An EU lesson on the current financial crisis: Increase risks for banks

The EU has published yet another document on banking regulation but by concentrating on the future, it is ignoring how close to failure the eurozone is today

For how long can they ignore the fires of today?
Simon Miller
On 8 June 2012 10:10

Sixty-eight years ago almost to the day British, American and Commonwealth soldiers stormed the Normandy beaches in what became the final push in defence of freedom and democracy and ended the war in Europe.

Sixty-eight years on, Europe appears to be in a perpetual D-Day – although it appears to be carrying a force with one stubborn captain ignoring the rocks and other captains ignoring the water levels. They’ve no compass; not enough firepower; and they have a man on board who is constantly bailing out the landing craft.

Once again, we are treated to the glory that is decision-making in the European Union with (drum roll) yet another proposal on banking. The pen pushers have been at it again, giving us a 156-page document on how to make sure banks never put the taxpayer under strain again – at last, we have action.

Or at least we will post-2014.

Yep, this has nothing to do with today’s on-going problems.

It is not just a case of shutting the stable door after the horse has bolted; that horse has run the national, gone to stud, been shot and made into glue.

Firstly, the document claims that EU member states had no choice but to bailout the banking sector.

Wrong, there were choices but politicians bottled it. They let bad banks live. Instead of acting quickly to guarantee depositors’ money and mortgage-holders’ contracts they absorbed useless banks and gave  other banks money, leaving us in the mess that we are in now, rather than the sharp correction that was needed three years ago.

In the proposal, other parts of a banking group will be able to subsidise a troubled part of the unit. Good. I don’t particularly like the idea of non-universal banking being enforced on the financial services but how does this sit with the UK’s determination to ring-fence retail banking? Or is it just retail banking that gets cross-subsidisation?

Indeed, as much as I think the UK’s ring-fencing is a folly considering how the crisis affected our banks, surely it is a matter for our government to decide how banks registered in our country proceed?

The EU also proposes that is will install a “special manager” from high with the primary duty to “restore the financial situation of the bank and the sound and prudent management of its business” if a bank is likely to miss its capital requirements.

Well we’ve seen how well the imposition of a technocrat works on a national level, but aside from that, what right does a regulator have to decide that someone they appoint will be better skilled at turning a bank around? 

Where does the board get a say in this or does governance and ownership mean nothing now?

And there is this humdinger from the EC: if you are a shareholder, or a debt holder, you could potentially end up with nothing. This is because the EC says that if there is “no alternative action”, and if it’s “in the public interest”, authorities should take control of the institution and initiate decisive resolution action.

Why? Well, “the interference in the rights of shareholders and creditors which the tools entail is justified by the overriding need to protect financial stability, depositors and taxpayers”.

I’m sorry, what? Don’t the idiots see what this does? Did they not see what happened with RBS?

Instead of looking at the here and now, the bureaucrats have not only failed to actually anticipate the future but are also sending a message that could accelerate the lack of capital in the system for banks.

Think about it: you are a bank, you need capital and you have already deleveraged as much as you can. So you go to the bond market? Uh-uh. But you are too risky; bond holders have seen what happens when they lend money to European banks; haircut time and this time it will be imposed from a regulatory principle rather than voluntarily – actually that’s a contradiction. How does this square with English law on debt holdings?

OK, so no selling of debt, how about more shares?

Aside from dilution of current shareholdings – which is always a vote-winner with investors - what sort of price would a bank expect to get? And why on earth would a potential shareholder buy-in when the EC quite clearly says you are worth squat and regulators will decide whether you actually retain your investment in a once-private company.

Consider RBS. Even its chief executive admits that the former shareholders are likely to be dead before any sign of their money is available for return.

As a shareholder you take a punt. Shares go down as well as go up. Companies go bust. But it is market choice and your choice. It is your skill at judging market conditions that allow shareholders to make a profit or not. This regulated nationalisation (instead of emergency nationalisation) of bad banks removes your choice. Bye-bye; the bank thanks you for your money and hopes you enjoy that worthless bit of paper.

This is, in essence, a failure to learn from what has happened.

How exactly are bad banks to be kept off national books? In Greece, Spain and the UK to name a few, these things have been tried out and have cost governments fortunes. Even good banks are still relying on taxpayers’ money whether it is through national financing schemes or quantitative easing.

Of course there should be resolution planning, such as living wills, but these proposals completely ignore the reality of the situation.

Perhaps after consultation these kinks and idiocies will be ironed out but you have to ask, why bother? I mean why bother with all these proposals whose message could accelerate bank decline? If you were a shareholder, would you risk a punt on a European bank right now? Even a decent one? Essentially the risk factors have shot up following publication of these outdated proposals. 

Is there anyone that actually reads the paper or looks out of the window in euroland? By looking at yesterday to come up with a plan for tomorrow, they are ignoring the fires that are burning today.

Simon Miller is the Editor of Financial Risks Today. He tweets at @simontm71

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