A trip to the European Stabilisation Mechanism treaty, first…

ARTICLE 25

Coverage of losses

1. Losses arising in the ESM operations shall be charged:

(a) firstly, against the reserve fund;

(b) secondly, against the paid-in capital; and

(c) lastly, against an appropriate amount of the authorised unpaid capital, which shall be called in accordance with Article 9(3).

There you go. How to take ESM losses.

That’s the ESM’s own ‘equity’ or the shares subscribed to by governments, acting very much like equity is supposed to. At least it seems so to us. It absorbs losses, once income (from the reserve fund) has been exhausted.

OK. Related to that, another thing from the Eurogroup summit we thought worth highlighting…

A new deadline on Ireland’s bank debts emerged in the wee hours. From the Irish Times:

Euro zone finance ministers resolved early this morning to take a final decision in October to provide an unspecified amount of bank debt relief to Ireland…

European officials acknowledge this system will not be in place by October, raising questions as to whether the initial debt relief arrangement might be limited to a revision of the €47 billion Anglo Irish Bank promissory note scheme.

It’s not just the promissory notes.

This is all tied up with the mystery of when direct recaps of banks by the ESM will kick in, what the ‘condition’ of having a single supervisor for banks really means, and what part the banks’ sovereign would play in recaps.

After all, we’d note that Wolfgang Schauble’s expectation “that the final liability of the state will remain” even after a supervisor is set up hasn’t been clarified.

As the WSJ’s been reporting, this really is hugely important. It won’t break the ‘vicious circle’ for Spain and it banks if Madrid is ultimately going to be taking the losses. In fact, surely it would make the circle worse, because the accounting trick involved will make Spain’s debt, and the final bill for banks’ losses, even less certain than they are now.

We also have another concern. The ESM would presumably be taking equity stakes in banks in return for direct recapitalisation. Direct is as direct does. Isn’t it a bit weird for governments to have final liability for equity held by the ESM? Is that really how equity should work? So how loss-absorbent would these equity stakes be?

When the point of the bailout is to provide buffers for Spanish banks to actually take losses, and to come out with credible capital, it’s a bit odd.

Or is that just us.

By Joseph Cotterill and David Keohane

Copyright The Financial Times Limited 2024. All rights reserved.
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