Europe's Banking Union Fails Its Latest Test

(Bloomberg View) -- The European Commission's decision to let Italy spend up to 17 billion euros ($19 billion) to clean up the mess left by two failed banks is bad news -- and not just for Italy's taxpayers. It's also a setback for the euro zone's putative banking union, and for the European Union's efforts to supervise anti-competitive state aid.

Over the weekend, the Italian government wound down Banca Popolare di Vicenza and Veneto Banca, two regional lenders struggling under the weight of non-performing loans. Intesa Sanpaolo, a rival, bought the banks' good assets for one euro, and was promised another 4.8 billion euros in state aid to deal with restructuring costs and bolster its capital ratio. Italy's taxpayers get to keep the bad loans, which could end up costing them another 12 billion euros (though the government believes it will be much less).

The deal makes a mockery of the EU's plan for banking union, designed during the sovereign debt crisis to ensure all member states deal with bank failures the same way. The Single Resolution Board -- whose purpose is to take the politically difficult decision of whether to close a bank out of the hands of governments -- chose not to intervene. Italy's government then chose not to impose losses on senior creditors, as the EU's rules would have required, but to provide a taxpayer bailout instead.

Strictly speaking, all this is legal. The SRB can choose to step back if it believes a bank is not significant for financial stability. Italy's bankruptcy rules don't require senior creditors to be bailed-in. And the commission was within its rights to rule that the state aid was lawful, on the grounds that it will lessen any damage to the regional economy.

Lawful it may be; good policy it certainly is not. The outcome seriously undermines the credibility of the banking union project, leaving great uncertainty about the rules that will prevail next time. In addition, Italy's government, the European Central Bank and the SRB all took way too long to deal with the banks in question, compounding the eventual cost to taxpayers. And the commission has allowed Intesa to benefit from a huge public subsidy, which will put the bank in a stronger competitive position.

Earlier this month, the euro zone handled the resolution of Popular -- a failing Spanish bank -- quickly, smoothly and without cost to taxpayers. That notable achievement has been substantially undone by this latest maneuver. Europe's banking union has taken a big step back.

--Editors: Ferdinando Giugliano, Clive Crook

To contact the senior editor responsible for Bloomberg View's editorials: David Shipley at davidshipley@bloomberg.net.

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