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MREL is a paradox for small UK banks

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By Tyler Davies
24 Nov 2020

Little lenders are being pushed closer to collapse in the UK by rules that were supposed to make them more resilient. The Bank of England should take note.

The Co-operative Bank has been trying to issue debt for the minimum requirements for own funds and eligible liabilities (MREL) all year.  

It had initially thought about bringing a deal in the spring, but its plans were delayed amid the chaos of the coronavirus pandemic. 

The UK lender finally resurfaced this month, with markets back in fine form. It was able to raise £200m of five year senior debt against robust demand, but it was still constrained to issuing at an extremely high coupon rate of 9%. 

Investors were after a big reward from the MREL deal, partly because they were concerned about whether or not Co-op could meet its MREL requirements. 

If this sounds paradoxical, that’s because it is. 

MREL requires banks to sell loss-absorbing debt securities as a way of increasing their resilience in the face of financial stress. But if lenders cannot comply with the bail-in debt requirement, they could be punished by their supervisor. 

In Co-op’s case, the process of complying with MREL is already beginning to look like punishment. 

The bank has issued a £200m senior bond at 9% and a £200m tier two at 9.5%. It will have to sell more debt if it wants to meet its final requirements in time for the deadline in January 2022. 

Given that the market’s main problem with Co-op is its lack of profitability, mounting interest costs are only throwing fuel onto the fire. 

We have been here before, of course. Metro Bank, another small UK lender, had to issue a £350m MREL bond at 9.5% in October 2019. 

The firm is still trying to reconcile plans to reduce its cost base with a need to sell another £500m of bail-inable debt before 2022. 

The Bank of England must sit up and take notice of the toll that MREL compliance is having on these sorts of firms, which are otherwise still solvent and well funded. 

The supervisor is supposed to be in the course of reviewing MREL requirements, with the results set to be published later this quarter. 

Much of the review will focus on recent changes to the EU rulebook, which need to be transplanted into UK law before the end of the year. But the Bank said that it would also pay some mind to “firms’ experience in issuing liabilities to meet their interim MREL”. 

This is a perfect opportunity for the regulator to recognise that the requirements are effectively destabilising some smaller banks, putting their depositors at risk rather than protecting them. 

A sensible course of action could be to raise the MREL thresholds. 

At the moment, the Bank of England will apply bail-in requirements to lenders with more than £15bn in assets, which just about captures Co-op (£25bn) and Metro (£22bn). 

But this is not in line with the general practice in other jurisdictions, including the EU, where the same threshold is as high as €100bn, and the US, where it is $250bn. 

The UK should reflect on whether it is really in the public interest to place such onerous demands onto small financial institutions, which might not have any other reason to visit the capital markets.

This could well be one rare example of a cure that actually is worse than the disease. 


By Tyler Davies
24 Nov 2020