Europe’s microstates must clean up their banking sectors

Unresolved banking scandals threaten to derail closer cooperation with Europe’s microstates, writes Martin Kreutner.

Martin Kreutner is the first dean (emeritus) of the International Anti-Corruption Academy (IACAd He is the author of “A Brief Review on the Anti-Corruption & Anti-money Laundering State of Play in the Principality of Andorra”, a report examining these measures in the European microstate.

Since March 2015, the European Union (EU) and the microstates of Andorra, Monaco, and San Marino have been negotiating to reach an Association Agreement to integrate these countries into Europe’s financial fabric.

For these nations of under 80,000 inhabitants, such an agreement could facilitate the diversification of their economies and provide access to the EU’s internal market. However, their reputation as “murky jurisdictions” has become a roadblock to greater integration.

Plans to reach an agreement by the end of the year were upended by a ‘dramatic intervention‘ by the heads of Europe’s financial regulators. In a letter to the European Commission, the Chairs of the European Banking Authority (EBA), European Securities and Markets Authority (EMSA), and European Insurance and Occupational Pensions Authority (EIOPA) urged negotiators to take a “cautious approach to the opening of the Single Market” to these countries.

They warned that deeper relationships with Andorra and the other microstates with a history of “less rigorous financial regulations” could provide financial risks for the EU.

Monaco and the EU quickly suspended negotiations. Yet, the door is still open for Andorra and San Marino, as the European Commission remains committed to the negotiations.

For Andorra – the largest of these states – further economic cooperation with the EU, particularly neighbouring Spain and France, is an opportunity that cannot be missed. Over the past decade, the microstate has already made noteworthy progress in aligning its banking and tax frameworks with global benchmarks set by institutions like the EBA, OECD, and IMF.

There is still substantial progress in regulatory reform, as highlighted in the aforementioned comprehensive report on the anti-corruption and anti-money laundering situation in Andorra, published earlier this year. Andorra has yet to establish an independent anti-corruption agency compliant with international standards and instruments. The reputation of its financial regulator also continues to be blighted by a web of complex litigation following, inter alia, the forced nationalisation eight years ago of one of its major banks.

The takeover of Banca Privada d’Andorra (BPA) put into question Andorra’s ability to judiciously regulate its banking sector. The government and regulator’s handling of this issue is likely to have been one of the bigger causes of concern to EU officials. It began in 2015 when the Andorran authorities seized control of BPA in response to a notice issued by the US Department of the Treasury.

Both the Andorran bank and its Spanish subsidiary, Banco Madrid, were swiftly dissolved. BPA’s assets were sold to a US private equity fund at a significantly reduced valuation, despite the US Treasury withdrawing its notice within a year.

A legal action launched by the shareholders of BPA against the authorities – specifically the Andorra Financial Authority for allegedly exhibiting bias and reckless conduct ­– has brought to light a possible clear failure on behalf of the regulator and the government to follow due process.

If the government loses this action, it could be on the line for over €500m in damages, or 1/6th of Andorra’s entire real GDP. Criminal legal actions against the bank’s staff launched by the Andorra prosecutor are yet to land any convictions. This has created a stalemate in the dispute and apparently an ongoing national headache for Andorran businesses hoping to move.

Given the potential risks of partnering with a nation plagued with financial scandal, the European regulator’s concerns about Andorra are not unwarranted. The escalating financial obligations stemming from these disputes raise serious concerns over national liquidity, potentially sending severe shockwaves through the entire European financial structure.

Lacking a central bank, Andorra could require intervention – a bailout – from the European Central Bank or other European (and/or member states’) financial entities, positioning them as the ‘lender of last resort’ for the microstate.

This potential outcome warrants serious consideration given that, in Spain, courts have acquitted the bank, and the former shareholders are due to receive compensation for the takeover of BPA’s subsidiary.

For negotiations to progress, the EU must demand enhanced financial regulation and independent oversight from the microstates, but more importantly, it also requires the full and effective resolution of the pending banking scandals.

For Andorra, resolving its costly banking scandals will be an opportunity to clean up its image and demonstrate its commitment to being a trustworthy and dependable partner for the EU.