EU Leaders Use Summit to Signal No New Euro-Area Bank Backstops

European Union leaders will line up behind old plans to safeguard the banking system at a meeting in Brussels, ahead of the European Central Bank’s assessment of euro-area lenders that starts next month.

Dutch Prime Minister Mark Rutte underscored the urgency of the issue, saying he’s not convinced all euro countries will have sufficient backstops in place to handle capital shortfalls uncovered by the ECB-led assessments.

“Countries should use all necessary means to prepare their national systems, so if serious issues come out of the bank reviews they can be addressed,” Rutte told reporters before a two-day summit in Brussels that begins at 5 p.m. today. The Netherlands is ready, “but that’s not the case with all my European colleagues,” he said.

EU leaders last year sought to break the link between struggling banks and the euro zone’s sovereign-debt crisis by handing the ECB supervisory powers over banks in the 17-nation currency bloc. Once the new oversight regime is in place and “effective,” countries may be able to ask the European Stability Mechanism, the euro firewall fund, to help lenders directly. For now, those resources remain walled off.

ECB President Mario Draghi will address leaders tonight on the central bank’s plans and reinforce his calls for a systematic backstop. Draghi warned yesterday that “banks do need to fail” to prove the credibility of the exercise, so countries need to plan how they will respond.

‘Comprehensive’ Resource

At the summit, EU leaders are leaning toward a bare-bones endorsement of existing financial-system safeguards, after earlier considering calls for a “comprehensive” European resource for failing lenders. As of late yesterday, nations had discarded broad wording in favor of an itemized list of where nations can turn if their banks need capital faster than private markets can provide it.

The leaders will call for a “coordinated European approach” to preparing for the ECB-led bank tests. “Member states should make all appropriate arrangements, including national backstops, applying state-aid rules,” according to draft summit conclusions dated Oct. 23 and obtained by Bloomberg News. “European instruments are available according to their agreed rules.”

Finnish Prime Minister Jyrki Katainen said countries will need to put their own houses in order rather than look to the ESM. Plans to allow direct bank aid from the fund remain on hold as the ECB prepares its reviews.

Three-Stage Probe

“We have decided that all the countries should put their own national backstops in place and we have wanted to underline that it is private sector’s responsibility to solve their own problems,” Katainen said. “That’s why I do hope that we will continue with the line we adopted last June.”

The ECB is running a three-stage probe into the health of the euro-area banking industry that will examine about 130 banks, using a benchmark capital-to-assets requirement of 8 percent. A series of stress tests, which pit the banks’ balance sheets against a range of adverse scenarios, will be conducted with the European Banking Authority as the final step in that process.

Draghi has clashed with the Brussels-based European Commission over how to handle private investors if a bank needs more capital on a “precautionary” basis. EU state-aid rules adopted in August bar banks from accessing public aid until they force losses on junior bondholders.

Assessment Timetable

In a July letter to EU Competition Commissioner Joaquin Almunia, Draghi said EU rules need to be clarified so regulators won’t scare off investors if they order technically solvent banks to strengthen their balance sheets. Draghi said public capital needs to be available -- without wiping out subordinated debt holders or forcing them to convert to equity -- if a bank’s holdings are above regulatory minimums and also below what supervisors deem necessary in a particular case.

Almunia responded that the ECB’s assessment timetable will allow banks to raise capital in advance if they foresee potential shortfalls. The competition chief defended the guidelines as implemented and regulators could deviate from the rules in “exceptional” cases.

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