Too Little, Too Late?
By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.
The European Commission gave its blessing to a plan proposed by Italian authorities to liquidate small troubled banks in Italy with total assets of less than €3 billion. Under the plan, as a failing bank is “resolved,” its assets and liabilities will be transferred to another lender under national insolvency proceedings. When liabilities (including deposits) exceed the value of good assets (mostly loans), the gap would be dealt with by giving haircuts to unsecured creditors — including insured depositors who would then be made whole by the respective national deposit guarantee fund — and by mobilizing taxpayers.
The new resolution plan will be available not only to Italy. Each Eurozone member state will have the option to “set up schemes to support the orderly exit of small failing banks, adapted to the conditions in each market.”
Italy, like many other EU countries (including France, Spain and Germany), has pathetically inadequate funds in its deposit guarantee fund — hence the need to mobilize taxpayer funds. Under rules passed in 2014, EU member states need to have funds in deposit guarantee schemes equivalent to at least 0.8% of the covered deposits, but given that most countries don’t even come close to that, they’ve been given until 2024 to reach the target.
The last time the European Banking Authority checked, at the end of 2016, Italy, like Ireland and the Netherlands, had guarantee funds equivalent to just 0.1% of covered deposits. In Spain the figure was around 0.2%, while in France and Germany it was 0.3%.
All EU bank deposits are guaranteed up to €100,000, regardless of how much is in a member state’s fund. Senior bondholders are also protected from any financial fallout. But if a large enough bank collapses in a disorderly enough fashion, trying to plug the massive financial holes it leaves behind can suddenly become a very difficult task, as Spanish and European authorities learned in June last year when Spain’s then-sixth biggest bank, Banco Popular, succumbed to a run on deposits following years of chronic, if not criminal, mismanagement. In its final days, Popular was bleeding funds at an average rate of €2 billion a day.
In the end, Europe’s Single Supervisory Mechanism decided that the bank was insolvent. Popular, warts and all, was sold for €1 to Banco Santander, which had to raise €13 billion of fresh capital to digest the deal. At least part of those funds will be returned to Santander through tax credits.
If Santander hadn’t intervened and Popular had been allowed to collapse in disorderly fashion, some of its €60 billion of deposits would have been at risk, El País reported. A total of €35.4 billion were guaranteed. But Spain’s Deposit Guarantee Fund (DGF) didn’t have nearly enough liquidity to cover those deposits and would itself have had to be bailed out by the Spanish state in order to reimburse Banco Popular’s customers.
It’s not clear exactly how much money Spain’s DGF has in its coffers today, but there’s good reason to believe it has even less than it had at the end of 2016, when it had a paltry €1.6 billion — far short of the €6.4 billion it’s supposed to have by 2024. It might be drained by now.
So, what happens if another mid-sized lender like Popular begins to wobble? Given that in June 2017 the EU was home to 597 medium-size banks, which the ECB defines as banks whose assets represent between 0.5% and 0.005% of the total consolidated assets of EU banks, this is not a hypothetical question. And it’s one the ECB is apparently beginning to take very seriously.
The ECB is considering launching a new policy tool that would allow it to inject cash into banks that are being rescued from the threat of insolvency. And that cash, once again, will come from government coffers.
ECB vice president Vitor Constancio cited Britain, where the Bank of England can request an indemnity from the government on loans extended to banks in resolution, and the United States as possible models. At the moment European rules bar the ECB or its affiliate nation central banks from supporting a failing lender while the European Union’s Single Resolution Board mounts a rescue mission.
“The UK and U.S. have… a solid, whole process of resolution that includes those liquidity problems during that period of time, and I hope that Europe will get to some solution to this problem,” Constancio told the European Parliament.
To that end, the ECB has already created a new lending facility called Eurosystem Resolution Liquidity. All it’s waiting for is a green light from the Eurogroup of euro zone finance ministers.
But that could be a long time in coming, especially given fears among richer countries that the new rules could be used to prop up failing banks with public money — fears that the last raft of EU banking laws was explicitly designed to put to rest. In the meantime, one thing is abundantly clear: Even at this stage of proceedings, six years after Europe’s debt crisis, the Eurozone is far from prepared for another rash of banking failures. By Don Quijones.
UK regulators may be on the verge of doing something right, but doubts remain over how genuine their stated intentions are. Read… After a String of Corporate Scandals & Collapses, “Big Four” Accounting Giants Face Breakup in the UK
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