Financial stability plays a crucial role in the financial system and in the economy as a whole, as the current crisis shows. And with an increasing number of financial institutions now active in one or more countries or continents, global financial stability has become even more important.
The financial system consists of:
To protect the financial system and ensure financial stability, the main sources of risk and vulnerability must be identified and all relevant parties, such as financial institutions and supervisors, be made aware of the risks.
Banks, insurance companies and other financial institutions form the first line of defence against financial crises. It’s their responsibility to remain viable and solvent, and to check the creditworthiness of borrowers and thus to manage the risks they assume.
The measures taken by public authorities to prevent or minimise financial crises constitute the second line of defence. The measures include:
If, despite all these measures, financial institutions run into trouble, public authorities may need to intervene.
The ECB/Eurosystem has four tasks in the field of financial stability.
The ECB, together with the European System of Central Bank (ESCB), systematically monitors cyclical and structural developments in the euro-area/EU banking sector and in other financial sectors. It does so in order to identify any vulnerabilities and to check the resilience of the system.
This assessment is done in collaboration with the EU national central banks and supervisory authorities through the ESCB’s Banking Supervision Committee. At the ECB itself, financial stability monitoring and assessment is performed in several business areas: Financial Stability and Supervision as coordinator, Economics, Market Operations, International and European Relations, and Payments and Market Infrastructures.
The financial stability analysis is regularly published in various reports: for example, in the ‘Financial Stability Review’, ‘EU banking sector stability’, ‘EU banking structures’, and also in the ECB’s Annual Report. Publications on Financial stability and supervision
On account of its technical expertise, the ECB is frequently asked by both EU and national authorities to help design and define the financial rules and supervisory requirements which apply to financial institutions. The ECB sometimes contributes to the deliberations on its own initiative. Whether its advice is sought or not, it nevertheless ensures that financial stability is taken into account.
The central banks – notably the ECB and the ESCB – and supervisory authorities in the EU work together mainly via the ESCB Banking Supervision Committee (BSC). The Committee was established in 1998 to help the ESCB carry out its statutory tasks in the areas of prudential supervision and financial system stability. The BSC comprises high-level representatives from the ECB and the central banks of the ESCB as well as from the national banking supervisory authorities in those EU countries where the central bank is not responsible for banking supervision.
Good cooperation and frequent exchanges of information are essential to maintain financial stability both in normal circumstances and in times of crisis. Finance ministries are also involved in these exchanges if a crisis is to be managed and resolved. To place this cooperation on a proper footing, all the authorities have signed a Memorandum of Understanding. The agreed procedures are regularly reviewed and tested by conducting financial crisis simulations and other exercises.
In addition to the tasks above, the Eurosystem is directly responsible for overseeing financial market infrastructures. The infrastructures facilitate the flow of funds, securities and other financial instruments among buyers and sellers, borrowers and lenders. They constitute a key component of the financial system and are essential to its overall stability. Oversight aims to ensure that these infrastructures function smoothly and that possible disruptions in them do not give rise to systemic risks and affect the financial system and the economy as a whole.
The tasks of the ECB/Eurosystem are laid down in Articles 127.4, 127.5 and 282.5 of the Treaty on the Functioning of the European Union and also in Articles 3.3, 4 and 25.1 of the ESCB Statute. Oversight belongs to the ECB's task of promoting the smooth operation of payment systems and of ensuring efficient and sound clearing and payment systems within the Union and with other countries (Article 127.2 of the Treaty on the Functioning of the EU and Articles 3.1 and 22 of the Statute).
The institutional framework for financial stability in the EU is based on two components: crisis prevention, and crisis management and resolution. The ECB, together with the Eurosystem, contributes to both, mainly by assessing financial stability.
A high-level team of experts, the de Larosière Group, was set up in 2008 to make proposals for improving financial supervision in the European Union. In its report in February 2009 the group acknowledged that the financial crisis was partly caused by inadequate financial regulation and supervision, and it urged the European Union to move towards a new regulatory agenda, stronger coordinated supervision and effective crisis management procedures. Notably, it proposed that an enhanced European financial supervisory framework should be based on the creation of two institutions that would take care of micro- and macro-prudential supervision at the EU level.
Following the support of the EU leaders at their meeting in June 2009, the European Commission on 23 September 2009 presented its legislative proposals on the establishment of
The proposals are now being discussed by the Council of the European Union and the European Parliament.
For more information, see Financial Services Supervision and Committee Architecture
Financial crises can inflict enormous damage on society, extending far beyond the costs incurred by an individual bank. In the European Union, banks and other financial institutions have the right to provide services outside their home countries either directly across borders or by establishing branches or subsidiaries. So financial stability has to take account of this cross-border business. The national authorities involved have to work closely with their counterparts abroad.
To safeguard financial stability and avert such crises, prudential regulation – the actual rules – and prudential supervision – checking that a bank follows the rules – are practised.
Prudential regulation is based on a largely harmonised EU-wide regulatory framework, for which the European Commission is mainly responsible. The finance ministries of the Member States transpose this legislation at the national level.
National supervisors have the responsibility for prudential supervision at the national level. Cooperation among supervisors currently takes place in the so-called "Lamfalussy Level 3 Committees of supervisors", which meet regularly to improve supervisory convergence and cooperation across the EU. These are the
The ECB and the central banks without supervisory responsibilities are present in the CEBS as non-voting members.
Financial stability monitoring and assessment is regularly performed at EU level. The Economic and Financial Committee (EFC) reviews financial stability issues semi-annually in its Financial Stability Table (FST) format, which convenes high-ranked representatives from the Ministries of Finance, national central banks, the ECB, the Commission, and the Chairs of the Banking Supervision Committee (BSC) of the ESCB and of the EU Lamfalussy committees of supervisors. The EFC-FST is responsible for preparing the ECOFIN Council’s discussions on financial stability matters.
If the activities of the financial market(s), intermediaries or infrastructures are disrupted for any reason, public authorities may have to intervene.
The authorities can take various measures to manage a crisis and counteract disturbances, for instance:
The EU crisis management arrangements aim to ensure that information is shared and cooperation procedures are in place among EU supervisory authorities, central banks and finance ministries. In June 2008 a Memorandum of Understanding (MoU) was signed between these parties on cooperation in financial crises.
This concerns the handling of an insolvent bank or other financial institution as well as the protection of creditors, notably depositors. It includes:
The effectiveness of crisis management and resolution arrangements at the EU level is regularly tested by means of financial crisis simulation exercises. National arrangements in the form of financial stability committees, MoUs and other formal or informal coordination instruments complement the EU financial stability framework.
The Eurosystem contributes in several ways to the smooth conduct of policies by the competent national authorities relating to the prudential supervision of credit institutions and the stability of the financial system. To be precise, the Eurosystem:
What started out as turbulence in particular parts of the financial system in August 2007 has since become a global economic and financial crisis, with businesses failing, unemployment rising, investors losing money and governments having to commit large sums to keep the banking system from collapse.
The world’s financial systems remain under heavy pressure:
For more information, please see the ECB's latest 'Financial Stability Review'.