Public funding of failing banks in the European Union (LBF vol. 19) 2020/4.4.2.2:4.4.2.2 To avoid a significant adverse effect on the financial system

Public funding of failing banks in the European Union (LBF vol. 19) 2020/4.4.2.2

4.4.2.2 To avoid a significant adverse effect on the financial system

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The second resolution objective is to avoid significant adverse effects on the financial system, in particular by preventing contagion, including to market infrastructures, and by maintaining market discipline.1 The wording of this resolution objective slightly differs in the SRMR. The SRMR does not use the term ‘financial system’, but ‘financial stability’. It may be that these different terms intend to express that the SRB and the national resolution authorities, when acting on the basis of the BRRD, may have different interests to take into account. When acting on the basis of the BRRD, a national resolution authority has a more national dimension in contrast to the EU (or Eurozone) dimension that the SRB and na tional resolution authorities have when acting on the basis of the SRMR.2 However, the SRB should ensure that appropriate account is taken of national financial stability.3

This is a particular point of attention in the case of the resolution of BES. In this case senior bonds were retransferred from Novo Banco to BES, thereby effectively wiping out the value of these bonds. Banco de Portugal, acting as the resolution authority, justified the selection of the senior bonds to be retransferred to BES by stating that it aimed to safeguard financial stability.4 The five series of bonds that were retransferred – out of a total of 52 outstanding series of notes – were all governed by Portuguese Law (save for one small series of notes, the other 46 were all governed by English law). According to the affected bondholders the reason was not so much the protection of financial stability, but rather to avoid litigation outside of Portugal and to fundamentally improve Novo Banco’s financial condition.5 They warn for an image of resolution authorities that can do what they want as long as they say it is in the ‘public interest’.6

Lastly, it can be derived from the recitals of the BRRD, that if the problem arises in an individual bank and the rest of the financial system is not affected, authorities should be able to exercise their resolution powers without much concern for contagion effects. In a fragile environment, on the other hand, greater care should be exercised to avoid destabilising financial markets.7

This resolution objective was specifically mentioned in relation to the resolution of the Bank of Peloponnese, Panellinia Bank, BES, BANIF and Banco Popular. The reasoning behind the application of this resolution objective was in some cases explained as the prevention of the destabilization of financial markets and triggering a general crisis of confidence (BES and BANIF).8 In the case of Panellinia Bank it was considered that this bank plays a central role in the smooth operation of the cooperative banks as a result of which liquidation would very seriously jeopardize the continuity of the banking operations of all cooperative banks and consequently financial stability.9 In the case of Bank of Peloponnese it was considered that, despite the fact that it was not a systemic bank, the winding up of that bank in normal insolvency proceedings, with the subsequent loss of the uncovered deposits, would pose a significant threat to financial stability in view of the current fragile political and financial environment in Greece.10 In the case of Banco Popular, it was considered by the SRB that the situation of the bank entailed an increased risk of significant adverse effects on financial stability in Spain, taking into account the size and relevance of the bank and the nature of its business. The SRB mentioned that the similarity of the bank’s business model to that of other Spanish commercial banks might contribute to the potential for indirect contagion to these banks which might be perceived as facing the same difficulties.11

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