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Friday 1 June 2018

Fragmentation in banking markets: The crisis legacy and the Brexit challenge

Andrea Enria (European Banking Authority) 28 May 2018

The post-crisis period has seen the disintegration of European finance. There has been a marked decrease in both cross-border banking and cross border mergers and acquisitions. This seems to be a problem particular to Europe, as, internationally, globalisation continues as usual. By comparing the American reaction to the crisis with that of Europe we are able to determine some causal factors of this disintegration.

The financial collapse can be taken as an indication that there was excessive financial infrastructure. This infrastructure would have grown during the boom phase of the boom-bust cycle, the bust then ought to result in the failure and therefore elimination of the excess infrastructure, allowing for a restructuring of the financial sector. In the US, many banks exited the market entirely, investment in these entities was highly spread across the states so the burden of these failures were able to be absorbed. In the EU there were many bailouts of institutions which, in the US, would have been allowed to fail. With all these government bailouts there is an expectation from the government that said bank will use its bailout to restructure its business model in order to support the local economy. Indeed, a UK study showed that banks which received government money reduced cross-border exposures by 15% on average. In addition to this vague nationalization of investment government support also came with a new set of macroprudential controls. As international investment is now often seen as a risk, it is common for governments to impose harsher regulations on banks investing internationally. This regulation all has the effect of creating a less connected EU economy, a trend which is intensified by the prospect of Brexit.


Brexit represents the most literal instance of disintegration of the EU possible, a literal split from the EU. What is arguably more concerning than the symbolism of Britain's exit, is Brexit’s implications for the financial market. The UK is a hub of finance with over 90% of European derivatives and interest swaps occuring in London. Additionally, the majority of US transactions with Europe are mediated through the London gateway. A more complex problem raised by Brexit is the question of whether pre-Brexit contracts, particularly insurance contracts, must be honored post-Brexit or whether it is even possible to honor them. Already we can see evidence of European companies reducing their exposure to London in anticipation of Brexit, the question remains whether this anticipation means the European economy will be able to handle the shock.

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