What the Eurozone Needs Is More Centralization
By Staff News & Analysis - April 08, 2013

A banking union for the Eurozone … The crisis has highlighted the need for, and difficulties with, a Eurozone banking union. This column argues that, to make a union, you need three crucial ingredients: common supervision, a single resolution mechanism, and common safety nets. The power to control and the resources to rescue must work in parallel. Eurozone leaders have taken the first critical steps, but further progress is needed to strengthen the financial architecture of the single currency. –

Dominant Social Theme: This crazy Union needs some serious rules.

Free-Market Analysis: Vox posted this long and scholarly article that calls for more EU centralization. You would think since the current level of centralization has worked so badly that its proponents would be searching for other answers. Not a chance.

As we have pointed out numerous times, top Eurocrats are on record for well over a decade (and probably longer) as saying that the EU needed a financial crisis to create a consensus for further political centralization. Well, they have the crisis, but the consensus seems to be lacking.

Enter scholarly articles such as this one that propose rules-based banking centralization in sonorous terms. The current top-down banking system in the EU to us resembles nothing so much as the Chinese system where it is pretended that banks are independent even though it is evident and obvious that the EU and the ECB serves as a coordinating force. Here's more from the article:

Before the crisis, the common currency and single market promoted financial integration. Banks and financial institutions operated with ease across countries; credit went where it was in demand; and portfolios became increasingly more diversified. The interbank market functioned smoothly, and monetary conditions were relatively uniform across the Eurozone. There were side effects, such as large capital flows within the Eurozone and the associated buildup of sovereign and private-sector imbalances. But, by and large, a hybrid financial architecture based on a single currency and common market, and national-based financial safety nets, bank supervision and regulation seemed to serve the Eurozone well.

The crisis laid bare the tensions inherent in this institutional design. Private borrowing costs rose with the sovereign's, imparting procyclicality and impairing monetary transmission. This amplified financial fragmentation (Figure 1) and volatility, and thus exacerbated the economic downturn. This adverse dynamic resulted from the inability to control local interest-rate conditions, and an architecture that strengthened the link between a country's banking and real sectors and the health of its public finances. In hindsight, it is evident that, in good times, banks grew in many places to a scale that overwhelmed national supervisory capacities, while in bad times, they overwhelmed national fiscal resources. It is also clear that, in the existing architecture, if a sovereign's finances are sound, then its backstop for its banks is credible. But if they are weak, then its banks are perceived as vulnerable and, therefore, face higher funding costs (Figure 2) (see Acharya et al. 2012, Gerlach, Schulz, and Wolff 2010).

Can a banking union help and what should it look like?

In a recent paper (Goyal et al. 2013), we argue that a well designed banking union can help address both tensions. To be effective, the new institutional framework would have to comprise three elements:

A single regulatory and supervisory framework. A single resolution mechanism. A common safety net.

All three elements are necessary.

Where on Earth do the people writing these proposals get the certainty to announce this sort of portentous nonsense? Regulation is merely further price-fixing, a single resolution mechanism is an invitation to further authoritarianism and a "common safety net" is just another way of creating an environment where the taxpayer himself will pay for bankers' errors.

When central banks were put in place during the 20th century it wasn't well understood that the safety net would come from printing money. And printing money is a kind of tax taken out in the form of price inflation. As printed money flows into the economy, existing money depreciates.

This should be kept in mind when it comes to examining and evaluating these proposals. What this one is proposing is a tighter banking monopoly (for lack of a better descriptor) and additional taxes in the form of pan-European monetary and price inflation.

Government monopolies (unlike private ones that are voluntary and can be disassembled) are very hard to dislodge before some sort of disaster strikes. The current EU disaster will only be compounded and exacerbated by the kinds of "banking union" regulations that are being suggested as a remedy.

After Thoughts

These are very cynical gambits and people have to realize that they are being offered so a small group of Eurocrats and their backers and enablers can gain more power … and not to ameliorate the current "crisis" such as it is.