A key feature of the ECB's communication policy is the monthly press conference given by the ECB's Vice-President and myself, usually immediately following the first Governing Council meeting of each month.
During these press conferences, I make an introductory statement summarising the Council's discussions and conclusions before answering questions from journalists. As the statement is agreed, in substance, with all the Council members beforehand it is similar to what others call minutes. The press conference provides prompt information in an even-handed way, and it offers the opportunity for immediate two-way communication. As far as I am aware, no other central bank communicates with the public in such a prompt manner immediately after its monetary policy meetings.

These press conferences are a tangible expression of the Eurosystem's commitment to be open, transparent and accountable in its conduct of monetary policy. In my view, our commitment to openness should not be in doubt. However, ensuring that this openness translates into effective communications continues to be a challenge. Journalists, financial markets and the public are still learning the new strategy and language of monetary policy in the euro area.

By its nature, the challenge of improving communications between the
Eurosystem and the public is two-sided. On the one hand, the ECB must use a clear and transparent language consistent with the strategy it has adopted.
It must help the public understand the changes of emphasis and communication necessitated by the new monetary policy environment in
Europe. We have made important progress in this regard over the last eight months, but I acknowledge that we still have some way to go. The ECB must do its utmost to be understood by its counterparts in the media that act as important intermediaries to the public at large. By learning from one another, we can improve the transparency, democratic accountability and effectiveness of the single monetary policy.

Before concluding, I should like to add a brief comment on the likely future enlargement of the European Union (EU) and, prospectively, the euro area. Currently, the EU negotiates the accession of six countries to the
EU. Once the accession of new Member States is decided, these countries have to fulfil the so-called convergence criteria, if they want to join the euro area. The euro area can finally only be enlarged if the European
Council, following an assessment by the ECB and the European Commission, decides that further Member States of the EU are ready to adopt the single currency. New countries joining the euro area will be a challenge for us.
For example, we will have to integrate the respective economy fully in our area-wide analysis of monetary, financial and other economic developments in the euro area. Enlargement is a challenge we clearly welcome. I have no doubts that we can master it, not least as the EC Treaty outlines a clear and transparent procedure for countries wishing to join the euro area. In simple terms, this can be viewed as involving three phases. First, a candidate country must join the European Union, for which certain requirements must be met. Second, the candidate is expected to join the new exchange rate mechanism, ERM II. Third, as mentioned earlier, the country must fulfil the convergence criteria. In addition to fiscal discipline and inflation control, these criteria include a relatively low level of long- term interest rates and stable exchange rates.

Let me conclude. Monetary policy cannot solve all of the economic challenges facing the euro area, in particular those concerning the urgent need to reduce the high level of structural unemployment. National governments are responsible for carrying out the required structural reforms. The Eurosystem makes its best contribution to area-wide growth and employment prospects by credibly focusing on the maintenance of price stability in the euro area.

I am confident that the monetary policy strategy adopted by the
Governing Council of the ECB last October has been successful - and the monetary policy decisions that have been based on it over the last eight months - serve the fulfilment of this objective. Nevertheless, we will not become complacent; on the contrary, we will have to continue to invest substantially in analysing the structure of the euro area economy, and in understanding the monetary policy transmission mechanism and the information content of the various monetary and economic indicators.

Monetary policy is most effective when it is credible. Transparent and accountable policy-making can help to build up a reputation and credibility. Effective direct communications with the public, including the financial markets, other policy makers and the media requires that we speak with one voice in an even-handed way with our diverse counterparties and audience. Successfully refining our area-wide communications, aimed at making our strategy, and the monetary policy based on it, transparent so that it can be well understood by the large and varied population we serve, is one of the challenges faced by the Eurosystem and, by implication, one of our priorities.

***

EMU AND BANKING SUPERVISION

Lecture by Tommaso Padoa-Schioppa

Member of the Executive Board of the European Central Bank at the London School of Economics, Financial Markets Group on 24 February 1999

TABLE OF CONTENTS

I. Introduction

II. Institutional framework

III. Industry scenario

IV. Current supervision

V. Crisis management

VI. Conclusion

Tables

I. INTRODUCTION

1. I am speaking here, at the London School of Economics, only a few weeks after one of the most remarkable events in the history of monetary systems: the establishment of a single currency and a single central banking competence for a group of countries which retain their sovereignty in many of the key fields where the State exerts its power. To mint or print the currency, to manage it and to provide the ultimate foundation of the public's confidence in it has been, from the earliest times, a key prerogative of the sovereign. "Sovereign" is indeed the name that was given in the past to one currency. And a British Prime Minister not so long ago explained her opposition to the idea of the single currency with the desire to preserve the image of the Queen on the banknotes.

2. For centuries money has had two anchors: a commodity, usually gold; and the sovereign, i.e. the political power. Less than 30 years after the last bond to gold was severed (August 1971), the second anchor has also now been abandoned. Although I personally think that political union in
Europe is desirable, I am aware that the present situation, in which the area of the single currency is not a politically united one, is likely to persist for a number of years. This means that we have given rise to an entirely new type of monetary order. For the people, the success of this move will ultimately depend on the ability of governments and political forces to build a political union. For the central banker and for the users of the new currency, the success will be measured by the quality of the currency itself, and such quality will be measured in the first place in terms of price stability. This is not only a requirement explicitly set by the Treaty of Maastricht, it is also, in the opinion of most, the "new anchor" that purely fiduciary currencies need after the gold anchor is abandoned.

3. My remarks, however, will focus on another, less fundamental but still important novelty of the monetary constitution that has just come into existence. It is the novelty of the abandonment of the coincidence between the area of jurisdiction of monetary policy and the area of jurisdiction of banking supervision. The former embraces the 11 countries that have adopted the euro, while the latter remains national. Just as we have no precedent of any comparable size of money disconnected from states, we have no precedent for a lack of coincidence between the two public functions of managing the currency and controlling the banks.

In the run-up to the euro this feature of the system was explored, and some expressed doubts about its effectiveness. I will tonight examine the problems of banking supervision in the euro area. The plan of my remarks is the following. I will first review the existing institutional framework for the prudential control of banks in EMU. I will then examine the likely scenario for the European banking industry in the coming years.
Against this institutional and industry background, I shall then discuss the functioning of, and the challenges for, banking supervision and central banking in the euro area, both in normal circumstances and when a crisis occurs.

II. INSTITUTIONAL FRAMEWORK

4. The origin and developments of modern central banks are closely linked to key changes undergone by monetary systems over the past two centuries. Such changes could, very sketchily, be summarised as follows.
First, paper currency established itself as a more convenient means of payment than commodity currencies. Second, commercial bank money (bank deposits) spread as a convenient substitute for banknotes and coins. Third, the quantity of money was disconnected from the quantity of gold. Thus, a double revolution in the technology of the payment system, the advent of banknotes and that of cheques or giros, has shaped the functions that most central banks performed over this century: monetary policy and prudential supervision. Man-made money made monetary policy possible. The fact that a large, now a predominant, component of the money stock was in the form of commercial bank money made banking supervision necessary.

Ensuring confidence in the paper currency and, later, in the stability of the relationship, one could say the exchange rate, between central bank and commercial bank money, were twin public functions, and, in general, they were entrusted to the same institution. Just as money has three well-known economic functions - means of payment, unit of account and store of value - so there are three public functions related to each of them. Operating and supervising the payment system refers to money as a means of payment; ensuring price stability relates to money as a unit of account and a store of value; and pursuing the stability of banks relates to money as a means of payment and a store of value. In each of the three functions commercial banks have played, and still largely play, a crucial role.

In an increasing number of countries the original triadic task entrusted to the central bank has now been abandoned in favour of a
"separation approach", according to which banking supervision has been assigned to a separate institution. Following the recent adoption by the
United Kingdom and Luxembourg of the separation approach, only two of the
12 countries represented in the Basle Committee on Banking Supervision
(Italy and the Netherlands) have the central bank as the only authority responsible for banking supervision. In all systems, however, whether or not it has the task of supervising the banks, the central bank is deeply involved with the banking system precisely because the banks are primary creators of money, providers of payment services, managers of the stock of savings and counterparties of central bank operations. No central bank can ignore the need to have a concrete and direct knowledge of "its" banking system, i.e. the banking system that operates in the area of its monetary jurisdiction.

Personally, I have an intellectual attachment to, as well as a professional inclination for, the central bank approach to banking supervision, due partly to the fact that I spent most of my professional life in a central bank which is also to this day the banking supervisor.
Yet I can see, I think, the arguments that have led a growing number of industrialised countries to prefer the separation approach. Such arguments basically point to the potential conflict between controlling money creation for the purpose of price stability and for the purpose of bank stability. On the whole, I do not think that one model is right and the other wrong. Both can function, and do function, effectively; if inappropriately managed, both may fail to satisfy the public interest for which banks are supervised.

5. Against this background, let me now describe the institutional framework currently adopted by the Treaty. As my description will refer to the area in which both the single market and the single currency are established, it will not specially focus on the problems of the so-called
"pre-in" countries, including the United Kingdom.

The current institutional framework of EMU (i.e. the single market plus the single currency) is a construct composed of two building blocks: national competence and co-operation. Let me first briefly review the main aspects of these two building blocks and then see how the Eurosystem relates to them.

First, national competence. In a market based on the minimum harmonisation and the mutual recognition of national regulatory standards and practices, the principle of "home country control" applies. According to this principle every bank has the right to do business in the whole area using a single licence, under the supervision, and following the rules, of the authority that has issued the licence. The full supervisory responsibility thus belongs to the "home country". This allows, inter alia, the certain identification of the supervisor responsible for each institution acting as a counterparty to the monetary policy operations of the Eurosystem. The only exception to this principle - the "host country" competence for the supervision of liquidity of foreign branches - is no longer justified now that the euro is in place; hence it should soon be removed.

Second, co-operation. In a highly regulated industry such as banking, a single market that retains a plurality of "local" (national) supervisors requires close co-operation among supervisors to safeguard the public good: namely, openness, competition, safety and soundness of the banking industry. EU directives (the 1st and 2nd Banking Directives and the so- called BCCI Directive) lay the foundations for such co-operation, but they do not contain specific provisions or institutional arrangements to this end. They limit themselves to stating the principle of co-operation among national authorities and to removing obstacles to the exchange of information among them.

6. How does the Eurosystem relate to this construction? Essentially in two ways. First, the Treaty assigns to the Eurosystem the task to
"contribute to the smooth conduct of policies pursued by competent authorities relating to the prudential supervision of credit institutions and the stability of the financial system" (Article 105 (5)). Given the separation between monetary and supervisory jurisdictions, this provision is clearly intended to ensure a smooth interplay between the two. Second, the Treaty gives the Eurosystem a twofold (consultative and advisory) role in the rule-making process. According to Article 105 (4), the ECB must be consulted on any draft Community and national legislation in the fields of banking supervision and financial stability; and, according to Article 25
(1) of its Statute, the ECB can provide, on its own initiative, advice on the scope and implementation of the Community legislation in these fields.
It should be borne in mind that central banks are normally involved in the process of drawing up legislation relating to, for example, regulatory standards, safety net arrangements and supervision since this legislation contributes crucially to the attainment of financial stability.

7. Two observations should be made about the institutional framework just described. First, such an arrangement establishes a double separation between central banking and banking supervision: not only a geographical, but also a functional one. This is the case because for the euro area as a whole banking supervision is now entrusted to institutions that have no independent monetary policy functions. The separation approach that was chosen for EMU has effectively been applied not only to the euro area as a whole, but to its components as well. Indeed, even in countries where the competent authority for banking supervision is the central bank, by definition this authority is, functionally speaking, no longer a central bank, as it lacks the key central banking task of autonomously controlling money creation.

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