LUXEMBOURG (AP) -- Euro finance ministers on Thursday agreed on broad guidelines on how to use the bloc's permanent bailout fund to rescue banks from failure, a long-promised goal to stabilize the bloc's financial system.
Enabling the 500 billion euro ($670 billion) rescue fund to shore up struggling banks directly is a pillar of Europe's so-called banking union, which seeks to hand European institutions the job of supervision and rescue rather than leaving weaker member states to fend for themselves.
"We have made an important step on the way to the banking union by agreeing on the main points for a future regime for direct bank recapitalization," said German Finance Minister Wolfgang Schaeuble.
"We need the banking union to improve the trust of the financial markets in the stability of the European banking system," Schaeuble said.
It will still take some time for the European Stability Mechanism to kick and Irish Finance Minister Michael Noohan estimated it at "12 months or so."
Schaeuble and others cautioned, however, that despite a political agreement on the broad strokes, many operational details have yet to be hammered out.
"We must avoid false expectations are associated with direct bank recapitalization," Schaeuble said.
The policy was announced by EU leaders a year ago at the height of the eurozone's three-year-old debt crisis. However, some countries, led by financial heavyweight Germany, have since sought to slow down the project and limit its scope. They fear that they might have to spend their taxpayers' money to rescue ailing banks in countries which didn't oversee the sector properly in the first place.
The initial idea of the banking union was to ensure that ailing banks don't wreck a nation's finances to the point that it might be forced to seek a bailout itself, as in the case of Ireland or Cyprus.
"This instrument will help preserve the stability of the euro area and help removing the risk of contagion from the financial sector" to the states," Eurogroup president Jeroen Dijsselbloem said.
The ESM's firepower to recapitalize banks will also be limited to 60 billion euros to maintain the fund's top-notch credit rating, which it needs to raise money on the international bond markets.
Lending to banks that have lost market access is considered to be significantly riskier than lending to governments — for which it was initially set up as backstop — and so would hurt the ESM's credit rating.
Germany and France insisted last month that the operational criteria for direct bank recapitalizations can't be finalized before an agreement on two other pillars of the banking union will be reached. One of them, a set of rules on how to unwind banks, including a clear pecking order of who will be hit in case of bank failures, will be discussed by a meeting of the EU's 27 finance ministers Friday. The second precondition is an agreement on a Europe-wide joint deposit guarantee — a discussion that has barely started.
Another sticking point is to what extent the ESM would also intervene to help ailing banks whose problems stem from before the planned ECB takeover over as supervisor. Ireland's Noohan said the scope of such retroactivity was secured.
"There will be potential for retrospective application of bank recapitaliztion. It will be done on a case by case basis," Noohan said.
Germany also stuck to the conviction that comfortable European rescue nets might lead to moral hazard, meaning EU countries could be tempted to load their problems on the region's authorities instead of dealing with them themselves.
"For those in charge, it is often a temptation not to do what they have to do," Schaeuble said, defending Germany's cautious approach on the issue. "That is often uncomfortable, but it must be," he said.
They also gave the final approval to a set of rules that requires EU banks to hold more capital to better withstand shocks from next year on. The rules — the internationally agreed Basel III regulations — were adopted with qualified majority. Only Britain voted against them since they were tied to a law that caps bonuses bankers can receive that London opposes.
In addition, the finance chiefs signed off on Latvia's bid to become the currency union's 18th member nation starting next year — a decision that will then have to be rubber-stamped by a summit of EU leaders next week.
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