If there’s one thing the European Union’s leaders agree on, it’s that the bloc needs to regain competitiveness — a key prerequisite for meeting urgent challenges such as rebuilding defenses, combating climate change and reviving economic growth.

Yet in their approach to the banking sector, some are acting as if they don’t understand what the term really means.

Banks dominate finance in Europe, so they’re bound to play an important role in handling the trillions of euros required to build more battle tanks, install EV charging stations and generally make productivity-enhancing investments. To that end, they should be big and multinational enough to move money wherever in the continent it needs to go. They should also be well capitalized, so they’ll have the loss-absorbing capacity to take ample risks without inviting failure.

The EU’s banks are none of the above. They’re mostly nationally focused, lacking the scale and scope to maximize profitability and diversification. The market value of JP Morgan Chase & Co. alone exceeds that of Europe’s seven largest publicly traded institutions combined. Their tangible equity amounts to just 4.8% of tangible assets — leaving them significantly less capitalized than their US counterparts. Worse, their preference for their own countries’ debt reinforces a “doom loop,” in which banks’ and governments’ finances are dangerously intertwined.

EU officials know what to do. An EU-wide deposit insurance mechanism, a long-missing element in the bloc’s banking union, would enable the creation of truly pan-European institutions — for example, by obviating the need to back deposits in each individual country with assets held locally. This would require an EU-level resolution authority with the power to seize distressed institutions (along the lines of the US Federal Deposit Insurance Corp.), as well as some kind of limit on home-country sovereign exposure. Beyond that, faithfully implementing globally agreed capital rules would boost resilience and alleviate concerns about who would pay for bailouts.

Politics invariably gets in the way of such reforms. Elected officials like having national champions that are more amenable to doing their bidding. They’re also influenced by bank executives, who tend to favor friendlier local oversight — and who prefer to employ less equity and more debt, because the latter enjoys government subsidies and boosts some measures of profitability.

Consider Friedrich Merz, Germany’s newly elected chancellor. He has denounced Italian bank UniCredit SpA’s “unfriendly” bid to acquire Commerzbank AG (in defiance of the European Central Bank, which sees such mergers as necessary for competitiveness) and reiterated his country’s long-standing opposition to EU-wide deposit insurance — echoing its unique and politically influential public-sector and cooperative banks, which argue they’ll end up footing too much of the bill. Their own insurance arrangements, however, haven’t prevented some very large taxpayer-funded bailouts, suggesting a supranational approach could benefit Germans overall.

Meanwhile, French President Emmanuel Macron, among others, has successfully pushed the EU to twice postpone more stringent capital requirements for banks’ trading operations. As the ECB has argued, this is precisely the wrong kind of deregulation. Streamlining capital rules — which are unduly complex — would be a far superior form of relief.

Europe’s leaders must recognize that a fragmented, fragile banking system — much like its divided capital markets, power grid and defense industry — is not a competitive advantage. On the contrary, it’ll undermine the progress on security, the environment and productivity that the EU urgently needs.

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