Macroprudential ring-fencing
| Pages | 125-142 |
| DOI | https://doi.org/10.1108/JFRC-10-2019-0122 |
| Published date | 10 August 2020 |
| Date | 10 August 2020 |
| Subject Matter | Accounting & finance,Financial risk/company failure,Financial compliance/regulation |
| Author | Tomáš Konečný,Lukáš Pfeifer |
Macroprudential ring-fencing
Tom
ašKone
cný
Czech National Bank, Prague, Czech Republic, and
Luk
ašPfeifer
Faculty of Economics and Czech National Bank, University of West Bohemia,
Prague, Czech Republic
Abstract
Purpose –This paper aims to focus on capital-related macroprudential policies in the context of recent
policy discussions on the removalof barriers to the mobility of capital and liquidity of cross-border banksin
the EuropeanUnion (EU).
Design/methodology/approach –This study first discusses the link between financial stability and
internal resource mobility of cross-border banks. Then, it examines past heterogeneity in structural capital
buffers as keymacroprudential capital instruments appliedin the EU and relate them to costs of policy action,
degree of foreignpenetration and membership in the BankingUnion.
Findings –Observed phase-in patterns of structuralcapital buffers in the EU are broadly consistent with
costs of policy action, degree of foreign penetration and membership in the Banking Union as potential
factors. The process of financial integration could be further enhanced through reduced uncertainty in the
applicationof macroprudential policies that constraincapital mobility of cross-border banks.
Originality/value –This paper anchors macroprudential policies into a wider discussion on the
mechanism and implications of ring-fencing in the EU over time. It discusses two policy areas,
macroprudentialpolicies and proposals for deeper financial integration,that share the same financial stability
objective but tend to emphasizedifferent implications of the mobility of capital and liquidity of cross-border
banks in the EU. The study provides a discussion of potential implications of the recent adoption of the
CRRII/CRDVlegislation for future heterogeneity of macroprudentialpolicies in the EU.
Keywords Financial stability, Macroprudential policy, Ring-fencing
Paper type Research paper
1. Introduction
The project of the Banking Union entails a move toward an integratedregulatory and supervisory
area within the European Union (EU) to provide a solid basis for deeper financial integration and
contribute to long-term economic prosperity and financial stability on the continent (Draghi, 2018a)[1].
Nonetheless, progress toward deeper financial integration in the EU has been slow if not
stagnating (Emter et al., 2019) as the cross-border credit flows of EU banks have only recently
approached levels observed before the financial crisis. This process, also known as financial
fragmentation, and the sustained pressure on bank profitability and business models in the
current low interest rate environment initiated discussion on possible policy remedies. Much of
this policy discussion focuses on regulatory and supervisory practices across the EU banking
systems that impact on the flow of resources within cross-border banking groups (Draghi, 2018b;
Praet, 2018;ECB, 2019a). A noteworthy example represents restrictions on the mobility of capital
and liquidity along national borders of cross-border banking groups, often labeled as ring-fencing.
Ring-fencing of capital and liquidity tends to be perceived as an obstacle to the
development of the single market in financialservices in the EU and as such a contributing
JEL classification –E58, E61, G18
Ring-fencing
125
Received2 October 2019
Revised31 March 2020
10June 2020
Accepted3 July 2020
Journalof Financial Regulation
andCompliance
Vol.29 No. 2, 2021
pp. 125-142
© Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-10-2019-0122
The current issue and full text archive of this journal is available on Emerald Insight at:
https://www.emerald.com/insight/1358-1988.htm
factor to financial fragmentation (Nouy,2018). Ring-fencing is further argued to impede the
conduct of monetary policy and hence be a drag on economic stability in the economic and
monetary union (euro area) through its alleged direct impact on limiting cross-border flows
and indirect impact via discouragement of increased cross-border banking (Draghi, 2018b).
Finally, ring-fencingis perceived to undermine financial stability by restricting the abilityof
cross-border banksto withstand situationsof financial stress (Bénassy-Quéré et al.,2018).
The present study focuses primarily on the latter argument as manypolicies with potential
ring-fencing effects use the financial stability justification as much as the criticisms against
them. This inherent antagonism is particularly apparent in the case of macroprudential policies
that aim to mitigate and prevent systemic risk in the financial system with the ultimate
objective of safeguarding financial stability (ESRB, 2013)[2]. To safeguard financial stability
and mitigate systemic risk, macroprudential policies often rely on capital-based instruments
that enhance loss-absorbing capacity of banks against systemic events. While such
instruments might technically restrict the flow of capital within cross-border banking groups,
they simultaneously help preserve financial stability across individual EU member states and
as such support financial stability of the EU economy as a whole.
The close and complex link between internal resource mobility of cross-border banks and
financial stability in the EU has been pointedly illustrated in the context of the policy response to
the Covid-19 pandemic. In particular, the unprecedented policy measures tomitigate the impact of
the pandemic have been conjoined with public communications to financial institutions to refrain
from dividend pay-outs or related actions. These initiatives reflected the essential role of the
financial sector in addressing the economic fallout of the Covid-19 pandemic and subsequent
recovery and the efforts to maximize the effect of adopted policy measures. Given the need for a
broad-based and coordinated action at the EU level, the European Systemic Risk Board (ESRB)
subsequently published a recommendation on restriction of distributions during the COVID -19
pandemic that also addressed distribution restrictions within cross-border banks (ESRB, 2020).
While the recommendation delivered a (time-limited) compromise on the degree of internal
resource mobility of cross-border banks by providing that distribution restrictions be maint ained
at the EU group level, and, where appropriate, at the sub-consolidated or individual level, its
adoption also hinted at the desirability of a longer term regulatory solution.
The present study aims to link macroprudential policies with potential ring-fencing
effects to financial integration in the EU. We argue that there are potentially strong
synergies between such policiesand financial integration in the EU and that full mobility of
internal resources of cross-border banks might not be necessarily desirable. Our focus lies
primarily on the role of macroprudential policies in macroeconomic and financial
stabilization. Macroprudential policies contribute directly to the absorption of systemic
shocks, but also enhance the performanceof existing risk-sharing mechanisms,in particular
in case of synchronous shocks. Giventhat they reflect and respond to fundamental realities
of the economic and currency union and prevent the amplification of systemic events, they
also support the single market and mobilityof capital and liquidity within the EU.
Financial integration in the EU could be further advanced through reduced uncertainty
in the future application of macroprudential policies with potential ring-fencing effects. We
discuss incentives (e.g. cost of policy action or role of foreign penetration) that drive the
heterogeneity in the application of policies.This raises the question as to whether and if so,
how such incentives should be reflected in the EU regulatory framework given their likely
sustained relevance in the future. This translates into the discussion of the implications of
the recently adopted CRRII/CRDV legislation [3]. While the revised legislation aims to
streamline the current macroprudential framework in the EU, we invite discussion on the
embedded safeguards against excessive ring-fencing that contribute to distortions of
JFRC
29,2
126
Get this document and AI-powered insights with a free trial of vLex and Vincent AI
Get Started for FreeStart Your Free Trial of vLex and Vincent AI, Your Precision-Engineered Legal Assistant
-
Access comprehensive legal content with no limitations across vLex's unparalleled global legal database
-
Build stronger arguments with verified citations and CERT citator that tracks case history and precedential strength
-
Transform your legal research from hours to minutes with Vincent AI's intelligent search and analysis capabilities
-
Elevate your practice by focusing your expertise where it matters most while Vincent handles the heavy lifting
Start Your Free Trial of vLex and Vincent AI, Your Precision-Engineered Legal Assistant
-
Access comprehensive legal content with no limitations across vLex's unparalleled global legal database
-
Build stronger arguments with verified citations and CERT citator that tracks case history and precedential strength
-
Transform your legal research from hours to minutes with Vincent AI's intelligent search and analysis capabilities
-
Elevate your practice by focusing your expertise where it matters most while Vincent handles the heavy lifting
Start Your Free Trial of vLex and Vincent AI, Your Precision-Engineered Legal Assistant
-
Access comprehensive legal content with no limitations across vLex's unparalleled global legal database
-
Build stronger arguments with verified citations and CERT citator that tracks case history and precedential strength
-
Transform your legal research from hours to minutes with Vincent AI's intelligent search and analysis capabilities
-
Elevate your practice by focusing your expertise where it matters most while Vincent handles the heavy lifting
Start Your Free Trial of vLex and Vincent AI, Your Precision-Engineered Legal Assistant
-
Access comprehensive legal content with no limitations across vLex's unparalleled global legal database
-
Build stronger arguments with verified citations and CERT citator that tracks case history and precedential strength
-
Transform your legal research from hours to minutes with Vincent AI's intelligent search and analysis capabilities
-
Elevate your practice by focusing your expertise where it matters most while Vincent handles the heavy lifting
Start Your Free Trial of vLex and Vincent AI, Your Precision-Engineered Legal Assistant
-
Access comprehensive legal content with no limitations across vLex's unparalleled global legal database
-
Build stronger arguments with verified citations and CERT citator that tracks case history and precedential strength
-
Transform your legal research from hours to minutes with Vincent AI's intelligent search and analysis capabilities
-
Elevate your practice by focusing your expertise where it matters most while Vincent handles the heavy lifting
