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The International Monetary Fund urged the European Union Thursday to step up its efforts to stabilize the bloc's financial system by swiftly moving toward a fully integrated banking sector.
The 27-country group still faces great challenges "with continuing banking and sovereign debt crises", the IMF said, adding that it needs a comprehensive region-wide solution as its banks are so heavily interconnected.
In its first financial stability assessment for the bloc, the IMF welcomed this month's EU decision to create a single banking supervisor, but called it "only an initial step" toward a full banking union. That will require further steps such as a joint deposit guarantee, a single set of rules for banks and a joint bank bailout fund, it said.
European policymakers, however, are reluctant to create a full banking union because joint liability implies one country's taxpayers would someday have to bail out struggling banks of another EU country.
Leaders in more economically disciplined countries such as Germany and the Netherlands are concerned that their taxpayers' money could be used to bail out banks in weaker countries without giving them a say over the use of the funds.
The fund usually carries out financial stability analyses for single nations, but now moved toward carrying out an EU-wide review because it reckons that banks' risks are closely interconnected across the 27-nation bloc, and even more so between the 17 nations using the euro currency.
The IMF also recommended that the EU should beef up its bank stress tests in a bid to identify problems stemming from liquidity issues or structural weaknesses.
"Experience suggests that the benefits of a bold approach outweigh the risks," it said.
The Washington-based institution also urged the EU to make its new, permanent bailout fund, the European Stability Mechanism, rapidly operational for bank recapitalizations.
That would shield national governments to some extent from the burden of taking on more debt when they have to bail out their banks — a move that weakens their own financial position. A swift and fully functional ESM could therefore help decouple bank and sovereign risk, the IMF argues.
The full IMF review of the EU financial system has not yet been published because it is still being discussed with EU officials, it said.
Juergen Baetz can be reached on Twitter at http://www.twitter.com/jbaetz