Today's the day when the European Commission draws the line with their member states, particularly the UK and Germany, over bank bailouts.
Neelie Kroes, the Commissioner responsible for EU competition, presented plans which will force governments to restructure banks which have received government subsidies to an appropriate size, whereby they compete and are subject to the usual competitive forces.
Ms. Kroes made this clear in a speech a month ago: "banks have to be weaned off state support".
This means bailed out banks must be restructured to a competitive size within five years. The result is huge tension
between London and Brussels, as the UK government is far more concerned with keeping the economy going by protecting the banks than restructuring them for competitive forces.
For example, when HBOS was given to Lloyds TSB under a rapid deal in October to save the UK banking system, competitive forces were ignored as the new Lloyds Banking Group effectively becomes a monopolistic structure managing 1 in 3 bank accounts in Britain.
Brussels does not appreciate such an oversized gorilla and wants it to be re-engineered, re-sized and re-balanced, along with Royal Bank of Scotland (RBS). After all, unfair subsidies to support businesses in any industry is viewed as unfair government intervention.
The Commission does give a little bit of breathing time to do this – five years – stating that they will allow: "structural measures to be completed within a longer time horizon than is usually the case, notably to avoid depressing markets through fire sales. However, restructuring should be implemented as soon as possible and in any case last not more than five years to be effective and allow for a credible return to viability of the restructured bank."
The aim is to avoid "fragmentation and market partitioning" which, in Commission speak, means that it needs to avoid a return to nationalism and protectionism. And the Commission goes further, saying that any bank that received state aid may be subject to "immediate behavioural safeguards".
In other words, any bailed out bank could be told that they cannot do the things they are thinking of doing, such as paying dividends, making acquisitions or even offering large bonuses.
"The plan should provide information on the business model of the beneficiary, including in particular its:
- organisational structure,
- funding (demonstrating viability of the short- and long term funding structure),
- corporate governance (demonstrating prevention of conflict of interest as well as necessary management changes),
- risk management (including disclosure of impaired assets and prudent provisioning for expected non performing assets) and asset-liability management,
- cash-flow generation (which should reach sufficient levels without State support),
- off-balance sheet commitments (demonstrating their sustainability and consolidation when the bank bears a significant exposure),
- current and prospective capital adequacy in line with applicable supervisory regulation (based on prudent valuation and adequate provisioning), and
- the remuneration incentive structure (demonstrating how it promotes the beneficiary’s long-term profitability)."
In other words, any aspect of leverage, funding governance and more could be subject to European Commission competitive analysis and issue.
For the UK, where Northern Rock, RBS and Lloyds-HBOS have all received massive funding, this creates major challenges. The concern is that the restructuring and interference with our fragile banking system could still destabilise the economy, and that the priority should be financial stability first and competition later.
Gordon Brown underlined this in questions last Thursday: "The Competition Commissioner has got to look at financial stability issues as well as competition issues because we cannot have big banks put at risk of collapse at this particular point, and it’s always been understood that competition has got to work effectively, but in the banking sector we’ve got to also ensure stability."
This statement has little force with Neelie Kroes however, who believes that: "financial stability and the preservation of competitive markets are not contradictory. They are complementary objectives, which is why there is a real overlap in what we and supervisors are looking for. Competition and financial stability are not in opposition."
In the same speech, she says: "I have no illusions – this will be a painful process. It will affect everyone from the CEOs to the customers. I am sure that I will not win any popularity votes this year. But I am ready for the battle, and I take comfort in knowing that this work is absolutely key to get trust back into the markets."
Let the battle begin.
Oh yes, and in case the battle is not clear, the guidelines state that: "banks benefiting from state aid may be required to divest subsidiaries or branches, portfolios of customers or business units," and "restructuring requires a withdrawal from activities which would remain structurally loss-making in the medium term."
In another speech to the British Bankers' Association Neelie Kroes expanded on this statement, saying that the Royal Bank of Scotland "is not a bank with a sustainable business
approach. This bank was not merely too big to fail. It was too big to
supervise, too big to operate, too complex to understand, and highly
dangerous to the European single market."
Mmmm … this battle could be a biggie, especially as she's already had a go at the Germans.
Should be fun.