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EU Lawmakers Reject Draghi Call for Bank Bondholder Clemency

The European Union’s competition authorities should resist a challenge by European Central Bank President Mario Draghi to the imposition of bondholder losses at banks that receive public aid, two senior EU lawmakers said.

Draghi has called on Joaquin Almunia, the EU’s antitrust chief, to avoid an “improperly strict” interpretation of the bloc’s state-aid rules when the European Commission polices any public support given to banks that struggle in ECB-led stress tests scheduled for next year.

“It would to my mind be a mistake to show weakness of resolve at the first test of bail-in,” said Sharon Bowles, chairwoman of the European Parliament’s Economic and Monetary Affairs Committee, referring to rules for creditor losses. “That is not what we expected from the ECB.”

An overly zealous application of the rules, which require junior bondholders to face writedowns before governments can inject capital, “may well destroy the very confidence in the euro-area banks which we all intend to restore,” Draghi said in a July 30 letter to Almunia.

In his Sept. 3 reply to Draghi, Almunia said the ECB’s assessment timetable will allow banks that foresee potential shortfalls to raise capital in advance. Regulators may “deviate” from imposing creditor losses in “exceptional circumstances,” subject to case-by-case review, Almunia said.

Taxpayers’ Interests

“The Draghi letter is a demonstration of why central banks should never get responsibility over banking resolution,” Sven Giegold, a German member of the parliament’s economy committee, said in an interview. “Banking resolution has to be done in accordance with the interests of taxpayers,” he said. “We need to move to a much stronger bail-in regime.”

The ECB-led bank tests are being organized as a precursor to the central bank becoming the euro area’s top supervisor, a move scheduled to take place by November 2014.

The ECB’s oversight powers, which were formally endorsed by EU finance ministers earlier this month, have been billed by the bloc’s leaders as the first step in building a banking union in the euro area that will sever ties between lenders and governments, and so boost confidence.

“We made them supervisor to be strong, not just a defender of weak banks,” Bowles said.

Still, Draghi’s position that “too orthodox an application of bail-in whatever the circumstances could threaten financial stability” does in some respects chime with concerns expressed by European Parliament lawmakers about a draft EU bank failure law, Gunnar Hoekmark, the assembly’s lead legislator on the plans, said in an e-mail.

While Draghi’s focus is on how to best handle essentially solvent banks that need to boost capital as a result of stress tests, parliament has sought guarantees that planned EU legislation won’t force regulators to impose bondholder losses in systemic banking crises, when forced creditor writedowns may not be the best way to protect financial stability, Hoekmark said.

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