Bank bail-in plans finally agreed, but its only a small step towards banking union

Despite some sizeable differences, EU finance ministers finally managed to reach an agreement on the bank bail-in plans last night (after only 25 hours of talks in the past few days). As always with this type of EU deals, it is a compromise and often an imperfect one. The agreement was much as expected in the end, given the drafts circulating over the past week. Below, we lay out the key points and the positives and negatives of the deal as we see them.

Key points

• Some more flexibility included, with government allowed to inject funds but only after minimum bail-in of 8% of the total liabilities of the failing bank – although such intervention is capped at 5% of the bank’s liabilities.
• The ESM, the eurozone's bailout fund, can also inject funds but only after all unsecured bondholders wiped out.
• The UK secured wording which allows it to avoid setting up an ex-ante resolution fund, as long as it is already receiving funds from the bank levy and/or stamp duty. Sweden also secured an adjustment to the text which allows for it to maintain its current model to a large extent.
• The agreement sees the bail-in plans coming into force in 2018, while the directive as a whole still needs approval from the European Parliament - so it could yet change.
• Certain creditors are excluded: insured deposits, secured liabilities, employee liabilities, interbank and payment liabilities with maturities of less than seven days. National resolution authorities can also exclude other creditors in exceptional circumstances.
• As in earlier drafts, insured deposits are completely protected, and the preference given to SMEs and individuals deposits (see here) has been retained as well.

Positives

• Reaching a deal is positive in itself, as it adds some much needed certainty following the Cypriot crisis. It also keeps the progress towards banking union inching along.
• The burden has been shifted away from taxpayers towards bank creditors.
• The added flexibility is important between eurozone and non-eurozone countries, with the UK and Sweden scoring some important caveats. The deal highlights that non-eurozone countries can still have influence on such rules and the acceptance of the need for flexibility between the two groups.

Negatives

• From a eurozone point of view, the flexibility could be counterproductive, particularly the use of exemptions in exceptional circumstances. How exactly will this be defined and determined? If at national level, then there could be clear political pressure in a crisis to invoke this. For example, it is hard to imagine that the crises in Greece, Portugal, Ireland and Spain would not have triggered this in some way.
• Could see cost of bank funding rise, particularly in terms of unsecured credit due to fairly strong depositor preference.
• Lots of unanswered questions – not least, when and how will these rules apply? It’s not clear in exactly what situation and at what time the new rules would kick in. Does it rely on a request for aid from the bank or the national government?
• Furthermore, there are questions over how this will work practically in different circumstances – for example, the difference between a bank which has almost completely failed and one which is simply struggling to recapitalise.
• The timeline also still seems very long, with the actual bail-in rules not in force until 2018, even though the directive is due to be in place by 2015. That said, the broad template may well still apply, particularly where banking union is involved.

In the end, this seems to be a reasonable compromise - not least because all sides seem fairly happy. It’s clear than a new set of rules was needed with the focus on creditors rather than taxpayers. That said, though, this is in the end only a very small part of banking union and the pace at which the eurozone is proceeding towards it remains fairly limited.

The key remains the single resolution mechanism and/or authority. As we have argued before, until this is in place it is hard to see how the poisonous sovereign-banking-loop will be broken or how cross border lending will begin flowing freely again. Until that is settled, the effectiveness of other factors such as the bail-in plans will remain unclear at best.