Why a single European financial supervisor would be a bad idea.

There are few problems facing Europe where a solution cannot be found in Brussels. Exchange rate management, tax policy, the environment, trade, foreign relations, and defence - the European Commission has the answer to every challenge. Furthermore, the answer is always the same; member states should delegate more decision-making authority to the Commission.

Right now, the Commission feels confident that it can wrest control of financial supervision from the member states. Earlier this year, it established three European Systemic Risk Boards, covering banks, markets and insurances and pensions respectively. This followed from proposals made in September 2009, which advocated the creation of three European Supervisory Authorities – a European Banking Authority, a European Securities and Markets Authority, and a European Insurance and Occupational Pensions Authority. When it sees an opportunity, the European Commission moves fast.

Superficially, the case for centralization is strong. Europe has gone through a dramatic financial crisis. Supervision has failed on a massive scale, with dreadful economic consequences. Moreover, European financial institutions are breaking out of their national constraints and diversifying into new markets across the Union. A solitary Europe wide financial supervisory framework seems obvious.

How would such an institution, or collection of institutions, work? First, consider the most practical question; where would the new European financial supervisory agency be located? This would be an easy question at the national level. The supervisor would live among the banks. It would be located in the financial centre.

Europe doesn't work that way. Everybody takes turns. Right now, France has the joint capital of Europe-Strasbourg. Belgium has the Commission and Parliament. Germany has the ECB. Spain and Portugal already have a large number of minor European institutions. London would appear to be the obvious choice, but the UK has unwisely chosen to maintain national sovereignty of exchange rate policy. There will be the inevitable food fight among member states, rather like for the honour of hosting the olympics. Most likely, it will be sited somewhere in Eastern Europe, probably Warsaw or Budapest. After all, it is now their turn. There might also be a compromise solution breaking up the institution so that it could be sited in two or three worthy locations.

Once this institution, or loose confederation of institutions, becomes operational, it would be confronted by 27 national banking systems, each working under its own legal system. Harmonization is a word that trips off easily from the tongue; it is much harder to implement it as a practical policy. European civil servants can quickly write up a directive of new banking standards. That is the easy part.

A "one size fits all" European financial sector supervisory framwork would create insurmountable problems. How would one reconcile the supervisory needs of internationalist investment banks located in city of London with the sleepy banking system in Italy? Where can one find common ground between the state directed banks of France with the highly communal credit unions of Cyprus?

European-level supervision would also create a massive distance - both literal and metaphorical - between the regulator and the regulated. Information and market knowledege are the core of effective supervision. It is not an "arms-length" business. When identifying the risk of a banking blow-out, one onsite inspection of a bank by a knowledgeable supervisor, looking at loan quality, can worth a million off-site inspection reports received by a desk based supervisor living in another country.

The answer, of course, would be to create a network of regional supervisory bodies, one for each country. This would be reinventing what Europe already has, only this time it will be controlled by Europe rather than national parliaments.

This still leaves the intractable question of how to supervise banks that traverse multiple jurisdictions. It is a difficult question, but it is not one that a centralized regulator in Europe can answer any better than a national regulator. For example, HSBC, as its name suggests-the Hong Kong and Shanghai Banking Corporation-has operations around the world. It is hard to see how an EU-wide regulator based in Eastern Europe can confront the complexities of HSBC any better than the FSA does right now in London.

Handing financial sector supervision over to Brussels is a bad idea. It is bad politics because it will strengthen an institution-the European commission- that most Europeans would prefer to see weakened. More than that, it would offer no tangible improvements on the current European supervisory structure. Rather than reduce the likelihood of a new crisis, it would make one more likely.

However, that kind of objection has not stopped the Commission in the past. The proto-supervisory institutions are already named, their extravagent budgets are prepared, now it is time for the member-states to hand over the files and let Brussels take over.