EU banking watchdog mulls cap on sovereign debt exposure

(FRANKFURT) - Europe's new banking supervisory chief, Daniele Nouy, suggested Wednesday that banks should limit their exposure to sovereign debt which she said can no longer be regarded as risk-free.

"There's a general problem with how sovereign debt is treated on bank balance sheets," Nouy said in an interview published by the business daily Handelsblatt.

"They're currently treated as risk-free. But we've learned during this crisis that sovereign bonds aren't free of risk. Banks should therefore have to back sovereign bonds with capital, as they are required to do with other assets," she said.

Under current rules, banks must limit their exposure to private debtors to no more than a quarter of their capital. And that rule should also apply to sovereign debt, Nouy argued.

"Since the eurozone comprises 19 member states, banks have sufficient opportunity to diversify their sovereign debt portfolios," she added.

"What is important is the acknowledgement that sovereign debt isn't risk-free. If the rules were to make that clear, that would send a strong signal," Nouy continued.

The Basel committee on banking supervision had already initiated talks on how to treat sovereign debt and the European parliament also appeared to be open to proposals.

"So we're gradually moving in the right direction," Nouy said.

The Single Supervisory Mechanism or SSM, an autonomous unit within the European Central Bank, took over as Europe's banking watchdog in November and is directly responsible for monitoring 123 banking groups.