State aid in the financial sector during the financial crisis in Europe; Lessons to learn?

Abstract: In response to the financial crisis in Europe the European Commission developed a new legal framework with Article 107 (b) TFEU (Treaty of the Functioning of the European Union) as its legal basis. This new legal framework consisted of the 2008 Banking Communication, the Recapitalization Communication, the Impaired Assets Communication, the Restructuring Communication and the 2013 Banking Communication. The 2008 Banking Communication and the 2013 Banking Communication had financial stability as its aim, while at the same time keeping distortions of competition to the minimum. This legal framework provided for a balancing between economic and social benefits and negative economic effects. There had to be a balance between the restoration of financial stability on one hand and possible undue distortions of competition and fragmentation of the internal market on the other hand. The legal framework showed the need to limit distortions of competition. The Commission developed several manners and used basic legal principles such as proportionality and burden sharing to maintain or in certain circumstance increase competition in the banking sector through State aid. In the Case law the Commission applied the means to prevent undue distortions of competition as developed in the legal framework. In all Cases the Commission took the relative amount of aid and its form into account when deciding about the appropriate measures to limit distortions of competition. This means that the principle of proportionality was applied in addressing the problem of distortions of competition. Overall, the legal framework and the Case law stressed the importance of limiting distortions of competition. There was a development towards stricter and tougher requirements for restructuring during the financial crisis, with the aim of limiting distortions. In the legal framework both long-term and short-term objectives of State aid could be identified. In the beginning of the financial crisis the legal Framework and the Case law focused more on short-term objectives, whereas at a later stage during the crisis, the long-term objectives became more a focal point for the Commission. The objective of avoiding moral hazard remained a short-term as well as a long-term objective throughout the crisis. State aid to banks during the financial crisis was beneficial because State aid helped to restore financial stability in some Member States. However, State Aid did not proof to be an effective tool for equal and endurable recovery across Europe, as the economic recovery was very fragile and unequal in the EU. By using effective tools to limit distortions of competition, State aid was also successful in maintaining competition between the banks. Based on the Commission’s analysis of the market structure of the banking sector, there were no significant distortions of competition as a consequence of the State aid. Prior and during the crisis the banking sector was regulated on a national level which meant that it was difficult for EU authorities to respond to the crisis in a coordinated manner. The lack of a supranational regulatory body was mentioned as one of the causes of the financial crisis. The creation of a Banking Union with a single supervisory and resolution mechanism can be a possible solution to handle similar problems in the future. Especially due to the relatively large proportion of cross border activities of banks, it is important to have a supranational body governing European Banking. With a supranational body in place, such as a European Banking Union, it will be possible to act in a coordinated manner in response to crisis situations.