Eurozone guarantees all banks with…taxpayers’ money

ECOFIN Council of 15/11/2013. From left to right: Anders Borg, Swedish Minister for Finance and Wolfgang Schauble, German Federal Minister for Finance. (Council of the European Union photographic library).

Last Friday the ECOFIN council made up by the 28 EU ministers of finance, confirmed that a permanent arrangement for the Single Resolution Mechanism (SRM) and the single resolution fund (SRF) meant to deal with failing banks, will be agreed on before the end of the year covering the period after 1 January 2015. In the mean-time, there will be a guarantee similar to the regular one in place. There is every indication that ECOFIN’s final decision will go along the lines of European Central Bank’s and Commission’s proposals. Let’s take one thing at a time.

It must be reminded that the ECB recently published its opinion on the Single Resolution Mechanism and Fund, largely supporting the European Commission’s position on their enactment, the last crucial step needed to accomplish the European Banking Union. The opinion contains the following three essential requirements for effective bank resolutions: a single system, a single authority with decision-making powers and a single resolution fund financed ex ante by the banking sector.

The time plan

If an agreement is reached within this year, the regulations on the single resolution mechanism and fund will be in force as from 1 January 2015. The ECB however, in view of carrying out its supervisory duty of Eurozone banks as from November 2014 (which is the official Single Supervision Mechanism) has already initiated a preliminary exercise, to be conducted during the next twelve months, in order to test the ground of Eurozone’s unexplored banking constellation.

To this effect, the ECB announced on 23 October that it starts a ‘comprehensive assessment’ of Eurozone banks in advance of its regular supervisory role. The assessment will cover 130 systemic euro area banks accounting for 85% of the total banking system. Those banks will undergo risk assessment, asset quality review and stress test. The exercise starts this month and will be concluded in November 2014.

Testing the banking ground

According to the ECB, the assessment “will consist of three elements: i) a supervisory risk assessment to review, quantitatively and qualitatively, key risks, including liquidity, leverage and funding; ii) an asset quality review (AQR) to enhance the transparency of bank exposures by reviewing the quality of banks’ assets, including the adequacy of asset and collateral valuation and related provisions; and iii) a stress test to examine the resilience of banks’ balance sheet to stress scenarios”.

In conducting this exercise the ECB may find that some banks need urgent recapitalisation or even that one or more of them are ‘beyond limit of repair’. Consequently, the central bank says that if this entire comprehensive assessment of Eurozone banks is to be credible, there has be an arrangement in place to deal with the difficult cases which may arise.

Last Friday’s ECOFIN answered this question as follows, “in the eventuality that the comprehensive assessments/stress tests reveal a capital shortfall, the established pecking order (first private sources, then national and euro area/EU instruments) will apply”. The meaning of this passage is obviously that whatever the capital needs of a certain problematic bank, at the end of the day, it will be the country’s or the European taxpayers (national and euro area/EU instruments) who will be called to foot the bill, for the recapitalisation or the resolution of any bank.

Always the taxpayers

As if this arrangement was not clear enough, the ECOFIN further explained that, “In a first instance, banks should raise capital in the market, retain profits, undertake capital accretive sales and restructuring…If this is revealed not to be sufficient…member states should mobilise all appropriate arrangements for recapitalising banks, if needed, including through the provision of public backstops where appropriate…In the second instance, if national backstops are not sufficient, instruments at the euro area/EU level will be available as appropriate: At the euro area level, European Stability Mechanism instruments may be used in the appropriate sequencing, according to their respective agreed rules and requirements: First, the ESM can provide through its normal procedures financial assistance for the recapitalisation of financial institutions in the form of a loan to a Member State, after appropriate bail-in, in full respect of EU State Aid rules. Second, the direct recapitalisation instrument with its €60 billion ESM exposure limit…”

In brief, if a bank is either to be recapitalised or resolved, at the end of the day the burden will weigh on the unsecured lenders and depositors of the bank (after appropriate bail-in), secondly on the country’s taxpayers (provision of public backstops) and thirdly on Eurozone taxpayers (the ESM). No provision is taken to hold the bankers accountable at least with what they have pocketed from the bank in question, during say the last five years. As for the unsecured lenders and depositors of the bank (above the threshold of €100,000) most of them are either pension funds or real economy businesses. In any case, it will be the civil society to bear the burden of banks’ recapitalisation or resolution (unsecured lenders and depositors, pension funds, real economy businesses, taxpayers).

‘Investors’ interest for banks

That is why there is actually strong interest from ‘investors’ to acquire some Eurozone’s ailing banks (the Greek institutions for example), despite the fact that many of them have been rescued recently with taxpayers money. The increasing devaluation of the banks’ assets (loans in the red and investments turning sour) is not then an impediment for ‘investors’ longing to cheaply buy those failing institutions, since the European taxpayers have undertaken to recapitalise them. It is as if the ECOFIN and the Eurogroup are paving the way for the next financial crisis, by covering the cost of the present one with other people’s money.