Forbearance Incentives: Undermining the Distinction between Going and Gone-Concern Capital

Abstract

In absolute terms Contingent Convertibles (‘CoCos’) and the bail-in power achieve the same goal: the conversion of debt into equity or the write-down of debt. CoCos are issued as part of bank capital requirements under the Fourth Capital Requirements Directive and its Regulations. On the other hand, bail-in is a power under the Bank Recovery and Resolution Directive that can be applied by a regulator as part of resolution. CoCos are part of bank capital rather than being a resolution power and therefore we would expect that a conversion or write-down of a CoCo would take place prior to a bank being placed into resolution. This paper argues regulatory forbearance incentives mean that a CoCo trigger might occur concurrently with a bail-in rather than before a bail-in.