The European Commission proposed on Wednesday tougher rules for the European Union (EU) banking sector, aiming to ensure future proof from the current financial turmoil.
Under the new rules, banks would be restricted in lending beyond a certain limit to any one party, while national supervisory authorities would have a better overview of the activities of cross- border banking groups, the Commission said in a press release.
The proposal, which amends the existing EU Capital Requirements Directives, would reinforce the stability of the financial system, reduce risk exposure and improve supervision of banks that operate in more than one EU country, the Commission said.
Among the major changes, banks selling securitized products would be required to retain at least five percent of the products in a bid to improve underwriting standards.
The Commission said the requirement is necessary to help rebuild trust because market participants would have the comfort in respect of future securitizations since those who originate the underlying assets for securitization pools retain a share of the risk.
All interbank exposures would be limited to 25 percent of their own funds or below 150 million euros (210 million U.S. dollars), with the higher threshold applying.
In order to improve supervision of cross-border banking groups, "colleges of supervisors" would be established for banking groups that operate in multiple EU countries, but the supervisor from the bank's home country should have a final say in setting overall capital requirements.
"These new rules will fundamentally strengthen the regulatory framework for EU banks and the financial system," said EU Internal Market and Services Commissioner Charlie McCreevy, who tabled the original initiative.
McCreevy said he would come forward with more reforms of the EU banking sector in response to the current financial turmoil in the coming months, including mandatory supervision of credit rating agencies, which was blamed for their slowness in notifying investors of risks in the U.S. subprime mortgage market.
However, the Commission acknowledged the proposals to change the banking rules may be useful for strengthening market confidence and institutional resilience in more stable periods, but the proposed measures would be too late to have any impact on the current meltdown of the financial system.
The proposal now needs approval from the European Commission and EU governments to become law. It was expected to take effect as from 2011.