Senior unsecured creditors will be put in the firing line to cover costs from failing lenders under European Union plans unveiled today, as the bloc seeks to end an era of bank bailouts and move toward more unified financial supervision.
Michel Barnier, the 27-nation bloc’s financial services chief, said the plans, which also include the setting up of a network of national bank-financed funds to stabilize crisis-hit lenders, are a necessary step to curb excessive risk taking and take taxpayers off the hook for rescues.
“We don’t want governments to find themselves in the future with their backs to the wall, and no option but to inject public money,” Barnier told reporters in Brussels today. “Banks should pay for banks, we are going to break the link between banking crises and public budgets.”
EU leaders, including European Central Bank President Mario Draghi and European Commission President Jose Barroso, have called for a banking union with more coordination of regulation, as lawmakers seek to bolster confidence damaged by debt turmoil. EU President Herman Van Rompuy plans to report on proposed “building blocks” for deeper integration in the 17-nation euro area to the next summit of EU leaders on June 28-29 in Brussels.
“Today’s proposal is an essential step towards banking union in the EU,” Barroso said in a statement.
Under Barnier’s plans, national governments would impose annual levies on banks to ensure that a minimum amount of money, a so-called resolution fund, is immediately available to stabilize a crisis-hit lender. This would allow regulators to buy time while other steps, such as creditor writedowns, are enacted.
Banks could be asked to contribute additional financing should monies raised through annual levies prove insufficient, according to the officials. Governments would be required to lend to each other as a last resort. They would also be expected to pool their funds to tackle the failure of a large cross-border bank.
This mutual lending is “likely to receive a thumbs down from Germany” and other euro-area countries with a triple-A credit rating, said Jesper Berg, senior vice president at Nykredit A/S, Denmark’s biggest mortgage bank. Those nations will see it as a “backdoor” mutualization of debt, he said.
Barnier also proposed that national deposit guarantee programs could be merged into the planned network of resolution funds.
This wouldn’t amount to a pooling of national deposit guarantee systems in the bloc, EU officials said yesterday, and governments would still be expected to meet their obligations to depositors using national funds, should the guarantees be activated.
“Delinking the sovereign from the bank is essential and an industry-funded resolution fund is a step in the right direction,” Gilbey Strub, a managing director at the Association for Financial Markets in Europe, said in an e-mail.
“Pre-funding this pool is likely to drive stability, but as the World Bank has warned, it must be designed properly to ensure it does not encourage risk taking,” Strub said.
AFME represents lenders and brokers including Deutsche Bank AG, BNP Paribas SA and Goldman Sachs Group Inc.
The commission today reiterated its support for setting up a single EU bank resolution fund, which it said would be more effective in handling failing cross-border lenders. Still, the EU’s ability to take such a step is currently hampered by the lack of a single banking supervisor, and differing national insolvency laws.
The banking union advocated by the commission would include a single fund and unified supervision, along with an EU-wide deposit guarantee program and a shared rulebook setting out lenders’ prudential requirements, according to an e-mailed statement from the regulator.
These further measures should “involve all 27 member states” of the EU, Barnier said. As a minimum, they should encompass the 17 nations in the euro area.
The idea of a coordinated deposit-insurance system in the bloc was rejected today by Germany, which said further political integration was needed first.
“It has to be very clear that there can’t be a pooling before we have taken the necessary political and integration steps,” Steffen Seibert, a German government spokesman, said today in Berlin. “We mustn’t take the second step before the first.”
Seibert said Germany welcomed in principle Barnier’s proposals today to make bondholders pay for the costs of failing banks and establish a network of national bank-financed funds to stabilize crisis-hit lenders.
“No doubt fiscal federalism, burden sharing and deeper banking union will continue to dominate the political agenda in the weeks and months ahead,” Richard Reid, research director for the International Centre for Financial Regulation in London, said in an e-mail.
“But before then the central banks will be obliged to intervene to underpin the financial system given the glacial and disjointed approach to policy making emanating thus far from the EU,” Reid said.
For the creditor writedowns, Barnier’s proposals would give regulators the power to impose losses on holders of senior unsecured debt, as well as derivatives counterparties, once a lender’s capital and subordinated debt are wiped out. The debt could also be mandatorily converted into common shares by regulators, so shoring up a struggling bank’s equity. Any bail-in would be accompanied by the removal of management, and restructuring.
The plans will increase funding costs across the banking system by an estimated 5 to 15 basis points, according to commission figures.
This cost will be “far outweighed by the expected macro-economic benefits associated with a far-reduced likelihood of systemic financial crises and economic disruption,” the commission said.
Regulators would also have the power to parachute a so-called special manager into a lender that is struggling and deemed to be at risk.
These so-called bail-in powers to impose losses on failing banks’ bondholders wouldn’t be implemented until 2018. Other parts of the draft law would apply from the start of 2015.
Once the new rules come into force, national authorities would be expected to exhaust options such as forced bondholder losses before resorting to public money to stabilize the bank.
This measure could bring the commission into conflict with Sweden, whose Finance Minister Anders Borg has said that the EU shouldn’t prevent governments from putting public money into failing banks when they want to.
The commission is weighing additional proposals to ensure that market infrastructures such as clearinghouses can be safely wound down if they fail, the officials said.
Barnier’s plans will need to be approved by national governments and by the European Parliament before they can come into effect.
Lawmakers in the parliament indicated today that they would seek to introduce some of Barnier’s measures ahead of schedule by transplanting them into draft rules on bank capital that are meant to become law at the start of next year.
“We cannot wait an extra two and a half years for the crisis management legislation to be negotiated and implemented,” Sharon Bowles, chairwoman of the parliament’s economic and monetary affairs committee, said in an e-mail.