Failed financial firms should not be bailed out by the taxpayers. Europe, unfortunately, has a weak track record of following this principle of good governance and sound economic policy. The banking union, with its new approach to supervision and resolution, is meant to improve this matter. This column introduces a new Geneva Special Report on the World Economy which reviews the resolution side of the banking union.
Thomas Philippon, Aude Salord, 22 March 2017
Giorgio Barba Navaretti, Giacomo Calzolari, Alberto Pozzolo, 12 December 2016
In the years since the Global Crisis, there has been substantial public opposition to taxpayer-funded bailouts of financial institutions. Reflecting this sentiment, a cornerstone of the EU’s post-crisis resolution framework is that losses be borne by private investors and creditors. This column surveys some of the details that need to be worked out before such bail-in measures can work. Effective implementation requires clear identification of the limits to bail-in. In particular, for such measures to be successful, bailout cannot be ruled out by assumption.
Giudici Paolo, Laura Parisi, 30 June 2016
In April 2016, Italian banks set up an equity fund intended to recapitalise troubled financial institutions in a ‘private bail-out intervention’ scenario, with a view to avoiding a bail-in under the European Bank and Recovery Resolution directive. This column analyses the main differences between a bail-in and a bail-out scenario. In particular, it compares contagion effects, and thus the total default probabilities of financial institutions in these two circumstances, in order to establish which banks would benefit more from a bail-out rather than a bail-in.
Stefano Micossi, Ginevra Bruzzone, Miriam Cassella, 06 June 2016
Following the financial crisis, the EU banking system is still plagued by widespread fragilities. This column considers the tools and legal provisions available to EU policymakers to address moral hazard and incentives encouraging excessive risk-taking by bankers. It argues that the new discipline of state aid and the restructuring of banks provide a solid framework towards these ends. However, the application of new rules should not lose sight of the aggregate policy needs of the banking system.
Ester Faia, Beatrice Weder di Mauro, 30 April 2016
The default of key financial intermediaries like Lehmann Brothers, as well as the global banking panic following the 2007-2008 financial crises, set in motion the path for a fundamental restructuring of the global financial architecture. This column argues that the most pressing question has been how to design an efficient mechanism for resolution of significantly important banks. Bail-in, as opposed to bailout, has been the worldwide solution. But this presents issues for global banks, which must adhere to the rules in many different jurisdictions.
This free online seminar on the 9th of March at 1pm - 2pm CET, with Professor Enrico Perotti (University of Amsterdam and CEPR) will offer a critical approach to capital requirements with a particular emphasis put on risk absorption capacity in the context of the new Capital Requirements Directive (CRD4) and the Financial Stability Board’s Total Loss Absorbing Capacity (TLAC) standard.
Two alternative views of capital requirements will be lined out: the buffer view and the incentives view. As part of the webinar, the risk absorption potential of equity, bail-in debt and, Contingent Convertible Debt instruments (CoCos) will be explored.
Xavier Vives, 17 March 2015
The 2007–08 crisis revealed regulatory failures that had allowed the shadow banking system and systemic risk to grow unchecked. This column evaluates recent proposals to reform the banking industry. Although appropriate pricing of risk should make activity restrictions redundant, there may nevertheless be complementarities between these two approaches. Ring-fencing may make banking groups more easily resolvable and therefore lower the cost of imposing market discipline.
Christian Thimann, 17 October 2014
Having completed the regulatory framework for systemically important banks, the Financial Stability Board is turning to insurance companies. The emerging framework for insurers closely resembles that for banks, culminating in the design and calibration of capital surcharges. This column argues that the contrasting business models and balance sheet structures of insurers and banks – and the different roles of capital, leverage, and risk absorption in the two sectors – mean that the banking model of capital cannot be applied to insurance. Tools other than capital surcharges may be more appropriate to address possible concerns of systemic risk.
Christian Thimann, 10 October 2014
Regulation of the global insurance industry, an emerging challenge in international finance, has two central objectives: strengthening the oversight of insurance companies designated ‘systemically important’; and designing a global capital standard for internationally active insurers. This column argues that it is a Herculean task because the business model of insurance is less globalised than other areas in finance; because global regulators have less experience of insurance than banking where global standards have been pursued for a quarter of a century; and because, as yet, there is limited research-based understanding of the insurance business and its interactions with the financial system and the real economy. But in the aftermath of the global financial crisis and the AIG disaster, regulators are under strong pressure to make progress.
Stefano Micossi, 05 June 2014
The European banking union is in pressing need of a unified banking resolution mechanism, but public bail-in has become increasingly unpopular. This column details new legislation towards a single resolution mechanism in the EU that minimises public exposure. The shareholders of an insolvent bank will be the first to take the hit, followed by creditors, before the public. This has the advantage also of mitigating moral hazard.
Thomas Huertas, María Nieto, 18 March 2014
The European Resolution Fund is intended to reach €55 billion – much less than the amount of public assistance required by individual institutions during the recent financial crisis. This column argues that the Resolution Fund can nevertheless be large enough if it forms part of a broader architecture resting on four pillars: prudential regulation and supervision, ‘no forbearance’, adequate ‘reserve capital’, and provision of liquidity to the bank-in-resolution. By capping the Resolution Fund, policymakers have reinforced the need to ensure that investors, not taxpayers, bear the cost of bank failures.
Stefano Micossi, 30 November 2013
Of the three pillars of the nascent European banking union, establishing a unified bank-resolution mechanism is the most pressing issue. This column suggests some changes to the existing Single Resolution Mechanism proposals. The decision to initiate resolution should be left to the ECB and national resolution authorities. Debt automatically convertible into equity when capital thresholds are violated could partially replace liabilities subject to bail-in. The Single Bank Resolution Fund must be supranational to ensure the credibility of the mechanism.