EU Bank-Failure System Needs Uniform Insolvency Law, Koenig Says

  • SRB's Koenig calls for more clarity on creditor hierarchy
  • Visco says imposing losses may have systemic, contagion risks

European Union policy makers need to standardize insolvency laws across the bloc if new bank-failure rules are to work effectively, according to Elke Koenig, head of the euro area’s central resolution authority.

“We need to consider that insolvency law is the basis for our work,” Koenig said at a conference in Frankfurt on Monday. “This is definitely an area to look into, and an area where we need to have more achievements.”

Under EU rules, shareholders and creditors must bear losses equivalent to 8 percent of a failing bank’s total liabilities including own funds before rescue funds can be tapped. How this so-called bail-in tool -- a key part of the EU’s attempts to tackle too-big-to-fail banks -- will work in practice depends a lot on the creditor hierarchies in national insolvency laws.

“We don’t have a harmonized insolvency law, we have this in 19 versions within the banking union,” said Koenig, chair of the Single Resolution Board. The “worst thing to happen” when a bank’s in crisis is a lack of clarity, transparency and certainty about “where within a creditor hierarchy institutions could stay,” she said.

Regulators worldwide have taken measures to keep taxpayers off the hook when banks fail. EU rules in the the Bank Recovery and Resolution Directive make most categories of liabilities subject to losses, and require that creditors be no worse off than they would be if a bank were liquidated in a normal procedure.

‘Contagion Risks’

The credibility of the EU’s bank-failure system has been questioned recently by top Italian officials. Finance Minister Pier Carlo Padoan and Bank of Italy Governor Ignazio Visco have said that using the bail-in tool mustn’t be allowed to put financial stability at risk.

“It doesn’t look good to say that we have bail-in in place when everyone knows that it can’t be used because of these systemic and contagion risks,” Visco said in Amsterdam last week. “We need to have a backstop in case of systemic crises, but this must be discussed very calmly and carefully.”

Koenig’s SRB has to set a minimum requirement for loss-absorbing liabilities and own funds for the banks under its purview by the end of the year, and said it would give banks enough time to meet the requirement. Only if banks have enough liabilities to fulfill the 8 percent bail-in requirement will the euro area’s industry-financed rescue fund be sufficient, she said.

One of the challenges it faces is that nations such as Germany, Italy, France and Spain have tweaked their insolvency rules in different ways to make sure those losses can be imposed.

“It’s not the pot of gold at the end of the rainbow, it is our last resort,” Koenig said. “We therefore believe that the financial means will be sufficient for future bank failures, subject to that the banks have built up adequate resources in their balance sheet.”

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