68 Finance & economics The EconomistNovember 23rd 2019
S
oon afterHurricane Sandy battered
Manhattanin2012,EmilieMazzacurati
foundeda firminCaliforniatoanalysethe
risksposedbyclimatechangetobusiness.
ShecalleditFourTwentySeven,afterthe
state’s target of lowering annual green-
house-gasemissionstotheequivalentof
427mtonnesofcarbondioxideby2020.
Thatreferencequicklybecameoutdated.
Thetargetwasadjustedfortechnicalrea-
sonstwoyearslater,andrenderedmootin
2018 bytheannouncementofanet-zero
goal.MsMazzacuratiisstillhappywiththe
name,though.“Thatistheriskofdoing
businessinanuncertainclimate,”shesays.
Such uncertainty has sent financial
firms scrambling to buy climate-service
providers,assuchfirmsareknown.InJuly
Moody’s,a credit-ratingagency,boughta
majoritystakeinFourTwentySeven.In
Septembermsci, anequity-indexmaker,
snappedupCarbonDelta,a climate-service
startup.Wells FargoinvestedinClimate
Service.InMarchco-Firm,basedinHam-
burg,wasboughtbypwc, a consultancy.In
a fundingroundearlierthisyearJupiterIn-
telligence, another climate-data outfit,
addedthreeinsurancefirmstoitsbackers.
Mostclimate-service firmsare small
startupsledbyscientists.Theyusepublic
climatedata,usuallycouchedinmeteoro-
logical terms—that acertain landmass,
say,willbecomeonaverage1°Chotterover
thenexttenyears.That isfed intoeco-
nomicmodels,whichthefirmsusetoputa
dollar valueontherisksclimatechangeFirmsthatanalyseclimaterisksarethe
latesthotpropertyClimate-dataanalyticsSunnydays
A
ccording to ananalogy popular in
Brussels, the euro zone is a house that
needs fixing. Everyone frets about its abili-
ty to withstand a gale. But the builders are
nowhere in sight. The owners cannot agree
on the repairs that are needed, much less
on how to do them. When Olaf Scholz, Ger-
many’s finance minister, cautiously ac-
cepted the idea of a common deposit-in-
surance scheme on November 5th, that
removed one point of contention. But as
one row is resolved, another—on the regu-
latory treatment of banks’ holdings of
sovereign debt—has reopened.
An infamous feature of the sovereign-
debt crisis in 2009-15 was the “doom loop”,
through which weak banks and sovereigns
dragged each other down. In 2012 members
agreed that the doom loop needed to be
broken, and the monetary union backed by
a banking union. A common supervision
and resolution framework for large banks
has since been set up. But barely any pro-
gress has been made on common deposit
insurance, because northerners are terri-
fied that their taxpayers would be liable for
risky loans made by southern banks, to
their home governments among others.
Now Mr Scholz seems amenable—provid-
ed other reforms happen. The most con-
tentious would penalise banks for holding
heaps of their home countries’ sovereign
debt—long a non-starter for Italy and other
heavily indebted states.
Supporters of such regulatory penalties
say they would lead banks to scale back
home exposures, and perhaps to diversify
into other members’ sovereign debt. Crit-
ics worry about the effect on bond markets
of losing banks’ captive demand. Regula-
tions on liquidity and capital encourage
banks to hold sovereign debt. Banking sec-
tors in Europe typically hold 15-30% of their
home country’s debt stock.
New rules could take two forms. Banks
could be forced to increase their capital
buffers if their holdings of any particular
security exceed a certain threshold—a
“concentration charge”. Or they could be
forced to back their holdings of risky sover-
eign debt with extra capital by increasing
the risk score—known as the risk weight—
attached to some sovereign bonds, which
all regulators now treat as risk-free.
Risk weighting is more contentious be-
cause it is more potentially destabilising.
In the worst case, it could mean that a
downgrade by a credit-rating agency leadsbanks to dump some holdings, bringing
about the very turmoil the reform was sup-
posed to prevent. Germany’s finance min-
istry seems to prefer a hybrid approach,
setting a concentration threshold above
which holdings would be subject to a
charge based on both concentration and
credit risk.
This would have significant effects on
banks—and not just in Italy. Nicolas Véron
of Bruegel, a think-tank, points out that
Germany has some of the most concentrat-
ed exposures to government debt: the pub-
lic-sector Landesbanks are big creditors of
local governments.
As important as the choice of end-point
will be the path to it. Mr Véron estimated in
2017 that if the concentration threshold
were set at 33% of Tier 1 capital, large
French and German banks would each be
deemed to have excess home exposures of
around €250bn ($280bn), and big Italian
lenders would be deemed to have €145bn.
Predicting whether and how banks would
diversify—into other, similarly rated euro-
zone bonds, or into foreign debt—is diffi-
cult. It would depend on how much extra
capital banks were asked to set aside, and
their willingness to take liquidity and ex-
change-rate risk. Banks wanting to sell off
southern, lower-graded bonds might
struggle to find buyers. (A common safe as-
set, proposed by the commission, would
ease the transition. But French and German
leaders put the idea on ice last year.)
As Mr Véron puts it, “subgroups of
working groups of groups” have been bea-
vering away on technical fixes. But the de-
cision to go ahead rests with politicians.
Opponents of sovereign-exposure regula-
tion would need first to accept the need for
it in principle, and then spot a trade they
are willing to make that is acceptable to the
others—say, by conceding ground on
sovereign exposures in return for a depos-
it-insurance scheme that offers more risk-
sharing. Reports suggest that Italy’s gov-
ernment might seek instead to trade re-
forms to the euro zone’s bailout fund for
common deposit insurance.
Officials in Brussels want to prepare a
“roadmap” for reform that leaders can rub-
ber-stamp when they meet in mid-Decem-
ber. But the bar is low. Even concluding ne-
gotiations on whether or not to begin
negotiating on reforms could be consid-
ered a victory. If fixing the house up were
easy, it would have been done by now. 7Can Europe really make banks safer and sovereign debt riskier—at the same time?Europe’s banking disunionArchitectural problem
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