EU Watchdogs Alerted Banks Regarding Brexit Risks for Capital Buffers

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On Friday, EU banking watchdogs said that banks in the European Union had been informed that they may experience large capital gaps if Britain and the bloc do not reach an agreement regarding how to treat their loss-absorbing debt after Brexit.

Under new banking rules that are meant to reduce taxpayers’ costs in the banking crisis, EU lenders are obliged to issue an adequate amount of debt that would be written down, or bailed-in, in order to absorb losses if they fail.

The European Banking Authority estimated that around 276 billion euros (243.59 billion pounds) of debt would have to be issued by banks in the European Union to meet the regulatory targets, warning that markets may find it hard to absorb it.

Brexit may make things more complicated.

Andrea Enria, the EBA chief, informed a banking conference in Brussels that most banks in the European Union have issued loss-absorbing capital under British laws, which could make it not compliant with EU policies on bank rescues in the event of a hard Brexit.

“What will happen to these instruments if the UK becomes a third country? Banks need to start thinking about that and authorities need to prepare,” said Enria.

During a news conference on Friday, Elke Koenig, who is the chairperson of the EU agency that is in charge of failing banks, the Single Resolution Board said: “We started to alert banks over these possible risks.”

Regulators suffer from this problem for all bank debts that are issued under foreign jurisdictions that, without agreements on mutual recognition, may not permit it to be wiped out to save a bank.

With Brexit, the problem would be exponentially larger since a large part of EU banks’ debt is presently issued under British laws.

MREL, which is a part of this debt, is short-term and will be repaid before Britain withdraws from the bloc in 2019. However, the longer-term liabilities are possible to remain pending after Brexit, Enria informed reporters on the sidelines of the conference.

In the absence of a deal on how to treat them, banks may not be able to make use of them to absorb losses and would, in turn, be compelled to issue new MREL debt.

Enria stated that contractual clauses might need to be included in debt contracts to discuss this uncertainty. “Or banks should rather issue (debt) under different law,” said the chairperson.