STOCKHOLM: Euro zone bank regulators should consider tweaking a raft of rules, from how much cash banks should hold to how failing institutions are resolved, in order to protect the financial system, two leading European Central Bank policymakers said.
The 20-nation currency bloc’s lenders fared well in last month’s banking turmoil but some risks were exposed and the rapid drop in share prices raised questions about their ability to withstand a larger crisis.
While acknowledging the resilience of European lenders, French central bank chief Francois Villeroy de Galhau and his Dutch colleague Klaas Knot raised several concerns on Friday, just as finance ministers from the bloc gathered in Stockholm, in part to consider the lessons learned.
A key worry is that, given the oversized impact of social media on consumer behaviour, deposit movements may become more rapid than regulators envisaged, questioning whether liquidity and resolution rules remain adequate.
“It cannot be denied that the speed at which deposits were withdrawn from Silicon Valley Bank was much faster than expected – much faster than liquidity coverage ratio (LCR) calculations take into account,” Knot, the chair of the Financial Stability Board, said.
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“And so, should LCR be calibrated differently? And/or do we need to better stress test it?” Knot added.
Speaking separately, Villeroy made a similar point, arguing that changing liquidity rules need to be at least discussed as technology and social media support faster deposit movements. Another issue is how failing banks are dealt with.
The euro zone resolves only large banks where saving the institution is in the public interest, while smaller lenders are allowed to fail.
“The other priority, on the other end of the spectrum, is to shift from resolution ‘for the few’ – really for the too few: two cases in the last 9 years – to resolution ‘for the many’, including small and medium-sized banks,” Villeroy added.
This would allow for a smoother exit, a key issue as the failure of Silicon Valley Bank in the US showed that even second tier institutions can send shock waves through the system.
Villeroy also called for improved monitoring of the credit default swap market, a relatively small instrument that still had an oversized impact on some share prices in March.
“The lack of liquidity of this market and its opaqueness caused an undue episode of financial distress affecting Deutsche Bank,” Villeroy said.
“We should not accept that such a dysfunctional market entails such systemic risks.”
As a first step, supervisors need to have a better understanding of this market, Villeroy added.