neither are their prices or other relevant conditions. Consequently, observed price differences across markets are not reliable indicators for national differences in intensity of competition. 9

Undoubtedly, for many products, the most visible competition between retail banks is price competition, where prices are interest rates and fees/charges. Concretely, banks compete via cheaper loans and via higher interest rates on deposits and on the basis of the management fees of accounts. Prices are the most direct channel for competition in the sense that consumers can compare banks’ offers according to their prices and given that price advertisements are a central competition strategy. For these reasons, price competition is the most tangible feature of competition between banks. The price aspect also receives the most attention in the political debate on competition at the EU level – and indeed, if banks and banking products are otherwise identical, price differences will be the decisive factor for consumer decisions. Only if these conditions hold true is it valid to assume that intense competition eliminates price differences. However, reality is more complex.

Competition among retail banks has a strong national component.

Price competition is visible but by far not the whole story.

7 European Commission, DG Competition. 2007. Report on the retail banking sector inquiry. Commission Staff Working Document, SEC(2007) 106.

8 European Commission. 2009. European Financial Integration Report. Commission Staff Working Document, SEC(2009) 19 final.

9 For a more exhaustive treatment of these issues, please also refer to the ESBG Response to the European Commission’s Consultation on the Interim Report II: Current Accounts and Related Services, in context of the European’s sector inquiry into retail banking (completed in 2007). The ESBG Response can be downloaded from


Competition in retail banking is multidimensional.

From the experience of ESBG members, ‘soft factors’ are at least as important in determining a customer’s choice of bank, and may even take precedence over prices when it comes to gaining and maintaining customer satisfaction and loyalty. These ‘soft’ factors cover a wide range of bank characteristics: quality of service, bank staff’s knowledge of the customer and his/her circumstances, staff’s general competence, range of offers and flexibility, quality of assessment and adequacy of products, suitability of recommendations/advice, accessibility of branches and direct contact with staff, proximity to consumers, innovation in offers and speed of improvements.

To summarize, retail banks compete for customer satisfaction essentially via:




Products and services – specific features/variation/ flexibility/ security;


Confidence – trust in the bank’s reliability and soundness, as well as its safety, experience of smooth processing and competence;


Proximity and accessibility.

Prices reflect banks’ decisions to compete on ‘soft’ factors.

Competition reflects trade- offs by banks and customers.

For banks, a competition strategy is a trade-off between these different factors and the costs involved. Indeed, most ‘soft’ factors are connected with expensive investments by the bank and may push up overall costs. Consequently banks’ costs differ not only due to differences in efficiency but also due to differences in the quality of service or in the maintenance of branch networks (proximity banking). As costs translate into prices, the observed price differences hint not so much at a lack of competition as at differences in the depth of the banks’ service. Furthermore, as retail-banking is a local business, competition in retail banking is also local.

Banks’ competition profiles are influenced by the type of customers they choose to target. In general, the broader a banks’ customer base and range of offer, the less extreme are its competition strategies. For example, to compare traditional savings banks with a strong focus on proximity banking and SME clients with ‘direct banks’ offering only savings accounts, is like comparing the proverbial apple and orange. Yet, such different types of banks do compete, and each customer makes his/her preferred trade-off.

Implications of competition for the scope for further market integration

The recipe ‘more integration for more competition’ needs to be viewed with care.

Competition in the retail banking sector is heterogeneous across markets because banks compete differently according to market practices and national conditions. In addition, competition itself is multidimensional and reflects the different facets of retail banking as a business. For the use of competition assessments as well as for the scope of further market integration, this has the following implications:

n Restricting a competition assessment to a simplistic comparison of an overly narrow set of indicators can affect – or even negate – the usefulness of the investigation and lead to misleading conclusions. The complexity of competition implies that extreme care needs to be taken when competition assessments are used to investigate the need and scope for further market integration.



Looking at the current situation, the European retail banking market has already achieved a high and increasing degree of competitiveness. On this basis, only very marginal benefits (if any) would arise from aggressive steps towards more market integration directed predominantly at remedying perceived competitive deficits.


Retail banking competition is multidimensional. As market integration is demand driven, integration via market entry or cross border provision ultimately depends on the ability of the entrant to fulfil domestic demand in an already very competitive and complex environment, where competitive pricing is only one element of many.



Europe’s banking sector is distinguished by its great diversity – a consequence of differences between and within national markets which lead to a richness in banking practices and market players. At the EU level, Europe’s heritage of diversity in the banking sector should receive the appreciation it deserves.

Appreciating diversity is synonymous with aiming for the right balance between different goals and for the adaptability of policies to the different institutions in Europe’s diverse banking environment. In fact this is a condition for high-quality European policy making.

Furthermore, it is necessary to recall that diversity is a result of a process of adaptation to diverse and heterogeneous market environments and therefore the natural consequence of different legal, economic and cultural developments. Unless national (local) environments converge naturally, banking practices will maintain a distinctly national (local) character. Indeed, as retail banking is determined by both demand and external constraints, the role of banks is to fulfil the needs of the economy as adequately and efficiently as possible. Diverging banking practices therefore are a consequence of differences in demand and market environments (Section 2.1).

However, not only do banking practices differ throughout the EU, the banking sectors and market players themselves are also of very diverse. This is a consequence of different national developments and the adaptation of banks or their founders to national economic and legal environments. The diversity is first apparent from the substantial differences in the number and size of banking institutions in the different national markets. Second, the observed diversity in bank types implies diversity in banks’ objectives and orientation, which drives the overall performance and efficiency of the European banking sector (Section 2.2)

Given the variety of national banking models and practices, the conclusion is that – instead of a ‘European banking model’, there is a ‘European model of a banking sector’ which is best summarized as ‘Pluralism’. Indeed, pluralism is one of Europe’s great assets:

it implies equal competition and freedom of choice and approach to the benefit of the European economy. In concrete terms, pluralism drives competition in the banking sector and contributes to financial stability by preventing sector-wide ‘herd behaviour’ (Section 2.3).


2.1. Banking practices: EU comparisons – EU diversity

Key messages


Europe’s banking sector is distinguished by its great diversity as a result of Europe’s diverse heritage.


Diversity in banking practices is the result of diverse demand, diverse constraints and diverse environments.

Motivation: the changing goal of a Single Market in the political debate

In the past, policy makers’ interpretation of the Single Market and of what it should achieve appeared narrow and even dogmatic in its reliance on a very abstract economic

definition. Such adherence to the motto ‘identical prices, identical services, identical markets’

is dangerous for two reasons. First, an overly simplistic approach to assessing the Single

Market would not only blind us to its achievements which are directly in front of our eyes,

but may even negate and misinterpret its promises. Second, this approach gives impetus to misguided policy interventions which, on top of being harmful, also are wasteful in chasing the wrong goal.

Over time these problems became increasingly recognised, while the importance of underlying economic conditions as a driving force for retail banking product offers, fees and prices gained more and more acceptance. Against this background, policy makers have adopted a more differentiated approach and by now take distance from the dogmatic interpretation of a Single Market in their efforts to advance the integration of the European retail banking sector. Furthermore, it can be observed that there is a growing recognition at the EU level that, while the essence of retail banking is the same in all markets, a forced generalization of the actual business aspects neither contributes to understanding the sector, nor does justice to its diversity.

ESBG explanation – reasons for diversity in European retail banking practices

The observed evolution in the political debate – away from a dogmatic approach towards


practical recognition and appreciation of reality – certainly goes in the right direction.


order to support this trend, the reasons behind the diversity in European retail banking


Banking practices are determined by broader demand patterns.

practices are further explained.

To be successful retail banks have to meet the needs and preferences of the local economy. These needs and preferences, however, are to a large extent endogenous. They reflect and derive from a wide range of national specificities ranging from habits and traditions to economic conditions as well as policy factors. Demand patterns therefore differ for national markets, and even within countries regional differences in demand can be reflected in regionally diverse retail banking practices.

In addition, savings culture as such is an important factor. Comparisons of national savings rates and time trends in savings patterns yield striking differences across counties. 10 Partly these differences reflect underlying macroeconomic conditions; however, to a large extent they are the result of diverging national savings cultures and economic values. In retail banking, national savings patterns matter for the following reasons: First, the overall savings rate is important since domestic savings determine the availability of domestic funding for banks. In addition, the stability of the savings rate and its cyclicality influence banks’ planning horizon regarding deposit funding. Secondly, households’ preferences concerning savings deposits versus investments in capital markets determine the funding possibilities for banks (i.e. funding via deposits or wholesale funding). Of course, household savings preferences also drive banks’ offers in retail investment products and savings deposits.

Deeper cultural factors, economic traditions, and labour market characteristics also have great influence on banking practices. This is particularly the case for the demand for credit and mortgages. For example, overall borrowing patterns are driven by ‘national’ attitudes towards debt and the role of the family as a lender, for instance as consumers may choose to borrow within the family instead of applying for consumer loans at a bank. In addition, the relative social importance of home-ownership and the depth of rental markets for housing influence the demand for mortgages: They determine the volume of the market and influence the overall age and wealth profile of mortgage borrowers. Labour mobility and permanence in housing decisions may also influence the frequency of mortgages and consumers’ preferences regarding mortgage conditions.

In the payments area, an important factor is customers’ readiness to use the newest technologies, which is mainly driven by existing technological literacy and the satisfaction with existing payments methods. Therefore payments preferences have a strong demographic component. Furthermore, national traditions and habits are important factors in determining the use of cash vs. debit cards vs. credit cards, or the popularity of revolving credit cards. 11 Even among countries where, for applicable types of transactions, payments by direct debit have largely replaced cash payments and cheques, the modus of payments can differ according to whether they are executed in debtor driven mandate flows or creditor driven mandate flows. This not only determines the organization of the payments operation, but also influences the banks’ obligations regarding storage of data and potential follow-ups to payments.

Apart from national regulation, general government policy is influential for both supply and demand for retail financial services. Public-private trade-offs can determine banks’ business opportunities, for instance in the area of retirement provision. Examples include retail investment products tailored to support household saving and in line with government programs promoting private initiative to increase retirement income. Other prominent examples concern the financing of university education, where, as an alternative to government provided (tax financed) education facilities, public and private education draws on tuition fees, which often are financed by banks in the form of private student loans.

Banking practices are driven by savings culture.

Banking practices are driven by cultural factors, economic traditions and even the labour market.

Payments methods are a result of habits, preferences and technology.

Banking practices react to general government policy.

10 As demonstrated by Table 10 in Annex 1 - Statistics, Part 1.

11 Differences in payments modalities are demonstrated in Annex 1 - Statistics, Part 2, Table 1 and Figure 1).


EU level legislation focuses on selected areas.

While many aspects of the legislation applicable to credit institutions are defined at the EU level (see Part 3 of this report), for some aspects, legislation originates in the national environment. National legislation plays a lesser role for wholesale banking than for retail banking, where issues such as taxation and social policies of Member States are of great relevance. This influences retail banking practice via the supply of retail banking services and products

To sum up, the list of factors determining national demand patterns is long, and the examples given here are in no way exhaustive. Yet they clearly illustrate the wide range of national factors which influence product offers, prices and fee structures.

Diversity in practices determines the viability of the “simple” Single Market idea.

Implications for market integration

As a result of the national character of retail banking, hardly any two European retail banking markets look the same. Directly comparing prices and offers across European counties can yield to misleading conclusions, all the more so as the different factors are closely interlinked. Diversity in national practices has also implications for the integration debate itself:


Any assessment or comparison across national borders needs to take into account the national context and be based on the retail banks’ business strategy as a whole. This is an important point, which, however, is missed by any narrow definition of a ‘Single Market’.


For the nature of integration of the European retail financial market, the national differences between the different banking sectors also have important implications. In particular, in addition to the obvious ‘natural’ hurdles such as different languages, national differences in demand and environment can present a challenge for market entry. This is not because they constitute a barrier, but simply because the entering bank has to adapt to different national conditions and position itself in the face of different demand patterns.


For expanding banks, substantial sunk costs will thus be combined with initial or even permanent difficulties in achieving synergies between their operations in the different markets. Hence, especially for mature markets, entry may be less attractive or even outright unattractive. Similar hurdles exist for cross-border banking, which in addition is faced with the challenge to overcome customers’ preference for locally provided products and services.


Against this background, policy makers need to take a patient and circumspect approach to integration.



Europe – rich in market players

Key messages


Europe’s retail banking sector incorporates a great variety of national players and business models.


Differences in national banking sectors result from the adaptation to different economic environments.

Background: diversity in the European retail banking sector

Just like the European markets for retail banking products and services, the European retail banking landscape as such is distinguished by its diversity. Given the relevance of this diversity in any comprehensive discussion on market integration, it is important to illustrate its effect on market structures and its importance for a thorough understanding of the current situation on the European retail financial services market.

The main provider of retail financial services in the EU are banks, and hence credit institutions according to EU law 12 which therefore comply with all applicable EU banking regulation. This being said, however, there is no ultimate ‘European banking model’ as banks vary strongly according to their orientation, size, organizational structure and ownership. Rather, instead of a ‘European banking model’, there is a ‘European model of a banking sector’ which is best described as a pluralistic market culture.

Banks providing retail financial products and services are either ‘pure’ retail banks or universal banks, which alongside their retail banking business also operate as investment banks. In recent decades the trend has been that most ‘pure’ retail banks either participate in the ownership of or have a partnership with an investment bank or have some other (indirect) access to investment banking facilities.

ESBG description: diversity in business models and its effect on market structures

In examining the different options for banking, the variety of market players is impressive and reflects the richness of European banking traditions.

In the retail banking area the three main models are commercial banks, cooperative banks and savings banks. The different main categories, however, are not mutually exclusive. For example, savings banks can have various owners or supporting entities, including foundations and municipalities, but they can also be organized as cooperative structures. On the level of the entire banking sector, the three main models (commercial banks, savings banks and cooperative banks) represent three different approaches to banking.

In the retail banking area three general bank types prevail.

12 EC Capital Requirements Directive 2006/48/EC, Article 4. “Credit institution means an undertaking whose business is to receive deposits or other repayable funds from the public and to grant credit for its own account”.


National market structures differ according to banking traditions.

Sector evolution takes different paths in different market.

Market concentration is determined by banking traditions.

Performance of different bank types is not always directly comparable.

Already when looking at the sheer number of credit institutions throughout the EU, the importance of the characteristics of the national banking sector becomes obvious. 13 In general, national banking sectors with a strong presence of cooperative banks and savings banks are distinguished by a higher number of individual banks, always conditional, of course, on the overall market size. Clearly this goes back to the traditional structure of such bank types, their strong regional orientation, and their less developed tendency to pursue growth via mergers and acquisitions.

Even within categories of banks different developments take place, depending on national trends and banks’ own preferences and orientation. For instance from the structure of ESBG members in different Member States, different paths of evolution in the organization of savings banks are evident. 14 Indeed, ESBG’s membership includes a range of possible configurations, reaching from savings banks forming one common banking group, to savings banks organized in decentralized networks, to savings banks operating completely independently.

Furthermore, differences in the composition of national banking sectors also are reflected in the degree of market concentration in terms of banks’ share in asset holdings. 15 In particular, in countries with a large number of banks and a strong presence of savings and cooperative banks, the market share (measured in assets) of the ‘top five’ credit institutions is comparatively low. Divergences in market concentration also hint at potential differences in the way competition works in the different retail banking sectors. In addition, these divergences underline that national banking culture and banking sector composition determine the systemic importance of the largest players in a market.

Regarding the comparability of banks, the variety in banking sectors and business models has the additional effect of making comparisons between banks’ efficiency and profitability extremely difficult. The most obvious difficulty lies in the comparison of ‘pure’ retail banks and universal banks even within markets, given the differences in business focus and hence in revenue and associated costs. Banks’ business models also determine their direct and indirect objectives and planning horizon. While profitability is a key element for all banks, it is not necessarily the only objective for all credit institutions. Here, ESBG members serve as examples of banks taking a wider approach in the form of ‘stakeholder- return oriented’ banking.

Similarly, banks face trade-offs between short-run profits and long-run returns as well as between growth and sustainability. Banks’ choices on these trade-offs, of course, feed into their measured profitability and efficiency. Therefore, any differentiated approach to measuring bank performance needs to ask what the different types of banks ultimately seek to achieve.

These caveats to cross-market sector comparisons are similar to, and connected with the observations previously made on competition between banks (See also section 1.3). They highlight the importance of understanding the banks and the business under comparison, as well as the composition of and orientations within the national banking sectors. Another crucial issue for any cross-European assessment of prices and bank performance is, of course, that markets differ in maturity and hence in the very scope for bank profitability.


13 See Annex 1 - Statistics, Part 1 Table 2.

14 See Annex 1 - Statistics, Part 1 Table 1.

15 See Annex 1 - Statistics, Part 1, Table 11.

Implications for the discussions on market integration

The diversity reflected within Europe’s retail banking markets underlines that there is not one superior market structure, but that many kinds of market structures are viable, feasible and thriving. This has implications for a reality-based debate on market integration:

Europe should unite its diverse markets in a harmonic entity.


There is no recipe for the composition and structure of the European integrated retail banking sector apart from that it should combine the advantages of its different sectors to form a harmonic entity.


It is important to refrain from any hastened value judgments regarding the nature or performance of the different market players, as many seemingly straightforward comparisons can in fact be misleading. The over-reliance on a narrow set of indicators to draw conclusions on the merits of different banks or business models can unjustly neglect important factors and lead to false impressions among policy makers on the role of banks in different markets.

2.3. Pluralism in the EU retail banking market

Key messages


Pluralism is an asset for the European economy – it benefits the real economy, drives competition and increases financial stability.


Pluralism ensures wide presentation of stakeholder interest.


Pluralism ensures that the European banking sector is more than the ‘sum of its parts’.

Motivation: Pluralism needs to be taken into account when regulating Europe’s markets.

The diversity in market players is an important factor for regulators and policy makers, since, for Europe to make the best of its strengths, regulation and policies need to be compatible with the different business approaches. However, gaining a comprehensive overview over the richness of the European retail banking sector certainly is a demanding task.

In Europe’s pluralistic environment, EU policy makers’ recognition of the necessity of proportionality in market regulation is of great importance. The principle of proportionality is an essential guideline to ensure that regulatory requirements are not to the detriment of (especially smaller) market players or place a disproportionate burden on market players whose activities do not entail the same risk as those who could be systemically important in a certain area. Therefore, proportionality plays a crucial part in ensuring fairness and compatibility of regulation with market realities in a pluralistic and diverse sector.

Proportionality is key for regulating the pluralistic banking sector.

ESBG explanation: Principles of pluralism of Europe’s retail banking sector

Given the central role of pluralism in Europe’s retail banking sector and the opportunities, as well as challenges it presents to policy makers and regulators, it is important to explain certain principles of pluralism, and to address and eliminate potential misperceptions.


Within the pluralistic banking sector, market players compete on a ‘level playing field’.

Pluralism is part of market evolution.

All ownership models entail compromises and trade-offs.

It has been a great achievement of EU law-makers to ensure that all market participants are competing on a level playing field according to the principle ‘same business, same risk, same rules’. This means that all regulation applies equally to all market players engaging in the same activities. Consequently, from an EU regulation point of view, savings banks compete on equal terms with cooperative banks and commercial banks, large banks compete on equal terms with small banks (in a given market) and foreign banks compete on equal terms with domestic banks.

Europe’s retail banking markets are shaped by history and economic development over centuries. Therefore the respective business models have grown with and adapted to the economies of the different Member States: they are endogenous and fully integrated in their economic system. It is therefore impossible to define a ‘starting position’ for a European retail banking market, but it would be equally wrong to consider the current situation as static or to even fear stagnation.

All ownership models entail compromises and trade-offs. For example, banks organized as joint-stock companies have the advantage of relatively easy access to external capital via the issuance of shares, which enables them to pursue more expansionary strategies. On the downside, shareholder pressure for fast and high returns leads to a strong focus on short-term goals. Additional disadvantages are the strong exposure to developments on capital markets and a vulnerability to share price fluctuations, the potential severity of which was underappreciated until recently. Non-listed banks, on the other hand, face capital constraints in that they largely have to rely on retained earnings. On the upside, in situations of stress they are relatively unaffected by stock market pressure or share price fluctuations.

Benefits of pluralism for the real economy, competition and stability

The benefits of pluralism need to be fully appreciated in order to realize the strengths of the European banking sector. Indeed pluralism is an asset in many dimensions.

Pluralism reinforces the link between banks and the real economy.

Pluralism reinforces competition.

From a socio-economic point of view, pluralism implies wide stakeholder representation and reinforces the link between banks and the real economy. For example, cooperative ownership or ownership/sponsorship by municipalities or foundations ensures that a bank’s business activities are compatible with stakeholders’ economic interests. For ‘stakeholder- return oriented’ banks return implies profits and quality of service, depth of regional presence and regional development.

Regarding competition, pluralism implies a large and stable number of competitors, whose diversity drives innovation and intensifies competition while simultaneously ensuring complementarities in offers and strategies among banks. One could even go so far as to conclude that pluralism guarantees competition and adds an additional dimension along which banks compete. 16 Pluralism gives customers the option to choose not only between competing banking products and services, but also among competing business models with different approaches to banking.

16 In this context ESBG nevertheless feels the need to warn against the frequent confusion between competition on the market for retail banking products and competition on the market for retail banks. Such a misconception could wrongly suggest that for competition between banks it is necessary that banks should being for sale at any point in time to the highest bidder.


Around the time of the completion date of this work, the financial and economic crisis has reached its second anniversary. The lessons we could draw so far are manifold, and undoubtedly many more lessons will follow. However, one of the most important lessons is that the pluralistic nature of the European banking market has most likely protected it from far greater instability and damage. Indeed, events up to date confirm that pluralism has contributed to financial stability during the crisis, as the diversity of market players with different business orientations balances out the effects of problems at individual banks.

Pluralism contributes to financial sector stability.


Part 3 EU Retail Banking Policy:

ESBG Contributions and Recommendations


The EU Approach to Financial Sector Policy and ESBG’s Contributions on the Basis of the ‘Market Model’

The integration of Europe’s retail banking sector is one of the important topics on policy makers’ agenda. Yet the ‘vision’ of what the integrated market should look like is subject to changes in policy makers’ perception of the sector and in their views on what would be desirable developments. The question of how to achieve integration has undergone a similar evolution. Starting from a conviction by many policy makers that full integration needs to be built on full harmonization in market regulation, recent years have shown an increasing preference for targeted or minimum harmonization and mutual recognition across countries. Hand in hand with these developments, there has been an increased understanding of the retail banking market and a nearly unanimous recognition that retail banking as a business is local and driven by customer demand.

The central effort to bring about an integration of the EU financial services sectors is the Financial Services Action Plan (FSAP – 1999-2004). The FSAP is a substantial set of legislative measures covering all aspects of financial services with the result of greater integration in particular of the wholesale financial sector. In the post-FSAP period, numerous initiatives covered by the FSAP were brought to a conclusion. During that time, the retail banking area was identified as a priority for future efforts towards market integration. In addition, in the context of the current financial markets crisis, regulatory and policy efforts are already being taken (or envisaged for the future) in order to address the revealed shortcomings of the existing framework.

ESBG takes the present report as an opportunity to put forward its views and recommendations on the Commission’s current individual initiatives concerning the banking area, with a particular focus on retail banking relevant issues.

While, naturally, these contributions are made from a retail banking angle, it is also necessary to view the issues at hand in the context of the working of the economy overall. One of the generally accepted ways to look at the link between financial authorities, the financial sector and the wider economic system is the ‘market model’. The market model provides a structure to understand the process by which monetary policy and standard setting for risk management feed through the financial system in order to generate price stability and public confidence. For this purpose, the market model distinguishes between ‘markets’ and their respective ‘support systems’.

From a retail banking perspective, the most important aspects of the market model are:


financial sector supervision and risk management standard setting;


wholesale financial markets and capital markets on the one side and high value, foreign exchange & securities settlement systems (as far as they have implications for retail banking activities) on the other;


financial services markets;


goods and services markets on the one side and on the other side retail and commercial clearing systems.


The structure of this section and the way in which ESBG’s contributions are ordered reflects how the issues at hand concern the different levels of this model:

Chapter 1 outlines ESBG’s views on banking supervision. This is followed by recommendations on financial reporting, with contributions on fair value accounting (Chapter 2) and IFRS and SMEs (Chapter 3).

ESBG then gives its views on retail banking relevant topics in the wholesale financial and capital markets area, covering wholesale payments and settlements infrastructure (Chapter 4), securities (Chapter 5), and asset management and investment funds (Chapter 6).

Turning to the core activities of retail banks, ESBG gives its comments and contributions as regards consumer policy (Chapter 7), the retail payments area (Chapter 8) and the fight against money laundering and terrorist financing (Chapter 9).

Regarding the real economy and important issues concerning ESBG’s customers, ESBG presents its views on SME financing (Chapter 10), as well as financial inclusion (Chapter 11) and financial education (Chapter 12).



Setting the scene

Banking supervision broadly refers to the rules and processes that aim to ensure the individual safety and soundness of financial institutions and the broader financial stability of the markets. Within the framework of banking supervision, all banks are subject to prudential rules and to controls and interventions from supervisory authorities.

In the EU, prudential regulation has been largely harmonised at the European level through extensive and detailed directives, which to a large extent are designed to implement internationally agreed standards. Prudential supervision, on the other hand, is conducted primarily by the national competent authorities, with some cooperation and coordination agreements in place to address cross-border situations.

During recent years, a series of reforms have been adopted which affected various aspects of the EU prudential framework. These have concerned:


The substance of the prudential rules – e.g. the introduction of the three pillars approach of the Basel II framework in the Capital Requirements Directive (CRD);


The institutional framework for regulation – e.g. the establishment of the four-level Lamfalussy regulatory framework;


The organisation of supervision in the EU – e.g. the extension of the powers of the ‘consolidating supervisor’ in the CRD; and


The cooperation arrangements between national supervisors – e.g. the adoption of Memoranda of Understanding and the setting-up of various cooperation platforms for national authorities.

The financial crisis has provided a new impetus for discussions on an appropriate supervisory architecture in the EU and led to concrete proposals for amending the regulatory framework in view of addressing various shortcomings revealed.

In this chapter two equally important dimensions of banking supervision in the EU are explored: the institutional arrangements for supervision and the regulatory framework. The focus is on the main issues at stake, especially as concerns the ongoing reforms. The last part of this chapter will address the specific question of the review of the Deposit Guarantee Schemes Directive.


1.1. The EU institutional arrangements for supervision

Key messages


Any reform of the supervisory architecture should seek to build on the strengths of the current framework, especially the important role of national supervisory authorities.


Any institutional reform has to address both micro and macro aspects of prudential supervision.


The new focus on the risks inherent to macro developments in the economy and in the financial markets is welcome, given the role of interconnections in the build up of the crisis. Here, the main challenge will be to ensure that emerging systemic risks are detected in a timely manner and that effective and efficient action is taken.


ESBG generally supports the establishment of a European System of Financial Supervisors, which shall be a decentralized network of national supervisors with coordinating roles for the three new ‘Authorities’.

Background on EU banking supervision: the European debate

The question of the appropriate supervisory framework in the EU has been discussed by EU regulators, politicians and policy makers for many years. Traditionally, there have been two motivating factors for EU-level involvement in banking supervision:


First, there is the objective of creating an effective EU internal market (i.e. a common banking market) where the freedom of cross-border establishment of banks and the provision of cross-border services are guaranteed and can be effectively made use of. Here, especially the large, internationally-active banks have argued that a fragmented supervisory architecture is not compatible with a situation where cross-border entities increasingly manage their activities centrally (e.g. cash management, development of internal models).


Second, in order to safeguard financial stability in an integrated EU banking market, it is necessary to take into account the rising interdependence between financial institutions and the implicitly higher contagion channels and systemic risks. From this perspective, the EU was seen as having a role with regard to macro-prudential aspects. This was also the case in light of the broad function attributed to the European Central Bank (ECB) with regard to the maintenance of financial stability,

Over time, policy makers did not attribute the same weight to these two different perspectives for the involvement of the EU in supervisory matters. For years, the ‘internal market dimension’ dominated the discussions and constituted the focus of policy reforms concerning the EU supervisory architecture. This was driven by the political goal to achieve an EU Single Market for financial services, which led for instance to increasing the powers of the consolidating supervisor. 1 This focus was to a large extent influenced by the ambition of EU policy-markers to facilitate the creation of ‘European champions’ – i.e. large cross-border financial institutions, which would be in a position to globally compete with their international counterparts. However, both the macro-prudential aspect of EU banking supervision and the discussions of crisis management and burden sharing were only marginally addressed by European policy-makers.

1 See Art. 129(2) of the Capital Requirements Directive (CRD) (Directive 2006/48/EC of the European Parliament and of the Council Directive of 14 June 2006 relating to the taking up and pursuit of the business of credit institutions (recast), OJ L 177, 30.06.2006).


The outbreak and evolution of the financial crisis led to a realignment of priorities regarding the EU supervisory architecture. Now, the stability of the EU financial system has become the priority, while efficiency concerns – especially related to large, internationally active cross-border banks – are less in the spotlight.

Status quo in banking supervision

The status quo of banking supervision in the EU can be summarised as follows:

The exercise of banking supervision in the EU is the responsibility of the Member States’ competent authorities. However, since the Second Banking Directive 2 and the application of the European passport to banks, the principles of home country control, mutual recognition and consolidated supervision apply. According to these rules, the competent authority of the Member States that authorised the establishment of a credit institution (the home country supervisor) is broadly responsible for the supervision on a consolidated basis of the activities of the respective institution even when performed in a different country (host country) via the establishment of branches or the cross-border provision of services. Yet, host countries retain a series of responsibilities with regard to specific subjects (e.g. liquidity supervision).

For banks that decide to operate in other Member States with subsidiaries, the European passport does not apply, as subsidiaries acquire a legal personality in the Member State in which they operate; as such, subsidiaries fall primarily under the responsibility of the competent authority of that Member State. Nevertheless, a number of provisions have been adopted in recent years to facilitate the prudential oversight of cross-border banking groups, including foreign subsidiaries. For instance, the Capital Requirements Directive (CRD) introduced the possibility for the consolidated supervisor to validate internal models for risk measurement under Pillar 1 at the group level, 3 as well as the possibility for Member States to decide on a bilateral basis on delegating the supervision of subsidiaries to the competent authorities responsible for the parent undertaking. 4 A new step was made with the review of the CRD in 2009, which rendered mandatory the establishment of colleges of supervisors for all cross-border financial groups. 5 The CRD also stipulates that supervisory colleges have to strive for the adoption of joint decisions on issues of common interest (e.g. Pillar 2 supervisory review, imposition of capital add-ons). The establishment of the Committee of European Banking Supervisors (CEBS) was also widely regarded as an important step in the direction of a more European approach to the supervision of EU banks because of the tasks assigned to it in relation to the convergence of supervisory practices and the creation of a common supervisory culture.

At this stage it is vital to remember that the strong national focus on supervision is intrinsically linked to the question of the fiscal responsibility in case of a bank failure. The lender of last resort, capital injections, state guarantees for ailing institutions etc. all rely on national financial resources and justify Member States’ claim in preserving their supervisory powers over the institutions operating in their markets.

2 Second Council Directive 89/646/EEC of 15 December 1989 on the coordination of laws, regulations and administrative provisions relating to the taking up and pursuit of the business of credit institutions and amending Directive 77/780/EEC, OJ L 386, 30.12.1989.

3 Art. 129(2) CRD (Directive 2006/48/EC of the European Parliament and of the Council Directive of 14 June 2006 relating to the taking up and pursuit of the business of credit institutions (recast), OJ L 177, 30.06.2006).

4 Art. 131 CRD.

5 European Parliament legislative resolution of 6 May 2009 on the proposal for a directive of the European Parliament and of the Council amending Directives 2006/48/EC and 2006/49/EC as regards banks affiliated to central institutions, certain own funds items, large exposures, supervisory arrangements, and crisis management P6_TA-PROV(2009)0367, 8.05.2009.


The crisis and immediate policy reactions

As the financial crisis unfolded, EU policy makers were concerned that weaknesses in the EU supervisory framework were partially responsible. European Commission President Barroso therefore decided in November 2008 to establish a High Level Expert Group under the chairmanship of Jacques de Larosière. The Group was entrusted with the task of developing concrete proposals to strengthen European supervisory arrangements covering all financial sectors. In February 2009, the report of the High Level Group (called the de Larosière Report 6 ) was issued. The Report consists of an analysis of the crisis, proposals for regulatory reforms and policy recommendations on the structuring of the future supervisory architecture, separately addressing macro-prudential and micro-prudential supervision in the EU.


Regarding macro-prudential supervision, the Group believes that there is urgent need to upgrade the current framework and entrust the European Central Bank/European System of Central Banks (ECB/ESCB) with an explicit formal mandate to assess high- level macro-financial risks to the system. The ECB/ESCB would then issue warnings where necessary. For this purpose, the report proposes to set up a new body, the European Systemic Risk Board (ESRB) under the auspices of the ECB and replacing the current Banking Supervision Committee (BSC).


Regarding micro-prudential supervision, the de Larosière report recommends the gradual creation, in two stages, of a European System of Financial Supervision, that would build on the current institutional set-up. As part of this proposal, it is suggested to gradually transform the Level 3 Committees into ‘Authorities’ with key-competences, such as legally binding mediation between national supervisors or the adoption of binding supervisory standards.

The Commission broadly endorsed the de Larosière approach in a Communication of 4 March 2009. 7 Furthermore, the Commission published concrete proposals on a future EU financial supervisory architecture on 27 May 2009 (the Commission’s May Communication 8 ). In that document, the Commission generally took up the proposals made by the de Larosière Group on macro and micro prudential supervision. However, the Commission proposed accelerating the reform and merging the two phases suggested in the de Larosière report in view of having the new architecture up and running by the end of 2010.

The general direction of the Commission’s Communication was endorsed by the ECOFIN Council on 9 June 2009 and by the European Council on 19 June 2009. 9 Concrete legislative proposals will follow in autumn 2009.

6 de Larosière, J., L. Balcerowicz, O. Issing, R. Masera, C. Mc Carthy, L. Nyberg, J. Pérez and O. Ruding. 2009. Report by the High Level Group on Financial Supervision in the EU, 25 February 2009 [de Larosière report].

7 European Commission. 2009. Communication for the Spring European Council. Driving European recovery, COM(2009) 114 final, 4 March 2009.

8 European Commission. 2009. Communication on European Financial Supervision, COM(2009) 252 final, 27 May.

9 European Union’s Council of Ministers for Economy and Finance (ECOFIN). 2009. Meeting of the Council of Economic and Financial Affairs, 9 June 2009 and Council of the European Union. 2009. Presidency Conclusions meeting June 18th /19th.


ESBG views on the EU financial supervision, in light of recent developments

General remarks

The financial crisis and its consequences put the EU supervisory architecture in the spotlight. At the same time, the reform of the EU supervisory framework should be considered against the background of the multiplicity of factors contributing to the crisis, most of which are unrelated to the EU supervisory structure. Therefore, a holistic approach is needed and the focus on reforming the EU financial supervision architecture should not divert attention from the need to address other substantial aspects through adequate policy measures.

Policy makers need to take

a holistic approach beyond supervision.

It is crucial that any reform to the EU supervisory framework contributes to strengthening the resilience of the EU financial system as a whole. It should therefore address the supervisory concerns characterising an integrated financial market, among which interactions and linked vulnerabilities (macro-prudential aspects), as well as the coordination of micro- prudential decision-making.

Yet, also the effect on competition arising from any such reform to the EU supervisory framework needs to be given due consideration. Most importantly, reforms should in no way set the groundwork for a two-tier system, where systemically relevant banks are supervised at the EU level and national or local banks remain under the control of domestic supervisors. Any such division would result in supervisory asymmetries inappropriate in the EU context and would create distortions of competition in the very markets where credit institutions operate.

A two-tier supervisory

system could create grave distortions to competition.

Remarks on the proposals in the Commission Communication of 27 May 2009

There is a need to repair the proven shortcomings in European supervisory arrangements. Particularly, ESBG supports the idea of bringing together macro- and micro-prudential approaches, as this would compel the parallel consideration of both the financial safety of individual institutions and of the system as a whole. At the same time, the reform of the supervisory architecture should capitalise on the merits of those features of the current framework that worked well. Thus, the new architecture should explicitly acknowledge the comparative advantage of national supervisors in day-to-day supervision stemming from their proximity and their better knowledge of markets and intermediaries.

ESBG generally supports the Commission’s approach.

As such, whilst supporting the general principles underlying the Commission’s proposals, ESBG would like to emphasise that the concrete details relating to these principles are of utmost importance. These details to a large extent still need to be determined and may impinge substantially on the concrete outcome.

The current momentum and the acute awareness of policy-makers of the risks involved


realistic timeframe

by inadequate supervisory structures should provide the impetus for changes. However, ESBG believes that it is also essential to take the time to thoroughly prepare the future structures and avoid rushed measures. In this sense, the ambition to have the new architecture in place by 2010 may be unrealistic. Rather, a more flexible time schedule would be more promising.




Proportionality should guide the application of the common rulebook.

It is essential to establish clear lines of responsibility between the various bodies.

An effective macro-prudential body would be valuable.

Given ESBG’s consistent support for the creation of a common supervisory culture in the EU, the idea that this be underpinned by a European rulebook consisting of a harmonised core set of standards is in principle welcomed. However, it is important that the rulebook does not amount to a rigid framework or to overregulation. The rulebook should be devised in accordance with better regulation principles and applied under the overarching proportionality principle.

The integrated complex supervisory framework proposed by the Commission involves

a multiplicity of bodies and fora and a range of decision-making, coordination and

cooperation mechanisms. These can be effective only if competences are clearly circumscribed and if clear lines of responsibility are drawn in advance to ensure that overlaps or gaps in the European supervisory framework are avoided and that the bodies involved are accountable for their actions.

The establishment of a body explicitly entrusted with monitoring macro-prudential developments and issuing warnings and recommendations is considered of utmost importance. It is equally important to ensure the effective follow-up on these warnings and recommendations. Therefore the envisaged European Systemic Risk Board (ESRB) is much welcomed. However, the proposals of the Commission so far are only indicative and substantial details are still pending – especially regarding the transposition of the results of the macro analysis into concrete prudential measures.

These details should especially clarify the effects of the risk warnings and recommendations by identifying potential addressees and the roles and responsibilities of ECOFIN and of the micro-prudential authorities. Also, in view of guaranteeing the follow-up it is crucial to determine the precise workings of the ‘act or explain’ mechanism. Appropriate arrangements should warrant that the non-binding competences of the ESRB are not transformed through factual pressures into de facto binding powers. Furthermore, the public disclosure of warnings and recommendations is not necessarily the best way for increasing effectiveness.

The powers of the micro- prudential authorities need to be cautiously devised.

ESBG supports in principle the creation of the European System of Financial Supervisors as an operational network relying on the mutually reinforcing responsibilities of the upgraded Level 3 Committees 10 and the competences of national supervisory authorities

in day-to-day supervision. In principle the functions envisaged for the new European

supervisory authorities (ESAs) are valid, but the Commission’s Communication is still too vague to allow for an accurate assessment of the underpinning mechanisms and concrete powers.

Many details still need to be determined and several aspects should be taken into account for further specification. The new authorities’ competence to adopt binding standards and the areas subject to further binding rules should be clearly circumscribed in EU sectoral legislation. Also, the mechanism for endowing technical standards with binding legal force should be transparent and provide sufficient guarantees to ensure accountability. Furthermore, the power to settle disagreements between national supervisors through binding decisions should be seen as a last-resort solution to be employed only if mediation and conciliation have failed. Equally, ESAs’ enforcement competences and their powers in emergency situations should be precisely defined to avoid any abuse.

10 The three Level 3 Committees in the Lamfalussy framework are: the Committee of European Banking Supervisors (CEBS), the Committee of European Securities Regulators (CESR) and the Committee of European Insurance and Occupational Pensions Supervisors (CEIOPS).


The ESAs should not be endowed with direct and binding powers against individual banks until several preliminary issues are clearly specified. These concern especially the determination of the applicable law on which ESAs’ concrete decisions will be based, as well as appropriate legal remedies and appeal procedures. Furthermore, credit institutions should have the possibility to be heard in cases leading to concrete decisions by the ESAs which affect them. They should also be able to ask ESAs to mediate or settle disputes among supervisory authorities and to request that ESAs investigate cases of manifest breach of EU law.

The industry should have a say in the supervisory process, as it is important that experts bring their practical insights with regard to both macro- and micro-prudential developments. ESBG suggests that the forthcoming legislation should explicitly foresee the involvement of the industry in the new bodies. This could be realised via the participation of industry representatives in the advisory technical committee envisaged to support the work of the ESRB, while existing industry consultative panels could be integrated and formalised inside the ESAs.

The political commitment that the powers of the new authorities do not impinge on Member States’ fiscal responsibilities is largely supported by the ESBG. This should be more clearly articulated in the forthcoming legislative proposals. At the same time,

there is an inextricable link between supervision and crisis management. Efforts to establish

a coherent and workable regulatory framework for crisis management in the EU should be pursued as a matter of priority.

Substantial and reliable information (and data) will be essential for the effectiveness of the new structures. Their main information source should be the national central banks and supervisory authorities which by now have a large database on individual institutions and national financial systems, to which the banking industry is regularly contributing.

It is crucial that banks are not submitted to double reporting and that the additional cost

burden for information is kept as low as possible. Therefore, the ESRC should not be able to request information directly from market participants and the envisaged central European database should not introduce a second set of disclosure requirements for banks.

The industry should contribute its views to the micro- and macro- prudential bodies.

Crisis management solutions are still pending.

Costs for additional information should be kept to a minimum.


1.2. The EU regulatory framework

Key messages


The financial crisis has exposed weaknesses in the current prudential regulatory framework. Yet, this does not call for a complete overhaul of the rules in place. EU policy makers should correct the identified weaknesses by improving the Basel II framework.


The current political momentum must not be lost, but the ‘Better Regulation’ approach needs to be respected. In addition, the timing for the introduction of new rules is important, as measures which would have positive effects in the long run could prove counterproductive if introduced in exceptional market conditions.


ESBG supports the efforts to ensure that appropriate rules are in place to prevent excessive risk taking in the future. However, new rules must respond to the identified problems; they should not endanger practices that have proven their effectiveness from a market stability or risk management perspective.

Background: the Capital Requirements Directive (CRD)

The Capital Requirements Directive 11 (CRD) is the framework legislative instrument in the EU setting prudential standards for credit institutions and investment firms. The CRD transposes into EU law the Basel II Framework 12 and its three pillars: capital requirements (Pillar 1), supervisory review (Pillar 2) and market discipline (Pillar 3). In the light of prudential failures revealed by the crisis, the CRD has become a major target of regulators and policy makers.

A first review of the CRD took place in 2009 and inserted already in European law regulatory

responses to perceived shortcomings. This review – referred to also as “CRD 2” 13 – amended the existing rules on the large exposures regime, the definition of hybrid capital instruments, the prudential treatment applicable to securitisations, supervisory arrangements and references in the CRD to liquidity risk management.

A set of further proposals for amendments to the CRD have been either issued already or

are in the process of preparation. The topics addressed include: the prudential treatment of complex financial instruments and of the trading book, liquidity risk management, procyclicality, leverage, and remuneration policies by banks.

ESBG views on the ongoing regulatory developments

Basel II provides a valuable prudential approach.

General remarks

ESBG has consistently expressed support for the Basel II approach as transposed into the CRD and our current assessment remains generally positive. Specifically, the Basel II approach is considered to have contributed to improving risk management within ESBG Member banks and definitely constitutes a welcome step forward with respect to Basel I. Furthermore, Basel II has still large unexplored resources such as Pillar 2 which, once consistently applied, has the potential of preventing much of the excessive risk-taking that contributed to the current crisis.

11 European Parliament and Council Directive 2006/48/EC of 14 June 2006 relating to the taking up and pursuit of the business of credit institutions (recast), OJ L 177, 30.06.2006 [Capital Requirements Directive].

12 Basel Committee on Banking Supervision, Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework, June 2004, revised in November 2005 [Basel II framework].

13 Proposal for a Directive of the European Parliament and of the Council amending Directives 2006/48/EC and 2006/49/EC as regards banks affiliated to central institutions, certain own funds items, large exposures, supervisory arrangements, and crisis management [SEC(2008) 2532] [SEC(2008) 2533]; European Parliament Resolution adopted on 6 May 2009; forthcoming publication in the OJ.


However, in the light of the crisis some shortcomings in the Basel II framework became apparent. ESBG fully supports efforts to address these shortcomings and stands ready to contribute to the process of improvement of the rules in place.

Amendments to Basel II/CRD should address proven shortcomings in a systematic way.

Generally speaking, a more systematic and holistic approach to legislative amendments in the aftermath of the crisis would be welcome. All relevant aspects should be looked at and policy measures should be proposed only where pertinent. A straightforward distinction between short-term and long-term objectives is crucial in order to avoid regulatory mismatches. Furthermore, a clear prioritisation should be devised, taking into account the substantial impact of the aggregate regulatory changes on the banking industry and the related high administrative burden involved.

Looking ahead, there is cause for concern regarding the acceleration of the regulatory activity, which implies a higher number of public consultations with ever shorter deadlines. Although current circumstances are admittedly exceptional, such trend does generally not benefit the final outcome and may ultimately undermine the Better Regulation approach. Especially when proposals are made in areas not previously covered by legislation, sufficient time should be granted to stakeholders in order to analyse the full potential impact.

It is particularly important that new regulatory measures fully respect the principle of proportionality. Regulatory measures and their application in practice should duly take into account the size, complexity, business strategy and riskiness of an institution – in particular having in mind that the smaller institutions with traditional banking activities did not contribute to the crisis, but rather helped to mitigate its effects.

Last but not least, the global dimension of financial markets and the imperative of establishing a level playing field at international level are important. All regulatory efforts should accordingly be as much as possible coordinated at a global level. Of course, this should not prevent the EU from moving forward on its own, when reaching timely agreement with its international counterparts does not prove possible.

Specific aspects

n Prudential treatment of complex financial instruments Background:

Regulatory amendments should observe the Better Regulation principles.

Proportionality should be confirmed as an overarching principle.

Regulatory reforms need to pay due account to the global level-playing field.

Securitisation and the emergence of innovative complex financial instruments (such as mortgage or asset backed securities, collateralised debt obligations, special purpose vehicles and structured investment vehicles) have been long praised for their merits in diversifying risks and fuelling financing possibilities. Yet, the crisis revealed that there were misunderstandings in relation to the process of securitisation and the characteristics of such products on the part of both financial institutions and regulators. The perception of improved distribution of risks proved to be inaccurate in light of several banks’ excessive use of complex instruments. Securitisation (when conducted improperly) was among the main vehicles by which risk was actually spread.

To address the concerns related to securitisation, a new article (122a) was inserted into the CRD at the occasion of the review finalized in April 2009. This new provision is the first wide-reaching response of the EU to address the shortcomings identified.


On 13 July 2009, the Commission issued a new legislative proposal for amending the CRD 14 (“CRD 3”), on which it held consultations in Spring 2009. The aim of the proposed changes is to ensure that minimum capital requirements better reflect the risks attached to complex securitizations and exposures to off-balance sheet vehicles, supplemented by adequate risk management and disclosure practices. The Commission’s proposals build on regulatory proposals by the Basel Committee.

Legislative amendments should focus on ascertained inadequacies, without stigmatising securitisation altogether.

New capital rules on resecuritisations should not prevent ‘clean-up’ operations.

ESBG views:

ESBG does not dispute the well-established lesson from the crisis that the riskiness of securitisation exposures was not fully understood, which was reflected in shortcomings in their regulation. There is therefore a need for regulatory amendments that address inadequacies under the current framework. Nevertheless any such amendments should give due consideration to the fact that securitisation – when conducted properly, with due diligence and avoiding excesses – is a valuable mechanism for diversification and risk transfer, which has proven helpful and will remain useful in the future. Consequently, it is important that the envisaged new regulatory measures focus on addressing observed excesses without stigmatizing securitization altogether, as this could stifle securitisation activities completely.

Regarding resecuritisation, the envisaged new EU regulatory proposals should consider that extensive qualitative requirements for the risk management of securitised assets have already been enshrined in the new Article 122a of the CRD. Additionally, institutions have already started to improve internal processes of risk assessment in this regard. Any suggestion to fully deduct all re-securitisations from capital would go against Article 122a, and would not be supported by ESBG. 15 In particular, a flat deduction of resecuritisations from own funds would not provide any incentive for appropriate due diligence and would run against the goal of ensuring proper risk management. Such a deduction requirement potentially endangers the current efforts for restoring banks’ balance sheets. In fact, many banks are currently being encouraged by their regulators to undertake 'clean up' transactions to deal with toxic or potentially toxic assets, where most of these transactions will count as resecuritisations. As these structures are currently being developed, it is impossible to determine the exact capital impact. However, these structures will most certainly not be developed if the associated capital requirements make them unfeasible. Hence any such 'clean up' operation risks being undermined.

n Prudential treatment of the trading book Background:

Banks’ investment activities are mainly registered in the trading book. In light of the crisis, policy makers have concluded that the regulatory capital treatment applicable to the trading book and to market risk pursuant to the CRD has been too lenient. Hence, various measures are currently contemplated by the European Commission and the Basel Committee to strengthen capital requirements in the trading book. Following a public consultation in March 2009, amendments to the CRD in view of reinforcing capital requirements for trading book activities were included in the legislative proposals issued on 13 July 2009 – “CRD 3”.

14 Proposal for a Directive of the European Parliament and of the Council amending Directives 2006/48/EC and 2006/49/EC regarding capital requirements for the trading book and for re-securitisations, and the supervisory review of remuneration policies SEC(2009) 974 final SEC(2009) 975 final; 13.07.2009 [CRD 3]. 15 In line with this new Article 122a, it appears logical that banks that are able to meet the qualitative requirements for the review and monitoring of the securitised assets for a resecuritisation should be permitted to apply the risk weights for resecuritisations. On the contrary, banks that are not in the position to properly carry out the required credit review and monitoring of the securitised assets for a resecuritisation should be subject to the sanctions prescribed in paragraph 5 of the new Article 122a. This would mean that they will have to multiply the corresponding risk weighting for resecuritisations by a substantial capital requirement.


ESBG views:

ESBG understands the concerns motivating regulators’ proposal for increasing capital requirements to cover risks in the trading book. However, when devising solutions some issues have to be looked at carefully. First, it is essential that capital requirements are in line with the risks incurred by the individual institutions. Therefore, it is particularly important to avoid a one-size-fits-all approach.

Second, internal models are a useful risk management tool and banks should therefore have incentives to develop them on the basis of their internal risk management processes. Rigid regulatory guidelines of a mainly conservative nature would hamper the development of internal models. In addition, an overly drastic increase of capital requirements is likely to discourage a transition from a standardised market risk approach to a model-based approach, which is known to better reflect incurred risks. 16

The Commission’s alternative proposal to treat specific risks in the trading book exclusively according to the rules for the banking book is rejected by ESBG. The application of the banking book rules to trading book assets with specific risks would be a considerable step backwards on the path to a well-established risk measurement method for specific interest and equity risks. Such an approach is also problematic due to the lack of risk sensitivity of the measuring procedure. This is because market risks such as spread movements are not adequately reflected and concentration risks are not adequately taken into account.

n Remuneration Background:

A one-size-fits-all approach needs to be avoided.

The use of internal models should not be discouraged.

Different rules should apply to the banking book and the trading book.

Inappropriate remuneration and compensation policies were held responsible for the short-termism in some banks’ business strategies and have been considered fatal for sound, long term risk management in certain cases. As a result, the Commission has included incentives for appropriate remuneration structures in the proposal for “CRD 3”. These proposals include the possibility for supervisors to impose measures, among which additional capital requirements, on the entities whose remuneration policies are considered inadequate under Pillar 2. In addition to the envisaged changes to the CRD, the Commission has also issued two recommendations on remuneration – one of which addresses specifically remuneration policies in the financial services sector. 17 The CEBS has also developed high-level principles on overall remuneration policies of banks and financial institutions. 18

ESBG views:

It is particularly important that compensation incentives should support long-term, firm-wide profitability. In light of the current crisis, it appears that both the level and the structure of remuneration may be factors that could encourage short-termism and induce high risk-taking to the disadvantage of a bank’s long-term interests and of other stakeholders. Firms need to pay close attention to the alignment of compensation incentives with the long-term interests of the whole firm.

Remuneration policy has to support the long-term interests of the whole firm.

16 Estimations of the industry indicate that the regulatory proposals discussed would result in a substantial increase of capital requirements for the trading book. Such multiplication of the capital requirements stems from the proposals regarding the modelling of incremental risks, as well as the introduction of portfolio- independent stressed value-at-risk (VaR). This will annul capital-based incentives for institutions to pass from the standardised market risk approach to a model-based approach.

17 Commission Recommendation 2009/384/EC of 30 April 2009 on remuneration policies in the financial services sector, OJ L 120, 15.5.2009.

18 CEBS, High Level Principles on Remuneration Policies, 20 April 2009.


At the same time, it should be stressed that, while inappropriate compensation policies have played a role during the current crisis, they were by far less relevant than other factors. Therefore, a policy response is necessary to reflect this relative importance of reforming compensation policies in light of the broader policy and regulatory review currently underway in response to the crisis.

Regulation of compensation policies should focus on inappropriate incentives.

Remuneration policy is institution-specific and ultimate responsibility rests with banks.

Furthermore, an approach focusing on an overall reform of banks’ remuneration policies risks diverting attention from the key issue which needs to be addressed:

namely, the compensations paid to top executives and some traders. In this context, it should be acknowledged that the vast majority of bank staff is not involved in the decisions which define a bank’s fundamental approach to risk and its risk-taking strategies. A broad-brush approach would be unfair towards the largest part of the staff of financial institutions. Policy and regulatory reactions targeting remuneration issues should specifically focus on the inappropriate compensation incentives that induced excessive risk-taking.

The responsibility for remuneration policy rests ultimately with the institutions themselves. In this sense, it is important to highlight the principles of contractual freedom and of non-interference in the determination of the amount and structure of remuneration, which must be guaranteed. The relevance and incidence of national labour legislation and regulations must also be acknowledged.

Given the differences within the financial sector, overall, firm remuneration policies are very institution-specific. Consequently, a ‘one size fits all’ approach is not acceptable in this field. Public regulation of remuneration policies should be confined to high-level principles. Moreover, considering the number of non-EU firms operating in the internal market, as well as the competition among banks for good employees, it would be crucial that such high-level principles be adopted on a global level.

Remuneration-related concerns should be addressed under Pillar 2.

Compliance with the principles on remuneration should be addressed by supervisors exclusively under Pillar 2. Imposing capital add-ons is not the proper way to ensure compliance with remuneration principles.

n Liquidity Background:

Liquidity risk proved to be one of the previously neglected aspects by regulators and institutions which ultimately contributed to the acuteness and amplification of the crisis. Within a number of banks, the maturity transformation process in particular appeared not to have been managed sufficiently well in order to be resilient enough once liquidity in credit markets dried up. Regarding regulation, for the time being, the treatment of liquidity risk is not harmonised at the EU level, but CEBS and the Commission are currently working to minimally harmonise some aspects of liquidity risk management (e.g. liquidity buffers, survival periods). This work could eventually be transformed into a legislative proposal.


ESBG views:

ESBG supports a principles-based approach to liquidity risk management and supervision, such as the one devised by CEBS in its 2008 recommendations. 19 Only by resorting to high-level principles – addressing the most important aspects of liquidity risk management and supervision – can regulation possibly consider properly the multitude of business models and the specificities of risk management. Furthermore, only a principles-based approach allows for the flexibility required by changing market conditions.

In addition, ESBG supports the explicit reference to proportionality as an overarching

principle, as a guideline for liquidity risk management and supervision. ESBG would also encourage the explicit reference to materiality as an overarching principle. Specifically, overregulation can be avoided by making it explicit that the high-level principles on liquidity are relevant in the case of material risks and material circumstances.

n Procyclicality Background:

Liquidity aspects should be subject to common high-level principles.

Proportionality should guide liquidity risk management and supervision.

Procyclicality is one of the main topics currently on the agenda of EU policy makers. Cyclicality is inherent in a framework such as Basel II, as its very objective is to render capital rules more risk-sensitive. However, the question remains open as to whether Basel II induces procyclicality. At the time of writing, the Commission is investigating the degree of procyclicality in the CRD. A report with the Commission’s findings and eventual regulatory proposals will be published by the end of 2009.

Although procyclicality may carry different meanings depending on the contexts,

in the present discussions EU policy-makers refer to it mainly as the tendency of capital

requirements to significantly fall during economic upswings and rise with downturns. To counteract such a tendency the introduction of dynamic provisioning or counter- cyclical reserves on banks in the EU is currently being contemplated in order to build

up through-the-cycle expected loss provisions for credit risks during good times and use these provisions during downturns to cover incurred losses. A consultation covering these aspects was issued on 24 July 2009 (consultation for “CRD 4”). 20

A legislative proposal is expected to be published by the end of 2009.

ESBG views:

ESBG supports the calls to address procyclicality in the financial system, given that undeniably some of its aspects have led to undesirable procyclical effects. Yet, it is important to recognize that not all aspects of the financial system which are cyclical are necessarily procyclical, to the extent that they should be subject to new regulatory measures. An in-depth analysis of the building blocks of the financial system and of their interaction is necessary to avoid taking incorrect approaches.

Only undesirable procyclical effects should be addressed.

19 CEBS, Second part of technical advice to the European Commission on liquidity risk management, 18 September 2008. 20 European Commission, Consultation regarding further possible changes to the Capital Requirements Directive [Consultation for CRD 4].






During the build up to the crisis, financial markets were characterised by abundant liquidity and low returns, which drove market players to seek new investment opportunities and higher yields. The innovative and complex financial instruments that emerged were intended to offer those higher yields. This was combined with increased leverage, which proved to be excessive. The problem is currently being addressed globally by regulators. In the EU a new and simple metric for addressing leverage (possibly called ‘leverage ratio’) is eventually envisaged to supplement risk-based requirements. The European Commission is expected to present concrete proposals in autumn 2009.

ESBG views:

A non-risk based leverage ratio does not necessarily help create a safer and sounder financial environment.

The building-up of excessive leverage in the markets should be limited, but this needs to be done in a way which effectively contributes to the creation of a safer and sounder environment. The mere introduction of a supplementary ‘leverage ratio’, in addition to existing risk-based measures provided in the Basel II framework would certainly not automatically meet this objective. The details underpinning a new and simple metric for addressing leverage will be crucial for its effectiveness. ESBG looks forward to contributing to the forthcoming debates in order to identify the appropriate way to achieve the objective of avoiding excessive leverage in the financial system.

Pillar 2 still has largely unexplored potential that may prove valuable.


ESBG views on Pillar 2 / the supervisory review process The interplay between the three Pillars under the Basel II framework is of high value. The role and importance of Pillar 2, which obliges supervisors to review the adequacy and appropriateness of banks’ risk management processes, deserve specific attention. Pillar 2 allows – amongst other things – the individualisation of capital requirements in accordance with the concrete risk appetite of banks and for the application of targeted supervisory measures when specific shortcomings in banks’ risk management process are identified. Pillar 2 has so far been only put to limited use, but its potential should certainly become fully exploited in the future.

Proportionality should guide supervisory action under Pillar 2.

Given that the core of Pillar 2 consists of a direct dialogue between supervisors and supervised entities, it is crucial that the regulatory framework does not excessively constrain its conduct. Supervisors should have sufficient discretion to adapt the intensity of controls and the substance of supervisory measures to the specificities of individual banks, taking into account their size, complexity, business strategy and riskiness.

Disclosure requirements are important for restoring investor confidence.


Views on Pillar 3 / market discipline Pillar 3 can make a substantial contribution to the achievement of financial stability. In the context of the current crisis and in view of restoring investor confidence, ESBG fully supports the aim of improving disclosure. In this sense, ESBG points to the joint industry initiative 21 devising good practice guidelines on CRD Pillar 3 disclosures for securitisation. The objective of these industry guidelines is to achieve sound, consistent and appropriately detailed implementation of the Pillar 3 securitisation disclosure requirements across the EU and, hence, to contribute to restoring investor confidence through improved disclosures and delivery of relevant and meaningful information to users.

21 In December 2008 the European Banking Federation, the London Investment Banking Association, the European Savings Banks Group and the European Association of Public Banks jointly presented good practice guidelines on Capital Requirements Directive (CRD) Pillar 3 disclosures for securitisation.


There is also a need to provide appropriate information on the trading book, as well as to revisit the requirements for the banking book and the qualitative disclosures. In developing those disclosures it is important to strike the right balance between more transparency, the reporting burden this places on firms, and the ability of other market participants to assimilate and interpret the information.

More disclosure does not necessarily mean more transparency.

Disclosure requirements should be suitable for improving the understanding of the risk profile of an institution. However, the abundance of requirements does not necessarily improve disclosure and may result in an overflow of details from which it will be hard to select the really relevant aspects. Much of the information is already disclosed in accordance with existing legislation or the recommendations of the Financial Stability Forum/Financial Stability Board, making the risk of overlap very high. Therefore, in many cases, the additional requirements over and above the status quo should not be enshrined in EU legislation.

1.3. Deposit Guarantee Schemes

Key messages


The recent revision of the Deposit Guarantee Schemes Directive reflects the importance of Deposit Guarantee Schemes for stability on financial markets and consumer confidence.


The different national Deposit Guarantee Schemes should be maintained, as they have the important advantage of attributing local responsibility and social control.


No further reduction of the payout delay which would come “on top” of the recent revision would be manageable; the non application of such a potential provision would again be counterproductive for consumer confidence.


Since 1994 depositors throughout Europe can rely on a scheme which guarantees, in the event of deposits becoming unavailable, that they will recover at least EUR 20,000 of their deposits (and a minimum of 90% of their aggregated deposits 22 ) within three months. 23 According to the Directive 94/19/EC 24 each Member State shall ensure that within its territory at least one Deposit Guarantee Scheme (DGS) is introduced.

In its 2006 Communication on DGS 25 the Commission sets out its approach to modernise the legislation on DGS. It concludes that the current rules are sufficient for the time being, while a number of self-regulatory measures should improve the functioning of the schemes. The European Forum of Deposit Insurers (EFDI) has been assigned to play an important role in the preparation of these measures. It has started its works in various areas, e.g. topping up arrangements, exchange of information between DGS, risk-based contributions, information to consumers and payout delay.

22 This provision is called co-insurance; in Member States applying this option, up to 10% of the losses can be borne by the depositor.

23 From the date on which the competent authority makes the determination regarding the unavailability of the deposits.

24 Directive 94/19/EC of the European Parliament and of the Council of 30 May 1994 on deposit-guarantee schemes, OJ L135, 31.05.1994.

25 European Commission. 2006. Communication from the Commission to the European Parliament and the Council concerning the review of Directive 94/19/EC on Deposit Guarantee Schemes.


Triggered by the financial crisis, the decision was taken in autumn 2008 to revise the DGS Directive. After a codecision procedure the revision of the Directive was adopted in December 2008 by the European Parliament and in February 2009 by the Council. 26

The revision mainly concerns three areas:

1) An increase in the coverage level to EUR 50,000 and, in a second step, to EUR 100,000 subject to a Commission impact assessment; 2) A reduction of the payout delay to 20 working days, with a possible additional extension of 10 working days; 3) An end to the co-insurance option, according to which part of the loss has to be borne by the depositor.

Possible further revision

Whereas the above mentioned revision of the DGS Directive focused on the most pressing issues, it was decided that the Commission should analyse a number of further aspects, with a view to presenting a report to be eventually accompanied by further proposals for legislative changes by the end of 2009. The issues subject to this analysis include (among others) the question of the full harmonisation of the amount of coverage, the possible creation of a Community scheme and the possible harmonisation of risk-based contributions. In addition, the Commission has decided to look again into the issue of payout delay. 27

ESBG welcomes the recent revision of the Deposit Guarantee Schemes Directive.

ESBG assessment and outlook

The revised DGS Directive introduces a reduction of the payout delay to 20 working days with a possible extension of 10 working days, which is ambitious but realistic. Consumers received confirmation that they will be timely and fully reimbursed up to the coverage level. In this context ESBG in particular welcomes that the scope of the Directive remains large and has not been limited to natural persons.

Looking at the issues subject to further analysis some aspects need stressing:

ESBG is opposed to the creation of a Community-wide scheme.

n Community scheme: currently the national schemes differ considerably; this, however, does not constitute a weakness of the current state of play. What really matters is that each scheme is strong and safe. The national schemes are close to customers, which strengthens their confidence. This approach should be maintained, as it has the important attributes of local responsibility and social control. ESBG is therefore opposed to the creation of a Community-wide scheme. The division of responsibilities and risks would be extremely dangerous. Finally, ESBG questions whether a Community scheme could be justified according to the principles of subsidiarity and proportionality.

26 Directive 2009/14/EC of the European Parliament and of the Council of 11 March 2009 amending Directive 94/19/EC on deposit-guarantee schemes as regards the coverage level and the payout delay, OJ L68,


27 European Commission. 2009. Consultation Document. Review of Directive 94/19/EC on Deposit Guarantee Schemes.



Payout delay: no further reduction “on top” of the recent revision would be manageable. A whole range of steps needs to be carried out before the actual process of paying out can be tackled – in particular the closing of the bank, stopping transactions and calculating interest rates, identifying the customers and their deposits. For the action of paying out, a procedure needs to the defined, where the safest solution seems to be that the customer (after getting a credit/debt balance sheet) goes to another bank and asks to move some or all of his/her accounts from the administration bank to this bank. However, this solution would take some time because the new bank must ask the administration bank to move the customer’s accounts. The payout from the DGS or the administration bank would also take some time because those administering the DGS have to control the data, and the payout must be executed through another bank which is member of the payment system. It is also worth mentioning that the scheme needs to provide the necessary liquidity, which might be done by realizing shares or bonds, realizing other assets, or by borrowing money from the Central Bank or in the markets. Although it may take some time it might be done parallel to the identification procedure. Finally, it is important to note that the non-application in practice of potentially shorter payout delays would be counterproductive to consumer confidence.

A shortening of the payout delay would be unrealistic and counterproductive to consumer confidence.


Full harmonisation of the amount of coverage: The overarching view of ESBG members is that minimum harmonisation, as it already exists, is useful and necessary, as it allows for a fair level of protection of depositors all over Europe. Notwithstanding this consideration, ESBG agrees with an increase of the coverage level to EUR 100,000, which ensures a high level of coverage all over Europe. A full harmonisation would, however – in the view of the majority of ESBG members – not sufficiently take into account that the economic circumstances vary form Member State to Member State. More importantly, these members consider that the existing systems should not be weakened, as this would be counterproductive to consumer confidence and could endanger financial stability. This being said, some ESBG members express concerns regarding the competitive distortion that diverging coverage levels are provoking. Therefore they are in favor of a fixed EUR 100,000 coverage level in order to prevent abnormal shifts between countries and institutions and avoid distortions to competition. In their opinion, even if most depositors are already covered by EUR 100,000, a higher legal coverage – in particular for foreign branches – might provoke confusion and unjustified shifts between institutions.


Risk-based contributions: Safe and sound schemes on the national level do not necessarily require the existence of risk-based contributions. Currently, risk-based contributions are applied in a number of Member States, whereas the functioning of risk-based contributions is diverging considerably between these Member States. Harmonisation seems therefore difficult and complex. It needs to be considered that in schemes which do not rely on risk-based contributions, the introduction of such systems could lead to difficulties, especially for smaller institutions, resulting in additional administrative and financial burdens. Therefore there should be no common EU approach in this area. It should be up to Member States to decide whether they want to apply risk-based contributions or not.


Funding mechanisms: More harmonization of funding mechanisms would require sufficiently long transition periods, as in the ongoing crisis situation procyclical effects have to be avoided. While the principal characteristics of funding mechanism might be harmonized at the EU level, some details of the layout should remain at the discretion of the Member States. Short-term financing or long-term borrowing in case of need may be accepted to complement the funding when a critical situation arises.



Key messages


ESBG strongly supports a more flexible application of the fair value and especially concerning the measure of financial instruments in illiquid markets.


A practical approach and more analytical studies on the relationship between fair value accounting and procyclicality are needed.


ESBG advocates for coherence between disclosure requirements and a higher degree of harmonisation between fair value and supervisory requirements in order to diminish the reporting burden for savings banks.


User-friendly, simple and more standardised rules of fair value accounting, disclosure and calculation requirements are needed.


A thorough reconsideration of the existing accounting practices is necessary in the long term.

Setting the scene

As noted above, in its FSAP 28 , the European Commission outlined a series of policy objectives to improve the Single Market for financial services. One of them was to move towards a single set of financial statements for listed companies. Given the need to overcome the differences between the accounting frameworks within Member States, the Commission considered that the International Accounting Standards (IAS), later called International Financial reporting Standards (IFRS) 29 , as established by the International Accounting Standard Board (IASB) were the most appropriate benchmark for framing a single set of such requirements.

One of the main changes that IFRS brought to traditional accounting is the introduction of “fair value”. Fair value is defined by the IASB as “the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction”. 30 Fair value finds its main application with financial instruments.

Since the beginning of the 1980s, financial instruments underwent significant developments in the banking industry. They were increasingly used by credit institutions as a new source of business – as opposed to traditional activities – and as a consequence, needed to be reflected conveniently in bank’s balance sheets.

28 European Commission. 1999. Financial Services: Implementing the Framework for Financial Markets: Action Plan, Communication of the Commission,[COM(1999) 232], 11 May.

29 For clarification: while IAS were still at the first stage of discussion, their name changed to better reflect the importance of transparency toward financial markets. As soon as 2001, International Accounting Standards (IAS) changed name to be called International Financial Reporting Standards (IFRS). Thus, today these standards are technically known today as IAS/IFRS.

30 International Accounting Standards Board (IASB). 2008: 2634.


Moreover, in a time of globalisation and increased international competition, it seemed that disclosing financial information by using equity investor related methodologies would make European listed companies more transparent and more competitive.

The United States was the pioneer in the application of fair value, with the appearance of the Statements of Financial Accounting Standards 107 (SFAS 07) in 1992. With this standard, the Financial Accounting Standards Board (FASB) obliged institutions to publish the fair value of all their financial instruments in notes to the financial statements. In view of this situation, the IASB proposed in 1999 to use fair value in the case of certain financial instruments, particularly derivatives, as well as shares and other securities, whether held for trading purposes or for sale. 31

By November 2004, in the context of the process of endorsement foreseen in the IAS Regulation 32 , the Commission had endorsed 33 IAS standards 33 and had thus already accomplished a significant unification of accounting standards within the EU. However, the standard which aimed at valuating financial instruments at their fair value, called IAS 39 “Financial Instruments: Recognition and Measurement”, has been the subject to several revisions and ongoing discussions. The Commission, taking into account various issues and opinions, endorsed about 95% of the text of IAS 39 but carved out certain provisions because – in agreement with most Member States and the European Parliament – further assessment was considered necessary.

Recent developments in light of the financial crisis

Against the background of the financial crisis, the IASB, the European Commission and several American institutions started to make efforts to curb the negative effects of a too strict application of the fair value approach in autumn 2008. It was argued that mark-to- market accounting, which forces banks to value assets at the estimated price they would fetch if sold now, rather than at historic cost, could cause a cycle of falling asset prices and forced sales that endangers financial stability.

The first move towards a more flexible application of the fair value approach was made in the United States at the end of September 2008 as part of the Paulson Plan. Specifically, the U.S. Securities and Exchange Commission (SEC) and the FASB issued clarifications regarding the implementation of fair value accounting, allowing a more flexible application, in particular regarding illiquid markets.

In the EU – notably at the occasion of the meeting of the Council of EU Finance Ministers in October 2008 – the Commission and the IASB were mandated to make proposals to guarantee a level playing field between the EU and the U.S. In mid-October, the IASB issued amendments to IAS 39 “Financial Instruments: Recognition and Measurement”, and IFRS 7 “Financial Instruments: Disclosures” that would permit the reclassification of some financial instruments. The amendments to IAS 39 introduce the possibility of reclassifications for companies applying IFRS which were already permitted under U.S. Generally Accepted Accounting Principles (GAAP) in rare circumstances.

31 International Accounting Standards Board (IASB). 2008: 1927.

32 European Commission. 2000. Communication from the Commission to the European Parliament and the Council. EU Financial Reporting Strategy: the way forward [COM(2000) 359 final], 13 June; Regulation (EC) 1606/2002 of the European Parliament and of the Council of 19 July 2002 on the application of international accounting standards, OJ L 243, 11.9.2002.

33 For further information Commission Regulation (EC) No 1725/2003 of 29 September 2003 adopting certain international accounting standards in accordance with Regulation (EC) No 1606/2002 of the European Parliament and of the Council, OJ L 261, 13.10.2003 adopted 32 IAS Standards, and Commission Regulation (EC) No 707/2004 of 6 April 2004 amending Regulation (EC) No 1725/2003 adopting certain international accounting standards in accordance with Regulation (EC) No 1606/2002 of the European Parliament and of the Council, OJ L 111, 17/04/2004 adopted IFRS 1.


Responding to the urgency of the situation and without due process, the Commission adopted these amendments in its Regulation 1004/2008/EC 34 and expressed at the same time the need to continue monitoring all accounting issues that could impact the stability of financial institutions and financial markets, with a view to identifying further changes where appropriate. As a follow-up, the Commission sent a letter to the IASB on 27 October 2008, stressing the need for further action on some issues of importance, namely: fair value, embedded derivatives, and the impairment of “available for sale” items. The Commission stated that global solutions are preferable and that further actions should be subject to appropriate due process strictly tailored to reflect the urgency of the situation.

In April 2009, the FASB unilaterally decided to implement significant revisions especially regarding when to decide whether a market is not active and a transaction is not distressed. 35 In response to this development, in May 2009, the IASB issued proposals that would replace fair value guidance contained in individual IFRS with a single, unified definition of fair value. 36 The proposals also provide guidance on using fair value approaches in inactive markets such as those for complex financial products that can hardly be given a value as a result of frozen financial markets. This initiative forms part of the long-term aim to achieve convergence of IFRS with U.S. GAAP as it incorporates the FASB’s recent guidance on fair value measurement. 37

Regarding the classification of financial instruments, the IASB launched its proposal on the revision of IAS 39 in July 2009. In addition, the IASB decided to assess users’ and preparers’ opinions concerning the inclusion of the price of the credit risk when measuring liabilities and it challenged the different methods to report impairment in the value of financial assets. A separate IASB Exposure Draft on hedge accounting is expected in late 2009.

The IASB aim is to replace IAS 39 completely in 2010 by issuing final guidances on impairment, derecognition and hedge accounting. The IASB declared that it did not expect the successor standard to IAS 39 to be mandatory before 2012. 38

ESBG views

Being actively involved in the ongoing discussions on fair value, ESBG strongly supports the initiatives taken by all parties concerned in order to achieve a more flexible application of the fair value approach.

It is of high importance for the EU to adopt measures on fair value that take into account the exceptional circumstances in the markets and are in line with the measures taken in the U.S.

A more flexible application

of fair value is needed.

Exceptional importances

in EU and US markets have