EU PLANS MAJOR BANK REFORM

The European Commissioner for internal market and services Michel Bernier said Wednesday's proposals were the "final cogs in the wheel" needed to complete an overhaul of the EU baking system.

He said: "This legislation deals with the small number of very large banks which otherwise might still be too-big-to-fail, too-costly-to save, too-complex-to-resolve. The proposed measures will further strengthen financial stability and ensure taxpayers don't end up paying for the mistakes of banks."

The proposal is made up of two key elements: a ban on proprietary trading — the practice of banks making trades using their own capital — and the ability for national regulators to require banks to legally separate high-risk trading activities from core lending and deposit-taking activity.

The ban on proprietary trading will cover financial instruments, physical commodities and hedge fund investments.

Proprietary trading is described by the Commission as "highly risky speculative activities, alien to the essential role of banks as intermediaries between borrowers and capital suppliers".

Under today's proposal, national regulators can also require banks to split out activities such as market making, underwriting, lending to venture capital firms and private equity funds, investment and sponsorship of securitised products and derivatives trading, from traditional lending and deposit-taking functions.

The Commission said that while some of the activities that could be subject to separation may play an essential role in the financing of the real economy, they could hide prohibited activity or present excessive risks.

The regulation targets banks that are fall into the "too big to fail" bracket, in particular those with significant trading businesses.

The banks that fall into this category will be assessed against thresholds consistent with the Liikanen report and covers European banks with €30 billion in total assets and trading activity that totals €70 billion or represents 10% of total assets. The Liikanen report, presented in October 2012 by Erkki Liikanen, governor of the Bank of Finland, included a series of recommendations on how to reform the EU banking sector.

The European Commission said that out of the 8,000 banks operating in Europe, only 30 would be affected by the proposal, but that these 30 would account for around 65% of total EU banking assets.

The European Commission's proposals bring in elements of the US Volcker rule, a ban on proprietary trading introduced under the Dodd-Frank Act, as well as national structural banking reforms proposed in France, Germany, the UK and Belgium.

Moreover, the separation of certain types of banking activity will only be mandatory in certain circumstances, softening the approach first outlined in the Liikanen proposals.

It is also not as strict as the recommendations made by the Vickers Report in the UK, which proposed to ring-fence retail banking from investment banking and corporate finance activities.

Under the EU's co-decision legislative process, the European Parliament and Council of the European Union will each have a chance to suggest changes the Commission's proposal. The three bodies will then have to agree on a final text in a process known as trialogue.

Given the looming European elections in May, this process is unlikely to kick off until the second half of the year.

Some have noted that the some of the strongest advocates of the reforms – MEPs Arlene McCarthy and Sharon Bowles, as well as Barnier – will not be standing for re-election, raising concerns on whether the new Parliament will be as supportive of the rules.

Nonetheless, the Commission wants to adopt the proposals during 2015, with a long phase in period to help banks adapt. The proprietary trading ban would come into effect in January 2017 and the rules on separation would come into force in July 2018.