EU split on sharing burden of bank bail-outs 

The European Commission yesterday (20 October) launched a consultation unveiling guidelines to help troubled cross-border banks. The consultation raises the curtain on the EU's current thinking on the matter. 

Two key areas of the consultation will be whether institutions can commit to the same rules on insolvency procedures and transfer assets to struggling subsidiaries. 

The guidelines aim to form the basis of a fully-fledged EU proposal on regulating cross-border banks, following the consultation with the banking sector and with lawmakers. 

Financial consultants and insolvency lawyers warn that member states will ask what they will get out of the proposals, and what the prize for harmonising banking rules will be.  

The consultation has already been welcomed by some stakeholders but with a cautionary tale of greater involvement by banks in EU financial supervision. 

"It is crucial that the financial industry be involved in the important process of interaction between the macro-prudential and the micro-prudential supervision, to be exercised through the network of European supervisory authorities," Guido Ravoet, secretary-general of the European Banking Federation, said yesterday (21 October). 

Transfer of capital 

The EU executive will explore the need for new supervisory tools, and specifically the ability for troubled banks to "transfer assets between different legal entities and across borders within a group". 

Hypothetically speaking, that will allow a French bank with a German subsidiary on the cusp of failure to transfer capital to the ailing institution. 

One of the questions raised by the Basel capital requirements, which expect a minimum buffer of 8%, is "where capital should be held and under what circumstances can that capital be moved hither and yarn," says senior financial consultant Mark Tilden from the CRA consultancy. 

The 2004 Basel agreements were revived at this year's September G20 summit as countries broadly agreed on higher capital requirements to absorb financial shocks. 

A transfer of assets between institutions in different countries could make supervisors nervous as they will want assurances that capital will appear when it is needed, Tilden argues. 

Iceland's example of burden sharing 

Though the EU executive believes the money to help failing banks should come from the private sector, it recognises the need for burden sharing between member states at EU level. 

As yet there is no proposal on how burden-sharing would work in practice and how the share of the costs would be divided between member states. 

The collapse of Iceland's Kaupthing bank should serve as a forewarning on how contentious burden-sharing could be, Tilden says. 

The British Kaupthing subsidiary was put back into operation by a British-backed Dutch purchase of its savings books. But a deal was only struck after furious battles in the UK High Court between the bank and the UK regulator, the Financial Services Authority. 

Though a European solution would perhaps clarify how member states should act to rescue ailing banks, the question remains whether member states will agree to collective responsibility, 'burden sharing' in EU speak. 

Bankruptcy is a sensitive national issue 

The Commission also wants to harmonise rules on the dismantling of banks, like 'living wills', which will have a legally binding explanation of how an institution should be shut down. 

This will also prove too nationally sensitive to get agreement from member states, according to insolvency lawyers that have been dealing with the collapse of Europe's biggest lenders. 

The treatment of staff, shareholders and debtors among others in the event of insolvency are enshrined under national law and member states may find it difficult to make concessions on their own legal frameworks, argues Mark Hyde, an insolvency lawyer from Clifford Chance. 

The Lehman collapse teaches us that the winding down of cross border banks has and will continue to give rise to widespread litigation, the lawyer argues. 

The UK administrators handling the Lehman insolvency are still asking for the return of assets sent to the US parent company from the UK subsidiary during the bank's collapse. 

Tilden compares the situation to the debate on harmonising the mortgage market marred by obstacles such as foreclosures whereby a bank can seize the homes of insolvent customers. 

Living wills, argues Tilden, are in the same category as foreclosures, and member states will struggle to come to an agreement on overarching rules.