Preparing for the Next Financial Crisis

274 Economic policies and nancial stability

− However, as long as governments rely to a large extent on domestic banks for

nancing and banks have clear incentives to purchase sovereign debt for its

favourable credit and liquidity characteristics and its use as collateral, single

supervision and resolution will not be enough to break the doom loop. In-

deed, the current regulatory framework in the EU may have led to excessive

investment by banks in domestic sovereign bonds. Zero risk weights on sov-

ereign bonds enable sovereign bond portfolios to increase without reducing

Tier 1 capital ratios (Chapter 6). These zero weights and the absence of large

exposure limits have contributed to strengthening links between banks and

sovereigns be ...