EU INTERNAL markets commissioner Michel Barnier has fleshed out plans to compel senior bank bondholders to share bailout costs, a move that takes the European authorities a small step closer to measures ruled out of Ireland’s EU-IMF rescue package.
In a lengthy consultation document published last evening, the commissioner suggests giving new resolution authorities in EU member states statutory powers to force debt write-downs on senior and junior bondholders in failing banks.
The measures will also apply to large investment firms and insurance companies whose failure might threaten financial stability.
Mr Barnier’s 105-page document provides a greater level of detail than when he first raised his proposal last October.
Officials said, however, the EU’s executive branch has yet to definitively decide which class of debt-holder should bear costs in the new regime. Neither has it decided whether the rules should apply to all or some senior debt-holders.
The debate on burden-sharing by bank investors, which raises complex legal questions around the rights of bondholders, mirrors divisive discussions among EU leaders on the merits of compelling sovereign bond investors to take pain when weak euro countries require external aid.
In effect, the new measures would impose the cost of rescuing failing banks on investors who lent those banks money, moving some of the burden away from government and the taxpayer. “We must put in place a system which ensures that Europe is well-prepared to deal with bank failures in an orderly manner – without taxpayers being called on again to pay the costs,” Mr Barnier said.
Although some junior bondholders in institutions such as Anglo Irish Bank must take steep “haircuts” on their investments as part of Ireland’s EU-IMF rescue, moves to impose “bail-in” costs on senior bondholders were not ultimately made after the disclosure that such measures were on the table in rescue talks triggered a sharp decline in European banking stocks.
Mr Barnier plans to publish draft legislation by summer and he wants “stakeholders” to make their views known to him within the next two months. Any new legislation – agreed in a process of “co-decision” with EU governments and MEPs – is unlikely to come into force before 2013.
While the commissioner does not intend to apply any new write-down rules to debt currently in issue, a senior commission official said it was “possible” that the measures would apply whenever existing debt contracts are renewed or rolled over.
The official added, however, that the new regime was unlikely to apply to creditors whose investments were “secured” against bank assets – investors such as derivative counterparties, covered bondholders and trade counterparties – as their legal rights were very strong.
Mr Barnier’s paper said new rules could apply in either of two ways: by making all senior bank debt issued after the legislation is enacted subject to write-downs; or by compelling banks to issue a fixed volume of debt that would be subject to obligatory “bail-in” rules in the event of a bank failure.
In the first “comprehensive” approach, new resolution authorities would be given statutory power to write down by a discretionary amount or convert into an equity claim all senior debt deemed necessary to restore an institution’s solvency.
“In practice, the broader the eligible base of liabilities, the smaller any individual write-down may need to be.
“However, a broad scope may also mean a higher impact on the cost of finance compared with a narrower scope,” stated the paper.
In the second “targeted” approach, the resolution authorities could be given the power to increase the fixed minimum of debt, subject to write-down rules if deemed necessary.
The paper recognised that this approach “would not effectively ensure all creditors are at risk” and said that judging the appropriate issuance level of debt in that particular category would be challenging.
