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EU Bond-Loan Ratio

The Eurozone has finalized its rules on resolution of failing financial institutions, called the Single Resolution Mechanism (SRM). The key new tool for the SRM is the bail-in, which was prototyped in Cyprus, and is now enshrined in regulation. (See REGULATION (EU) No 806/2014 OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL)

A bank fails because losses pushed the value of its liabilities to exceed its assets. There are two approaches to fix the problem: add assets, or remove liabilities. The new resolution mechanism includes both. First, eligible liabilities are removed, and then assets are added. The "bail-in tool" component of this regulation allows the resolution authority to basically seize an eligible liability of the bank and remove it from the failing bank's balance sheet. This regulation is not fully in force right now. It is scheduled to be in place by 2016.

How would a resolution proceed? After a determination was made that an institution was failing (itself a complex process fraught with caveats), the resolution authority would come up with a total valuation of the balance sheet of the failing entity, assess what the likely losses were, and it would authorize a bail-in of shareholders and eligible liabilities of at least 8% of total liabilities. Those eligible liabilities would be wiped from the balance sheet. Once the 8% figure is met, then up to 5% of total liabilities in new assets will be added to the failing bank's balance sheet, as needed, to recapitalize the failing bank. These funds will come from the bank resolution fund, which is not yet established. Once that 5% figure is met, then public funds can then be used to further recapitalize the bank.

So what liabilities are eligible for bail-in? Shareholders, junior and senior unsecured debt, and uninsured depositors. Also, liabilities to unsecured creditors are also eligible. Lastly, uninsured deposits are also eligible, although they are supposedly last on the list.

What liabilities are ineligible for bail-in? Insured deposits, derivatives, and bonds secured by assets (so-called senior secured debt). Also ineligible are pensions, salary accruals to employees, and payments due within 7 business days.

From the standpoint of an uninsured depositor, it makes sense to see if your bank has enough eligible liabilities to stand between your deposit and oblivion, should trouble strike. The acronym MREL (minimum required eligible liabilities) is used to cover this general concept: how much bail-in eligible liabilities does the bank have, as a percentage of the total balance sheet of the bank.

The Eurozone publishes the total bond liabilities issued by banks across the zone, as well as the total loans in all Eurozone banks. I provide the ratio below for each region; presumably, the higher the ratio of bonds-to-loans, the more protected a uninsured depositor would be. However, the ECB stats lump junior and senior debt together, so its unclear just how much loss-absorbing capacity the banks really have.

core loan ratio chart
pigs loan ratiochart
other loan ratiochart
eurozone deposit ratiochart