“Ah, you say, but the government guarantees all bank deposits up to €100,000; more fool you if you believe the word of a politician. Cyprus hosted a trial run for the bail-in in 2013 as described below in an article by Doug Casey: “In 2013, the banks of Cyprus confiscated the deposits of many of their clients”
Urgent reform of the EU resolution framework is needed
The existing European resolution framework, an essential part of the European banking union, is still largely deficient. National resolution authorities often bypass the European framework, with the result that, since its creation in 2015, the Single Resolution Board has adopted only one resolution decision. This column argues that two aspects of the European resolution framework are particularly in need of reform – the bail-in regime and the resolution mechanism for cross-border banks – and proposes a reform of both.
he financial industry and regulators in the EU seem to have converged on the following:
Unlike in 2007-2008, the Covid crisis has not affected banks, at least not so far. This is explained by the fact that they were overall better capitalised than in the previous crisis and that governments have issued strong support to companies in various forms.
Once moratoria and other support measures are unwound, European banks will likely be confronted by a wave of non-performing loans (Kasinger et al. 2021). This would require higher provisions and would exert downward pressure on already weak profits.
If these risks were to increase, a wave of banking crises cannot be ruled out.
This column starts from this consensus and from the conviction that the existing European resolution framework, an essential part of the European banking union, is still largely deficient.
In our view, two aspects of the European resolution framework are particularly in need of reform: the bail-in regime and the resolution mechanism for cross-border banks.
The bail-in regime
To reduce the likelihood of bailouts, the 2014 Banking Recovery and Resolution Directive (BRRD) insists on a bail-in of 8% of a bank’s balance sheet, even under ‘extreme systemic stress’, as a necessary condition (1 since January 2016) for access to the Single Resolution Fund or even national public money. While the 8% rule is non-negotiable, financial instability concerns allow resolution authorities to exempt, next to secured liabilities, interbank debt expiring within seven days. This flexibility is limited, however, since: (1) the resolution outcome should respect the ‘no-creditor-worse-off’ (than in bankruptcy) principle; and (2) priority is (retroactively) granted to natural persons and SMEs over other unsecured claims (and among those, priority is granted to the deposit insurance fund).
Together, these two principles put ‘wholesale deposits’ at greater risk by (retroactively) making them junior to (uninsured and, even more, insured) retail deposits. This is a paradox, since the post-Lehman crisis showed that wholesale depositors ran much faster than retail ones. Aware of this risk, the BRRD mandates the Single Resolution Board to impose Minimum Requirements of own funds and Eligible Liabilities (MREL) targets that are specific to each bank. The problem is that, so far, many European banks do not have sufficient subordinated MREL claims, with the result that the 8% rule cannot be implemented without risking financial instability. So, the banking union has in theory a stricter bail-in regime than the one recommended globally by the Financial Stability Board (FSB), but one that it cannot implement in reality. In fact, to this day, the 8% bail-in rule has never been applied (in the Banco Popular Español case, only subordinated claims were bailed-in, as already prescribed by the 2013 State Aid guidelines).