ECB Proposes End To Deposit Protection

Submitted by GoldCore

It is the "opinion of the European Central Bank" that the deposit protection scheme is no longer necessary:

"covered deposits and claims under investor compensation schemes should be replaced by limited discretionary exemptions to be granted by the competent authority in order to retain a degree of flexibility."

To translate the legalese jargon of the ECB bureaucrats this could mean that the current €100,000 (£85,000) deposit level currently protected in the event of a bail-in may soon be no more. But worry not fellow savers, as the ECB is fully aware of the uproar this may cause so they have been kind enough to propose that:

"...during a transitional period, depositors should have access to an appropriate amount of their covered deposits to cover the cost of living within five working days of a request."

So that"s a relief, you"ll only need to wait five days for some "competent authority" to deem what is an "appropriate amount" of your own money for you to have access to in order eat, pay bills and get to work.

The above has been taken from an ECB paper published on 8 November 2017 entitled "on revisions to the Union crisis management framework".

It"s 58 pages long, the majority of which are proposed amendments to the Union crisis management framework and the current text of the Capital Requirements Directive (CRD).

It"s pretty boring reading but there are some key snippets which should be raising a few alarms. It is evidence that once again a central bank can keep manipulating situations well beyond the likes of monetary policy. It is also a lesson for savers to diversify their assets in order to reduce their exposure to counterparty risks.

Bail-ins, who are they for?

According to the May 2016 Financial Stability Review, the EU bail-in tool is "welcome" as it:

 

 

...contributes to reducing the burden on taxpayers when resolving large, systemic financial institutions and mitigates some of the moral hazard incentives associated with too-big-to-fail institutions.

As we have discussed in the past, we"re confused by the apparent separation between "taxpayer" and those who have put their hard-earned cash into the bank. After all, are they not taxpayers? This doesn"t matter, believes Matthew C.Klein in the FT who recently arguedthat "Bail-ins are theoretically preferable because they preserve market discipline without causing undue harm to innocent people."

 

Ultimately bail-ins are so central banks can keep their merry game of easy money and irresponsibility going. They have been sanctioned because rather than fix and learn from the mess of the bailouts nearly a decade ago, they have just decided to find an even bigger band-aid to patch up the system.

 

 

"Bailouts, by contrast, are unfair and inefficient. Governments tend to do them, however, out of misplaced concern about “preserving the system”. This stokes (justified) resentment that elites care about protecting their friends more than they care about helping regular people." - Matthew C. Klein

But what about the regular people who have placed their money in the bank, believing they"re safe from another financial crisis? Are they not "innocent" and deserving of protection?

When Klein wrote his latest on bail-ins, it was just over a week before the release of this latest ECB paper. With fairness to Klein at the time of his writing depositors with less than €100,000 in the bank were protected under the terms of the ECB covered deposit rules.

This still seemed absurd to us who thought it questionable that anyone"s money in the bank could suddenly be sanctioned for use to prop up an ailing institution. We have regularly pointed out that just because there is currently a protected level at which deposits will not be pilfered, this could change at any minute.

The latest proposed amendments suggest this is about to happen.

 

Why change the bail-in rules?

The ECB"s 58-page amendment proposal is tough going but it is about halfway through when you come across the suggestion that "covered deposits" no longer need to be protected. This is determined because the ECB is concerned about a run on the failing bank:

 

 

If the failure of a bank appears to be imminent, a substantial number of covered depositors might still withdraw their funds immediately in order to ensure uninterrupted access or because they have no faith in the guarantee scheme.

This could be particularly damning for big banks and cause a further crisis of confidence in the system:

 

 

Such a scenario is particularly likely for large banks, where the sheer amount of covered deposits might erode confidence in the capacity of the deposit guarantee scheme. In such a scenario, if the scope of the moratorium power does not include covered deposits, the moratorium might alert covered depositors of the strong possibility that the institution has a failing or likely to fail assessment.

Therefore, argue the ECB the current moratorium that protects deposits could be "counterproductive". (For the banks, obviously, not for the people whose money it really is:

 

 

The moratorium would therefore be counterproductive, causing a bank run instead of preventing it. Such an outcome could be detrimental to the bank’s orderly resolution, which could ultimately cause severe harm to creditors and significantly strain the deposit guarantee scheme. In addition, such an exemption could lead to a worse treatment for depositor funded banks, as the exemption needs to be factored in when determining the seriousness of the liquidity situation of the bank. Finally, any potential technical impediments may require further assessment.

The ECB instead proposes that "certain safeguards" be put in place to allow restricted access to deposits...for no more than five working days. But let"s see how long that lasts for.

 

 

Therefore, an exception for covered depositors from the application of the moratorium would cast serious doubts on the overall usefulness of the tool. Instead of mandating a general exemption, the BRRD should instead include certain safeguards to protect the rights of depositors, such as clear communication on when access will be regained and a restriction of the suspension to a maximum of five working days by avoiding a cumulative use by the competent authority and the resolution authority.

Even after a year of studying and reading bail-ins I am still horrified that something like this is deemed to be preferable and fairer to other solutions, namely fixing the banking system. The bureaucrats running the EU and ECB are still blind to the pain such proposals can cause and have caused.

Look to Italy for damage prevention

At the beginning of the month, we explained how the banking meltdown in Veneto Italy destroyed 200,000 savers and 40,000 businesses.

In that same article, we outlined how exposed Italians were to the banking system. Over €31 billion of sub-retail bonds have been sold to everyday savers, investors, and pensioners. It is these bonds that will be sucked into the sinkhole each time a bank goes under.

A 2015 IMF study found that the majority of Italy’s 15 largest banks a bank rescue would ‘imply bail-in of retail investors of subordinated debt’. Only two-thirds of potential bail-ins would affect senior bond-holders, i.e. those who are most likely to be institutional investors rather than pensioners with limited funds.

Why is this the case? As we have previously explained:

 

 

Bondholders are seen as creditors. The same type of creditor that EU rules state must take responsibility for a bank’s financial failure, rather than the taxpayer. This is a bail-in scenario.

 

In a bail-in scenario the type of junior bonds held by the retail investors in the street is the first to take the hit. When the world’s oldest bank Monte dei Paschi di Siena collapsed ordinary people (who also happen to be taxpayers) owned €5 billion ($5.5 billion) of subordinated debt. It vanished.

Despite the biggest bail-in in history occurring within the EU, few people have paid attention and protested against such measures. A bail-in is not unique to Italy, it is possible for all those living and banking within the EU.

Yet, so far there have been no protests. We"re not talking about protesting on the streets, we"re talking about protesting where it hurts - with your money.

As we have seen from the EU"s response to Brexit and Catalonia, officials could not give two hoots about the grievances of its citizens. So when it comes to banking there is little point in expressing disgust in the same way. Instead, investors must take stock and assess the best way for them to protect their savings from the tyranny of central bank policy.

To refresh your memory, the ECB is proposing that in the event of a bail-in it will give you an allowance from your own savings. An allowance it will control:

"...during a transitional period, depositors should have access to an appropriate amount of their covered deposits to cover the cost of living within five working days of a request."

Savers should be looking for means in which they can keep their money within instant reach and their reach only. At this point physical, allocated and segregated gold and silver comes to mind. This gives you outright legal ownership. There are no counterparties who can claim it is legally theirs (unlike with cash in the bank) or legislation that rules they get first dibs on it. Gold and silver are the financial insurance against bail-ins, political mismanagement, and overreaching government bodies. As each year goes by it becomes more pertinent than ever to protect yourself from such risks.

 

Europe's Banking Dysfunction Worsens

Authored by Chris Whalen via The Institutional Risk Analyst,

“While the US and the UK have been mired in political chaos this year, the EU has enjoyed improved economic conditions and some political windfalls. The question now is whether this good news will inspire long-needed EU and eurozone reforms, or merely fuel complacency – and thus set the stage for another crisis down the road.”

Philippe Legrain, Project Syndicate

This week The Institutional Risk Analyst takes a look a the recent reports out of the EU regarding a proposal to “freeze” the retail accounts of failing European banks.  The original story in Reuters suggests that our friends in Europe actually think that telling the public that they will not have access to their funds, even funds covered by official deposit insurance schemes, is somehow helpful to addressing Europe’s troubled banking system.  Investors who think that Europe is close to adopting an effective approach to dealing with failing banks may want to think again.

Judging by the reaction to the story by investors and on social media, it appears that the EU has learned nothing about managing public confidence when it comes to the banking sector.  In particular, the idea that the banking public – who generally fall well-below the maximum deposit insurance limit – would ever be denied access to cash virtually ensues that deposit runs and wider contagion will occur in Europe next time a depository institution gets into trouble.

“The plan, if agreed, would contrast with legislative proposals made by the European Commission in November that aimed to strengthen supervisors" powers to suspend withdrawals,” Reuters reports, “but excluded from the moratorium insured depositors, which under EU rules are those below 100,000 euros ($117,000).

While some Wall Street analysts are encouraging investors to jump into EU bank stocks, the fact is that there remains nearly €1 trillion in bad loans within the European banking system.  This represents 6.7% of the EU economy, according to a report and action plan considered by EU finance ministers earlier this month.  That compares with non-performing loans (NPL) ratios in the US and Japan of 1.7 per cent and 1.6 per cent of gross domestic product, respectively.

But the most basic point to make about the proposal for a “temporary” suspension of access to cash is that such moves never work.  Moratoria are part of the banking laws in Germany and many other European nations, but they are never used because once invoked the institution is dead for all practical purposes.  In Spain, for example, the government had the power to impose a temporary suspension of access to deposits in the case of Banco Popular, but did not do so because it would have killed the franchise.

Jochen Sanio, the former president of the German Federal Financial Supervisory Authority (BaFin), commented about banks subject to “temporary” deposit moratoria that “they never come back.”  Sanio, who guided Germany through the 2008 financial crisis and forced the clean-up of insolvent state-owned banks, was retired and gagged for the rest of his life for challenging Germany’s corrupt political status quo of covert bailouts.

So again, one has to wonder, why any responsible official in Europe would support the plan reported by Reuters.  As the US learned the hard way in the 1930s and with the S&L crisis in the 1980s, the lack of a robust national deposit insurance function to protect retail depositors leaves an entire society vulnerable to banks runs and debt deflation.  Until the EU is prepared to do “whatever is necessary,” to paraphrase ECB chief Mario Draghi, in order to protect retail bank depositors, the EU will remain far from being a united political economy.

Readers of The IRA may recall the comments of German Chancellor Angela Merkel last Fall, when she suggested that the German government would not support Deutsche Bank AG (NYSE:DB) in the event that the institution got into financial trouble.  At the time, DB was trading at about $12 per share in New York.  We spoke about DB and the ill-considered comments made by US and German officials from Dublin on CNBC on September 30th.

At the time, we reminded investors that political officials should never talk about a depository institution while it is still open for business.  This is a basic, well-recognized rule that has been followed by prudential regulators around the world for many years.  Yet because of the popular political pressures on elected officials such as Merkel, the temptation to engage in absurd hyperbole with respect to big banks is irresistible.

We see this latest piece of news out of Europe as further evidence that there is still no political consensus about how to deal with troubled banks.  As we learned last year, Merkel could not even make positive public comments about DB for fear of committing political suicide.

The more recent bank resolutions in Spain and Italy were made to look like touch measures in public terms, even as the Rome government quietly subsidized the senior creditors of two failed banks in the Veneto.  We noted in an earlier comment, “Fade the Great Rotation into Europe,” that the EU pretends to play tough on bank rules while bailing out the senior creditors:

“Of note, Italy is being given control over the remaining ‘bad bank’ to wind down as the assets and deposits are conveyed to Intesa SanPaolo.  This permits a bailout of senior unsecured creditors.  So Italy gets what it wants – continued circumvention of EU bailout rules. If a bank disappears, notes a well-placed EU observer, ‘state aid rules do not apply.’”

The Europeans appear to be playing a very dangerous game.  On the one hand, EU officials talk publicly about getting tough on insolvent banks and even suspending access to funds for retail depositors.  On the other hand, EU governments are continuing to bail out banks and large creditors in a display of cronyism and business as usual.

“Under the plan discussed by EU states, pay-outs could be suspended for five working days and the block could be extended to a maximum of 20 days in exceptional circumstances,” Reuters reports.  “Existing EU rules allow a two-day suspension of some payouts by failing banks, but the moratorium does not include deposits.”

Contrast the EU proposal with standard practice in the US, where the Federal Deposit Insurance Corporation (“FDIC”) begins to market troubled banks before they fail and tries to execute bank closures and sales on a Friday to avoid frightening the public.  The branches of the failed bank then open on the following business day as part of a solvent institution without any interruption in customer access to funds.

Importantly, all insured depositors, as well as brokered deposits and advances from the Federal Home Loan Banks, are always paid out by the FDIC when the failed bank is closed in order to avoid precipitating runs on other institutions. 

In Europe, on the other hand, there appear to be a significant number of officials who seriously believe that denying retail bank customers access to funds covered by deposit insurance will not result in financial contagion.  If such a proposal is adopted, the sort of bank runs seen in Cyprus and Greece could intensify and spread to the major countries in Europe.  Imagine that a large bank failure occurs in Italy next year and Italian officials tell retail customers that they will not have access to any funds for several weeks.

As we saw in 2012 in Spain and Cyprus and 2015 in Greece, retail bank runs tend to spill over into other countries and markets, creating a situation where fear takes over from rational behavior.  The trouble is, Chancellor Merkel cannot commit Germany to supporting an EU accord to support the banks in the Eurozone without ending her political career.

“If capital flight from the peripheral economies gathers pace, it could trigger runs on entire banking systems,” notes the infamous “Plan B” memo prepared for Merkel in 2012. “That would put the ECB—and thus, indirectly, the Bundesbank and Germany—on the hook for deposits worth trillions of euros.” 

In the dark days of 2012, Merkel’s government prepared for “Plan B” and was essentially ready to allow the weaker nations on the EU’s periphery – including Spain, Greece, Italy and Ireland -- to fail and drop out of euro as Germany withdrew to a core group of nations.

Just as the EU still refuses to deal with Greece’s mounting debt, likewise it cannot seem to accept that protecting the small depositors of European banks is the price to be paid for preserving social order and the EU itself. Otmar Issing, former Chief Economist and Member of the Board of the European Central Bank and the German Bundesbank, summarizes the situation: “The euro crisis is not over.”

Business Customers Are Tired Of Being Bilked Of Billions; Demand Rate Increases On Their Bank Deposits

As we"re all well aware by now, once Trump was elected on November 8th the Fed suddenly decided it was no longer necessary to prop up asset prices in the United States with artificially low interest rates.  As such, they"ve embarked on their first rate-hiking spree since the last one ended just over a decade ago. 

Meanwhile, in light of the fact that the Fed has raised rates by 75bps over the past 6 months, we recently wondered aloud just how long the big banks could continue to stiff Americans out of interest payments on their deposits.  As the Wall Street Journal points out today, despite three Fed rate hikes over the past several months, the average rate paid on deposits at the 16 largest banks in the U.S. has risen a paltry 10 bps.

Meanwhile, with nearly $12 trillion held in deposit accounts at U.S. commercial banks, each 25bps of foregone interest is costing depositors about $30 billion a year, all of which is flowing straight to the bottom line of the large banks.

In the end, we concluded that the banks would continue to suppress deposit rates for as long as their customers continued to ignore the fact that they were getting shafted but that, over the long haul, math and greed would prevail and depositors would demand higher rates.

Alas, it seems as though the "long haul" that we predicted has arrived well ahead of schedule...at least for business customers anyway.  As the Wall Street Journal points out today, corporate customers are starting to demand higher rates on deposits and, for the most part, the large banks are acquiescing.

Consumers are giving banks a pass when it comes to shopping for higher interest rates on deposit accounts. Businesses, on the other hand, are becoming more demanding.

With short-term interest rates on the rise, corporate depositors are seeking bigger payouts for their deposits, and big banks have started capitulating.

The reason: Small rate increases are often worth just pennies to many consumers, but they can translate into meaningful dollars on large corporate deposits of millions or even billions of dollars.

And companies have greater leverage with banks since in many cases they also bring in lucrative investment banking and trading business.

“The jig is up,” said James Gilligan, assistant treasurer at Kansas City, Mo.-based power company Great Plains Energy Inc. He said many companies, including his, have negotiated better deposit pricing with banks where they also borrow. Treasurers who have the flexibility to move their money are also seeking out higher rates.

Of course, the reality is that banking institutions offer fairly commoditized products with minimal differentiation and barriers to switching, aside from the pure hassle, are not that extensive.  So while banking executives may tout their position of power in negotiating to keep deposit rates lower for longer, in the end they"ll be forced to take whatever rate the market demands...

“The way we approach pricing these days is, we defend our turf,” says Tayfun Tuzun, chief financial officer at Fifth Third Bancorp , the Cincinnati-based bank. Mr. Tuzun said U.S. banks are also being pressured by competition from overseas banks that want to build their deposits. Some are willing to pay 1.25% or 1.3%, he said, while a typical corporate deposit rate for a large account in the U.S. currently is about 0.9% to 1%.

More corporate customers say that day is now passing. “A year ago, it was not worth the time it takes to make a phone call” and push for a higher rate, said Jeff Glenzer, vice president at the Association for Financial Professionals, an industry group for corporate treasurers. “The higher the rate becomes, the more attractive it is to worry about where the money sits.”

Most banks are already awash in more deposits than they need, causing some analysts to predict they’ll be stingy on corporate deposit rates, especially with loan growth softening in recent months.

“We’ll use pricing to start relationships,” said Darren King, CFO of M&T Bank Corp. , based in Buffalo, N.Y. “But over time, relationships need to work for both us and the customer.”

And, then again, maybe Yellen will completely cave on rate hikes if equity markets ever decide to decline for more than 30 minutes at a time and this whole discussion will be moot.