Public funding of failing banks in the European Union (LBF vol. 19) 2020/3.5.3.1:3.5.3.1 Appropriateness

Public funding of failing banks in the European Union (LBF vol. 19) 2020/3.5.3.1

3.5.3.1 Appropriateness

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State aid should be appropriate to effectively achieve the objectives set out in the TFEU. Taking into account that the legal basis for the assessment of rescue and restructuring aid was Article 107(3)(c) TFEU under the 2004 R&R Guidelines, these guidelines provided that rescue and restructuring aid must be warranted on the grounds of serious social difficulties and have no unduly adverse spillover effects on other Member States.1 The shift to Article 107(3)(b) TFEU in the 2008 Banking Communication meant State aid in the banking sector should be well-targeted in order to be able to effectively achieve the objective of remedying a serious disturbance in the economy.2

The importance of the appropriateness principle for State aid awards in the banking sector has been stressed by the ECJ in the Kotnik case. According to the ECJ, within the discretion conferred on it by Article 107(3)(b) TFEU, the Commission is entitled to refuse the grant of aid where that aid does not induce the recipient undertakings to adopt conduct likely to assist attainment of one of the objectives referred to in that provision. This aid must be necessary for the attainment of the objectives specified in that provision, in the sense that, without it, market forces alone would not succeed in getting the recipient undertakings to adopt conduct likely to assist attainment of those objectives. Aid which improves the financial situation of the recipient undertaking but is not necessary for the attainment of the objectives specified in Article 107(3) TFEU cannot be considered to be compatible with the internal market.3

In order to be able to assess the appropriateness of aid, it is therefore essential to understand what is meant by ‘to remedy a serious disturbance in the economy of a Member State’. There is however no legal definition thereof and, moreover, this term has not been further explained by the Commission in its communications. In the absence of this definition and explanation, the following guidance can be derived from the case-law of the EU Courts and literature.

Serious disturbance in the economy of a Member State

First, the EU Courts interpret ‘serious disturbance’ as being a disturbance that affects the whole economy, not just a region or sector.4 According to Olivares-Caminal and Russo, a serious disturbance in the economy is an exogenous event beyond the banks’ control.5 In addition they mention that the existence of a serious disturbance in the economy of a Member States does not necessarily mean that there is a systemic crisis. However, this might hint at the fragility of the sector as a whole which makes a systemic crisis more likely to occur.6

This can also be derived from the 2013 Banking Communication which states that the Commission shall conduct its assessment taking account of the evolution of the crisis from one of acute and system-wide distress towards a situation of more fundamental economic difficulties in parts of the Union, with a correspondingly higher risk of fragmentation of the single market.7

Systemic relevance of the bank

According to Hancher, Ottervanger and Slot, aid can only effectively achieve the objective of remedying a serious disturbance in the economy, if the beneficiary bank is of relevance for the financial system, i.e. it must be of systemic relevance.8 It can be derived from the Commission’s decisions in relation to State aid awards in the banking sector that in several cases9 the Commission has requested the national central bank involved to confirm the systemic importance of the beneficiary bank.10

The Commission, for example, considered in its decision in relation to the Austrian bank Hypo Group Alpe Adria (HGAA) that the Austrian Central Bank had confirmed that HGAA was a bank with systemic importance for the financial market in Austria. Without the measure, HGAA risked closure by the supervisory authorities. For those reasons the Commission accepted that the State aid to HGAA could be assessed under Article 107(3)(b) TFEU.11

The Commission has been criticized by some authors because it seemed to consider every bank as being of ‘systemic importance’ during the GFC, and accordingly, to approve high amounts of aid on the basis of Article 107(3)(b) TFEU.12 It should however be acknowledged that the GFC created exceptional circumstances in which the bankruptcy of one bank, even a bank of small size, could undermine trust in the financial system at large, both at national and international level.13 The assessment whether a bank has systemic importance is therefore not static in the author’s view, but can depend on the prevailing market conditions.

Financial stability

During the GFC, the Commission continuously stressed that financial stability is the overriding goal of State aid policy, whilst ensuring that State aid and distortions of competition between banks and across Member States are kept to the minimum.14

According to Koopman, no structural trade-off between financial stability and competition can be identified. However, the design of both policies needs to be sensitive to spillover effects and should, especially, in a crisis environment, be taken forward in an integrated manner to allow interactions to be internalized as best as possible. 15

Persuant to point 7 of the 2013 Banking Communication, financial stability implies the need to prevent major negative spillover effects for the rest of the banking system which could flow from the failure of a bank, as well as the need to ensure that the banking system as a whole continues to provide adequate lending to the real economy. Protecting financial stability can thus be separated into preventing two spillover effects: i) on other banks, and ii) on the real economy via the lending channel.16

It can be derived from the Commission’s decisions that it asked the ECB to make an assessment of aid measures from a financial stability perspective where the aid measure relates to rules applicable to financial institutions.17 The ECB defines financial stability as a state whereby the build-up of systemic risk is prevented. Systemic risk is described as the risk that the provision of necessary financial products and services by the financial system will be impaired to a point where economic growth and welfare may be materially affected.18

The 2013 Banking Communication does not elaborate on how the goal of financial stability should be seen in relation to the assessment on the basis of Article 107(3)(b) TFEU whether the aid is appropriate to effectively achieve the objective of remedying a serious disturbance. The relationship between the two has however been discussed by the Commission in its State aid decisions, although it is hard to distract any clear guidance. For example:

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in the case of Cooperative Central Bank (CCB), the Commission considered that aid was necessary to avoid a serious disturbance in the economy of a Member State; the failure of a bank would have threatened financial stability.19

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in the case of the Irish Credit Union Resolution Scheme, it considered aid to be appropriate as it ensured that financial stability was maintained by resolving credit unions that failed or were likely to fail;20

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in relation to the Greek State Guarantee Scheme, it considered that this scheme aims at ensuring financial stability and, thus, remedying a serious disturbance in the Greek economy.21

It seems therefore that the Commission assumes a certain interlinkage between both objectives. The objective of ensuring financial stability seems to be implied in the objective of remedying a serious disturbance in the economy of a Member State, although the latter may be broader.22

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