First Steps Towards Banking Union Agreed…

…with respect to 200 banks.

As the FT reported today, eurozone finance ministers agreed a plan for a common bank supervisor in the early hours of this morning.  Beginning in early 2013, the ECB will take responsibility for the supervision of banks – but only those having assets of more than €30bn, or representing more than a fifth of a state’s national output.  In addition, there are no explicit provisions governing timeframes in which the ECB is to assume responsibility for the EU’s biggest banks.

The single supervisor is seen as the first, and easiest, step in the three-stage process which will lead towards EU banking union, the other stages being the creation of a EU-wide common deposit guarantee scheme and a single European recovery and resolution framework.  An inability to confidently take this first step does not bode well for the future.  If banking union is to mean anything is must surely create a level playing field, not the two-tier regime threatened by the current political fudge.

ECB Publishes Opinion on RRD

Introduction

On 5 December 2012, the European Central Bank (ECB) published its opinion on the EU’s draft directive establishing a framework for recovery and resolution of credit institutions and investment firms (the “Recovery and Resolution Directive” or “RRD”).

In general, the ECB fully supports the RRD, welcomes the fact that it is in line with the FSB’s “Key Attributes” document and believes that it should be adopted rapidly.  It also encourages the EU to take further steps to implement an independent European resolution mechanism, which it views as one of the three banking union pillars.  Beyond clarifying its general position, the ECB also made a number of more specific observations, a summary of which are provided below.

Definition of resolution

The ECB notes that “resolution” under the RRD involves, inter alia, restoring the viability of all or part of a failing institution.  However, it is of the opinion that, if there is no public interest element to a proposed resolution action, the institution in question should not be resolved as a going concern and instead should be liquidated under normal national insolvency law.  As such, the ECB is of the view that the RRD should be amended to clarify that the aim of resolution is not to preserve a failing institution, but to ensure the continuity of its essential functions.

Resolution conditions and the need for extraordinary financial public support

In the interests of “prompt and efficient resolution action”, the ECB believes that the relevant competent authority should have responsibility for determining whether an institution is failing or likely to fail (and thus has triggered the conditions for resolution).  Moreover, this determination should be based solely on an assessment of the situation of the institution in question.  It should not be based on an institution’s particular need for State aid, although the circumstances surrounding any grant of State aid would be relevant in assessing the institution’s general situation.

Involvement of central banks in recovery and resolution

In recognition of the role of central banks in promoting macro-prudential and financial stability, the ECB recommends that, where a central bank is not itself the resolution authority, the relevant competent authority and resolution authority engage in an “adequate exchange of information” with the central bank.

With respect to the use of the bridge institution and asset separation tools, the ECB believes that the RRD should clarify the fact that, where a central bank acts as a resolution authority, it will not assume any financing obligations with respect to either the bridge institution or the asset management vehicle created pursuant to the asset separation tool.

Involvement of national designated authorities in assessment of recovery plans

The ECB recommends that, when assessing recovery plans, competent authorities consult with competent national designated authorities (to the extent that they are separate entities).

Intra group financial support

The ECB considers that further investigation may be required into whether additional provisions are necessary in order to ensure the legal certainty and enforceability of voluntary intra-group financial support arrangements.

The bail-in tool and write down powers

The ECB believes that bail-in should be used predominantly for the resolution of institutions that have reached a point of non-viability.  Any use of the tool to restore a failing institution to the position of a going concern should only be considered in “exceptional and justified” circumstances.

The ECB also notes that the RRD requires the European Banking Authority (EBA) to report to the EU Commission on the implementation of the requirement for institutions to maintain an aggregate amount of own funds and eligible liabilities expressed as a percentage of total liabilities.  The ECB believes that further investigation, together with an impact assessment, should be conducted as to whether the minimum requirement should be expressed as a percentage of total liabilities or as a percentage of risk weighted assets – it being thought that the latter may represent a better measure of the riskiness of the assets of the institution in question.

The ECB further recommends that the EBA conduct an assessment of whether it would be beneficial to introduce a prohibition or limitation on the banking sector’s ability to hold instruments which are eligible for bail-in.  It also suggests amending Article 38(2) of the RRD to make clear that all liabilities to members of the European System of Central Banks (ESCB) are explicitly excluded from the application of the bail in tool, on the basis that EXCB members are public bodies whose basic tasks require them to have exposures to institutions.

Financing of resolution

The ECB is concerned that the proposal to set up a European system of resolution financing arrangements will not solve all cross-border resolution issues.  In particular, the current proposal for 27 national arrangements which can borrow from, and lend to, each other suffers from a lack on clarity with respect to details such as the rights and obligations of lenders and borrowers.

Deposit guarantee schemes (DGS)

The ECB supports the proposal that any available resources of a DGS should be available to finance resolution, but warns that this should not be allowed to compromise the core DGS function i.e. the protection of insured deposits.

In contrast to the proposed RRD, which requires Member States to ensure that DGS rank pari passu with unsecured non-preferred claims under national insolvency law, the ECB recommends that Member States should be allowed to establish preferential ranking of claims that the DGS has acquired by subrogation (i.e. after having paid out the amount corresponding to covered deposits).  This, it believes, would help ensure that sufficient funding is always available to the DGS.

Disclosure of marketing materials

The RRD currently allows for a delay in publication of any public disclosure regard the sale of any part of an institution under resolution.  The ECB recommends extending this power to facilitate a delay in the publication of any price sensitive information relating to publicly traded financial instruments of the institution under resolution.

Further harmonisation of recovery and resolution rules

The ECB supports the development of a recovery and resolution framework for systemically important non-bank financial institutions e.g. insurance companies and market infrastructures.

 

UK Continues to Fret Over Banking Union

On 4 December 2012, the House of Lords Sub-Committee on Economic and Financial Affairs wrote a letter to Greg Clark MP, Financial Secretary to HM Treasury, regarding the EU Commission’s proposal for a Single Supervisory Mechanism (SSM).

The Committee believes that EU banking union is “urgently required” but recognises that it has potentially significant risks for the UK, particularly regarding the:

  • risk of marginalisation and isolation on financial sector matters and the damage that this could do the position of London as a financial centre;
  • threat to the integrity of the single market arising from amended voting structures within the EBA;
  • possibility that the authority of the EBA (to which all 27 Member States are a part) could come under the influence of the ECB (which would supervise the operation of the SSM); and
  • possible conflict of interest between the SSM supervisory role of the ECB and its responsibilities with respect to EU monetary policy.

The Committee is concerned with the proposed timetable for agreement of the SSM, which it regards as rushed and “wholly unrealistic” (although if this FT article is anything to go by we may not see banking union as soon as was first thought).  It also regards attempts to implement banking union without a common deposit scheme, as required by Germany, as being “unsustainable”.

EU Parliament adopts Resolution Approving Single EU Banking Supervisor

Introduction

On 13 September 2012, the EU Parliament published a press release announcing that it has adopted a resolution relating to the establishment of a single EU banking supervisor.  The resolution was adopted the day following the publication by the EU Commission of two legislative proposals on EU banking union.

In passing the resolution, the EU Parliament warned that EU banking supervision rules must be of “good quality”, transparent and accountable, noting that the current preferences of certain Member States “risk sending the wrong message, as well as perpetuating inefficiencies”.  Presumably, this is a reference to German objections to the establishment of a single deposit guarantee scheme, seen as one of the next necessary steps on the road to full banking union, which led to this aspect of the project being shelved, as reported in the Financial Times.  The EU Parliament also seem aware of the need to protect the functioning of the EU single market, an issue preying on the minds of non-eurozone EU countries, as highlighted in this FT article.

EU Council Proposal regarding a Single Supervisory Mechanism (SSM) for credit institutions

ECB Powers

After a transitional period (see below for more details), the European Central Bank’s (ECB) powers will apply to all credit institutions, regardless of their business model or size.  Member States that have not adopted the Euro will be able to participate in the SSM provided that they abide by and implement relevant ECB decisions.   The EU Commission proposals give responsibility to the ECB in a number of areas regarding the supervision of Eurozone EU credit institutions, including:

  • authorisation and withdrawal of authorisation;
  • the assessment of acquisitions and disposals of holdings in credit institutions;
  • the removal of a member of a credit institution’s management board;
  • capital requirements as well as exposure, leverage and liquidity limits;
  • the conducting of stress-tests;
  • the initiation of early intervention measures to restore institutions which are in danger of breaching regulatory capital requirements (this is to be done in co-ordination with national resolution authorities pending the conferral of resolution powers on a European body);
  • assumption of the role of host supervisor for credit institutions established in non-participating Member States which establish a branch or provide cross-border services in a participating Member State;
  • assumption of the role of both home and host supervisor for credit institutions exercising the right of establishment in other participating Member States;
  • assumption of the roles currently held by all participating Member States within colleges of supervisors set up to consider cross-border banking groups;
  • the ability to require information from, and conduct investigations (including on-site inspections) of, credit institutions, their group companies, persons involved in or otherwise connected to their activities and national competent authorities; and
  • the imposition of sanctions for breach of regulations in an amount of up to twice the profit gained or loss avoided because of the breach (where this can be determined), or up to 10% of the total annual turnover of the relevant institution in the preceding business year.

Role of National Supervisors

All tasks not specifically conferred on the ECB will remain with national supervisors.  This will include responsibility for consumer protection, anti-money laundering, and the supervision of third country credit institutions establishing branches or providing cross-border services within a Member State.  In addition, the day-to-day activities necessary to implement ECB decisions appear likely to be performed by national supervisors.  Applications for authorisation as a credit institution within a participating Member State will also initially be administered by national competent authorities, which shall propose to the ECB whether the conditions of authorisation have been met and therefore whether the ECB should grant the authorisation.

Role of the EBA

The ECB would not take over any tasks of the European Banking Authority (EBA).  Specifically, the EBA would retain responsibility for the development of a single rulebook and ensure convergence and consistency of supervisory practice.

Independence and Accountability

The ECB must maintain independence when carrying out its banking supervision role and will be accountable to the European Parliament and to the EU Council.  Monetary policy tasks will be strictly separated from supervisory tasks to eliminate potential conflicts of interest between the objectives of monetary policy and prudential supervision.

Entry into force and Transition Period

The regulation creating the SSM will enter into force on 1 January 2013 (although this FT article would suggest that this deadline may be missed), and will adopt a phased approach.  Although, by way of notification to an institution and its national regulator, the ECB could choose to apply its powers to any bank from the outset, it is envisaged that it will initially apply to those banks which have received or requested public financial assistance, following which it will be extend to the most systemically important banks.  The ECB shall make public a list of those institutions over which it has a supervisory role before 1 March 2013.  Remaining banks will fall under the ECB remit by 1 January 2014 at the latest.

Supervisory fees

The ECB shall levy fees directly on credit institutions in order to cover the costs of the SSM.  The level of fees will be proportionate to the  importance and risk profile of the credit institution concerned.

First Steps Towards EU Banking Union to be Finalised by End of 2012

The EU Commission has published a speech given on 3 September 2012 by Olli Rehn, Vice-President of the European Commission and member responsible for Economic and Monetary Affairs and the Euro on EU banking union entitled “Towards a Genuine Economic and Monetary Union”.

The EU Commission sees banking union as a top priority and proposes a two-stage process.  The first stage involves the establishment of a Single Supervisory Mechanism (“SSM”) for Eurozone banks under the authority of the European Central Bank (“ECB”).  Note, however, that this press release from the European Parliament would suggest that the authority to supervise non-Eurozone banks would remain with the European Banking Authority.

 The legislative proposal for the SSM will be presented by the EU Commission within two weeks, with a view to it being finalised by the end of 2012.  The SSM will apply to all Euro area Member States, but other Member States will be free to participate if they so choose.  As even small banks can represent a source of systemic risk, the SSM will apply to all Eurozone banks.  Whilst the ECB will have prime responsibility for the administration of the SSM, national supervisors will continue to play an important role.

The second stage of banking union will involve the creation of a common deposit guarantee scheme as well as for a single European recovery and resolution framework.

UK Government Comments on the Proposed RRP Directive

On 12 July 2012, the House of Commons European Scrutiny Committee published its seventh report of the 2012/13 session.  The report provides a helpful summary of the proposed EU RRP Directive, together with the UK Government’s views on some of its central themes.

The UK Government broadly welcomes the draft Directive, believing that it will contribute towards increasing the resolvability of financial institutions whilst reducing their reliance on public support.  It agrees that a minimum set of resolution tools are necessary, and particularly welcomes the introduction of bail-in powers.  However, the government does express concerns about some aspects of the Directive, specifically:

  • It is of the view that the ability of Member States to take steps to enhance the resolvability of institutions and to take resolution actions must not curtailed, and points to the risks associated with “overly prescriptive procedural arrangements” such as the time periods for escalating disagreements over group resolution approaches to the EBA;
  • It questions the European Banking Authority’s (“EBA”) proposed binding mediation role, querying whether this could potentially limit Member States’ use of both preventative and resolution tools and stating the belief that decision making with respect to measures to enhance the resolvability of groups, resolution planning and resolution action should be left to the authorities of individual Member States due to their local effects on taxpayers, depositors, creditors and investors;
  • It questions the need for the significant number of proposals for the EU Commission to adopt delegated acts and technical standards drafted by the EBA;
  • It is considering the appropriateness of the proposed resolution powers and resolution financing arrangements;
  • It questions the need for the intra-group financial support provisions, expressing its concern that, if triggered, the provisions could actually increase contagion risk within a group;
  • It expresses concern that the use of the special manager tool could actually result in reduced confidence in a distressed financial institution thus aggravating the very problem it is designed to avoid;
  • It agrees that appropriate resolution financing mechanisms are necessary but is considering further the proposal for ex-ante resolution funds, which it believes could operate undermine the credibility of the resolution tools (particularly the bail-in tool) and so could create moral hazard; and
  • It expresses its concern that the proposal to allow borrowing between the resolution funds of individual Member States and the proposal to mutualise the costs associated with resolving a cross-border group, may result in individual Member States contributing to the resolution costs of financial institutions over which they have no supervisory control.

“British taxpayers will not be guaranteeing any Eurozone banks”

In a statement published on 29 June 2012, following the close of the EU Council meeting held on 28 and 29 June 2012, the heads of all EU Member States called on the EU Council to consider proposals for a single EU banking supervisor by the end of 2012 and as a matter of urgency.  In a Parliamentary statement, the UK government confirmed its support for such measures, but was equally clear that “Britain will not be part of any common deposit guarantees or under the jurisdiction of any single European financial supervisor”.

Seminar on Preparing a Recovery and Resolution Plan

On 13 July 2012, DRS, together with SNR Denton, will be presenting a half-day workshop on the law and practice relating to Living Wills at the British Bankers’ Association headquarters in London.  The latest regulatory guidance on RRP will be discussed, including:

  • The FSB’s “Key Attributes of Effective Resolution Regimes for Financial Institutions” Discussion Paper;
  • The FSA’s Feedback Statement 12/1;
  • The EBA Discussion Paper on a Template for Recovery Plans; and
  • The draft EU Directive Establishing a Framework for the Recovery and Resolution of Credit Institutions.

Specifically, we will be suggesting a template for a recovery plan and discussing some of the practical issues currently facing market participants in completing their RRP submissions as well as some possible solutions.

More information about the event and an online registration form are available here.

Please join us if you can.  If you aren’t able to attend on the day but are nonetheless interested in the subject, just let me know and we’d be happy to make alternative arrangements.  My contact details are on the “About” page of this blog.

Support Grows for a Central EU Bank Resolution Authority

EU Commission President, Jose Manuel Barroso has joined the growing call for all banks within the 27 Members States of the EU to be subject to a single cross-border supervisor, a single EU-wide deposit guarantee scheme and a single rescue fund.  According to Mr Barroso, legislation could be in place as soon as 2013.

The UK and Germany are seen to be rather more cautious.  The UK is supportive of the idea in principle, but sees the issue of central regulation as one which relates to banks within the single currency area only and not the entire EU.  However, it will be relieved to hear that Mr Barroso believes that the UK should be able to opt out of the plan if it so chooses.  For its part, Germany also largely supports European banking regulation but is wary of the risk that it will end up supporting banks in the weaker EU periphery countries, seeing the issue as being inextricably linked to the more fundamental issue of greater fiscal union.

An FT interview with Mr Barros is available here:

http://www.ft.com/cms/s/0/ccb2fda0-b3cd-11e1-8b03-00144feabdc0.html#axzz1xflk5QrY

(subscription required)

EU Commission to Publish Proposals for Bank Recovery and Resolution Today

Today, the EU Commission will publish its proposals for Bank Recovery and Resolution.  According to the FT, this initiative which will be presented as an “embryonic version of the much vaunted banking union”, ultimately involving the possible creation of a single EU supervisor, deposit guarantee scheme and resolution authority.

The article can be viewed here:

http://www.ft.com/cms/s/0/50028acc-af28-11e1-a8a7-00144feabdc0.html

(subscription required).