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EU fund can now bail out failed banks

Wednesday, June 11 15:46:54

Euro zone governments have agreed that the bloc's bailout fund will be able later this year to help to recapitalise failing banks which have written off 8 percent of their liabilities.

European Union leaders agreed two years ago that the bloc's European Stability Mechanism (ESM) must have the option of directly buying a stake in a bank to break the 'doom loop' that binds indebted governments to unstable banks they are trying to prop up.

Tuesday's agreement is based on a May proposal by the chairman of euro zone finance ministers, Jeroen Dijsselbloem, allowing direct recapitalisation once 8 percent of a bank's total liabilities are written off.

The direct bank recapitalisation from the ESM is designed as the last resort option.

"The instrument may be activated in case a bank fails to attract sufficient capital from private sources and if the ESM member concerned is unable to recapitalise it, including through the instrument of indirect recapitalisation of the ESM," Dijsselbloem said in a statement.

The instrument's capacity was capped at 60 billion euros ($82 billion).

The global financial crisis forced Europe to forge a banking union, the euro zone's most fundamental systemic change since the creation of the euro, aimed at ensuring better supervision and repair mechanisms to prevent another crisis.

The union entails supervision by the European Central Bank while a new agency, the European Commission and possibly ministers from member countries will decide how to handle troubled banks.

If a bank has to raise capital by the end of 2015, it will have to ask private investors for money first and if it cannot raise enough, it can ask the government for support.

But to further reduce the need for euro zone funds in that transition year, a national resolution fund would first have to use the money it accumulated from bank contributions during that year - an equivalent of 0.1 percent of all deposits up to 100,000 euros.

Only once the national resolution fund's cash is used, and 8 percent of what the bank owes others is written off, can the euro zone bailout fund move in to buy shares in the bank.

Once the EU's Bank Resolution and Recovery Directive is fully in force from the start of 2016, not only a bank's shareholders but also its bondholders and even large depositors would have to lose money before government or euro zone money could be used to save the bank from collapse.

EU policy-makers call this a bail-in, contrasting it with using taxpayers' money to bail out failing banks.