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Monday, November 18, 2013

As discussions stall, leaked docs show divergent plans for bank bail-in and resolution from EU institutions

The Times’ Juliet Samuel has an interesting story today looking at the progress on bank bail-in rules and resolution funds at the EU level (via some leaked docs relating to the EU's Bank Recovery and Resolution Directive).

Despite another round of meetings little progress seems to have been made in finalising the format of the resolution authority or the fund it would use to aid banks, i.e. the creation of the second pillar of the banking union – although there does seem to be a move to increasing the direct involvement of national authorities. Germany also looks to have conceded somewhat on using the ESM, the eurozone bailout fund, to aid banks as agreed over the summer. But given that this will still require a change in German law and approval in the Bundestag to activate it, the hurdles remain very high.

See here for a recap of the country differences on bail-in plans, here for a recap of our take on the plans as they stand and here for our view of the banking union so far.

With this in mind the internal Commission assessment (which can be found in full here) raises some interesting points (it's worth keeping in mind the the bail-in plans and banking union are separate but very closely related when it comes to questions of aiding banks). The paper essentially provides a comparison of the different bail-in approaches favoured by the European Commission (EC), the Council and the European Parliament (EP). The EC proposal sees a very strict bail-in structure with all levels of investors and uninsured depositors facing losses before resolution funds are tapped. The Council waters this down slightly, with some use of resolution funds at different stages. The EP goes further with greater protection of depositors and therefore more use of resolution funds (see graph below for a useful graphic on all this).

Although the analysis is significantly limited by numerous assumptions and data constraints, some interesting points can be gleaned, which we outline below:
Greater flexibility, leads to greater use of funds: The key point seems to be that any flexibility introduced into the bail-in system will significantly increase the level of resolution funds needed. Broadly, under the Council proposal this could reach €70bn under a 25% loss scenario. Under the EP structure the figure could top €200bn if there was a systemic crisis. These are rough figures gleaned from the numerous scenarios, but the message is a clear warning to the Council and Parliament about allowing too much flexibility from the planned bail-in rules.

Where would these funds come from? This is the obvious follow up. No plan is presented in the paper and the general idea is that they would be built up over time from taxes on the financial sector. But under the current plans this could take up to 10 years, from a start in 2018. What happens in between? There seems little choice but to infer that national taxpayer funds would be tapped if another crisis hit.

Bank investors and even depositors lined up to take big hits under bail-in: Another key feature of this paper is that, for the first time, it highlights the type of losses investors and depositors will face if a crisis hit under the bail-in rules. In nearly all scenarios, albeit to varying degrees, even senior debtors and uninsured depositors take large hits. As these discussions develop and the final structure becomes clearer the market will begin to reassess the pricing of different instruments – whether deposits, debt or other instruments are favoured could well affect bank funding structures.
Beyond these points there is little more significant to draw from the paper. It debatably raises as many questions as it answers – what will the final format be? When will it be introduced? How will any resolution funds be funded? Will this be done at the EU or eurozone level?

The motivation behind the paper is also worth considering. It’s clear the Commission is trying to send a bit of a message here, warning the Council and EP against watering down the bail-in plans too much – at least if they don’t want to put up significant resolution funds. Whether or not this will be taken to heart remains to be seen.


Jesper said...

Wouldn't it make more sense to first agree on rules about how to decide if a bank is insolvent?

Valuation based on mark to market on assets or the currently favoured and abused valuation-method of: 'assets are worth whatever we decide them be be worth'?
Nations are forced to use mark to market valuation through firesales of assets, what are the rules for banks?

Am looking forward to the bank stress tests:
-will there be consequences for leaders of banks that are found to be insolvent? Incorrect disclosures by bank-management and auditors to stock-exchanges etc?
-is there a worse time to try to raise new equity than a time when many others in the same industry are trying to raise new equity as well?
-will the stress-tests take into account the different legal environments in the different nations?
-will the stress-tests be credible?

Denis Cooper said...

"Will this be done at the EU or eurozone level?"

My guess is that initially it would be done at the eurozone level, with non-euro states such as the UK readily agreeing to any necessary EU treaty changes and asking for no other EU treaty changes in return, and the UK government saying that the EU treaty changes should not be put to a referendum in the UK.

Which is what happened with the EU treaty change demanded by Merkel to provide a legal basis in the EU treaties for the establishment of the ESM, which EU treaty change was agreed by Cameron through European Council Decision 2011/199/EU of March 25th 2011 and then approved by the UK Parliament just by an Act and without a referendum.

Later, as the eurozone expands across the EU, as it is legally required to do, the EU level and the eurozone level will converge, until the point is reached that a UK government of whichever party or parties will proclaim that the position of the UK inside the EU but outside the eurozone is no longer tenable and will take us into the euro, and without a referendum if that seemed too risky.


Let;s be quite clear about this - the new method of sorting out bankrupt banks is to seize as yet unspecified proportions of depositors' money.

In terms of ensuring the very thing it is supposed to be trying to prevent it reminds me of Jack "USSR" Jones' Docks and Harbour Boards Scheme under which all dock employers were obliged to take on any dockers who lost their jobs with other dock employers, whether they had work for them or not.

This all-but destroyed the docks, until containerisation changed the entire nature of those operations. What the EU's plans will surely mean is that no one with half a brain will deposit money in any bank affected by this scheme, ensuring that thos banks will collapse. But as with docks, the game changes completely when the EU and its clinically insane elite collapses

Rik said...

In fact most people do still deposit money with banks which are dubious at best.
Not only the accounting rukes suck, but people's psychology as well. probably it is clear to them that they are totally unable to arrange things properly themselves, so they take the next worst thing the government (and take hope combined with the ostrich thing for a strategy).

Subsequently we likely see a lot of 'crying' when things lateron would go wrong accompanied by demands that 'the government' or Germany should make it whole.

Problem is as Jesper makes clear that more than 1/2 of the EU/EZ bankingsector is effectively bust or very close to that.
So on one hand nobody want to tell the average bank customer:
'your bank is probably bust and you will not get your money back when it goes belly up'.
On the other hand the system clearly needs apparently a few shock events to make it clear that there is no guarantee that when you put your money with the next Icesave that if it goes bust Mr Taxpayer pays the bill.

Seen from another angle. Market pressure is needed to get the sector in order (without tax payers feeding the bill) but marketpressure is being tried to avoid in order to avoid things like bankrun.

Likely we end up with a compromise in communication that is (Germany is unlikely to pick up all the future bills). Not making clear that banks are a risky 'investment' and ending up in some sort of moral hazard situation when subsequently something happens.
Something we have seen with the no bail out. Germany and co found it ok that the South gave the impression and the market assumed that there was mutual liability until it was too late.

Denis Cooper said...

Off-topic, after the interruption at the end of last week I've been receiving the daily bulletins again; I've no idea what glitch occurred, but thanks for checking it out.

Anonymous said...

The EUSSR Eurofascsists have no business deciding how the UK's banking industry should function.


Further to my previous comment and Rik's response - are there not still rules severely limiting withdrawals from banks in Cyprus and/or Greece, and exchange controls limiting movement of cash out of those countries? And if so, what happens when those rules are relaxed?

Most bank deposits are guaranteed by Governments up to e100,000 or £85,000, and the relatively few investors holding more than that in cash split their deposits between different banks.

The unlucky ones are those businesse or individuals who have large sums passing through their accounts - house sales, tax about to be paid etc - who lose it on the new Musical Chairs principle.

In Cyprus the original plan to seize cash had to be changed to honour tge e100,000 promise, but next time?