Saving Europe’s banks: EU gets landmark deal

European Union leaders meeting in Brussels Thursday will sign off a compromise deal hammered out overnight by their finance ministers after months of difficult negotiations. It will then go to European lawmakers for final approval before May 2014.

The banking union is central to the eurozone’s response to future financial crises.

The aim is to stop bank collapses from trashing national economies — a fate Ireland suffered in 2010 — and destabilizing the euro. By establishing a common set of rules for managing failing financial institutions, the EU hopes to avoid the kind of chaos seen in Cyprus this year.

So what exactly does it mean, and how will it work?

The first step, agreed a year ago, was to set up a common regulator for the eurozone’s biggest banks.

A Single Supervisor: The EU agreed in December 2012 to give the European Central Bank responsibility for supervising the eurozone’s biggest lenders. It will oversee some 85% of eurozone bank assets. Smaller banks will continue to be regulated by national authorities.

As supervisor, the ECB will able to force banks to raise more capital if needed. But before the central bank takes up its new role in November 2014, it wants a clearer picture of the risks the banks are carrying and their resilience to economic shocks.

Related: EU fines banks record $2.3 billion over Libor

To that end, it began reviewing the quality of the assets held by 128 banks across 18 countries, including major players such as Deutsche Bank (DB), Santander (SAN)and Unicredit (UNCFF)in October. The review will culminate in a series of stress testsnext year.

ECB President Mario Draghi hopes the tests will lift a cloud of suspicion hanging over European banks and encourage more lending to businesses and households.

Read more here (CNN Money)