EU's governance of financial markets

Should legitimacy matter in the Banking Union? The case of Single Supervisory Mechanism

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The regulatory challenge analysed in this blog is how to ensure legitimacy in one of the newer institutions of EU governance. Primarily the focus is going to be on the European Banking Union. More particularly, the Single Supervisory Mechanism will be under scrutiny in this piece.

Legitimacy is immensely important for any type of organ which is doing either legislative or regulatory duties. Question of legitimacy becomes even more paramount in supranational systems. In supranational governance systems, like the Banking Union, the power is usually spread to multiple different bodies. These bodies are run by seasoned experts, which have shown to increase their effectiveness to draft policy compromises – with a cost to their democratic accountability. The question is, should legitimacy matter when it comes to the powers of the Banking Union – and more burningly, does the Single Supervisory Mechanism have any type of legitimacy?

Sub-categories of legitimacy

Legitimacy can be divided into three sub-categories: input, output, and throughput legitimacy. The first two are relatively simple concepts. Input legitimacy means that individuals find the system legitimate since they can sufficiently participate i.e., they can provide input to the system. Output legitimacy means individuals feel that the system is legitimate as it produces desired outcomes i.e., the output of the system feels desirable. Throughput legitimacy focuses on the process that happens inside the institutions – or as acclaimed political scientist Vivian Schmidt put it: “throughput legitimacy is a procedural criterion concerned with the quality of governance process [..]”.

In the aftermath of the devasting Eurozone-crisis, one thing was crystal clear for the policymakers in the EU – the safeguards and regulatory bodies had failed. The crisis led to the creation of the Banking Union. The Banking Union has been called one of the most ambitious governance innovations in the area of financial regulation. The Banking Union consists of three pillars: Single Supervisory Mechanism (SSM), Single Resolution Mechanism (SRM), and European Deposit Insurance Scheme (EDIS). However, this post is going to be only concerned with the SSM.

The SSM and its level of legitimacy

“The lack of transparency is astonishing – this has been recognized by the ECB itself [..].”

SSM is the first pillar of the Banking Union, and it started its operations in 2014. In short, SSM with close cooperation with the European Central Bank performs supervisory and regulatory duties over Eurozone’s banks. SSM is also equipped to sanction those banks that do not adhere to EU’s banking regulations.

SSM is a supranational body and its work is highly technical and is run by seasoned civil servants. All of these aspects make assessing the legitimacy of the SSM is remarkably hard. Actions and changes in monetary policy and financial governance rarely get to the public sphere even though the impact of the changes can be profound both to the financial sector and to individual citizens. Granted, the financial sectors do follow more attentively the financial regulations and policy changes – after all, they are the target of the regulations.

SSM suffers from a twofold legitimacy deficit; there is non-existent input legitimacy and limited output legitimacy. It is practically impossible to generate input legitimacy for the SSM. The lack of avenues for either individuals or banks to give input for the SSM and highly specialized regulatory and supervisory area contributes to the non-existent input legitimacy. However, I will argue that SSM does not necessarily need to have input legitimacy. Being a regulatory and supervisory body focusing primarily on ensuring the safety of the banking system, it would be quite paradoxical if banks being the ones supervised could actively provide input to the supervisory body on what kind of supervisory measures they would like. It is vital for a body that is conducting regulatory and supervisory duties that they maintain some level of independence to ensure that their work is impartial.

For the output legitimacy, SSM is not doing much better. SSM’s way to operate has been described as lacking transparency when sharing banking and supervisory data. This data would allow the public and the parliaments to judge on the level of supervisory efficiency – in turn making the SSM supervisory process more effective and efficient. The lack of transparency in supervisory data is astonishing – this has even been recognized by the ECB itself, and they have been advocating for more transparency. Lack of output legitimacy raises questions of the validity of the actions taken by the SSM.

The case for throughput legitimacy

If both input and output legitimacy is on an abysmal level, is there any possible way to make sense of the legitimacy within the SSM? This is where throughput legitimacy might come useful. There is a lot of research on the legitimacy of the EU. However, there is a gap when assessing the throughput legitimacy of smaller agencies and bodies like SSM. For the rest of this post, I will try to make a case of why throughput legitimacy would be a worthwhile research avenue, and how it might explain does the SSM has any substantial legitimacy.

Throughput legitimacy focuses on the quality of the governance process. Throughput legitimacy is also a normative criterion based on accountability, transparency, inclusiveness, and openness. Assessing the quality of the regulatory and supervisory process in the SSM through those values might provide valuable insight into the legitimacy and quality of the processes inside the SSM. As stated earlier SSM lacks any kind of input legitimacy and performs badly in output legitimacy. There have been suggestions to alleviate the lack of output legitimacy – for example making the supervisory data available. However, I will argue that if the processes inside the SSM lack for example openness, accountability, or transparency it will be immensely hard to produce satisfying output. To ensure that SSM delivers sufficient and quality supervisory and regulatory results the process i.e., throughput has to have a certain level of accountability and transparency.

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vrajala

13 thoughts on “Should legitimacy matter in the Banking Union? The case of Single Supervisory Mechanism

  1. Well written and good topic. I liked how you structured the definition of legitimacy in various parts. It helps the reader to understand the concept even more. The only thing that might’ve confused me a little bit is how you present your resources. I did not know what you really meant with those numbers, until I clicked on it. Other than this, I liked your Blog post. Keep it up!

    1. Thank you! For the numbers, I used footnotes to organize my sources in Word when I wrote the entry. The footnotes carried over when I copy-pasted the text. I could also link the sources to the actual words if the numbers are in general too confusing. Thank you for the feedback, appreciated it!

  2. This is a very researched article, especially considering the complexity of the content. On the formatting side, some pragraphs are a bit too long for a blogpost. I agree with Stacy’s comment, the sources are presented rather confusingly.

  3. This is a very insightful post, it was very interesting reading through it! Your focus is very well set, especially in view of word limit constraints, focusing on the SSM while forgoing the others does make sense in this view. You still give interesting insights and raise interesting questions, while opening up avenues for further research.

  4. Very clearly written blog! Multiple smaller paragraphs make it easier and more appealing to read.
    In your last sentence you state that a certain level of accountability and transparency should be achieved. How do you think this would be done concretely?

    1. Hey! Thank you for your feedback! And many thanks for the great question!
      My post mainly concerns the theoretical aspects of legitimacy, and indeed to put them into practice is relatively hard. So in other words, finding concrete ways to show levels of legitimacy is relatively hard. For instance, one can argue that in case of imaginary 45 % voter turnout for EP election is a clear sign of illegitimate parliament as less than 50% possible voters voted. However, the EP could easily still function. So there is some disconnect between theories about legitimacy and the actual functioning of institutions. However, when the legitimacy is an extremely low level, people will for example organise protests against the government. When there is great deal of dissatisfaction and distrust and government’s or institutions actions are deemed to be not in the best interest of the citizens, there can be a legitimacy crisis.
      Then back to your question. For the SSM, there is clear lack of transparency. This, as pointed out in my text fuels the lack of output legitimacy. The targets of their regulations/supervisory activities do not necessarily know on what basis certain actions are taken. This can cause distrust towards the institution.
      My argument was that throughput legitimacy might help us to figure whether SSM has legitimacy or not. However, there is a gap in research in that point. Nevertheless, things that are important for the legitimacy of the procedure are accountability (who the civil servants answer to), transparency (access to relevant data on timely fashion), openness, and inclusivity (everyone that the procedure concerns must be involved) and who are involved in the decision making.
      There is no straight and concrete answer to your question. That question needs more research. Throughput legitimacy can give us a useful guideline.

      Many thanks for your great question!
      Ville

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