Euro area: the Single Resolution Mechanism for the Banking Union is born

The Ecofin Council and the EU Council have finally reached agreement on a Single Resolution Mechanism. This was an important step to break the adverse feedback loop between bank and sovereign risk.

The Ecofin Council has finally reached an agreement on a general approach to a Single Resolution Mechanism (SRM) with the creation of a single decision body named the Single Resolution Board (SRB) and a Single Fund for the resolution of banks (SRF). The adoption of an SRM is a necessary element for the euro area banking union project, along with the Single Supervisory Mechanism (SSM) in order to break the adverse feedback loop between bank and sovereign risk.

A single resolution board
In the past week, finance ministers have heard criticisms of the draft project – in particular Mario Draghi’s warning against a bank resolution system that is “single in name only”. Under the previous proposals, up to 126 people would have been involved in a decision to shut down a medium-size cross-border bank, some of whom would have voted on up to nine different committees. In the Ecofin agreement a single resolution board (SRB) would be able to place a failing bank into resolution. The process should be as follow.

1. Upon notification by the ECB that a bank is failing or likely to fail, or on its own initiative, the board would adopt a resolution scheme placing the bank into resolution.

2. The Board would determine the application of resolution tools and the use of the single resolution fund.

3. Decisions by the Board would enter into force within 24 hours of their adoption, unless the EU Council (head of states), acting by simple majority on a proposal by the European Commission, objects or calls for changes.

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Two formats for the Board
The Board would consist of

· an executive director

· four appointed members

· the representatives of the national resolution authorities of all the participating countries

It would exercise its tasks in either a plenary or executive format:

· Executive format : composed of only the executive director and the appointed members, with the representatives of member states concerned by a particular resolution decision.

· Plenary format: would be responsible for decisions that involve

– Liquidity support exceeding 20% of capital paid into the fund

– Bank recapitalisations exceeding 10% of funds

– Access to the fund once a total of €5bn has been used in a given calendar year

In these cases, decisions would be taken by a two-thirds majority of the board members representing at least 50% of contributions.

· The plenary session, voting by simple majority, would also have the right to oppose decisions by the executive session that authorise the fund to borrow.

· To guarantee sovereignty of the members, the regulation prohibits decisions that would require a member to provide extraordinary public support without its prior approval under national budgetary procedures.

Towards a single fund
The single resolution fund (SRF) would be financed by bank levies raised at national level. It would initially consist of national compartments that would be gradually merged over ten years. During this ten-year period, mutualisation between national compartments would progressively increase.

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A backstop to the SRF
During the initial build-up phase of the fund, bridge financing will be available from national sources, backed by bank levies, or from the European Stability Mechanism (ESM). Lending between national compartments would also be possible. During this transitional phase, a common backstop will be developed, which would become fully operational at the latest after ten years. The backstop would facilitate borrowings by the fund.

Coverage
The SRM would cover all banks in the participating member states. The board would be responsible for the planning and resolution phases of cross-border banks and those directly supervised by the ECB, while national resolution authorities would be responsible for all other banks. National resolution authorities would be responsible for executing bank resolution plans under the control of the single resolution board. Should a national authority not comply with its decision, the board could directly address executive orders to the troubled bank.

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Agenda

· The euro area member states have committed to negotiate by 1 March 2014 an intergovernmental agreement on the functioning of the single resolution fund.

· Negotiations between the European Parliament, the Presidency and the European Commission will now start, with the aim of agreeing the regulation on the SRM before the end of the Parliament’s legislature (May 2014).

· Then, the SRM would enter into force on 1 January 2015.

· Bail-in and resolution functions would apply from 1 January 2016.

· The SRM regulation would not apply before the intergovernmental agreement enters into force. The intergovernmental agreement would enter into force once ratified by member states participating in the SSM/SRM thatrepresent 80% of contributions to the single resolution fund.

· Before 2016, bank resolution will continue to weigh predominantly on national resources after the private sector involvements options have run out. The ESM will continue to serve as a backstop in case national public funds are insufficient, but its involvement will go with conditionality (adjustment programme).

· After 2016, a bank resolution will continue to call first on private creditors’ resources. Once these options have been exhausted, the new framework will come into play. In the early years, the cost of resolving banks would mainly come from the compartments of the member states where the banks are located. Then the contribution from other countries’ compartments would increase.

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