Britain clashed with France on Wednesday over demands that London be allowed to force banks to top up capital beyond new EU levels, diplomats said, in a long-running dispute threatening to undermine a central plank of European financial reform.
The European Union is attempting to translate higher capital standards set by the Basel Committee of regulators and central bankers into EU law by the end of this year, a move to make it costlier for banks to engage in high-risk lending or investing.
But EU diplomats, meeting on Wednesday, disagreed over the shape of the draft law, with Britain wanting more freedom to set higher standards for its banks, in the face of opposition from France.
Britain argues it is entitled to take extra steps to make banks safer, to protect the interests of taxpayers who could be called on to bail them out if they face collapse.
But France is concerned that international banks based in London could cut lending elsewhere in Europe if they have to beef up capital.
Some diplomats suspect the dispute is fuelled by concern that deposits and other business might flow to British banks were they to be better capitalised than French and German rivals and thus safer in the eyes of investors.
As diplomats debated the issue in central Brussels, the European Central Bank president, visiting the nearby European Parliament, underscored the urgent need to bolster banks.
"I consider it of crucial importance that banks strengthen their resilience further, including by retaining earnings and by retaining bonus payments," Mario Draghi told parliamentarians, who are also pushing for new bonus curbs in the law.
"The soundness of banks' balance sheets will be a key factor in facilitating both an appropriate provision of credit to the economy," he said.
Last year, the ECB took the unprecedented step of lending banks one trillion euros to avert a confidence spiral but many analysts believe that without significant fresh capital, it will be impossible to rebuild confidence in the region's lenders.
The disagreement on Wednesday leaves it to finance ministers from the EU's 27 countries to strike a deal when they meet next week, as time runs out to finalise the rules Europe wants by year-end.
But the chances of a breakthrough next Wednesday are also seen as slim.
"The question is if there should be little room for manoeuvre on Basel or more room for interpretation," said one official. "It is likely this will be the first of many meetings."
Clarifying the precise rules on capital, almost five years after the start of the financial crisis that toppled some lenders and hit many countries hard, would remove some uncertainty for banks, already nervous about lending as Europe slides into recession.
The new European capital regime will also influence how stringently Washington interprets the global Basel standards on Wall Street.
POLITICAL FIGHT
"It is a very political question," said one French diplomat. "It is about the degree of EU regulation and the degree of member states' initiative."
George Osborne, Britain's finance minister, has won backing from countries including Sweden for its position.
Britain also objects to what it sees as a watering down of Basel standards in EU law if it were to recognise a unique form of shareholder capital often used for German regional landesbanks that does not always absorb operational losses.
It is opposed to any use of an insurers' capital in a bank-insurance conglomerate to support the bank in such a group.
One diplomat complained about countries trying to carve out exceptions that best suit them. "They have made a Swiss cheese out of it," he said.
Others struck a conciliatory note, saying that some EU members, including Germany, were prepared to consider British demands for flexibility.
Far more than the technicalities of bank balance sheets, however, the dispute is the result of a struggle for influence and power in a bloc shaken by the worst financial crisis in a generation.
Britain has been fighting to maintain its authority over the City of London, Europe's financial capital, as other EU members move to centralise supervision and regulation of banking and finance.
Under one possible compromise, countries like Britain would be given leeway to impose higher standards of capital on their banks, but the EU's executive Commission would keep tabs on such moves.
