“Bail-In” Era for Europe’s Banking Crisis Begins –Banking is Changing

“Bail-In” Era for Europe’s Banking Crisis Begins –Banking is Changing, by Don Quijones.

Banco Popular, until today Spain’s sixth biggest bank, is no more. Its assets, including a massive portfolio of small-business clients, now belong to Banco Santander, Spain’s biggest bank. … The price was €1.

Spain’s Ministry of the Economy revealed that by 3 pm Tuesday, Popular was no longer able to contain the deposit outflow. “It had exhausted all its lines of liquidity, both ordinary and extraordinary.” It had run out of collateral to cover any further lines of emergency liquidity. …

Banco Popular’s shareholders, who’d been repeatedly suckered into handing Popular fresh funds in numerous capital expansions, will be wiped out.

Holders of Popular’s riskiest bonds, its AT1 bonds and AT2 bonds, or CoCo bonds, also got wiped out. These bonds had already plunged in recent weeks.

But the bank’s senior bondholders and depositors were spared.

From the time of the Great Depression until the GFC in 2008, no depositor had lost money in a western bank. That changed after the GFC when some banks in Cyprus were allowed to go bust, and depositors lost half their money. That’s not the way it should be dealt with — the shareholders (as owners of the bank) and bondholders (sophisticated investors who lent money to the bank wholesale) should lose first, then depositors (mostly unsophisticated “investors” who lent money to the bank retail) only as a last resort.

Government bailouts are a bad thing, an invitation for disaster, because of course bank executives, knowing they and their customers will get bailed out, simply engage in riskier or even illegal behavior.

So the new banking regime throughout the western world is moving towards “bail-ins”. When a bank fails, the losses are taken by first the shareholders, then the bondholders, then the depositors. Taxpayers are no longer on the hook.

This marks the first time under the EU’s Bank Recovery and Resolution Directive, passed in January 2016, that shareholders and subordinate bondholders of a European bank have not been bailed out by taxpayers, but where “bailed in.”

And it was the first time that a banking failure was allowed to occur in either Spain or Italy whose resolution didn’t involve taxpayer intervention. Perhaps the Eurozone’s banking authorities are finally growing some teeth. The fact that financial markets received the bail-in of Popluar’s investors calmly tells the ECB that investor bail-ins are the route to go. And so the rule takes hold.

This might seem arcane and faraway now, but when the next banking crisis hits your shoes it won’t. Given the greatly elevated debt levels out there, it’s only a matter of time.