Keeping the financial system safe: rules and supervisors

Ana has €130,000 of savings at one bank. The news says a bank in another country has failed. How do the rules stop a bank failure from becoming her problem, or from stopping everyone’s payments?

Why banks have special rules

A bank borrows short and lends long. Your deposit can be withdrawn at any time, but the bank lends much of it for years. A bank also uses mostly other people’s money. If its loans go bad, losses can spread to other banks, and customers cannot easily judge how safe a bank is. If banks fail, payments and lending stop for everyone. So the state sets financial regulation: rules for banks, and supervisors who check that they follow them.

Capital and liquidity

A bank’s own funds, mainly from shareholders, are its bank capital. Capital absorbs losses before depositors are hurt. Capital requirements say how much a bank must hold compared with its risky assets. The global standard is Basel III, written by the Basel Committee at the Bank for International Settlements after the 2008 crisis. It sets minimums as a share of risk-weighted assets: 4.5% for the highest-quality capital, 6% for Tier 1 and 8% for total capital. A buffer of a further 2.5% sits on top. A separate leverage ratio sets a minimum of 3% of total exposure.

Capital protects against losses. Liquidity rules protect against sudden withdrawals. The Liquidity Coverage Ratio requires enough easily sold assets to cover 30 days of stress.

Who supervises

In the euro area, the ECB’s Single Supervisory Mechanism, in place since 4 November 2014, directly supervises the significant banks. National supervisors check the smaller ones. In Slovenia that is Banka Slovenije, which also works with the ECB on the large banks. Banka Slovenije also runs bank resolution and the deposit guarantee scheme, and makes rules to limit risks across the system.

If a bank is failing, the Single Resolution Board, working since 2016, decides how to handle it. Under bail-in rules, shareholders and creditors absorb losses first, so that taxpayers do not. Insured deposits stay protected.

Other supervisors work by sector. The EU has the European Banking Authority, the European Securities and Markets Authority, the European Insurance and Occupational Pensions Authority and the European Systemic Risk Board. In Slovenia, the Securities Market Agency (ATVP) covers securities markets and investment services, and the Insurance Supervision Agency (AZN) covers insurers. If you have a complaint, start with the firm, then use out-of-court dispute resolution, then the supervisor.

Deposit insurance and global institutions

Deposit insurance repays savers up to a limit if their bank fails. In the EU the limit is €100,000 per depositor per bank. Ana’s €130,000 at one bank is protected only up to €100,000, and the other €30,000 is a claim in the bank’s insolvency. Deposit insurance does not cover shares, funds or crypto.

The IMF lends to countries with balance-of-payments problems, with conditions, and monitors its members’ economies. The World Bank lends for long-term development. The Bank for International Settlements is a central bank for central banks. The European Stability Mechanism, inaugurated on 8 October 2012, is the euro area’s rescue fund, with a lending ceiling of €500 billion.