No more bail-outs. Implicit state guarantees are supposed to become meaningless, as shareholders, centralised counterparties, Coco holders, senior debt holders, and bankers themselves get lined up to share the pain.
If there has to be state money on the table, it’s supposed to be in bad bank form. Regulators have, or will get, sweeping powers to chop banks up in a crisis; indeed, banks are supposed to collude in these preparations, lining up living wills to help resolve a failing bank.
Why, then, with all this effort, is the European Parliament planning to insert the following into CRD IV?
In addition, it cannot be excluded that similar injections of public sector capital are necessary in the future to preserve financial stability. In such a situation, competent authorities should have as many options available as possible, including capital instruments which may not fulfil all criteria of CET1 instruments issued in normal times
Cutting through the euro-speak, it tries to make sure that when states bail out their banks, they get flexibility on how they manage it. One suspects the German experience with various Landesbanks and their silent participations may have informed the comment.
But it should be unacceptable to start undermining the credibility of the anti-bail-out measures before most of them are even implemented.
Of course, the Dexia bail-out had already weakened whatever market convictions may have formed about the end of bail-outs. And some of us have always been sceptical about whether regulators would ever have the confidence to rely on their shiny new resolution regimes when the chips were down.
But that doesn’t make it acceptable to start drafting regulations explicitly envisioning more state injections of capital. It isn’t a prudent provisioning against the worst case scenario; it is an invitation to moral hazard.
Cutting moral hazard out after the last four years of bail-outs and state backing requires delusion of fairly heroic proportions. But delusion is needed. As long as banks believe that they will not be bailed out, and markets believe it too, then a world without bail-outs can become a reality.
The last thing that the fragile, sickly ghost of market discipline needs is the European Parliament on the attack, undermining its own institutional aims.