1 00:00:00,420 --> 00:00:05,410 They have a. 2 00:00:15,920 --> 00:00:21,170 Let me welcome Shaun Berrigan. This is his first time he's come and spoken in Oxford. 3 00:00:22,580 --> 00:00:26,390 Sean has spent a majority of his career at the European Commission. 4 00:00:27,020 --> 00:00:33,380 In the mid-nineties, I think he was given a few years off for good behaviour and sent to the IMF and he returned from the IMF. 5 00:00:33,890 --> 00:00:43,610 He spent most of his time working firstly on monetary issues and erm too and the run up to the 6 00:00:43,610 --> 00:00:49,640 euro project and the design of the euro project and then later moved on to financial markets. 7 00:00:50,340 --> 00:00:56,879 And subsequently financial stability. And as financial stability director, he has been, I think it's fair to say, 8 00:00:56,880 --> 00:01:02,370 the point man on all of the financial market aspects of the Troika packages, for example. 9 00:01:05,320 --> 00:01:13,180 Shaun was a huge support when I was I spent five years in the in the commission and Sean kept me alive during this in the corridors of power, 10 00:01:13,420 --> 00:01:17,770 in the corridors, because the key to the action conference room was always lost, if I remember rightly so. 11 00:01:17,890 --> 00:01:22,270 We had our meetings in the corridors of power and his sense of humour kept me alive. 12 00:01:22,270 --> 00:01:28,050 And he even lent me one of his staff, Valerie Hertzberg, who is now a PFM associate and in a forthcoming new sheet. 13 00:01:28,060 --> 00:01:37,960 So there's a heritage there. I'm just going to turn over to Shawn, except for reminding you about the podcast rules. 14 00:01:38,170 --> 00:01:47,950 Only Sean and I have signed consent forms, and that means that we will cut the podcast off before the discussion session. 15 00:01:48,220 --> 00:01:50,530 This will observe legal niceties, 16 00:01:50,530 --> 00:01:57,640 and it also means that Sean will be even freer to express himself and in a relaxed manner when you're doing the question and answers. 17 00:01:58,730 --> 00:02:01,760 So without more ado, Sean, the floor is yours. 18 00:02:02,100 --> 00:02:05,330 Well, thank you very much, Max. It's my pleasure to be here in Oxford. 19 00:02:05,450 --> 00:02:10,029 First time ever surrounded by. It's presumably brilliant. 20 00:02:10,030 --> 00:02:17,860 Audience So slightly scary occasion for me. I met Max about eight years ago, I suppose, when you came to Dejection. 21 00:02:18,370 --> 00:02:19,840 We hit it off fairly quickly, 22 00:02:20,230 --> 00:02:26,650 not least because Max is one of the few people outside of my own team who understood what I was talking about inside rejection. 23 00:02:27,460 --> 00:02:30,760 And back then, I suppose we worried about the things that we now regret. 24 00:02:31,870 --> 00:02:35,740 And some of these regrets will come up in the presentation that I'm going to make. 25 00:02:36,640 --> 00:02:43,420 But I've always valued Mac's advice. And so when he advised me to come here and talk today, I thought, this must be a good idea. 26 00:02:43,630 --> 00:02:47,290 And so I want to address the title he has given me. 27 00:02:47,290 --> 00:02:53,110 Will next time be different? I'm glad you put a question mark at the end. This is not just because, like all good financiers, you hedge your bets, 28 00:02:53,650 --> 00:02:58,020 but also because I think the crisis has genuinely made me less self-confident. 29 00:02:58,020 --> 00:03:05,980 Let's say I was a financial analyst and I think we have to realise that we have to go this time before we can really talk about the next time. 30 00:03:06,430 --> 00:03:11,620 And so I will try in this presentation to draw that bridge between where we are now and where we're trying to go. 31 00:03:12,040 --> 00:03:18,520 And I leave you to conclude at the end whether or not we have a good chance or not of doing it differently next time. 32 00:03:19,150 --> 00:03:22,510 I have a very wide ranging presentation. I have a lot of slides. 33 00:03:22,510 --> 00:03:28,059 I have far too much to say. I'm going to try to be disciplined, but I may chop move faster. 34 00:03:28,060 --> 00:03:35,350 And if I miss something, you of course have every right in the question and answer session to come back and ask me. 35 00:03:36,500 --> 00:03:39,920 Let me see if I can make this an. Work now. 36 00:03:40,800 --> 00:03:44,050 Hope you don't. All right. 37 00:03:44,080 --> 00:03:48,250 Yes, there we go. Okay. I want to cover four things in this presentation. 38 00:03:49,180 --> 00:03:55,090 Four issues, four sets of issues. One is the anatomy of the euro crisis as we see it in the commission. 39 00:03:55,600 --> 00:04:02,320 Then I want to focus a bit on how we are trying to manage and I say try to manage the euro crisis because it's it's easier said than done. 40 00:04:03,130 --> 00:04:07,750 I want to focus then on one specific aspect of crisis management, which is reinforcing EMU. 41 00:04:08,580 --> 00:04:17,370 And in that focus on the banking union, because it is probably the most important aspect of reinforcing EMU and it is the well, 42 00:04:17,370 --> 00:04:21,090 the topic of the day, particularly in the aftermath of Cyprus. 43 00:04:21,960 --> 00:04:27,900 And then I will, if I have time at the end, just briefly go through some of the key challenges that we face in implementing this strategy. 44 00:04:27,900 --> 00:04:36,630 But these tend to come up in question and answer. So I may if I don't have time to move through this and just handle it in the Q&A. 45 00:04:39,640 --> 00:04:46,330 In this session, I want to look at how we see the euro crisis and why there's a euro crisis. 46 00:04:46,870 --> 00:04:52,960 Essentially answering the question whether the euro was the cause of the crisis or whether it's a bit of a casualty of the crisis. 47 00:04:53,410 --> 00:04:59,710 And I suppose, not surprisingly, from a commission official, we favoured the view that it's more a casualty than a cause. 48 00:05:00,010 --> 00:05:01,510 But we're open to discussion on that. 49 00:05:03,250 --> 00:05:08,530 If I can start with the global view of this crisis, I mean, it has been the biggest crisis since the Second World War. 50 00:05:08,740 --> 00:05:16,490 Some people argue it may end up being a bigger crisis than the Second World War, but it started and has evolved rather classically. 51 00:05:16,510 --> 00:05:23,110 It started as something small in a very obscure segment of the US mortgage market for subprime. 52 00:05:23,620 --> 00:05:30,400 It then morphed into a global credit crisis, mainly reflecting the degree of interconnection that there is now in financial markets. 53 00:05:31,510 --> 00:05:34,390 Between sectors, but also across countries. 54 00:05:35,230 --> 00:05:42,910 It then affected the real economy, triggering a fairly sharp economic recession, then led to a sovereign debt crisis. 55 00:05:43,540 --> 00:05:47,860 And then phase five, of course, is the last phase is a currency crisis. 56 00:05:48,190 --> 00:05:54,820 Now, when I was first shown this list of phases, it was by a US economist, and as he was presenting it, he had in mind the US dollar. 57 00:05:55,240 --> 00:05:59,139 But as I was sitting on the other side that time I had in mind another currency which 58 00:05:59,140 --> 00:06:04,590 I thought was a lot more vulnerable to these kinds of evolution than the US dollar. 59 00:06:04,600 --> 00:06:10,000 And that of course was the currency that I spent a lot of time trying to to launch in the 1990s. 60 00:06:11,990 --> 00:06:17,030 And that leads me to, you know, ask the question, why was the euro particularly vulnerable? 61 00:06:17,420 --> 00:06:21,650 I mean, the crisis was a global phenomenon. It wasn't just in the euro area. 62 00:06:21,920 --> 00:06:27,110 It affected the United States and affected this country here. It affected Iceland with the mother of all crises. 63 00:06:28,370 --> 00:06:32,750 And then if you look inside the euro area, you see that it was not the euro area as a whole doesn't have the crisis. 64 00:06:32,780 --> 00:06:37,400 In fact, in aggregate, the euro area looks quite okay from a crisis perspective. 65 00:06:37,880 --> 00:06:44,000 You have some countries inside like Greece, like my own country, like Spain, which have had a bad period, 66 00:06:44,390 --> 00:06:51,560 although other countries like Germany and Finland, which came through this without a specific, you know, without a comparable crisis. 67 00:06:52,670 --> 00:06:58,070 So I don't believe that it was something that the euro somehow was at the fundamental cause of this crisis. 68 00:06:58,400 --> 00:07:03,680 But we were, as a euro area, fundamentally vulnerable to the effects of the crisis. 69 00:07:04,520 --> 00:07:08,810 And I here just list for reasons why we think we were vulnerable. 70 00:07:09,590 --> 00:07:13,100 Firstly, the policy discipline, which was to be the characteristic of EMU. 71 00:07:13,160 --> 00:07:16,340 It was how it was set up. It was a rules based, discipline based. 72 00:07:17,330 --> 00:07:22,100 Framework was to some extent undermined by what came to be known as the Great Moderation. 73 00:07:22,130 --> 00:07:30,260 The Great Moderation was this period of steady growth, low inflation that characterised the late nineties and a large part of 2000. 74 00:07:31,210 --> 00:07:36,220 This meant that there were mispricing of risk, of course, throughout the world. 75 00:07:36,550 --> 00:07:40,960 It meant that Greek bonds were trading 25 basis points over bond, 76 00:07:41,530 --> 00:07:46,560 which made it very difficult for someone like me to go into a meeting of ministers and say, I think there's a problem in Greece. 77 00:07:47,500 --> 00:07:51,250 Because the ministers would look at you and say, but you're getting 25 basis points over bond. 78 00:07:52,400 --> 00:08:00,730 It just wasn't credible from their point of view. The second I think weakness was that we we did not put in place the new architecture. 79 00:08:00,740 --> 00:08:04,430 We expected to do so after the crisis, after the launch of the euro. 80 00:08:05,360 --> 00:08:10,880 We didn't succeed in putting it in place quickly enough to manage the crisis to prevent us emerging in the first place. 81 00:08:11,750 --> 00:08:18,530 This meant then that the capital flows, which had gone from the core to the periphery during the good times, abruptly reversed. 82 00:08:19,480 --> 00:08:27,800 Back from the periphery to the core. And this this reversal, of course, has led to a massive fragmentation in the EU financial markets. 83 00:08:28,580 --> 00:08:34,520 And the key characteristic, of course of the euro area crisis has been this, you know, I would not say unique, 84 00:08:34,520 --> 00:08:39,409 but characteristic nexus between the banking sector and the sovereign in the euro area. 85 00:08:39,410 --> 00:08:46,970 This link between banks and sovereigns. And I have come back to some of these issues as I'm going through my my presentation. 86 00:08:49,870 --> 00:08:54,090 Now we really have a problem doing the work. 87 00:08:55,460 --> 00:09:00,780 It works down. This is a phrase which I picked up from the OECD. 88 00:09:01,080 --> 00:09:05,910 It's the pernicious triangle. I think they got tired of the vicious circle, so they went for something different. 89 00:09:06,750 --> 00:09:12,390 This is what you call modern finance. Essentially, this is where we find ourselves in euro. 90 00:09:12,480 --> 00:09:19,130 We have this. The vicious circle or triangle of a weak economy, sovereign stress and fragile banks. 91 00:09:19,400 --> 00:09:23,480 Now, I have put arrows in this direction because that's how I want to handle this triangle today. 92 00:09:23,750 --> 00:09:25,540 But in fact, it works in nearly all directions. 93 00:09:25,550 --> 00:09:32,510 You can find these feedback loops, as they're called, these negative interactions between these various phenomena in Europe. 94 00:09:33,390 --> 00:09:35,820 But that we do it in the direction of the arrows. 95 00:09:35,880 --> 00:09:41,610 I mean, that it starts with, you know, a weak economy given the scale of the financial crisis we've just had. 96 00:09:41,640 --> 00:09:44,710 It's not so surprising that the economy is weak afterwards. 97 00:09:44,730 --> 00:09:50,850 If you look through history, such financial crises are always followed by periods of sustained low growth, 98 00:09:51,150 --> 00:09:56,640 mainly because the banking intermediation channel is damaged, is broken and takes time to repair. 99 00:09:57,480 --> 00:10:04,650 What this chart shows you is that we the blue line shows you that we've not exactly been doing spectacularly well since 2010. 100 00:10:05,310 --> 00:10:13,050 But I think more importantly is this red bar. These are the contributions to growth, and the red bar is the contribution of domestic demand. 101 00:10:13,500 --> 00:10:20,220 And so you can see that what lies at the heart of the weak EU euro area economy is demand compression. 102 00:10:20,400 --> 00:10:27,000 It's weakness in demand. We have had a balance sheet recession and essentially a balance sheet crisis and a balance sheet recession. 103 00:10:27,300 --> 00:10:33,120 We have a level of savings now or a level of net financial wealth, which is below what is desired. 104 00:10:33,930 --> 00:10:41,820 And so people not just in the public sector, but in the private sector, everybody is now trying to adjust to saving more, consuming less. 105 00:10:42,300 --> 00:10:48,300 And what we're finding is demand compression. Everybody wants to export their way out of this crisis. 106 00:10:48,660 --> 00:10:53,910 I always find it interesting that the UK complained that the euro area is not buying enough of its exports. 107 00:10:54,330 --> 00:10:57,640 Well, you're not buying so many of the euro area as exports either. 108 00:10:57,660 --> 00:11:03,930 So and the US, of course, is engaged in the ultimate escape route through exports. 109 00:11:04,020 --> 00:11:07,410 So basically everybody is trying to export to everybody else. 110 00:11:09,060 --> 00:11:12,840 This is a standard chart. It's so seen. It's so often I'm tired of it. 111 00:11:13,440 --> 00:11:19,080 But this just shows what happened to sovereign spreads as the crisis kicked in. 112 00:11:19,110 --> 00:11:23,580 So that chart goes way back out to 1999 as the launch of Euro and even before. 113 00:11:24,060 --> 00:11:32,850 And you see that all the spreads in Europe are fairly convergent. But around the middle of 2009, markets, sovereign debt markets began to. 114 00:11:33,860 --> 00:11:35,460 Change in the way they were functioning. 115 00:11:35,480 --> 00:11:41,000 I mean, what essentially happened here was that private risk transferred into the public sector in the banking crisis. 116 00:11:41,840 --> 00:11:46,100 People ran out of the banks, into the public sector in a flight to quality. 117 00:11:46,550 --> 00:11:51,680 But having arrived there, they realised that a lot of the risks they ran away from had been transferred ahead of them. 118 00:11:52,070 --> 00:11:55,840 So there was what you had would call a flight to quality within a flight to quality. 119 00:11:55,850 --> 00:12:00,920 So people were happy to be in public sector debt but not happy to be in all public sector debt. 120 00:12:01,250 --> 00:12:07,490 They began to discriminate and slowly and then not so slowly cut certain member states out of the sovereign debt market. 121 00:12:07,610 --> 00:12:11,189 Beginning with Greece, then Ireland, then Portugal. 122 00:12:11,190 --> 00:12:16,100 And you see those lines moving up from around 2009. The brown, green, blue lines. 123 00:12:16,790 --> 00:12:21,740 This chart is not enough, is not the scale, is not right to show you the effect of the OMT. 124 00:12:22,190 --> 00:12:30,950 What since, let's say the middle of last year and the ECB's decision to put in place a commitment to buy bonds in certain markets, 125 00:12:31,310 --> 00:12:38,180 those spreads have come back down again. But what this chart shows is that, you know, the crisis has been associated with sovereign stress. 126 00:12:40,450 --> 00:12:46,269 That sovereign stress, of course, is aggravated by the fact that you cannot grow in the economy because your debt 127 00:12:46,270 --> 00:12:50,920 sustainability becomes even more of a problem for the markets looking forward. 128 00:12:53,260 --> 00:12:56,620 The effect then, of course, is that weak sovereigns feed into the banking sector. 129 00:12:56,620 --> 00:13:03,160 They feed if you in two ways directly because European banks are loaded up typically with government debt on their balance sheet, 130 00:13:03,490 --> 00:13:07,660 but also the quality of the guarantee of the public sector on the banks weakens. 131 00:13:09,250 --> 00:13:15,250 And what you see here is these are just two random indicators of stress in the banking sector. 132 00:13:15,970 --> 00:13:22,840 The one on the left I'm not going to go into a detail here is just an indicator of the relative price of money, 133 00:13:22,840 --> 00:13:26,020 which does not have collateral against money, which does have collateral. 134 00:13:26,050 --> 00:13:29,740 So basically, it's an indicator of stress in what's called the interbank market. 135 00:13:30,400 --> 00:13:33,250 The heavy blue line is Europe as a euro area. 136 00:13:33,260 --> 00:13:40,000 And you can see that it has experienced more stress on the corresponding markets in the UK and the United States. 137 00:13:41,200 --> 00:13:48,910 You also see it has gone up and then sharply down. And this again is the effect of the ECB introducing long term refinancing operations, 138 00:13:49,270 --> 00:13:56,110 which was basically giving liquidity to the markets at low prices when the market would not give liquidity to itself. 139 00:13:57,890 --> 00:14:04,220 So you see, we're now in a much better position than we were, let's say, at the peak towards the middle end of 2011. 140 00:14:05,370 --> 00:14:09,150 So funding conditions are better than they were, but they're still very fragile. 141 00:14:09,180 --> 00:14:15,000 On the right, this is a measure of default risk in banks, senior debt and subordinated debt. 142 00:14:15,540 --> 00:14:21,870 Again, it reflects an improvement vis a vis peaks around the time of the the labour chart. 143 00:14:21,880 --> 00:14:25,450 So it's the same phenomenon. What we see is that it's not quite as good. 144 00:14:25,470 --> 00:14:33,240 So what the oh, what the ECB has done is has taken out acute liquidity risk and the risk that that would turn into an insolvency risk. 145 00:14:33,630 --> 00:14:37,950 But it has not completely taken out the insolvency risk from the banking system. 146 00:14:38,280 --> 00:14:41,610 And that's because there's still a lot of stuff on the banking sheet balance sheets, 147 00:14:42,240 --> 00:14:47,790 the banking sector balance sheets that markets don't like, investors don't like, and they still see risks there. 148 00:14:47,790 --> 00:14:56,190 And I'll come back to that later when I discuss banking union. The effect of all of this, of course, is that we have a fragmented credit market. 149 00:14:56,730 --> 00:15:00,120 Put another way, this is the disintegration of the single market. 150 00:15:00,300 --> 00:15:06,270 This is the undoing of almost ten years of my work in trying to make this market into a single market. 151 00:15:06,840 --> 00:15:14,910 And it is rapidly unravelling. These charts show you relative financing costs in different countries. 152 00:15:14,920 --> 00:15:18,350 You can you see the lines were close together and now are starting to spread out. 153 00:15:18,540 --> 00:15:23,760 Since 2009, this means that the costs of lending in different countries is different. 154 00:15:26,620 --> 00:15:33,609 And similarly on the right, these are loans to corporates. So these are just I'm not going to go into too much detail in these charts. 155 00:15:33,610 --> 00:15:37,570 But just to show you that you now have fragmented markets where. 156 00:15:38,710 --> 00:15:44,410 Banks can borrow, but at different rates in different countries, and they lend on at different rates in different countries. 157 00:15:44,770 --> 00:15:52,360 This means that two companies of the same credit quality can face very different lending conditions in two different countries, 158 00:15:52,360 --> 00:15:58,690 which have nothing to do with their intrinsic credit quality, what to do with the geographical location, the strength of their sovereign. 159 00:15:58,840 --> 00:16:05,350 And this has not really turned down since. No, I mean, the euro has helped. 160 00:16:05,830 --> 00:16:12,940 But of course, these are the roles are being given to banks in countries where there is a problem. 161 00:16:13,450 --> 00:16:19,690 So what the banks are doing, of course, is they're not passing this on. They're using the gap between this and their lending rate to recapitalise. 162 00:16:20,680 --> 00:16:24,430 The OMT has helped on the sovereign side, which has had no effect from here. 163 00:16:25,210 --> 00:16:30,710 To be to be honest with you, an interesting new. And then this is this famous nexus. 164 00:16:30,720 --> 00:16:34,860 I'm just going to do this in these graphs for Ireland, Portugal, Spain and Italy. 165 00:16:35,100 --> 00:16:39,329 We have plotted the CDSs. I will not tell you what CDSs is. 166 00:16:39,330 --> 00:16:43,350 I think you can tell us later. These are measures of risk. 167 00:16:43,650 --> 00:16:50,700 Okay. And so it plots measures of risk for the sovereign against measures of risk for large banks in the same country. 168 00:16:50,910 --> 00:16:56,430 And you can see that they are pretty highly correlated, suggesting that the markets see these two things as correlated. 169 00:16:56,850 --> 00:17:02,520 This doesn't tell you which way to look at it, because in some countries they look at banks as driving the sovereign risk in other countries. 170 00:17:03,060 --> 00:17:10,110 They look at in Spain, for example, the increasing look at sovereign sorry, not Spain, I should say, in in Portugal they increase. 171 00:17:10,110 --> 00:17:14,960 We look at the sovereign is driving the bank risk. Okay. 172 00:17:15,650 --> 00:17:24,860 So that's just to let you know how I think we got into the mess we're in now and the mess that we we are in now trying to get out of. 173 00:17:26,050 --> 00:17:32,360 And what I want to do now is focus a little bit on how we're trying to manage our way out of this crisis, 174 00:17:32,370 --> 00:17:36,660 how we're trying to reverse this fragmentation in financial markets. 175 00:17:37,050 --> 00:17:42,780 Because let's be clear, if we do not reverse this fragmentation in financial markets, the single market is under threat. 176 00:17:43,260 --> 00:17:47,970 The recovery in the periphery is under threat for sure. And that means the recovery in the euro area as a whole. 177 00:17:48,270 --> 00:17:52,380 And I would say the functioning of economic and monetary union is under threat. 178 00:17:52,830 --> 00:17:59,299 So it's it's a high stakes game. I begin by getting my retaliation enforced, 179 00:17:59,300 --> 00:18:03,800 by expanding all the reasons why it's so difficult to manage the crisis before I tell you how I am managing it. 180 00:18:04,740 --> 00:18:10,520 Um. We have a very challenging context for crisis management in the euro area. 181 00:18:11,240 --> 00:18:14,870 Firstly, we are, as I said earlier, not institutionally very well equipped. 182 00:18:15,170 --> 00:18:18,980 We did not complete the architecture quickly enough after we launched the euro. 183 00:18:21,880 --> 00:18:22,840 I think secondly, 184 00:18:22,840 --> 00:18:29,470 the systemic response to the crisis has been hindered by the fact that some member states are experiencing entirely different crises to others. 185 00:18:30,130 --> 00:18:36,190 It's very difficult to tell a central banker in Germany that he has to do things which are against the law. 186 00:18:36,580 --> 00:18:39,150 But if you say the same things to the central banker in Spain, 187 00:18:39,160 --> 00:18:46,240 he has a much deeper understanding of why maybe he might want to relax that law, bring them together, and you get long discussions. 188 00:18:46,900 --> 00:18:51,280 But ultimately, we get to the right answer. I think that has been the piecemeal approach. 189 00:18:51,730 --> 00:18:56,950 This has been identified and we have accepted it. We have sought to address the crisis by winning battles. 190 00:18:57,760 --> 00:19:02,950 So we first went to Greece in the hope that if we won the battle in Greece, we could prevent contagion to other parts. 191 00:19:03,460 --> 00:19:06,670 We didn't. We went to Ireland with a similar idea. 192 00:19:07,210 --> 00:19:14,110 We didn't. So this piecemeal approach, of course, has again meant that we are not able to get a systemic response. 193 00:19:15,070 --> 00:19:17,980 We have not been able to get a systemic response as quickly as we would want. 194 00:19:19,330 --> 00:19:23,590 There are also important distributional aspects, and these have created political constraints. 195 00:19:24,190 --> 00:19:33,610 There is a perception in in Europe and some member states that the loans they are giving to other member states are not loans, but are grants. 196 00:19:34,030 --> 00:19:35,530 But this money is never going to come back. 197 00:19:36,250 --> 00:19:44,889 And this is creating political problems at home because it's not so easy for a country politician in a country to say, 198 00:19:44,890 --> 00:19:52,630 I am giving money to another country when there are, of course, domestic political agendas for which that money might also be used. 199 00:19:53,110 --> 00:19:57,820 And even though we have tried to explain to people in these countries that are actually making money from these loans. 200 00:19:58,670 --> 00:20:05,450 It doesn't really work. And there is a strong sense that this is a sort of distribution issue and this is creating prison constraints. 201 00:20:06,380 --> 00:20:11,360 And these political constraints, of course, have left. It means it's difficult to achieve consensus. 202 00:20:11,750 --> 00:20:19,100 It means the policy response tends to be at very best at the core of and very often behind the curve. 203 00:20:20,260 --> 00:20:28,600 This means that we have to make decisions rather quickly, sometimes very quickly, and then we're left to repair those decisions over time. 204 00:20:28,840 --> 00:20:30,700 A good example of this is the FSF. 205 00:20:31,060 --> 00:20:38,410 We invented the FSF 4 hours before Tokyo opening and then spent six months replacing it with what we wanted to put in place in the first place, 206 00:20:39,220 --> 00:20:43,950 which was the ESM. This is the strategy. 207 00:20:44,060 --> 00:20:48,890 Believe it or not, we have a strategy below all the noise, all the bad press. 208 00:20:49,190 --> 00:20:53,480 There is a strategy, and this strategy has been there since about the end of 2010. 209 00:20:54,940 --> 00:20:58,720 It has five points and we try to address short term and medium term issues. 210 00:20:59,050 --> 00:21:03,910 The short term focus is about eliminating volatility or reducing volatility from the markets. 211 00:21:05,990 --> 00:21:12,020 These three strands strategy was firstly to address the economic and financial problems in the vulnerable Member States. 212 00:21:12,300 --> 00:21:20,400 So we have used programmes to do that. We have tried to address uncertainty related to the EU euro area banking sector. 213 00:21:21,000 --> 00:21:26,370 This we have done through a series of stress tests which have been to a greater extent or lesser extent. 214 00:21:26,800 --> 00:21:34,220 Successful. Credible. What's not always known is that there has been a very substantial recapitalisation of the euro area banking system. 215 00:21:35,150 --> 00:21:38,810 We did not do it like the United States in a big bang in 2009. 216 00:21:39,320 --> 00:21:44,270 But over the years, a lot of capital has gone in to the euro area banking sector. 217 00:21:44,810 --> 00:21:47,690 Unfortunately, this has not been enough, I think, 218 00:21:47,690 --> 00:21:55,190 to eliminate what I would say our persistent doubts about the quality of banking balance sheets of banks in Europe. 219 00:21:55,760 --> 00:22:02,450 I think this is probably unfair. I do not think there's a generalised problem of balance sheets in European banks, 220 00:22:02,450 --> 00:22:08,930 but of course if you don't have transparency and you don't know where those problems are, then rotten apples in barrels come to mind. 221 00:22:09,410 --> 00:22:15,709 And there's a problem for the whole sector. And the last point then was provides what is in the jargon is called firewalls. 222 00:22:15,710 --> 00:22:22,220 And these are basically instruments that allow us to lend from Europe to member states. 223 00:22:22,220 --> 00:22:24,710 So this is the ESM, the European Stability Mechanism. 224 00:22:25,010 --> 00:22:30,860 And these are designed to prevent crises in one member state spilling over into the euro area as a whole. 225 00:22:31,340 --> 00:22:34,060 And here we have two main firewalls. 226 00:22:34,070 --> 00:22:40,730 We have the OMT, which is the ECB's firewall, their commitment to buy bonds in countries like Spain and Italy if necessary. 227 00:22:41,120 --> 00:22:46,790 And we have our firewall, which is under, let's say, the fiscal side, which is the European Stability Mechanism. 228 00:22:47,120 --> 00:22:55,430 And this is a mechanism which allows the euro area to raise money collectively on the market and on lend to member states. 229 00:22:55,790 --> 00:23:01,920 It's kind of like our Monetary Fund, except the IMF get to tap central banks and we have to go to the market. 230 00:23:01,940 --> 00:23:10,170 So it's a bit more difficult. In the medium term, I think there are two main focus of the strategy. 231 00:23:10,590 --> 00:23:17,070 One is to improve the framework for economic adjustment. I said earlier on that we did not have in place what we needed to manage the crisis. 232 00:23:17,970 --> 00:23:20,549 One of the things we're doing to put in place and sorry, 233 00:23:20,550 --> 00:23:27,960 one of those problems was that we focussed almost exclusively on the public sector and we did not take much attention to the private sector. 234 00:23:28,320 --> 00:23:32,400 So while we were very happy with public sector debt moving down and Max remembers this, 235 00:23:32,880 --> 00:23:38,370 we were less focussed on what was happening on the private side and the imbalances were emerging on the private side. 236 00:23:38,490 --> 00:23:44,910 And in fact some of these imbalances were giving false signals about the strength of the public side. 237 00:23:45,570 --> 00:23:50,040 We have now put in place frameworks which address that. We have a more balanced framework. 238 00:23:50,040 --> 00:23:54,030 We address both the public and the private sector, and we have strengthened those frameworks. 239 00:23:54,630 --> 00:24:00,390 And then the second part of the EMU. Of the reinforcing. 240 00:24:00,390 --> 00:24:06,360 The framework is on EMU itself and here we have notably banking union. 241 00:24:06,360 --> 00:24:12,630 And that's the most important thing we're doing, at least in the near term. What I'll show you later on that there's a few other points as well. 242 00:24:13,080 --> 00:24:16,170 But as I said, this five point strategy has been there all along. 243 00:24:16,530 --> 00:24:25,600 It gets lost a little bit in the noise. There's a lot of static around it, but it has been there since 2010 and it has been gradually implemented. 244 00:24:25,620 --> 00:24:29,790 We've put in place all of these things to one extent or another. 245 00:24:33,290 --> 00:24:40,130 Next. I'm back in trouble again. Hmm. Right know it works when this goes away. 246 00:24:40,970 --> 00:24:47,510 Now, this I'm not going to even try to describe. My director general uses this to show how busy we are. 247 00:24:51,410 --> 00:24:55,160 So you can tell them I showed you how busy we are. That is in the middle. 248 00:24:55,520 --> 00:25:01,129 Yeah, that's just basically my standard day. If you can understand that. 249 00:25:01,130 --> 00:25:06,180 Good. I think to be fair, the strategy is working. 250 00:25:06,180 --> 00:25:09,350 If you see how we let's talk before Cyprus. Okay. 251 00:25:09,510 --> 00:25:15,750 Before Cyprus, if you see how we opened up this year, we opened up in much better shape than we ended last year. 252 00:25:16,680 --> 00:25:23,430 There's a definition by S.A.C., I think, of a financial crisis in which he says financial crisis is not when the market loses faith in itself, 253 00:25:23,820 --> 00:25:27,150 but when the market loses faith in the public sector, its ability to rescue it. 254 00:25:28,680 --> 00:25:35,400 And I think in 2012, if we're honest, we came at times close to this perception within the market. 255 00:25:36,000 --> 00:25:43,020 But with the OMT, I think with the ESM being put in place, with taking Greece off the exit list. 256 00:25:43,920 --> 00:25:50,280 I think a lot has been done to reduce tail risks. And that was reflected, I think, in a fairly good opening to the year. 257 00:25:51,490 --> 00:25:56,590 Spreads came down, sovereigns funding conditions improved the stock market here. 258 00:25:56,590 --> 00:26:01,510 I think you should see this booming. If you look at financials within that, it's even stronger. 259 00:26:02,110 --> 00:26:07,120 Sovereign spreads, you see, have come down come down dramatically for some of the vulnerable countries. 260 00:26:07,150 --> 00:26:11,670 My own country, Ireland, is now back in the market, accessing reasonably well. 261 00:26:15,850 --> 00:26:20,320 This is another thing which is not so well known. 262 00:26:21,450 --> 00:26:26,760 Is that underneath all the noise? There is a rebalancing going on in the European economy. 263 00:26:27,270 --> 00:26:34,500 Again, I haven't got time to go through this in great detail, but just to show you that in terms of current account and youth labour costs, 264 00:26:34,680 --> 00:26:39,960 there is a significant adjustment going on in those countries where that adjustment is needed. 265 00:26:39,990 --> 00:26:43,290 So in the periphery in Spain, in Greece and Portugal and Ireland, 266 00:26:43,590 --> 00:26:49,560 and there is also some adjustments, but not as has noticeable going on in in Germany. 267 00:26:49,800 --> 00:26:56,070 Could you tell us what those figures show in that growth? 268 00:26:57,720 --> 00:27:02,850 They are unit labour costs relative to to Germany and you will. 269 00:27:03,360 --> 00:27:08,509 And your annual changes. Yes. Now you can see we're getting adjustment. 270 00:27:08,510 --> 00:27:13,370 But here I'm going to anticipate what someone's going to say to me is that we know how we're getting them and we're getting them through, 271 00:27:13,370 --> 00:27:19,690 as I said earlier, demand adjustment. So these economies, as you can see, look at domestic demand figures. 272 00:27:19,990 --> 00:27:27,730 They have taken some pretty heavy hits. I think if they were not adjusting under these kinds of pressures, we would really be in some difficulty. 273 00:27:28,120 --> 00:27:33,960 But nevertheless, the adjustment is taking place. It's a painful adjustment, but it is under way. 274 00:27:34,000 --> 00:27:41,530 And that's sometimes not always appreciated. There's a sense, again, in the core countries that nothing is happening in the periphery, 275 00:27:41,860 --> 00:27:46,330 that the loans are going out, but that countries are not doing what they're supposed to be doing. 276 00:27:46,360 --> 00:27:49,710 I think the figures just don't really. Stuck up. 277 00:27:50,400 --> 00:27:58,590 I'm not going to spend time here either on this. This is just to basically concede that this is a balance sheet recession. 278 00:27:58,590 --> 00:28:05,760 In balance sheet recessions, we expect protracted periods of low growth and we have a protracted period of low growth. 279 00:28:05,880 --> 00:28:10,110 And I think we will very soon update this forecast for our spring forecast. 280 00:28:10,440 --> 00:28:15,480 And it will be very much the same picture, indeed, slightly weaker, I would expect. 281 00:28:16,020 --> 00:28:21,330 So bottom line is we are in the middle of a protracted period of of low growth. 282 00:28:21,960 --> 00:28:27,840 And this is a complicating factor, seriously complicating factor in terms of crisis management. 283 00:28:30,280 --> 00:28:35,950 So where are we then? We started this year in good shape, I think. 284 00:28:36,490 --> 00:28:39,490 Not in good shape, actually, in better shape than we were in 2012. 285 00:28:40,860 --> 00:28:43,720 But still rather fragile. And. 286 00:28:44,710 --> 00:28:55,090 One of the things we had planned and we do plan to do this year is to work heavily on banking union as part of the reinforcement of of EMU. 287 00:29:00,200 --> 00:29:06,680 I want to before I talk about this, however, go back and talk a little bit about why I think banking union is necessary. 288 00:29:07,890 --> 00:29:15,570 And whether or not, you know, the question is always asked, was EMU a flawed construction and should we not have done banking union to begin with? 289 00:29:17,040 --> 00:29:23,790 And I'll answer that later. But first, I want to just focus on this EMU construction business because again, I'm a commission official, 290 00:29:23,790 --> 00:29:29,010 so perhaps you would expect me to say this, but I don't believe the EMU was, in fact, a flawed construction. 291 00:29:30,020 --> 00:29:38,180 It's a very unique construction, of course. It combines a single monetary policy with coordinated but still very much decentralised fiscal policy. 292 00:29:38,330 --> 00:29:41,420 So it's not like the United States. It's a very different model. 293 00:29:42,310 --> 00:29:49,060 The conventional wisdom was then, and I think still is now, that deep political integration is required for currency unions to be durable. 294 00:29:50,810 --> 00:30:01,550 We didn't accept this conventional wisdom. We thought that we could launch EMU and expect post an endogenous convergence in political preferences, 295 00:30:02,060 --> 00:30:08,330 not political union, but a convergence in political preferences which would allow the union to work. 296 00:30:09,050 --> 00:30:12,140 This, of course, has not materialised as evidence in this crisis. 297 00:30:12,640 --> 00:30:17,420 But I don't think this means that the EMU construction was necessarily flawed from the outset. 298 00:30:19,100 --> 00:30:23,870 The logic of EMU, as we launched, has had both direct and indirect effects. 299 00:30:24,230 --> 00:30:30,830 The direct effect of EMU was the sort of effects we all talked about macro stability, low transaction costs, etc. 300 00:30:31,100 --> 00:30:35,899 More liquid financial markets used to use deep liquid and something else. 301 00:30:35,900 --> 00:30:40,790 Large, deep and liquid was always three or four times. But there were also indirect benefits. 302 00:30:41,060 --> 00:30:47,540 And the indirect benefit was, of course, that it was IMU provided powerful incentives to microeconomic reform. 303 00:30:48,370 --> 00:30:53,050 My ex-boss used to always say that the macro convergence challenge launch EMU was the easy part. 304 00:30:53,470 --> 00:30:57,790 The harder part was going to be the micro reform that would be needed to make it work. 305 00:30:58,390 --> 00:31:05,260 And the idea was that you would take away the exchange rate as a devaluation means to avoid reform. 306 00:31:05,950 --> 00:31:10,330 Of course, we knew we were taking away the normal adjustment mechanism. That was the problem. 307 00:31:11,050 --> 00:31:16,510 But if you look at how the nominal adjustment mechanism had been used in Europe in the previous 20 years, 308 00:31:16,900 --> 00:31:20,080 it had been essentially to run inflation devaluation cycles. 309 00:31:21,100 --> 00:31:26,200 A good example of this is Italy, where the external sector was pretty competitive, but the shelter sector was not. 310 00:31:26,920 --> 00:31:33,490 The sheltered sector would dump its excess costs into the traded sector, which would then become uncompetitive. 311 00:31:33,520 --> 00:31:40,600 There would be a devaluation and the clock would be set. But of course, Italy was gradually becoming relatively poor through this process. 312 00:31:41,790 --> 00:31:47,129 The idea then was to take away this and to force countries to confront the harder political 313 00:31:47,130 --> 00:31:54,910 choices with the better economic choice of economic reform and the construction of EMU. 314 00:31:54,930 --> 00:31:58,080 We thought it was pretty well suited for that because it was decentralised. 315 00:31:58,560 --> 00:32:02,130 It kept the cost of non reform where non reform was. 316 00:32:02,430 --> 00:32:07,410 It did not allow for what you would call is kind of deficit shifting or reform shifting, 317 00:32:07,830 --> 00:32:11,670 pushing the costs of reform up from the periphery to the centre. 318 00:32:12,510 --> 00:32:19,450 It kept the cost of non reform. Down where none reform was. 319 00:32:20,490 --> 00:32:24,780 And we hope that the economic discipline of markets would reinforce this model 320 00:32:25,140 --> 00:32:29,010 and bring about this political this convergence and political preferences. 321 00:32:30,780 --> 00:32:35,220 But in retrospect, I think we assumed that a number of preconditions would be there. 322 00:32:36,270 --> 00:32:42,060 We assume that Member States would comply with this rules based framework that we put in place for coordination. 323 00:32:43,140 --> 00:32:49,920 For fiscal policy in particular, we assume that financial market discipline would be there to incentivise policy coordination. 324 00:32:50,800 --> 00:32:58,180 We assumed that we would be very rapidly able to build a financial stability architecture which would validate the integrated capital markets. 325 00:32:59,080 --> 00:33:04,270 And I think lastly, we assumed that there would be a capacity among Member States to pool resources, 326 00:33:04,570 --> 00:33:09,580 not in some kind of fiscal federalism, but pooling resources for specific. 327 00:33:10,990 --> 00:33:14,820 Policy responses where there were externalities, so notably the financial crisis. 328 00:33:14,830 --> 00:33:16,930 But you could also think of things like the environment. 329 00:33:17,290 --> 00:33:24,100 So the idea the idea was not to move for a fiscal federal model, but to a model where there would be a pooling resources for. 330 00:33:25,060 --> 00:33:29,740 Specific justifiable policy responses. 331 00:33:30,520 --> 00:33:36,940 In fact, we launched EMU almost in Coincidence with the Great Moderation, and that had a number of effects. 332 00:33:37,010 --> 00:33:43,540 Now, I'm not claiming that this was the only effect, but it had an important effect in these following ways. 333 00:33:44,230 --> 00:33:49,810 First of all, in this world where everything was growing and there was no inflation and everybody felt pretty good. 334 00:33:51,020 --> 00:33:54,800 It was very difficult to implement a rules based policy framework. 335 00:33:55,340 --> 00:33:59,210 This was part of the problem in 2003 with Germany and France. 336 00:33:59,220 --> 00:34:06,680 It was part of the problem with Greece. We were never able to point to the markets and say, if you don't change, you're going to have a problem. 337 00:34:06,890 --> 00:34:13,280 Because as I showed you in earlier chart, sovereign bond yields were pretty convergent throughout this entire period. 338 00:34:13,700 --> 00:34:17,930 And ministers would look at you and say. The markets don't agree with you. 339 00:34:18,230 --> 00:34:21,470 So you may see a problem, but the markets don't agree with you. 340 00:34:23,110 --> 00:34:29,260 So market discipline was absent. It was a more globalised mispricing of risk, but it was certainly evident in the euro area, as I said. 341 00:34:29,500 --> 00:34:36,340 Greek bonds were selling pretty well, but also US junk bonds were selling a to 50 basis points over U.S. Treasuries. 342 00:34:36,460 --> 00:34:40,150 Another sign that risk was not exactly being priced globally. 343 00:34:41,340 --> 00:34:47,660 A quiet quite so well. We did not make as much progress in completing financial stability architecture. 344 00:34:47,670 --> 00:34:50,969 I was discussing with Max before we came here in 2005. 345 00:34:50,970 --> 00:34:57,110 I think we put the first paper down for burden sharing. In the sense of burden sharing, the costs of banking. 346 00:34:57,200 --> 00:35:02,839 Yes. So people were talking about the architecture, but they didn't understand that in order to make the architecture work, 347 00:35:02,840 --> 00:35:08,540 you had to talk about the money that underlies the architecture, and they weren't so keen to talk about the money. 348 00:35:09,170 --> 00:35:15,740 And so while we were able to talk about the concept of burden sharing, we never really succeeded in making it an operational concept. 349 00:35:16,800 --> 00:35:20,970 And all of this resulted in deficiencies in the crisis prevention mechanism. 350 00:35:20,980 --> 00:35:25,170 So our rules basically lost credibility and our ability to manage. 351 00:35:25,170 --> 00:35:29,430 We did not have the infrastructure and not the tools available to manage the crisis. 352 00:35:30,590 --> 00:35:36,820 And so what we're doing now is. At the end, you know, as we are trying to manage this crisis, 353 00:35:36,830 --> 00:35:42,020 we're also trying to put in place the framework we should have had before we got into it. 354 00:35:42,720 --> 00:35:50,600 And it's not so easy to kind of put in place the framework for the brave new world when you're still trying to survive the existing world. 355 00:35:53,530 --> 00:35:58,090 The way in which we're going to reinforce EMU construction, there are four elements I will focus on only one. 356 00:35:58,960 --> 00:36:01,990 We have strengthened the policy coordination framework, as I mentioned. 357 00:36:02,710 --> 00:36:05,950 This has to do with the famous. You will not know them. Put the six pack in two packs. 358 00:36:05,960 --> 00:36:11,200 These are packages of legislation which reinforce the economic surveillance framework in Europe. 359 00:36:11,860 --> 00:36:15,550 There is the banking union where we will try to complete the financial stability architecture. 360 00:36:15,970 --> 00:36:20,080 We have established crisis management instruments. So we have the EFSF, we have the ESM. 361 00:36:20,090 --> 00:36:23,170 These are these instruments which allow us to borrow and on lend. 362 00:36:23,890 --> 00:36:30,220 And we've made the first steps, very small steps, I would admit, towards fiscal capacity at the EMU level. 363 00:36:30,280 --> 00:36:35,469 So there has been a concession, but at the euro area level, there can be a fiscal capacity, 364 00:36:35,470 --> 00:36:40,780 capacity, although it's only a concession, there are maybe 20 billion, but it's not a serious step. 365 00:36:41,140 --> 00:36:43,270 But I think the principle is important. 366 00:36:44,880 --> 00:36:50,030 If I can focus on banking union, because as I said, it's the most important one and the one I am most involved in. 367 00:36:52,180 --> 00:36:58,150 We see this as the key reinforcement and it's the key reinforcement because it both addresses the 368 00:36:58,540 --> 00:37:04,240 key characteristic of the current crisis and sets up the framework for preventing future crises. 369 00:37:04,420 --> 00:37:08,110 And that is it breaks this link between banks and sovereigns. 370 00:37:08,650 --> 00:37:13,870 This link where a national bank can bring down the national sovereign or as in the case of Greece, 371 00:37:14,080 --> 00:37:17,410 a national sovereign can bring down its entire banking system. 372 00:37:18,280 --> 00:37:27,750 And the way in which it does this is it creates new neutrality across the three main areas of crisis prevention and management. 373 00:37:27,760 --> 00:37:31,660 So there's neutrality and oversight. So you have a central body which takes care of oversight. 374 00:37:32,170 --> 00:37:38,170 So you no longer have national supervisors managing their own banks, so there's less risk of capture. 375 00:37:39,430 --> 00:37:43,960 There's neutrality in bank resolution and allocation of losses among private creditors. 376 00:37:44,500 --> 00:37:49,390 This, by the way, will be a great novelty in Europe. It's not just that we don't have a resolution framework in Europe. 377 00:37:49,540 --> 00:37:54,430 We don't have a resolution culture in Europe. We just don't resolve banks, even little ones. 378 00:37:54,850 --> 00:37:58,240 We tend to rescue them. This will be an important change. 379 00:37:59,180 --> 00:38:07,100 And this allocation of losses among private creditors will be a really important departure in crisis management, in bank crisis management in Europe. 380 00:38:07,670 --> 00:38:15,650 And then lastly, there will be the possibility to neutralise any remaining financial costs after you've allocated losses via a common fiscal backstop. 381 00:38:15,830 --> 00:38:22,460 So we will neutralise and here the logic is that it makes sense to mutualisation at the bottom, i.e. the costs. 382 00:38:22,730 --> 00:38:26,540 If you have neutralised all the other levels as well. 383 00:38:27,960 --> 00:38:32,000 Okay. And all of these things are important. 384 00:38:32,160 --> 00:38:38,480 Here I go again. Okay. 385 00:38:39,650 --> 00:38:43,820 So there are four main components of banking union as we are proposing it from the commission side. 386 00:38:44,270 --> 00:38:49,880 Thirdly, a single supervisory mechanism that means a single supervisor and a network of national supervisors. 387 00:38:50,180 --> 00:38:55,870 That would be the essentially it would be the ECB. There'll be a common resolution framework. 388 00:38:56,830 --> 00:39:01,750 If we have our way, it will have a single resolution authority and a network of national resolution authorities. 389 00:39:02,440 --> 00:39:10,750 There will be a private resolution fund. So there will be a banking sector will generate its own funding, which will be kept in a pool for use. 390 00:39:11,380 --> 00:39:15,130 There will be a common deposit insurance framework, although this will probably come later. 391 00:39:16,940 --> 00:39:19,940 And then there will be the ESM as a common backstop, 392 00:39:20,090 --> 00:39:26,569 and we will have the possibility for the ESM to intervene directly in banks so not only lend to member states, 393 00:39:26,570 --> 00:39:29,480 but to inject capital directly into banks. 394 00:39:29,930 --> 00:39:36,740 And all of these four parts, in our view, are ultimately required to ensure the coherence of the banking union. 395 00:39:37,840 --> 00:39:50,770 Oops. I've gone wrong. Okay. 396 00:39:52,810 --> 00:39:59,320 Read about? Oh, yes. From beginning to end. 397 00:40:01,770 --> 00:40:04,140 I'm going to skip this slide anyway. So it's a good spot. 398 00:40:05,620 --> 00:40:11,110 We have a political agreement now on the single supervisor and we have a political agreement. 399 00:40:12,890 --> 00:40:17,090 On. The rule book, the capital requirements. 400 00:40:17,090 --> 00:40:20,810 So this basically means that we have we we already have agreement to a single supervisor. 401 00:40:21,750 --> 00:40:30,270 Which will be the ECB effectively. And we have agreement on the rule book, at least as that will apply to bank capital. 402 00:40:32,960 --> 00:40:41,780 Okay. So we have the first step done. The next steps is that we need to put in place the rulebook for the resolution. 403 00:40:43,570 --> 00:40:45,430 And for the use of deposit guarantee schemes. 404 00:40:45,430 --> 00:40:51,790 And we already have in the Commission two proposals on the table which are being discussed now by the Council and the European Parliament. 405 00:40:54,110 --> 00:40:59,749 By June, we will the commission will bring forward a legislative proposal for a single European resolution mechanism. 406 00:40:59,750 --> 00:41:02,390 So the mechanism which will run the resolution rulebook. 407 00:41:03,670 --> 00:41:10,870 And in that, we will almost certainly propose a single resolution authority with a network of national authorities. 408 00:41:12,610 --> 00:41:19,480 And lastly, I think what we will try to do over the next months is to confirm the rules of the game in bank resolution. 409 00:41:20,400 --> 00:41:21,870 We didn't think we would have to do this. 410 00:41:22,590 --> 00:41:31,920 But after Cyprus and the confusion which has been caused by Cyprus, we are going to have to now clarify already the rules of the game that will apply, 411 00:41:32,130 --> 00:41:38,160 in the words of Beilein, and will have to determine the timing of got word of bailin. 412 00:41:40,060 --> 00:41:44,500 And that we hope to do over the next two or three months leading up to the summer. 413 00:41:48,150 --> 00:41:54,210 When we have these on the table, then of course there will be another process of negotiation with the European Parliament and the European Council. 414 00:41:54,690 --> 00:42:00,060 But our objective will be to have the bulk of the parts of the banking union in place. 415 00:42:01,290 --> 00:42:04,830 By end 2014 and operational. 416 00:42:04,920 --> 00:42:13,579 That would be the sort of idea we would have. I want to put this chart up to say a little bit about the implications of banking union, 417 00:42:13,580 --> 00:42:17,000 both for those who participate in it and those who will not participate in this. 418 00:42:18,500 --> 00:42:20,059 I think for those who would participate in it, 419 00:42:20,060 --> 00:42:25,130 we might as well be honest and say that is probably the largest transfer of national sovereignty to the centre ever. 420 00:42:25,340 --> 00:42:28,820 I would consider even a greater transfer of sovereignty than the monetary union. 421 00:42:29,450 --> 00:42:36,080 You will recall that most members of the monetary union have already peg their currency to the Deutschmark for some time beforehand. 422 00:42:36,770 --> 00:42:39,770 So the transfer of sovereignty in itself was not so great. 423 00:42:40,010 --> 00:42:46,370 Here you are transferring sovereignty and also a form of sovereignty which is very closely linked to fiscal policy. 424 00:42:47,690 --> 00:42:54,170 You're going to share responsibility for prudential oversight, for crisis management, and for the associated fiscal costs. 425 00:42:55,210 --> 00:43:01,660 So it will have to be full cooperation among the member states. And here I think I go back to the papers we used to do Max. 426 00:43:02,050 --> 00:43:06,220 I still believe that unless we get the money side right, the fiscal side right. 427 00:43:06,820 --> 00:43:10,900 This is the key to aligning incentives to make this cooperation happen. 428 00:43:11,500 --> 00:43:15,790 If you don't have the money right in the member states will not have the right incentives. 429 00:43:16,580 --> 00:43:21,140 So if you're going to have a central body making decisions that impose costs on you. 430 00:43:22,320 --> 00:43:24,540 And there's no mutualisation of these costs. 431 00:43:25,140 --> 00:43:32,880 I'm not convinced that you will always have the incentive to bring to the attention of that central body in a timely manner what you need to do. 432 00:43:33,240 --> 00:43:40,770 There will be an attempt to keep things. So essentially we are trying to convert national authorities into whistleblowers. 433 00:43:43,550 --> 00:43:47,620 And to do that, you must have the right incentives structure. 434 00:43:49,730 --> 00:43:51,500 The implications for non-participants. 435 00:43:52,450 --> 00:43:59,530 Well, the good news is that a more resilient emu is, of course, good for the global financial system as eases the current crisis in the euro. 436 00:43:59,830 --> 00:44:05,990 It will reduce probabilities of future crises. I think banking union is consistent with the single market, 437 00:44:06,000 --> 00:44:11,610 but I don't think anybody can sit here and tell you that it's entirely neutral in terms of its impacts for the single market. 438 00:44:12,090 --> 00:44:17,460 There will be some inside this banking union and there'll be some in the single market, but outside of banking union. 439 00:44:19,030 --> 00:44:26,320 I think the pooling of sovereignty inside the banking union may imply changes in the way both public and private bodies manage risk. 440 00:44:28,030 --> 00:44:32,169 If you can think of the banking union as essentially drawing a fiscal boundary around 441 00:44:32,170 --> 00:44:38,380 your financial system and saying any costs that arise in this financial system we share. 442 00:44:39,800 --> 00:44:44,780 And then you live in a world where some of your risk is outside of your physical boundary. 443 00:44:44,930 --> 00:44:53,440 This is also true of the United States, by the way. Then you have a lot of risk for which you are fiscally responsible, but outside of your purview. 444 00:44:54,520 --> 00:44:57,670 There are two ways you can approach this. You can share oversight. 445 00:44:58,620 --> 00:45:05,240 Or you can try to repatriate the risk. This is also the problem, which also relies on under Dodd-Frank, 446 00:45:05,660 --> 00:45:09,860 where the Fed is being given extraterritorial responsibilities and it's trying to work 447 00:45:09,860 --> 00:45:14,659 out how it's going to meet those responsibilities because a lot of U.S. dollar risk, 448 00:45:14,660 --> 00:45:18,020 of course, lives outside of the United States. 449 00:45:19,600 --> 00:45:26,800 All that being said, I think on terms in terms of private actors, it may well be that banks will look at the banking union and non-banking union. 450 00:45:27,070 --> 00:45:30,879 Look at the arrangements inside banking union in terms of quality of oversight, 451 00:45:30,880 --> 00:45:35,320 but also quality of backstop and the side that they would prefer to have their risk managed. 452 00:45:35,590 --> 00:45:40,510 They're running them here. There's nothing certain about this, but it's one of the things we have to think about. 453 00:45:41,080 --> 00:45:41,830 And in the commission, 454 00:45:41,830 --> 00:45:49,120 we will do everything we can to ensure that the dynamics which may be created by a banking union remain consistent with the single market. 455 00:45:49,870 --> 00:45:55,330 So we're going to do but I just want it to be clear that we are not naive in the sense that this has no effect. 456 00:45:57,160 --> 00:46:02,560 Do I have time for challenges if I leave them to afterwards? Just maybe just comment on them and then we should take. 457 00:46:03,000 --> 00:46:10,420 Okay. I just finished this chart up because as we go forward in all of this crisis management, banking union responding to the economics. 458 00:46:11,430 --> 00:46:17,850 We have a set of challenges, I think, which relate to the policy environment and relate to policy implementation. 459 00:46:18,870 --> 00:46:21,149 Just list them here if you are not going to too much detail on them. 460 00:46:21,150 --> 00:46:25,860 But the policy environment is that we live now in Europe in a very risk averse world. 461 00:46:26,580 --> 00:46:29,820 We have lost the confidence of financial markets throughout the crisis. 462 00:46:30,390 --> 00:46:34,830 We have regained that somewhat. We have to see how Cyprus is going to impact on that. 463 00:46:36,060 --> 00:46:43,710 The noise below the surface is not necessarily positive on this, but we live in a risk averse and this makes crisis management. 464 00:46:44,860 --> 00:46:48,130 That bit more difficult, even much more volatile environment. 465 00:46:48,880 --> 00:46:50,860 We live in a low economic growth environment. 466 00:46:51,010 --> 00:46:58,240 This is not unexpected after a financial crisis, but it's also an environment in which you have to endogenous to generate your growth. 467 00:46:58,960 --> 00:47:02,110 You cannot expect external sources to give you that growth. 468 00:47:02,500 --> 00:47:06,910 And the way you endogenous to generate, of course, is through credible, consistent policy implementation, 469 00:47:07,270 --> 00:47:11,650 something we are learning to do but have not been so good at in the last couple of years. 470 00:47:12,190 --> 00:47:15,490 And then there's financial fragmentation, which I've mentioned earlier. 471 00:47:15,940 --> 00:47:25,409 This is a real threat. Too, I think the functioning of monetary union and to recovery in the periphery because clearly the cost structure is faced 472 00:47:25,410 --> 00:47:31,860 by operators in the periphery are dramatically different to those that are now mentioned and being faced in the centre. 473 00:47:32,310 --> 00:47:35,700 And this fragmentation is not an equilibrium position. It is not. 474 00:47:36,000 --> 00:47:36,290 I mean, 475 00:47:36,300 --> 00:47:45,000 those are the conditions in the centre are lower than they should be and the conditions in the periphery are higher than the than they should be. 476 00:47:46,370 --> 00:47:49,190 In terms of policy implementation. I've touched on some of these already. 477 00:47:49,430 --> 00:47:54,190 We have a set of political constraints which make policy consensus difficult. 478 00:47:55,200 --> 00:47:58,390 And that means that policy consistency is difficult. 479 00:47:58,410 --> 00:48:01,500 And that means that sometimes we have diminished credibility of policy. 480 00:48:03,820 --> 00:48:12,010 I am on Cyprus. I should say that we have not seen what we fear who would see in Cyprus in dramatic moves in market indicators? 481 00:48:13,130 --> 00:48:19,310 But if you speak to market participants and one or two of them may be here, there has been an impact of Cyprus. 482 00:48:19,430 --> 00:48:22,580 We have to some extent confuse the markets again. 483 00:48:22,850 --> 00:48:28,100 And there is going to have to be some work done to restore that, um, that credibility. 484 00:48:29,880 --> 00:48:34,230 Another important problem we have is short term flexibility versus long term credibility. 485 00:48:34,560 --> 00:48:40,440 I mentioned earlier that we're putting in place new frameworks for the New World for reinforcing EMU. 486 00:48:41,220 --> 00:48:44,100 The problem is these flavours, these frameworks require discipline. 487 00:48:45,070 --> 00:48:50,320 And of course, we're asking countries who are significantly out of equilibrium to observe these disciplines. 488 00:48:51,010 --> 00:48:54,999 Some of them are finding it difficult to do so. So we're faced with this choice. 489 00:48:55,000 --> 00:49:00,010 Do we let countries off these rules because they're in a difficult short term position? 490 00:49:00,850 --> 00:49:05,920 And if we do that, to what extent do we undermine the credibility of the framework that we have just put in place? 491 00:49:07,610 --> 00:49:11,390 So the classic is the member state with fiscal adjustment problems. 492 00:49:11,420 --> 00:49:18,590 Do we allow it to have an easier fiscal adjustment? What that means in the first time we try to apply our new rules, we bend the rules. 493 00:49:20,690 --> 00:49:24,860 So this is another problem we face. And then lastly is a problem of time consistency. 494 00:49:25,160 --> 00:49:32,890 And that, of course, is that during crisis periods, Member States are willing to buy up and buy in to a lot of processes, a lot of reform processes. 495 00:49:33,560 --> 00:49:41,390 The question is whether or not those member states will continue to buy into these processes if and when the crisis begins to ease. 496 00:49:41,840 --> 00:49:47,990 And that's very important for the sort of into temporal bargains we are doing between creditor countries and what we call vulnerable countries. 497 00:49:48,260 --> 00:49:54,770 It's important that both sides have a framework in which they believe the behaviour of the other will be time consistent. 498 00:49:56,170 --> 00:49:59,770 So, Max, I think I will leave it there. And thank you for. 499 00:50:00,600 --> 00:50:02,950 The potential. Thank you very much.