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EU May Put Short-Term Bank Creditors in Firing Line for Losses

Overnight interbank loans may no longer be safe from losses when a lender fails, according to new European Union proposals to force costs on to creditors before turning to taxpayers.

Liabilities of less than one month had been shielded from EU plans to standardize how financial failures are handled across the 27-nation bloc. Now nations are weighing changes to EU financial services Commissioner Michel Barnier’s proposed rules for imposing bank-creditor losses, according to the document prepared by Ireland, which holds the EU’s rotating presidency, and obtained by Bloomberg News.

The draft law should treat debts with the same level of seniority equally as much as possible, according to the document, dated Feb. 27. Regulators could be given some scope to exempt certain classes of creditors from writedowns on a case- by-case basis, and short-term liabilities could be added to offset the effect of taking those exceptions out of the pool of assets that can be targeted, the document showed.

EU leaders have set a June deadline for governments and the European Parliament to agree on legislation setting out how authorities should handle bank failures, including through so- called creditor bail-ins. In the absence of such a system, nations have injected 1.7 trillion euros ($2.2 trillion) into their banking systems since the 2008 collapse of Lehman Brothers Holdings Inc., according to European Commission data.

Senior bank bondholders are in the crosshairs as the unsecured creditors who might be most affected.

‘Extra Buffer’

The Netherlands, where three of the four biggest lenders are receiving state aid, has put forward recommendations to clarify and augment the original EU design. The Dutch approach would create an extra buffer layer of cash, capital and debt that could absorb losses ahead of senior bondholders.

“This extra buffer by no means implies a soft or watered down approach, rather on the contrary,” the Dutch Finance Ministry said today in a statement. “In the Dutch approach, an extra buffer is introduced, but if this buffer is insufficient to cover losses the remainder of the balance sheet should be subject to bail-in.”

The Netherlands did not tap senior bondholders when it nationalized SNS Reaal NV (SR) on Feb. 1. The Finance Ministry cited the lack of harmonized EU rules, which are needed to create more certainty for investors.

Governments have differing views on how to alter Barnier’s bank resolution plan, according to the Irish presidency document, which doesn’t identify national positions. Exemptions could potentially be granted for assets including uninsured deposits, derivatives counterparties and short-term funding loans between banks.

Convertible Debt

Nations are weighing a proposal similar to the Dutch plan that would allow regulators to require banks to hold a minimum amount of a new class of convertible debt specifically designed to absorb losses if needed, according to the paper. Some countries want to go further and require such buffer layers for all lenders.

Loss-taking rules will affect the size and scope of government funds to handle resolution costs and reimburse insured depositors, the paper said. Under current proposals, countries would need to have separate, industry-funded resolution and deposit-guarantee funds.

The Irish presidency document says that deposit-guarantee funds could provide short-term funding when banks are shut down as long as the banks are closed and losses recouped. Such funds shouldn’t be used to help a bank recover, according to the document.

A spokeswoman for Ireland’s EU presidency, who couldn’t be named in line with official policy, declined to immediately comment.

To contact the reporters on this story: Jim Brunsden in Brussels at jbrunsden@bloomberg.net; Rebecca Christie in Brussels at rchristie4@bloomberg.net

To contact the editors responsible for this story: Anthony Aarons at aaarons@bloomberg.net; James Hertling at jhertling@bloomberg.net

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