Italian governor criticises bank resolution rules

The European Union's bank recovery and resolution directive (BRRD) may cause financial instability, Italy's central bank governor warned on May 5.

Ignazio Visco also criticised the European Commission's policy on state aid to troubled banks, in his speech at the European University Institute.

The BRRD meant "a wide range of liabilities are subject to bail-ins" with large corporate sight deposits included". Under the BRRD, there was also "a rather short learning time provided to creditors".

In a "world of asymmetric information", Visco said, these provisions could be "a source of serious liquidity risk and financial instability".

The Bank of Italy and the country's finance ministry had unsuccessfully argued for a "contractual" or "targeted" bail-in model during the BRRD negotiations, Visco said. In this model, bail-ins would only apply to newly issued securities containing a specific clause stipulating they might be converted or written down by the financial authorities in the event of a crisis.

Instead, Visco said, in 2013, the commission had extended burden-sharing schemes for troubled banks to include shares and subordinated bonds.

The BRRD, ratified by European political leaders and parliamentarians in 2014, had further extended bail-ins to include ordinary bonds and deposits over €100,000 ($114,244). The EU should consider adopting contractual bail-ins, Visco argued, under the BRRD's scheduled review, due to be completed by June 2018.

Current European policy placed the prevention of state aid and the encouragement of competition above safeguarding financial stability, Visco said.

Commission policy had been adopted in 2013 "based on the unfortunately premature conviction that the difficulties of European banks had by then been dealt with", Visco said.

The policy "greatly limits government intervention to support banks that are fundamentally viable", he argued. Any public intervention in a bank that the commission classified as state aid would automatically trigger the BRRD's resolution procedure.

Guarantee fund excluded

Commission policy and the BRRD had made "impossible" the recapitalisation of four failed Italian banks using the local deposit guarantee fund, Visco said separately, on April 19. His testimony to an inquiry into banking by the Italian Senate was translated into English this week.

Visco also told the Senate most of the Bank of Italy's interventions in troubled banks had been kept secret under Italian banking law. Since 2008, the central bank had overseen 65 cases of "special administration" of commercial banks, Visco said. Most of these banks had returned to ordinary operations.

Regulators had had to make public interventions in four banks, he said, including changing their management: Banca Monte dei Paschi di Siena, Banca Carige, Banca Popolare di Vicenza and Veneto Banca.

Italy's interbank deposit protection fund had been willing to help recapitalise the four banks, but the commission regarded this as state aid, Visco said. Had the fund become involved, he said, commission rules would have required subordinated bondholders to be bailed in.

This was not envisaged by Italian law, Visco argued, until the implementation of the BRRD in mid-November 2015. Contributors to the deposit protection fund might have been successfully sued by bailed-in bondholders, "completely cancelling the effect" of the fund's intervention, Visco said.

The commission then decided solvent banks' participation in a voluntary recapitalisation without the use of mandatory funds from the protection scheme would not be classified as state aid.

The commission had, however, only told the Italian government of this on November 19, 2015, Visco said. This left the Italian banking system "unable to organise such an intervention in the short time available" because of the failing banks' "precarious liquidity".

The four failing banks then reached "the point of no return". When the BRRD came into force at the beginning of 2015, Italy's financial authorities had transferred the failing banks' bad assets to a "vehicle company" while transferring all viable assets to four new "bridge banks".

Both Italian and foreign companies had indicated a willingness to buy the bridge banks, and would soon be invited to make binding offers for all or part of them, Visco said.