05 November 2013

EIM Financial October 2013

Perhaps the most helpful turn of events in the month were (i) the ideas from Germany about opening the ESM in some way to non-euro members, and (ii) the statement by VP Rehn that one-off capital injections by states would normally not be counted against a state for the purposes of the EDP.

The October European Council made little progress on Banking Union – as expected – and Schäuble reiterated that legacy bank asset problems must remain a national responsibility. The legality of using impairment standards that are not yet EU law has now surfaced, but the whole issue of the balance sheets that will be published to investors in the spring (and used for any capital raising that is required) has yet to be addressed. If these turn out to mislead investors, who will be liable? Perhaps the most helpful turn of events in the month were (i) the ideas from Germany about opening the ESM in some way to non-euro members to give them the same rather limited banking backstop as euro members, and (ii) the statement by Commissioner Rehn that one-off capital injections by states would normally not be counted against a state for the purposes of the Excessive Deficit Procedure. The Commission’s Work Plan for 2014 emphasised the importance of financial regulation, as these took the first seven places on the priority list (FTT was number 24).

European Council conclusions on Banking Union: Following ECOFIN’sagreement on the SSM, the European Council discussed completing the EMU and will return to all issues in December 2013. It reconfirmed its agreement that the review on the operation of the EBA voting arrangements will take place once the number of non-participating Member States reaches four. The European Council expects full support and cooperation by the national authorities to ensure complete transparency and a rigorous approach, which is key for the credibility of the exercise. Member States should make all appropriate arrangements, including national backstops, applying state aid rules. European instruments are available according to their agreed rules. The Council also called on the Eurogroup to finalise guidelines for ESM direct recapitalisation so that the ESM can have the possibility to recapitalise banks directly, following the establishment of the SSM.

Schäuble: Banking Union – another step towards a tighter-knit Europe but Banking Union "emphatically is not and cannot be a mechanism to redistribute the burden of yesterday's crisis among its participants … Whatever legacy issues come to light now will have to be tackled nationally … The Banking Union will include a limited joint fiscal backstop for Member States in the shape of loans or capital from the ESM, but these will be last-resort instruments to be used in extreme circumstances after other sources of capital have been exhausted – and that are only subject to appropriate policy conditionality. But should all EU Member States agree to a small number of narrowly-defined treaty changes, it could go much further. Such amendments would not only allow for the creation of a truly centralised resolution authority but also for a more efficient and clearer separation between the supervisory and monetary functions of the ECB. This would make it much easier for EU Member States outside the eurozone to join, avoiding fragmenting the European single market for financial services. Such a Banking Union could ultimately grow to fill the borders of the Single Market, as it indeed should do in the logic of European integration.”

WSJ Simon Nixon: High hopes, and hurdles, for bank supervisor: Currently, most countries require banks to register a bad debt when a loan has been in default for 90 days, but beyond this, national rules differ widely, allowing plenty of scope for banks to hide problems. The European Banking Authority expects to announce a new harmonised definition but the new rules require the consent of the European Commission and are unlikely to become binding until the end of 2014. Will national supervisors allow the ECB to conduct its asset quality review on the basis of rules that don't yet have legal force and could disadvantage domestic banks—not to mention expose their own failures? Despite pushback, the ECB hopes it can win this battle, given the stakes and degree of public scrutiny. Moreover, all decisions of the supervisory board—which some estimate could number 10,000 a year—must be ratified by the ECB’s Governing Council, providing plenty of scope to push national agendas as each eurozone member has a seat on the council for its central bank chief.

(Note: In Finland, banks would lose about 1 percentage point from their capital ratios if calculations are harmonised as the EBA envisions, said an analyst at the Federation of Finnish Financial Services. Scandinavia’s banks, among the best-capitalised in Europe, argue the EBA’s approach doesn’t reflect the safety of their mortgage assets. Scandinavia’s bankers associations are now appealing the EBA’s decision. The associations, backed by the Brussels-based European Banking Federation, have urged the European Commission to reject the EBA’s method.)

VP Rehn: Letter to EU Finance Ministers on treatment of public capital injections under EDP rules in balance sheet assessment/stress tests: Rehn said that any bank recapitalisations needed after next year's AQR and the EBA's stress test would not be counted against the Member State. “Under the Stability and Growth Pact, public capital injections are, in general terms, regarded as one-off or temporary measures and as relevant factors for financial stability, which means that they do not count against the Member State in the context of the excessive deficit procedure.”

ECB starts comprehensive assessment in advance of supervisory role: The assessment will commence in November 2013 and will take 12 months to complete. It will be carried out in collaboration with the national competent authorities of the Member States that participate in the SSM and will be supported by independent third parties. The assessment will be based on a capital benchmark of 8 per cent Common Equity Tier 1, drawing on the definition of the Capital Requirements Directive IV/Capital Requirements Regulation, including transitional arrangements, for both the AQR and the baseline stress test scenario. The details concerning the stress test will be announced at a later stage, in coordination with the European Banking Authority.

EBA publishes final draft TS on NPLs and forbearance reporting requirements; issues AQR recommendations: The standards on Non-Performing Exposures and Forbearance provide common definitions and reporting templates to allow supervisors to assess the level of forbearance activities and non-performing loans on a comparable basis across the EU. The proposed definitions of non-performing and forbearance exposures rely on the existing concepts of default and impairment but provide for specific harmonisation features. In particular, the definition of non-performing exposures focuses on a 90-day past due threshold, while the definition of forbearance focuses on concessions extended to debtors who face, or may face, difficulties in meeting payments.

Reuters: EU's Barnier ready to compromise on bank resolution on how many banks will fall directly under the scope of the eurozone’s banking resolution authority, potentially limiting it to the largest institutions. "We should always remember that the SSM, if it sees a problem in a bank that is not directly under its supervision, can identify and bring it up for discussion", he said, suggesting a similar process would apply for resolution. Berlin does not like that idea. But Barnier said there were no other workable proposals for the moment. "We need a European institution to push the button. If somebody gives me a better idea (than the Commission), I'm ready to take it", he said.

Reuters: Berlin wants bank resolution mechanism open to all of EU: "It is important for the German government that solutions are found not only to formally allow the participation of such Member States, but also to do so at fair, comparable conditions", the ministry said in a statement. To recapitalise banks, the ESM is currently able to provide loans only to eurozone governments, as in the case of Spain.

Handelsblatt: Eurozone finance ministers consider ESM overhaul: The euro rescue fund ESM may undergo a major restructuring, reports the Handelsblatt. The eurozone finance ministers are considering relocating the ESM's bailout function to a subsidiary instrument. This ESM daughter would then be responsible for banks, both within and outside the eurozone, diplomatic sources told the Handelsblatt. The aim was to make it possible to include non-euro area countries in the Banking Union, as it is also open to non-euro countries. Poland, Denmark and other countries have informally indicated an interest in participating in the ECB's Banking Supervision and the new European resolution mechanism. For the banks of these countries however, a European fund would then also be required - and an ESM daughter could take on this task.

© Graham Bishop