Bank Recovery Research Articles

Should cross-border banking benefit from the financial safety net?

Using bank-level data from 84 countries, we find that a higher degree of bank internationalization is associated with higher interest expenses. Internationalization is proxied by a bank's share of foreign liabilities in total liabilities or a Herfindahl index of international liability concentration. Bank interest expenses rise relatively more with internationalization if the bank is underperforming or headquartered in a country with weak public finances, and especially at times of weak world output growth. These results suggest that liability holders of distressed internationalized banks expect less from the financial safety net since lack of an efficient recovery and resolution regime for international banks can make their insolvency very costly to deal with.

Reducing and sharing the burden of bank failures

This report demonstrates that the contingent liabilities associated with efforts to limit the adverse externalities stemming from failures in the European banking sector are substantially decreasing as a result of new regulation. Noting that the implied shifting of losses from taxpayers to bank creditors is desirable, the report recognises that losses do not disappear. It discusses the issue of where bank recovery or resolution bail-in losses may go. It underlines that the sectoral allocation of losses matters, but concludes that our understanding needs to be further developed and that more transparency about the structure of bank creditors would be desirable. Increasing transparency in this regard would, among other things, help assure policy makers that the new tools available can be used effectively and smoothly in actual practice. Also, raising awareness of investors in bail-inable bank debt about the associated risks should enhance the credibility of the bail-in framework.

Aligning Market Discipline and Financial Stability: A More Gradual Shift from Contingent Convertible Capital to Bail-in Measures

This article investigates the conflict between the objectives of (1) sustaining market discipline and (2) safeguarding financial stability in the context of bank resolution. Whereas the former demands full enforcement of applicable legal rules when crisis situations occur, the latter requires a more pragmatic and flexible approach. This somewhat paradoxical situation could be explained in the context of the Legal Theory of Finance. The article argues that in order to achieve both objectives of market discipline and financial stability, it is necessary to address the tension between the two objectives when designing a bank recovery and resolution framework. It is suggested that the application of contingent convertible instruments as part of amended regulatory capital requirements and bail-in measures under newly introduced bank resolution regimes need to be applied more gradually than currently foreseen by the EU legislator.

Evaluating the effectiveness of the new EU bank regulatory framework: A farewell to bail-out?

In response to the economic and financial crisis, the EU has adopted a new regulatory framework of the banking sector. Its central elements consist of new capital requirements, the single rulebook, and rules for bank recovery and resolution. These legislations have been adopted to reduce the call for government bail-out of distressed banks in future crises.The present study performs a detailed quantitative assessment of the reduction in public finance costs brought about by the introduction of these rules. We use a microsimulation portfolio model, which implements the Basel risk assessment framework, to estimate the joint distribution of bank losses at EU level. The approach incorporates the complete safety-net set up in EU legislation to absorb these losses, explicitly modelling enhanced Basel III capital rules, the bail-in tool and the resolution funds.Using a near-full sample of commercial, cooperative and savings banks in the EU, we quantify the cumulative effects of this safety-net and the contribution of each individual tool to the total effect. Considering a crisis of a similar magnitude as the recent one, our results show that potential costs for public finances decrease from roughly 3.7% of EU GDP (before the introduction of any new tool) to 1.4% with bail-in, and finally to 0.5% when all the elements we model are in place. This latter amount is very close to our estimate of leftover resolution funds and the size of the Deposit Guarantee Scheme.This exercise extends the quantitative analyses performed by the European Commission in its Economic Review of the Financial Regulation Agenda by developing additional scenarios, crucial robustness checks, simulations for different annual data vintages, and by implementing some methodological improvements.

The Implementation of the BRRD in Italy and its First Test: Policy Implications

Eleven months after the deadline, in November 2015, Italy implemented the Bank Recovery and Resolution Directive. The detailed structure of the Directive drove most of the choices, but the Italian implementing acts are overall clearer than the Directive, especially in outlining the sequence of decisions that the competent authorities and the resolution authorities have to take with respect to a bank that is failing or likely to fail. Less than a week after their enactment, the new rules were applied to resolve four regional banks that until then had been under temporary administration. Although the resolution has been carried swiftly and in accordance with the principles of the Directive, this apparently minor case shows two lessons: that almost all banking crises will be handled with the new rules, liquidation being confined to micro-banks, and that the practical challenges of resolution actions are enormous.

Bail-in in the Banking Union

On 1 January 2016, the Single Resolution Mechanism as the second pillar of the EU’s Banking Union became fully operational. At the same moment, bail-in, i.e. the statutory power of resolution authorities to cancel shares and to write down or to convert liabilities of a bank which is failing or likely to fail, became mandatory in the EU. This paper sets out the newly created regulatory framework on the recovery and resolution of banks in the EU, focusing on the main features of the EU’s rules on bail-in in the Banking Union. It examines the legal and economic impact of bail-in in general and highlights the various challenges for the application of bail-in. Finally, this paper assesses whether bail-in can attain the goals which it is meant to achieve and what it will take to make it effective.

European Banking Recovery and Resolution Directive: Potential Impacts on European Systemic Important Financial Institutions

<p><em>The great recession heralded in by the subprime mortgage crisis, took a dramatic turn for worse as a result of collapse of the Lehman Brothers bank in September 2008. The crisis deemed to be the most devastating after the Great Depression of 1929, had a debilitating effect on world economies, developing and advanced alike. The extent of its devastation which is still being felt in Europe and many parts of the globe reminds us the interconnectedness of financial institutions, particularly those tagged TBTF or SIFIs. Policy makers scrambled to curtail the ugly effect of the crisis by rescuing the SIFIs within their jurisdiction largely through bailout mechanism and provision of implicit guarantee for the debts of failing/failed institutions. As soon as the tide is stemmed, they cast their gaze on new crisis resolution and recovery measures that could rein in systemic risks associated with SIFIs, prevent future crises and reduce the concomitant moral hazards in the current resolution measures. The objective of this paper is to assess ex ante the potential impacts of implementing the new Banking recovery and resolution directives on Europe’s TBTF banks.</em></p>

What is a bank resolution measure – and what is not?

The Bank Recovery and Resolution Directive (BRRD) created an EU legal framework for dealing with failing banks. This article examines the implications of a pivotal case that tested what constitutes an effective resolution matter. It argues there is a fine balance to be struck here. On the one hand giving automatic effect to any resolution measure would be dangerous for the common resolution framework. On the other hand, courts might be tempted to follow a restrictive interpretation of which resolution measures fall within the BRRD in order to safeguard their jurisdiction.

Bail in / bail out (the solvency risk)

Modern banking industries operate in a complex macroeconomic environment which cyclically enters the stages of global economic crises. One of the consequences of these cyclical stages is the serious threat to the financial position of banks. In the case of big, systemically important banks that are mainly internationally active through subsidiaries in different countries, the risk of insolvency has suggested that this could result in much broader implications for the economic and financial sector of the country. In order to prevent the collapse of large, systemically, and beyond, important banks, the European Parliament and the Council adopted a framework for the recovery and resolution of credit institutions and investment firms, which introduced the 'bail-in 'mechanism with the aim of transferring the burden of bank recovery to the private sector.

Cross‐border coordination of bank resolution in the EU: All problems resolved?

Among the many technical challenges that continue to have an impact on the effective resolution of large, complex, internationally active banking institutions and groups, the cross-border coordination of measures taken in different jurisdictions clearly is one of the most difficult to address. Given complex – and usually conflicting – vested national interests in home and host jurisdictions, cooperation requires not just a robust decision-making infrastructure, but also depends on the predictability of the economic outcomes of resolution – and on the fairness and reliability of ex ante commitments to joint burden-sharing. Given the dimension of these preconditions, it is hardly surprising that some jurisdictions, including, notably, the USA, have opted for ‘isolationist’, unilateral resolution actions vis-a-vis foreign-owned banks instead. The present article critically evaluates the new framework for cross-border bank resolution under the European Bank Recovery and Resolution Directive and the Single Resolution Mechanism as a counter-example, and identifies residual shortcomings in this regard.

Bad assets options and bank resolution in Europe

Purpose – This paper analyzes the new EU Bank Recovery and Resolution Directive (BRRD) to determine the level of guidance on instruments to wind-down bad asset portfolios of asset management vehicles. In the absence of such detailed guidance stipulated by the BRRD, the aim is to provide certain practical guidance to future resolution planning and execution. Design/methodology/approach – This paper draws upon experience from portfolio reduction strategies applied at European bad banks in the aftermath of the 2008 financial crisis. For illustration purposes, the paper use case study data from a bad bank located in the eurozone. Findings – For the new European Commission, implementation and enforcement of the Banking Union within the eurozone is currently a key priority. Present efforts are mainly directed towards minimum technical standards. However, the fundamental question of how to orderly unwind a bad assets portfolio without the usage of public funds remains partly addressed only. While a uniform approach to any bad asset does not seem to be applicable, certain lessons learned from previous financial crises may contribute to a selection of reduction strategies. Research limitations/implications – This paper draws upon experience from portfolio reduction strategies applied at European bad banks in the aftermath of the 2008 financial crisis. It includes case study data from the wind-down of a eurozone bad bank detailing the asset reduction strategies achieved so far. Such per asset class wind-down patterns have not been published and commented on in academia so far.

Ectomycorrhizal fungal spore bank recovery after a severe forest fire: some like it hot.

After severe wildfires, pine recovery depends on ectomycorrhizal (ECM) fungal spores surviving and serving as partners for regenerating forest trees. We took advantage of a large, severe natural forest fire that burned our long-term study plots to test the response of ECM fungi to fire. We sampled the ECM spore bank using pine seedling bioassays and high-throughput sequencing before and after the California Rim Fire. We found that ECM spore bank fungi survived the fire and dominated the colonization of in situ and bioassay seedlings, but there were specific fire adapted fungi such as Rhizopogon olivaceotinctus that increased in abundance after the fire. The frequency of ECM fungal species colonizing pre-fire bioassay seedlings, post-fire bioassay seedlings and in situ seedlings were strongly positively correlated. However, fire reduced the ECM spore bank richness by eliminating some of the rare species, and the density of the spore bank was reduced as evidenced by a larger number of soil samples that yielded uncolonized seedlings. Our results show that although there is a reduction in ECM inoculum, the ECM spore bank community largely remains intact, even after a high-intensity fire. We used advanced techniques for data quality control with Illumina and found consistent results among varying methods. Furthermore, simple greenhouse bioassays can be used to determine which fungi will colonize after fires. Similar to plant seed banks, a specific suite of ruderal, spore bank fungi take advantage of open niche space after fires.

CrosssBorder Coordination of Bank Resolution in the EU: All Problems Resolved?

Substantial progress has been made, both within the Eurozone and the EU generally, with regard to the legal and institutional arrangements for cross-border bank resolution. The new framework, modeled after the FSB's Key Attributes of Effective Resolution Regimes for Financial Institutions certainly reflects a very strong commitment to cooperative rather than isolationist approaches (such as the ring-fencing of foreign-owned branches in insolvency). The paper evaluates the relevant provisions under both the Bank Recovery and Resolution Directive of 2014 and the Single Resolution Mechanism Regulation in the light of past precedents. It argues that the mere existence of this new framework does not remove residual conflicts in the economic interests of the different jurisdictions involved in cross-border cases. Only future practice will show how these conflicts can be balanced out – and whether the Eurozone, with centralised decision-making by the SRB, will compare favourably against the rest of the EU in this regard. Very likely, the cooperation arrangements as such will have to be complemented by further improvements in terms of the predictability of economic outcomes in order for Member States to submit themselves without reservations to full and unreserved cooperation over time. Even then (somewhat ironically, given the long-standing harmonisation of recognition standards within the EU), the potential for obstructions by national courts, as evidenced by recent court decisions in Germany and the United Kingdom, could yet become a severe, unforeseen source of obstacles to coherent and consistent resolution actions both within the Eurozone and the EU as a whole.

Who decides whether bail-in is legal? What comes after Cyprus and Greece?

Since the beginning of the financial crisis, the financial burdens associated with the restructuring or the resolution of distressed financial institutions were primarily borne by the states and, ultimately, by the taxpayers. This paradigm, however, is about to change. Both on a global and on a European level, the creditor bail-in is currently replacing the former taxpayer bail-out. Henceforward, private creditor rather than public taxpayer funds will be used to stabilise and restructure distressed financial institutions. With the entering into force of the European Bank Recovery and Resolution Directive (BRRD) in July of 2014, the creditor bail-in has also become the tool of choice within the European Union. This paradigm change entails considerable economic risks for creditors and depositors of financial institutions and may, as the events in Cyprus in 2013 demonstrate, also give rise to legal challenges by aggrieved parties. This article gives an overview on the legal questions surrounding a mandatory participation of creditors and depositors and suggests that the legality and thus the success of the bail-in tool in Cyprus and beyond will ultimately be for judges and arbitrators to decide.

Regulatory and Economic Incentives for Issuing Contingent Convertibles

A contingent convertible (CoCo) is a specific type of a convertible bond where conversion (or write-down of a face value) is not an option at the discretion of a bondholder but is forced when regulatory capital fails to meet a predetermined level. That unique feature creates the loss absorbing ability of a CoCo, - a regulatory goal that seems not to be effectively implemented under a pre-crisis legal framework on tier-based capital structure. Use of CoCos for bank recovery and resolution purposes is a vital element of a Bank Recovery and Resolution Directive (BRRD) legal framework. In new CRD IV/CRR regime each AT1 debt instrument must be either a CoCo or a bail-in bond.The open question is how to quantify the impact of the replacement of classical bonds by CoCos on the risk exposure of the issuer. We propose certain scheme how to calculate the decrease of risk measures like Value-at-Risk or Expected Shortfall implied by such change of the issuer’s debt policy.

International Coordination in Cross-Border Bank Bail-ins: Problems and Prospects

Bail-in is quickly becoming a predominant approach to banking resolution. The EU Bank Recovery Resolution Directive and the US Federal Deposit Insurance Corporation’s single point of entry strategy envisage creditors’ recapitalisations to resolve a failing financial institution. However, this legislation focuses on the domestic aspects of bail-in, leaving the question of how it is applied to a cross-border banking group open. Cross-border banking resolution has been historically subject to coordination failures, which have resulted in disorderly resolutions with dangerous systemic effects. The goal of this article is to assess whether bail-in is subject to the same coordination problems that affect other resolution tools, and to discuss the logic of international legal cooperation in bail-in policies. We demonstrate that, in spite of the evident benefit in terms of fiscal sustainability, bail-in suffers from complex coordination problems which, if not addressed, might lead to regulatory arbitrage and lengthy court battles, and, ultimately, may disrupt resolutions. We argue that only a binding legal regime can address those problems. In doing so, we discuss the recent Financial Stability Board’s proposal on cross-border recognition of resolution action, and the role of international law in promoting cooperation in banking resolution.

The Recovery Framework in the BRRD and its Effectiveness

The EU has made great endeavors in establishing a bank resolution procedure after the global financial crisis (GFC). In April 2014 the directive on establishing a framework for the recovery and resolution of credit institutions and investment firms (referred to as The Bank Recovery and Resolution Directive, the BRRD) was finally adopted, which set up the basic framework for the resolution regime in the EU. The BRRD includes a three-step resolution framework: recovery and resolution planning, the early intervention, and the resolution. This article analyses the effectiveness of the pre-resolution recovery framework, including the intra-group support, recovery and resolution planning, and the early intervention in the wake of bank failures, such as Lehman Brothers fall. It aims at assessing to which extent the new recovery framework enhances the resilience of banks and facilitates orderly resolution procedure of failing banks.

Optimizing flotation bank performance through froth depth profiling: Revisited

This communication revisits previously reported results on froth depth profiling along a rougher flotation bank. The optimization problem is reformulated as to maximize the overall bank Cu recovery subject to a lower bound constraint on the overall Cu concentrate grade. This formulation differs from that originally proposed in Maldonado et al. (2007) where the sum of the squared Cu tailing grade of each cell group was minimized for a given target bank Cu concentrate grade. A semi-empirical steady-state mathematical model of a bank of cells previously validated using industrial flotation data from Los Pelambres mine in Chile was used to simulate the process. In order to improve resolution a genetic algorithm was implemented to search for the optimal froth depth profile as opposed to the discrete dynamic programming technique originally implemented. Results show that optimal froth depth profiling resulting from solving the reformulated optimization problem produces an increase in the overall bank recovery for a given target Cu concentrate grade compared to that obtained when solving the original formulation. Moreover, the resulting optimal mass-pull profile tends to be more balance in the first cells which partially agrees with recent observations.

Doctrine of public good in banking versus state intervention

This article has the following thesis: changes in banking and the role of banks in real economy in recent years give an argument for treating banks as a public good. Banks received great support from governments as a result of the subprime crisis. G-20 and European Commission recommended new regulations for this sector after the crisis. As a consequence of banking development, more than 90% of the population use banking services in many countries. New social functions of banks have appeared. Doctrines about recovery and government support for banks were changed in parallel (e.g. LoLR). Presently, there are some arguments for recognition of public good doctrine in banking such as: a very big area for state regulation, state banking supervision, state system of deposits insurance, realization of task delegated by the state, social responsibility of banks and others. These arguments confirm that banks’ activity has a particular importance for the society and the economy, and would be public good.

Bank Resolution Financing in the Banking Union

In early 2012, the Spanish state came under strong market pressure due to its engagement in round after round of large-scale bank bailouts. The country’s joint sovereignbank crisis shed new light on the nature of the euro area’s crisis. European decision-makers were forced to openly recognize the non-fiscal – that is, the banking and monetary – causes of sovereign distress and to accept the need for drastic policy solutions. The policy shift soon took concrete form with the launch of the Banking Union project in June 2012. The principal intention was to break the bank-sovereign link and to relieve the euro area’s weaker economies from the almost impossible burden of having to finance bank bailouts out of national fiscal resources. The mutualization of bailout costs through a common ‘fiscal backstop’ was, in other words, the key objective of the Banking Union as originally conceived. Subsequent policy choices, however, have marked a relaxation, if not partial abandonment, of this objective. The policy approach eventually adopted with regard to resolution financing in the context of the Banking Union’s Single Resolution Mechanism (SRM) is based on the burden-sharing norms of the Bank Recovery and Resolution Directive (BRRD), the instrument harmonizing bank resolution regimes across the EU. This guarantees the legal consistency of resolution frameworks within and outside the euro area. It is less certain, whether the chosen approach can insulate national state finances from the costs of bank bailouts and/or ensure the full equalization of the financial conditions for bank resolution everywhere in the euro area. The sufficiency of the planned common financial instruments is a particular concern.